Are you worried about your reduced post-tax returns on long- term equity investments? With the increasing tax burden on capital gains, many investors are feeling the pinch. However, by carefully timing profits and by utilizing available exemptions, you can significantly lower your taxable income, ensuring that more of the earnings stay in your pockets
In this article, we will discuss how you can strategically manage your investments and profits to stay within the tax-free threshold, making the most of the exemption under Section 112A of the Income Tax Act. This section offers an exemption of up to Rs. 1,25,000 on total long-term capital gains, allowing you to minimize the tax burden despite the imposition of LTCG tax.
What Does Income Tax Act say?
Equity shares, mutual funds,and similar investment vehicles have long been favored for their potential to offer higher returns compared to traditional fixed deposits. However, with recent changes in the latest budget—specifically under Section 112 of the Income Tax Act, which imposes a 12.5% tax on LongTerm Capital Gains (LTCG) exceeding Rs. 1.25 lakh from the sale or redemption of such investments — effective tax planning has become more important than ever to manage your tax exposure.
Let’s delve into how you can take full advantage of this exemption and ensure that your investments in equity funds and other investments continue to generate returns without the burden of excessive taxation by taking an example.
Assume that you have an equity mutual fund and a share portfolio worth ₹10 lakhs today, and it is expected to grow at the rate of 15% annually over the next 10 years. Kindly note that in real-world scenarios, returns are likely to fluctuate annually; however, for the purpose of this calculation, a constant return rate has been assumed for simplicity.
The table below shows 10 years calculation @ 15%
| Year | Opening Value | Appreciation In The Portfolio | Closing Value |
| 1 | 1,000,000 | 150,000 | 1,150,000 |
| 2 | 1,150,000 | 172,500 | 1,322,500 |
| 3 | 1,322,500 | 198,375 | 1,520,875 |
| 4 | 1,520,875 | 228,131 | 1,749,006 |
| 5 | 1,749,006 | 262,351 | 2,011,357 |
| 6 | 2,011,357 | 301,704 | 2,313,061 |
| 7 | 2,313,061 | 346,959 | 2,660,020 |
| 8 | 2,660,020 | 399,003 | 3,059,023 |
| 9 | 3,059,023 | 458,853 | 3,517,876 |
| 10 | 3,517,876 | 527,681 | 4,045,558 |
*It is assumed that investments do not contain any exit load or other expenses for the transaction
Normal Scenario: If you redeem or sell your shares or equity mutual funds at the end of 10 years, you would realize a long-term capital gain of ₹3,045,558 (₹4,045,558 – ₹1,000,000) and you will have to pay the tax at 12.5%, amounting to ₹380,695 (₹3,045,558 * 12.5%).
How to minimize Tax?
If you strategically sell these investments in a way that ensures a profit of ₹125,000 each financial year, by the end of the 10th year,you would have booked a total profit of ₹1,250,000, all of which would be tax-free. Here, the goal is to reduce the tax liability and optimize the gain, so after selling the investments, you have to repurchase the same investments on next working day. This approach allows you to save ₹156,250 in taxes and you continue to hold your investments by repurchasing. This may carry share price / Equity Mutual fund NAV difference risk while buying and selling.
Under Section 112A of the Income Tax Act, 1961, long-term capital gains from equity are exempt from tax up to ₹125,000 per financial year. It’s important to note that if you do not realize the full ₹125,000 profit in any given year, you lose the opportunity to claim that exemption for that year. This exercise should be before March end. This exercise should not be done if long term capital gain exceeding Rs. 1,25,000 has already been booked in a financial year.
This can be applied at family level:
When considering this strategy at a family level, the financial benefits become even more substantial. For a family comprising four tax-paying individuals and one Hindu Undivided Family (HUF), the combined tax-free profits and realized gains after 10 years would total Rs. 62,50,000. This approach would result in a significant tax saving of Rs. 7,81,250, making it a highly lucrative tax-saving strategy.
Conclusion
While the introduction of LTCG tax may have raised some concerns, it doesn’t have to dampen your enthusiasm for equity investments. By adopting a strategic approach to tax planning, you can still benefit from the long-term potential of equity funds or shares while minimizing your tax liability. Whether it’s by utilizing exemptions, timing your profit bookings, or leveraging the family structure, there are numerous ways to ensure that a substantial portion of your gains remain tax-free. With careful planning and a clear strategy, you can continue to grow your wealth, enjoy the rewards of equity investments, and keep more of your hard-earned profits.