How will long term capital gains tax impact your equity investments?

Long term capital gains (LTCG) tax has been re-introduced in Budget for financial year 2018-19. The Finance Minister has proposed to levy a 10 per cent tax on the capital gains earned above Rs 1 lakh. The cost price reset date is set to 31st January, 2018, and the exemption period is till 31st March 2018. Long-term period defined for equity investments is above one year. During the one-year period it is regarded as short-term capital gains and the tax rate is 15 per cent.

While at the outset, thought this looks like a negative development for those people who have been investing into Indian equity markets for their long term financial goals, there are some important points which you need to consider to reduce your LTCG taxes.

Important points to remember:

•      LTCG tax is 10 per cent with no indexation benefit for equity investments. 
•      LTCG exempt is up to Rs 1,00,000: This is a universal annual limit that includes LTCG earned from all the equity investments put together. For example, if you earned a total LTCG of Rs 1,50,000 by selling various investments throughout the year, the taxable LTCG is only Rs 50,000. The tax liability is Rs 5,000 (10 per cent of 50,000). 
•      Exemption till 31st March 2018: This means that if you book LTCG before March this year, you are not liable to pay any tax even if the gains exceed Rs 1,00,000. 
•      Cost reset date is 31st January 2018: If LTCG is booked in the next financial year (starting 1st April 2018) the cost price of the investment will be adjusted to the price as on 31st January 2018 for the tax liability calculation. However, if the investor has earned a loss with respect to the original purchase price, there is no LTCG tax to be paid.

 There are some ideas for reducing this impact of the capital gains tax:

•      Use Warren Buffet like approach in investing in shares:  
  Select those businesses which are more secular growth stories, have higher competitive advantage and hence can generate good returns on your investments over a much longer period of 8 to 10 years.
  
  Do not churn your portfolio too often else you will keep losing 10% of your gains (over and above Rs. 1 Lakh) whenever you book profits. By avoiding this, you will potentially compound your money better.

•    Invest in equity mutual funds instead of buying and selling shares directly:
  In this case, your Fund Manager will buy and sell shares in the portfolio but as long as you are not selling the fund units, you will not incur any tax.
  
  There are ample number of investors who have been holding the same mutual fund for ten years or more. You should sell your mutual funds only when your financial goals approach nearer or you find a better performing mutual fund. This should improve your returns over a long period of time.

•    Sell only the over valued shares in a Financial year and save tax:
  Instead of trading frequently, you can behave as an investor and book profits only in those shares which are extremely overvalued. This will ensure that, your LTCG is below Rs. 1 Lakh in a given financial year or even if it is higher than that, at least, you do not have to pay tax up to LTCG of Rs. 1 Lakh. You may continue to hold the stocks for longer period if the business quality is good and it is growing at 2 times or more than GDP growth rate.

As we can see, it is possible to save some amount of tax arising out of LTCG though an investor has to certainly do some adjustments to his/her approach of investing and also need to add about 10% buffer to his/her financial goals, so that he/she can still achieve the required goal at the end of his/her investment tenure.