In bonus stripping, investors buy shares of companies which have announced bonus issues, and subsequently, sell the original holding at a loss once the stock becomes ex-bonus. This loss can be adjusted against their capital gains on other holdings.

When bonus shares are sold, the cost of such shares will be considered to be nil. If such bonus shares are held for more than 12 months and sold on a stock exchange, the capital gains are exempt from tax (subject to payment of securities transaction tax). If sold within the 12-month period, the capital gains are taxable at 15% (plus surcharge). The cost price of the original shares is not adjusted pursuant to the bonus issue.

Bonus stripping in company shares is still in practice, though it’s not allowed for mutual fund units under section 94(8) of the Income Tax Act, 1961.

Example of Bonus Stripping

Imagine you invest in Company A Rs 100000 (100 shares @ Rs 1000 per share) and It declares bonus in the ratio of a 1:1.

After the record date you get 100 shares as bonus and thus you will have 200 shares.

Since no money was paid for the bonus shares thus the total cost of investment remains Rs 1,00,000. However the average cost of per share now becomes Rs 1,00,000/ 200 shares = Rs 500 Per share. (For the sake of simplicity brokerage, Delivery Charges etc has not been considered in the example).

We also assume that Ruling Market Price of the Share after Bonus issue is Rs 550.

Herein the cost of the shares would be as follows

a) Shares bought by you – first 100 shares – Rs 1000 per share

b) Shares received as bonus – Cost is nil.

So the following 2 scenarios could arise.

Scenario 1 – All shares sold at Rs 550 within one year from date of purchase.

This will not lead to any savings in tax. The calculation will be as follows:-

a) On shares bought – Short term Capital loss (Rs 550 – Rs 1000) X 100 shares = Rs (45,000)

b) On bonus shares – Short term Capital gain (Rs 550 – Rs Nil) X 100 shares = Rs 55,000/-

c)  Net capital gain (a+b)  = Rs 10,000

d) Tax payable (c X 15%) = Rs 1500

Scenario 2 – First 100 shares sold at Rs 550 within one year from date of purchase and rest 100 shares sold after 1 year from the date of allotment of bonus shares (please note that in case of bonus shares 1 year is calculated from the date of allotment and not purchase of original shares)

This arrangement will lead to savings in tax. The calculation will be as follows.

a) On shares bought – Short term Capital loss (Rs 550 – Rs 1000) X 100 shares = Rs (45,000)

Since the bonus shares will be sold after 1 year, hence no tax would need to be paid on the same.

This loss of Rs 45,000 can be set off against the other short term capital gains during the year. It thus leads to a saving of 15% of Rs 45,000 = Rs 6750 on the tax outgo front.

Please note that this scheme works only if the bonus shares are held for a period of more than one year from the date of allotment.

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0 responses to “Bonus stripping – Way to Save tax”

  1. zalak thakker says:

    i want solution for one question .

    co. plans to give bonus share of 1 for 2 share of fair value of 10 as on 24-4-2012. post bonus the outstanding stock of co. will be entiteled to a dividend of 125% . sanjay wants to buyback 100 shres at prevailing price of 800 per share . if he sell his origional bought share after stock quotes ex bonus at 600 per share then what is capital gain / loss .

    Any help from u will be great.

  2. Anandan says:

    hello

    there is a typographical error in example
    it should be ( 100 shares @ Rs. 1000/- per share)

  3. CA DEV KUMAR KOTHARI says:

    In case of financial assets like bonus shares / securities S.55 (2) (iia) provides that cost of acquisition will be considered as nil. this is for the purposes of S. 48 and 49. This is not for S. 45 which is a charging section.
    Provision of S. 55(2) (iia) gives statutory recognition to the fact that cost of bonus shares/ units is nil. This is for clarity and ease to make computation of capital gains for original shares.
    Sale value minus nil will remain sale value or capital value. There is no element of gains. Furthermore when cost of acquisition is nil, there will be no change in allowable cost because ZERO will remain ZERO and there will not be higher deduction in respect to bonus shares or units in relation to those held for longer duration (say 20 years) in comparison to those held for short duration (say three years). Thus the capital gains will not be computed as per the computation provision. Hence the sale value of such assets may not be taxable.
    It is worth to note that where ever capital value is considered as taxable, specific provision has been provided in section 45 itself. For example, sub-sections (1A) , (3) ,(4) ,(5) of section 45 provides situations in which capital value or consideration accruing on transfer will be taxable irrespective of whether the asset has cost assessee any thing or not. The clause (ii) of the Explanation to S. 45 (5) specifically provide that in the situation covered by S.45(5) (b) the cost od acquisition and cost of improvement shall be taken to be nil.
    Therefore, it can be said that deemed cost of acquisition as nil doe not affect the charging section for capital gains that is section 45. where ever ‘capital value’ is to be taxed under head ‘capital gains’, specific provision is made in charging section that is S.45. S. 55 is limited to the purposes of S. 48 and 49 and and does not extend to S.45. Particularly so when application of such deemed cost of acquisition as nil goes against basic principal of taxation of ‘capital gains’ and not taxation of ‘capital value’.
    Thus as per principals, it can still be said that capital value of assets (sale value minus nil) is not ‘capital gains’ chargeable u/s 45 merely because in S. 55 statutory recognition is given to the fact that in acquisition of many assets the assessee had not incurred any cost of acquisition and /or cost of improvement.
    Zero is not amenable to increase by inflation index. It is never intention of legislature to compute capital gais or tax capital gains similarly irrespective of wider difference in period of holding. Even when there was no indexation of cost, the rate of tax or incidence of tax was lower in case of assets which were held for longer duration in comparison to those held for shorter period.

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