The Finance Bill (No. 2) 2024 proposes to remove indexation benefits for long-term capital gains, suggesting that lower tax rates will compensate taxpayers. However, this change overlooks the crucial role of indexation in accounting for inflation, which significantly impacts the real profit from investments. For instance, a resident taxpayer who invested ₹2 Crore in a Bangalore apartment in 2016-17, selling it for ₹2.75 Crore in 2024-25, would find no taxable gain using current indexation under Section 48 of the Income Tax Act, as the indexed cost would also be ₹2.75 Crore. Without indexation, the taxpayer faces a ₹10,72,500 tax on an apparent ₹75 Lakh gain. This scenario highlights that reduced tax rates benefit only those realizing substantial profits above the inflation-adjusted cost. Non-resident taxpayers also suffer, as foreign exchange investments protected by Section 48 would now incur higher taxes on nominal gains. For example, an investment of ₹2 Crore in USD in 2016-17, sold for ₹2.75 Crore at today’s exchange rate, shows minimal dollar profit, yet incurs a substantial tax under the new rules. Thus, removing indexation benefits undermines the principle of taxing real income, disproportionately affecting taxpayers who do not see significant gains over inflation.
Can lowering the rate of tax compensate for the removal of indexation benefits proposed in the Finance Bill, 2024
Lowering of tax rates on Long Term Gains is no compensation for removal of indexation benefits as proposed in the Finance Bill ( NO 2) 2024?
CBDT and Finance Ministry officials are giving out interviews stating that most assessees would benefit by the lower tax rates and would not be adversely affected by the removal of indexation benefits in the computation of Long Term Capital Gains. What these officials fail to realise is that when there is no gain any tax would pinch!
Impact on Resident Tax Payers
Let us presume an assessee invested about Rs 2 Crore in an apartment in Bangalore in the year 2016 17 and is planning to sell the apartment in 2024 25 for which there is an offer of 2.75 crores. So has she made a profit on the investment off ₹2,00,00,000 in 8 years?
The answer would be yes, if you don’t factor the impact of inflation as per the proposed amendment and an emphatic no if you do.
The taxable Capital Gain would be Zero if you use the cost inflation index now available under section 48 of the Income Tax Act. Cost inflation index for financial year 2024 25 is 363. The cost inflation index for financial year 2016 17 is 264. Applying the same, the indexed cost of acquisition would be 2.75 Crores and it could be seen that this person would be in the same position has she was in the year 2016 17. However as per the provisions contained in the Finance Bill 2024 this assessee would be paying a tax of ₹10,72,500 at 12.5% on ₹75 lakhs as against Nil as per the existing provisions.
Therefore the new provisions are beneficial to only those who make a substantial profit over the indexed cost of acquisition. Assessees who are unable to realise a profit to cover the inflation stand to lose. Reduction in the rate of capital gains tax is no balm.
Impact on Non Resident Taxpayers
Section 48 earlier had a provision to protect investments made in foreign exchange. In the example given above imagine if the ₹2,00,00,000 had been made in USD in the year 2016 17 when the rate of exchange was 1USD equals ₹65 and a person is receiving ₹2,75,00,000 today’s exchange rate of 1 USD at ₹84. The initial investment would be at USD at USD 3,07,692 and the sale proceeds would amount to USD 3,27,380. Therefore there would have been a Long Term Capital gain of USD 19688 or ₹13.38 lakhs. However, if tax of 12.5% on Rs. 75 lakhs were to be collected, the investor would be where he was in dollar terms!
Hence indexation benefits need to be retained to tax the real income from long term capital gains.
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