Section 87A: Tax Rebate On STCG Income

The genesis of the dispute on rebate under Section 87A

1) Bombay High Court Order in PIL dated 24^th January 2025

2) Commissioner of Income Tax (Appeals) ADDL/JCIT(A)-6, order dated 27^th February 2025. (Page No.5 Para 4.1)

1.1 Many taxpayers have recently received notices from the Income Tax Department (ITD) due to claiming rebate under Section 87A of the Income Tax Act, 1961. The issue arose when the Income Tax Department (ITD) modified its tax-filing software on July 5, 2024, disabling the option to claim the Section 87A rebate on Short-Term Capital Gains (STCG). As a result, taxpayers who had included STCG in their income were automatically denied the rebate, leading to higher tax demands. The issue has been dragging since last year, July 5 when the ITD disabled the option in its filing utility to claim the rebate under this section.

1.2 According to some sources, some taxpayers filed revised ITRs claiming the rebate under Section 87A on STCG by January 15, 2025. Under the ongoing processing of these ITRs, the ITD has reportedly issued intimation orders rejecting the rebate claims and generating tax demands.

1.3  In response, the Chamber of Tax Consultants challenged this software modification by filing a Public Interest Litigation (PIL) before the Bombay High Court. While the High Court acknowledged the problem, it refrained from issuing a blanket order and instead ruled that each case should be decided individually. The synopsis of the Bombay High Court Order is as under:

Bombay High Court order in Public Interest Litigation (L) No. 32465 OF 2024 Section 87A- A Synopsis

1.4 The salient features of the above order are as under:-

• Non-Adjudication on Section 87A Rebate for STCG: The court refrained from making a conclusive ruling on whether the rebate under Section 87A applies to Short-Term Capital Gains (STCG). However, It left the matter to be decided case-by-case by appropriate judicial forums.
• Right to Make a Claim: An assessee cannot be barred from claiming the rebate in their return of income. This applies irrespective of whether the return is filed electronically or manually.
• Revenue’s Right to Scrutinize: If an assessee makes such a claim, the Revenue has the authority to examine its validity. The assessment must be done in accordance with the Income Tax Act. Both the assessee and the Revenue have legal remedies to challenge the claim’s correctness.
• Jurisdictional Limitation of Writ Court: The court declined to rule on the merits of the arguments presented by either party. It emphasized that the issue must first be adjudicated by the relevant quasi-judicial authorities before being brought before a writ court under extraordinary jurisdiction.

The present Case

2.1 Later the Commissioner of Income Tax (Appeals) ADDL/JCIT(A)-6, Mumbai had an occasion to consider the same issue of Rebate u/s 87A and decided the same in favour of the assessee as under vide order dated 27-02-2025.

2.2 The appellant who filed ITR-3 under the new tax regime for AY 2024-25, declared a total income of Rs 5,40,670, including Rs 1,09,842 in STCG. This ITR was processed on September 19, 2024, under Section 143(1). The Centralised Processing Centre (CPC) disallowed Rs 16,422 as Section 87A tax rebate claim on STCG income and allowed only Rs 5,917 with respect to other incomes.

2.3 The appellant appealed under the faceless assessment scheme, where CIT(A) Mumbai took up the case and argued as under:-

Arguments by the Appellant

2.4 Section 87A should not be read in isolation but should be read with Section 115 BAC(1A). Interpreting the proviso to Section 87A in isolation, without considering Section 115BAC(1A), renders the interpretation ambiguous.

2.5 Section 115BAC, which provides a special tax regime, is contained within Chapter XII: Determination of Tax in Certain Special Cases. Chapter XII also encompasses other provisions prescribing special tax rates for specific categories of income, including STCG under Section 111A, long term capital gains under Section 112A and 112.

2.6 Section 115BAC(1A) of the Income Tax Act, 1961, has an overriding effect on the rest of the Act, as it begins with a “Non-obstante clause” stating that it applies notwithstanding anything contained in the Act. However, it is subject to the provisions of Chapter XII, which governs the taxability of special rate incomes such as Short-Term Capital Gains (STCG) and Long-Term Capital Gains (LTCG).

2.7 The structure of Section 115BAC(1A) is such that it signifies that while Section 115BAC(1A) overrides the general provisions of the Act, it must still comply with Chapter XII wherever relevant. Since Chapter XII governs the taxation of special rate income, these provisions become an inherent part of Section 115BAC(1A) and must be applied accordingly.

2.8 A liberal interpretation of the Proviso to Section 87A requires that its scope be understood in direct connection with Section 115BAC (1A). Interpreting the Proviso broadly, to suggest that only income chargeable at slab rates is covered by the Proviso, would be legally unsound without drawing a clear distinction between total income and special income.

There is only one total income and not two total incomes

3.1 The Section 87A talks about the total income. Total income is defined in Section 2(45) of the Income Tax Act and it means total amount of income referred to in Section 5. The total income under Section 115BAC(1A) includes all five heads of income, including capital gains. If the legislative intent were to deny the rebate on portions of total income comprising special income, such as that chargeable under Section 111A and 112, these exclusions would have been expressly stated in the provisions.

3.2 Law did not expressly state disallowance of Section 87A tax rebate on STCG income. The rebate under Section 87A is explicitly disallowed on long-term capital gains under Section 112A due to specific provisions enacted by the legislature. However, no similar legislative intent is evident for disallowing the rebate under Section 87A on income such as short-term capital gains under Section 111A or long term capital gains under Section 112, nor does it appear to have been intended by Parliament.

Government made no announcement about limiting benefit given

3.3 The taxpayer said: “It is well established that when governments worldwide limit benefits previously available to citizens, they typically make a formal announcement in public or in parliament explaining the rationale behind the change.” The taxpayer referred to the Finance Minister Nirmala Sitharaman Budget 2024 speech and said there is no indication from the FM that rebate is available only on income taxable at slab rates under Section 115 BAC (1A). “On the contrary, the literal interpretation and intent were to provide a higher rebate benefit to those choosing the new tax regime.

CIT (A)’s judgement on  Section 87A tax rebate on STCG income

4.1 CIT (A) said: “The submission made is considered. It is seen from the return that the total income of the appellant, comprised of Rs 1,09,842 of STCG u/s 111A and Rs 12,853 of LTCG u/s 112A. The appellant had claimed the rebate of Rs 22, 339 on such STCG income of Rs 1,09,840. However, the AO, CPC had restricted the rebate to Rs 5,917. Before adjudicating the issue it will be apposite to refer here Section 87A which provides for allowance of rebate of Income Tax in case of certain individuals.”

4.2 “The restriction on income from LTCG and STCG is that the deductions under Chapter VIA will not be allowed on such income. Since Section 87A is incorporated in Chapter VIII the above provision is not applicable in this case. Thus, a composite reading of Section 87A read with Section 111A and 112A does not bar the appellant from claiming rebate u/s 87A. In view of the above discussion and also for the fact that the fact that the appellant has continued the option exercised u/s 115BAC, it is held that the AO, CPC had erred in restricting the rebate u/s 87A. The AO is directed to allow the deduction u/s 87A as per provisions. These grounds of appeal are consequently allowed for statistical purpose.”

4.3 On a conjoint reading of Sections 87A and 115BAC of the Income Tax Act, 1961 it may be seen that there is no exclusion carved out for incomes taxed at special rates, such as STCG/LTCG and therefore, in absence of specific provision / clarification by CBDT / judicial precedent, it is unfair on part of the ITD to prevent the taxpayers from claiming this benefit.

4.4 This position has also been accepted by the Bombay High Court in a PIL filed by the Chamber of Tax Consultants challenging the modification in utility portal with effect from July 5, 2024 which unilaterally disabled assessees from claiming rebate under section 87A. (Supra)

4.5 The commissioner took note of the taxpayer’s argument and noted that he had rightfully claimed a rebate on her STCG income as per Section 87A. It verdict noted that the restriction imposed by the CPC was erroneous since deductions under Chapter VI-A are restricted on special rate income, but Section 87A falls under Chapter VIII and is not subject to those limitations.

4.6 As a result, the AO was directed to allow the rebate under Section 87A, acknowledging that the taxpayer continued with the new tax regime option under Section 115BAC. This verdict by CIT (A) sets a precedent for others who are facing similar tax demand notices and would give significant leverage to the arguments for taxpayers to claim their rightful rebate.

Final Words- Cautious approach required!

5.1 The recent decision by the Commissioner of Income Tax (Appeals) [CIT(A)] Mumbai on February 27, 2025, allowing the Section 87A tax rebate on Short-Term Capital Gains (STCG) under Section 111A, has significant implications. This ruling directly challenges the Income Tax Department’s stance following the modification of the ITR utility software on July 5, 2024, which disabled the rebate for STCG.

5.2 The CIT(A) upheld the taxpayer’s claim by interpreting Section 115BAC(1A) holistically, emphasizing its subordination to Chapter XII, which governs special rate incomes. Since Section 115BAC applies to total income and Section 87A allows a rebate except where explicitly restricted (only for LTCG), the decision reinforced the argument that total income, including STCG, qualifies for the rebate. The order also relied on references to budget speeches and legislative intent, making a strong case for the eligibility of capital gains for the rebate.

5.3 Despite this favorable ruling, the issue is far from settled. The tax department may challenge the decision before higher judicial forums or seek a statutory amendment to clarify the applicability of Section 87A. While taxpayers can claim the rebate, they must be prepared for potential litigation costs that may outweigh the benefit. The ruling also highlights a broader dispute over the interpretation of Section 87A in the context of the new tax regime. The CIT(A) concluded that the Centralized Processing Centre (CPC) erred in disallowing the rebate, as Chapter VIII explicitly permits it for STCG under Section 111A. Unlike LTCG under Section 112A, which is expressly barred from claiming the rebate, there is no such restriction for STCG.

5.4 Although this decision strengthens the legal position of taxpayers, it remains an appellate order rather than a blanket rule applicable to all taxpayers. Individuals facing similar disallowances may still need to contest their cases unless the Income Tax Department either challenges the ruling or issues new guidance. The government must prioritize taxpayer interests over bureaucratic rigidity to prevent unnecessary disputes and litigation.

5.5. The denial of the rebate in these cases stems from the way the Income Tax Department’s (ITD) software is programmed. The software prevents the rebate from being applied against tax liabilities on Short-Term Capital Gains (STCG) under Section 111A, even though there is no provision in the Income Tax Act that explicitly prohibits it. A straightforward reading of Section 87A suggests that the rebate is available to all resident individuals whose total taxable income falls within the prescribed limit.

5.6 Since “total income” is defined under Section 2(45) of the Act as income computed under various heads after deductions under Chapter VI-A but before applying tax rates, there is no reason to exclude STCG under Section 111A from rebate eligibility. Section 111A simply prescribes a tax rate of 15% for such gains but does not contain any provision restricting the applicability of Section 87A.

5.7 This issue disproportionately impacts small investors and salaried individuals who earn income from stock market transactions. For example, a taxpayer earning ₹4,99,000 from salary and STCG should ideally be eligible for a full rebate under Section 87A. However, due to the software’s incorrect computation, such individuals are being asked to pay tax on STCG despite their total income falling within the rebate threshold. This contradicts the purpose of Section 87A, which is meant to provide tax relief to small taxpayers, and results in unnecessary financial burden and litigation.

5.8 In summary, the denial of the Section 87A rebate on tax arising from STCG is not a legislative decision but a result of a flaw in the tax-filing software. The recent CIT(A) ruling in Mumbai is a positive development for taxpayers, as it upholds their right to claim the rebate on all taxable income, including STCG. However, since the ruling applies only to the specific case at hand, other affected taxpayers may need to take legal or administrative steps to obtain similar relief. The ITD should also take corrective measures to fix the software error to ensure that taxpayers are not unfairly burdened with additional taxes.

5.9 To resolve this issue, affected taxpayers have several options. First, they can file an appeal before CIT(A) if the rebate has been disallowed in their assessment. Second, they may seek rectification under Section 154, arguing that the incorrect tax computation is a mistake apparent from the record. Third, if appeals and rectifications do not yield results, taxpayers may approach the High Court through a writ petition challenging the ITD’s interpretation. Lastly, tax professionals and organizations can make representations to the Central Board of Direct Taxes (CBDT) to issue clarifications or amend the ITR software so that the rebate is correctly applied in cases involving STCG under Section 111A.

Disclaimer

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