Background:-As a step towards simplifying, consolidating and bringing about structural changes in direct taxes, the new Direct Taxes Code (DTC) Bill 2009 has been released for public debate. This alert summarizes certain key provisions proposed in the DTC relating to capital gains.
Scope of taxation
Classification of assets
The definition of Capital asset continues in DTC. However the DTC classifies assets into two broad categories i.e. investment assets, and business assets. DTC envisages taxing income from transfer of investment assets as capital gains. Under the Income Tax Act 1961 (“Act”), income from transfer of capital assets even if used for business purposes was taxed as capital gain. DTC proposes to tax income from transfer of business capital assets as “business income” and the scope of definition of transfer is expanded to include business assets also.
Expansion of transfer:- The definition of the term “transfer” for the purpose of DTC has been consolidated and widened. The following are included within the scope of transfer:
- Transfer of assets to a company by way of capital or otherwise, in which the transferor is or becomes a shareholder.
- Distribution of asset to a participant by an unincorporated body on his retirement.
- Any agreement which enables the enjoyment of any immovable property whether by way of or becoming a participant in an unincorporated body or by purchase of shares or by entering into an agreement, arrangement or in any other manner.
- Any disposition, settlement, trust, covenant, agreement or arrangement.
Withdrawal of exemption from transfer :- DTC has proposed to widen the ambit of taxation by withdrawing the exemptions provided by the Act for certain transactions from the ambit of transfer. Significant among them are :
- Transfer of land belonging to a Sick Industrial Company under a scheme where the company is managed by its workers’ co-operative.
- Transfer of capital asset in a transaction involving reverse mortgage under a scheme made and notified by Central Government.
- Securities sold through the stock market. DTC does not exempt transfer of long term securities listed on stock exchange. Under the Act, long term securities listed on a stock exchange, which have suffered securities transaction tax are exempt from capital gains.
New exemptions
• Specific exemption has been given for conversion of an unincorporated body (including a Limited Liability Partnership) to a company.
• Capital gains arising from transfer of personal effects, rural agricultural land and Gold Deposit Bonds issued under the Gold Deposit Scheme, 1999 are tax free.
Year of taxability – certain inclusions:- The year of taxability for the following transfers has been specifically included under the DTC. When the transfer is on account of:
- scheme of business reorganization, will get taxed in the financial year in which the conditions prescribed for reorganization are not complied with
- part performance of a contract referred in section 53A of the Transfer of Property Act, will get taxed in the financial year in which possession of the immovable property is taken or retained
- contribution of the asset to a company by a shareholder by way of capital or otherwise, will get taxed in the financial year in which the asset is transferred to the company
- distribution of the asset on retirement to a participant in an unincorporated body, will get taxed in the financial year in which the asset is distributed to the participant.
Computation of capital gain
- DTC has removed the distinction between short-term capital gain and long-term capital gain
- Any investment held for more than twelve months form the end of the relevant financial year in which it is acquired would be eligible for indexation benefit.
- For the purpose of determining the cost of acquisition, the date of 1st April 1981 has now been rolled over to 1st April 2000.
- For assets acquired prior to 1st April 2000, assessee would now have the option to choose either the cost of purchase or fair market value as on 1st April 2000 as the cost of acquisition.
- Cost of acquisition in the case of a self generated asset will be “NIL” and capital gains would arise on their transfer.
- Assessees have the option under the DTC to refer their case to the valuation officer when the sale consideration is lower than the value adopted for stamp duty. This option is available to the tax payer only if the asset transferred is land and building and in no other instance.
Non-resident taxation :-In an attempt to expand the source basis of taxation, the DTC is proposing to include indirect transfer of capital asset situated in India as deemed to accrue in India. Hence, even if there is a transfer between two non-residents of a capital asset which derives value from India, then, the same may be taxable in India.
Special computation provisions in the Act, for non-residents with regard to acquiring shares and debentures in foreign currency do not find place in the DTC.
Re-characterization of Capital gains to business income:- Profit on sale of an undertaking on a slump sale basis will be taxed as business income as against the existing practice of taxing such income as capital gains. In effect, per DTC, transfer of business capital assets, profit / loss arising thereon would be taxable as business income.
Relief for rollover of investment asset:- The DTC proposes to minimize the exemption provided on capital gains both in terms of eligible tax payers as well as on the type of reinvestment options.
Rollover benefits arising from reinvestment of sale consideration for claiming capital gains exemption has now been restricted to individuals and Hindu undivided families. Other assessees earning capital gains income even if reinvested would not be entitled for any exemption. The amount of relief of capital gains will be determined in proportion to amount invested to net consideration.
The eligible assets/schemes have also been narrowed down and only investments in agricultural land, residential house and deposit in capital gain savings scheme will be eligible for roll over benefit. DTC requires the tax payer to roll over the net consideration by investing in agricultural land, residential house or deposit in capital gains savings scheme.
The following are some of the conditions attached to roll over of net consideration:
- Investment in capital gain savings scheme has to be made only with the post office within 60 days from the date of transfer. This is in contrast to the time provided in the current regulations which allow the tax payer time till filing of Return of Income to make the eligible investments.
- Any amount received, or withdrawn, under any circumstances from the capital gain savings scheme representing the principal or any accretion will be taxable under the head income from residuary sources.
- One of the conditions for investing in a residential house is that the assessee does not own any residential house, other than the new investment asset (new residential house), on the date of transfer. As a result, tax payers cannot own more than one residential asset if they want to avail the roll over benefit.
Miscellaneous DTC proposes to allow indefinite carry forward of Capital loss to the subsequent financial years with the only precondition being filing of return on time. Brought forward capital loss can be set off only under the head capital gains and not against any other head of income.
Under the DTC, capital gains for all categories of resident tax payers will be included in their total income and taxed at normal progressive rates applicable to them as against a flat rate of 30% for non-residents.
Capital gains will be treated as a special source income in the case of non-resident tax payers.
The DTC requires taxes to be deducted at source at the rate of 10% in the case of residents and 30% for non-residents. This is a marked change as compared to the Act which provides for advance tax as the mode of settling the tax liabilities for residents and for FIIs. Consequently, compliance with the statutory withholding provisions is triggered at the time of transfer itself.
