CAPITAL GAINS NOT CHARGEABLE TO INCOME TAX ON INVESTMENT IN CERTAIN BONDS [SECTION 54EC]

CAPITAL GAINS NOT CHARGEABLE TO INCOME TAX ON INVESTMENT IN CERTAIN BONDS [SECTION 54EC]
Introduction:
 
The gain that arises on the sale of a Long Term Capital Asset is known as Long Term Capital Gain and Capital Gain Tax is levied on such gain. Many investors, who sell properties, end up paying huge tax because they have not invested the proceeds from sale on time. Tax saving on long-term capital gain is possible by investing the capital gain amount in long term specified bonds, also called as Capital Gains Bonds specified under Section 54EC.

Section 54EC of Income-tax Act, 1961, provides that capital gain arising from the transfer of a Land and/or Building (Whether residential or commercial ) which was held for more than 24 months shall not be charged to tax, if such capital gains are invested in long term specified bonds within a period of six months from the date of such transfer.  If the Land/Building that has been sold was held for less than 24 months, it would be classified as Short Term Capital Asset and tax would be levied on such sale as per applicable Income Tax slab Rates. From FY 2018-19, the benefit of this deduction has been restricted to Long Term Capital Gains (LTCG) arising from the transfer of land and/or building only.

 

Capital Gain Bonds
These Capital Gain Bonds redeemable after 5 years, which help in saving tax can only be issued on or after 01.04.2018 by the

·        National Highway Authority of India (NHAI)

·         Rural Electrification Corporation of India (REC)

·        Power Finance Corporation Limited. (PFC)

·        Indian Railway Finance Corporation Limited (IRFC).

 

Capital gain shall be exempt to the extent of amount of investment in such specified bonds upto a maximum of Rs.50 Lakhs.

 

The Interest Rate on the Capital Gains Bonds is 5.75% for all bonds purchased after 01st April 2018. The Interest @ 5.75% is payable annually. Before 1st April 2018 – the Interest Rate was 5.25%.

 

It is important to note that the interest is not exempt from income tax. Interest would be liable to be taxed as per the income tax slabs of the taxpayer. Only the amount invested is exempted from Capital Gain Tax.

 

The face value of the Bonds issued by NHAI, REC, PFC and IRFC is Rs. 10,000. Hence the maximum no. of Bonds that can be purchased by an investor is 500 since the maximum investment allowed in these bonds in a year is limited to 500 x 10,000 i.e. Rs. 50 Lakhs.

Benefit of Investing in Capital Gain Bonds
The interest on these Capital Gain Bonds of 5.75% is lower as compared to the Interest paid on a Fixed Deposit which is around 7% . However, the benefit of investing in capital gain bonds is the income tax on long term capital gain which is being saved.

For better understanding of the benefit of investing in Capital Gain Bonds, an analysis of the benefit which would arise to the taxpayer if he invests in Capital Gain Bonds is produced here below:-

 

Option 1: Investment in Capital Gain Bonds

 

Particulars  
Capital Gains 50,00,000
Less : Investment in Bonds 50,00,000
LTCG Tax NIL
Post Tax Amount 50,00,000
Investment Tenure (years) 5
Rate of Interest (Per Annum) 5.75%
Benefits  
Tax saved on above investment (incl cess)   – (A) 10,40,000
Interest earned for 5 years @5.75% per annum in Rs

(Rs.2,87,500*5 years)                               – (B)

14,37,500
Total Benefit (A+B)                                    – (C) 24,77,500
Total Benefit in Percentage (2477500/5000000) 49.55%
Annualised Return (49.55/ years) 9.91%

 

Option 2: Invest in any other option after paying tax

Particulars  
Capital Gains 50,00,000
LTCG Tax @20.8% 10,40,000
Post Tax Amount 39,60,000
Investment Tenure (years) 5
Total Benefit Required to match (C) above 24,77,500
Total Benefit in Percentage (2477500/3960000) 62.56%
Annualised Return (62.56/5 years) 12.51%

 

If the rate of return is higher than 12.51% in the other option, then investing in them makes sense. If the return is lower, then 54EC bonds may be more suitable.

 

*Effective LTCG Tax for the FY 2018-19 is 20% + Education Cess @4% = 20.8%.

 

Other Key Features of Capital Gain Bonds

 

1. The Capital Gain Bonds are AAA rated, non-transferable, non-negotiable and cannot be offered as a security for any advance or loan.

2. The Bonds are issued for a period of 5 years. One cannot transfer or convert or avail loan or advance on the security of such bonds for a period of 5 years from the date of acquisition of such bond. In case where the Capital Gain Bonds are transferred or converted into money (otherwise than by transfer) within a period of five years from the date of their acquisition, the amount of Capital Gain exempt earlier under section 54EC shall be deemed to be long-term capital gain of the previous year in which such bonds are transferred or converted into money. (Prior to FY 2018-19, the lock in period was 3 years)

3. Bonds are not listed on any stock exchange.

 

4. Documents needed at the time of purchase of bond:

·        self-attested copy of the PAN Card

·        self-certified copy of Address Proof

·        One Cancelled Cheque.

5. Available in Physical as well as Demat form.

6. There is no online mechanism of purchasing these bonds and a person would be required to fill in the physical form.

7. Bonds will be automatically redeemed, without the surrender of Bond Certificate(s) and the proceeds would be paid by cheque or NECS/ECS.

 

Compiled by Dhanush D Bolar,

Associate Nitin J Shetty & Co