The biggest worry for equity market investors came true on Thursday, when Finance Minister Arun Jaitley re-introduced a tax on long-term capital (LTCG) gains. So far, profits from stocks and equity mutual funds held for over a year were exempt from LTCG tax.
As per proposals made in this year's budget, gains over Rs 1 lakh from sale of equity shares will now attract an LTCG of 10 per cent. This will be over and above the other taxes applicable for equity transactions. To bring in parity, equity mutual funds too, will now have to pay a dividend distribution tax of 10 per cent.
“Investors in a listed company now suffer taxation on multiple fronts—corporate tax paid by their company, then dividend distribution tax paid by their company, then direct incidence of tax in the form of STT (Securities Transactions Tax) when they buy the stock, tax on large cumulative dividends received, and now even LTCG tax on exit from their investments (without indexation),” pointed out Amar Ambani, head of research at IIFL Wealth Management.
Disappointed investors quickly started selling shares post the announcement, and the Sensex plunged near 400 points. However, markets recovered later and were trading in the green in late-afternoon trading.
While, the announcement of LTCG was clearly a negative surprise, the decision to “grandfather”capital gains made until January 31, 2018 was brought in some relief.
"The capital market sunk, due to the introduction of the capital gains tax. The market then realised that he (Jaitley) has grandfathered gains made up to January 31. That is, any past gains you have made will not be taxed, but going forward, it will be,” noted Jairaj Purandare, founder chairman at JP Advisors.
Participation of Indians in the equity market has always been small, but that number has been steadily growing, particularly over the past 18 months where retail investors have pumped in huge amounts through equity mutual funds.
The worry among some quarters is whether these investors will stay invested knowing that their long-term gains will now be taxed.
“LTCG exemption was an attraction for new investors into equity/equity mutual funds and brought funds from other low paying avenues. Rising interest rates domestically and tax on LTCG could result in minor reversal of this trend,” said Dhiraj Relli, MD and CEO of HDFC Securities.
Taxing LTCG will remove the relative tax advantage equities enjoyed over fixed income and other instruments. However, equity still remains the best performing asset class over time and therefore, there is no need for people to turn their backs to it, say experts.
“This still keeps equities as the most attractive asset class from a taxation perspective since the holding period to be eligible for LTCG on most other asset classes is three years. The fact that gains made up to January 31 will be grandfathered indicates that the government has thought through the proposal quite clearly,” said G. Pradeepkumar, CEO, Union Asset Management Co.
Market analysts say, if at all, the announcement of LTCG, may disrupt markets in the short-term, but there is unlikely to be a long-term impact.
