The number one rule for successful personal finance is ‘Save before Spending’ and although it may seem contradictory to common sense, you can actually save taxes by investing in the stock market.
So, here’s how. Equity investments are a source of income and the government doesn’t give you incentives to earn more. But equity is also a source of capital for businesses and a vibrant financial market is an indicator of strong capital accumulation so essential to fuelling growth in production and consumption.
Also, investment in equity gives higher returns than bank accounts, insurance policies or provident funds. The only caveat is that market investments are subject to risk. There are categories of risk that only trained money managers can identify. Making predictions in the stock market may seem like a fool’s errand but the science of probability helps in minimising errors in this regard. So, one option that the untrained public has so that they, too, can participate in the benefits of financial market booms is a Mutual Fund.
A Mutual Fund is a corpus of smaller deposits to create a larger fund that can then be used to build a stock portfolio. Mutual Funds don’t put all their money in volatile assets, however, and some of it is used in buying fixed income assets such as bonds. A bond is a type of loan given to corporate or government firms on either fixed or variable interest.
- As per Section 10 (23D), SEBI registered mutual funds or funds created by Public Sector banks, public financial institutions under authorization from the Reserve Bank of India are completely exempt from tax. In other words when calculating your taxable income you should deduct the amount that you have invested in the MF in the relevant financial year.
- Further, Mutual Fund investments are 80C investments. So, they are tax free to the tune of Rupees 1 lakh 50 thousand. This would hold for Equity linked funds.
- Subscription to units of Mutual Funds would similarly be eligible for deduction from taxable income provided these funds form part of capital to be used in the business of a public company.
- No deductions for tax can be made on account of tax collected at source as per Section 196(iv).
Tax Benefits for Shares bought on a SEBI registered stock exchange:
- Equity shares or debentures which form part of that capital of public companies or public financial institutions that will be used to operate business are also eligible for tax deductions under Section 80C (xix) to a limit of Rupees 5 lakh.
- The main source of income for stock investors is a capital gain. You accrue short term capital gains tax if you sell within a period of 12 months (equity shares or money market instruments) and long term capital gains tax otherwise. The former are taxed at 15% if transacted on a recognized stock exchange plus Securities Transaction Tax (0.1% for deliverable equity and 0.25% for single-day trading), surcharge and education cess. Long term capital gains tax against transfer of stocks is taxed at 20% plus surcharge and education cess.
Apart from stock indices, you should also factor the taxable amount that forms your outgo before transacting on a stock.
- You can set off capital losses in one investment against those in another. The losses on capital gains must be set off against losses under the same head for tax return purposes. These losses are to be mentioned in the appropriate ITR form while filing your annual tax return. You may even carry forward capital losses, both long term and short term, for the next 8 years in succession.
These advantages are not available with other sources of income.
According to Section 115QA, income distributed by a domestic company in the name of buy-back of shares not transacted on a stock exchange trigger no tax consequence. The company is solely responsible for payment of Dividend Distribution Tax of 20% individually.
We have not made mention of the Rajiv Gandhi Equity Saving Scheme for first time investors which was ended in the Budget Session of 2017.
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