Section 198: tax on long-term capital gains in certain cases

Introduction

Section 198 provides the special long-term capital-gains treatment for the specified listed equity, equity-oriented fund and business-trust-unit transfers.

The asset, transaction and threshold conditions must be checked before using its rate instead of section 197.

Key takeaways

When this section applies instead of Section 197

Irrespective of section 197, this section's tax computation applies where all of the following are satisfied:

• The total income includes capital gains chargeable under the head "Capital gains";
• The gains arise from transfer of a long-term capital asset being an equity share in a company, a unit of an equity oriented fund, or a unit of a business trust; and
• Securities transaction tax under Chapter VII of the Finance (No. 2) Act, 2004 has been paid - on both acquisition and transfer, for an equity share; or on transfer alone, for a unit of an equity oriented fund or business trust.

The rate

Where these conditions are met, the tax payable on the total income is the aggregate of:

• Income-tax at 12.5% on the long-term capital gains that exceed ₹1,25,000; and
• Income-tax on the total income as reduced by these long-term capital gains, as if that reduced amount were the total income.

Shortfall benefit and other rules

Where the assessee is a resident individual or Hindu undivided family and the total income (after excluding these long-term capital gains) is below the maximum amount not chargeable to income-tax, the gains are reduced by the shortfall before the 12.5% rate is applied to the balance.

The STT condition as a whole (on acquisition and on transfer) does not apply to a transfer undertaken on a recognised stock exchange in an International Financial Services Centre where the consideration is received or receivable in foreign currency (Section 198(4)).

The Central Government may notify categories of acquisition to which the STT-on-acquisition requirement does not apply.

Where the gross total income includes long-term capital gains under this section, Chapter VIII deductions are allowed only from the gross total income as reduced by such gains.

Where the total income includes such long-term capital gains, the rebate under section 156 is allowed from the income-tax on the total income as reduced by the tax payable on these capital gains.

What counts as an "equity oriented fund"

For this section, an equity oriented fund is a fund set up under a mutual fund scheme specified in Schedule VII (Sl. No. 20 or 21) or a non-exempt unit linked insurance policy scheme, meeting minimum equity-investment thresholds:

• Where the fund invests in units of another fund traded on a recognised stock exchange: at least 90% of the fund's proceeds must go into that other fund, and that other fund must in turn invest at least 90% of its proceeds in equity shares of domestic companies listed on a recognised stock exchange.
• In any other case: at least 65% of the fund's proceeds must be invested in equity shares of domestic companies listed on a recognised stock exchange.
• The equity shareholding/unit-holding percentage is computed with reference to the annual average of the monthly averages of opening and closing figures; for a unit linked insurance policy scheme, the 90%/65% threshold must be satisfied throughout the term of the policy.

Step-by-step flow for applying Section 198

1. 1

   Does the total income include long-term capital gains from an equity share, a unit of an equity oriented fund or a unit of a business trust?

   • No: Section 198 does not apply; consider the general rule in Section 197.
   • Yes: Go to the next step.
2. 2

   Has securities transaction tax been paid as required?

   For equity shares: on both acquisition and transfer. For equity oriented fund or business trust units: on transfer. The whole STT condition does not apply to a transfer on a recognised stock exchange in an IFSC where the consideration is received or receivable in foreign currency (Section 198(4)). The acquisition-leg condition also does not apply to acquisitions notified by the Central Government (Section 198(5)).

   • No, and the IFSC exception does not apply: Section 198 does not apply; consider Section 197.
   • Yes: Go to the next step.
3. 3

   Compute tax on the gains

   Tax the gains exceeding ₹1,25,000 at 12.5% (Section 198(2)(a)). Tax the rest of the total income as if it were the total income (Section 198(2)(b)).

4. 4

   Is the assessee a resident individual or HUF with other income below the maximum amount not chargeable to tax?

   If so, reduce the gains by the shortfall before applying the 12.5% rate (Section 198(3)).

5. 5

   Apply deduction and rebate limits

   Chapter VIII deductions are allowed only from gross total income as reduced by these gains (Section 198(6)). The Section 156 rebate is allowed only from tax on total income as reduced by the tax on these gains (Section 198(7)).

Practical checklist

Glossary

Securities transaction tax (STT)

Tax levied under Chapter VII of the Finance (No. 2) Act, 2004; its payment is a condition for Section 198 to apply.

Equity oriented fund

A mutual fund scheme under Schedule VII (Sl. No. 20 or 21) or a non-exempt ULIP scheme meeting the 65% (or 90% for fund-of-fund) listed domestic equity investment thresholds in Section 198(8).

Business trust

A trust whose units are one of the three asset types covered by Section 198(1)(b).

Frequently asked questions