Income Tax Return: An Overview

What is Income Tax Return?

A n Income tax return (ITR) is a form used to file information about your income and tax to the Income Tax Department. The tax liability of a taxpayer is calculated based on his or her income. In case the return shows that excess tax has been paid during a year, then the individual will be eligible to receive an income tax refund from the Income Tax Department.

As per the income tax laws, the return must be filed every year by an individual or business that earns any income during a financial year. The income could be in the form of a salary, business profits, income from house property or earned through dividends, capital gains, interests or other sources.

Tax returns have to be filed by an individual or a business before a specified date. If a taxpayer fails to abide by the deadline, he or she has to pay a penalty.

Income from Share Market

We all know that income from salary, rental income and business income is taxable. But what about income from the sale or purchase of shares? Many homemakers and retired people spend their time gainfully buying and selling shares but are unsure how this income is taxed. Income/loss from the sale of equity shares is covered under the head ‘Capital Gains.

Short-Term Capital Gains (STCG) 
If equity shares listed on a stock exchange are sold within 12 months of purchase, the seller may make a short-term capital gain (STCG)  or incur a short-term capital loss (STCL). The seller makes short-term capital gains when shares are sold at a price higher than the purchase price.

Calculation of short-term capital gain = Sale price minus Expenses on Sale minus Purchase price

Long-Term Capital Gains (LTCG) 
If equity shares listed on a stock exchange are sold after 12 months of purchase, the seller may make a long-term capital gain (LTCG) or incur a long-term capital loss (LTCL).

Before the introduction of Budget 2018, the long-term capital gain made on the sale of equity shares or equity-oriented units of mutual funds was exempt from tax, i.e. no tax was payable on gains from the sale of long-term equity investments.

The Financial Budget of 2018 took away this exemption. Henceforth, if a seller makes a long-term capital gain of more than Rs.1 lakh on the sale of equity shares or equity-oriented units of a mutual fund, the gain made will attract a long-term capital gains tax of 10% (plus applicable cess). Also, the benefit of indexation will not be available to the seller. These provisions will apply to transfers made on or after 1 April 2018.

Also, this new provision was introduced prospectively, i.e. gains starting from the 1st of Feb 2018 will only be considered for taxation. This is known as the ‘grandfathering rule’. Any long-term gains from the equity instruments purchased before the 31st of January 2018 will be calculated according to this ‘grandfathering rule’.

What is the Grandfathering clause in section 112A?

To protect the interests of investors, CBDT introduced grandfathering clauses to ensure that the tax is only prospective in nature, and so the tax is levied only on the gains from the date of levy of such tax. For this, the cost of acquisition of the equity or equity-related securities is to be calculated on the basis of a formula covered in section 112A.

Use the below formula for calculating COA:

Value I- Fair Market Value as of 31st Jan 2018 or the Actual Selling Price whichever is lower 
Value II – Value I or Actual Purchase Price whichever is higher 
Long Term Capital Gain = Sales Value – Cost of Acquisition (as per grandfathering rule) – Transfer Expenses

Tax Liability = 10% (LTCG – INR 1 lac)

Guidance for Treating Share Sale as Business Income

Certain taxpayers treat gains or losses from the sale of shares as ‘income from a business, while others treat it as ‘Capital gains. Whether your gains/losses from the sale of shares should be treated as business income or be taxed under capital gains has been a matter of much debate.

In case of significant share trading activity (e.g. if you are a day trader with lots of activity or regularly trade in Futures and Options), your income is usually classified as income from the business. In such a case, you are required to file an ITR-3, and your income from share trading is shown under ‘income from business & profession’.

Calculation of Income From Business vs Capital Gains

When you treat the sale of shares as business income, you can reduce expenses incurred in earning such business income. In such cases, the profits would be added to your total income for the financial year and, consequently, charged at tax slab rates.

If you treat your income as capital gains, expenses incurred on such transfer are allowed for deduction. Also, long-term gains from equity above Rs 1 lakh annually are taxable, while short term gains are taxed at 15%.

What should be classified as significant share trading activity though it has led to uncertainty and a lot of litigation? Taxpayers receive notices from the tax department and spend a lot of time and energy explaining why they chose a particular tax treatment for the sale of shares.

Penalty for Late Filing Income Tax Return

Taxpayers who do not file their income tax return on time are subject to penalties and charged interest on the late payment of income tax. Also, the penalty for late filing income tax returns on time has been increased recently. The penalty for late filing income tax return is now as follows:

Late Filing between 1st August and 31st December - Rs.5000   
Late Filing After 31st December - Rs.10,000   
Penalty if taxable income is less than Rs.5 lakhs - Rs.1000