The government is betting big on the long term capital gains tax (LTCG) on equities for mobilising revenue as currently the amount of income earned from the stock markets that is exempted from this tax works out to a whopping Rs 3.76 lakh crore which would translate into a tax collection to the tune of Rs 37,000 crore going ahead. The figure has been compiled from all the income tax returns filed in 2017-18.
Finance minister Arun Jaitley told a news channel that the budget for 2018-19 estimates this tax collection during 2018-19 as Rs 20,000 as all earnings till January 31 this year are exempt from the tax under the grandfathering clause to avoid retrospective taxation. However, from 2019-20 onwards when this clause is no longer applicable the 10% tax works out between Rs 37,000 to Rs 38,000 crore.
He said the government views this as a progressive tax as it will impact mainly high net worth individuals who invest large sums in the stock markets and cannot be allowed to get away without paying any tax on these earnings. Since the tax is being levied on annual earnings above Rs 1 lakh the smaller investors comprising the middle class will not be impacted by the tax, he explained. The budget has also imposed a 10 per cent distribution tax on long-term capital gains from equity mutual funds which were a fast-growing segment.
The finance minister has also pointed out that a major part of the gain has accrued to corporates and LLPs (limited liability partnerships) which has created a bias against manufacturing, leading to more business surpluses being invested in financial assets. The return on investment in equity is already quite attractive even without tax exemption and therefore there is a strong case for bringing long term capital gains from equities in the tax net, he stated.
HOWEVER, brokerages are of the view that because of the 10% tax, some investors would shift out of equities as a result of which the government may not be able to rake in much more. American brokerage Morgan Stanley, for instance, is of the view that life insurance products, particularly ULIPs could be relatively attractive from a medium-to long-term. ``We believe against the given backdrop, life insurance products, particularly ULIPs could appear relatively attractive from a medium- to long-term perspective,'' Morgan Stanley said in a weekend note.
Taxation of insurance products is governed by section 10d (of Income Tax Act), where the income is tax-free in the hand of the investor at the time of withdrawal. We await the Budget fine-print for further clarity, but if the above details are accurate, it should benefit private players like ICICI Prudential Life and HDFC Life, it said.
Meanwhile, mutual fund experts are of the opinion that the taxation move on equity gains as well as on dividends from mutual funds could pose a small hurdle for investment flows into MFs. But they warned that the move could impact long-term investments in the segment and said government should look at the possibility of people moving into ULIPs to avoid the tax. While on the day of the Budget, the market managed to recover lost ground after crashing during the finance minister's speech, the following day turned out to be a bloodbath.
The Sensex plunged over 800 points wiping out a combined market cap of over Rs 4.5 lakh crore across stocks. This was the worst crash since November 2014. The broader Nifty sank below the 10,800-mark in frantic sell- off. While some experts have urged for a withdrawal of the tax following the stock market crash, the government has made it clear that the move is based on a strong economic logic.