Investor or Trader

What is the tax rate applicable to profits earned on share trading? Most “knowledgeable” people that I popped this question to responded with 10%.

What is the tax rate applicable to profits earned on share trading? Most “knowledgeable” people that I popped this question to responded with 10%. Many of them added that if I held on to my shares for a year, then the profits earned are tax free. Nonsense, said my tax consultant. He then proceeded to give me a long lecture on how my trading behaviour on the market and the relative importance of stock market profits in my overall income profile could be interpreted one way or the other to determine the tax rate applicable to me.

If trading in the stock market is a principal business activity for me, I am seen as a trader. In this case, my income from trading in stocks is to be treated like any other source of business income and is taxable at the marginal tax rate applicable to my income slab. On the other hand, investing in stocks may not be the principal source of income for me. So if I have invested in the stock market and my trading habits suggest that stocks are capital assets for me, then my short-term trading gains are taxable at the concessional rate of 10%. And yes, longterm gains are totally tax free.

The key question is, of course, how do the tax authorities decide who is a trader and who is investing? This ambiguity leaves open a crucial window for the tax man to use his discretion in imposing a tax rate on my share trading income. This discretion, resting as it does on ambiguity, invites corruption—by both the tax man and the tax payer. Instead, why not define stock market profits as a separate category of income, far removed from business income or capital gains?

Remember, this has already been done for income earned from property. Maybe 10% for short term and zero tax for long-term profits on the stock market is a little too generous. Fine, tweak up the rates a little. Or leave them untouched for mutual
fund investments and revise them a little upward for investments in individual stocks.

But why leave things ambiguous and hand over discretion to the administrators? For most countries that encourage private business enterprise, the stock market provides a vibrant (if volatile) source of wealth creation. I think creating wealth is a principal purpose of all businesses. By this count alone, investing is definitely a “business” activity.

Come to think of it, investing is a bigger business than business itself. The market capitalisation of a listed enterpriseoften increases (or decreases) much more than the profits it earns over a year. It is perhaps with this
perspective that India’s lawmakers and tax administrators have chosen to tax the income derived out of trading in stocks. And rightly so. I doubt if there is any country that allows you to earn tax-free profits from trading in the stock market.

But the Indian lawmakers’ ambiguity is typical of an administration that has thrived on bureaucratic controls. It’s time to free us and tax stock market profits rationally and (this is very important) simply. Better and quicker compliance will follow.

Investors will work harder on their investing, rather than on their tax returns. And corruption will find another outlet. Amen.

(By Dipen Sheth, Head of Research, Wealth Management Advisory Services)