Section 48 of Income Tax Act

Section 48 of the Income Tax Act provides for the calculation of capital gains arising from the sale of capital assets. It helps taxpayers to find out the actual gain that they have earned. As per the section, the actual capital gain earned by a person can be calculated by deducting the cost of acquisition of the capital asset from its sale price.

-What is Capital Gain?

As per the Income Tax Act, the capital gain is the difference between the transfer price and the cost of acquisition of the asset.

Thus, Capital Gain = Sale Price - Cost of Acquisition

There are two types of capital gains:

• Long Term Capital Gain (Asset held for more than 36 months)

• Short Term Capital Gain (Asset held up to 36 months)

Following are the expenses that are allowed as deductions from the capital gain for the purpose of income tax:**

-Cost of Acquisition/Improvement: The cost of acquisition or improvement is adjusted for inflation using the inflation index. The cost inflation index is released by the CBDT.

-Sale Expenses: All the expenses incurred by the assessee in connection with sale such as brokerage charges must be deducted from the sale price.

-Transfer Expenses: Transfer expenses, such as stamp duty, registration charges, etc., must be excluded from the sale price.

Thus, as per section 48 Income Tax Act,

Net capital gain = Capital gain - cost of acquisition- sale expenses- transfer expenses.

Let us consider an example to help us understand the formula better.

Mr. A purchased a house for ₹ 20,00,000. After a few years, he sold the house for ₹45,00,000. He also incurred expenses such as brokerage charges ₹ 10,000 and legal charges ₹5000. Thus, as per section 48, his actual capital gain is as follows:**

₹45,00,000 - ₹20,00,000 - ₹10,000 - ₹5,000 = ₹10,00,000

So, the actual capital gain of Mr. A is ₹10,00,000 after deducting the expenses that he incurred in connection with the transfer.

A proviso is a clause added to the main enactment or provision. Its purpose is to include something in the provision or to limit its applicability. In simple terms, proviso means exceptions. The provisos to section 48 are the exceptions to the provisions stated in the main section.

There are seven provisos to section 48. Let us understand each one briefly.

-First proviso to Section 48

The first proviso applies to Non-Resident Indians. It applies when an NRI purchases a capital asset in a foreign currency and receives the consideration in Indian rupees on transfer.

Suppose an NRI purchases the stocks of a foreign company in foreign currency. However, when the shares are transferred or sold, the sale price is received in Indian rupees. As per the first proviso, the sale consideration received in Indian currency must be converted back to the original foreign currency used to buy the shares.

By converting the shares back to foreign currency, the taxpayers can smoothly sail through the complexities of exchange rate fluctuations and compute the capital gains effortlessly.

-Calculating the Benefits of First proviso

Here are the steps to gain the benefits of the first proviso of section 48:

• Convert the sale proceeds and expenses related to the sale back to the foreign currency which was originally used to make the purchase. The conversion can be done by calculating the average of TTBR and TTSR. TTBR full form is telegraphic Transfer Buying Rate.

• Next, you must find out the average rate on the date on which the asset was purchased and convert it into the foreign currency.

• If there is a capital gain from the sale transaction, it must be converted into the original foreign currency using the Telegraphic Transfer Buying Rate on the date of transfer.

Let us understand the first proviso to section 48 example as given below.

Mr. Akash (NRI) sent US $30,000 to India on 16.9. 1989. The dollars are partially utilised to purchase shares of an Indian company on 3.10.1989, costing ₹1,20,000. Later, the shares were sold for ₹10,00,000 on 30.3.2022.

The TTBR and TTSR by the State Bank of India for US dollars is as follows:

16.9.1989	18	20
3.10.1989	19	21
30.3.2022	74	76

The capital gain will be calculated as given below

Details	US $
Sale Consideration (10,00,000/75)	13,334 (rounded off)
Less: cost of acquisition (1,20,000/20)	6000
Long Term capital gain	7334
Capital gain converted converted into Rupee (7334x74)	₹5,42,716

-Second proviso

The second proviso lays down the guidelines for indexation benefits of the long-term capital gain. This proviso is applicable to all assesses, including the Indians and the NRIs. Thus, for the purpose of calculating the capital gain, one must consider the indexed cost of acquisition and indexed cost of improvement.

Indexed cost allows you to adjust the purchase of the capital asset based on the sale price. Thus, it results in lower capital gains and lower taxes.

-Third proviso

The third proviso implies that the first and second proviso will not be applicable if Rule 112 A is taken into consideration. Rule 112 A states that when an asset such as equity shares, unit of equity fund, business trusts is transferred long term capital gains tax @12.5% will be applicable if the gains exceed 1.25 lakhs.

-Fourth proviso

According to the fourth proviso of section 48, the second proviso shall not apply for long term capital gains on transfer/sale of debentures or bonds in the following cases.

• When capital-indexed bonds are issued by the government

• When the RBI issues SGBs.

-Fifth proviso

The fifth proviso is applicable to the NRI assesses when they earn capital gains from the INR-denominated bonds. The proviso states that if the capital gains during redemption are due to the appreciation of the rupee (INR) against the dollar rate, the taxpayers need not consider this increase in value as capital gains.

Here is an example to help you understand the application of this proviso better.

Date of purchase of bonds: 1 April, 2020

Purchase price: ₹10,00,000

Redemption date: 1 January, 2024

Redemption value: ₹12,00,000

USD/INR rate on the date of purchase: 75

USD/INR rate on redemption date: 70

Calculation of capital gains:

Capital gains = Redemption value- purchase price

₹12,00,0000-₹10,00,000

Capital gains = ₹2,00,000

Calculation of capital gain due to currency appreciation:

Initial capital invested in USD= 10,00,000/75= $13,333.33

Redemption value in USD= 12,00,000/70= $17142.86

Appreciation due to currency fluctuation = $ 3809.53

Original capital gain: 2,00,0000

Gains due to INR appreciation = $3809.53 x 70= ₹2,66,667.10

Actual capital gain-original gain-gains due to INR appreciation

I.e. 2,00,000-2,66,667.10= (66,667.10) negative value.

-Sixth proviso

The sixth proviso of this act is applicable when the shares or debentures are transferred under the provisions of section 47 (iii)*. It states that taxpayers can consider the market value of assets on the date of transfer, which must be taken as its full consideration.

*Section 47 (iii)- it deals with the transfer of shares/capital assets under a gift or irrevocable trust.

-Seventh proviso

The deductions* under section 48 cannot be claimed by an assessee while calculating the capital gains if the translation is subject to security transaction tax. It is essential to note that STT is applicable on transactions of securities listed on a recognised stock exchange.

*it includes the deduction related to the cost of acquisition, cost of improvement, and other expenses incurred in connection with the transfer of the capital asset.

The following example explains the proviso clearly;

Asset: Shares of a listed company

Purchase price: ₹75,000

Sale consideration: ₹ 1,25,000

STT : ₹20,000

Calculation of capital gains without proviso(assuming no STT)

Capital gains = sale consideration- cost of acquisition

₹ 1,25,000- ₹ 75,000= ₹ 50,000

Calculating capital gains as per the proviso seventh (considering STT)

Sale consideration: ₹ 1,25,000

Less: no deductions allowed

Capital gains: ₹ 1, 25,000

Thus, we can understand that when STT comes into the picture, the assessee does not get the benefit of deducting the cost of acquisition. In such a case, the capital gain is higher.

Section 48 Income Tax Act deals with a very crucial topic of capital gains, assisting the taxpayers to calculate their taxable income accurately. The section clearly states the deductions that must be made from the capital gains to arrive at the correct taxable amount.

The section also contains seven proviso or exceptions that enlist the different situations and how capital gain must be calculated under each scenario. It is pivotal for taxpayers to understand section 48 as it helps them to know their actual tax liability and unnecessarily give away money in taxes.
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