Capital Gain Bonds in India: A Smart Way to Save Tax on Long Term Capital Gains

Capital Gain Bonds in India: A Smart Way to Save Tax on Long Term Capital Gains

If you have sold a long-term capital asset such as land or building and made a profit, you may have to pay tax on the capital gains. However, there is a way to avoid or reduce this tax liability by investing the gains in certain bonds. These bonds are called capital gain bonds and they offer tax exemption under section 54EC of the Income Tax Act, 1961.

What are capital gain bonds?

Capital gain bonds are fixed income instruments issued by certain government entities that are eligible for tax exemption under section 54EC. These bonds have a lock-in period of 5 years, which means you cannot sell or transfer them before the maturity date. The interest rate on these bonds is usually around 5% per annum, which is taxable in the hands of the investor.

Who can issue capital gain bonds?

The following entities are authorized to issue capital gain bonds under section 54EC:

• National Highways Authority of India (NHAI)
• Rural Electrification Corporation Limited (REC)
• Power Finance Corporation Limited (PFC)
• Indian Railway Finance Corporation Limited (IRFC)

Who can invest in capital gain bonds?

Any taxpayer, including individuals, Hindu Undivided Families (HUFs), companies, LLPs, firms, and others, can invest in capital gain bonds to claim tax exemption under section 54EC. However, the exemption is available only for long-term capital gains arising from the sale of land or building or both. The asset should be held for at least 24 months before the sale to qualify as long-term.

How much can one invest in capital gain bonds?

The maximum amount that one can invest in capital gain bonds in a financial year is Rs. 50 lakhs. This limit applies across all the issuers of these bonds. For example, if you invest Rs. 30 lakhs in NHAI bonds and Rs. 20 lakhs in REC bonds in a financial year, you cannot invest more than Rs. 50 lakhs in any other capital gain bonds in the same year.

How to invest in capital gain bonds?

To invest in capital gain bonds, you need to fill up an application form and submit it along with the required documents and payment to the authorized bank or broker. You can also apply online through the websites of the issuers or through online platforms like GoldenPi or bondbazaar  . You need to invest the capital gains within 6 months from the date of sale of the asset to claim the exemption.

How to calculate the tax exemption by investing in capital gain bonds?

The tax exemption by investing in capital gain bonds is calculated as follows:

• If you invest the entire capital gains in these bonds, the entire amount will be exempt from tax.
• If you invest less than the capital gains in these bonds, only the proportionate amount will be exempt from tax.

For example, suppose you sell a property for Rs. 70 lakhs after holding it for 42 months. The indexed cost of acquisition is Rs. 46 lakhs and the indexed cost of improvement is Rs. 10 lakhs. The capital gains are Rs. 14 lakhs (70 - 46 - 10). If you invest Rs. 14 lakhs in capital gain bonds within 6 months, the entire amount will be exempt from tax. However, if you invest only Rs. 10 lakhs in these bonds, only Rs. 10 lakhs will be exempt from tax and you will have to pay tax on the remaining Rs. 4 lakhs.

What are the benefits and drawbacks of investing in capital gain bonds?

The benefits of investing in capital gain bonds are:

• You can save tax on long-term capital gains by investing in these bonds.
• You can earn a fixed income from these bonds at a reasonable interest rate.
• You can diversify your portfolio by investing in these bonds.

The drawbacks of investing in capital gain bonds are:

• You have to lock-in your money for 5 years and cannot withdraw or transfer it before maturity.
• You have to pay tax on the interest income from these bonds as per your tax slab.
• You may miss out on other investment opportunities that may offer higher returns or liquidity.

Conclusion

Capital gain bonds are a smart way to save tax on long-term capital gains from selling land or building. However, they also come with certain limitations and risks that you should consider before investing. You should compare these bonds with other tax-saving options like ELSS funds or NPS and choose the one that suits your risk appetite and financial goals.

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