When you invest in assets like stocks, bonds, mutual funds, or real estate, the goal is to realise gains. However, your gain is not necessarily determined by the amount you earn but by how long you hold that asset. The gain made when selling an asset is classified as ‘capital gains’. Depending on how long the asset has been held before it is sold, the gains fall into the category of either short-term or long-term capital gains. Both types of capital gains are taxed differently, and understanding these differences is critical for effective tax planning and wealth management, particularly when considering how to calculate tax on mutual fund redemption. In this article, we will explore the key differences between short-term and long-term capital gains, the tax implications, and more.
What are Capital Gains?
Capital gains refer to the profit or capital appreciation earned from the sale of assets such as stocks, mutual funds, real estate, or other investments. For instance, if you purchase shares from a firm for ₹100 per share and then you sell the same at ₹150 per share, the capital gain would be ₹50 per share. The tax on such capital gains in India depends upon the holding period of the asset. If the asset is sold within a short period, typically less than one year, it is considered a short-term capital gain, whereas if held for more than a year, it is classified as a long-term capital gain. The tax rate varies accordingly.
Understanding Short-Term Capital Gains (STCG)
Short-term capital gains (STCG) refer to the gain earned from the sale of assets that have been held for one year or less. In other words, if you sell an asset within one year of purchasing it, any gain made from the sale is considered short-term capital gain. For instance, if you buy shares of a company for ₹100 each and sell them within 10 months for ₹150 each, the ₹50 per share gain will be classified as short-term capital gains. STCG is subject to a higher tax rate compared to long-term capital gains, as it encourages investors to hold assets longer.
Understanding Long-Term Capital Gains (LTCG)
Long-term capital gains (LTCG) are the gains earned from the sale of assets that have been held for more than one year. If you buy an asset, such as stocks or real estate, and sell it after holding it for over a year, any gain you make is classified as a long-term capital gain. For example, if you purchase a piece of land in 2020 and sell it in 2023 at a higher price, the gain from that sale will be considered long-term capital gain because the asset was held for more than a year. LTCG typically enjoys more favourable tax treatment compared to short-term gains.
Key Differences Between Short-Term and Long-Term Capital Gains
Here’s a simple table summarising the key differences between Short-Term Capital Gains (STCG) and Long-Term Capital Gains (LTCG) based on tax treatment and holding periods:
| Aspect | Short-Term Capital Gains (STCG) | Long-Term Capital Gains (LTCG) | |
| Tax Treatment | Taxed at the individual’s income tax rate, up to 30%. | Taxed at a lower rate, typically around 20%. | |
| Holding Period | The asset must be sold within 1 year of purchase. | The asset must be held for more than 1 year. | |
| Applicable Asset Types | Commonly applied to all assets including stocks, and mutual funds held for less than the specified holding period. | Commonly applied to stocks, real estate, mutual funds, etc. held beyond the specified holding period. | |
| Tax Exemptions | No exemptions are generally available.
|
Some exemptions may apply depending on the asset class. |
How to Calculate Tax on Mutual Fund Redemption
When it comes to how to calculate tax on mutual fund redemption, the process is relatively straightforward but varies based on the holding period:
- Short-Term Capital Gains Tax: If you redeem your mutual fund units within one year, the gains are taxed at 15%.
- Long-Term Capital Gains Tax: If you redeem your mutual fund units after holding them for more than one year, the gains exceeding ₹1 lakh are taxed at 10%.
Mutual fund investors should keep track of the holding period of their investments and calculate the capital gains tax based on the type of mutual fund (equity, debt, hybrid) and whether the gains are short-term or long-term. Understanding EMI meaning is important for anyone using loans in their investment strategy, as capital gains taxes can affect financial planning, liquidity, and regular payments.
Conclusion
Understanding the difference between short-term and long-term capital gains is vital for investors, as tax implications play a key role in determining overall investment returns. Short-term capital gains (gains on assets held for one year or less) are taxed at higher rates, which can reduce the net profit from investments. On the other hand, long-term capital gains (gains on assets held for more than a year) benefit from lower tax rates, especially for equity investments. By holding assets for longer periods, investors can take advantage of these lower tax rates, leading to more tax-efficient growth and greater wealth accumulation over time.
