The Hindu Business Line : Taxing investment gains

The Sensex is firmly trading above 15K at least for now. Three cheers! The first, of course, to the investor, both domestic as well as foreign who have shown conviction in the India story. The second and the third to the Central Board for Direct Taxes for the crafty circular (4/2007 of June 15) which will make CBDT the winner irrespective of the game! One hopes this will not be the final tally and the judicial forum known for its balance will deliver.

The honour for the first cheer is the only common link between the Foreign Institutional and the local investors. They share a different perspective when it comes to taxation of gains. While the FIIs would want it to be called business income (and, therefore, no tax as the broker nexus is not PE), the local investors want it as capital gains. The Revenue would want to tax both respectively as capital gains and business income! At least that is what appears from the Circular.

Fiscal laws and their implementation are possibly the single largest set of litigations in India, because, with the sight of a possible conflict, both, revenue and the taxpayer interpret the legislation to suit their interest. The Revenue, with all its powers and despite the judiciary saying time and again that it cannot administer tax through circulars particularly when it is detrimental to the interest of the assessee, continues to indulge in it; the latest circular being a case in point.

As with every other departmental circular, it has a binding nature on the assessing officer, though the assessee, has a right to dispute it. But being a departmental circular, the only other forum which can take a different view is the judiciary, to which the assessee has to progressively reach through litigation!

The circulars’ purported aim is to provide tests to decide whether shares held by an assessed is an investment or a stock-in-trade. The distinction becomes material, as gains from stock in trade would get taxed as business income while that from investments would be treated as capital gains.

Who is the intended ‘assessee’?

The circular is issued without specifying any group of assessee. However, a plain reading shows that the intended target is the FII. The Department would have done well to be more specific.

The circular says that an assessee can have two portfolios one for stock-in-trade and the other for investment. It is good to read, but difficult to implement. Look at the speed with which the market has taken the index from, say, 12,000 to 15,000. What should a holder of shares do now? Is it safe to hold? Invest? Sell? Views differ.

An equity investment is not ‘put your money and close your eyes and ears’ stuff. The complexion of the investment changes with the market and events. What initially starts as an investment might become a stock-in-trade with events during the year or vice-versa. Or, one might see an opportunity to trade on the back of the shares acquired as investment, changing the nature of the holding.

Will the Department look at the end or the start position? Will it refuse to take note of the shifts in the market? Or, deny an investor the benefits of genuine market based transition decisions? How will it read the motive of the investment? What will be considered the transition point from investment to trading holding or vice-versa? The circular offers nary a clue. Also is it fair to look at dividend yield to gauge the motive of investment, unless we are talking of Widow Shares? Every investor today is looking at not just dividend, but total return. The laws have already effectively prevented dividend stripping. Why again use a bent measuring stick?

Magnitude of purchase and sale

The second criterion to be used is the magnitude of purchase, sale and holding. Surely these are related to the operations of the assessee. An individual assessee, even when he makes an investment works with unwritten rules.

Market basics: First, the market is never linear. Second, changes in the market are lumpy. Third, timing the market is simply not possible. And, finally, the love is for money and not for the stock.

Take the case of the market falling very sharply immediately after an investor has made an investment. The markets show huge volatility. Does the Department want the investor to simply sit back, because buying and selling would render his investment as stock-in-trade? OrA similar thing can happen if the market goes up too soon and the investor may want to protect his gains. How will the Department segregate the trading and investment portfolios? It looks as if the circular has been crafted without reference to the investment habits of individuals and institutions but for a static snail-paced market.

Method of accounting

The last (said first in the circular) criterion is how the investor is accounting for it. The difference is whether the holding is marked to market when there is drop in value. Accounting, fortunately, gives us the time literally till the end of the year. Despite all the quarterly requirements/advance tax, etc., it is possible to defer a final view till the very last.

(The author is a Chennai-based management consultant. He can be contacted at pbramanujam@yahoo.com)

More Stories on : Taxation | Investments

Article E-Mail :: Comment :: Syndication :: Printer Friendly Page

Stories in this Section
An idea sans vision

Is Indian aviation a flying hazard?

Aztec Software ruling will increase cost of compliance

From islands to walled cities?

Taxing investment gains — Getting the right measure

Service law conundrums

‘Engineering’ tax evasion

Finance Act, 2007 — Nuances of interpretation

BSNL issue

Science or Art?