Tax Loss Harvesting: A Smart Strategy to Reduce Your Taxes
Tax-loss harvesting is a powerful strategy used by investors to offset capital gains tax by selling stocks that have incurred a loss. By strategically realizing losses, you can reduce your taxable income. With the latest tax changes, understanding tax-loss harvesting has become even more crucial for investors in India.
How Does Tax Loss Harvesting Work?
When you sell a security at a loss, the realized loss can be used to offset capital gains earned from other investments. This helps in lowering your overall tax liability. If your losses exceed the gains, they can even be carried forward to future financial years.
Important Tax slab changes (Effective from 23rd July 2024)
● Short-Term Capital Gains (STCG) on securities sold before 23rd July 2024 are taxed at 15%.
● STCG on securities sold on or after 23rd July 2024 will be taxed at 20%.
● Long-Term Capital Gains (LTCG) up to ₹1,25,000 are tax-free.(Limit increased from 1 Lakh to 1.25 Lakhs)
● LTCG exceeding ₹1,25,000 is taxed at 10% if the gains are realised before 23rd July 2024.
● LTCG exceeding ₹1,25,000 is taxed at 12.5% if the gains are realised on or after 23rd July 2024.
Understanding Tax-Loss Harvesting with Examples
Case 1: Short-Term and Long-Term Capital Gains
Scenario:
● You bought Stock A for ₹2,00,000 and sold it for ₹2,50,000 within 6 months (short-term gain of ₹50,000).
● You bought Stock B for ₹3,00,000 and sold it after 2 years for ₹4,50,000 (long-term gain of ₹1,50,000).
Tax Calculation:
1. If you sold Before 23rd July 2024:
● STCG tax: 15% of ₹50,000 = ₹7,500
● LTCG up to ₹1,25,000 is tax-free, so taxable LTCG = ₹1,50,000 - ₹1,25,000 = ₹25,000
● LTCG tax: 10% of ₹25,000 = ₹2,500
● Total Tax Payable: ₹10,000
2. If you sold On or after 23rd July 2024:
● STCG tax: 20% of ₹50,000 = ₹10,000
● LTCG tax: 12.5% of ₹25,000 = ₹3,125
● Total Tax Payable: ₹13,125
Case 2: Offsetting Short-Term Capital Gains
Scenario:
● You earn ₹1,00,000 in STCG.
● You hold stocks with an unrealized loss of ₹60,000.
Calculation:
1. If sold before 23rd July 2024:
● Tax on ₹1,00,000 STCG = 15% of ₹1,00,000 = ₹15,000
● After harvesting losses, net STCG = ₹40,000
● New tax = 15% of ₹40,000 = ₹6,000
● Tax saved = ₹9,000
1. If sold on or after 23rd July 2024:
● Tax on ₹40,000 STCG = 20% of ₹40,000 = ₹8,000
● Tax saved = ₹7,000
Case 3: Long-Term Capital Gains (LTCG) Considerations
Scenario:
● You have ₹2,00,000 in LTCG
● You hold stocks with an unrealized loss of ₹50,000.
Calculation:
● LTCG tax exemption for the first ₹1,25,000.
● Tax applies to ₹75,000 at applicable rates.
● If sold before 23rd July 2024:
● LTCG tax = 10% of ₹75,000 = ₹7,500.
● Net LTCG after harvesting loss = ₹25,000.
● New tax liability = 10% of ₹25,000 = ₹2,500.
● Tax saved = ₹5,000.
● If sold on or after 23rd July 2024:
● LTCG tax = 12.5% of ₹75,000 = ₹9,375.
● Net LTCG after harvesting loss = ₹25,000.
● New tax liability = 12.5% of ₹25,000 = ₹3,125.
● Tax saved = ₹6,250.
Case 4: No Immediate Tax Savings
Scenario:
● You incur ₹50,000 in capital losses but have no realized capital gains this year.
● The losses can be carried forward for 8 years to offset future gains.
Key Considerations for Tax-Loss Harvesting
● Long-term capital loss will only be adjusted towards long-term capital gains. However, a short-term capital loss can be set off against both long-term capital gains and short-term capital gain.
● FIFO Accounting: The First In, First Out (FIFO) method applies when computing capital gains. If stocks held under both short-term loss and long-term profit are sold, the entire holding must be liquidated to book the short-term loss.
● This strategy benefits investors with realized gains. If realized losses exceed gains, there may be no immediate tax savings (losses can be carried forward).
● Consult a Chartered Accountant (CA): Before executing tax-loss harvesting, it's best to consult a CA to verify your buy average, P&L, and tax implications before making a decision.
Tax-loss harvesting is a valuable tool to minimize tax liability. With the revised tax rates from 23rd July 2024 (according to the latest budget), carefully planning investment exits can significantly impact post-tax returns. Always verify your buy average, P&L, and tax implications before making a decision.
India
NRI
