Though the Financial Services Sector was looking at major tax incentives and deductions to be announced in the Budget 2022, the Finance Minister has managed to strike a balance and refrained from making major changes or announcements impacting the financial services industry.
One of the key changes announced in the Budget proposals is the capping of the surcharge rate on long-term capital gains at 15% arising on transfer of any long-term capital assets.
Under the existing law, the applicable surcharge rate on long-term capital gains arising on listed equity shares and units of equity-oriented mutual funds is capped at 15%.
However, long-term capital gains arising on unlisted securities attract a surcharge of as high as 37% in the case of individual taxpayers having an annual total income of more than Rs 5 crore. This has led to a disparity in taxation of long-term capital gains of unlisted securities vis-à-vis the listed ones.
The rate of surcharge has been now capped at 15% for Short Term as well as Long-Term capital gains earned by Resident taxpayers (other than Companies and Firms) arising on transfer of securities irrespective of the amount of capital gains as against the current higher rate of surcharge of 37% and 25%.
It has also been provided that in the case of the Association of Persons where all the members are companies, the surcharge shall be restricted to only 15%. This removes the parity of differential rate of surcharges which made the effective tax rate higher in the hands of certain taxpayers.
By capping the surcharge rate at 15%, the benefit of a lower surcharge rate gets extended to all classes of financial assets.
This would bring in a level playing field for investors targeting to invest in debt instruments as well as unlisted securities. Start-up communities could also foresee a boost in the direct investments received from High-Net worth Individuals (HNIs).
Also, Category I and Category II Alternative Investment Funds (AIFs) have a majority of the investments in long-term unlisted securities. At present, AIFs have been granted a pass-through status wherein entire income earned at the fund level is taxable directly in the hands of the investors in the same and like manner.
A huge portion of investments received by AIFs comes from high net-worth individuals which are generally in the nature of long-term capital gains on unlisted securities.
These investors generally fall within the bracket of enhanced surcharge ranging as high as 37%. Bringing in a cap on the surcharge rate to 15% on the long-term capital gains would provide a huge relief on the taxation front to these HNIs and provide great impetus to investments made by the investors in the fund industry.
It is interesting to note that the demand for reduction in tax rates on capital gains and increase in the exemption limit of Rs 1 lakh on long term capital gains are not addressed.
However, the reduction in surcharge rate and its applicability to all class of assets will benefit the start-ups, new-age companies as their effective tax rates gets reduced and will give a boost for investments in the unlisted space.
In a nutshell, the said announcement has provided the much-needed tax benefit for the taxpayers predominantly large players in the VC and PE side and removed the disparity on taxation for the unlisted sector as compared to the listed sector.