How much tax you can save by investing in Capital Gain Bonds?

As the saying goes, it is always good to save money that you already have as it is to earn more. Similarly, it is also a wise decision to save your gains from taxation. One of the best ways to reduce your tax liability is to invest your long-term capital gains in Capital Gain Bonds, also known as 54EC bonds. Another alternative is to reinvest the amount in another property. However, one can always consider paying the long-term capital gains tax and investing in any other options to get better returns. But here the main question arises – How much one can save by investing in these options (bonds or property) or is there any better alternative?

Let us understand the process and analyse it:

Mr. A sells his property worth Rs 1 crore that he bought some 5 years ago. The indexed cost of acquisition is around Rs 60 lakh. His net profit is Rs 40 Lakhs. Let’s assume Mr. A decides to invest his profit amount of Rs 40 lakhs in either Capital gains bonds, Fixed income options or reinvests in a property.

Case 1 – To invest in Capital Gain Bonds

Assuming Mr. Acomes in the tax bracket of 30 percent and therefore, about one-third of the interest that he earns on capital-gain bonds would be used to pay taxes. The post-tax return would be only 3.5 percent.

Indexed cost of acquisition = Cost of acquisition x cost inflation index of the year of transfer/cost inflation index of the year of acquisition

Long-term Capital gains on the sale of property are taxed at 20% plus a Health and Education Cess if certain conditions are met. So if he would not have invested in Capital gain bonds, his tax liability would be over Rs. 12 lakh, 4 times the amount of tax he is entitled to pay after investing in Capital Gains Bonds.

Case 2 – Investment in FDs

In the case of investments made in Fixed income options, the interest earned is considered an additional source of income and, like any other source of income, is taxed according to one’s Income Tax slabs. Here Mr. A has earned an interest of nearly INR 12,00,000 (cumulative in 5 years), and he has to pay a tax of Rs 3.7 lakhs, which is more than the amount he is entitled to pay while investing in capital gain bonds.

In the below comparative analysis, it is clear that Mr. A has saved an amount of Rs 7,02,656 while investing in Capital gains bonds instead of any alternative fixed-income option.

Sr. No.	Particulars	Investing in 54 EC Bonds	Investing in alternate fixed Income option
A	Sales consideration (Rs.)	100,00,000	100,00,000
B	Purchase Value after Indexation (Rs)	60,00,000	60,00,000
C	Capital Gain (Rs) (B) - (A)	40,00,000	40,00,000
D	LTCG @ 20.8% (Rs)		8,32,000
E	Amount Invested (Rs) (C)- (D)	40,00,000	31,68,000
F	Rate of return	5%	7.50%
G	Interest Income for 5 Yrs. (Rs)	10,00,000	11,88,000
H	Interest Income after tax liability @ 31.20 (Rs)	6,88,000	8,17,344
I	Total Amount Received after 5 Years (Rs.) (E) + (H)	46,88,000	39,85,344
J	Amount saved by investing in Cap Gain Bonds (46,88,000 – 39,85,344)	7,02,656

Case 3 – Reinvesting in property

Another alternative to save long-term capital gains tax is to reinvest the amount in purchasing another residential property within a period of one year before or two years after the date of transfer of the old house or construct a residential house within a period of three years from the date of transfer of the old house. In this case, as per the guideline of Budget 2022, the maximum amount of sales proceeds should not exceed Rs. 2 Crore. Also, remember that once you exercise this option, you will not be entitled to avail of it again in the future.

The point to keep in mind here is If you invest the whole capital gains amount in buying the new house, you can get the total exemption. However, if you are using only a portion of the capital gains amount, you get a tax deduction on the proportion of the invested amount to the sale value. Also, in case one is unable to invest the long-term capital gains within the specified time, he/shecan deposit the amount in a CGAS account and within a given timeline, the money should be used to build or buy another residential property.

Particulars	Amount(INR)
Sales consideration	100,00,000
Indexed cost of acquisition and improvement	60,00,000
Long Term Capital Gain	40,00,000
Cost of new property	40,00,000
Taxable long term capital Gain	Nil

Also, one can also look at investing the amount in mutual funds or shares, because in the long run, returns from them tend to be more tax-efficient. However, their returns are not guaranteed and are subject to the risk involved with the uncertainty of the stock markets.

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