As per section 94(8) of the income tax act, any person buys or acquires units within a period of 3 months prior to record date and such person is allotted additional units without payment and such person sells all or any of the units within the period of 9 months after such date, then the loss arising on purchase and sell of units shall be ignored for the purpose of computing income and such loss ignored shall be deemed to be the cost of additional units received on record date.
Concept of Bonus Stripping
Investors mainly indulge
in bonus stripping as a mechanism to evade income taxes. Dividend stripping is
another means to achieve the same. However, bonus stripping is a situation when
purchase or sale of units of a listed company is transacted in a manner, which
would result in short term capital loss that can be adjusted against any other
capital gains.
In bonus stripping,
shareholders acquire units before the company makes any bonus issue. Once they
issue the bonus units, the investors sell the original units, which they had
held earlier. This can lead to short term capital loss. Later, after one year,
they dispose of the bonus units. Hence, shareholders enjoy two-fold benefits.
One benefit is the short
term capital loss for the sale of original units, which is available for set
off against any capital gains. The other is the benefit of a concessional rate
of tax of 10% of the long term gains made on the same of the bonus units.
KEY NOTE
“Dividend Stripping” are distinct from the instances of transaction as defined in sub-section (8) of section 94, i.e., “Bonus Units Stripping”
Provisions of section 94(7) are applicable in the case of securities (i.e., shares, stock or debentures, etc.) and units (Mutual fund units or units of UTI), whereas the concept of Bonus stripping is apply only to mutual fund units, and not to shares or other securities
Provision of Bonus Stripping under section 94(8)
·
covers both open ended and close ended equity funds
·
is applicable even in case where units are held as
stock in trade
·
is applicable only in respect of units and
not shares
·
does not apply if all additional units (bonus
units) are transferred before the original units are sold.
Let us understand the concept of
Bonus stripping by way of an example
v
Mr. A identified that
Company X is going to issue bonus units in the ratio of 1:1.
v
Before the record date,
he acquires 500 units of the Company. The price of the units on the said date
was Rs.1000. Hence, he acquired the units for Rs.5,00,000.
v
On the day of bonus
issue, he will receive, 1 bonus unit for every unit held. Hence, Mr A would
receive 500 bonus units.
v
Post the bonus issue,
the market value of the units declined. Each share is worth Rs 500. He sells
the 500 units he purchased for Rs. 500. Thus he makes a loss of Rs.2,50,000.
v
Later, after a year, he
sells the bonus units. Since the cost of acquisition of bonus units is Nil, the
entire proceeds received from the sale of bonus units would be his long term
capital gains.
v
In this case, Mr A can
first set off the short term losses made from original units held, against the
long term capital gains made from the sale of bonus units. Subsequently, if the
capital gains remaining after set off is greater than Rs 1 lakh, he would be
taxed on it at the rate of 10% only.
To prevent the practice of bonus stripping and with a view to
curb the tax avoidance via bonus stripping,
sub-section (8) in
section 94 was inserted by the Finance (No. 2) Act, 2004, with effect from
01.04.2005 which provide that the loss on sale of original units where bonus units have been issued will
be ignored and the amount of such loss shall be considered as the cost of
purchase of bonus units.
Memorandum
explaining the said provisions has indicated the intention of the said
legislation that in such a case where the person buys or acquires any
units within a period of three months prior to the record date and he has been
allotted additional units on the basis of such units without making any payment
and thereafter he sells or transfers within a period of nine months after such
date all or any of such units while continuing to hold all or any of the
additional units, then, the loss, if any, arising to him on account of such
purchase or sale of units shall be ignored for the purposes of computing income
chargeable to tax of such person and the amount of loss so ignored shall be
deemed to be the cost of purchase or acquisition of such additional units as
are held by him on the date of such transfer or sale.
Text
of Section 94(8)
(8) Where
(a) Any
person buys or acquires any units within a period of three months prior to
record date;
(b) Such person is allotted
additional units without any payment on the basis of holding of such units on
such date;
(c) Such person sells or transfers
all or any of the units referred to in clause (a) within a period of 9 months
after such date, while continuing to hold all or any of the additional units
referred to in clause (b),
then,
the loss, if any, arising to him on account of such purchase and sale of all or
any of such units shall be ignored for the purposes of computing his income
chargeable to tax and notwithstanding anything contained in any other provision
of this Act, the amount of loss so ignored shall be deemed to be the cost of
purchase or acquisition of such additional units referred to in clause (b) as
are held by him on the date of such sale or transfer
Explanation. - For the purposes of
this section,—
(a) “interest” includes a
dividend;
(aa) “record date” means such date
as may be fixed by -
(i) a company for the purposes of entitlement of the holder of the securities
to receive dividend; or
(ii)
a Mutual Fund or the Administrator of the specified undertaking or the
specified company as referred to in the Explanation to clause (35) of section
10, for the purposes of entitlement of the holder of the units to receive
income, or additional unit without any consideration, as the case may be;
(b) “securities” includes
stocks and shares ;
(c)
securities shall be deemed to be similar if they entitle their holders to the
same rights against the same persons as to capital and interest and the same
remedies for the enforcement of those rights, notwithstanding any difference in
the total nominal amounts of the respective securities or in the form in which
they are held or in the manner in which they can be transferred;
(d) “unit” shall have the
meaning assigned to it in clause (b) of the Explanation to section
115AB.
Definitions:
(i)
Announcement
date: The date on which bonus issue is announced.
(ii)
Ex-date:
Any day between the announcement date and the record date.
(iii) (iii) Unit means unit of mutual fund specified under
section 10(23D) or of Unit Trust of India.
(iv)
Record
date means the date fixed by the company for the purpose of determining
entitlement of shareholders to bonus shares. (i.e. the date on which the bonus
takes effect, and shareholders on that date are entitled to the bonus).
(v)
Cum
bonus Shares/units: Shares/units before the bonus is effected.
(vi)
Ex-Bonus
Shares/units: Shares/units after the bonus is effected.
Conditions for
applicability to attract the provisions of section 94(8)
Where—
(a)
any person buys or acquires any units
(original units) within a period of 3 months before the record date;
(b)
such person is received/allotted additional units (bonus units), without any
payment, on the basis of holding of such units on the record date; and
(c)
such person sells/transfers original units (excluding bonus) within a period of
9 months after the record date and holds the additional units (bonus units)..
Loss, if any,
arising to him on account of such purchase and sale of all or any of such
original units shall be –
(a)
ignored; and
(b)
deemed to be the cost of purchase or
acquisition of such bonus units held as on date of transfer.
KEY
NOTE
All
the above stated conditions have to be cumulatively fulfilled in order to
attract section 94(8).
In Brief :
|
Conditions |
Units* |
|
Bought or acquired (Original
units) |
Within a period of 3
months prior to the record date |
|
Allotment of additional units
(Bonus units) |
Without any payment on such
record date |
|
Sold or transferred (Original
units) |
Within 9 months after the
record date |
|
Holds atleast one additional
bonus unit |
On the date of such sale or
transfer of original units |
*Provisions of section 94(8) are applicable only in
respect of units and not for shares.
Income tax implications
on Bonus Stripping
As a check on the activity of bonus
stripping, provisions under Section 94(8) of the Income-tax Act, 1961 were
introduced into the statute books. According to this section, if a person:
·
acquires units within 3
months prior to the record date
·
on which bonus units are
subsequently announced,
·
and the original units
are sold within 9 months from the record date
the shareholder will not be allowed
to book the loss on such sale transaction. Moreover, such losses would be
considered as the Purchase Price of the bonus units acquired.
Benefits of Indexed cost of Acquisition available
Since the loss is considered to be the cost of acquisition of
the bonus units held on the date of sale, the benefits
of indexation should be available on such deemed cost of acquisition.
Example
on Bonus Stripping
Example - 1
XYZ mutual funds declare 1:1 bonus units on its
units on 30.04.2020. The record date for bonus units issue fixed to be 31.05.2020.
Mr. A purchases 10,000 units (Original units) of XYZ mutual funds on
15.05.2020 at a rate of Rs. 50 per unit. Mr. A sells 10,000 original units on
15.12.2020 at a rate of Rs. 35 per unit.
|
S. No. |
Particulars |
Calculation (Amount in Rs.) |
|
(i) |
Sales value (10000 x 35) |
3,50,000 |
|
(ii) |
Cost of acquisition (10000 x
50) |
5,00,000 |
|
(iii) |
Short term capital Loss [(i) –
(ii)] |
1,50,000 |
|
(iv) |
No. of bonus units |
10,000 |
According to the provisions of section 94(8), The
Short term capital loss amount to Rs. 1,50,000/- shall not be considered in
computing the total income and such short term capital loss shall neither be
set off nor be carried forward.
Hence, the cost of acquisition of 10,000 bonus units shall be taken to be Rs. 1,50,000.
Example – 2
If in above example, Mr. A sells 10,000 original
units on 15.12.2020 at a rate of Rs. 35 per unit and 7,000 units of such bonus
units at a rate of Rs. 35 per unit on 20.12.2020 then-
|
Particulars |
Calculation (Amount in Rs.) |
||
|
Original
units (10,000) |
Bonus
units (7,000) |
||
|
(i) |
Sales
value |
3,50,000 |
2,45,000 |
|
(ii) |
Cost of
acquisition |
5,00,000 |
1,05,000* |
|
(iii) |
Short
term capital Loss/Gain [(i) – (ii)] |
(1,50,000) |
1,40,000 |
CONSEQUENCE
According to the provisions of section 94(8), the
Short term capital loss amount to Rs. 1,50,000/- shall not be considered in
computing the total income and such short term capital loss shall neither be
set off nor be carried forward. Hence, the cost of acquisition of 10,000 bonus
units shall be taken to be Rs. 1,50,000.
*Cost of acquisition of 7,000 bonus units = 1,50,000
x 7,000 = Rs. 1,05,000
10,000
The Short term capital gain on sale of bonus units Rs. 1,40,000 shall be taxable.
Example – 3
If in example 1, Mr. A sells all the 10,000 bonus
units on 20.10.2020 at a rate of Rs. 35 per unit and 10,000 original units on
15.12.2020 at a rate of Rs. 35 per unit then –
|
S. No. |
Particulars |
Calculation
(Amount in Rs.) |
|
|
Original units (10,000) |
Bonus units (10,000) |
||
|
(i) |
Sales value |
3,50,000 |
2,45,000 |
|
(ii) |
Cost of acquisition |
5,00,000 |
NIL |
|
(iii) |
Short term capital Loss/Gain [(i)
– (ii)] |
(1,50,000) |
3,50,000 |
CONSEQUENCE
In this case, the provisions of section 94(8) are
not applicable since as on the date of sale of original units, the assessee
does not hold any additional bonus unit. The Short term capital loss amount to
Rs. 1,50,000 is allowed to set off and carried forward.
Where assessee purchased
certain shares immediately prior to allotment of bonus shares and after
allotment of those shares original shares whose value had reduced to almost 50
per cent were sold, said transaction being in nature of ‘bonus stripping’ was
covered under section 94(8) and, since said section covered only 'units' and not ‘securities’, assessee's
claim for set off of said loss could not be disallowed
Provisions of section 94(8) have no applicability to securities which
include shares. Assessee entered into transactions of purchase and sale of
shares through Portfolio Management System (PMS). In course of assessment
proceedings, Assessing Officer found that shares of two companies were
purchased in quick succession, at time when bonus shares were due to be
allotted i.e. assessee bought these shares cum-bonus and immediately after
allotment of bonus shares, original shares whose value had reduced to almost 50
per cent due to allotment of bonus shares were sold at reduced market price. As
a result thereof, assessee incurred a loss even though his wealth remained
intact. Assessing Officer treated said transactions as trading activities and,
thus, loss incurred in respect of those transactions was rejected to be set off
against long-term capital gain on sale of other shares. Commissioner (Appeals)
held that these share transactions to be ‘bonus stripping’ in investors’
parlance and held them to be covered under section 94(8). Commissioner (Appeals) further opined that
since section 94(8) covered only ‘units’ and not ‘securities’,
assessee’s claim for set off of loss could not be rejected. On facts, impugned
order passed by Commissioner (Appeals) did not require any interference. [In
favour of assessee] (Related Assessment year : 2007-08) – [DCIT v. B.G.
Mahesh (2014) 64 SOT 39 :
43 taxmann.com 158 (ITAT Bangalore)]
Provision of section 94(8) can not be applied to assessment year 2004-05
Avoidance of tax by certain transactions in securities (Bonus
shipping) - Since provision of section 94(8), relating to bonus stripping was introduced with
effect from 01.06.2005, i.e., from assessment year 2005-06 onwards, it could
not be applied to year under consideration. [In favour of assessee] (Related
Assessment year : 2004-05) – [DCIT v. H.S. Maini (2014) 51 taxmann.com 118 (ITAT Bangalore)]
Assessee was in business of trading in shares. It purchased certain bonds on 09.12.2002 at rate of Rs. 15.54 and sold same on 16.12.2002 at rate of Rs. 10.40. Accordingly, assessee suffered certain loss, which was claimed as short-term capital loss. Assessee had also received certain additional units as bonus units on account of holding aforesaid bonds. Assessing Officer opined that assessee had undertaken dividend stripping strategy to avoid tax on capital gains and, thus, by invoking provisions of section 94(7), he disallowed short-term capital loss claimed by assessee. On appeal, Commissioner (Appeals) opined that case of additional unit or bonus unit was covered under provisions of section 94(8), which were inserted by Finance (No. 2) Act, 2004 with effect from 01.04.2005. However, since case under consideration related to assessment year 2003-04, provisions of section 94(8) were not applicable. Accordingly, Commissioner (Appeals) held that Assessing Officer was not justified in invoking provisions of section 94(7) and directed him to allow assessee’s claim. Instances as defined in sub-section (7) of section 94, i.e., ‘Dividend Stripping’, are distinct from instances of transaction as defined in sub-section (8) of section94, i.e., ‘Bonus Unit Stripping’. Commissioner (Appeals) rightly reversed action of Assessing Officer. [In favour of asseessee] (Related Assessment year : 2003-04) – [DCIT v. Ghanshyam Dass Seth (2009) 121 TTJ 805 : (2008) 26 SOT 166 (ITAT Delhi)]
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