Short term capital loss can be set off against short term capital gain or long term capital gain while long term capital loss can only be set off against long term capital gain.
What is setting off gains and losses in mutual funds?
‘Setting off’ in mutual funds is adjustment of taxable income on the basis of capital losses and capital gains. If an investor incurs capital loss in one fund, he can adjust this loss against capital gain in another fund. However, a capital loss in short term or long term cannot be set off with capital gain from other heads of income like salary, gains from selling house or gold etc.
What are the key provisions?
Short term capital loss (both in equity or debt fund) can to be set off against short term capital gain (equity or debt) or long term capital gain (debt). However, long term capital loss (equity or debt) can only be set off against long term capital gains (debt). Since long term capital gains in equity mutual funds are tax exempted, the capital loss arising out of such transactions are not eligible for setting off.
What are the limitations of setting off in case of mutual fund dividend?
In dividend option, sometimes investors buy units of mutual funds under dividend scheme with a view to gain tax free earnings based on advance information. Since the NAV of dividend option mutual fund goes down after dividend distribution, these investors sell the acquired units in loss to take the advantage of setting off in mutual funds. This potential tax avoidance approach is called as dividend stripping. Hence, to plug this loophole, setting off is not allowed if an investor buys units within 3 months prior to the record date and sells those units within 9 months after the record date.
What is the time period of taking this advantage?
Sometimes capital losses in mutual funds exceed the capital gains occurred from investments of all funds. In such conditions, the remaining capital losses could be carried forward for the next eight years. If certain year’s capital loss is not used for setting off against any capital gains then it can also be eligible for setting off as it carried forward for the next eight years. However, the speculative losses during intraday trade can be carried forward up to four years only.
Which section of Income Tax act deals with ‘Set Off’?
Section 70 (2) and Section 70 (3) deal with the setting off and carry forward norms. The Section 70 (2) of Income Tax Act defines that the short term losses can be set off against any short term or long term capital gains while Section 70 (3) states that the capital loss in long term can only be set off against capital gains of long term.
Section 70 (2) - Where the result of the computation made for any assessment year under sections 48 to in respect of any short-term capital asset is a loss, the assesse shall be entitled to have the amount of such loss set off against the income, if any, as arrived at under a similar computation made for the assessment year in respect of any other capital asset.
Section 70 (3) - Where the result of the computation made for any assessment year under sections 48 to in respect of any capital asset (other than a short-term capital asset) is a loss, the assesse shall be entitled to have the amount of such loss set off against the income, if any, as arrived at under a similar computation made for the assessment year in respect of any other capital asset not being a short-term capital asset.