Use this index to save taxes on your profit!

The Income Tax Department has notified the Cost Inflation Index or CII for the financial year 2024-25. CII is used to calculate the long term capital gains arising from selling an asset. What is Cost Inflation Index? How can you save tax on the income earned from selling capital assets, through this? How is capital gain calculated? Let’s understand.

Cost Inflation Index is actually a number which reflects inflation. Central Board of Direct Taxes i.e. CBDT releases it every year. CBDT has kept CII at 363 for the financial year 2024-25. CII’s figure for the financial year 2023-24 was 348 while for the financial year 2022-23 it was 331. Cost Inflation Index is used to calculate the real profit from sale of a capital asset like property, gold, unlisted shares by adjusting to inflation. It is also called indexation benefit, which helps in reducing tax liability.

Suppose you bought a property on  September 1, 2002 for Rs 10 lakh and sold it on September 1, 2023 for Rs 60 lakh. You would think that there is a capital gain of Rs 50 lakh. But that’s not so. Actually, there are two things behind this huge profit. Firstly, the market value of the property increases over time and secondly, the price increases due to inflation.

Due to inflation, the value of money decreases with time. Cost Inflation Index shows that something which was sold for Rs 100 in the year 2001, today it is being sold for Rs 363. This means that purchasing power has decreased due to inflation. Due to inflation, your actual capital gain is not as much as it appears. In order to provide relief to the taxpayers, the Income Tax Department allows adjustment for inflation, for which Cost Inflation Index is required.

Now let us know how Cost Inflation Index helps in reducing capital gains and tax on it.

The benefit of indexation can be availed only in case of long term capital gains. Holding property like house, flat or plot or unlisted shares for more than 24 months and selling them, in case of gold, holding for more than 36 months is considered long term. The profit from selling it is considered as long term capital gain.

Staying with the example above, since the property is sold after two years, he gains would be considered long term. But long term capital gain will not be Rs 50 lakh. Here you will get the benefit of adjusting the cost according to inflation.

The formula to calculate long term capital gain is = Sale Price – Indexed Cost i.e. Inflation Adjusted Purchase Price.

Whereas, the formula to calculate indexed acquisition cost is = Purchase price * CII of the year of sale / CII of the year of purchase

The indexed cost of a property worth Rs 10 lakh (10,00,000 * 348/105) will be Rs 33,14, 285 and the capital gain (60,00,000 – 33,14,285) will be Rs 26,85,715. Whereas in a normal case you would have assumed a capital gain of Rs 50 lakh. You will have to pay long term capital gains tax at the rate of 20 percent on real capital gains, which will amount to Rs 5,37,143. In a normal case it would have been Rs 10 lakh.

Due to indexation benefit i.e. adjusting inflation, almost half of your tax was saved. Either Income Tax Department or by searching on Google, Cost Inflation Index can easily be found on many websites. With its help you can calculate capital gain.