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Can you set off capital losses against the gains?

Let's find out if you can adjust your capital loss from one fund against capital gains from another fund

Can you set off capital losses against the gains?

I have made a long-term capital gain from an equity mutual fund (Franklin India Focused Equity Fund) and a short-term capital loss from Nasdaq 100 ETF (which is treated as a debt fund for taxation). Can I adjust the loss against the gain and pay income tax on the difference? - Sanjay Kumar

What is setting off of losses?
The process of adjusting losses against profits for tax purposes is called the setting off of losses. Yes, the capital loss in one asset can be offset against another asset's capital gains under section 70 of the Income Tax Act.

But there are a few conditions:

  • The short-term capital losses are allowed to set off against both short-term and long-term capital gains.
  • The long-term capital losses are allowed to set off only against the long-term capital gains.

Capital gains are termed short-term or long-term based on the asset's holding period. If the asset is an equity-oriented mutual fund and held up to a year, the gains on that are called short-term capital gains. If the holding period is beyond one year, the gains are termed as long-term capital gains.

For non-equity-oriented mutual funds, the gains on a holding period of up to three years are termed short-term capital gains. If the fund is held for beyond three years, the gains are termed as long-term capital gains.

Let's understand with an example
So, for instance, you sold two investments this particular year, one is an equity-oriented fund and the other was a non-equity-oriented fund. The long-term capital loss incurred on selling units of equity-oriented mutual funds (Rs 1 lakh) can be offset against the gains of non-equity-oriented funds (Rs 4 lakh), which is also a long-term investment.

Since you've set off these two investments, you need NOT pay long-term capital gains tax on Rs 4 lakh. Instead, your tax liability will be calculated on Rs 3 lakh (Rs 4 lakh - Rs 1 lakh).

Set off and carry forward of losses
If for reasons you missed to set off your capital losses, they can be carried forward by eight years. This means that this year's loss can be set off against gains that you incur in the next year. If you wish to set off old losses that you filed within the previous eight years, you can also carry forward them and set them off against the present year's gain.

Suggested read: Is tax harvesting a good idea?

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