Tax-Saving for ITR Filing in AY 2025-26: Tax Loss Harvesting a Smart Strategy to Reduce Tax Liability in a Falling Market
With the end of the financial year 2024-25 nearing, equity investors who have incurred capital losses can look towards tax loss harvesting as a way to reduce their tax outgo while submitting Income Tax Returns (ITR) for Assessment Year (AY) 2025-26. Through this process, investors are able to book capital losses and set them against capital gains in order to lessen the overall tax outgo both under the existing and new regimes.
How does Tax Loss Harvesting work?
Tax-loss harvesting is the process of selling poor-performing investments at a loss to offset gains in other investments. If losses and gains are effectively managed, investors can reduce their taxable income. However, this technique will be effective only if there are substantial gains and losses to offset against each other. It is also important to understand the provisions of the Income-tax Act, 1961, to derive maximum benefits.
Rules of Offsetting Capital Gains and Losses
Offsetting Short-Term Capital Gains (STCG)
Equity shares and equity-oriented mutual funds with a holding period of 12 months or less fall under the category of short-term capital gains (STCG). Such gains are subject to tax at 20% under Section 111A of the Income-tax Act, 1961.
Short-term capital losses are allowed to be offset against both STCG and long-term capital gains (LTCG) to minimize taxable gains. Importantly, for securities disposed of prior to July 23, 2024, the STCG tax rate is 15%.
Offsetting Long-Term Capital Gains (LTCG)
Equity shares and equity-oriented mutual funds held for more than 12 months qualify as LTCG. Gains exceeding Rs. 1.25 lakh from the sale of these assets are taxed at 12.5% without indexation benefits.
Long-term capital losses are to be set off only against LTCG. As LTCG up to Rs.1.25 lakh in a financial year is tax-exempt under Section 112A, the investor must see that losses are utilized effectively in order to maximize tax savings. For securities sold prior to July 23, 2024, LTCG exceeding Rs.1 lakh is charged at 10%.
Tax Loss Harvesting Example
Let us consider an investor whose portfolio reflects:
- LTCG: Rs.4.5 lakh
- STCG: Rs.2 lakh
- Short-term capital loss: Rs.1.2 lakh (post July 23, 2024)
Tax Payable Without Loss Harvesting
- Tax on STCG: Rs.2,00,000 * 20% = Rs.40,000
- Tax on LTCG: (Rs.4,50,000 – Rs.1,25,000) * 12.5% = Rs.41,562
- Total Tax = Rs.81,562
Tax Payable With Loss Harvesting
- Tax on STCG: (Rs.2,00,000 – Rs.1,20,000) * 20% = Rs.16,000
- Tax on LTCG: (Rs.4,50,000 – Rs.1,25,000) * 12.5% = Rs.41,562
- Total Tax = Rs.57,562
By using tax loss harvesting, the total tax liability reduces by Rs. 24,000. However, investors should carefully evaluate their portfolio before applying this strategy, considering their long-term financial objectives.
Handling Excess Capital Losses
In case the capital losses are more than gains in a financial year, the unused losses can be carried forward for eight years. To avail of this benefit, taxpayers have to report the loss in their ITR prior to the due date. Such carried-forward losses can be set against eligible capital gains in later years to maximize tax efficiency.
When to Consider Tax Loss Harvesting?
While usually implemented towards the close of the financial year, tax loss harvesting can also be integrated into ongoing portfolio management for ongoing tax optimization. For ITR filing for FY 2025-26 (FY 2024-25), the last date for undertaking all tax-saving activities is March 31, 2025. But investors who intend to carry out tax loss harvesting in the equity market must do it by March 28, since stock markets remain closed on March 29, 30, and 31.
Key Considerations for Tax Loss Harvesting
- Short-term capital losses are applicable against both STCG and LTCG.
- Long-term capital losses can be used only against LTCG.
- This strategy will be useful in addressing the tax burden between short-term and long-term capital gains.
- Individuals who own securities for the long term without realizing losses or profits might not necessarily have to implement this strategy.
- Accuracy of records and submission of tax returns within the statutory time is vital.
- Since tax computations are complex, using a professional service can serve to ensure the due implementation of tax loss harvesting.
By investing much consideration in the market status and being fully conversant with taxation laws, investors can use tax loss harvesting to optimize tax efficiency while maximizing management of the portfolios.
