Cost Inflation Index (FY 2023-24): CBDT Release and its impact on Capital Gains and Income Tax Calculation for ITR 2024-25

What is Cost inflation index?

Cost Inflation Index (CII) is a measure used in India to adjust the inflationary effects on the cost of assets. It is basically an index that reflects the changes in the prices of goods and services over a period of time. The government of India publishes the CII every year to help taxpayers adjust the purchase price of their assets for inflation when calculating their tax liability. By using the CII, taxpayers can reduce their capital gains tax liability when they sell their assets by adjusting the purchase price to reflect the inflation that has occurred over the years. For example, if you purchased a property for Rs. 10 lakhs in 2010 and sold it for Rs. 20 lakhs in 2023, the capital gain would be calculated by subtracting the purchase price from the sale price, which is Rs. 10 lakhs. However, if you adjust the purchase price using the CII, the capital gains tax liability would be lower as the adjusted purchase price would be higher due to inflation. Overall, the CII is a useful tool for taxpayers to account for inflation and reduce their tax liability on capital gains.

CII for Financial year 2023-24 released by CBDT

The Central Board of Direct Taxes (CBDT) has released the Cost Inflation Index (CII) number for the financial year 2023-24. The CII number for this fiscal year is 348, which will be used to calculate the capital gains made on the sale of long-term assets during this financial year. The CII number is used to adjust the cost of the asset for inflation, which helps in calculating the actual profit or gain made on the sale of the asset. Once the capital gains are calculated, the income tax payable on such gains is calculated. You will need to use this CII number when filing your income tax return (ITR) for the assessment year 2024-25. The CII number for the previous year i.e., for FY 2022-23 was 331.

How is the cost inflation index used in income tax calculation for an individual?

The cost inflation index is a number used to adjust the price of assets based on inflation. It helps to calculate the actual profit made from the sale of an asset by taking inflation into account. The CII number is used to calculate long-term capital gains when selling a house, land or building. Until March 31, 2023, the CII number was also used to calculate long-term capital gains from non-equity mutual fund schemes. However, from this financial year (starting April 1, 2023), the CII number can no longer be used for non-equity mutual funds. It can only be used to calculate long-term capital gains from house property, land, and building in the event of a sale.

What is the formula to calculate inflation-adjusted purchase price?

To calculate the inflation-adjusted price of a long-term asset, the CII number is used. This is done by dividing the CII number of the year of sale by the CII number of the year of purchase and multiplying the result with the actual price of the asset. For example, if you bought a house in 2002-03 for Rs 20 lakh and sold it in the current financial year with a CII number of 348, the inflation-adjusted price of the house would be Rs 66.28 lakh [(348/105)*20 lakh]. If you sell the house above this price, you will have long-term capital gains. If the selling price is below this price, then it will be a long-term capital loss. The type of capital gain depends on the holding period of the asset, which varies for different types of assets.

How does the base year play a role in the calculation of the Cost Inflation Index, and how is it used to adjust the purchase price of assets for inflation?

The base year is the initial year of the cost inflation index, assigned an index value of 100. The index values of subsequent years are compared to the base year to measure the increase in inflation percentage. For assets purchased before the base year, the purchase price is considered to be either the actual cost or the Fair Market Value (FMV) on the 1st day of the base year, whichever is higher. Indexation benefit is then applied to this purchase price to adjust it for inflation. The FMV is determined by a registered valuer through a valuation report.

Why there is a need for Cost Inflation Index?

The Cost Inflation Index is used to adjust prices for inflation. This means that if the inflation rate goes up over time, prices will also go up, and the Cost Inflation Index helps to account for this increase.

Which organization or authority notifies the Cost Inflation Index?

The government officially declares the Cost Inflation Index by publishing it in the official gazette. The index is calculated based on 75% of the average increase in the Consumer Price Index (urban) in the previous year. The Consumer Price Index is a measure of the change in the price of a basket of goods and services over time.

Few key points to be considered for CII

1. If you receive a property through a will, you have to consider the Cost Inflation Index of the year in which you received the property, instead of the year in which the property was originally purchased.
2. Any improvement cost incurred before 1st April 2001 will not be considered for indexation benefit.
3. However, the indexation benefit is not allowed in the case of bonds or debentures, except for capital indexation bonds or sovereign gold bonds issued by RBI.
4. Taxpayers can take the purchase price of an asset as the higher of the actual cost or the Fair Market Value (FMV) as on the 1st day of the base year.

Conclusion

To sum up, the Cost Inflation Index (CII) is a measure used to adjust the purchase price of assets for inflation. It is used to calculate the capital gains tax on the sale of long-term assets such as property, stocks, and bonds. The Central Government specifies the CII every year by notifying it in the official gazette. The base year is the first year of the CII, with an index value of 100. Taxpayers can take the purchase price higher of the actual cost or Fair Market Value (FMV) as on the 1st day of the base year for assets purchased before the base year. In the case of property received in the will, the CII of the year in which the property is received has to be taken into account. It is important to keep in mind the relevant provisions of the Income Tax Act, such as the holding period for different asset classes, and the exceptions to indexation benefits.

The author is a Chartered Accountant with 2 decades of experience into Accounting, Taxation, Auditing, Risk & Compliance, Credit Controls, Due diligence. Currently, the author is the founder and managing partner at RRL Global services.