Companies have different ways to reward their shareholders. The reward can either be given in the form of dividends or extra shares.
What is a bonus issue of shares?
These are new shares issued by a company to existing shareholders for free, based on the number of shares already held by them.
These bonus shares are basically given out of the earnings which are not distributed as dividends. In a bonus issue, the number of shares increases and the price per share reduces in the proportion to the bonus issue.
What is the advantage of the bonus issue?
- For the investors
- Provides additional shares for free and hence increases their investment
- When the dividend is announced, the investors receive a greater amount as they now have more shares
- It also is tax-beneficial, as dividends are taxable at 30% (on the higher side, whereas capital gains can be short-term at 15% and long-term at 10% (If exceeds ₹1 lakh)
- For the company
- It increases the liquidity of the company in the market as there are more shares available.
- Share price also reduces, thereby making it affordable and attractive, especially for new investors.
Let’s discuss the tax implications.
Tax is levied on the sale of shares based on the FIFO method. Under the Indian Income Tax Act, the bonus shares’ cost is considered zero. This means that when bonus shares are sold, the entire selling price is considered capital gains.
Let’s say, Muskan, aged 35, purchased the following on 29 May 2022:
| Particulars | |
|---|---|
| No. of shares held originally | 200 |
| Bonus announcement | 2:1 |
| Share Price | ₹100 |
The bonus of 2:1 means for every 2 shares, Muskan will receive 1 share for free. So, for 200 shares, she will receive 100, and the total number of shares held after the bonus is 300.
On 21 Dec 2022, she sold 250 shares at ₹150. And on 30 June 2023, she sells the remaining 50 shares at ₹200.
What shall be the tax implications for the same?
Solution:
- CG on the sale of the original 250 shares purchased at ₹100
| Particulars | |
|---|---|
| Selling price (250 shares* ₹150) | 30,000 |
| Cost of acquisition (200 shares* ₹100) | 20,000 |
| Cost of acquisition (50 shares* ₹ 0) | 0 |
| Capital Gains | 10,000 |
In this case, since the shares are held for less than a year, so STCG at 15% will be levied on the capital gain.
- CG on the sale of 50 bonus shares
| Particulars | |
|---|---|
| Selling price (50 shares* ₹150) | 7,500 |
| Cost of acquisition (50 shares* ₹ 0) | 0 |
| Capital Gains | 7,500 |
In this case, since the shares are held for more than a year, so LTCG at 10% will be levied on the capital gain. Assuming this is the only LTCG, which is also less than ₹1 lakh, so it will be exempt u/s 112A.
In both situations, ie, before and after the bonus, the total investment remains the same (₹20,000). The price per share decreases from ₹100 to ₹67 after the bonus issue.