What is Bonus Stripping and How Does MProfit Handle It?

Bonus Stripping, once a popular tax-saving strategy among investors, has undergone changes in recent times. With amendments made to Section 94(8) of the Income Tax Act, bonus stripping is no longer as effective as it used to be.

In this post, we will explore the concept of bonus stripping, its functioning, and how MProfit aids in computing capital gains related to bonus stripping.

What is Bonus Stripping?

Bonus stripping involves a series of steps that investors undertake to optimize their tax liabilities. Here's a breakdown of the process:

• Investors become aware of a company's plan to issue bonus shares to its existing shareholders

• Investors purchase shares of the company

• Investors receive bonus shares in accordance with the bonus issue ratio

• Investors sell the original shares after the bonus issue at a reduced share price, leading to a short-term capital loss. This loss is then adjusted against their other capital gains, resulting in tax savings for the investors

• After holding the bonus shares for at least one year, investors sell them and realize a long-term capital gain

Changes to Bonus Stripping Rules

From the financial year 2022-2023 onward, amendments to section 94(8) have brought about significant changes to bonus stripping regulations. The revised rules stipulate the following:

• If an investor purchases shares within three months before the record date of the bonus issue and subsequently sells any or all of the original shares within nine months after the record date, any losses incurred during the sale will not be considered when calculating capital gains

• The losses incurred will be treated as the cost of acquiring the bonus shares

• This measure aims to prevent investors from evading taxes or booking a loss

MProfit is designed to simplify the process of tracking and managing investments, including bonus stripping. The software provides the necessary tools to accurately compute capital gains related to bonus stripping.

Here is an example of how MProfit computes capital gains taxes for the bonus stripping of shares from 01-Apr-2022.

In the above example, shares of Nirmitee Robotics were purchased within three months of the bonus shares' record date. The bonus issue followed a 1:2 ratio, and the original shares were sold within nine months of the bonus record date.

The actual losses incurred from both sell transactions are as follows: 

However, under the revised rules, these losses will be disregarded and allocated to the cost of the acquired bonus shares.