Indexation: The Tax-Saving Trick Everyone Should Know

22nd April 2025, Gaurav Kumar Singh

Ever sold an investment and thought, “Wait, why am I paying so much tax?” Well, let me introduce you to a smart little thing called indexation. It’s a legal way to reduce your tax bill—especially useful for long-term investments.

So if you’re someone who invests in things like mutual funds, property, gold, or bonds, stick around. This could save you a good chunk of money.

What is Indexation in Simple Words?

Imagine you bought something years ago—say a flat, gold, or mutual fund—and you’re selling it today for a much higher price. The profit you make is called capital gains, and the government wants its cut (i.e., tax).

But here’s the thing: what you bought 5 or 10 years ago was worth less because everything was cheaper back then. That’s inflation—how the value of money goes down over time.

Indexation adjusts the purchase price of your investment based on inflation. So it brings your cost price closer to today’s value, which reduces your profits on paper, and that means… less tax!

Where Does Indexation Apply?

Indexation benefits are available only on long-term capital assets. Here’s a quick breakdown of where and how it works:

1. Debt Mutual Funds

• Old Rule (Before July 23, 2024):
  If you held a debt fund for more than 3 years(now 2 years), you paid 20% tax on capital gains after indexation.
• New Rule (After July 23, 2024):
  Now, indexation is gone, but the tax rate is reduced to 12.5%. So, no more inflation adjustment, but slightly lower tax.

2. Real Estate (Property Sales)

• If you sell a property after holding it for more than 2 years, it’s considered a long-term asset.
• You can apply indexation to increase the purchase price and pay 20% tax only on the adjusted gain.
• This can make a huge difference, especially with property prices and inflation over many years.

3. Gold (Physical or Digital)

• Like property, gold is a long-term asset if held for more than 3 years.
• You can apply indexation and pay 20% tax on the reduced profit.
• This includes gold jewelry, sovereign gold bonds (if sold early), and gold ETFs.

4. Bonds (Non-Government or Taxable Bonds)

• If you hold non-listed bonds for more than 3 years, you can use indexation before calculating tax at 20%.
• For listed bonds, the holding period is 12 months, but indexation may not always apply—depends on the type.

Where Indexation Does NOT Apply:

• Equity Mutual Funds (Stocks/Equity-based MFs): These have different rules. Long-term capital gains (over ₹1 lakh) are taxed at 10%, and indexation is NOT allowed.
• Bank Fixed Deposits (FDs): Always taxed at your regular income tax slab, with no indexation benefit—even if held for years.
• ULIPs, PPFs, NPS, etc.: These have different tax treatments entirely.

How is Indexation Calculated?

Here’s a simple formula:

Indexed Cost of Acquisition (ICoA) =
Original Purchase Price × (CII in year of sale ÷ CII in year of purchase)

CII = Cost Inflation Index, a value updated every year by the government.

👉 You can find the full CII chart on the Income Tax Department website. It goes back to 1981.

Example: Property Indexation

Let’s say:

• You bought a flat in 2010 for ₹30 lakhs
• You sell it in 2025 for ₹80 lakhs
• CII for 2010 = 167
• CII for 2025 = 348

Adjusted cost price = ₹30L × (348/167) = ₹62.5L
Capital Gain = ₹80L – ₹62.5L = ₹17.5L

Now, 20% tax on ₹17.5L = ₹3.5L (instead of ₹10L tax if indexation wasn’t used).

That’s a saving of over ₹1.25 lakhs in tax. Not bad, right?

Why is Indexation So Helpful?

• Reduces Tax on your long-term profits
• Works great with high-inflation assets like gold or property
• Makes debt mutual funds a smarter alternative to FDs
• Useful for retirees or anyone investing for the long term

Important Rule Changes (Post-Budget 2024)

From July 23, 2024 onwards:

• No indexation benefit on debt mutual funds
• New tax rate: 12.5% flat on long-term gains from these funds
• Still beneficial compared to FDs (which are taxed as per your income slab)

Other investments like property, gold, and bonds still get indexation benefits.

Final Takeaway

Indexation is a simple but powerful way to legally reduce the tax you pay on long-term investments. If you’re investing for the long haul in debt funds, property, gold, or bonds, always check if indexation applies.

Less tax = more money for you. It’s as simple as that.

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