Cost Inflation Index

What is the Cost Inflation Index and Why is it required?

Generally, prices of goods increase over time. This results in a fall in the purchasing power of money (quantity of goods that one unit of money can buy). If you can buy 5 units of goods for Rs. 100 today, tomorrow only 3 unit might be available for Rs. 100 due to an increase in inflation. Using the Cost Inflation Index (CII), we can calculate the estimated increase in the prices of goods and assets each year due to inflation. CII is a measure of inflation that is used for computing Long Term Capital Gains (LTCG) on the sale of capital assets

Usage of Cost Inflation Index and Calculation of Cost of Acquisition

This is how to calculate inflation-adjusted cost price/adjusted cost of acquisition – (CII of the year of sale/CII for the year of purchase) * Actual cost price.

However, there are few things you have to keep in mind.

Firstly, the CII number will be used only for those assets where indexation benefit is allowed. Therefore, where indexation benefit is not allowed, CII will not be used. And there will be no indexation in such a case. Also, LTCG arising from equity shares and equity-oriented mutual funds will not be eligible for this benefit. On the other hand, LTCG arising from the sale of house will be eligible for indexation benefit.

Second, for assets sold between April 1, 2017 and March 31, 2018, the CII number to be used is for FY 2017-18 which is 272.

Third, ignore the improvement cost incurred before 1st April 2001,

Fourth, Indexation benefit is not allowed in case of bonds or debentures. However it is allowed on capital indexation bonds or sovereign gold bonds issued by RBI.

Practical Examples

Case 1

Pooja purchased a flat in FY 2001-02 for Rs. 10,00,000. She sells the flat in FY 2017-18. What will be the indexed cost of acquisition?

In this case, CII for the year 2001-02 is 100 and for 2017-18 is 272.

Hence, Indexed Cost of Acquisition = 10,00,000 x (272/100) = Rs. 27,20,000

Case 2

Raj purchased a flat in FY 2008-09 for Rs 20 lakh and sold in FY 2017-18 for Rs 45,00,000. What is the LTCG and the indexed cost of acquisition ?

Inflation adjusted cost: 20,00,000 x (272/137) = 39,70,000

LTCG: 41 lakh – 39.70 = Rs 1.29 lakh

Case 3

Heena purchased a capital asset in FY 1989-1990 for Rs. 1,30,000. FMV of the capital asset on 1st April 2001 was Rs. 3,20,000.She sells the asset in FY 2016-17. What is the indexed cost of acquisition?

Here, purchase of the asset is before the base year. Hence the cost of acquisition = Higher of actual cost or FMV on 1st April 2001 i.e. Cost of Acquisition = Rs. 3,20,000. CII for the year 2001-02 and 2016-17 is 100 and 264 respectively.

Indexed cost of acquisition = 3,20,000 x 264/100 = Rs. 8,44,800.