Skip to content

Business Finance · Personal and corporate taxation

Personal Income Tax and Capital Gains for Individuals

Updated 11 October 2026 · Fact-checked

Personal income tax charges an individual on taxable income: total income minus allowances and deductions, taxed in slabs at rising rates. Capital gains tax charges the profit on selling an asset: proceeds less costs less purchase cost, taxed at a rate that depends on how long you held it. Work out each income type, apply its rate, then add.

Understand Personal Income Tax and Capital Gains

A tax system takes part of an individual's income and gains. The state wants revenue. It also uses tax to change behaviour, for example to encourage saving. Your job in CB1 is to see how tax changes the cash an investor actually keeps.

Start with income. Salary, interest, dividends and rent are all income. You add them up to get total income. You then subtract allowances and deductions, which are amounts the law lets you remove before tax. The result is taxable income.

Most personal tax systems are progressive. Taxable income is cut into slabs (bands). Each slab has its own rate, and the rate rises as income rises. Only the part of income inside a slab is taxed at that slab's rate. The rate on your last rupee of income is the marginal rate. The total tax divided by total income is the average rate. India has an old regime (more deductions, higher slab rates) and a new regime (fewer deductions, lower slab rates). Slabs, limits and rebates change with each Finance Act, so always use the figures the question gives you.

A capital gain arises when you sell an asset for more than it cost. It is taxed only when the asset is sold (realised), not while the value rises on paper. Gains are usually split by holding period. A gain on an asset held longer than a set period is long-term. A shorter holding gives a short-term gain. The two usually have different rates, and long-term gains often get a lower rate or an exempt amount.

Interest and dividends matter because they are taxed differently from salary or gains in many systems. In India, interest is generally taxed as ordinary income at your slab rate. Dividends received by an individual are also generally taxed at the slab rate, and tax may be deducted at source. Because rules change, read each question for stated rates. Then compare after-tax returns: after-tax return = pre-tax return × (1 − tax rate).

Key rules to remember

Taxable income
Taxable income = Total income − allowances − deductions
Total income is the sum of salary, interest, dividends, rent and other income. Use only the deductions the question allows.
Slab (progressive) tax
Tax = Σ (rate in slab × income falling in that slab)
Apply each rate only to the part of income inside its band, not to the whole income.
Marginal rate
Marginal rate = rate of the highest slab that your taxable income reaches
Use it to tax an extra rupee of income, or to compare investments at the margin.
Average tax rate
Average rate = Total tax ÷ Total income
Always below the marginal rate in a progressive system once income passes the first taxed slab.
Capital gain
Gain = Sale proceeds − selling costs − purchase cost (adjusted if the question allows indexation)
A negative figure is a capital loss. Loss set-off rules must come from the question.
Capital gains tax
Tax = rate × (gain − any exempt amount)
Choose the short-term or long-term rate from the holding period. Never tax below zero.
After-tax return
After-tax return = pre-tax return × (1 − t)
t is the tax rate on that type of income. Use it to compare interest, dividends and gains.

How to solve Personal Income Tax and Capital Gains questions

Use this order for any personal tax question. It keeps each income type and rate separate, which is where marks are won.

  1. 11. List every receipt and label it: salary, interest, dividend, rental or capital gain. Note which regime or rule set the question tells you to use.
  2. 22. Separate capital gains from ordinary income. Gains are taxed on their own rates, not on the slabs.
  3. 33. Add the ordinary income to get total income. Subtract the allowances and deductions allowed. This gives taxable income.
  4. 44. Split taxable income across the slabs. Multiply each slab's income by its rate and add the results.
  5. 55. For each asset sold, compute the gain: proceeds less costs less purchase cost. Decide long-term or short-term from the holding period.
  6. 66. Subtract any exempt amount from the gain, then apply the correct capital gains rate. Do not tax a negative figure.
  7. 77. Add income tax and capital gains tax. Add cess or deduct tax already paid only if the question says so.
  8. 88. State the answer with units, then comment if asked: marginal rate, average rate or after-tax return.

Quickest way: Slab-difference shortcut and marginal-rate check

When to use it: Use it in MCQs, or when you only need the tax on one extra amount of income.

  1. Find the slab your top rupee falls in. That rate is the marginal rate.
  2. For tax on extra income, multiply the extra amount by the marginal rate. Check it does not push you into a higher slab.
  3. For total tax across slabs, compute the tax on full lower slabs first and write them down once. Then add rate × the part inside the top slab.
  4. For capital gains, compute the gain first, then subtract the exempt amount, then multiply by one rate. Do it in that order.
  5. Sense check: tax must be less than income, and average rate must be below marginal rate.

Common mistakes in Personal Income Tax and Capital Gains

  • Applying the top slab rate to the whole income

    You treat the system as flat, because the marginal rate is easy to spot.

    Fix: Tax only the part of income inside each band at that band's rate. Use the marginal rate only for extra income.

  • Using the wrong holding period or rate for a gain

    You skip the dates, or you remember rates from a past year.

    Fix: Check the holding period against the threshold in the question. Use only the rates the question gives.

  • Forgetting the exempt amount or subtracting it twice

    The exemption sits in a note, and you apply it at the wrong step.

    Fix: Subtract it once, from the gain, before applying the rate. Never let the taxable gain go below zero.

  • Taxing capital gains through the income slabs

    You add the gain to salary because both are 'income'.

    Fix: If the question gives separate gain rates, keep gains apart. Only add them to slab income if told to.

  • Leaving out selling costs or deducting costs that are not allowed

    You rush to proceeds minus purchase price.

    Fix: Deduct brokerage and other selling costs from proceeds. Do not deduct tax paid or unrelated expenses.

  • Ignoring tax when comparing interest and dividends

    You compare pre-tax yields and stop.

    Fix: Convert each to after-tax return using (1 − t) and compare those.

Worked examples

Example 1

Assume these illustrative slabs for taxable income: first ₹3,00,000 at 0%; next ₹4,00,000 at 5%; next ₹3,00,000 at 10%; above ₹10,00,000 at 20%. A standard deduction of ₹50,000 applies. Dividends and interest are taxed at slab rates. Ignore cess and rebate. Asha earns salary ₹12,00,000, bank interest ₹40,000 and dividends ₹20,000. Find her tax and her marginal rate.

Show the solution
  1. Total income = 12,00,000 + 40,000 + 20,000 = ₹12,60,000.
  2. Taxable income = 12,60,000 − 50,000 = ₹12,10,000.
  3. Slab 1: ₹3,00,000 × 0% = ₹0.
  4. Slab 2: ₹4,00,000 × 5% = ₹20,000.
  5. Slab 3: ₹3,00,000 × 10% = ₹30,000.
  6. Slab 4: 12,10,000 − 10,00,000 = ₹2,10,000 × 20% = ₹42,000.
  7. Total tax = 0 + 20,000 + 30,000 + 42,000 = ₹92,000.
  8. Her top slab is 20%, so the marginal rate is 20%. Tax on the ₹40,000 interest at the margin is 40,000 × 20% = ₹8,000, so after-tax interest is ₹32,000.

Answer: Tax = ₹92,000; marginal rate = 20%.

Example 2

Assume a gain on listed shares is long-term if held for more than 12 months. Long-term gains are taxed at 10% on the amount above an exemption of ₹1,00,000. Short-term gains are taxed at 15% with no exemption. Ravi bought shares for ₹5,00,000 and sold them for ₹8,00,000, paying selling costs of ₹10,000. (a) Find the tax if he held them 18 months. (b) Find the tax if he held them 8 months.

Show the solution
  1. Gain = 8,00,000 − 10,000 − 5,00,000 = ₹2,90,000.
  2. (a) 18 months is more than 12, so the gain is long-term.
  3. Taxable gain = 2,90,000 − 1,00,000 = ₹1,90,000.
  4. Tax = 10% × 1,90,000 = ₹19,000.
  5. (b) 8 months is less than 12, so the gain is short-term.
  6. No exemption applies. Tax = 15% × 2,90,000 = ₹43,500.
  7. Difference = 43,500 − 19,000 = ₹24,500 saved by holding longer.

Answer: (a) ₹19,000; (b) ₹43,500.

Exam tips

  • Write your assumptions at the top: regime, rates, holding period threshold. Examiners give marks for clear method even if a figure slips.
  • Show the slab table line by line. A tidy table earns method marks and makes errors easy to spot.
  • In MCQs, check the answer options for the typical wrong values: whole income at the top rate, or the exemption left out.
  • Expect a link to financing questions. Use after-tax returns when asked to compare debt, equity, interest and dividends for an investor.
  • Do not rely on rates you remember. Tax rates change, so use the figures in the question.

Practice questions from Personal and corporate taxation

Personal Income Tax and Capital Gains in other exams

The same ground in other exams, if you are preparing for more than one or want another angle on it.

Personal Income Tax and Capital Gains: frequently asked questions

How are capital gains calculated for tax in India?

Start with sale proceeds, subtract selling costs, then subtract the purchase cost to get the gain. Decide whether it is short-term or long-term from the holding period. Then apply the rate and any exemption that apply. In the exam, use the rates and thresholds given in the question.

What is the difference between the old and new tax regime?

The old regime allows many deductions and exemptions but has higher slab rates. The new regime has lower slab rates but allows far fewer deductions. Which one costs less depends on how much you can deduct. Slab details change with each Finance Act, so check the figures given.

How are dividends and interest taxed for an individual?

In general, both are added to income and taxed at the individual's slab rate. Tax may be deducted at source before you receive the money. For exam comparisons, convert each to an after-tax return using (1 − t).

Is personal taxation examined in IAI CB1?

CB1 Business Finance covers taxation within its financing and evaluation themes. It tests how tax affects investors and companies, and the method matters more than memorised rates. Check the current syllabus on the IAI website for detail.