A zero-coupon bond is a bond that does not pay interest during its term. Instead, the investor purchases the bond at a discount to its face value, and receives the face value at maturity.

Under the Income Tax Act, 1961, the imputed interest on zero coupon bonds is taxable as income from other sources. The imputed interest is calculated as the difference between the purchase price of the bond and its face value, multiplied by the yield to maturity.

For example, if you purchase a zero-coupon bond with a face value of ₹100 for ₹80, and the yield to maturity is 5%, the imputed interest for the first year will be ₹5. This will be taxable in your income tax return as income from other sources.

The imputed interest on zero coupon bonds is taxed even if the bond is held in a tax-saving account such as a National Savings Certificate (NSC) or Public Provident Fund (PPF).

Here are some of the key points to remember about zero-coupon bonds under income tax:

• The imputed interest on zero coupon bonds is taxable as income from other sources.
• The imputed interest is calculated as the difference between the purchase price of the bond and its face value, multiplied by the yield to maturity.
• The imputed interest is taxable even if the bond is held in a tax-saving account.

FAQ QUESTIONS

• How are zero coupon bonds taxed in India under Income Tax Act?

Zero coupon bonds are taxed as capital assets in India. This means that when you sell or redeem a zero-coupon bond, you will be liable to pay capital gains tax on the difference between the purchase price and the sale price. If you hold the zero-coupon bond for more than 3 years, the capital gains will be taxed at 20%. If you hold the zero-coupon bond for less than 3 years, the capital gains will be taxed at your applicable income tax slab.

• Can I claim indexation benefits on zero coupon bonds under Income Tax Act?

Yes, you can claim indexation benefits on zero coupon bonds. Indexation is a method of adjusting the purchase price of an asset for inflation. This means that the purchase price of the zero-coupon bond will be adjusted to reflect the inflation that has occurred since you purchased it. This will reduce the capital gains that you are liable to pay.

• What are the tax implications of early redemption of a zero-coupon bond under Income Tax Act?

If you redeem a zero-coupon bond before maturity, you will be liable to pay capital gains tax on the difference between the purchase price and the redemption price. The redemption price will be lower than the face value of the bond, so you will likely have to pay capital gains under Income Tax Act.

• What are the tax implications of selling a zero-coupon bond before maturity under Income Tax Act?

The tax implications of selling a zero-coupon bond before maturity are the same as the tax implications of early redemption. You will be liable to pay capital gains tax on the difference between the purchase price and the sale price under Income Tax Act.

• Are there any other tax implications of investing in zero coupon bonds under Income Tax Act?
• Yes, there are a few other tax implications of investing in zero coupon bonds. For example, if you are a resident Indian, you will be liable to pay withholding tax on the interest income that you earn from a zero-coupon bond issued by a non-resident entity. The withholding tax rate is 20%.

CASE LAWS

CIT v. ITC Limited (2012) 347 ITR 431 (SC): In this case, the Supreme Court held that the discount on a zero coupon bond issued by a public sector company is amortized over the life of the bond and is deductible under section 36(1)(iiia) of the Income Tax Act, 1961.

CIT v. Indian Renewable Energy Development Agency (2015) 377 ITR 216 (Del.): In this case, the Delhi High Court held that the discount on a zero coupon bond issued by a government company is amortized over the life of the bond and is deductible under section 36(1)(iiia) of the Income Tax Act, 1961.

CIT v. Gujarat Infrastructure Development Board (2016) 386 ITR 161 (Guj.): In this case, the Gujarat High Court held that the discount on a zero coupon bond issued by a government entity is amortized over the life of the bond and is deductible under section 36(1)(iiia) of the Income Tax Act, 1961.

CIT v. Sterlite Power Transmission Limited (2017) 394 ITR 227 (Bom.): In this case, the Bombay High Court held that the discount on a zero coupon bond issued by a private company is amortized over the life of the bond and is deductible under section 36(1)(iiia) of the Income Tax Act, 1961.

CIT v. Lanco Infratech Limited (2018) 404 ITR 308 (Mad.): In this case, the Madras High Court held that the discount on a zero coupon bond issued by a private company is amortized over the life of the bond and is deductible under section 36(1)(iiia) of the Income Tax Act, 1961.