Section 5(2) says that A non-resident is taxable in India only on income that:

1. Is received or deemed to be received in India, or

2. Accrues or arises or is deemed to accrue or arise in India

Capital gain on transfer of assets:

If the capital asset is situated in India, the gain is taxable in India, even for non-residents. This is supported by Section 9(1)(i).

Section 48, First Proviso (Simplified Text) provide the method of calculating the tax in case of a non-resident, capital gains arising from the transfer of shares or debentures of an Indian company shall be computed by:

• Converting the cost of acquisition, expenditure incurred, and sale consideration into the same foreign currency used to purchase the asset;

• Then computing the capital gain in that foreign currency;

• Finally, converting the capital gain into Indian Rupees.

• Indexation benefit is NOT allowed in this computation.

For assets other than shares/debentures, e.g., immovable property, the First Proviso of Section 48 does not apply.

➡️ Computation follows normal rules:

• Sale Price – (Indexed Cost + Transfer Expenses)

• Indexation is allowed for long-term capital assets

➡️ Tax Rates:

• LTCG (on immovable property) → 20% with indexation

• STCG → Taxed at slab rates

Conclusion:

• Capital gain is taxable in India for non-residents if the asset is located in India

• For shares/debentures of Indian companies, Section 48 First Proviso applies – computation must be in foreign currency without indexation

• For other assets, capital gains are computed in INR, with indexation allowed for LTCG

• Special tax regime for NRIs under Section 115C–115I applies only if they invest in foreign currency in specified assets

• TDS rules under Section 195 are applicable on remittance/payments to non-residents

TWO TYPES OF TRANSFERS INVOLVED:

A. Transfer by Partner to Firm (Section 45(3))

When a partner contributes capital asset to the firm then Section 45(3) is applicable which says that: “The amount recorded in the books of the firm for such asset shall be deemed to be the full value of consideration for computing capital gain in the hands of the partner.”

✅ Computation in hands of Partner:

📌 Capital gain is taxed in the year of contribution.

B. Transfer by Firm to Partner (Section 45(4) & Section 9B)

Applicable when firm reconstitutes (retirement/admission/death) or distributes assets (including dissolution).

Section 45(4): Capital Gain in Hands of Firm Inserted by Finance Act, 2021 (effective from AY 2021–22) says that “If a specified person receives capital asset or money from firm upon reconstitution and value exceeds balance in capital account, then capital gain shall be taxed in the hands of the firm.”

🔹 Computation (Section 45(4)):

Capital Gain = A – B

Where:

• A = Value of money + FMV of capital asset received

• B = Balance in capital account of partner (without revaluation/self-generated goodwill)

➡️ Tax is in the hands of the firm.

Summary:

As per Section 45(2) “Notwithstanding anything contained in sub-section (1), the profits or gains arising from the transfer by way of conversion of a capital asset into stock-in-trade… shall be chargeable to income-tax as income of the previous year in which such stock-in-trade is sold or otherwise transferred.”

TWO-PART TAXATION MECHANISM:

Part A – Capital Gain under Section 45(2)

This portion represents appreciation in value till the date of conversion.

Capital Gain = FMV on date of conversion – Indexed Cost of Acquisition

• FMV = Fair Market Value on date of conversion (as per Section 45(2))

• Indexed Cost = Original cost adjusted using Cost Inflation Index (CII)

💡 Long-Term or Short-Term?
✔️ Depends on the holding period till date of conversion.

Part B – Business Income under Section 28(i)

This portion represents appreciation after conversion, i.e., the gain between FMV on conversion date and actual sale price.

Business Income = Sale Price – FMV on date of conversion

💡 Taxed as business profit in the year of actual sale.

hough the term “Notional Cost of Acquisition” is not explicitly defined in the Income Tax Act, it is judicially and administratively recognised in cases where:

No actual purchase price exists, and the cost of acquisition has to be deemed or inferred by law, for the purpose of computing capital gains.

We can take the reference of the below sections:

Section 49(1):

Where the capital asset becomes the property of the assessee under a gift or will, the cost of acquisition shall be deemed to be the cost for which the previous owner acquired it.

Section 55(2)(a):

In the case of goodwill, trademark, brand name, tenancy rights, loom hours, right to manufacture/produce, etc., the cost of acquisition shall be taken as Nil, if self-generated.

Section 55(2)(b):

For assets acquired before 01.04.2001, the assessee has the option to take:

“the cost of acquisition shall, at the option of the assessee, be the fair market value of the asset as on 1st day of April, 2001.”

Summary:

Practical Scenarios of Notional Cost: