Inflation is just a simple way of saying that your money now buys less stuff than it used to.
To combat the erosion of purchasing power, many employers adjust wages based on inflation trends in India, a practice known as inflation indexing wages.
Inflation can be offset with suitable investments – an investment advisory can be a good point of reference for beginners. Additionally, governments often use measures like the Cost Inflation Index (CII) to adjust various tax-related calculations to account for inflation.
Let’s learn more about the cost inflation index, its purpose in tax, the cost inflation index chart, its example, and much more in the comprehensive guide below.
What is the Cost Inflation Index (CII), and Why is it Calculated?
The Cost Inflation Index (CII) is a measure used to calculate the increase in the price of goods and services over time due to inflation.
It is calculated to adjust the cost of acquisition of assets for inflation over the period of ownership, for example, as in inflation indexing wages. This adjustment is essential for accurately determining the actual capital gains or losses on the sale of an asset, ensuring that the calculation reflects the change in the purchasing power of money over time.
Cost Inflation Index for Income Tax Purpose
The Cost Inflation Index (CII) is a measure used in taxation to adjust the purchase price of assets for inflation when calculating capital gains. With income tax, it serves to ensure that taxpayers are not unfairly taxed on the apparent increase in profits resulting from asset sales during periods of inflation.
By adjusting the original purchase price of assets using the CII, taxpayers can effectively reduce the profit reported for tax purposes. This adjustment accounts for both inflation and the required profit percentage, thus alleviating the burden on taxpayers.
The CII aims to accurately reflect the actual profit earned, removing the inflation component from the calculation and enabling taxpayers to pay taxes only on the genuine profit generated.
The Central Board of Direct Taxes (CBDT) officially notifies the Cost Inflation Index (CII) of income tax. CBDT is part of the Department of Revenue under the Ministry of Finance, Government of India. The index helps you consider how inflation affects the value of your investments and financial decisions, as well as equity portfolio management.
What is the Concept of the Base Year in the Cost Inflation Index?
The base year acts as a reference point from which the inflation rate is calculated to update the cost of acquisition of assets, ensuring a fair calculation of capital gains tax when the asset is sold. The base year is set to a specific year, with its CII value fixed at 100.
It serves as a benchmark for measuring inflation’s impact on asset values. The base year for the Cost Inflation Index (CII) is determined by the government’s taxation authorities. The base year is selected based on various economic factors, including stability, availability of relevant data, and the need to provide a consistent reference point for adjusting asset values for inflation over time.
Choosing a particular year as the base year as per the cost index inflation table and updating it periodically allows for more accurate and fair tax calculations by considering economic changes and inflation trends.
Cost Inflation Index Chart from FY 2001-02 to FY 2023-24
Cost Inflation Index for 2001-02 (Base year) = 100
| Financial Year | Cost Inflation Index (CII) | Financial Year | Cost Inflation Index (CII) |
| 2002-03 | 105 | 2013-14 | 220 |
| 2003-04 | 109 | 2014-15 | 240 |
| 2004-05 | 113 | 2015-16 | 254 |
| 2005-06 | 117 | 2016-17 | 264 |
| 2006-07 | 122 | 2017-18 | 272 |
| 2007-08 | 129 | 2018-19 | 280 |
| 2008-09 | 137 | 2019-20 | 289 |
| 2009-10 | 148 | 2020-21 | 301 |
| 2010-11 | 167 | 2021-22 | 317 |
| 2011-12 | 184 | 2022-23 | 331 |
| 2012-13 | 200 | 2023-24 | 348 |
Why has the Base year of the Cost Inflation Index (CII) Changed to 2001 from 1981?
The base year used for calculating CII was 1981 before the Finance Act of 2017. This Act changed the base year to 2001 due to difficulties taxpayers faced in calculating capital gains, as finding the Fair Market Value (FMV) of assets from as far back as 1981 proved challenging due to the lack of necessary information.
With the base year now set at 2001 and the CII starting at 100 for that year, taxpayers can use the FMV of assets on April 1, 2001, or the actual cost, whichever they prefer, for assets acquired before April 1, 2001.
Any improvements made to the asset after April 1, 2001, should be included in the cost of improvement.
How is CII Indexation applied to Long-Term Capital Assets?
Indexation benefit is like a financial tool that adjusts the purchase price of your long-term asset (like property, bonds, or mutual funds) for inflation during the period you owned it.
By using the Cost Inflation Index (CII) provided by the Central Board of Direct Taxes, you can calculate the correct capital gain:
- Find out the CII for the year you bought the asset and the year you sold it.
- Adjust your purchase price according to the inflation index. It gives you the inflation-adjusted cost.
- Subtract this adjusted cost from your selling price. The amount lef is your inflation-adjusted profit.
Practical Examples
Assume you bought a piece of land in 2010 for ₹1,00,000. The CII for 2010 was 167. In 2023, you decided to sell the land for ₹2,50,000. The CII for 2023 is 348.
The formula for calculating the inflation-adjusted purchase price is:
Indexed Purchase Price = (CII for the year of sale/ CII for the year of purchase) × Actual Purchase Price
Indexed Purchase Price = (348/167) X 100,000 = ₹2,08,383
Capital Gain with Indexation= ₹2,50,000−₹2,08,383 = ₹41,617
Capital Gain without Indexation = ₹2,50,000 – ₹1,00,000 = ₹1,50,000
Indexation Benefit = ₹1,50,000 – ₹41,617 = ₹1,08,383
Conclusion
The Cost Inflation Index (CII) is a critical tool for individuals and investors in India. It ensures that the impact of inflation on capital gains is accurately accounted for and taxed fairly.
By adjusting the purchase price of assets for inflation as per the cost index inflation table, the CII helps prevent taxpayers from being unfairly taxed on inflationary “gains” that do not represent an actual increase in wealth.
*Disclaimer Note: The securities quoted, if any, are for illustration only and are not recommendatory. This article is for education purposes only and shall not be considered as recommendation or investment advice by Research & Ranking. We will not be liable for any losses that may occur. Investment in securities market are subject to market risks. Read all the related documents carefully before investing. Registration granted by SEBI, membership of BASL, and certification from NISM in no way guarantee the performance of the intermediary or provide any assurance of returns to investors.
Frequently Asked Questions
Can the Cost Inflation Index (CII) be used for all types of assets?
The CII is primarily used to calculate long-term capital gains on assets such as real estate, mutual funds, and bonds. It is not applicable to short-term capital assets.
How often is the Cost Inflation Index (CII) updated?
The CBDT updates the CII annually to reflect the inflation trends for the fiscal year.
Can the Cost Inflation Index (CII) benefit decrease the amount of tax payable on capital gains?
Yes, by adjusting the purchase price of an asset for inflation, the CII effectively lowers the reported capital gain, which can result in a lower tax liability.
I’m Archana R. Chettiar, an experienced content creator with
an affinity for writing on personal finance and other financial content. I
love to write on equity investing, retirement, managing money, and more.