People dealing in capital asset transactions often look forward to find ways to save taxes. Some of them also face dilemma of saving taxes illegally by entering into cash deals. However, does it make sense to sell – gold, silver, land, etc. in cash and evade taxes. Even if we assume that the transactions are not caught by the watchful eyes of income tax department, the approach to evade taxes by entering into cash deals does not make sense. This article explains the nuances involved in cash deals and why it is better to pay tax and have peaceful night sleep. As such, cash acquired does not generate income like in case of FDs, bonds, or stocks, it is prone to theft and misuse, encourages unnecessary spending. Reducing tax through provisions and paying taxes is a better financial decision than accumulating black money. The tax paid initially can be easily recovered in two years, by investing in FDs. Read on…
Raghav, a CA student, sat across his father, Dinesh, in their South Delhi home. Dinesh was very happy as he got a tempting offer of ₹2 crore for their land in Noida that costed them 50 lakhs six years back. However, the agents had made it clear that only ₹1 crore would be through cheque; and the rest would be in cash. “This is how deals work,” Dinesh said. “Everyone does it. Why should you pay tax?”
Principled Raghav hesitated. His studies had taught him to act ethically. He has also seen many cases of scrutiny during CA training. “Accepting cash over ₹20,000 is not advisable,” he cautiously told his father. Dinesh frowned. “Who will find? We can easily use cash at home. We may also use some cash for the renovation we have been planning.” Raghav remained adamant. Although Dinesh wanted to go ahead with the deal, he also did not want to go against his son. The next morning, he called the agent. “We will prefer a clean deal with cheque payment,” he surrendered to the wishes of his son. The agent mocked – “Then forget selling.” Raghav hung up, heart heavy but with hope to get a honest buyer. He knew there would be many buyers, who would be ready to pay through cheque. It is just matter of time.
What is Black Money?
Black money, dirty money, underground wealth, parallel economy, shadow economy, there are many connotations for unaccounted wealth from income on which the taxes have not been paid. The source of such income may consist of legitimate businesses or activities that are per se illegitimate.
There are many people like Raghav who do not mind paying taxes and do things in legal and ethical way. But at the same time there are people who will go an extra mile and not pay taxes – stacking cash at their homes is just one such way. This dilemma is not unique to Raghav. Across the country, many face similar choices.
Let us not discuss this from a legal, ethical, or moral standpoint. Instead, let us examine it from a financial perspective. For Dinesh, accepting the deal means having ₹1 crore in cash at home. What can he do with it, and what are the repercussions? Let us examine this threadbare:
Why Cash Deals Don’t Make Sense
- Possibility of theft & security risks: Keeping large amount of cash at home poses a serious security risk as physical cash can be lost or stolen, or even damaged due to fire, etc. In case of theft, there is no recourse—no insurance, no recovery. There can not be even a police complaint as the money itself is not legal. Keeping cash at home will unnecessarily invite mental stress and sleepless nights.
- Increased spending on unnecessary luxuries: With the ready availability of cash, there will always be temptation to spend on unnecessary items of little use. Free availability of cash may induce lavish spending on expensive clothes, luxury goods, expensive renovations that are not needed and other avoidable indulgences. Over a period of time, the wealth, that could be used productively gets eroded.
- Lose out investments that can generate income: Avoiding capital gains tax, Dinesh may feel that he is saving money, but in reality, he is losing opportunity to invest money and generate passive income. The cash cannot be parked in fixed deposits, mutual funds, securities or in any other documented investment opportunity.
Case – Easily recovering the tax paid
Let us analyze the case of Dinesh and assume he sells the land and pays the capital gains tax. If Dinesh does not take advantage of the provisions that may lower his tax liability, the tax will be 12.5% on the capital gains, that are long term in nature. In the scenario:
Total gain on the land = ₹2 crore – ₹50 lakh = ₹1.5 crore.
Tax liability = 12.5% of ₹1.5 crore = ₹18.75 lakh (plus surcharge and cess).
Now, after he pays taxes, he will be in position to invest about ₹1.3 crore in fixed deposits out of capital gains. The initial investment is separate. Investing ₹1.3 crore in FDs at 7% interest will generate more than ₹9 lakh per year, which means he should be able recover the tax paid in about two years’ time. The duration will depend on the income tax he is paying (Interest income is taxed as part of normal income).
After the tax is recovered, the FDs will continue to give returns indefinitely. FDs is just one of the many investment avenues. Depending on the risk appetite, Dinesh can also invest, systematically, in securities or mutual funds. It is been historically seen that the capital markets provide higher returns in the long run.
Reduce tax legitimately
There are other legitimate ways to reduce tax liability. Investing ₹50 lakh in 54EC bonds (reinvestment of capital gains) will reduce taxable capital gains from ₹1.5 crore to ₹1 crore, thereby lowering tax outflow. Dinesh may also reinvest gains in another residential property to claim exemption and avoid capital gains tax completely.
Endnote – Peace of Mind is Priceless
At first glance, avoiding tax may seem like a financial gain, but in reality, holding ₹1 crore in cash has limited advantages and significant disadvantages. If caught, the penalties are much more severe and damaging than the amount evaded. The temptation to gain immediately by avoiding tax by cash receipt is a short-sighted approach and is prone to pitfalls and prudency demands that it should be better avoided.
Remember:
- Clean transactions build wealth
- Paying tax today secures tomorrow