Tax treatment of interest on application money

Arnav PandyaOne of the additional income that arises for investors is that of interest on application money. This might not be a very high figure but if there are quite a few investments into public issues both debt and equity that are made during the year then the figure could add up. It is important that the right tax impact is given to this amount because it can cause quite a bit of disruption especially in terms of the final calculation of tax and the liability that would arise. Here is a detailed look at how investors should account for interest on application amount.Nature of paymentThere are applications made by investors for various public issues. This could be bonds that have hit the market or it could be non convertible debentures. At the same time there could be amounts that are paid for rights issues and other equity offerings. In all these cases if the application of the investor is not accepted in full then there would be some amount that has to be refunded back to them. This would mean that the institution that is offering the securities actually enjoyed the use of the money for a short period of time. In most cases there would be some interest that is paid on this amount that lies with the institution and is known as the interest on application amount. The higher the amount of the application the bigger would be the interest amount though in absolute terms this might not be very high it could turn out to be a significant figure that needs some attention on the tax front.Tax free bondsA lot of investors make application for tax free bonds. These bonds are long term instruments where the interest that is received on them would not be taxable in the hands of the investor. IF the institution that is issuing the bonds has to refund an extra amount that has been received with the application for these bonds then there could be some extra interest available for the investor. The interest that is received on this front would be taxable as income from other sources. One has to separate the tax free interest earned on the bonds and this application interest as the former is tax free.DebenturesIF there is some interest on application amount that is received on debentures which is likely considering the large number of issues hitting the market as well the over subscription that is witnessed in these offers then this would also be taxable. There is no different treatment that is available for the interest received on the extra application amount and hence this would need to be accounted for properly.SharesThere might not be any interest on application money for initial public offerings because of the use of the ASBA facility where only the actual amount is taken after allotment but if there is a rights issue or some such offering then the situation would change. In many cases investors apply for higher amounts and this leads to a position where the institution offering the shares has to return the amount back. There could also be some interest that arises along with this refund and this would be added to the income and taxable in the hands of the investor. There is no benefit available for this interest even though short term capital gains has a special rate of 15% while long term capital gains attract no tax. It could also be that if the individual falls in the highest tax bracket then the interest so earned would be taxed at this 30% rate.