Indexation: Meaning, Types, Calculation and More

For investors, indexation is an important factor in determining the profitability of their investments. It helps reduce tax liability based on the type of asset by offering a more accurate calculation of profit and tax on your investments. With the recent changes in tax rules as per the Budget Session 2025, the benefits of indexation have been limited to specific asset classes and timelines.

In this article, we cover what indexation is, how it works and the recent changes to the indexation rules as per the new budget.

What is Indexation?

If you are new to investing, indexation refers to the process of adjusting the investment costs of an asset based on inflation. This is determined using the Cost Inflation Index (CII), which is published annually by the Indian government. The investor's tax liability is decreased by indexation, which lowers the net taxable capital gain by inflating the cost of purchase.

What are the Benefits of Indexation?

Indexation helps ensure that investors are not taxed unfairly on nominal gains (i.e. increases in value due to inflation rather than actual growth). Here’s why it matters:

Tax Relief on Inflation Affected Gains: Indexation adjusts the purchase cost of a long-term asset for inflation, ensuring that investors are taxed only on actual profits, not nominal gains.
Hedge Against Inflation: For investments adjusted against inflation, indexation can help preserve purchasing power, although this is more applicable in certain types of bonds or savings plans rather than stocks directly.
Supports Long-Term Investment Strategy: Since indexation applies only to long-term holdings, it encourages investors to stay invested for longer periods of time, promoting disciplined financial planning.

Why Indexation is Necessary?

To ensure that investors are taxed fairly and accurately, indexation plays an important role of correctly accounting for inflation on your investments. This helps mitigate the impact of inflation on their returns and maintain the actual value of their investments. This helps in encouraging long-term investments and more stable economic growth.

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Also Read: Best Tax-Saving Mutual Funds

Types of Indexations

In India, indexation is widely applied in taxation and investments to factor in inflation. Here are a few common forms of indexation you’re likely to come across:

Indexation in Mutual Funds

As per the recent changes in tax rules, the indexation benefits for debt mutual funds and debt-oriented hybrids will apply to investments made on or before April 1, 2023. Investments made after this date will be taxed as per the investor’s income tax slab rate.
Since the holding period for long-term gains has been reduced from 36 months to 24 months, the 12.5% Long-Term Capital Gains (LTCG) tax rate will apply to investments acquired before April 1, 2023.

Government Bonds

While traditional government savings schemes such as PPF do not offer indexation benefits, investors can consider investing in Inflation-Indexed Bonds (IIBs) which are issued by the RBI.

The interest earned through IIB investment is taxed as income, the profits earned might be treated as capital gain which makes it eligible for 20% LTCG tax with indexation or 10% without indexation (if held for the long term).

If you wish to invest in IIBs, make sure to check recent announcements by the RBI.

Property

When selling a property that they have owned for more than 24 months, investors have the option of paying LTCG tax at a rate of 12.5% or 20% with indexation. This rule is applicable to real estate bought before July 23, 2024.

Gold

The long-term capital gain for the sale of gold has been lowered from 36 months to 24 months per Budget 2024. Gains from selling gold will be taxed at 12.5% LTCG without an inflation adjustment.

If you want to optimize your investments to take advantage of indexation and reduce tax liability, consider availing the DBS Treasures Wealth Management Services which offer customised wealth solutions according to your investment horizon, risk tolerance, and financial objectives.

How Does Indexation Work?

The Cost Inflation Index (CII) serves as a benchmark to adjust the historical purchase value of long-term assets, aligning it with present-day inflation levels to compute capital gains more precisely for tax purposes. E.g.: if you invested INR 2,00,000 in the financial year 2016-17 and sold it in FY 2023-24, the indexed cost becomes INR 2,63,646. If sold for INR 3,00,000, the capital taxed would be only INR 36,364.

How to Calculate Indexation?

If you are planning to make investments to take advantage of indexation, you can use this formula:

Purchase Price × (CII in the year of sale ÷ CII in the year of purchase) is the indexed cost of acquisition.

To know the current CII values, you can refer to the Income Tax Department’s official website. This calculation is commonly used for assets like real estate, gold, and older mutual fund investments, and can lead to significant tax savings over time.

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Conclusion

Indexation plays a crucial role in fair taxation and wealth preservation, especially for long-term investors. By adjusting for inflation, it ensures you're taxed only on actual gains. To maximise your savings and investment returns, consider the DBS Treasures premium savings account, which offers competitive interest rates and seamless digital access to services that help you grow and manage your wealth efficiently.