Many taxpayers under the new tax regime assume that if their total income — including capital gains — stays below the ₹12 lakh threshold, their entire tax liability becomes nil thanks to the Section 87A rebate. In reality, this is one of the most misunderstood provisions of the new regime, and getting it wrong can lead to an unexpected tax demand at the time of filing returns.
This blog breaks down exactly how the Section 87A rebate works for FY 2025-26 (AY 2026-27), whether it can be set off against capital gains tax, and how the rules differ for short-term and long-term capital gains under the new regime.
What Is the Section 87A Rebate?
Section 87A of the Income Tax Act provides a tax rebate — a reduction in the final tax payable — to resident individual taxpayers whose total income falls within a specified limit. The rebate is applied after computing tax on total income but before adding health and education cess.
87A Rebate at a Glance (FY 2025-26 / AY 2026-27)
New Tax Regime: Available to resident individuals with taxable income up to ₹12 lakh, with a maximum rebate of ₹60,000. Old Tax Regime: Available to resident individuals with taxable income up to ₹5 lakh, with a maximum rebate of ₹12,500. Not available to: HUFs, companies, non-resident individuals, and super senior citizens above 80 years in certain cases. The rebate cannot exceed the actual tax payable before cess.
The Core Rule: Rebate Applies Only to Normal (Slab-Rate) Income
This is the single most important point to understand: the Section 87A rebate is available only against tax computed on ‘normal income’ — that is, income taxed at the regular slab rates (salary, interest, rental income, business income, etc.).
Capital gains taxed at special rates — such as short-term capital gains (STCG) under Section 111A and long-term capital gains (LTCG) under Section 112A — are NOT eligible for the 87A rebate under the new tax regime. There is no provision to set off any unutilised or leftover rebate amount against the tax liability on such special-rate income.
Important Clarification (Effective FY 2025-26 / AY 2026-27)
Following the Finance Act, 2025, it has been explicitly clarified that the Section 87A rebate cannot be adjusted against tax computed on income taxed at special rates, including STCG under Section 111A and LTCG under Section 112A, even if the taxpayer’s total income (including such gains) remains within the ₹12 lakh threshold under the new regime.
A Worked Example: How the Rebate Actually Applies
Consider a taxpayer under the new regime for FY 2025-26 with the following income:
|
Income Head |
Amount |
|
Salary |
₹7,50,000 |
|
Interest income |
₹3,70,000 |
|
Dividend income |
₹20,000 |
|
Total normal income |
₹11,40,000 |
|
LTCG from ELSS redemption (after ₹1.25 lakh exemption) |
₹15,000 |
Here, the taxpayer’s normal income of ₹11,40,000 is below the ₹12 lakh threshold, so the entire tax liability on this portion — calculated to be ₹54,000 — is fully covered by the Section 87A rebate, bringing it down to zero.
The maximum rebate available under the new regime is ₹60,000. Since only ₹54,000 of this was needed to nullify the tax on normal income, a balance of ₹6,000 remains unutilised. The natural question is: can this leftover ₹6,000 be used to offset the tax on the ₹15,000 LTCG?
The Answer: No
The remaining ₹6,000 rebate cannot be set off against the LTCG tax liability. The taxpayer must separately pay tax on the ₹15,000 taxable LTCG at the flat rate of 12.5% under Section 112A — working out to ₹1,875, plus 4% cess of ₹75, taking the total additional tax liability to ₹1,950.
This example illustrates the key takeaway: the 87A rebate and special-rate capital gains tax are computed in two separate, watertight compartments. A surplus in one compartment cannot spill over to reduce the liability in the other, regardless of how much headroom is left within the ₹12 lakh ceiling.
How Different Types of Capital Gains Are Treated
|
Type of Income |
Tax Rate (New Regime) |
Eligible for 87A Rebate? |
|
Salary, interest, rental, business income (normal/slab income) |
As per slab rates |
Yes |
|
STCG on listed equity / equity MFs (Sec 111A) |
20% |
No |
|
LTCG on listed equity / equity MFs (Sec 112A) |
12.5% (above ₹1.25 lakh exemption) |
No |
|
LTCG on other capital assets (Sec 112) |
12.5% / 20% (asset-dependent) |
No |
|
Winnings (lottery, game shows, etc.) |
Flat 30% |
No |
As the table shows, virtually all forms of capital gains and other special-rate incomes fall outside the scope of the Section 87A rebate under the new regime. The rebate’s benefit is confined strictly to income taxed at the applicable slab rates.
How This Rule Has Evolved
- For FY 2024-25 (AY 2025-26), the income threshold for the 87A rebate under the new regime was ₹7 lakh, with a maximum rebate of ₹25,000. There was some ambiguity — and litigation — around whether the rebate could be applied against STCG taxed under Section 111A when total income (including STCG) stayed within this limit.
- Some appellate rulings during this period held that, in the absence of an explicit statutory bar at the time, the 87A rebate could be applied against tax on STCG under Section 111A for qualifying taxpayers in the new regime.
- The Finance Act, 2025 removed this ambiguity going forward. For FY 2025-26 (AY 2026-27) onwards, the law explicitly excludes income taxed at special rates — including STCG under Section 111A and LTCG under Section 112/112A — from the scope of the 87A rebate, irrespective of the taxpayer’s total income level.
- Alongside this clarification, the new regime threshold for the 87A rebate was raised significantly — from ₹7 lakh to ₹12 lakh — and the maximum rebate was increased from ₹25,000 to ₹60,000, giving meaningful relief on normal income even as the capital gains carve-out was tightened.
Industry Representations for Change
This treatment continues to be a point of concern for small investors and industry bodies. Ahead of recent budget cycles, trade bodies have flagged that taxpayers with otherwise modest incomes can end up paying capital gains tax purely because their occasional equity or mutual fund redemptions push a small portion of income into the special-rate category — even though their overall income remains well within the rebate threshold.
Representations have sought amendments to align the treatment of STCG and other capital gains with the broader policy intent of the ₹12 lakh rebate threshold, allowing small taxpayers to claim the 87A rebate on their other income even when their total income includes capital gains. As of now, however, the law stands as described above, and taxpayers should plan their filings accordingly.
Practical Takeaways for Taxpayers
- Do not assume zero tax liability simply because your total income (including capital gains) is below ₹12 lakh under the new regime — check the breakup between normal income and special-rate income separately.
- Compute tax on normal income (slab rate) and tax on special-rate capital gains (STCG/LTCG) separately. Apply the 87A rebate only to the tax on normal income, capped at ₹60,000.
- Any unutilised portion of the ₹60,000 rebate cannot be carried over to reduce capital gains tax — plan your equity redemptions and tax outgo with this in mind, especially around the ₹1.25 lakh annual LTCG exemption on listed equity/equity mutual funds.
- If your income is close to the ₹12 lakh threshold, remember that marginal relief provisions may apply to normal income, but this relief does not extend to special-rate capital gains.
- Keep this distinction in mind while filing ITR for FY 2025-26 (due by 31st July 2026 for most individual taxpayers), as tax software and manual computations sometimes default to applying the full rebate against total tax — which can result in an incorrect (lower) tax payment and a subsequent demand notice.