A bonus issue is a corporate action where a company issues additional shares to existing shareholders free of cost. Instead of paying cash like a dividend, the company rewards shareholders by issuing new shares in proportion to their current holdings.
What Is a Bonus Issue?
Bonus shares are issued from a company's free reserves or securities premium. The objective is to increase the liquidity of the stock and reward shareholders without affecting the company's cash balance.
How Bonus Ratio Works
If a company announces a bonus in the ratio of 1:1, it means shareholders get 1 additional share for every 1 share held.
Example: If you own 100 shares and a company declares a 2:1 bonus, you will receive 200 additional shares, taking your total to 300.
Examples from NSE & BSE
Infosys Ltd (NSE: INFY) announced a 1:1 bonus issue in 2018, doubling shareholders' holdings and boosting retail participation.
Hindustan Aeronautics Ltd (BSE: 541154) declared a 1:2 bonus in 2023, increasing investor confidence and liquidity in the stock.
Record Date and Ex-Bonus Date
To be eligible for bonus shares, investors must hold shares on or before the record date. The stock trades ex-bonus one business day before the record date. If you buy shares on the ex-bonus date or later, you are not entitled to receive bonus shares.
Impact on Share Price
After a bonus issue, the stock price adjusts downward in proportion to the bonus ratio, keeping the overall market capitalization unchanged.
If a stock is trading at ₹3,000 and a 1:1 bonus is issued, the stock price will typically adjust to ₹1,500 post-bonus.
Taxation on Bonus Shares
Bonus shares are not taxed at the time of receipt. However, when sold, capital gains are calculated based on a cost of acquisition of zero. This means the entire sale proceeds (after exemption limits and indexation, if applicable) are taxable as capital gains.
Bonus Stripping and Tax Avoidance
Bonus stripping is a tax avoidance strategy where an investor buys shares shortly before the record date for a bonus issue and sells the original shares at a loss after the price adjusts, while continuing to hold the bonus shares. The intention is to generate a short-term capital loss to offset other capital gains.
However, this is disallowed under Section 94(8) of the Income Tax Act, 1961. If an investor:
- Buys units (or shares) within three months before the record date
- Receives bonus units/shares
- And sells the original units/shares within nine months after the record date while still holding the bonus units
Then the loss on sale of original shares is ignored for tax purposes. This rule is intended to prevent artificial capital loss claims.
Example: You buy 100 shares of a company at ₹1,000 each just before a 1:1 bonus record date. After the ex-bonus adjustment, the price drops to ₹500. You sell the 100 original shares at ₹500, incurring a notional loss of ₹50,000, while holding the 100 bonus shares. Under Section 94(8), this ₹50,000 loss cannot be set off against other gains.
Investor Tip: To avoid falling foul of bonus stripping rules, either avoid selling the original shares within nine months or sell the bonus shares first. Always consult a tax advisor before executing tax-saving strategies around corporate actions.
Impact on Futures and Options (F&O)
- Futures: Futures contracts are adjusted for bonus issues through a change in lot size and price on the ex-bonus date.
- Options: The strike price and lot size are adjusted by the exchange to maintain parity in value.
Example: If the lot size of a stock is 500 and a 1:1 bonus is declared, the new lot size would become 1,000, and the strike price would be halved.
Why Do Companies Issue Bonus Shares?
- Boost liquidity and broaden retail participation
- Signal company confidence and financial strength
- Bring share price to a more affordable range
Bonus issues are a positive signal for long-term investors. With ProStocks, stay updated on corporate actions like bonus announcements and plan your trades accordingly.
Disclaimer: Investments in securities market are subject to market risks. Read all related documents carefully before investing. ProStocks is a SEBI registered stock broker (INZ000048231). This blog is for informational purposes only and does not constitute investment advice.
