Question

1) Understand how un-realized Gains or Losses are handled when investor(I) sells shares in an Investee(IE) company?

Answer 1

Unrealized Gains or losses are calculated by taking the fair value or market price of the shares of the Investee (IE) company on the reporting date of the Investor (I) and subtracting the price at which the investment is made in the IE by the I.

The unrealized gains or losses are then credited or debited to the Profit and Loss account respectively, and gains or losses are booked in the books of the I. These are booked against temporary provisions for unrealised gains or losses.

These are only notional gains or losses and not realized ones, as the investments are still held by the Investor company and they are made "Marked to Market" (MTM) to distribute the gains or losses over the actual holding period of the investments.

When the shares are actually sold by the investor, the unrealized/ notional gains or losses are actually realized by the investor, and actual cash flow happens. So the actual value when shares are sold is adjusted with purchase price of investments, and realized gains or losses are found. These are then adjusted against the provision for unrealized gains or losses recognised in earlier periods, making the investor book the balance gain or loss in the current period in the Profit and Loss account (which are actual gains or losses for the period between last reporting date and date of actual sale of shares).

From Income tax point of view, the full amount of gain or loss, from the date of purchase till the date of actual sale, is booked once at the the time of actual sale of shares and resultant tax on capital gains is paid only in one go. There is no concept of "marked to market" or notional/unrealized gains or losses in Income tax. if there are losses, those are carried forward and set-off as per law.