The FIFO method is used to determine the value of any item moving out of a stock account and of those remaining in stock at any point of time. When applied to a demat account, it implies that out of the existing holdings, the item that first entered into the account is deemed to be the first to be sold out. For purposes of tax calculation, the primary issue is determination of the cost of acquisition and the periodof holding. The primary position on the date of transfer and the period of holding does not change even when the securities are held in a dematerialised form.

"The only problem when shares are held in a demat form is that the distinct trail linking every share to a certificate and its unique distinctive number linking it with its subsequent sale is not available," said a ministry source.

The clarification issued recently has put to rest doubts among investors, several of whom had even refrained from entering the depository system for fears of ending up paying a much higher capital gains tax in the absence of certain clarifications. They also feared the prospect of different interpretations by different income-tax circles, which could lead to unnecessary litigation.

Sources said that there was a doubt whether the computation of FIFO would be done account-wise or would all the accounts of an individual be treated as one for computation of the same. By holding different accounts, for example one throughwhich the investor trades and the other where he keeps his shares for investment purposes only, an investor can plan his capital gains taxation liability effectively. It was not, however, clear whether these accounts would be looked at in isolation or be treated as one by the tax authorities as they belonged to the same individual.

The CBDT has now clarified that in a case where the investor has more than one account, the FIFO method will be applied account-wise. "This is because in cases where a particular account of an investor is debited for sale of securities, the securities lying in his other account cannot be construed to have been sold as they continue to remain in that account," said a source. The CBDT has also clarified that the FIFO method would be applicable only in respect of dematerialised holdings as in the case of a demat holding being sold, the securities held in the physical form cannot be construed to have been sold as they continue to be in the possession of the investor and areidentified separately.

The CBDT has also explained how the entry of a share into an account would be decided. The entry of the share into the demat account would depend on the date of credit of the demat shares into the account and not the date on which the physical share was acquired. In case of an exit from the account, the computation of the cost would on the basis of the date on which the share was acquired. For example, let's say an investor bought 2,000 shares directly in the demat form on January 1, 1998. He followed this up by dematerialising 1,000 shares which he had procured in the physical form way back in November, 1985, seven days later. The tranche of 2,000 shares would be treated as the first entry. Now if the investor decides to sell 2,500 shares, then the period of holding and the cost of acquisition of the first 2,000 shares would be from January 1, 1998 and the cost thereof. The remaining 500 shares will be treated as the second entry into the account and be treated as having beenacquired in 1985, at the relevant cost.