Tax paid on capital gains by the company is shown in Cash Flow Statement as :

Cash outflow from Investing Activities

The correct answer is option (2) : Cash outflow from Investing Activities.

Taxes may be income tax (tax on normal profit), capital gains tax (tax on capital profits), dividend tax (tax on the amount distributed as dividend to shareholders). AS-3 requires that cash flows arising from taxes on income should be separately disclosed and should be classified as cash flows from operating activities unless they can be specifically identified with financing and investing activities. This clearly implies that:

• tax on operating profit should be classified as operating cash flows.
• dividend tax, i.e., tax paid on dividend should be classified as financing activity along with dividend paid.
• Capital gains tax paid on sale of fixed assets should be classified under investing activities.