Basic of capital Asset

Any kind of property owned by an assessee which is movable or immovable, tangible or intangible, fixed or circulating is known as capital asset. It may be connected to business or profession or may not be connected.


Types of Capital Assets

For the purpose of capital gains the assets are bifurcated in two major sections that are:

  • Short term capital assets - Capital assets which are held by the individual for not more than 36 months or less are called as short term capital asset. The gains from the sale of these assets are called as short term capital gains.
  • Long term capital assets - Capital assets that are held by the assessee for more than 36 months are called as long term capital assets. The gains from selling these assets is called as long term capital gains.

In case of land or other immovable property, if held for more than 24 months , it is considered as a long-term capital asset.
For the purpose of Section 54 , the house property should be held for more than a period of 24 months to consider a transfer as long -term capital asset.


Eligibility to avail the benefits under Section 54

According to this section, when an assessee sells a residential property which is a long term capital asset and buys another house property, he or she is eligible to claim exemption for taxation. To avail this exemption the individuals must satisfy the following conditions:

  • Only individuals or HUF are eligible to claim this benefit. The companies cannot reap the benefits of this section.
  • The house property taxpayer is selling should be a long term capital asset.
  • The property that is to be sold should be a residential house. Income from this property should be charged under the head income from house property.
  • The new house property should be purchased either one year before the date of transfer or two years after the date of sale or transfer. In case of construction of new house the individual is given an extended time period to construct house i.e within three years of the date of transfer or sale.
  • The house property that is bought should be in India.

If any of the above conditions is not fulfilled by the individual, he or she is not liable to claim exemption under section 54 of the income tax act. Only one such transaction by the taxpayer is eligible for availing the exemption under section 54.


Amount of capital gain Exemption

The Section 54 of the Income Tax Act allows the lower of the two as exemption amount for a taxpayer:

  • Amount received as capital gains on transfer of residential property, or
  • Investment made for constructing or purchasing a new residential property.

The balance amount (if any) will be taxable as per the income tax act.

For example: Mr Anand sells his house property for Rs. 35,00,000. With the amount of sale he purchased a new house property for Rs. 20,00,000. The exemption under section 54 will be the lower amount among both that is Rs 20,00,000. The capital gains that is liable for taxation will be the balance of both that is Rs 15,00,000 ( 3500000-2000000).


Conditions mandatory for Section 54

The taxpayer requires to fulfil various conditions to avail the exemptions under section 54. They are as follows:

  • After the sale of the old house property the assessee must purchase a new residential property or construct a new house property to get benefit from this exemption.
  • The new residential property must be purchased or constructed either one year before the sale of the old property or two years after the sale of the house property.
  • Only one house property can be constructed or purchased by the individual to claim the benefit.
  • If the individual fails to construct or purchase a new house property within the stipulated time period, he or she can deposit the capital gains proceeds in Capital gains Account Scheme in any public sector bank and avail the exemption from this section.

Concept of Capital Gains Deposit Account Scheme

If the assessee is unable to purchase or construct property within time period and still wants to save tax he or she can invest all the unutilized capital gain proceeds of the old house property in Capital Gains Deposit Scheme. In this way the new property can be purchased later and the capital gains from the proceeds of sale of old house property will not be taxable too.

Various conditions are specified for deposition in Capital Gains Deposit Scheme in the income tax act. They are:

  • This can be done in any public sector bank.
  • The deposition has to be done before the due date for filing income tax returns.
Non-utilisation of the amount deposited in Capital Gain Deposit Account Scheme

Below mentioned are the regulations regarding non utilization of the amount deposited in Capital Gains Deposit Scheme by the assessee:

    The amount deposited in the Capital Gains Deposit Scheme needs to be withdrawn for construction or purchasing of new house property within two to three years of deposition. If the assessee do not withdraw this amount within the stipulated time period then the amount of capital gains will be taxable in the hands of the taxpayer.

If the assessee buys or construct a new house after selling old house property which is along term capital asset , he or she can claim exemption under section 54.
Further is he or she wants to sell the new property owned by him or her, the individual must hold the property for a minimum of three years to claim benefit under section 54.
If he or she sells before the stipulated time period the benefit given to him or her will be withdrawn from the taxpayer and he or she has to pay the tax on capital gains due from last transaction.

In case if the new house property sold within three years of purchase then two scenarios can happen. To calculate the taxability there are two cases:

If the new house property is less than the capital gains calculated from the sale of the original house property.

In this case, the capital gain exempted while transfer of property will now be taxable and cost of acquisition of new asset will be considered zero.


Illustrations

Mr Swastik has sold residential property in May 2016 for which the capital gains amounted to Rs. 40,00,000. In June 2016, he purchased a house property worth Rs. 20,00,000. Further, he sells the new residential house property (Purchased in June 2016) in December 2017 for Rs. 25,00,000.

Computation of his taxable capital gains will be as follows:

  • Financial Year 16-17 (Property sold in May 2016)
    Capital gain on sale of house property 40,00,000.00
    Less: purchase of new residential property 20,00,000.00
    Taxable Capital Gains ( Financial Year 16-17) 20,00,000.00
  • Financial Year 17-18 (Property sold in December 2017)
    Capital gain on sale of new house property 25,00,000.00
    Less: Cost of acquisition Nil
    Taxable Capital Gains ( Financial Year 17-18) 25,00,000.00

The new property was sold within three years from the date of acquisition, hence its cost of acquisition was considered as nil. Thus, the complete sale amount will be taxable as capital gains.

When the cost of the new house property purchased is more than the capital gains calculated on the sale of the original residential property.

In this case, the cost of acquisition of new house property will be reduced by the amount of capital gain exempted.

For Example

Mr Taha has sold a residential property and the capital gains is Rs 35,00,000 in June 2015. In October 2015, he purchased a new house property of Rs 50,00,000. In January 2017, he sold the new residential Property for Rs 65,00,000.

Computation of taxable capital gains will be as follows:

  • Financial Year 15-16

    Capital gain on sale of house property 35,00,000.00
    Less: purchase of new residential property 50,00,000.00
    Taxable Capital Gains ( Financial Year 16-17) Nil
  • Financial Year 16-17

    Capital gain on sale of new house property 65,00,000.00
    Less: Cost of acquisition of new house 15,00,000.00
    (50,00,000-25,00,000*)
    Taxable Capital Gains ( Financial Year 16-17) 50,00,000.00

    *capital gains claimed for earlier house property

In simple language we can conclude that, if the new residential property is sold within a period of 3 years from the date of acquisition or from the date of completion of construction, then capital gains exempted will be taxable.


Difference between Section 54 and Section 54F

The income tax act states various tax exemptions against capital gains that saves the tax for the assessee. Two of the major capital gains exemptions are stated under section 54 and section 54F. Bothe are moreover similar and states exemptions on long term capital gains There is a major difference between both the exemptions of the tax.

Section54

Section 54F

  • Section 54 of the income tax act includes exemption on long term capital gains for the sale of a residential property.

  • Entire capital gains needs to be invested to claim full exemption. 

  • When entire capitals gains is not invested the leftover amount is charged for taxation as long term capital gains.

  • No rule is mandatory for ownership of one or more residential property.

  • If the individual sells the new house property within the period of three years from purchase the exemption will be reversed and the capital gains from such property will be taxed as short term capital gains. 

  • Section 54F can be claimed on long term capital gains for sale of any asset other than a residential property.

  •  Entire sale proceeds needs to be invested to claim full exemption.

  • If entire sale proceeds is not invested the exemption is allowed  proportionally. In this case exemption will be as follows:


  Exemption = Cost the new house x Capital Gains/Sale Receipt

  • One can not own more than one residential house at the time of sale of an old asset.

  •  If the individual sells the new property within the period of three years from purchase of new property or purchase another property within two years of sale of the original asset other than the new house  or construct a new house within three years of sale of original property the exemption will be reversed. The capital gains in such a case will be taxed as long term capital gains. 


Important Notes

  • The property that is purchased after selling should be bought on the name of the seller and not on any other name to claim the benefit.
  • Exemption is still allowed to the taxpayer, if the builder fails to give possession of the newly constructed residential property within the period of three years of purchase.
  • When the cost of the new residential property is lower than the total sale proceeds of the original property, the exemption will be allowed proportionately. One can reinvest the leftover amount under section 54EC within six months to save tax.

Few other exapmles for better unerstanding of Section 54 of the Income Tax Act,1961.

  • Q- Mr. Rituraj purchased a residential house in April, 2013 and sold the same in April 2019 for Rs. 7,40,000. Capital gain arising on sale of the house amounted to Rs. 1,00,000. Can he claim benefit of section 54 by purchasing another residential house from the capital gain of Rs. 1,00,000?
    Ans: Yes, Mr. Rituraj can claim the benefit of section 54 by purchasing another residential property from the capital gains of Rs. 1,00,000 within the time period. As he fulfils all the conditions stated under section 54 that is he is an individual and his property was long term capital asset, he will be benefited under section 54.
  • Q- Mr. shekhar purchased a residential property in April, 2014 and sold the same on 21st April, 2019, for Rs. 12,40,000. Capital gain arising on sale of house amounted to Rs. 2,00,000. He had constructed a new residential house in November, 2018 for Rs. 6,00,000. Can he claim the benefit of section 54 in respect of the house constructed in November, 2018?
    Ans: The assessee constructed the new house property within the period of one year before the transfer of the old house property that is 21st April, 2019, hence he qualifies for the exemption under section 54. He can claim the benefit of section 54 in respect of his newly constructed house in November 2018.
  • Q- Mr. Kshitij purchased a residential property in April, 2018 and sold the same property in April, 2019 for Rs. 10,40,000. Capital gains arising on sale of house amounted to Rs. 2,00,000. Can he claim benefit of section 54 by constructing another residential house from the capital gain of Rs. 2,00,000?
    Ans: The residential property in this case is a short term capital asset as it is held for a period less than 24 months. The benefit of section 54 will not be available to mr. Kshitij as the period of holding immovable property under this section is 24 months before the transfer.

Conclusion

Any income earned by any means go hand in hand with taxation on the same income. This is in case of all income including salary, income from other sources, capital gains and so on. Section 54 of the income tax act explains the benefits of exemption on sale of residential property. This section allows tax benefits on long term capital gains that is received from the sale of a residential property. One can claim this benefit by either purchasing a new property or by depositing the amount of sale proceeds in Capital Gain Account Scheme in any public sector bank.

Frequently Asked Questions

Q- Is the full amount received from the sale of property is taxable?

Ans. Regulations regarding sale of property is stated under section 194-IA.


Q- Who pays TDS in case of sale of property?

Ans. No, the profit earned by the individual on sale of property is taxable as tax on capital gains.


Q- Sale of which type of property can avail the benefit of exemption under section 54?

Ans. Exemption under section 54 is only allowed on sale of a residential property which is a long term capital asset for the assessee.


Q- When is the taxpayer benefited under section 54?

Ans. When the assessee purchase a new residential property within two years of the sale of the original house property or construct a new house property within three years of sale of old property, he or she is liable to get benefit from the exemption under section 54.


Q- How much exemption is allowed under section 54?

Ans. Under section 54 of the income tax act, amount from sale proceeds of the original house property or the amount of new residential property whichever is less is completely exempt.


CA Abhishek Soni

Abhishek Soni is a Chartered Accountant by profession & entrepreneur by passion. He is the co-founder & CEO of Tax2Win.in. Tax2win is amongst the top 25 emerging startups of Asia and authorized ERI by the Income Tax Department. In the past, he worked in EY and comes with wide industry experience from telecom, retail to manufacturing to entertainment where he has handled various national and international assignments.