Rushi Mehta Real Estate Capital Gains Tax Unravelled
Are you planning to sell your house or invest in real estate, or have you recently
inherited some property? Dealing with your real estate assets will have taxation
implications, and taxation laws in India are changing every year. Keeping up with
the ever-changing taxation environment is a head-scratching exercise. If you are
grappling with these issues, then you are in the right place, as we will discuss all
aspects concerning capital gains tax affecting your real estate assets. I am going to refrain from using technical jargon and confusing concepts. Through this article, I aim to provide the readers with an eagle-eye perspective of the taxation landscape of real estate as an asset class, including an overview of the various factors affecting the sale/purchase of a capital asset.
Capital gains refer to the profits obtained from the sale or transfer of any legally owned capital asset, including movable or immovable property, tangible or intangible items. In this forum, we will limit our discussion regarding capital gains on immovable property, which includes your flats, offices, land, godowns, etc. If you are, however, in the business of buying and selling the above immovable properties, then profit from the sale or transfer of these properties would be treated as “Income from Business and Profession” and not as “Capital Gains tax.” If buying and selling immovable properties is not your business enterprise, then the same would be taxed under the head of Capital Gains.
Rate of taxation basis period of holding
The rate of taxation would depend on the duration of the assets you hold before being transferred. If you have owned/held the asset for less than 24 months, then the profit arising from the sale thereof would be treated as short-term capital gains, and subsequent to 24 months of holding, the resultant profit on transfer would be treated as long-term capital gains. If you have inherited some property or have been gifted the property, then the holding period in the hands of your predecessor would also be included to determine the period of holding.
Short-term capital gains are taxed according to the assessee’s tax slab. The amount to be taxed is derived by reducing the cost of acquisition, improvement/alterations/renovations, and expenses pertinent to the sale from the total sale proceeds received from the transfer.
Before the Finance Budget 2024, the taxation laws provided two options for the assessee to compute their long-term capital gains: an option of indexation clubbed with a higher tax rate and a lower tax rate without indexation. The Finance Budget of 2024 initially removed the indexation benefit for long-term capital gains and provided for a flat rate of taxation of 12.5 percent. However, a subsequent rollback was introduced wherein the indexation benefit was made available as an option along with a 20 percent taxation rate for property acquired before July 23, 2024.
“Before the finance budget 2024, the taxation laws provided two options for the assessee to compute their long-term capital gains: an option of indexation clubbed with a higher tax rate and a lower tax rate without indexation”
Indexation as an option for computing long-term capital gains
What is indexation?? And how is it beneficial to the assessee, you might ask? Indexation is used to adjust the purchase price of your investment to reflect inflation. The Indian government provides a Cost Inflation Index (CII) as a metric to estimate inflation on an annual basis. The base year for calculating the cost inflation is 2001-02, which means that even if your asset was acquired in 1998, you must use the cost inflation factor of the base year, which is 2001-02.
The base year has been shifted from 1981 to 2001, which will significantly impact inherited assets, legacy assets, and assets purchased way before 2001, as the inflation benefit thereon would be considerably lower. The base year of 2001 will have a CII value of 100 instead of the year 1981, and hence, the assessee loses out on inflation benefits for all the years before the base year. However, all is not lost, and you are still provided with an option to use either your asset’s historical cost of purchase or its fair market value as of April 1, 2001.
The best alternative to arrive at the fair market value of your asset on April 1, 2001 would be to use the circle rates/ready reckoner rates published by the government every year to determine the fair market value as of that date. However, one should remember that circle rates or ready reckoner rates are just indicative. Suppose the assessor feels that the value of their asset is much higher on April 1, 2001 than the circle rates. In that case, the assessee may use a valuation report to substantiate the higher valuation.
Let’s say you had purchased a flat in 1998 for, say, 46,00,000, and you sell it in 2023-24 for 2,00,00,000, and the fair market value of the asset as of April 1, 2001 as per the ready reckoner rates is 50,00,000. In the above scenario, the indexed value of your asset would be 1,74,00,000 (50 lakh * 348 (CII factor of 2023-24)/100 (CII factor of base year)) to calculate long-term capital gains. The capital gains would hence be 26,00,000 (200 lakh – 174 lakh), which would be taxed @ 20 percent, i.e. 5,20,000.
Caveats for indexation
This indexation option for computing long-term capital gains is available only to individuals and HUFs, not firms or companies. Furthermore, it can be considered only for tax calculation and not for determining or increasing loss for carry forward. The government’s decision to allow taxpayers to choose between a 12.5 percent tax rate without indexation or a 20 percent rate with indexation on long-term real estate transactions (acquired before July 23, 2024) offers flexibility for sellers, who can now choose the option that best suits their financial situation and the extent of their property’s appreciation.
While the 12.5 percent rate may seem attractive in a vacuum, the decision to opt for it or the 20 percent rate with indexation should be made after careful consideration of individual circumstances. Ideally, if a property’s value has significantly outpaced inflation or if the asset has been purchased relatively recently, the 12.5 percent flat rate, without using indexation, might be more beneficial.
As mentioned above, the government has provided the benefit of using indexation as a tool only to reduce longterm capital gains and not to increase capital loss. Therefore, indexation cannot be used to increase the long-term capital loss. There may be scenarios where the LTCG tax under both regimes is ‘Zero’ if the property is sold for consideration below its purchase cost. In such cases, the loss would typically be higher if the assessee applies the indexed cost of acquisition and improvement. Since grandfathering only addresses gains and not losses, taxpayers cannot use indexation tools to calculate a higher loss, offset it against other gains, or carry it forward to future years.
To understand it clearly, let’s say an assessee purchased a flat in 2015 for 50,00,000, which was sold in 2024 for, say, 49,00,000. If we use indexation, then the indexed cost of acquisition in 2024 would be 71,45,669 (50 lakh * 363 (CII index of 2023-24)/254 (CII index of 2015-16)). The assessee cannot, however, use the indexed cost of acquisition, i.e. 71,45,669, to arrive at a higher loss but shall be entitled to only a loss of 1,00,000 (as against 22,45,669 if the indexed cost of acquisition was considered) to be set off against other long-term capital gains or for carry forward of the same. In the same example, if the asset were sold for 70,00,000, then indexation would be allowed to compute capital gains tax (in this case, zero since the indexed value is less than the sale price). Still, the loss calculated as per the said method, i.e. 1,45,669, wouldn’t be allowed to be set off against other long-term capital gains tax or carry forward.
Set off long-term/short-term capital loss
The Act provides for the set-off of various losses against other gains/income of the assessee. Long-term capital loss can only be adjusted towards other long-term capital gains of the assessee. However, a short-term capital loss can be set off against both short-term and long-term capital gains. Furthermore, an assessee can carry forward unadjusted long-term/short-term capital loss for up to the next eight assessment years from the assessment year in which the loss was incurred only on the condition that the return is filed within the original due date. Therefore, if there are capital losses in a particular year, one must ensure diligence in filing returns, lest they would miss out on the benefit of being able to carry forward capital loss, which would help them in reducing tax liability in the following years in the event of a capital gain.
Undervaluation of transactions involving capital assets.
Since we are talking about capital loss, it is essential to point out that the transaction of transfer of capital assets, if done below 90 percent of the fair market value as per circle rate or ready reckoner rates as the case may be, then section 50C of the Income Tax Act would get attracted. In such cases of deemed undervaluation, the value per ready reckoner rates would be treated as the sale consideration. Moreover, the difference between the value so determined as per circle rates/ready reckoner and the actual sale value would be treated as undisclosed income and would be subject to scrutiny from the Income Tax Department. This transaction shall have implications for both buyers and sellers. In the hands of the buyer, since the property is being acquired at less than fair market values, such difference will be taxable as income from other sources u/s 56(2) (x).
Tax exemptions.
Once capital gains tax has been determined, the assessee can avail of various exemptions provided in sections 54, 54F, and 54EC of the Income Tax Act by reinvesting the capital gains or the net sale consideration as the case may be to purchase residential property or specified bonds. These tax exemptions are available only for long-term capital gains tax and not for short-term gains tax. Sections 54 and 54F are available only for individual assessees and HUF; hence, firms, companies, etc., cannot benefit from the same. To claim the exemption, a new residential house property must be purchased or constructed in both sections. The new residential property must be purchased either one year before the sale/transfer or two years after the sale/transfer of the property/asset. The assessee also has the option to construct a new residential house property within three years of the sale of the property/asset.
Conditions and potential pitfalls of availing exemptions.
If the assessee is not able to invest the specified amount in the manner stated above before the date of tax filing or one year from the date of sale, whichever is earlier, the specified amount needs to be deposited in a public sector bank (or other banks as per the Capital Gains Account Scheme, 1988). Furthermore, if the assessee sells the new property within three years, then the original exemption would be reversed, and the sale of the new asset would be treated as short-term capital gain in the case of section 54 and as long-term capital gains under section 54F. Section 54 provides an added flexibility to invest in two properties if the value of capital gains is at most 2 crore. Still, the said option can be availed only once in the assessee’s lifetime. It is also pertinent to note that, as per the latest amendments in the union budget, the income tax exemption under 54 and 54F will be restricted to 10 crore only from April 1, 2023.
Difference between 54 & 54F.
Sections 54 and 54F differ because the former is applicable on the sale of a residential house whilst 54F is applicable on the sale of any asset other than house property. i.e. residential house. Additionally, section 54F casts a responsibility on the assessee to reinvest the entire net sale consideration from the transfer to get income tax exemption, whereas 54 casts an obligation to invest only the capital gains of the transaction. In 54F, if the entire net consideration is not further invested, then the tax exemption is calculated proportionately to the net consideration to the amount invested.
Tax exemption for property received under redevelopment in Metro cities
In case of redevelopment, the new redeveloped flats provided by the developer against existing flats are treated as deemed transfer and hence liable to capital gains tax based on the difference between the fair market value of the new premises as against the original/indexed cost of the old premises as the case may be. However, exemption under 54 & 54F as explained hereinabove applies, with the condition that the new flat so received cannot be transferred for three years. For tenanted flats, one can have a tax benefit under 54F, and for ownership flats, the benefit is available under section 54.
54EC
In addition to investing in another residential house, or if the assessee already has multiple houses, there are other avenues to claim capital gains tax exemption using section 54EC of the Income Tax Act. The assessee can avail of exemption from long-term capital gains tax by investing the total amount to acquire bonds issued by NHAI and RECL within six months of the sale/transfer up to ₹50 lakh. The list of these bonds is available on the official website of the Income Tax Department of India. The amount invested in bonds would attract a lock-in period of five years, and if the bonds are sold during the lock-in period of five years, the tax exemptions claimed earlier would be revoked.
TDS
When buying or selling immovable property worth more than ₹50 lakh, it is also important to remember that the TDS provisions under 194IA of the Income Tax Act are attractive. The buyer must deduct TDS at the rate of one percent on the sale value or the stamp duty value, whichever is higher, and deposit the amount to the seller’s credit. If the seller’s PAN is unavailable, the buyer must deduct TDS at 20 percent instead of one percent.
Taxation for NRIs
The taxation norms and exemptions are equally applicable and available to NRIs as to Indian citizens, but there are restrictions on the repatriation of the sale proceeds outside the country. The NRI seller must submit Form 15CA and 15CB signed by a chartered accountant to repatriate the sale proceeds of the property sold with the authorised dealer bank. The repatriation limit is up to $1 million in a year.
Concerning TDS, an NRI selling a property must obtain a lower deduction certificate from the Income Tax Department under Sec 195 and deduct TDS at 20 percent and 30 percent for long-term and short-term sales, respectively, based on the certificate obtained from the Tax Department. Further, the buyer must obtain a Tax Deduction Number (TAN) from the Tax Department and pay the proceeds after the tax deduction.
Closing Remarks
That’s a lot of information to register and soak in. Due to the paucity of space and to keep the level of discussion essential, I have not dabbled into individual circumstances and instances leading to various tax implications. This article aims to provide a beginner’s guide to capital gains and their implications for purchasing and selling immovable assets. Whilst this may act as a starting point, an initiation into the basics of taxation, I recommend getting a specialist tax planner on board or taking on the advice of your Chartered Accountant to traverse the various nuances of capital gains tax.
As mentioned before, the rules and regulations surrounding the tax regime are ever-evolving and often subject to interpretations which may have completely different ramifications. One small mistake or slip-up may have large, unwanted consequences, so it’s always better to let experts handle things within their expertise. Their professional fees would be a small price if they can structure your transactions to save capital gains tax or if they control the entire process to ensure that there are no procedural lapses leading to the disallowance of exemptions, and so on. Long-term capital gains tax is amongst the lowest tax brackets amongst various investment avenues and, if used properly, can act as a proper tool for tax planning with the upside of capital appreciation.
About the author
Rushi Mehta, Director of Neelyog Group, is a distinguished leader with an exceptional academic record, including 1st Rank in BCom (Narsee Monjee) and 22nd All-India Rank in CA Final. With dynamic leadership, he has propelled Neelyog’s growth and innovation. Actively engaged in industry development, he serves as Joint Secretary of the Slum Rehabilitation Association and a committee member with CREDAI MCHI, driving positive
change in real estate.
