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Capital Gains on Sale of Property : Residential or Commercial

Yesterday I met my friend Vikrant, who was planning to sell one of his properties (which he bought in May 2003) to buy a house for his family but he was a bit confused about the transaction to be executed and applicability of taxes on the same. His questions were

  1. I bought this property which was a plot in May 2003 (Value Rs. 15.00 Lacs plus stamp charges Rs. 1.20 Lacs) and later constructed till July 2004 (Total Cost Rs. 18.00 Lacs, Rs. 15.00 Lacs through home Loan and Rs. 3.00 Lacs from Savings). Selling in February 2020 for Rs. 95.00 Lacs. How will I Calculate profit?
  2. What is indexation?
  3. Do I need to pay any taxes on the same?
  4. What is the rate of tax applicable to this transaction?
  5. How can I save this Tax?
  6. Can I buy a Commercial Property from my capital gains instead of Residential Property?
  7. Till How Much Time I have to hold this property?
  8. Can I Buy a new property in joint name with my wife?

Now we would like to clarify the questions asked by Vikrant one by one

  1. Capital gains in a layman’s language mean ” a profit from the sale of property or an investment”. The difference between the sale and purchase price of assets is called capital gains(capital loss, if the difference is negative). But in the technical sense, it means the difference between Gross Consideration Received (Sale Price) and Indexed Cost of Acquisition (Plot Price+Stamp Duty) Plus Indexed Cost of Improvement(construction cost plus interest on home loan till date, if not claimed as deduction from rental income in later years.
  2. If the property being sold is long term (i.e. being held for more than two years) then indexation benefit is being allowed. Indexation (Cost Inflation Index CII) means the index notified by the Central Govt. with reference to the average rise in the consumer price index, during the year immediately preceding the relevant previous year. The indexed cost of acquisition is arrived at by multiplying the cost of acquisition with the change in cost inflation index since the year of the acquisition or 1 April 2001 whichever is later. In our case plot price will be multiplied by 289 (index number of FY 2019-20) and divided by 109 (Index Number of FY 2003-04) i.e. 1620000/109*289. Hence the indexed cost of acquisition is Rs. 4295229/-. The indexed cost of the improvement will also be calculated in the same manner viz. 1800000/113*289=4603540/- (Indexed number for FY 2004-05  is 113). The total cost of Acquisition and Improvement is Rs. 8898769/- and the profit (capital gains) in this case is Rs. 601231/- (Rs. 9500000-Rs.8898769).
  3. Yes, the tax has to be paid on the capital gains If the benefit of exemption u/s 54 or 54EC is not availed of.
  4. The applicable rate of tax on long term capital gains tax (for property held for more than 2 years, till FY 2016-17 holding period criteria for the long term was 3 years) is 20% plus surcharge, if applicable plus health cess @ 4%. In case of short term capital gains (for property held for less than 2 years) taxes are applicable as per the slab rate applicable to the assessee.
  5. Yes, the tax can be saved by following the exemption benefits available u/s 54 and/or 54EC or 54F. Section 54 EC provides that tax can be saved by investing in bonds of REC/NHAI within six months from the date of transaction (date of selling of property) for a period of 5 years. These bonds cannot be used as collateral for the loan. Minimum Amount of investment is Rs. 20000/- and the maximum amount is Rs. 50.00 Lacs. Interest on these bonds is taxable.
    Section 54 (Applicable in case of sale of a residential house only) provides that tax can also be saved by investing in buying a residential property in India (property sold and newly bought both should be in India) by the individual or HUF. The new house should be bought either one year before the sale of old house or two years after the sale of old house or constructed within 3 years from the date of the old house(only capital gains amount needs to be invested). The new House bought should be held for a minimum period of 3 years.  The amount of exemption claimed is lower than the amount of capital gains or the cost of a new house purchased.
    Further capital gains arising on sale of any property other than residential house property can be saved by investing u/s 54F which is similar to section 54 except on two-point viz. in case of 54F the amount of Gross consideration needs to be invested (instead of capital gains as provided u/s 54), second while investing u/s 54F assessee should not have more than one house at the time of sale of old house (this condition was not there in section 54). Although the time prescribed u/s 54/54F is 2/3 years from the date of transaction but if the amount is not invested before the due date of filing of the return (Generally it 31st July every year) then the amount has to be deposited in the Capital Gains Account Scheme and later on while buying the house the amount will be withdrawn from this scheme account.
  6. Section 54 dealing with exemption relating to the investment of capital gains clearly provides that tax on capital gains can be saved by investing in residential house only and not commercial property. But Capital Gains of Commercial Property can be invested in Residential House Property by following the conditions mentioned in Section 54F.
  7. The new property bought u/s 54/54F to save the tax has to hold for a minimum period of three years.
  8. To Save the tax the new property to be bought in the name of seller only. Wife’s name can be used for buying the new property on the basis of a number of cases decided by various high courts but preferably it should be avoided so that in later years benefit u/s 54 F which might arise in future. In nutshell, the property should be bought in a single name only because Section 54F puts some restrictions on reinvestment of capital gains arising on sale of property other than a residential house property.

I hope this will clear all your pending questions. In case of any further queries pls feel free to mail me at pmanocha@pansofin.com but for the ease of understanding the table comprising the brief is given below: –

S. No. Particulars Section 54 Section 54 F
1 Kind of Property Being Sold The Benefit of Section 54 is available to Individual and HUF on the transfer of a long term capital asset, being buildings or land appurtenant thereto The benefit u/s 54 F can be availed of by the assessee on the transfer of any long term capital assets other than residential house property  (original assets)
2 Amount To be Invested For availing the benefit u/s 54 the assessee has to invest only the amount of Capital Gains For availing benefit, u/s 54F the net consideration has to be invested and not the capital gains for buying/constructing the residential house (new assets)
3 Conditions regarding Number of Properties There is no restriction on the number of properties being owned by the assessee at the time of transfer of original property Benefit Not available if

·         Assessee owns more than one house property at the time transfer of original assets

·         Assessee Purchases any residential house other than new asset mentioned above within 1 year from the date of transfer of original asset

·         Assessee constructs any residential house other than a new asset within 3 years from the date of the original transfer

 
4 New Asset sold within 3 years of purchase The cost of new asset will get reduced by the amount of capital gain claimed as exempt (Section 54(1)(ii)) Then the capital gains claimed as exempt u/s 54 F on the original asset shall be deemed to be the long term capital gains of the year in which new asset is being transferred. (Section 54F (3))

 

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