Section 54 of the Income Tax Act provides exemptions from long-term capital gains tax if the gains from the sale of a residential house are reinvested in purchasing another residential property within 2 years or constructing another residential property within 3 years from the date of sale. This helps taxpayers save tax by reinvesting the sale proceeds in a new home, subject to conditions under the Act.
Section 54 of the Income Tax Act provides an exemption from long-term capital gains tax when an individual or Hindu Undivided Family (HUF) sells a residential house property and reinvests the capital gains in purchasing or constructing another residential house within the specified time period. This helps taxpayers save tax by reinvesting their gains in a new home, subject to meeting all conditions under the section.
The main benefits of an asset being classified as a long-term capital asset include:
Under Section 54 of the Income Tax Act, individuals and HUFs can claim exemption on long-term capital gains from selling a residential house if they reinvest in another residential property. Firms, LLPs, companies, or other entities cannot claim this exemption.
All these conditions are cumulative. Failure to meet even one will disqualify the seller from availing the exemption under Section 54.
The amount of exemption under Section 54 of the Income Tax Act for the long-term capital gains will be the lower of:
To illustrate:
Mr X sells his villa(house property) for Rs 45,00,000. With the proceeds of the sale, he purchases another villa for Rs 20,00,000. Capital Gains will be computed as follows
Particulars | Amt (Rs) |
Capital gain on transfer of residential house | 45,00,000 |
Less: Investment made in residential house property | 20,00,000 |
Taxable Capital Gains | 25,00,000 |
The exemption will be lower of the Capital Gains (Rs 45,00,000) or investment in new property (Rs 20,00,000), so the exemption will be Rs 20,00,000.
Budget 2023: Long-term capital gain exemption will be capped at ₹10 crores on sale of:
Amended sections | Sale of | Sale amount invested in | Exemption Amount |
Section 54 | Residential property | New residential property | 10 crores |
Section 54F | Any long-term asset other than residential property | New residential property | 10 crores |
Section 54 of the Income Tax Act provides an exemption from long-term capital gains tax when an individual or Hindu Undivided Family (HUF) sells a residential house property and reinvests the capital gains in purchasing or constructing another residential house within the specified time period. This helps taxpayers save tax by reinvesting their gains in a new home, subject to meeting all conditions under the section.
If the new house is sold within 3 years from the date of purchase or construction, then the exemption claimed earlier under section 54 shall be indirectly taxable in the year of sale of the new house property. Let’s consider two scenarios when the new house is sold within 3 years from the date of purchase or construction:
Case 1: Cost of the new house purchased is less than the capital gains computed on the sale of the original house.
Generally, when a house is sold, the profit is considered as capital gains. However, when the new house is sold within 3 years from the date of purchase or construction, then the cost of acquisition will be considered as Nil. Hence, there will be an indirect increase in taxable capital gains
Example-
Mr Y has sold residential house property in May 2015 and the capital gains amounted to Rs. 30,00,000/- In June 2015, Mr Y purchased a residential house property worth Rs. 18,00,000/-
Mr Y sells the new residential house property (Purchased in June 2015) in December 2016 for Rs. 35,00,000/-
Based on the facts mentioned above, lets compute the taxable capital gains for Mr Y . FY 15-16 (Property sold in May 2015)
Particulars | Amount (Rs.) |
Capital gain on transfer of residential house | 30,00,000 |
Less: Investment made in residential house property | 18,00,000 |
Balance – Taxable Capital Gains In FY 15-16 | 12,00,000 |
FY 16-17 (Property sold in December 2016)
Particulars | Amount (Rs.) |
Consideration for transfer (Sale Consideration) | 35,00,000 |
Less: Cost of Acquisition | NIL |
Balance – Taxable Capital Gains In FY 16-17 | 35,00,000 |
Note:
As the new property for which deduction was claimed under Section 54 was sold in December 2016 (ie within 3 years from the date of acquisition), hence it’s cost of acquisition was considered as NIL.
As a result, the entire sale consideration was considered as capital gains. Had the property been sold after 3 years , ie after June 2018, then in such case the cost of acquisition would be available as a deduction and capital gains would reduce.
Case 2: Cost of the new house purchased is more than the capital gains computed on the sale of the original house
If the cost of the new asset purchased is greater than the capital gains, then it is obvious that there will be no capital gains as the entire capital gains will be exempted. However, if the new house is sold within 3 years, then cost of the new house will be computed as follows:
Particulars | Amount (Rs.) |
Original Cost | XXX |
Less : Capital gains claimed for the earlier house property | XXX |
Cost of the new house | XXX |
Example
Let’s understand the above case with the help of an example Mr Z has sold a residential house property and the capital gains is Rs 25,00,000/- in June 2015.
In October 2015, Mr Z purchased a new residential house property of Rs 40,00,000/- In January 2017, Mr Z sold the new residential house Property for Rs 55,00,000/-
Based on the capital gains mentioned above, let’s compute the taxable capital gains for Mr Z FY 15-16 (Property sold in June 2015)
Particulars | Amount (Rs) |
Capital gain on transfer of residential house | 25,00,000 |
Less: Investment made in residential house property | 40,00,000 |
Balance – Taxable Capital Gains In FY 15-16 | NIL |
FY 16-17 (Property sold in January 2017)
Particulars | Amount (Rs.) |
Consideration for transfer (Sale Consideration) | 55,00,000 |
Less: Cost of Acquisition (Refer Working Note Below) | 15,00,000 |
Balance – Taxable Capital Gains In FY 16-17 | 40,00,000 |
Working Note 1: Computation of cost of acquisition (As the property was sold within 3 years of purchase and Section 54 was claimed)
Particulars | Amount (Rs) |
Cost of Acquisition | 40,00,000 |
Less: Capital gains claimed for earlier house property | 25,00,000 |
Cost of the new house (to be considered) | 15,00,000 |
The Capital Gains Account Scheme (CGAS) allows taxpayers to claim exemption on capital gains if they have not yet purchased or constructed a new house within the specified time frame. If the asset is sold in a financial year and the new property is yet to be purchased (within 2 years) or constructed (within 3 years), the capital gains must be deposited in a CGAS account with a public sector bank before the due date of filing the income tax return.
The amount already spent on purchase or construction, along with the amount deposited in the CGAS, is eligible for exemption. However, if the deposited amount is not utilised within the specified time, it will be treated as taxable income in the year when the 3-year period expires from the date of sale of the original asset.
Earning income automatically casts a responsibility on the taxpayers to discharge income tax on such income and so is the case with capital gains too. However, the income tax laws allow taxpayers to claim certain exemptions against capital gains, which will help reduce their tax outgo.
Two such very crucial exemptions one can claim are under Sections 54 and 54F. As discussed above the exemption under Section 54 is available on long-term Capital Gain on sale of a House Property. Exemption under Section 54F is available on long-term Capital Gain on sale of any asset other than a House Property.
To claim exemptions under Section 54 or Section 54F, the following common conditions must be met:
Section 54 | Section 54F |
To claim full exemption the entire capital gains have to be invested. | To claim full exemption the entire sale receipts have to be invested. |
In case entire capital gains are not invested – the amount not invested is charged to tax as long-term capital gains. | In case entire sale receipts are not invested, the exemption is allowed proportionately. [Exemption = Cost the new house x Capital Gains/Sale Receipts] |
You should not own more than one residential house at the time of sale of the original asset. | |
This exemption will be reversed if you sell this new property within 3 years of purchase and capital gains from the sale of the new property will be taxed as short-term capital gains. | This exemption will be reversed if you sell this new property within 3 years of its purchase or construction OR if you purchase another residential house within 2 years of the sale of the original asset or construct a residential house other than the new house within 3 years of the sale of the original asset. Capital gains from the sale will be taxed as long-term capital gains. |
If the capital gains does not exceed Rs.2 crores, a once in a lifetime exemption is available for investment in 2 properties. | No such exemption available |