JULY 17, 2014

By Divya Baweja & Sudhakar Sethuraman, Deloitte Haskins & Sells LLP

UNDER the Income Tax Act, 1961 (Act), long term capital gains arising to an individual are exempt from capital gains tax provided the capital gains or sale consideration are invested as per the prescribed guidelines.

In terms of Section 54 of the Act, any long term capital gain arising to an individual from sale of a residential house property is exempt from taxation if the amount of capital gain is invested in another residential house property (new property). For availing this exemption, the individual can either purchase a new residential house within one year before the sale or two years after the date of sale, or construct a new residential house within three years after the date of sale. Similar exemption is provided by Section 54F of the Act, for sale of any long term capital asset (other than a residential house property) if the net sale consideration is invested in a new residential house within similar timelines.

In addition to the above exemptions, as per Section 54EC of the Act, long term capital gain invested in specified assets within a period of six months from the date of transfer of the original asset is eligible for exemption provided the value of investment in such specified assets during any financial year does not exceed Rs 5,000,000.

Hon'ble Finance Minister has proposed certain changes to these provisions in his maiden budget, which will have impact on individuals reinvesting long term capital gains / net sale consideration in new residential house properties. In terms of the proposed amendment, exemption under Section 54 and Section 54F of the Act will be available only if the investment is made in one residential house property situated in India.

In a way, the proposed amendment to invest in one new residential house property would avoid further litigation on this issue. Many court rulings have held that even purchase of multiple units / flats will be considered as a residential unit for the purpose of exemption. Further, the Finance Bill proposes that exemption will be allowed only if the new residential property is situated in India. This amendment will particularly be relevant for taxpayers who could avail exemption by investing in house property situated outside India.

Section 54EC has been a subject matter of dispute as some tax payers were able to claim exemption in excess of Rs 5,000,000 by splitting their investment over two tax years. To settle the anomaly, Hon'ble Finance Minister has proposed to amend Section 54EC of the Act to provide that the investment made by a taxpayer in specified long-term assets during the financial year in which original asset is transferred and in the subsequent financial year shall not exceed Rs 5,000,000.

In line with his introductory speech, the Hon'ble Finance Minister has tried to clear the ambiguity and provide clarity on the tax position to be adopted by the tax payers even though the same is not favouring the tax payer.