Since the land involved with the property is a Capital Asset and the value of the land keeps increasing everyday, the land works as a mean of safety, security and as an investment avenue. A property owner can earn hugely on the sale of the property. Because it’s a profitable way to make money, the income tax (IT) department of India treats it as an income and taxes are applied accordingly. One must know the legitimate ways to minimise his tax liability otherwise he will end up paying a large portion of his profits as the income tax. Here in this article we will discuss the factors which determine the tax liability and how a tax payer can save taxes.
Classification of the CapitalGain:
- Short Term Capital Gain (STCG): If you sell your immovable property such as land, house or building within 24 months (up to 2 years), any profit that you make on the sale will be considered as a Short Term Capital Gain or STCG, and there is zero possibility of saving taxes on this capital gain. STCG is considered as a regular income, taxable at the slab rate for the given year.
- Long Term Capital Gain (LTCG): When a property owner holds on to his immoveable asset for more than 24 months, it becomes a Long Term Capital Asset and the profit from the selling price is considered as Long Term Capital Gain or LTCG. It is calculated by deducting the buying price of the property from the selling price of the same and the property seller needs to pay 20.80% tax on the profit amount, irrespective of his tax slab.
Tax Rebate on LTCG:
There are certain conditions fulfilling which can save you from paying a huge amount of income tax, if as a property owner you reinvest the entire sale amount in building or buying up to two properties as mentioned in Budget 2019. Be mindful if you are planning to buy or build two properties, the exemption under Section 54 will only be available if the selling price of your long term asset does not cross the limit of Rs 2 crores. The tax benefit on LTCG can be claimed only once in a lifetimeand the exemption on LTCG can only be claimed if the following conditions are met:
- Buy the new property (or two) within one year before the sale or two years after the sale of the existing property.
- If you are planning to construct a house (or two) you must finish the construction within three years after the sale of the existing property.
- The new properties must be situated in India.
- On the date of transfer, theexisting property owner must not have more than one residential property (except for the new ones).
- The exemption is allowed only if no further residential property is bought within 2 years or no further residential property is constructed within 3 years from the date of purchase of the new property.
Government of India has introduced indexation to adjust the purchase price of the immovable asset to factor in inflation. This process significantly decreases the amount on which LTCG tax will be counted.
Let’s take a look how LTCG tax will be computed with the benefit of indexation:
Suppose a homebuyer purchased a property in 1994-95 at Rs 10 lakhs and he sold it for Rs 80 lakhs in 2015-16, his LTCG will be 70 lakhs. According to indexation his LTCG becomes:
LTCG = Selling price – Indexed cost of acquisition.
Indexed cost of acquisition = Purchase amount x (Index in year of sale/Index in year of purchase).
Now, the index in 1994-95 stood at 259 and in 2015-16 at 1,081.
Hence, your indexed cost of acquisition will be = 10 x (1081/259) =41.75
Your long-term capital gains will be = 80 – 41.75 = 38.25 lakhs.
So the LTCG tax will be counted on Rs 38.25 lakhs instead of Rs 70 lakhs.
Capital Gains Account Scheme:
Finding a suitable property, arranging the required money and getting all the legal documents ready in place can be a lengthy process. Thankfully, the Income Tax Department understand that and they allow the seller to invest the LTCG for getting tax refunds. If the property seller can not invest the LTCG until 31st July (date of filing for income tax return) of the financial year in which he has sold his property, as per the Capital Gains Account Scheme, 1988 the person will be allowed to deposit his gains in a PSU bank or in other banks within the period specified by the bank to claim exemption.
Section 54EC ~ Capital Gains Bond:
Under Section 54EC, you can also claim exemption for LTCG from property by reinvesting the amount into specific bonds such asNational Highway Authority of India (NHAI) or Rural Electrification Corporation (REC). However, this has to be invested within 6 months from date of sale of the property. The interest on such bonds is around 5.25% annually but it is capped at 50 lakhs and the maturity proceeds are tax free.
Exemptions Under Section 54GB:
Tax exemptions can be availed under Section 54GB if the capital gain is used to buy equity shares of eligible companies. It can also be availed under the same Section if the gain is reinvested in small and medium scale enterprises or in eligible start-ups. Property seller can claim deductions under this section if he decides to buy equipments for his own start-up with the LTCG.
Tax Rebate on STCG:
There are also few tax exemptions available under STCG if profit is within Rs 2.5 lakh and if you are below 60 years or if profit is within Rs 3 lakh and your age is above 60 years. However, do note that all tax related laws are constantly changing with time and you must keep yourself updated about such laws. This article is only a guidance under current laws.