Section 54F of Income Tax Act, 1961, provides tax relief to individuals and Hindu Undivided Families (HUFs) on long-term capital gains (LTCG) arising from the sale of certain assets. It encourages taxpayers to invest in residential properties. If a taxpayer sells a long-term capital asset (other than a residential property) and reinvests the proceeds into a new residential house, they can benefit from this exemption. The goal is to promote investment in housing and reduce the tax burden on taxpayers who use the gains to buy or construct new homes.
Who is Eligible?
Section 54F of Income Tax Act applies to two categories of taxpayers: individuals and HUFs. If a taxpayer has made a profit from selling a long-term capital asset, they can claim this exemption, but the rules for eligibility are strict. The asset sold must be a long-term capital asset that is not a residential property. This means that the taxpayer can sell things like land, commercial property, or shares but not the residential house they live in.
Are you interested in pursuing a career in Law? The Legal School in collaboration with IndusLaw has created unique programs for a Certification in Mergers & Acquisitions, Private Equity and Venture Capital Laws, and Certification in Mergers & Acquisitions for fresh law graduates as well as professionals looking to advance in their careers! Enquire now for details!
Conditions to Avail the Exemption
To claim the exemption under Section 54F of the Income Tax Act, certain conditions must be met.
Reinvestment in a Residential Property
The taxpayer must use the entire sale proceeds or part of it to buy or construct a new residential house. This investment must happen within a specific time frame:
One Year Before or Two Years After the Sale: If the taxpayer buys the new residential property, it should be within one year before or two years after the sale of the original asset.
Three Years for Construction: If the taxpayer decides to construct the new property, they must do so within three years from the sale.
Full or Partial Exemption
Full Exemption: If the cost of the new house is equal to or greater than the amount received from the sale, the entire capital gain is exempt from tax.
Partial Exemption: If the new house costs less than the sale amount, the exemption is calculated proportionally. The capital gain exemption is based on the ratio of the cost of the new asset to the sale proceeds.
For example, if you sold an asset for ₹50 lakh and used ₹30 lakh to buy a new residential property, you would be exempted on (30/50) × capital gain.
Restrictions on Ownership
There are certain restrictions to ensure that only genuine reinvestment in a new residential property qualifies for the exemption. These are important to note:
Only One Residential Property: The taxpayer must not own more than one residential house (other than the new property) at the time of transferring the original asset. If the taxpayer already owns more than one house, they will not be eligible for the exemption.
No Purchase or Construction of Another Property: The taxpayer must not buy or construct another residential property within three years from the date of transferring the original asset. Doing so will disqualify the exemption.
Impact of Renting Out the New Property
If the taxpayer purchases or constructs the new property and later rents it out (meaning the income is taxable under "Income from House Property"), the capital gain exemption claimed under Section 54F may get reversed. The exemption will be revoked if the new property is sold within three years from the purchase or construction date.
Read about the features of venture capital.
Capital Gains Account Scheme (CGAS)
Sometimes, taxpayers may not be able to utilize the capital gains immediately. In such cases, they can deposit the capital gains in a Capital Gains Account Scheme (CGAS). This scheme allows taxpayers to keep their capital gains in a designated account until they are ready to purchase or construct a new house. However, if the money is not used for the purchase or construction of the new property within the required time limit, it will be considered taxable income.
Time Limit for Reinvestment
The "Time Limit for Reinvestment" under Section 54F outlines specific periods within which the capital gains must be used to purchase or construct a new residential property to claim the tax exemption.
Purchase: The new property must be bought within one year before or two years after the sale of the original asset.
Construction: The new property must be constructed within three years from the date of sale.
CGAS: If the funds are not used immediately, they must be deposited into CGAS before filing the income tax return for the relevant assessment year.
Consequences of Selling the New Property
If the new residential property is sold within three years from its purchase or construction, the capital gains that were previously exempt under Section 54F of the Income Tax Act will be treated as taxable income. The taxpayer will have to pay tax on the capital gain again in the year in which the new property is sold.
Read to learn more about Merger and Acquisition Process
Why Does Section 54F of Income Tax Act Matter?
Section 54F is an important provision because it encourages taxpayers to reinvest the capital gains from the sale of long-term assets into housing. This helps in the growth of the real estate sector and makes housing more affordable for taxpayers. It also promotes savings and long-term investments.
By offering this exemption, the government aims to reduce the tax burden on individuals who invest their capital gains in the housing sector. It provides a clear incentive for people to move their gains into a productive asset, such as a home, which also benefits the economy.
Summary
Section 54F of , 1961, is a valuable tool for individuals and Hindu Undivided Families (HUFs) who sell long-term capital assets. Taxpayers can take advantage of major tax benefits by reinvesting the money into a new residential property. To get the most out of this exemption, though, they have to meet the specific requirements set out in the section. These include making sure they do not own more than one residential property, buying or building a new home within the time limits set by the government and not selling the new home within three years.
It is essential for taxpayers to carefully follow these guidelines to avoid losing the exemption. If used properly, Section 54F can help reduce tax liability and promote investment in the housing sector.
Related posts
Section 54F of Income Tax Act: FAQs
Q1. What is Section 54F of Income Tax Act?
Section 54F provides tax relief on long-term capital gains when the proceeds are invested in the purchase or building of a new residential home.
Q2. Who is covered under Section 54F?
Only individuals and Hindu Undivided Families (HUFs) are entitled to this exemption.
Q3. What happens if the new property is disposed of within three years?
If the new property is disposed of within three years, the Section 54F claimed exemption will be withdrawn, and the capital gain shall be taxed.
Q4. Am I eligible for full exemption under Section 54F?
Yes, if the cost of the new residential property is equal to or more than the net sale proceeds of the original asset.
Q5. What is the Capital Gains Account Scheme (CGAS)?
CGAS enables taxpayers to deposit unutilized capital gains in a specified account until they are prepared to purchase or build a new property.
