Tax things are complex to understand but we will make sure you understand section 54 easily here: Let’s get started
Before we get into the details of Section 54, it’s essential to understand what capital gains tax is.
Capital gains refer to the profit earned from the sale of a capital asset, such as property, stocks, or bonds. The gain is classified into two types based on the holding period:
Short-Term Capital Gains (STCG): If you sell the property within 24 months of acquisition, the profit is considered short-term capital gain.
Long-Term Capital Gains (LTCG): If the property is sold after 24 months, the profit is considered long-term capital gain, which typically has a lower tax rate.
The tax on capital gains is calculated as follows:
STCG Tax: The gains are added to your income and taxed according to your income tax slab.
LTCG Tax: The gains are taxed at a flat rate of 20% with indexation (adjusting the purchase price to account for inflation) (If sold before 23rd July, 2024). 12.5% without indexation (If sold on or after 23rd July, 2024)
Section 54 allows you to avoid paying taxes on the profit from selling a residential property if you use that money to buy or build another residential property. This rule encourages people to reinvest in housing and helps reduce their tax burden.
1. Applicability
The exemption is available only for long-term capital gains, i.e., gains from property held for more than 24 months.
The property sold must be a residential house or plot.
The new property must also be a residential house.
2. Timeline for Investment
Purchase: The new residential property must be purchased either 1 year before or within 2 years after the sale of the original property.
Construction: If constructing a new house, it should be completed within 3 years from the date of sale.
3. Number of Properties
Earlier, the exemption was allowed only for one property. However, from the Assessment Year 2020-21 onwards, the exemption can be claimed for investment in up to two residential houses, provided the capital gains do not exceed ₹2 crores.
4. Amount of Exemption
The exemption is limited to the amount of capital gains or the cost of the new property, whichever is lower.
If the investment in the new property is less than the capital gains, the remaining gains will be taxable.
Let’s consider an example to make this clearer:
Sale Price of Old Property: ₹1 crore
Indexed Purchase Cost: ₹60 lakhs
Capital Gain: ₹40,00,000 (₹1,00,00,000 - ₹60,00,000)
If you invest ₹35,00,000 in a new property, you can claim an exemption of ₹35,00,000 under Section 54, and the remaining ₹5,00,000 will be taxable as long-term capital gain.
The main benefit of Section 54 is the significant tax savings. If you reinvest your profits from selling a property, you might be able to avoid paying taxes on those profits completely.
Encourages Reinvestment: The section promotes reinvestment in real estate, thereby contributing to the housing sector's growth.
Section 54 provides flexibility in terms of the investment timeline and the number of properties. You can purchase a new property either before or after selling the old one, and even invest in constructing a new house.
Dual Property Investment: The option to invest in two properties (under certain conditions) adds further flexibility.
Section 54 can be utilized not just for self-use residential properties but also for properties purchased for rental income or as a long-term investment.
Rental Income: Even if you buy a property with the intent to rent it out, you can still claim the exemption.
To claim the exemption, you need to ensure that all transactions are well-documented. This includes:
Sale Agreement and Sale Deed: For the property being sold.
Purchase Agreement or Construction Agreement: For the new property.
Proof of Payment: Receipts, bank statements, or other proof of payment made towards the purchase or construction of the new property.
When filing your Income Tax Return (ITR), you need to disclose the capital gains and the exemption claimed under Section 54.
Form 2 (For ITR-2 Filers): You’ll need to fill out the Capital Gains schedule in Form 2 if you’re an individual or HUF (Hindu Undivided Family) with income from capital gains.
Capital Gains Calculation: Provide the calculation of the capital gains, the cost of the new property, and the exemption claimed.
Make sure that you comply with the timelines and conditions set forth under Section 54 to avoid any disputes with the Income Tax Department.
Timeline Adherence: Strictly adhere to the 1-year, 2-year, and 3-year timelines for purchase and construction.
Property Use: The new property should be used as a residential house to qualify for the exemption.
| Aspect | Details |
|---|---|
| Applicability | Long-term capital gains from the sale of residential property |
| Investment Timeline | Purchase within 1 year before or 2 years after, or construction within 3 years |
| Number of Properties | One or two residential properties (if capital gains < ₹2 crores) |
| Exemption Amount | Lesser of the capital gains or the cost of the new property |
| Filing Requirement | Disclose in ITR with proper documentation |
| Common Pitfalls | Missing deadlines, incorrect documentation, investing in non-residential property |
Section 54 of the Income Tax Act helps property sellers save on taxes from selling a property. By reinvesting your profits into a new residential property, you can greatly reduce or even avoid paying taxes. To take full advantage of this, make sure to follow the rules and deadlines carefully.
Key Takeaway: Plan your property deals wisely, keep good records, and seek advice from tax experts to get the most benefits from Section 54.
1. What happens if I invest only a part of the capital gains in a new property?
You can claim exemption only for the amount reinvested. The remaining gains will be taxable.
Yes, you can claim the exemption if you are a joint owner of the new property, but the exemption is only available for your share of the investment.
There is no limit on the number of times you can claim the exemption, but if you choose to invest in two properties, this option can only be used once
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