BackLesser tax benefit for you on sale of house
Change in rules has made it more difficult for house sellers to save on taxes on the capital gains
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For those servicing a home loan or planning to take one, there’s good news—changes in tax exemption limits will now result in lesser tax liability. But for those planning to sell their property, things have become tougher due to amendments in capital gains tax rules. Amendments prescribed in the Finance Bill, 2014, could lead to you having to pay hefty capital gains taxes.
Calculating capital gains
Profits or gains arising from transfer of a capital assets such as property, gold, shares or bonds are called capital gains, and are taxed under the income head ‘capital gains’. For real estate, gains from transfer of property within three years of purchase are considered short-term capital gains (STCG), and after three years, long-term capital gains (LTCG). Tax on STCG is according to your tax slab, and 20.6% on LTCG, including cess.
Let’s assume that you plan to sell a house that you had bought in financial year (FY) 1995-96 for 20 lakh. The house is now worth 2 crore, and you are selling it in 2014-15. Your capital gain would be the selling price minus the cost of acquisition (inflation adjusted). To calculate the inflation adjusted cost of acquisition, the purchase price is to be multiplied by the cost inflation index (CII data can be seen on the Income-tax Department’s website) of the year of transfer. The resulting figure is to be divided by the CII for the year in which the asset was acquired. In the example above, the inflation adjusted cost of acquisition would be [20,00,000 * 1,024 (CII for FY15)]/281 (CII for FY96) = 72,88,256. This means that your capital gain would be 2 crore less 72,88,256, which equals to 1,27,11,744.
Accordingly, your LTCG tax would be 1,27,11,744*20.6%, which equals to 26,18,619.
You have the option of reducing the tax outgo—by reinvesting the capital gains in a residential property or in specified infrastructure bonds. Though these deductions were available earlier as well, some recent changes could be a cause of concern for you.
House: only one
According to the prevailing tax rules, LTCG arising from sale of an immoveable property are exempt under section 54/54F if the sum is used to acquire a residential property provided you meet certain conditions. To avail the exemption, you need to purchase the new house within a period of one year before or two years after the date of transfer of the earlier property. In case of under-construction properties, the construction needs to be completed within three years from the date of transfer.
A problem will arise if you had planned to buy more than one property with the capital gains to escape the LTCG tax. Earlier, there was no restriction on the number of residential properties you could buy to reinvest the capital gain and claim the entire amount as deduction. But now, it has been clarified that the investment can be only in one residential property situated within India.
If you buy more, the value of only one will be considered for deduction; you will have to pay tax on the rest.
Bonds: only 50 lakh
You can also save tax on LTCG from sale of property by investing the amount in specified bonds under section 54EC of the Income-tax Act, 1961. But this has to be done within six months of the sale or before filing of income-tax return, whichever is earlier.
One could invest up to 50 lakh in capital gains bonds in a single financial year. It also meant that you could earlier invest a total of, say, 1 crore in these bonds—50 lakh each in two consecutive financial years, provided you did it within six months of the sale of property. But now it has been clarified that the total exemption will be restricted to 50 lakh. Any amount above this, if not reinvested in a residential property, will attract LTCG tax.
Tax on token money
There are some other changes that you must take note of if you are selling a house.
You now have to pay tax on any advance received against booking of a residential property and later forfeited if the deal does not materialize. The forfeited amount will be taxed in the year it was paid under the head of ‘income from the other sources’. Earlier, such an amount could be reduced from the cost of acquisition in the year of sale. But not any more. All the above amendments will apply from assessment year 2015-16.
What should you do?
Unless you need the capital gain amount for some other purpose, it makes sense to reinvest in a residential property or bonds, and save taxes.
If you decide to reinvest in a residential property, start your search for a suitable house while looking for a buyer for your property. But it would be better to find a buyer first for the existing property and then book a new property. Else, you might need to make a distress sale.
However, you may not be able to zero down on a new house of your choice before you find a buyer for your old house. In that case, once you receive the sale consideration, you can deposit the capital gains in a Capital Gains Account Scheme (CGAS) before the due date of filing tax return, i.e. 31 July, to save on LTCG tax. But treat CGAS only as a parking place, where you can deposit money until you find a house that suits you, of course, within a time limit. The amount has to be parked in CGAS with the intention to use the funds to buy a new house within two years or to construct one within three years.
Besides this, you also need to remember that if the new property you buy is sold or the bonds are redeemed within three years of purchase, the exemption claimed with respect to the older property shall be revoked. Even if you take a loan or advance against the bonds, the move will deemed as converting the bonds into cash.
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