Interior Decoration as Cost of Investment under Sections 54 & 54F: Judicial Recognition & Taxpayer’s Rights

Interior Decoration as Cost of Investment under Sections 54 & 54F: Judicial Recognition and Taxpayer’s Rights

I. Introduction

When a taxpayer sells a long-term capital asset and reinvests in a residential house, Sections 54 and 54F of the Income Tax Act offer exemption from capital gains tax. A recurring issue is whether interior decoration expenses—especially those incurred after purchase—can be included in the cost of investment in the new house. This article traces the statutory framework, judicial evolution, and taxpayer discretion, with verified citations and practical insights.

II. Statutory Framework

Key Point: The term “cost of new asset” under Sections 54 and 54F is not exhaustively defined, giving Courts the interpretive latitude to assess its scope based on functional necessity and genuine residential use. The central issue explored in this article is whether interior decoration expenses—incurred to make a newly acquired house suitable for residential use in accordance with the taxpayer’s lifestyle and preferences—can be treated as part of the cost of investment in the new asset. While taxpayers assert affirmatively, citing usability and customization needs, the Revenue often contests such claims, arguing that these are discretionary or luxury expenditures. This judicial tug-of-war underscores the evolving jurisprudence around what constitutes a “residential house” for exemption purposes.

III. Tribunal Decisions: Facts, Principles & Cited Cases

1. Sapna Hemanshu Shah v. DCIT (ITAT Bangalore), ITA No. 1153/Bang/2023, Order Date: 30.01.2024, Assessment Year: 2019-20

Facts of the Case

• The assessee sold a long-term capital asset and claimed exemption under Section 54.
• She purchased a new residential house and incurred post-purchase expenses amounting to ₹21 lakh on:
  • Modular kitchen
  • Wardrobes
  • Electrical fittings
  • Interior woodwork and furnishing
• The Assessing Officer disallowed these expenses, arguing that they were not part of the purchase price and hence not eligible for exemption.

Tribunal’s Ruling

• The Tribunal allowed the claim, holding that:

“Interior decoration expenses incurred to make the house habitable and usable are part of the cost of the new asset.”

• It emphasized that the functional usability of the house is key, and such expenses are integral to residential occupation.

Key Principle

• Functional necessity is the test under Section 54.
• Expenses that make the house livable and complete qualify as part of the cost of investment.
• The Tribunal adopted a liberal interpretation in favor of genuine residential use.

2. Venkatraman Jayashree Priyadharshini v. ACIT [2025] 160 taxmann.com 1165

• Court: ITAT Chennai

Citation: ITA No. 64/CHNY/2025

Order Date: 18 August 2025

• Facts: ₹88.85 lakh spent on modular kitchen, wardrobes, electricals post-purchase.
• Held: Allowed under Section 54.
• Principle: Interior work is part of making house habitable.
• Cited Cases: Not specified.

3. Sunil Bandacharya Joshi vs ACIT

• Court: ITAT Bangalore
• Citation: ITA No. 703/Bang/2016 | Order Date: 06.06.2018
• Assessment Year: 2011–12

Facts of the Case

• The assessee sold a residential site for ₹2.29 crore.
• Declared long-term capital gains of ₹10.69 lakh.
• Claimed exemption under Section 54F, stating that the amount was invested in a new residential house.
• The investment included interior fittings, such as designer doors, ornamental fixtures, and other decorative enhancements.
• The Assessing Officer disallowed part of the claim, arguing that these were luxury items, not essential for habitability.

Tribunal’s Ruling

• The Tribunal partially upheld the AO’s view.
• It held that:

“Expenses incurred on decorative fittings and ornamental doors cannot be considered part of the cost of construction for the purpose of Section 54F.”

• The Tribunal emphasized that only functional improvements—those necessary to make the house livable—qualify as part of the cost of investment.

Key Principle

• Functional necessity is the test under Section 54F.
• Luxury or aesthetic enhancements are not eligible unless they are integral to habitability.

Relevance

• This case is often cited to distinguish between essential interior work (e.g., plumbing, electricals, kitchen) and non-essential decorative items (e.g., designer doors, chandeliers).
• It sets a boundary for what qualifies as “cost of investment” under Section 54F.

4. Kapil Kumar Agarwal v. DCIT (Liberal approach to interpretation of s. 54F)

• Court: ITAT Delhi
• Citation: ITA No. 2630/Del/2015 | Order Date: 30.04.2019
• Facts: Claimed exemption for house under construction with basic amenities.
• Held: Allowed under Section 54F.
• Principle: Substance over form—house must be usable.

The Tribunal focused on whether the investment in an under-construction apartment qualified for exemption under Section 54F.

• The Assessing Officer had disallowed the claim on the ground that construction began before the sale of the original asset.
• The Tribunal held in favor of the assessee, stating that Section 54F is a beneficial provision and should be liberally interpreted.

The Tribunal emphasized that the substance of the transaction—i.e., acquiring a usable residential house—was more important than the timing of construction. In this context, this Tribunal decision is relevant, even though it is not upon interir decoration expenses.

5. Y. Manjula Reddy v. ITO (ITAT Bangalore) [2022] 140 taxmann.com 441, Order Date: 6 May 2022, Assessment Year: 2008–09

• Principle: Functional necessity is the test.

Facts of the Case

• The assessee sold a long-term capital asset and claimed exemption under Section 54F.
• The new residential property was purchased jointly in the name of the assessee and her husband.
• The assessee claimed to have reimbursed her husband for his share and also incurred additional expenses for interior design and furnishing.
• The AO denied full exemption, arguing that:
  • The property was jointly held, and
  • The interior expenses were not part of the cost of investment.

Tribunal’s Ruling

• The Tribunal held that:
  • The entire investment was made by the assessee, and mere mention of the spouse’s name in the purchase deed does not disentitle exemption.
  • The interior decoration expenses, being necessary to make the house habitable, form part of the cost of the new asset.
  • “The assessee has incurred further expenses for interior design, etc., which are to be considered as part of the cost of the new residential house.”

Key Principle

• Ownership is determined by source of funds, not by name on the title deed.
• Interior work qualifies as cost of investment if it contributes to habitability and is documented.

Relevance

This case is a strong precedent for:

• Recognizing interior decoration expenses as part of the cost of investment under Section 54F.
• Clarifying that joint registration does not defeat exemption if the investment is made solely by the assessee.
• Reinforcing the functional necessity test for post-purchase improvements.

6. Smt. Padmaja Gavini v. ITO (ITAT Hyderabad), ITA No.: 705/Hyd/2014, Order Date: 24 December 2014, Assessment Year: 2009–10

Facts of the Case

The assessee sold a residential flat along with its fixtures and fittings through separate agreements.

She claimed exemption under Section 54/54F on the entire sale consideration, treating the fixtures and fittings as part of the capital asset.
The Assessing Officer accepted the claim after due verification.

Subsequently, the Commissioner invoked Section 263, holding that the fixtures and fittings were not part of the residential property and that the corresponding amount should be taxed as “income from other sources.”

Tribunal’s Ruling

The Tribunal held that the Commissioner’s revision under Section 263 was invalid, as the assessment order was neither erroneous nor prejudicial to the interests of the Revenue.

It observed that even if fixtures and fittings were treated separately, they were personal effects of the assessee, the sale of which was not taxable.

Accordingly, the ITAT quashed the revision order and upheld the assessee’s exemption claim.

Key Principle

When fixtures and fittings are sold as part of a residential property, they may either form part of the capital asset or constitute personal effects.

In either case, their sale does not create additional taxable income, and revision under Section 263 is not justified in the absence of prejudice to Revenue.

7. Shrinivas R. Desai v. Asstt. CIT (OSD) [2013] 35 taxmann.com 170 / 145 ITD 12 (Ahd. – Trib.)

• Key Issue: Whether additional expenses incurred post-purchase (including fittings and finishing work) qualify as part of the cost of new asset under Section 54.
• Held: The Tribunal allowed such expenses, recognizing that residential usability requires more than bare walls.
• Principle Applied: Functional completion — the house must be usable as a residence, and expenses toward that end are valid.

8. Rustom Homi Vakil v. Asstt. CIT [2016] 69 taxmann.com 42 / 158 ITD 588 (Mum. – Trib.)

• Key Issue: Whether interior work and furnishing expenses incurred after possession are eligible under Section 54.
• Held: The Tribunal accepted that modular kitchen, wardrobes, and electrical fittings were essential for making the house habitable.
• Principle Applied: Habitability test — expenses must contribute to making the house fit for residential occupation.

9. Renu Ratnakar Bhattacharya v. CIT (Appeals) [ITA No. 2146/Mum/2022, dated 15-12-2022]

• Key Issue: Whether brokerage and post-purchase enhancements are part of cost of acquisition under Section 54.
• Held: ITAT Mumbai allowed brokerage and interior expenses, stating that they were necessary to make the house livable.
• Principle Applied: Residential readiness — the exemption applies to the full cost incurred to make the house usable.

IV. Summary Table of Tribunal Views

V. CBDT Circular No. 1/2023

• Date: 6 January 2023
• Subject: Extension of time limit for compliance to claim exemption under Sections 54 to 54GB
• Scope: The circular extended the deadline for taxpayers to complete actions such as investment, deposit, acquisition, purchase, or construction of residential property for claiming capital gains exemption, where the original deadline fell between 1 April 2021 and 28 February 2022. These actions were allowed to be completed up to 31 March 2023.

Relevance to Interior Decoration Expenses

• The circular recognizes that “construction or such other action” includes practical steps taken by taxpayers to make the house usable.
• This broad phrasing supports the view that post-purchase interior work—such as modular kitchens, wardrobes, and fittings—can be considered part of the investment in the new asset, especially when completed within the extended compliance window.
• It aligns with judicial interpretations [e.g., Sapna Hemansha Shah, Jayashree Priyadharshini (supra)] that emphasize habitability and functional usability as the test for inclusion under Sections 54/54F.

Thus, the circular indirectly reinforces the taxpayer’s right to customize the house and validates the inclusion of interior decoration expenses as part of the exemption-eligible investment, provided they are completed within the prescribed or extended timelines.

VI. Concluding Remarks

Judicial consensus affirms that interior decoration expenses, when essential for making the house livable, form part of the cost of investment under Sections 54 and 54F. Taxpayers retain the right to design their homes, and Revenue’s role is limited to verifying functional relevance and documentary support. CBDT Circular No. 1/2023 further strengthens claims where timelines are missed but investment is genuine.

The taxpayer has the unquestionable right to determine the nature of the house in which they choose to reside. The Revenue authorities are not empowered to intrude into personal preferences or adjudicate whether specific expenditures—such as interior enhancements—are “necessary” for the purposes of Sections 54 or 54F. It is the taxpayer’s prerogative to define the ambience, amenities, and interior design that suit their lifestyle and standards of living. Judicial tests like “functional necessity” or “habitability” serve as guiding principles, but they must not override the core autonomy of the taxpayer in shaping their residential space. Tax interpretation must respect this boundary and uphold the spirit of the exemption provisions. It is heartening to observe that the preponderance of judicial opinion across various Tribunal Benches in India leans in favour of the taxpayer—affirming their right to shape their residential investment—though a few contrary views do exist.