How to save Capital gain tax on sale of Residential House under Section 54

Under section 54 of Income Tax Act, exemption is permitted to a taxpayer (individual & HUF only) who sells his residential house (Long Term Capital Asset-LTCA) and utilizes the amount of capital gain out of it to acquire another residential house. Long term capital asset is a property held for more than 24 months.

Section 54 of Income Tax Act:  Conditions to be satisfied to claim Exemption for House Purchase

(a) The new house should be purchased within a period of 1 year before or 2 years after the sale of old house, or should be constructed within a period of 3 years after the sale of old house. In case of compulsory acquisition, the period of acquisition or construction will be determined from the date of receipt of compensation (whether original or additional).

(b) Starting from the Assessment Year 2024-25, the Finance Act 2023 has imposed limitations on the maximum exemption allowable under Section 54. If the cost of the new asset surpasses Rs. 10 crores, the excess amount will not be considered when calculating the exemption under Section 54.

(c) W.e.f FY 2021-22, Exemption can be availed on purchase/construction of maximum number of two residential houses by utilizing the capital gain, if the gain from sale old house does not exceeds Rs. 2 crores. If the assessee exercises this option, he shall not be entitled to exercise this option again for the same or any further assessment year.

(d) In case an assessee utilizes the capital gain amount in purchasing a plot of land and constructing a residential house on it, both the amount of money spent on purchase of land along with cost of residential house construction will be considered as an investment in residential property for the purpose of claiming the exemption under this section.

(e) Exemption under section 54 will be lower of

(i) amount of capital gains arising on sale of residential house; and

(ii) Amount invested in purchase/construction of new residential house (including the amount deposited in Capital Gains Deposit Account).

(f) In case the assessee is unable to spend a part or full amount of capital gain until the due date of ITR filing for the year in which the old house is sold, he needs to deposit the unspent amount in a Capital gain deposit a/c in any public sector bank in accordance with capital gain deposits account scheme 1988. The new house can be purchased or constructed by withdrawing the amount from the said account within the specified time-limit of 2 years or 3 years respectively. Otherwise, capital gain tax will be levied on that unspent amount of capital gain.

(g) If a taxpayer purchases/constructs a new house and claims exemption under section 54 and transfers the new house within a period of 3 years from the date of its acquisition/completion of construction, then the benefit granted under section 54 will be withdrawn. This withdrawal is done by deducting the exempted capital gain from the cost of acquisition of this house while computing capital gain on the sale of the house.

(h) Exemption under this section can be claimed only in respect of house property purchased/constructed in India.

(i) Tax on short term capital gain (property held for less than 24 months) shall be calculated based on the person’s income tax slab rates and the basic exemptions are allowed accordingly.

Conclusion: Section 54 of the Income Tax Act encourages investment in residential properties by providing an exemption on capital gains. Taxpayers need to adhere to the specified conditions and timelines to avail of this benefit successfully. Understanding the provisions of this section can help individuals and HUFs make informed decisions while selling and acquiring residential properties.