Under-Construction Flat Allotments as Construction Under Section 82, Income-tax Act, 2025

Characterisation of Under-Construction Flat Allotments as a Construction under Section 82 of the Income Tax Act 2025

Introduction

Despite statutory structural changes, with the commencement of the Income-tax Act, 2025, effective from April 1, 2026, the underlying battlegrounds of tax litigation remain identical. For seasoned tax practitioners, one of the most intellectually stimulating and frequently litigated subjects is the legal characterisation of under-construction residential flats acquired under the self-financing or allotment schemes of co-operative housing societies and public institutions such as the DDA or flats purchased from any private developers. While a purchase of a house property requires strict adherence to a tight two-year post-sale reinvestment window, the law grants a more liberal three-year window for properties deemed to have been “constructed”. Section 82 of the Income-tax Act, 2025, treats such allotments under self-financing or cooperative schemes as “construction” for the purpose of availing exemptions under the mentioned section.

The Statutory Contrast: Timelines and the Value of the Three-Year Window

To understand why the classification of such an allotment as “construction” is so heavily contested, one must first look at the strict chronological parameters established by the legislature. Under Section 82 of the Income-tax Act, 2025, the timeline allowed for a taxpayer to reinvest long-term capital gains differs depending on whether the transaction is characterised as a “purchase” or a “construction”.

If the transaction is treated as a purchase, the new residential house must be acquired within one year before or two years after the date on which the transfer of the original asset took place. However, if the transaction is treated as construction, the taxpayer is granted a more generous window of three years after the date of transfer to complete the construction.

The visual contrast between these statutory requirements is outlined in the comparison table below:

For a taxpayer investing in a rapidly growing urban landscape, buying a flat in an under-construction building is far more practical and financially viable than finding a fully constructed, ready-to-move-in house. Properties under construction are generally priced lower because they lack the premium associated with immediate possession.

However, because real estate developers and cooperative societies routinely take two to three years (and often longer) to complete high-rise towers, treating these transactions as simple “purchases” would mean that almost every taxpayer who books an under-construction flat would fail the strict two-year post-sale registration deadline. This would lead to the automatic disallowance of their capital gains tax exemption. Thus, the “construction” classification acts as a vital safety valve that aligns the tax code with the realities of modern housing development.

The Genesis of the Legal Fiction: CBDT Circulars as Binding Law

The legal foundation that treats institutional allotments as construction is not a judicial invention, but a deliberate policy decision made by the Central Board of Direct Taxes (CBDT) decades ago. Under Section 119 of the Income-tax Act, the circulars issued by the CBDT are strictly binding on the assessing authorities, even if they deviate from a literal interpretation of the statute.

The cornerstone of this framework is CBDT Circular No. 471, dated October 15, 1986. The Board was called upon to examine whether the acquisition of a flat by an allottee under the Self-Financing Scheme (SFS) of the DDA should be treated as a purchase or as a construction of a house by the DDA on behalf of the allottee. In analysing the scheme, the CBDT observed several key operational characteristics:

1. The allotment letter is issued upon the payment of the very first instalment of the cost of construction.
2. The allotment is final and can only be cancelled under exceptional circumstances.
3. The allottee obtains a substantial right and title to the property upon the issuance of the allotment letter.
4. The subsequent payment of instalments is merely a follow-up action, and taking physical delivery of possession is a final formality.

Based on these facts, the Board concluded that the DDA was essentially undertaking construction work on behalf of the individual allottee, meaning the transaction was not a sale of a finished product. Consequently, the CBDT ruled that allotments under such self-financing schemes must be treated as cases of construction for availing of the exemption under this section.

Realising that taxpayers across India were investing in cooperative housing societies and state housing boards using similar types of instalment-based financing models, the CBDT issued Circular No. 672 on December 16, 1993. This circular extended the principle of Circular No. 471 to cooperative housing societies and other public or private institutions whose schemes of allotment and construction are similar in terms to those of the DDA.

The primary mechanism of this circular is straightforward: as long as the tentative cost of construction is determined at the outset and the allottee is permitted to pay for the construction in instalments, the transaction must be treated as a case of construction, allowing the taxpayer to utilise the full three-year reinvestment window.

The Core Jurisprudential Doctrine: Substance Over Form

The judicial system has embraced and expanded these circulars, turning them into a robust body of tax jurisprudence. The courts have consistently looked at the economic substance of the transaction rather than its formal nomenclature.

When a taxpayer books an under-construction flat, the contract is fundamentally a works contract. The developer or cooperative society does not have a completed flat to sell on the date of the agreement. Instead, they possess a parcel of land and a sanctioned plan. The money paid by the allottee is used to purchase raw materials, hire labour, and physically construct the apartment.

Therefore, in the eyes of the law, the builder is merely acting as a contractor executing construction on behalf of the buyer. This is the precise reason why the 3-year construction period is made available to such acquisitions.

The Bombay High Court beautifully articulated this principle in the landmark case of CIT v. Mrs Hilla J.B. Wadia. The Court observed that the booking of a flat in an apartment complex under construction must be viewed as a method of constructing residential tenements. The Court emphasised that the legislative intent behind capital gains exemptions is to encourage investment in housing, and therefore, beneficial provisions must be interpreted liberally to achieve their social objective.

This view was further solidified by the Delhi High Court in PCIT v. Akshay Sobti, where the High Court of Delhi held that booking an unfinished flat counts as constructing a house, meaning the completion date of construction, not the registration date of the final sale deed, is the primary anchor for assessing eligibility under Section 82.

Analysing Key Litigation Hotspots and How to Handle Them

While the legal position is well-settled at the appellate level, the practical reality of dealing with the tax department at the ground level can be extremely frustrating. Assessing Officers (AOs) routinely raise standard objections to deny exemptions.

Objection 1: “The agreement is titled ‘Agreement to Sell’, and hence it is treated as a purchase, not construction.”

This is perhaps the most common objection raised during a tax audit. The tax department often takes a literal approach, arguing that because the document executed with the builder is styled as an “Agreement to Sell” or “Apartment Buyer’s Agreement,” the transaction must fall under the two-year “purchase” deadline.

The Rebuttal: Taxpayers must rely on PCIT v. Akshay Sobti and Mustansir I. Tehsildar v. ITO. In both cases, the courts held that the actual nomenclature of the agreement is irrelevant. What matters is the state of the property on the date of the agreement.

If the building was under construction when the agreement was executed, the transaction is legally a construction activity, and the three-year timeline applies.

Objection 2: “The construction was not physically completed, and no Occupancy Certificate (OC) was issued within the three-year window.”

This is a terrifying scenario for many taxpayers. A taxpayer sells a property, invests the capital gains with a builder, but due to builder default, labour shortage, or regulatory delays, the builder fails to hand over possession or obtain an OC within three years. The AO then attempts to withdraw the entire exemption, claiming a violation of Section 82.

The Rebuttal: The taxpayer must argue that the statute requires the utilisation of the capital gains for construction, not the absolute, brick-by-brick completion of the house. The Kolkata ITAT in Ramautar Saraf (HUF) held that once the taxpayer has invested a substantial part of the capital gains in the purchase of land and paid construction fees, the exemption cannot be denied merely because the building is incomplete or the municipal approvals are delayed.

Furthermore, the Madras High Court in Mrs Seetha Subramanian v. ACIT clarified that under CBDT Circular No. 471, the allotment itself is sufficient compliance for getting the benefit of the exemption, even if the builder has defaulted on the construction timeline. The taxpayer cannot be penalised for a default that is entirely beyond their control.

Objection 3: “The builder-buyer agreement was not registered within the timeline.”

AOs often argue that under Section 54 of the Transfer of Property Act, 1882, the transfer of ownership in an immovable property can only happen through a registered conveyance deed. In the absence of registration, they refuse to recognise the purchase or construction.

The Rebuttal: The Supreme Court of India settled this issue in the landmark case of Sanjeev Lal v. CIT. The Apex Court held that when an agreement to sell is executed, a right in personam is created in favour of the buyer, and the vendor’s right to sell the property to anyone else is extinguished. This constitutes a “transfer of a right” under the wide definition of Section 2(47) of the Income-tax Act.

Therefore, for the purpose of claiming a capital gains exemption, the registration of a formal sale deed is not mandatory. The payment of substantial consideration and the acquisition of a vested right in the under-construction flat are more than sufficient.

The Intersection of Section 82/86 with Deemed Gift Tax under Section 56(2)(x)

A nuanced and overlooked litigation hotspot occurs at the intersection of capital gains reinvestment and the “deemed gift” provisions under Section 56(2)(x). Under Section 56(2)(x), if a taxpayer acquires immovable property for a consideration that is less than the stamp duty value (circle rate), and the difference exceeds ₹50,000 or 10% of the consideration, the differential amount is taxed as “Income from Other Sources” in the hands of the buyer.

In under-construction allotments, there is always a massive time gap between the date on which the booking rate is locked (via the allotment letter) and the date on which the final deed is registered years later, by which time circle rates have soared. Assessing Officers frequently attempt to compare the actual price paid by the taxpayer with the stamp duty value on the date of registration, resulting in huge tax demands under Section 56(2)(x).

To resolve this complex issue, practitioners must rely on the milestone ruling of the Kolkata ITAT in the Greenfield City Project LLP case. The Tribunal analysed the proviso to Section 56(2)(vii)(b) (and the identical proviso now in Section 56(2)(x)), which states that where the date of the agreement fixing the amount of consideration and the date of registration are not the same, the stamp duty value on the date of the agreement may be taken, provided that the payment has been made through banking channels on or before the date of the agreement.

The Tribunal held that a developer’s allotment letter, followed by instalment payments via account payee cheques, must be equated to a valid agreement to sell. Thus, the valuation date for determining whether there is any “deemed gift” is the date of the first payment, thereby protecting the taxpayer from artificial tax liabilities arising from rising real estate prices during the construction phase.

Landmark Precedents: Navigating the Hierarchy of Tax Litigation

To build a strong defence during tax audits or before the appropriate authorities, practitioners must strategically deploy case law from different levels of the judicial hierarchy.

Actionable Tax and Financial Planning Strategies

Navigating these regulations requires foresight and meticulous documentation.

A taxpayer can structure their residential investments to seamlessly claim exemptions under Section 82 of the 2025 Act by following these practice-proven strategies:

1. Structure the Agreement Linkage

When booking a flat under a self-financing scheme or with a developer, ensure that the agreement explicitly references the construction-linked payment plan. The agreement should clearly state that the builder is undertaking the construction of the flat on behalf of the allottee. This reinforces the legal characterisation of the transaction as a “works contract for construction” rather than a simple purchase of a ready flat, securing the three-year window under Section 82.

2. Time the Construction Commencement (The Pre-Sale Strategy)

A common point of confusion is whether the construction must begin only after the sale of the original asset. As settled in PCIT v. Akshay Sobti and the Karnataka High Court’s ruling in CIT v. J.R. Subramanya Bhat, the law is silent on the date on which construction must commence; it only dictates that the construction must be completed within three years after the date of transfer.

Therefore, a taxpayer can safely book an under-construction flat, pay instalments, and subsequently sell their old house to fund the remaining construction. The entire amount spent on the construction, even if initiated before the sale, will qualify for the exemption, provided the final construction is completed within three years of the sale.

3. Maintain an Unblemished Banking and Documentation Trail

In any scrutiny assessment, the burden of proof rests entirely on the taxpayer. To prevent any disputes regarding the utilisation of funds, taxpayers must:

• Make every payment to the developer, cooperative society, or DDA through registered bank transfers or account payee cheques. Never make cash payments.
• Preserve all original allotment letters, payment receipts, construction schedule updates, and builder-buyer agreements.
• In case of developer delays, document the delay immediately. Keep copies of RERA orders, consumer court petitions, or developer letters acknowledging construction delays. This evidence will prove invaluable if the tax department attempts to deny the exemption due to delayed possession.

4. Harness the Lifetime “Two-House” Option Wisely

Under Section 82(5) of the 2025 Act (similar to the old Section 54), a taxpayer is granted a unique, once-in-a-lifetime option to reinvest their long-term capital gains into two residential houses in India, rather than just one. However, this option is strictly contingent on the total capital gains not exceeding ₹2 Crore.

If the capital gains are within this threshold, the taxpayer can strategically divide their gains. For instance, they can use a portion of the gains to purchase a ready-to-move-in apartment (under the two-year purchase window) and the balance to book an under-construction flat under an allotment scheme (under the three-year construction window). This allows the taxpayer to split their real estate portfolio, secure homes for different family members, and wipe out their capital gains tax liability entirely.

5.  Strategise the CGAS Transition

If the capital gains cannot be fully utilised for construction instalments before the due date of filing the income tax return, the unused portion must be deposited in a designated bank under the Capital Gains Account Scheme (CGAS) to preserve the exemption.

To calculate the exact required deposit, the taxpayer must use the statutory rules under Section 82. The unutilised capital gain is computed using the following equation:

Unutilised Capital Gain = Total Long-Term Capital Gain – Amount Already Utilised for Construction

The resulting amount must be parked in a CGAS account. Taxpayers can choose between “Account A” (which operates like a standard savings account, allowing flexible withdrawals for construction instalments) and “Account B” (which functions like a term deposit, earning higher interest).

Ensuring that this transfer to the CAGS account is executed before filing the tax return is a mandatory operational requirement. Failing to do so, even if the money is subsequently paid to the builder, will result in the immediate and irreversible disallowance of the exemption.

Conclusion

The reorganisation of the direct tax code into the Income-tax Act, 2025 does not dilute the principles of equity, fairness, and purposive interpretation established by the judiciary. The classification of cooperative and institutional allotments as “construction” is a testament to the law’s ability to adapt to modern socio-economic realities. By recognising that housing development is a collaborative, time-intensive process, the “construction” categorisation protects honest taxpayers from being unfairly penalised for developer-side delays.

For taxpayers and professionals alike, the key to navigating Section 82 lies in proactive planning, strategic timing of transactions, and the meticulous preservation of documentary evidence. By understanding the statutory mechanisms and relying on the binding authority of CBDT circulars and judicial precedents, taxpayers can confidently structure their real estate investments, secure their hard-earned wealth, and successfully overcome even the most aggressive scrutiny audits.

P.S.: I have written the above professional article based upon my interpretation of CBDT Circular No. 471 dated 15^th October 1986 and Circular No. 672 dated 16^th December 1993. In my opinion, the underlying tax principles of these circulars are not restricted only to government co-operative housing societies but also extend to private developers as well, provided the structure and terms of the flat allotment match the specified conditions. The subject and my opinion are highly legally debatable and as such should not be considered as my professional opinion on this matter.