Purchase or construction of two house properties & Capital Gain Exemption

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Purchase or construction of two house properties & Capital Gain Exemption

Any Long Term Capital Gain (LTCG) arising from transfer of a house property can be claimed as exempt if the taxpayer invests the amount of LTCG for purchase of another house property. To avail exemption, taxpayers have to invest the amount within prescribed time frame as under:
a] For purchase:
One year before or two years after the date of sale or transfer.
b] For Constructions: 
Three years from the date of sale or transfer.

Prior to 2019, the benefit was restricted to investment in “one” house property. However, considering the socio-economic need of middle class families to maintain houses at two locations on account of their job, children’s future, different location of parents etc., the benefit is stretched to two house properties by the Finance Act – 2019, with effect from FY 2019-20. In short, taxpayers can now claim exemption against LTCG by investing the amount in 2 house properties.

There are few important cautions which taxpayer must take while planning for capital gain exemptions in such cases:

  1. Exemption can be claimed only if the amount of capital gain does not exceed Rs 2 crore. Taxpayers may note that restriction of Rs. 2 Cr is on the amount of LTCG & not onsale consideration. Even if the sale consideration is more than Rs. 2 Cr, exemption can be claimed in such cases.
  2. Exemption against two house property is “once in a life time” offer. If the taxpayers have already availed exemption against two house properties in earlier year then they will not be able to opt for it again.
  3. Exemption is available only to an Individual/HUF and not to other categories of taxpayers like firm, AOP, Company, etc
  4. Exemption u/s 54 (i.e., LTCG arising from sale of a house property):
    Exemption against investment in two house property is available only if such LTCG is arising from transfer of a residential house property on or after 1/4/19. It is admissible under section 54.
    If LTCG is arising from sale of any capital assets other than house property (like against sale of Plot, Gold, Jewellery, etc) then exemption towards investment in house property can be claimed u/s 54F and not u/s 54.

Taxpayers must note that freedom of investment in ‘two’ house property is only for the purpose of exemption u/s 54 & not for the purpose of section 54F.

  1. Exemption u/s 54F (i.e., LTCG arising from sale of any capital assets other than house property):
    If the LTCG is arising from sale of sale of any capital assets other than residential house property then investment has to be done in ‘one’ house property. Further, exemption u/s 54F is subject to the condition that taxpayers own not more than one house property on the date of earning LTCG.  If a taxpayer already owns more than one house property then exemption u/s 54F is not available to such taxpayers. There is no such stipulation for claiming an exemption u/s 54.
  2. There is one more stipulation in section 54F which is not there in section 54. Section 54F stipulates that taxpayer should not purchase any other house property within a period of 2 years or constructs another house property within a period of 3 years from the date of earning LTCG. If taxpayer violate the condition by purchasing another house property within a period of 2 year (3 years for construction) then exemption allowed earlier will be taxable in the year of such violation. There is no such rider in section 54.
  3. Illustration:
    a) Mr. Smart owns 3 House properties & 2 plots. He sold one house property and wants to invest the amount of LTCG for purchase of two house properties. In such case, he will be eligible to claim exemption u/s 54 against investment in two house properties even though he already owns other 2 house properties i.e., after purchasing, he will be owner of 4 house properties. However, if Mr. Smart sale one plot then he will not be able to claim any capital gain exemption, neither u/s 54 (as he is not selling the house property but selling the plot) nor u/s 54F as he already owns more than one house property on the date of sale of the plot.
    b) Mr. Smart owns 1 House property & 3 plots. He sold one plot and now wants to invest the amount of LTCG in two house properties. In such case, he cannot claim exemption u/s 54F. If Mr. Smart invests the sale proceed for purchase of two house properties, he will be violating the condition enumerated in section 54F & so will not be able to get exemption against any of the house properties so purchased or constructed. He can claim exemption u/s 54F only if he invests the proceeds in “one” house property
    c) Mr. Smart has sold a plot on 15.03.2020 and purchased new house property on 06.07.2020 to claim exemption u/s 54F. Now, if he purchases another house property before 14.03.2022 (or constructs before 14.03.2023) then the amount of LTCG claimed exempt earlier will be taxable in the year of violation of such condition.
  4. For the purpose of exemption u/s 54, investment of LTCG is important and not sale consideration whereas for exemption u/s 54F, investment of net sale consideration is relevant and not LTCG. For example Mr. Smart has sold a house property for Rs. 2 Cr and has earned LTCG of Rs. 75 Lakh whereas Mrs. Smart has sold a plot for Rs. 2 Cr and has earned LTCG of Rs. 75 Lakh. For full exemption, Mr. Smart will be required to invest only Rs. 75 Lakh whereas Mrs. Smart would be required to invest Rs. 2 Cr.

Taxpayers may carefully note that the Income Tax Act operates in an un-synchronized manner. Taxpayers need to be cautious while planning the above transactions as there is no scope of presumptions and assumptions. Though the purpose of both the sections (54 & 54F) is same i.e., to grant an exemption from LTCG, the conditions & stipulations are drastically different.

For the benefit of the readers, Section 54 & Section 54F as reads in the Income Tax Act -1961 is reproduced hereunder:

SECTION 54:

Profit on sale of property used for residence.

  1. (1) Subject to the provisions of sub-section (2), where, in the case of an assessee being an individual or a Hindu undivided family, the capital gain arises from the transfer of a long-term capital asset, being buildings or lands appurtenant thereto, and being a residential house, the income of which is chargeable under the head “Income from house property” (hereafter in this section referred to as the original asset), and the assessee has within a period of one year before or two years after the date on which the transfer took place purchased, or has within a period of three years after that date constructed, one residential house in India, then, instead of the capital gain being charged to income-tax as income of the previous year in which the transfer took place, it shall be dealt with in accordance with the following provisions of this section, that is to say,—

(i)   if the amount of the capital gain is greater than the cost of the residential house so purchased or constructed (hereafter in this section referred to as the new asset), the difference between the amount of the capital gain and the cost of the new asset shall be charged under section 45 as the income of the previous year; and for the purpose of computing in respect of the new asset any capital gain arising from its transfer within a period of three years of its purchase or construction, as the case may be, the cost shall be nil; or

(ii)  if the amount of the capital gain is equal to or less than the cost of the new asset, the capital gain shall not be charged under section 45; and for the purpose of computing in respect of the new asset any capital gain arising from its transfer within a period of three years of its purchase or construction, as the case may be, the cost shall be reduced by the amount of the capital gain:

2[Provided that where the amount of the capital gain does not exceed two crore rupees, the assessee may, at his option, purchase or construct two residential houses in India, and where such option has been exercised,—

(a) the provisions of this sub-section shall have effect as if for the words “one residential house in India”, the words “two residential houses in India” had been substituted;

(b) any reference in this sub-section and sub-section (2)to “new asset” shall be construed as a reference to the two residential houses in India:

Provided further that where during any assessment year, the assessee has exercised the option referred to in the first proviso, he shall not be subsequently entitled to exercise the option for the same or any other assessment year.]

(2) The amount of the capital gain which is not appropriated by the assessee towards the purchase of the new asset made within one year before the date on which the transfer of the original asset took place, or which is not utilised by him for the purchase or construction of the new asset before the date of furnishing the return of income under section 139, shall be deposited by him before furnishing such return [such deposit being made in any case not later than the due date applicable in the case of the assessee for furnishing the return of income under sub-section (1) of section 139] in an account in any such bank or institution as may be specified in, and utilised in accordance with, any scheme which the Central Government may, by notification in the Official Gazette, frame in this behalf and such return shall be accompanied by proof of such deposit; and, for the purposes of sub-section (1), the amount, if any, already utilised by the assessee for the purchase or construction of the new asset together with the amount so deposited shall be deemed to be the cost of the new asset :

Provided that if the amount deposited under this sub-section is not utilised wholly or partly for the purchase or construction of the new asset within the period specified in sub-section (1), then,—

(i)   the amount not so utilised shall be charged under section 45 as the income of the previous year in which the period of three years from the date of the transfer of the original asset expires; and

(ii)  the assessee shall be entitled to withdraw such amount in accordance with the scheme aforesaid.

SECTION 54F:

Capital gain on transfer of certain capital assets not to be charged in case of investment in residential house.

54F. (1) Subject to the provisions of sub-section (4), where, in the case of an assessee being an individual or a Hindu undivided family, the capital gain arises from the transfer of any long-term capital asset, not being a residential house (hereafter in this section referred to as the original asset), and the assessee has, within a period of one year before or two years after the date on which the transfer took place purchased, or has within a period of three years after that date constructed, one residential house in India (hereafter in this section referred to as the new asset), the capital gain shall be dealt with in accordance with the following provisions of this section, that is to say,—

(a) if the cost of the new asset is not less than the net consideration in respect of the original asset, the whole of such capital gain shall not be charged under section 45 ;

(b) if the cost of the new asset is less than the net consideration in respect of the original asset, so much of the capital gain as bears to the whole of the capital gain the same proportion as the cost of the new asset bears to the net consideration, shall not be charged under section 45:

Provided that nothing contained in this sub-section shall apply where—

(a)  the assessee,—

 (i) owns more than one residential house, other than the new asset, on the date of transfer of the original asset; or

 (ii) purchases any residential house, other than the new asset, within a period of one year after the date of transfer of the original asset; or

(iii) constructs any residential house, other than the new asset, within a period of three years after the date of transfer of the original asset; and

(b)  the income from such residential house, other than the one residential house owned on the date of transfer of the original asset, is chargeable under the head “Income from house property”.

Explanation.—For the purposes of this section,—

“net consideration”, in relation to the transfer of a capital asset, means the full value of the consideration received or accruing as a result of the transfer of the capital asset as reduced by any expenditure incurred wholly and exclusively in connection with such transfer.

(2) Where the assessee purchases, within the period of two years after the date of the transfer of the original asset, or constructs, within the period of three years after such date, any residential house, the income from which is chargeable under the head “Income from house property”, other than the new asset, the amount of capital gain arising from the transfer of the original asset not charged under section 45 on the basis of the cost of such new asset as provided in clause (a), or, as the case may be, clause (b), of sub-section (1), shall be deemed to be income chargeable under the head “Capital gains” relating to long-term capital assets of the previous year in which such residential house is purchased or constructed.

(3) Where the new asset is transferred within a period of three years from the date of its purchase or, as the case may be, its construction, the amount of capital gain arising from the transfer of the original asset not charged under section 45 on the basis of the cost of such new asset as provided in clause (a) or, as the case may be, clause (b), of sub-section (1) shall be deemed to be income chargeable under the head “Capital gains” relating to long-term capital assets of the previous year in which such new asset is transferred.

(4) The amount of the net consideration which is not appropriated by the assessee towards the purchase of the new asset made within one year before the date on which the transfer of the original asset took place, or which is not utilised by him for the purchase or construction of the new asset before the date of furnishing the return of income under section 139, shall be deposited by him before furnishing such return [such deposit being made in any case not later than the due date applicable in the case of the assessee for furnishing the return of income under sub-section (1) of section 139] in an account in any such bank or institution as may be specified in, and utilised in accordance with, any scheme which the Central Government may, by notification in the Official Gazette, frame in this behalf and such return shall be accompanied by proof of such deposit ; and, for the purposes of sub-section (1), the amount, if any, already utilised by the assessee for the purchase or construction of the new asset together with the amount so deposited shall be deemed to be the cost of the new asset :

Provided that if the amount deposited under this sub-section is not utilised wholly or partly for the purchase or construction of the new asset within the period specified in sub-section (1), then,—

 (i)  the amount by which—

 (a)  the amount of capital gain arising from the transfer of the original asset not charged under section 45 on the basis of the cost of the new asset as provided in clause (a) or, as the case may be, clause (b) of sub-section (1), exceeds

 (b)  the amount that would not have been so charged had the amount actually utilised by the assessee for the purchase or construction of the new asset within the period specified in sub-section (1) been the cost of the new asset,

shall be charged under section 45 as income of the previous year in which the period of three years from the date of the transfer of the original asset expires; and

(ii)  the assessee shall be entitled to withdraw the unutilised amount in accordance with the scheme aforesaid.

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