Do you want to minimize the tax liability on your real estate transaction?
If so, this article is for you. We will be going in detail about how you can save capital gains tax that arise from sale of property.
Some people think that tax liability is a hard nut in real estate investments. But it can be broken easily if you know how to save tax. There is nothing wrong in trying to reduce the tax liability, but we should be aware of the lawful ways to reduce the tax burden if we want to maximize the net gain.
In the case of STCG (Short Term Capital Gains), i.e. the gain arising from the sale of a property which was held for a period less than 36 months, the gain will be added to other earnings of the investor .That means it will be subjected to usual rate of tax which is decided on the income bracket in which he falls.
When we come to the LTCG (Long Term Capital Gains), ie; the gain arising from the sale after 36 months, the game is totally different.
How to Reduce Tax on Long Term Capital Gain?
At the outset, let us see how to compute the LTCG. The advantage of LTCG when compared to STCG lies in the fact that we can index the cost price with the Cost Inflation Index (CII) in the case of LTCG. The CII is published every financial year by The Central Board of Direct Taxes.
What is Cost Inflation Index?
The Cost Inflation Index enables the tax payers to reduce the inflationary gain so that the tax on LTCG will also be reduced. As per the Income tax rules, the LTCG can be computed after adjusting for the inflation using Cost Inflation Index (CII).
We can adjust the cost price and the cost of improvement for the inflation between the date of acquisition and date of sale and pay the tax based on the adjusted LTCG.
(Here, it is to be noted that the cost price means the amount paid to the seller plus expenses incurred for the purpose of transfer such as brokerage, stamp duty, registration fee, legal fee etc. If the property in question was obtained by succession, inheritance, gift/will, devolution etc., the cost of acquisition means the cost by which the erstwhile owner got it. In case the said cost incurred by him is not ascertainable, the cost incurred by the erstwhile owner shall be the fair market value of the asset as on the day on which he became the owner.)
The CII for 1981-1982 is 100 and for subsequent years it is as per the table shown below:
1982-83 109 1992-93 223 2002-03 447 2012-13 852
1983-84 116 1993-94 244 2003-04 463 2013-14 939
1984-85 125 1994-95 259 2004-05 480
1985-86 133 1995-96 281 2005-06 497
1986-87 140 1996-97 305 2006-07 519
1987-88 150 1997-98 331 2007-08 551
1988-89 161 1998-99 351 2008-09 582
1989-90 172 1999-00 389 2009-10 632
1990-91 182 2000-01 406 2010-11 711
1991-92 199 2001-02 426 2011-12 785
If the property was purchased before 1981, the fair market value of 1981can be indexed to get the indexed cost price.
Supposing the cost price of a property bought in the year 1978-79 was Rs.50000.00 whereas the fair market value in 1981-82 was Rs.70000.00, we can find out the indexed cost price as on 01.01.2014 as follows:
70000×939
100
= Rs.657300.00
(It may please be noted that the CII of 2013-14 is 939 and that of 1981-82 is 100)
Supposing the said property was sold at Rs.8 lacs, we can arrive at the LTCG in the above case as follows:
Rs.800000-657300=Rs.142700
Tax due on the property =Rs.142700×20%
= 28540 + 3% education cess (Rs.856)
Total tax due= Rs.29396.00
Other Concessions For LTCG – What Do Section 54 And 54F Of IT Act Offer?
Apart from indexation of cost price, LTCG enjoys some other concessions in treatment vis-à-vis STCG.
If the LTCG arising from the sale of a house property is utilized for purchasing /constructing a new house, exemption from tax can be claimed under section 54 of IT act of 1961. On the other hand, if the property sold is land without building, the entire sale proceeds (not only the gain) should be invested for getting tax exemption as per section 54F. However, even if only part of the sale proceeds is invested, tax exemption is admissible, but only proportional.
If a new house is purchased, it should be during the period of not more than one year before the sale and within two years after the sale. If a new house is constructed, even if the construction commenced before the sale of the asset, the amount should be utilized for the construction within three years of the sale.
On the day of sale, the tax payer should not have more than one house in his name apart from the new house for which exemption is claimed. Another condition is that the new house should not be transferred for three years.
If this condition is violated, for the purpose of computing the capital gain on this transfer, the cost of acquisition of this house property shall be reduced by the amount of capital gain exempt under section 54 earlier. Also he should not buy or construct other new houses for two years. The amount claimed for exemption should be utilized before the due date for submission of return by the individual for buying a new house or for construction thereof.
In case the tax payer fails to do so before the due date of filing the return, such amount should be deposited in the Capital Gain Deposit Account scheme of a recognized bank. From the said account the amount can be withdrawn for purchase/construction as and when it is required. Unless such deposited amount is not utilized for the new house within three years of sale of the asset the balance amount should be treated as the LTCG of the year following the said three years.
Is There Any Other Option For Getting Exemption From LTCG?
There is, of course, another option for getting exemption from LTCG. Here comes the section 54EC of the IT act, 1961. As per the said section, exemption will be available from LTCG in the proportion of the amount invested in specified bonds with respect to the total sale consideration.
1. The tax payer has to make the investment in the bonds which is named as Long term specified asset within a period of 6 months after the date of such transfer. Long term specified assets are the bonds repayable after 3 years issued by NHAI (National Highways Authority of India Ltd.) and REC (Rural Electrification Corporation Ltd.)
2. The investments in such bonds cannot exceed Rs.50 lacs during any financial year.
3. The investment made under section 54EC cannot be transferred or converted into money or placed as security for any advance/loan within a period of 3 years from the date of their acquisition. If this condition is violated, the LTCG exempt U/S 54EC earlier shall be treated as LTCG of the financial year in which the said bonds are transferred /converted into money/placed as security.
4. Such bonds carry an interest rate of 6% p.a. which is, of course, taxable.
Reference:
Income tax act 1961 as amended from time to time