You can claim exemption on cost of making new house habitable: Experts

Only substantial structural changes eligible under Sec 54 of I-T Act

In a recent ruling, the Income Tax Appellate Tribunal (ITAT), Ahmedabad Bench, held that capital gain exemption under section 54 of the Income Tax (I-T) Act, 1961, can be allowed on bona fide expenses incurred for making the new house habitable before possession. Most people who have bought or sold a residential property, or plan to, may not be aware of this exemption.
 
Benefit for individuals and HUFs only
Under Section 54, a seller can av­ail of tax exemption on the capital gain arising from the transfer of a residential house property. This benefit is available only to individuals and Hindu Undivided Families (HUFs).
 
Pranav Bhaskar, partner, SKV Law offices, says, “This section provides relief to individual or HUF assessees who invest the capital gains from the sale of residential assets into the purchase or construction of residential property.”
 
Nikhil Varma, managing partner, Miglani Varma & Co–advocates, solicitors and consultants, adds, “This exemption is not available to partnership firms, companies, limited liability partnershi­ps, and other such associations and bodies.”
 
How much is exempted?
The lower of the amount of capital gain on sale of residential property, or the investment made on constructing or purchasing a new residential property is exempted. Any remaining amount is taxable.
 
The Finance Act, 2020, had amended this provision. Bhaskar says, “With effect from assessment year 2021-22, Section 54 has been amended to extend the benefit of exemption to investments made in two reside­ntial house properties, provided the amount of long-term capital gain does not exceed Rs 2 crore.”
 
This exemption is available only on the transfer of a long-term capital asset. Amay Jain, senior associate, Victoriam Legalis-Advocates & Solicitors, says, “The asset being transferred should have been held for at least 24 months.”
 
If a property is not eligible for Section 54 benefit, or if some excess capital gain is left (after deducting the cost of new acquisition), that will get taxed at the rate applicable to long-term capital gain on sale of residential property. Deepak Jain, chief exe­cutive officer of Tax Manager.in, says, “A tax rate of 20 per cent will be levied along with surcharge and cess, as applicable.”
 
Certain restrictions have been put in place so that this benefit is available to long-term buyers only (not to speculators).
 
Anushkaa Arora, principal and founder, ABA Law Office, says, “If a taxpayer purchases or constructs a house and claims exemption under section 54, and then transfers the new hou­se within three years from the date of its acquisition or completion of construction, the benefit under section 54 is withdrawn.”

Substantial alterations qualify

Most sellers and buyers of residential property are not aware that exemption under section 54 can be availed on expenses incurred on repair of the new property.
 
Naveen Wadhwa, deputy general manager, Taxmann, says: “If the place is already habitable, and you undertook small changes–say, you painted the house or put in an air conditioner–you will not be eligible to claim the benefit. Some structural changes or alterations should have been done.”
 
Going by the ITAT ruling, the benefit is available on repair work carried out to make the new property inhabitable. Such expense may be added to the cost of acquisition of the new property.
 
Section 54 does not explicitly mention that exemption can be claimed on expenses incurred on repair of the new property. However, there are several judgments to this effect.
 
Bhaskar says, “The intention of the legislation (section 54) was to encourage investment in residential property. Bona fide expenses incurred on making the house habitable should be included within the scope of the relief provided under section 54. Hence, the ITAT has rightly held that these expenses should be exempted from taxation.”
 
If you have spent a considerable amount on repairs and on making the place habitable, sp­eak to your tax advisor and claim the exemption under section 54 of the I-T Act, provided you meet all the conditions (see box).