Inherited property sale: The tax twist that saved crores in capital gains

A Bombay HC ruling shows how a wording gap in Section 54 once let a son reinvest gains from his mother's flat into seven homes, escaping over Rs 1 crore in tax, rules are stricter now.

A recent Bombay High Court ruling has highlighted how a minor wording in tax law allowed a man to save over Rs 1 crore in long-term capital gains (LTCG) tax. The case relates to Section 54 of the Income-tax Act, which offers relief if sale proceeds of a house are reinvested into another residential property.

 

What was the case?

In 1990, after the death of his mother in Mumbai, a young heir, Nagpal, inherited her flat under a will. Three years later, his legal guardian sold the property for Rs 1.45 crore to a builder on Nagpal’s behalf. By 1995, the guardian had reinvested the entire sum in a housing project in Pune, initially for five units, later revised to seven. After applying indexation, the long-term capital gains worked out to about Rs 1.08 crore, and Nagpal claimed exemption under Section 54.

 

 

The tax department, however, challenged this. Arguing that exemption under Section 54 could only apply to one residential property. What followed was a prolonged legal fight that lasted nearly three decades, until the Bombay High Court recently ruled that, prior to the 2014 amendment, the law did not bar exemption for multiple houses.

 

The confusion over 'a' house

Before 2014, Section 54 allowed exemption if capital gains were used to buy “a residential house.” This wording sparked decades of disputes.

 

“The confusion stemmed from one small letter, ‘a’,” explained Mayank Arora, partner at The Chambers of Bharat Chugh.

 

“Revenue argued it meant only one house, but courts often took a liberal view, holding it described the nature of the property, not the number,” Arora said.

 

This ambiguity benefited the assessee in the recent ruling. But Parliament amended the law in 2014, restricting the relief to just one property in India.

 

 

What the rules say today

 

Experts agree that the position is now clear.

 

“Section 54 relief applies only to one residential house in India,” said Alay Razvi, managing partner, Accord Juris. “Since AY 2020-21, a one-time option allows exemption for two houses if gains are up to Rs 2 crore. From AY 2024-25, there’s also a Rs 10 crore cap on exemption.”

 

Kunal Savani, Partner at Cyril Amarchand Mangaldas, added, “If the cost of the new property exceeds Rs 10 crore, the excess is ignored for exemption purposes. The two-house benefit is once in a lifetime.”

 

How to save tax on inherited property?

If you sell inherited property, structuring reinvestment carefully is crucial. “Inherited property is always treated as long term. The cleanest way is to reinvest under Section 54 within timelines,” said Arora.

 

Ritika Nayyar, partner at Singhania & Co., noted that if immediate purchase is not possible, gains can be parked in a Capital Gains Account Scheme (CGAS) until reinvestment.

 

“Alternatively, one can invest up to Rs 50 lakh in 54EC bonds issued by NHAI or REC, with a five-year lock-in,” she said.

 

Mistakes to avoid

Experts warned of common pitfalls:

 

• Not depositing unutilised gains in CGAS before filing returns. 
• Assuming multiple properties qualify, despite post-2014 restrictions. 
• Failing to keep clear sale and reinvestment documentation. 
• Confusing Section 54 with Section 54F, which has stricter conditions.

 

“Litigation is often the result of loose paperwork and missed deadlines. With discipline and proper advice, it can be avoided,” Arora stressed.