Section 54 and Section 54F Exemptions Explained with latest restrictions

Investing in a property has always been a dream of every individual, but it is very often that these individuals are unaware of the tax benefits they might enjoy with investing in a property. Sections 54 and 54F of the Income Tax Act provides exemptions from tax to taxpayers to invest in residential properties, thereby reducing their tax liabilities. Earlier, these exemptions were allowed without any restrictions, but after recent budget update there have been certain capping to these exemptions.

Let’s understand how these provisions will help taxpayers in reducing their overall tax liability. 

Section 54: Exemption on Capital Gains from Sale of Residential Property

Under Section 54 of the Income Tax Act, individuals and HUFs are eligible for capital gains tax exemption if they sell a residential property and reinvest the proceeds in another residential property or maximum two residential house properties. Section 54 contains provisions related to capital asset being residential house property. 

If any individual or HUF sells a capital asset being a residential house property and invests the gains arising from sale of such property in either purchasing or constructing another residential house property, then entire amount of such capital gains used to be exempt from tax.

However, as per latest update in Budget 2023, this exemption amount of Long-Term Capital Gain is capped at Rs.10 Crores.

This means, capital gains, only up to Rs.10 Crores will be exempt from tax when re-invested in either one or two residential house properties.

Taxpayers such as partnership firms, LLP’s, companies or any other association or body corporations are not eligible to claim tax exemption under section 54.

One of the most important condition to avail exemption under section 54 is as follows:

The seller claiming this exemption must re-invest the capital gain proceeds in purchase of new residential house property either within one year before the date of sale or within two years from the date of sale. However, if a new house property is being constructed, then the time to re-invest such capital gains shall be within 3 years from the date of sale or transfer of original house property.

Significant point to be noted is that, a capital gain exemption under section 54 is available for purchase of two residential houses in India. However, the exemption is subject to the capital gain not exceeding Rs 2 crore. Also, the exemption is available only once to the seller.

Section 54F: Exemption on Capital Gains from Sale of Any Asset
Characteristics of Section 54F are fundamentally different from those of section 54. Under section 54F exemption is provided on long-term capital gains earned from selling long-term capital assets like jewellery, shares, and other capital assets except residential house property, if such net considerations are reinvested for the purpose of purchasing or constructing a house.

Under section 54 re-investment of Capital Gains is considered whereas under section 54F re-investment of net considerations is taken into consideration.

Another important condition in section 54F is the seller should not own more than one residential house property for claiming this exemption.

Let us understand exemption of section 54F with an exemption:

Mr. A sells a house property for Rs.50 Lakhs, incurs a capital gain of Rs.20 Lakhs and re-invests entire sale proceeds of Rs.50lakhs in purchase of a new residential property. In this case entire capital gain will be exempted from tax.

However, if only Rs.40Lakhs are invested, then the capital gain that will be proportionately exempt will be calculated as follows:

(40L/50L)*20L = 16Lakhs

However, as per latest update in Budget 2023, this exemption amount of Long-Term Capital Gain is capped at Rs.10 Crores.

This means, capital gains, only up to Rs.10 Crores will be exempt from tax when re-invested in residential house property.

Unlike section 54 there is no one-time exemption for investment in two properties if capital gains ≤ Rs. 2 crores.

Sections 54 and 54F of the Income Tax Act serve as valuable tools for taxpayers to minimize their tax liabilities while investing in residential properties. Both these sections are crucial when an individual is planning to reduce their tax liability by purchasing a residential property.  

Earlier these both the sections didn’t have any restrictions over the exemption amount available, however as per latest Budget 2023 updates there have been certain cappings on the exemptions available.

About Author:
CA Chinmay Shirish Agate
Chinmay Agate is a Practicing Chartered Accountant having 4+ years of experience and expertise in the field of Direct Taxation and Auditing compliances. In the past, he worked in various CA firms and comes with wide industry experience from services, retail to manufacturing to trading where he has handled various complex assignments. He has keen interest in Forex and Derivative knowledge as well as fundamental analysis.

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