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Section 54F of Income Tax Act – Exemption of Capital Gains

Section 54F offers an exemption from long-term capital gains tax on the sale of non-residential assets when the gains are reinvested in a new residential property within a specified timeframe.

  • 2,008 Views | Updated on: Mar 11, 2024

As investments grow in value, it is important to understand capital gains taxes and how to reduce them. Luckily, taxpayers have some options like Sections 54 and 54F of the Income Tax Act, which offer tax savings for long-term capital gains from non-residential assets.

These sections can help you save on long-term gains if the profits are reinvested in a new residential property within a set timeframe.

What is Section 54F?

Section 54F of the Income Tax Act 1961 provides an exemption from long-term capital gains tax on selling any capital asset other than a residential property. This means that if you sell a long-term capital asset like shares, stocks, bonds, gold, etc., and reinvest the sale proceeds in a new residential property within a specified timeframe, you can claim an exemption on the capital gains arising from the sale.

What is the Eligibility to Claim an Exemption under Section 54F?

You can claim an exemption under Section 54F if you meet the following conditions:

  • Asset sold: You sold a capital asset other than a residential property and made a long-term capital gain (held for more than 36 months for most assets, 24 months for some).
  • Investment: You invest the entire net sale consideration (sale proceeds minus expenses) in a new residential property within specified timelines:
  • One year from the date of sale for purchase.
  • Three years from the date of sale for construction.

However, the exemption is available for the lower of the entire long-term capital gain or cost of the new residential property. The exemption under section 54F has a cap of ₹10 crore, per the Budget 2023.

What is “Net Consideration” Under Section 54F?

To qualify for a tax exemption on long-term capital gains from selling non-residential assets in India, you need to reinvest the “net consideration” of the sale into a new residential property. Take a quick look to understand what “net consideration” means:

  • The total amount you receive for selling your asset (stocks, gold, etc.) is the “full value of consideration.”
  • Now, subtract any expenses you incurred specifically for the sale, like broker fees or legal charges. This amount remaining is the “net consideration.”

You can understand this as when you have your full sale proceeds, you deduct the costs directly related to making the sale. You need to reinvest the remaining amount in a qualifying residential property within the specified timeframe to claim the tax exemption under Section 54F.

What are the Key Considerations for Claim Exemption Under Section 54F?

If you are looking to save tax on profits from selling long-term investments? Section 54F of the Income Tax Act might be your option. Some crucial conditions you need to meet to avail of the benefits of this section are:

  • This exemption applies to both individuals and Hindu Undivided Families (HUFs).
  • It covers long-term capital gains, excluding the sale of residential property.
  • You cannot have more than one house on the date of selling the asset.
  • You must reinvest the entire net sale proceeds (sale amount minus expenses) in a new residential property.
  • For purchase, you must Invest within one year before or two years after selling the asset.
  • For construction, complete construction within three years of selling the asset.
  • You should not sell the new house within three years from purchase/construction, or the exemption gets withdrawn.
  • Avoid buying another house (besides the one claimed for exemption) within one year of selling the asset or constructing another within three years. Otherwise, the exemption gets withdrawn.

What are the Consequences that can Lead to Exemption Withdrawal Under Section 54F?

Remember that tax exemption under Section 54F for reinvesting capital gains in a new house comes with a 3-year holding period. If you sell or transfer the new property before completing 3 years, there are consequences:

  • The tax exemption you claimed under Section 54F gets withdrawn proportionally based on how long you held the property.
  • The withdrawn exemption amount becomes taxable as long-term capital gain in the year you sell or transfer the new property.

For example, you sold an asset for ₹50 lakh (long-term gain) and invested ₹40 lakh in a new house, claiming the exemption. But you sell the house after 2 years. In this case, 54F exemption calculation can be done using this formula:

Exemption under Section 54F = (Amount Re-Invested / Net Consideration) * Long Term Capital Gain

Withdrawn Exemption under Section 54F= Capital Gains Exemption * Year Left from Remaining 3-year holding period of 3 years

Using the above example,

Investor reinvests= ₹40 lakhs

Capital gains exemption= (40 lakhs/50 lakhs) * 10 lakh

= ₹8 lakh

Therefore,

Withdrawn exemption= ₹8 lakh * (1 year remaining out of 3 years) = ₹2.67 lakh.

₹2.67 lakh will be added to your income and taxed as long-term capital gain in the year you sold the new house.

To avoid this, you must:

  • Hold the new house for at least 3 years from purchase/construction to permanently enjoy the exemption.
  • Consult a tax professional for specific guidance based on your situation and investment timeframe.

Final Thoughts

Provisions outlined in Section 54F of the Income Tax Act can significantly benefit individuals seeking to minimize their tax liabilities on long-term capital gains from the sale of non-residential assets. Section 54F serves as a valuable tool for taxpayers, offering a structured pathway to optimize tax savings while encouraging the growth of their investments. As the financial field evolves, staying informed in utilizing such legal provisions becomes imperative for responsible and effective wealth management.

Key Takeaways

  • Sections 54 and 54F of the Income Tax Act provide tax breaks for long-term capital gains from non-residential assets.
  • The entire net sale proceeds must be reinvested in a new residential property within the specified timeframe.
  • The withdrawn exemption can be calculated by multiplying the ratio of the re-invested amount by the net consideration with long-term capital gain.
  • If the new property is sold or transferred before completing 3 years, the exemption is withdrawn proportionally based on the holding period.

- A Consumer Education Initiative series by Kotak Life

Amit Raje
Written By :
Amit Raje

Amit Raje is an experienced marketer who has worked in various Fintechs and leading Financial companies in India. With focused experience in Digital, Amit has pioneered multiple digital commerce in India. Now, close to two decades later, he is the vice president and head of the D2C business department. He masters the skill of strategic management, also being certified in it from IIMA. He has challenged his challenges and contributed his efforts in this journey of digital transformation.

Amit Raje
Reviewed By :
Prasad Pimple

Prasad Pimple has a decade-long experience in the Life insurance sector and as EVP, Kotak Life heads Digital Business. He is responsible for developing user friendly product journeys, creating consumer awareness and helping consumers in identifying need for life insurance solutions. He has 20+ years of experience in creating and building business verticals across Insurance, Telecom and Banking sectors

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