Property Capital Gains Tax: Strategies to reduce short-term and long-term tax liabilities

Investing in real estate can be profitable, but homebuyers and property sellers need to be aware of capital gains tax (CGT) to avoid unexpected tax liabilities. Capital gains tax is levied on the profit earned when selling a property. Infinity Housing explains the types of capital gains tax, calculation methods, and ways to reduce your tax burden legally.

Understanding Capital Gains Tax

When you sell assets such as land, buildings, apartments, or plots, the profits earned are taxed under “Capital Gains”. The applicable tax depends on the holding period of the property.

There are two types of capital gains tax:

1. Short-Term Capital Gains (STCG)

• Applicable if the property is sold within 24 months of purchase.
• Profits are added to your taxable income and taxed according to your income tax slab.
• No exemptions are available to reduce STCG.
• Current STCG rate for real estate: 20% (as per Union Budget 2023-24).

2. Long-Term Capital Gains (LTCG)

• Applicable if the property is held for more than 24 months.
• Long-term gains are taxed at a reduced rate.
• LTCG rate without indexation benefits: 12.5%.
• Exemptions can be claimed under Sections 54, 54EC, 54F, and 54B by reinvesting gains in property or government-approved bonds.

Role of Indexation in LTCG

For long-term holdings, inflation must be considered to ensure fair taxation. Indexation adjusts the purchase price of the property using the Cost Inflation Index (CII) notified by the government.

Components for LTCG Calculation:

• Sale Price: The amount received or receivable from the property sale.
• Indexed Cost of Acquisition: Original purchase price adjusted for inflation.
• Indexed Cost of Improvement: Capital expenses on property upgrades (e.g., modular kitchen, flooring) adjusted for inflation.
• Transfer Expenses: Expenses directly related to selling the property (brokerage, legal fees, stamp duty).

Calculating Short-Term Capital Gains (STCG)

Formula: STCG=Full Value of Consideration (FVC)−(Cost of Acquisition+Cost of Transfer+Cost of Improvement)\text{STCG} = \text{Full Value of Consideration (FVC)} – (\text{Cost of Acquisition} + \text{Cost of Transfer} + \text{Cost of Improvement})STCG=Full Value of Consideration (FVC)−(Cost of Acquisition+Cost of Transfer+Cost of Improvement)

Steps:

1. Determine the full value of consideration (sale price or stamp duty value, whichever is higher).
2. Deduct the cost of acquisition, transfer, and improvements.
3. The resulting amount is your short-term capital gain.

Calculating Long-Term Capital Gains (LTCG)

Formula: LTCG=FVC−(Indexed Cost of Acquisition+Indexed Cost of Improvement+Transfer Expenses)−Exemptions\text{LTCG} = \text{FVC} – (\text{Indexed Cost of Acquisition} + \text{Indexed Cost of Improvement} + \text{Transfer Expenses}) – \text{Exemptions}LTCG=FVC−(Indexed Cost of Acquisition+Indexed Cost of Improvement+Transfer Expenses)−Exemptions

Steps:

1. Compute the full value of consideration.
2. Deduct indexed cost of acquisition, indexed cost of improvement, and transfer expenses.
3. Deduct applicable exemptions under Sections 54, 54EC, 54F, or 54B.

Indexed Cost Calculation: Indexed Cost of Acquisition=Cost of Acquisition×CII of Acquisition YearCII of Transfer Year\text{Indexed Cost of Acquisition} = \text{Cost of Acquisition} \times \frac{\text{CII of Acquisition Year}}{\text{CII of Transfer Year}}Indexed Cost of Acquisition=Cost of Acquisition×CII of Transfer YearCII of Acquisition Year​

Implications for NRIs

Non-Resident Indians (NRIs) owning property in India are liable to pay capital gains tax.

• Property held ≤ 2 years: STCG applies.
• Property held > 2 years: LTCG applies.
• NRI exemptions are available under Section 54 for long-term capital gains, provided the reinvestment conditions are met.

Ways to Reduce Capital Gains Tax

1. Reinvest in Residential Property (Section 54)

• LTCG from selling a residential property can be exempt if reinvested in another house within:
  • 1 year before the sale, or
  • 2 years after the sale (purchase)
  • 3 years if constructing a house
• Maximum exemption: ₹10 crore. Amount exceeding this is taxed at 20%.
• Exemption is available even when reinvesting in up to two properties.

2. Deposit in a Capital Gains Account

• If a new property is not yet identified, capital gains can be deposited in a Capital Gains Account Scheme (1988) in authorised banks.
• Deposit must be utilised within 2 years for purchase or 3 years for construction.
• Amount exceeding ₹10 crore is taxed at 20%.

3. Invest in Capital Gains Bonds (Section 54EC)

• Invest in government-backed bonds to save LTCG tax.
• Eligible bonds: PFC, NHAI, REC, IRFC.
• Investment limit: ₹50 lakh.
• Lock-in period: 5 years (interest taxable).
• Must invest within 6 months of sale.

Frequently Asked Questions (FAQs)

Infinity Housing advises all property sellers to plan their finances and reinvestment strategy carefully to minimize tax liability and comply with legal requirements.