Capital Gain Exemption

Under Section 54 of the Income Tax Act, exemption is provided on long-term capital gains when residential property is sold and the money is used to construct or purchase another residential property. However, the property must be purchased or constructed within a particular time.

List of Exemptions under Capital Gain

Given in the table below is the different capital gain exemptions that are available:

Exemptions under Short Term Capital Gains

Short term capital gain is the gain that you receive on a capital asset that was held by a person for not more than 36 months prior to the sale or transfer.

The exemptions on tax are as follows:

1. Short term capital gain arising on transfer of agricultural land (Section 54B):The capital gain earned here will have to be reinvested in the purchase of agricultural land. The same exemption is allowed for long term capital gain as well. The land must be purchased 2 years from the date of sale or transfer. If the capital gain is higher than that of the purchase value of the new agricultural land, then the remaining balance will be taxed. If the gain is less than the purchase price of the new agricultural land, then no tax will be charged.

Exemptions under Long Term Capital Gains

The exemptions on long term capital gains are:

Profit on sale of residential house (Section 54):

If the house is sold for residential accommodation, if it is self-occupied or rented out, you can avail full exemption, provided:

1. The assessee must be an individual or Hindu Undivided Family.
2. The assessee has held the house for more than 3 years.
3. The assessee has purchased a new house one year prior to the sale or two years after the sale of original house or if he is constructing a new house within a period of 3 years after the sale of original house.
4. If the amount is deposited in a bank under the Capital Gains 1988 account scheme.
5. If the cost of the new house is equal to or more than the capital gain earned.
6. If the new house is sold within 3 years from the date of purchase or construction, then the cost of the new house is deducted by the amount of capital gain exempted on the original house and the difference in the sale price of the new house will be treated as a short-term capital gain.

If the capital gain is invested in long term specified assets of NHAI or Rural Electrification Corporation (Section 54EC):

It is subject to the following:

1. The profit earned is from the sale of a long-term capital asset.
2. The assessee must invest a part of the capital gain or the whole of the gain in specified assets like bonds of NHAI or REC that have a 3-year lock-in period, 6 months from the date of sale of the original asset.
3. The investment made should not be less than the capital gain. If a part of the gain is invested, then the proportionate amount will be exempted while the balance amount will be taxable.
4. Assessee must retain the new asset for a minimum of 3 years.

Profits from the sale of an asset other than a residential house is used to buy a residential house (Section 54F):

This is subject to the following conditions:

1. The assessee must be an individual or a Hindu Undivided Family.
2. The capital gain should be from a sale of an asset that is not a residential house.
3. The assessee has bought a new house one year before the sale of the asset or two years from the sale. He can also construct a house within 3 years from the sale of the original asset.
4. The cost of the new house must not be less than the value of the asset sold. If a part of the capital gain is invested, then only that part will be exempt, the balance amount will be taxable.
5. If the full amount is not invested to either buy a house or construct it, then it should be kept in the bank under Capital Gains Scheme 1988 account. The amount in that account should be utilized for constructing a house or to buy a new house.
6. On the date the assessee is selling the original capital asset, he must not own more than one residential house apart from the new house. He must also not buy another house in 2 years or construct a new house from 3 years of buying or constructing the new house.

Other Exemptions:

The following are the other exemptions allowed on capital gains:

1. Section 54D: Exemption is allowed for gain arising from industrial land or building that has been acquired by the government. The asset should've been used for industrial purpose for a period of 2 years prior to the acquisition. The exemption is allowed only if the gain will be reinvested to acquire land or building for industrial purpose.
2. Section 54G: Exemption is allowed on the gain arising from the transfer of land or building or a machinery to shift an urban undertaking to a rural area. The exemption is allowed provided the gain is reinvested to acquire land, building or machinery in a rural area.
3. Section 54GA: Exemption is allowed on the gain arising from the transfer of land, building or machinery to shift from urban area to Special Economic Zone provided the gain is reinvested to acquire land, building or machinery in the Special Economic Zone.
4. Section 54GB: Exemption is allowed on the long term capital gain arising from the sale of residential property 31 March 2017. The capital gain must be utilized to subscribe to equity shares in an eligible company.

Key Requirements for Claiming Exemption under Section 54

The below-mentioned conditions must be met for claiming benefits under Section 54:

1. Exemption Limit: Under Sections 54 and 54F, a maximum of Rs.10 crore can be claimed. The rule came into effect from 1 April 2023. Earlier, there was no upper limit.

1. Location of the New Residential House: The location of the house must be in India. No exemption is given for properties that are purchased outside India.

1. Timeline:

1. In case the acquisition is compulsory, the time will begin from that date the compensation has been received.

1. In the case of construction, up to 3 years is provided from the date of transfer.

1. A new residential home must be purchased before 2 years from the date of transfer.

1. Asset Nature:

1. The asset must be a long-term capital asset.

1. The asset that is sold should be a residential house.

Calculation of Capital Gain Exemption under Section 54

The lower of the below-mentioned amount will be allowed under Section 54 of the Income Tax Act:

1. Investment in purchasing or constructing a home.

1. Capital Gains amount when residential property is transferred.

Any balance amount must be paid as tax. The maximum exemption limit has been reduced under Section 54 from Assessment Year 2024-2025. The new amount under Sections 54 and 54F is Rs.10 crore.

There are different ways you can claim capital gains exemption. It is important to know the amount, type of asset, and sections under which exemptions can be claimed.