Exemption from long-term capital gains tax from sale of a residential property is available under Section 54 provided the gains are invested within a specified time in another property. However, a recent issue of the Income Tax Tribunal before the Mumbai Bench questioned whether the exemption was available even when more than one house is sold and the combined gains are invested in a new property.
Here's the background: The assessee with his three brothers had purchased two flats in two different buildings. The first one was purchased in financial year 1983-84 (FY83-84), the other one was purchased in FY81-82. In both the flats, the assessee held 25 per cent. One flat was sold in FY96-97 and the other one was sold in FY97-98. The assessee computed the long-term gains for the two flats as for one property and invested a substantial amount of the capital gains from the two sales in construction of a residential property. The balance gains was offered as tax.
The assessee submitted before the Assessing Officer (AO) that the two flats though not contiguous, were in proximate buildings and had been used as one house. Thus, it was submitted that the same should be treated like that.
The AO did not agree with this view. He observed that the flats were located in different buildings, on different roads and had been bought in different years. So they could not be treated as one property. He also observed that the Section 54 allowed exemption with respect to residential properties, the income from which was chargeable under the head 'income from house property'. In this case, the assessee owned two residential houses and exemption from house property income was available for one house as self-occupied. The second property automatically would be deemed let out.
However, as the assessee had not declared it in the tax return, it was to be assumed that the only reason thereof was that the assessee had ipso facto treated the flat as being used for the purpose of business. The AO, therefore, held that since the second flat had been used for the purpose of business, income from it was not chargeable as one from house property and the exemption under Section 54 was not available on it.
The assessee disputed the decision of the AO and appealed before the Commissioner of Income-tax (Appeals) or CIT(A). The CIT(A), after considering the submissions of the assessee, observed that though the flats in question were not contiguous, these were part of the same house and, therefore, two flats had to be treated as one property. The CIT(A) accordingly held that the AO was not justified in treating one of the flats as a business asset. Aggrieved, the Revenue Department appealed before the Tribunal.
The Tribunal did not agree with the view taken by the CIT(A). The flats were located in two different buildings, in two different housing societies, on two different roads and bought in two different years. There was no common approach road to the buildings. Therefore, the two flats could not be treated as one property.
Having held that, the Tribunal was of the view that now it is required to be examined whether the assessee is entitled for exemption under Section 54 with respect to the sale of more than one house. The Tribunal opined that there was no restriction in Section 54 that did not allow the exemption in case of sale of one house. Even if the assessee sells more than one residential property in the same year and the capital gains are invested in a new property, claim for exemption cannot be denied if other conditions under the section were fulfiled.
The provisions of Section 54 as pointed out earlier, apply to transfer of any number of residential houses by the assessee provided the capital gains are invested in a new house within the prescribed time limit. Thus, there is an in-built restriction that capital gains from the sale of one residential house cannot be invested in more than one residential house. However, there is no restriction that capital gains from sale of more than one house cannot be invested in one new house. As long as the capital gains from sale of one house is invested in a new house in each case individually, the exemption should be available. Therefore, even if two flats are sold in different years, and the capital gains of both are invested in a new house, exemption under the section will be available, provided the time limit of construction /purchase of the new house is fulfiled in each case.
The AO's observation was not eligible for exemption under Section 54 as it would be considered as having been used for the purpose of business. The AO concluded that the assessee had not returned any income from the flat. The CIT(A) had not accepted this finding and the Tribunal agreed with the CIT(A)'s view. The assessee had shown no income from the second flat because the assessee had treated both the flats as one house used as a self acquired one. There was no material to support any business use. While it is true that the requirement of Section 54 is that income should be chargeable to tax under income from house property, it is not necessary that income should have been actually charged.
Thus, the Tribunal ruled that AO should allow the exemption after verifying that the new house had been constructed within the time limit.