If you earn anything, it's minus taxes; if you buy anything it's plus taxes, goes a witty one-liner, which is quite true for all practical purposes. Like most other earnings, when you make a capital gains by selling your residential property, you are liable to pay tax. Here, your gain is the difference between the price at which you buy and the price at which you sell.
You can make two kinds of capital gains by selling a house property, depending upon the time you have sold the property. "If you hold a house for less than three years before selling it, then it is considered a short-term capital gain (STCG) and you have to pay tax according to your income-tax slabs," says Parag Paranjpe, a Nagpur-based chartered accountant and certified financial planner. "If you sell the house after three years or 36 months, then it's considered long-term capital gain (LTCG) and you have to pay 20% of the profit as tax."
On LTCG, you can claim tax exemption under certain conditions. Also, you get the indexation benefit on LTCG. Here are some ways through which you can claim exemption.
Buy a new property
One way to get an exemption on LTCG received from sale of a house property is to buy a new residential house within the stipulated time period.
"To get the exemption, you need to purchase the new residential house within a period of one year prior to or two years after transfer of the original house," says Parizad Sirwala, partner, KPMG, an audit and consulting firm. "As far as under-construction house goes, the construction needs to be completed within three years from the date of transfer of the original house."
If you don't plan to construct your own property, you can even book a residential under-construction house to avail this exemption.
You can get an exemption for an amount equal to the cost of a new house, or the amount of capital gains, whichever is lower. So let's say, you sold your house for Rs. 80 lakh, made LTCG of Rs. 40 lakh, and bought a new house worth Rs. 20 lakh. On the remaining Rs. 20 lakh amount, you will have to pay LTCG tax at 20%, that comes to Rs. 4 lakh.
There is a good chance that you may not get a new house of your choice within the stipulated time period. In that case, the Capital Gains Account Scheme (CGAS) can come to your aid.
Open a CGAS
You can deposit the capital gains amount in a CGAS before the due date of filing tax returns (July 31) to save LTCG tax. But treat CGAS as a parking place, where you can deposit money until you find a house that suits you, but of course within a time limit. The amount has to be parked in CGAS with the intention to use the funds to buy a new house within two years or to construct one within three years.
If you fail to buy or construct a new house within the stipulated period, the entire amount is treated as LTCG and you will have to pay tax on it.
For instance, let's say, you sold a property in April 2010. The capital gain made should be used to either buy a house by April 2012 or construct a house by 2013. Until then, you can deposit the money in a CGAS account before the date of filing returns, which in this case was be July 31 2011, to save tax.
If you do not acquire the new property till April 2013, the LTCG would be taxable in the fiscal year 2013-14.
Where can you open it? You can open a CGAS account at an authorised government-owned bank.
It's important to remember that the amount you withdraw from CGAS should be used to purchase a house within two months from the date you've withdrawn these funds. "In case you buy a new house, ensure that you do not sell the new house within three years or you stand to lose the exemption. In such a case, you will have to pay LTCG tax in the year you sell the new house," says Paranjpe.
Invest in 54 EC bonds
But what if you don't want to buy a property at all with the LTCG amount?
You can still get tax exemption, but you will have to invest the amount in specific bonds that fall under section 54EC of the Income-tax Act. These bonds are issued only by the National Highways Authority of India and Rural Electric Corporation Ltd.
To get the tax benefit, you have to hold these bonds for at least three years. Keep in mind that as per the said section, capital gains have to be invested in the bonds and the benefit is allowed to the extent of the amount invested. Therefore, if you've made LTCG of, say, R30 lakh and have invested it in one of these bonds, the amount will be exempt from tax. But if you invest only a part, say, R10 lakh, you will get an exemption only on that part and will have to pay LTCG tax on the remaining R20 lakh.
"To avail the exemption, you need to invest the whole or part of the capital gains in these bonds within a period of six months after the date of such transfer," says Sirwala.
As per the Act, the exemption under this section is available provided the investment is made on or after 1 April 2007. Exemption is allowed on an amount up to Rs. 50 lakh in one fiscal. "Since the rule says that the maximum amount is Rs. 50 lakh per fiscal, you can take advantage if the six-month limit falls between two fiscal years," says Paranjpe.
In fact, you could time the sale of your house property in such a way that this period of six months actually falls between two fiscal years. So, if you sell the house between October and March, you come in the six months limit between two fiscal years. In that case, you can invest Rs. 1 crore in total over two financial years and get the tax benefit (see table).
You can invest a minimum of Rs. 10,000 and a maximum of Rs. 50 lakh. The face value is Rs. 10,000 per bond and you can buy up to 500 bonds.
The bond is available for three years and can be redeemed only after three years. They come with a coupon rate of 6%, payable annually.
If for some reason, you are unable to keep the bond for three years, your tax exemption will be withdrawn and you will have to pay LTCG tax in the subsequent year. Also, if you avail a loan against such bonds within three years, you will have to let go of the exemption.