Section 54 of Income Tax Act: A Guide to Capital Gains Exemption in 2024

Life often presents us with opportunities for new beginnings, whether pursuing a different career, relocating to another country, or embracing retirement. As we embark on these journeys, selling our homes frequently becomes necessary. However, this process can be complex and financially challenging. Fortunately, Section 54 of the Income Tax Act offers a valuable provision that can help ease this transition by potentially reducing your tax burden.

Section 54 is a part of the Income Tax Act that provides tax benefits to individuals who sell their residential property and reinvest the proceeds in another property. Simply, it allows you to claim an exemption on the capital gains tax you normally pay on the profit from selling your house. To qualify, you must purchase a new residential property within a specified timeframe, either one year before or two years after the sale of your original property. Alternatively, you can construct a new house within three years of the sale.

What is Section 54 of the Income Tax Act?

This act states that an individual or HUF selling a residential property can avail of a tax exemption under section 54 from Capital Gains only if the capital gains are invested in the purchase or construction of the residential property. Section 54 of the Income Tax Act allows individuals to claim tax exemption on capital gains from selling a residential property if they reinvest in another home within specified timeframes.

Contrary to misconceptions, the entire amount of income is not subject to taxation. Rather, it is solely the profit derived from the sale of a property that falls within the taxable purview. This is attributed to the classification of the sale of a residential property as a capital asset, thereby rendering the accrued profit as a capital gain.

Purpose of Section 54 of Income Tax Act

Section 54 of the Income Tax Act is essential in promoting investment in residential property while providing tax benefits to individuals. This provision encourages taxpayers to reinvest the capital gains earned from selling a residential property into another residential property. Section 54 aims to stimulate the real estate market and support homeownership by offering tax exemptions under specific conditions.

Key purposes of Section 54 of the Income Tax Act:

• Encourage reinvestment in residential property
• Provide tax relief on capital gains from property sales
• Stimulate the real estate market
• Promote long-term investment in housing
• Support homeownership among taxpayers
• Offer financial incentives for property upgrades

Who is Eligible to Avail the Benefits Under Section 54?

Section 54 of the Income Tax Act provides significant tax benefits for individuals selling residential property and reinvesting the proceeds. This provision encourages investment in the real estate sector while offering taxpayers an opportunity to save on capital gains tax. Understanding who can benefit from these benefits is crucial for making informed financial decisions. The following factors will help you understand the eligibility- 

 Encourage reinvestment in residential properties.

1. Provide tax relief to property owners
2. Stimulate the real estate market
3. Promote long-term investment in housing
4. Support individuals in upgrading their living conditions.

Exemption Under Section 54 Explained

This act states that an individual or HUF selling residential property can avail of tax exemptions from Capital Gains only if the capital gains are invested in the purchase or construction of the residential property. However, taxpayers such as LLPs, partnership firms, or any other association body cannot claim this tax deduction under section 54.

What is the Amount of Capital Gain Exemption Available Under Section 54?

The section 54 capital gain available under section 54 is the lower exemption amount for a taxpayer on the amount of capital gains or transfers of residential property. It is also the lower amount for a taxpayer on the investment made for purchasing or constructing a new property. 

The exemption amount under Section 54 depends on various factors. Here's an overview:

Scenario	Exemption Amount
Cost of new property ≥ Net sale consideration of old property	Full capital gains
Cost of new property < Net sale consideration of old property	Proportionate capital gains
Investment in Capital Gains Account Scheme	Amount deposited (conditions apply)

What are the Mandatory Conditions for Availing Exemptions Under Section 54?

These are some of the criteria that need to be followed to be eligible for section 54.

1. The asset needs to be a long-term capital asset.
2. Capital gain on sale of house property section 54 has to be a residential house, as the income garnered from this house should be chargeable as income on house property.
3. Section 54 of income tax acts on more than one house, the seller should buy a residential house either 1 year before the date of sale or 2 years succeeding the date of sale. It is important to note that if the seller is constructing a house, the seller will have to build the residential house within 3 years from the date of sale.
4. The individual cannot buy a residential house abroad and then claim the exemption. 

If you want to avail of the deduction under section 54, you must ensure all these criteria are met. This exemption is only available once in the life span of the individual/seller.

Note that in Section 54 of the Income Tax Act, more than one house cannot mean you can get the exemption for both. As per sec 54 of the Income Tax Act, the exemption can only be claimed by only one house, and no exemptions can be claimed if the property exists or is purchased outside of India.

Also, under Section 54 of the Income Tax Act joint ownership, a sale of a long-term capital asset (a residential property, for example) with joining names of two or more people if the assessee has constructed a residential house in India within a period 1 year before/2 years after/ or the date of the transfer. In this case, the sale proceeds and money flow are traced to the assessee to know he/she has invested the amount as proof. Otherwise, the claim for exemption under Income Tax Section 54 can be denied.

If the residential property is sold within 3 years from the date of purchase or the date of construction, then the tax under section 54 exemption, claimed earlier, shall be indirectly taxable in the year of sale of the new house property. 

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What is Meant by the Capital Gains Account Scheme?

When a capital asset is sold, the money received from the sale is called Capital Gains. The government provides tax relief for specific assets over a stipulated period, encouraging these gains to be reinvested.

In 1988, the government introduced the Capital Gains Account Scheme. This scheme enables individuals to retain their capital gains until they can be reinvested in specific assets under sections 54 and 54F of the Income Tax Act 1961. By taking advantage of this scheme, you not only have the opportunity to deposit your under-used capital gains but also benefit from exemptions on reinvestment. Moreover, it is an excellent way to safeguard your long-term capital gains.

Difference Between Section 54 vs Section 54F

	Section 54	Section 54F
Tax Exemption	Invest in indexed long-term capital gains	Long term capital gains on the sale of any asset that isn't a residential house
Investment Requirement	Long-term capital gains on the sale of any asset that isn't a residential house	Invest the net consideration of the particular asset
Uninvested Amount	Charged as long-term capital gains	Exemption calculation: Cost of new house x Capital Gains / Net Sale Proceeds
Ownership of Multiple Houses	No restriction	Cannot own more than one residential house at the time of sale of an old asset
Reversal of Exemption	If new residential property is sold within 3 years from purchase, exempted capital gains will be taxed	Long-term capital gains on the sale of a residential house

In conclusion, Section 54 of the Income Tax Act sheds light on the valuable exemptions available for residential properties. If you aspire to make significant savings through Section 54, we invite you to explore the range of houses and commercial properties available on NoBroker. Discover options that suit every budget, and enjoy the added advantage of saving on brokerage fees. 

Frequently Asked Questions