Section 54F of Income Tax Act: Capital gains tax exemption

Ever since the long-term capital gains tax on equities has been re-introduced, investors often write to us asking if there is a way to do away with it. In one of the recent emails that we have received, our subscriber mentioned that he is planning to buy a house after selling his investment in equity shares. He specifically pointed out towards section 54F of the Income-Tax Act and asked if the same can be used to claim an exemption on the capital gains by buying a house.

The short answer to the question is, yes, you can. But certain conditions are attached to it. The biggest being, you should not own more than one residential house exclusive to the one you are purchasing to claim this exemption. Further, you are not allowed to sell this house within three years, otherwise, the exemption is withdrawn.

Let us look a bit in detail at what section 54F says. This section allows claiming an exemption on long-term capital gains that you may have realised on selling any capital asset other than a residential property, if the proceeds are used to buy a residential house. So the gains could be from anywhere - equities, jewellery, bonds, etc. And while the capital gains are taxed, one can claim an exemption if the proceeds are utilised to buy a residential house.

Conditions you must fulfill to avail the exemption

• The exemption is available only to individuals and Hindu Undivided Families (HUFs).
• You must not own more than one house (other than the one you are purchasing now).
• For availing of the exemption, the house can be purchased within one year before or two years after the date at which such capital asset is sold. In the case of constructing a house, it must complete within 3 years from the sale of such capital asset.
• Transfer the proceeds to a 'capital gains account' with a bank if you are unable to utilise the sale proceeds for the said purpose before the due for filing the income tax return of the financial year in which such capital asset is sold.
• You must not sell this house within 3 years otherwise the exemption is withdrawn.
• If you purchase any other house (besides the one purchased for claiming exemption) within one year from the date of selling such asset or construct another house within three years, the exemption is withdrawn.

What portion of capital gains is exempted
To understand this, let us assume that an investor has sold assets worth about Rs 60 lakh of which their capital gains are Rs 10 lakh. The investor then re-invests this amount for purchase/construction of the residential house, then the amount of capital gains exempted are calculated as follows:

• Case 1: When the entire amount is re-invested
  In the case when the entire amount from the sale of assets is re-invested for purchase/construction of the residential house, the investors can claim exemption on the entire capital gains, i.e., Rs 10 lakh in this case.

• Case 2: When a part of sale proceeds is invested
  In case when a part of the sale proceeds is re-invested, the capital gains exemption under section 54F are calculated on the proportion of the amount re-invested. For instance, if the investor re-invests Rs 40 lakh, then capital gains exempted are calculated as (40 lakh/60 lakh)*10 lakh = Rs 6.67 lakh.

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