What are the tax implications of receiving an Inherited Property
Real Estate Sector is one of the most sought-after investment alternatives in India. We usually make it as an emotional asset too. Many people want to make a mark of their own in the heart of their next generation and for that, they consider property as the best tool. The property thus acquired in one’s lifetime has to be transferred to the next generations like what our ancestors had passed on to us. You can obtain immovable property in various perspectives, and there can be various circumstances when you wish to transfer your ownership of property. This can be through selling the property to someone on high price for making profit or to fulfill your needs. But, most people are concerned about selling this inherited property, as it is not acquired by them and also the value might have increased many folds. The main concern while selling the inherited property is on the part of tax implication on the sales value. The frequently asked questions are :
Will the whole value of sale be taxable?
Will it increase my tax liability?
Do I have ways to reduce the tax liability?
How is the tax liability calculated?
Even if I purchase a new house with this sales proceedings, will it be taxable?
Here we will answer all these questions.
At the time of inheriting the property from ancestor, there is no tax on the transaction. However, any profits made on the sale of inherited property are taxable as capital gains. The capital gain arising from sale of the inherited property will be fully taxable in your hand.
The sales proceedings of the property comprises of two factors. First, the cost of acquisition – the value which you spend to purchase the property on its purchase date. Second, the capital gain – this is the gain arising from sales proceedings.
Sales value – Cost of acquisition + Capital gains
While the cost of acquisition of the property is tax free, the capital gain is taxable.
The capital gains from the sale of the property are calculated on two ways depending on the period of holding of the property. However the period of holding will be considered from the date of purchase by the ancestor not the date on which the property is transferred to you. Depending on the period of holdings, the capital gains are calculated on two ways.
Short Term Capital Gains (STCG)
Long Term Capital Gain (LTCG)
Short Term Capital Gains (STCG)
Any gain arising from a sale transaction which happens within 24 months (earlier 36 months) from the date of acquisition is called STCG. And, any amount arising from that STCG will be added to the income of the individual and tax according.
Long Term Capital Gain (LTCG)
The capital gains arising from a property which a person has been holding for a period of more than 24 months (earlier 36 months) from the date of acquisition is called LTCG. The LTCG will be calculated at 20% with the indexation benefit. The LTCG shall be computed as the difference between net sale proceeds and indexation cost of acquisition.
LTCG= Sales proceeds – Indexed cost of acquisition.
Indexation is a technique to adjust tax payments by employing a price index which adjusts for inflation. In other words, indexation is the process that takes into account of inflation from the time you bought the asset to the time you sell it. The way it works is that it allows you to inflate the purchase price of the asset to take into account the impact of inflation. The end result is that you get the benefit of lowering your tax liability.
This impact of inflation over the value of an asset cannot be ignored. Hence it must be taken into account when computing tax on the difference between the buy and sell cost. It is for this reason that the government uses the Cost Inflation Index, or CII. This is an inflation index tool used to measure the rate of inflation in the economy. The value of the index is determined by the central government and is increased every year to reflect inflation. With FY2001-02 (Earlier FY1981-82) as the base (CII=100), it was fixed at 208 for FY2018-19.
The indexed cost of acquisition will be calculated as :
Indexed cost of acquisition= Purchase value of the property* (Cost inflation Index of the current year / Cost inflation Index on the year of acquisition)
In case the property is acquired prior to 2001, then cost inflation Index of 2001 is taken while calculating the index.
For Example: Mr.X received a property from his father on 2015, which his father had acquired on July 2005 for Rs.20,00,000. Mr.X sold this property to Mr.Y this financial year for 1 cr. The Long term capital gains for this transaction is
LTCG= 1,00,00,000 – Indexed value of 20,00,000
Indexed value= 20,00,000 *(208/117)= 35,55,555
Out of the sales proceeding of 1 Cr, Mr.X can take 35,55,555 as tax free and for the rest of the amount, he has to pay an LTCG of 20% on 64,44,445. Further, he can also avail tax exemption by investing in Capital gain bonds for a maximum of Rs.50,00,000 on a financial year. The other way is to buy a new property with this sales proceedings.
Tax implication on buying new property
Sec 54 of income tax act allows you to reduce your capital gains to the extent these have been invested in purchasing a new house property. It should be noted that, you do not have to invest the entire sale receipt, but the amount of capital gains. Of course, your purchase price of the new property may be higher than the amount of capital gains, however your exemption shall be limited to the total capital gain on sale. Also, you can purchase this property either one year before the sale or 2 years after the sale of your property. You are also allowed to invest the gains in the construction of a property, but construction must be completed within 3 years from the date of sale. In the Budget for 2014-15, it has been clarified that only ONE house property can be purchased or constructed from the capital gains to claim this exemption. Do remember that this exemption can be taken back if you sell this new property within 3 years of its purchase.
While, finding a suitable seller, arranging the requisite funds and getting the paperwork in place for a new property is one time consuming process. The Income Tax Department also agrees with these limitations. So, if you have not been able to invest your capital gains until the date of filing of return (usually 31st July) of the financial year in which you have sold your property, you are allowed to deposit your gains in a PSU bank or other banks as per the Capital Gains Account Scheme, 1988. And in your return claim this as an exemption from your capital gains, you do not have to pay tax on it. However, you must invest this money you have deposited within the period specified by the bank, if you fail to do so, your deposit shall be treated as capital gains.
There is considerable confusion over the taxes applicable on the sale of an inherited property. While many think that the money received on sale of an inherited house is fully tax exempt, others feel that it is fully taxable. In reality, there is no tax liability at the incidence of inheritance. However, any profits made on the sale of an inherited house, are taxable as capital gains. Selling the inherited property and purchasing a new property has now become the best means to save the tax as the lock-in period of capital gain bond has been increased to 5 years from a previous 3 year lock-in period
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