How to Save Capital Gains Tax on Property Sales

Are you wondering about the impact on your taxes after the government's recent change in the capital gains tax regime for real estate? Well, homeowners will now have the choice of two tax rates on long-term capital gains: a 12.5% rate without indexation or a 20% rate with indexation advantage.

Selling a property can be a significant financial transaction, but it's important to understand that it may also attract capital gains tax. However, there are several strategies you can employ to reduce the tax burden and save more of your hard-earned money. In this article, understand what is capital gains tax on property and explore various methods to save on capital gains tax when selling a property.

What is Capital Gains Tax on Property?

Capital gains tax on property is a tax imposed on the profit earned from selling an asset. When you sell a property for more than its purchase price, the difference between the selling price and the cost of acquisition is considered as capital gain. This gain is subject to taxation according to the prevailing tax laws in India.

Different Types of Capital Gains

There are two types of capital gains: short-term (STCG) and long-term (LTCG). The period of holding determines whether the gain is short-term or long-term.

• Short-term Capital Gains (STCG): Property sold within two years of acquisition is taxed at 20%.Long-term 
• Capital Gains (LTCG): Property sold after holding it for more than two years is treated as a long-term capital gain. Currently, LTCG on property sales is taxed at a flat rate of 20%, with indexation benefits available or at 12.5% without indexation benefits.

Strategies to Save Capital Gains Tax on Property Sales

1. Joint Ownership

If you co-own a property with someone else, you can divide the capital gains from the sale among the co-owners based on their ownership share. This allows each co-owner to use their basic exemption limit and potentially reduce the overall tax liability.

Example: 

Mr. and Mrs. Patel jointly own a property that they purchased ten years ago for ₹40 lakhs. They decide to sell it for ₹1 crore. Since they are equal co-owners, they divide the capital gains equally between them – ₹30 lakhs each.

They can claim exemptions up to ₹1.25 lakhs each, totalling to ₹2.5 lakhs on their respective gains, for tax savings and reducing their overall tax liability.

2. Reducing Selling Expenses

Certain selling expenses, like renovation costs, can be deducted from the sale price when calculating capital gains on property sales, lowering the taxable capital gains.

Example:

Mr. Gupta sold his property for ₹60 lakhs. However, he incurred expenses such as brokerage fees, legal charges, and advertising costs amounting to ₹2 lakhs, which can be deducted from the sale price. As a result, the sale price is ₹58 lakhs. 

3. Holding Period

Holding a property for more than two years can qualify you for long-term capital gains tax rates, which are typically lower than short-term rates.

4. Availing Indexation Benefit

When you sell a residential property after holding it for at least two years, you can take advantage of the indexation benefit. Indexation adjusts the purchase cost of the property to account for inflation, which effectively lowers the amount of capital gains and subsequently the tax on it.

5. Buying a New Property (Exemption under Sec 54)

One popular method of saving tax on the sale of a residential property is by reinvesting the capital gains in another residential property. Under Section 54 of the Income Tax Act, you can claim an exemption if you fulfil certain conditions—

• Firstly, you need to purchase a new property either one year before or two years after selling your existing property. Alternatively, you can construct a new property within three years of selling your previous one.
• The entire sale proceeds must be reinvested to avail full exemption. If only the capital gain is reinvested, then the exemption is granted proportionally.

6. Buying a New Residential Property (Exemption under Sec 54F)

Apart from selling a residential property, if you sell any other asset and use the proceeds to acquire a new residential property, you can claim an exemption under Section 54F.

• Similar to the conditions mentioned above, the new residential property must be purchased either one year before or two years after selling the asset. Moreover, it should be constructed within three years of selling the asset.
• It's important to note that while claiming this exemption, the seller should not have more than one residential property, excluding the newly acquired one.

7. Tax Loss Harvesting

Losses from sales of mutual funds or shares can be used to offset capital gains on property sales to minimise your tax liability.

Example:

Ms. Sharma sold some shares of a company at a loss of ₹3 lakhs. She had also recently sold a property, incurring a capital gain of ₹10 lakhs. By offsetting the loss from the shares against the gain from the property, her taxable capital gain would be reduced to ₹7 lakhs.

8. Investing in Bonds (Exemption under Sec 54EC)

Under Section 54EC, you can save on capital gains tax on property by investing in specified bonds issued by National Highways Authority of India (NHAI) or Rural Electrification Corporation (REC). The investment needs to be made within six months from the date of sale.

Example:

Mr. Kumar, after incurring ₹30 lakhs in long-term capital gains from selling his flat, plans to invest this amount in NHAI bonds within six months and claims an exemption of ₹30 lakhs.

9. Reinvesting Gains into Shares of Manufacturing Companies

Under Section 54GB of the Income Tax Act, individuals have the option to reinvest their long-term capital gains from the sale of a residential property into shares of an eligible company engaged in manufacturing activities. 

10. Investing in Capital Gain Account Scheme (CGAS)

Consider investing in the Capital Gain Account Scheme (CGAS) to claim exemption. However, it's important to note that the deposited amount in CGAS should be utilised within three years; otherwise, you will be liable to pay tax on that amount.