Capitalasing On Your Gains

Before you sell your property, find out the best way to save taxes and invest the cash

The sale of property is often the single most significant financial transaction we undertake. Considering how property prices have skyrocketed in the recent times, current valuations compared to acquisition costs are quite phenomenal. Unfortunately, many of us are unfamiliar with the taxation rules applicable to the sale proceeds, or what is referred to as capital gains.
Take the example of M.S. Srinivasan, retired government employee who bought a two-bedroom house in 1994 for Rs. 5 lakh. When he decided to move to Delhi to join his son, Srinivasan sold the flat in 2010 for Rs.70 lakh. Here, Rs. 65 lakh is Srinivasan's capital gains, and since he sold his house 16 years after purchase, it is treated as long-term capital gain. Property sold three years from the date of purchase comes under long-term gains.
To arrive at your tax obligation, you use a formula called ‘Indexation'. It enables you to use the inflation index to arrive at the actual cost of acquisition vs present cost.
The biggest benefit of indexation is that it helps you counter the erosion in your property price and bring it on a par with ruling market prices. The Inflation Index is computed by using a simple formula: Cost of Inflation Index = Inflation Index for year in which asset is sold (divided by) Inflation Index for year in which the asset was purchased. The Inflation Index is released by the Income Tax department each year and is available with your Chartered Accountant.

To avoid paying tax altogether, you can use the money to build or buy another home, or invest it in Capital Gain Bonds. Till you decide what you want to do, you can park it in a designated bank in a Capital Gains account. You get two years to reinvest the money in a readymade flat or house, or three years to construct a new one. If the funds are not utilised within three years, you have to pay 20 per cent capital gains tax .
If you are not interested in another property, invest the money in Capital Gains Bonds such as REC Ltd. or NHAI bonds, where the funds are locked in for three years at around 6 per cent interest, paid every six months and taxable. After three years, you can take the money out.
Capital gain bonds come with one hitch. The maximum investment limit for a financial year is Rs.50 lakh. So, if your sale proceeds are Rs.70 lakh, you can invest only Rs.50 lakh in that financial year. To address this, many people sell or register their property after October or November of a given financial year, so that they can invest the money in two lots. However, note that both investments should be done within six months from the date of sale and receipt of funds.