Removal Of Indexation Benefit: Homeowners Who Acquired Properties After 2001 May End Up Paying Higher Taxes

Removal Of Indexation Benefit: Individuals planning to sell their property must carefully evaluate these changes to comprehend their updated tax obligations before making any financial decisions

In the Union Budget 2024, Finance Minister Nirmala Sitharaman announced revisions to the capital gains tax rates and adjustments to the indexation benefits for various assets, including real estate. Sitharaman also reduced the long-term capital gains (LTCG) tax rate on the sale of property from 20 per cent to 12.5 per cent. Individuals planning to sell their property must carefully evaluate these changes to comprehend their updated tax obligations before making any financial decisions.

What does it mean and how will it impact the real estate market? Experts and sector analysts have shared their takes in details with ABP Lives on the latest adjustments done in the Union Budget.

Pallav Pradyumn Narang, a partner at CNK, chartered accountant firm, has highlighted how the real estate sector has seen subdued growth over the past many years, particularly in the metros. “The removal of indexation benefits to transactions with effect from July 23, 2024 and the reduction of holding period of applicability of LTCG effectively takes away a lot of the incentives for holding on to properties for a significant period of time,” he said.

Narang suggested this could work both ways:
A) increasing buying and selling activities and thereby creating more opportunities for the sector
B) keeping people away from real estate as an asset category on account of large ticket sizes and low post tax returns.
Cost of indexation is explained in the chart below. 

	Cost of Index	Cost of Index
Selling Date	30-07-2024	363
Date of Acquisition	01-04-2012	200
	Indexed Profit	Profit w/o Index
Sale Value	40,00,000	40,00,000
Cost	45,37,500	25,00,000
Loss	-5,37,500	15,00,000
Tax Liability	0	171875

Heena Chheda, partner, Economic Laws Practice, explained the government’s latest announcement in the Budget to significantly reduce the LTCG tax on real estate from 20 per cent to 12.5 per cent. “When considered with the clarification (that the indexation benefit will be removed for properties bought after 2001), means that sellers who have purchased property after 2001 will lose the benefit of indexation. The capital gains in such a transaction will be calculated based on the actual purchase price and sale price without any inflation adjustment. Hence, the homeowners who have acquired properties after 2001 are likely to end up paying higher taxes, despite the LTCG tax rate reduction except where the property value has grown in double digit, which is rare,” Chheda said.

“We believe that this measure aimed at simplifying tax calculations in most cases may benefit the government but negatively impact the homeowners. However, property sellers can continue to take advantage of exemptions u/s 54 of Income Tax Act and save LTCG," she remarked.

What did CBDT chairman say?

After the Budget, CBDT Chairman Ravi Agrawal cleared the air on the removal of indexation benefits from real estate transactions, saying that the new system will result in a "lower tax obligation" for taxpayers. He clarified that this move will ultimately benefit taxpayers when viewed through the lens of "actual market dynamics" rather than mere mathematics. The head of the direct taxes administration mentioned that the department conducted "some calculations" in this context before the measure was announced.

Effect on realty sector 

However, the changes in taxation of capital gains will have mixed results on the real estate sector. There will be gainers and losers. Ankit Jain, partner at Ved Jain & Associates, noted that home owners having a long holding period will definitely lose out as the indexation benefits will not be available to them. But those home owners whose properties have soared over a short period of time will definitely be gaining out of this change.

He cited an example to understand how it could impact us. "Suppose you purchased a property in 2004 for Rs 30 lakhs. Over the years, the property has appreciated, and in 2024, you decide to sell it for Rs 1 crore. Under the old tax structure, with indexation available, the indexed cost of the property would be Rs 96 lakhs. Therefore, the capital gains would be Rs 4 lakhs (Rs 1 crore - Rs 96 lakhs). The tax payable on these capital gains at 20 per cent, including cess, would be Rs 0.83 lakhs," Jain highlighted. 

According to Kunal Savani, partner at Cyril Amarchand Mangaldas, currently, the I-T Act provides that long-term capital gains arising to resident taxpayers, on transfer of certain assets such as immovable property, gold etc. would be computed after taking into account the indexed cost of acquisition. i.e., after adjusting the cost of acquisition for inflation.

Savani explained what will happen if someone wants to sell a house under the existing regime and proposed regime.

Under the existing regime

If Mr X bought a house in 2001 for Rs 5 lakhs and has now sold it in Rs 20 lakhs, under the existing regime, Mr X would be eligible to claim indexed cost of acquisition (almost 3.63 times) and his tax liability would be Rs 37,000 (approx.).

Under the proposed regime

Now, under the proposed regime, Mr X will not be eligible to 3.63 times indexed cost and his tax liability (even at reduced rate of 12.5 per cent) would be Rs 1,87,500.

Savani, however, concluded by saying that the taxpayer can continue to take the fair market value of the asset, as on April 1, 2001, as the cost of acquisition of the asset, where such assets have been acquired prior to the said date. Further, a taxpayer can also continue to claim capital gains exemption under the rollover provisions, where capital gain arising from transfer of certain assets such as residential properties are exempt from taxation, provided the same are invested in certain specified assets.

Who Will Be Impacted More?

Removing indexation benefits on property, especially real estate is one of the most hard-hitting amendments in this Budget. Ritika Nayyar, Partner, Singhania & Co, opined that it will have a major impact on lower and middle-income taxpayers. “Indexation benefit was fundamental to long-term gains giving taxpayers the much-needed shield of adjusting to inflation for the historical investment costs. Offering a lower long-term capital gains tax by 7.5 per cent is nowhere even close to making up for that indexation benefit taken away by the government in this Budget. They may well be having the intention of simplifying the regime but should not have been at the cost of imposing an additional tax burden which is seemingly huge especially in the real estate sector,”Nayyar said.

She hinted that this may not only hinder growth in the real estate sector, since current sellers will rethink due to increased gains, unless to meet liquidity crises and prospective buyers may contemplate real estate as a viable investment option for future returns but may also increase black money circulation in this business. “Particularly the removal of indexation benefits, can significantly affect the tax liabilities on property sales. For older properties, the impact is an increased tax burden, while for newer properties, there might be a reduction in tax outflow,” Nayyar added.