Capital gains exemption u/s 54EC of Income tax Act, 1961

Republished with updates till July 2018

Section 54EC of Income Tax Act, 1961 provides an option to save tax on capital gain arising from transfer of long term capital asset subject to fulfillment of certain conditions. Provisions of section 54EC are being discussed herein below for the benefit of all concerned.

Circumstances under which deduction u/s 54EC is available: The deduction u/s 54EC will be available subject to the following conditions:

a. The asset transferred should be either Land or Building (whether Residential or Non-Residential) and hence there should be a long-term capital gain on sale of these assets only.

b. Such capital asset should have been transferred after 1-04-2018 by the assessee as amended as per Budget 2018 and exemption shall be applicable from 1st April 2019.

c. The assessee has within a period of 6 months after the date of such transfer has invested the capital gain in the long term specified asset.

d. Specified assets are the bonds redeemable after 5 years issued by the National Highways Authority of India (NHAI) or the bonds issued by Rural Electrification Corporation Ltd. (RECL).

Update: The Central government has notified that bonds issued by Power Finance Corporation Limited issued on or after 15.06.17 or Indian Railway Finance Corporation issued on or after 08.08.17 are also eligible for exemption. 

e. The cost of long-term specified assets which are considered for the purpose of exemption u/s 54EC, shall not be eligible for deduction with reference to such cost u/s 80C. It means investment made in bonds u/s 54EC is not eligible for deduction u/s 80C.

Quantum of deduction: The capital gain shall be exempt u/s 54EC only to the extent it is invested in the long term specified assets within a period of 6 months from the date of such transfer. It means if a long term capital gain arises to the tune of Rs. 10 lakh and bonds u/s 54EC are purchased amounting Rs. 8 lakh then capital gain of Rs. 8 lakh will only be exempted u/s 54EC and the remaining capital gain of Rs. 2 lakh will be taxable. 

Limit of investment: After 01-04-2007, the investment made in the long term specified capital asset i.e bonds u/s 54EC during any financial year cannot exceed Rs. 50,00,000. Thus investment in bonds in one financial year can be made only to the extent of Rs. 50 Lakhs.

Recently Jaipur ITAT  in Assistant Commissioner of Income-tax, Circle-2, Ajmer v. Shri Raj Kumar Jain & Sons (HUF) [2012] 19 taxmann.com 27 (Jaipur - Trib.) held that as per section 54EC investment within 6 months is investment for that particular financial year in which transfer has taken place and said period of six months would not include some part of subsequent financial year. 

Which means that if a person has a capital gain of Rs. 1 crore on 1st January 2011, he cannot make an investment of Rs. 50 lakh before 31st march, 2011 and Rs. 50 lakh after 31st march so as to claim exemption from capital gains to the tune of Rs. 1 crore by claiming that investment of Rs. 50 lakh has been made in a separate financial year and of Rs. 50 lakh in a separate financial year.

The total limit of exemption u/s 54EC for a capital gains relating to one financial year cannot exceed Rs. 50 lakhs.    

Lock in period of 5 years: Once investment is made u/s 54EC in specified bonds then such bonds cannot be transferred or converted into money (otherwise than by transfer) within a period of five years from the date of their acquisition, otherwise the amount of capital gain exempt u/s 54EC earlier, shall be deemed to be long-term capital gain of the previous year in which such bonds are transferred or converted into money (otherwise than by sale).

If the assessee takes any loan or advance on the security of such long term specified asset, he shall be deemed to have converted such long term specified asset into money on the date on which such loan or advance is taken.

Exemption in case bonds purchased in joint name: Where the investment in bonds for claiming exemption was made in joint name it was held that there was no requirement in the section that the investment should be in the name of the assessee. The object of insertion of section 54EC was to give an incentive to the development of infrastructure. In 2001 the section was widened to include bonds issued by Rural Electrification Corporation Ltd. If development of infrastructure was the object, it would not matter whether the investment was made in the name of the assessee exclusively or in the joint names of the assessee and somebody else. The only condition was that the funds used for the investment must be traceable to the sale proceeds of the capital asset.

That condition should be satisfied by assessee.

In the case of ITO v Saraswati Ramanathan (2008) 300 ITR (AT) 410 (Del.), the CIT(A) had found that the son did not contribute anything to the investment and this finding was not in dispute. The consequences that flow from including the son’s name as a joint name were not relevant for the purpose of granting exemption u/s 54EC to the assessee. The CIT(A) had noted that the assessee was 69 years of age at the relevant time and it was only a matter of convenience and to avoid any problem in future that the son’s name was included. The assessee was eligible for the exemption u/s 54EC of the Act.

Benefit u/s 54EC available even in case of depericiable asset: If depreciable asset is held for more than 36 months then capital gain arising therefrom even though is considered as short term capital gain, but in such case there is no denial as to claiming exemption u/s 54EC against such short term capital gain.

It was held in CIT v Assam Petroleum Industries (P) Ltd. (2003) 131 Taxmann 699 (Gau) that although as per section 50 the profit arising from the transfer of depericiable asset shall be gain arising from the transfer of short term capital asset, hence short term capital gain but section 50 nowhere says that depericiable asset shall be treated as short term capital asset. Section 54E is in independent provision which is not controlled by section 50. If the conditions necessary u/s 54E are compiled with by the assessee, he will be entitled to the benefit envisaged in section 54E, even on transfer of depericiable assets held for more than 36 months.

Similarly it was held in CIT v ACE Builders Pvt. Ltd. (2005) 144 Taxmann 855 (Bom) “Section 50 makes it explicitly clear that the deemed fiction created in sub-section (1) and (2) of section 50 is restricted only to the mode of computation of capital gains contained in section 48 and 49. It is well established in law that a fiction created by the Legislature has to be confined to the purpose for which it is created, it does not apply to other provisions. Thus, the deeming fiction created under section 50 is restricted to sections 48 and 49 only and it is not applicable to section 54E.

The ratio in the above decision shall also be equally applicable to section 54EC and 54F.

The exemption allowed where investment was made after 6 months due to non-availability of bonds:

Where the assessee could not invest the money due to non-availability of bonds qualifying for deduction under section 54EC it was held there was a reasonable cause for not purchasing the bonds within the time specified in section 54EC. Since the assessee purchased the bonds as soon as same were available it was eligible to claim deduction under section 54EC - Cello Plast v DCIT (2010) TIOL 60 ITAT(Mum.)