Analysing Section 54 of the Income Tax Act

Section 54 from the Bare Act

According to Section 54, Any long-term capital gain, arising to an individual or HUF, from the transfer of a residential house property being buildings or land appurtenant thereto (income from which is chargeable under the head “Income from House Property”) shall be exempt to the extent such capital gain is invested in the purchase of one residential house property, within one year before or 2 years after the date of transfer, and/or in the construction of a residential house property, within three years after the date of such transfer, provided the house property, purchased or constructed, is not transferred within a period of 3 years from the date of its acquisition.

If the new asset is transferred within a period of 3 years from the date of its acquisition, then, for the purpose of computing the capital gain on this transfer, the cost of acquisition of this house property shall be reduced by the amount of capital gain exempt under this section earlier.

However, from assessment year 2018-19, if such residential house property is transferred after 2 years but before 3 years, the capital gain shall now be long-term capital gain instead of short-term capital gain and benefit of indexation of net cost of acquisition (i.e., cost of acquisition – capital gain exempt u/s 54 earlier) will also be allowed.

Simplifying Section 54

In other words, capital gain arising on the transfer of a residential house is exempt under section 54 in the following circumstances:

  1. The asset transferred is a residential house, the income of which is chargeable under the head “income from house property”;
  2. The asset transferred is a long-term capital asset and hence there is a long-term capital gain;
  3. The asset has been transferred by an individual or a Hindu Undivided Family;
  4. The assessee has purchased one residential house property in India within one year before or two years after the date on which transfer took place or constructed the same within 3 years after the date of such transfer.

If all these four conditions are satisfied, then the assessee can claim the exemption under section 54 on the capital gains.