Have you recently sold your house and made a handsome profit? If so, you might be worried about the capital gains tax you must pay from that profit. However, there is a trick that you can use to keep more of your money. Reinvest profits in bonds or another house to avoid giving a large portion to the taxman. This can help you keep more money in your pocket. However, there are some rules and regulations that you need to follow to make it work. This blog will guide you through the process so you can save more money and worry less about taxes.
What is Capital Gains?
Capital gains are the profits realized from the sale of capital assets, such as stocks, bonds, real estate, or other investments. These gains are the difference between the asset’s purchase price and its selling price. Capital gains are often subject to taxation, with varying rates depending on the asset and the period of holding.
Understanding capital gains is crucial for investors. It has the potential to impact their overall investment returns and tax obligations. In the following sub-section, we will learn about reinvestment.
What is Reinvestment?
Reinvestment refers to taking profits or dividends earned from an investment and using them to acquire additional assets or shares. This strategy allows investors to compound their returns by continually reinvesting earnings to generate further income.
In the context of business, reinvestment involves allocating profits back into the company. Which can be utilized for purposes such as research and development, expansion, or upgrading equipment and facilities. By reinvesting, individuals and organizations can harness the power of compounding, potentially leading to more significant long-term financial growth.
Reinvestment can lead to increased wealth over time, especially in the case of long-term investments such as retirement accounts or stocks.
Capital Gain Exemptions
Exemptions on capital gains from the sale of property are available in various situations based on the type of reinvestment made. The Income Tax Act has four sections—54, 54B, 54F, and 54EC—that offer these exemptions.
Capital Gains Tax Exemption Under Section 54
- Section 54 provides exemptions on capital gains from the sale of property when reinvested in only two housing properties.
- Previously, you could claim exemptions only on one property.
- The total capital gains should not exceed ₹2 Crore.
- The investment must be made either within one year before the date of transfer or within two years after the date of transfer.
- If you invest money in construction, the construction must be completed within three years from the date of transfer.
- If the newly bought property is sold within three years of purchase, the tax exemption will be revoked, and capital gains tax will be applicable.
- It is necessary to hold ownership of the property for a minimum of three years.
Capital Gains Tax Exemption Under Section 54B
Under Section 54B, tax exemptions are applicable only on capital gains earned from the sale of agricultural land located outside rural areas and used for agricultural reasons.
- To qualify for these tax exemptions, the rural area must be 2 km from the local limits of a municipal corporation or a cantonment board.
- Additionally, the population of the area must be between 10,000 and 1 lakh.
- The capital gain must be used to purchase other agricultural land, which must be done within two years from the date of sale.
- The exemption is only for capital gain, not the entire sale consideration.
- This exemption amount is calculated based on the reinvestment in the new agricultural land.
- The tax exemption gets revoked, and capital gains tax on the sale of the property will be applicable on the sale if the newly bought agricultural land is sold in under three years of purchase.
Capital Gains Tax Exemption Under Section 54F
Under Section 54F, tax exemptions can be made on capital gains generated from selling long-term capital assets, excluding housing property. However, the long-term capital assets must not include housing property.
- The entire amount received as consideration from the sale of the capital asset must be reinvested in no more than two housing properties.
- The investment has to be made within one year before the sale or two years after the sale.
- If the money is invested in construction, the construction must be done in less than three years from the date of sale.
- The exemption will be given on the total capital gain amount only if the entire consideration amount is reinvested.
- If the whole amount is not reinvested, the exemption will only be done on the amount reinvested.
Capital Gains Tax Exemption Under Section 54EC
Under Section 54EC, tax exemptions can be availed on capital gains from the sale of property by reinvesting it in bonds by NHAI (National Highway Authority of India) and REC (Rural Electrification Corporation).
- A maximum amount of ₹50 lakhs can be invested to claim exemptions.
- The investment in these bonds can be redeemed only after 5 years.
- The investment in the bonds has to be done within six months of the date of sale or before filing taxes.
- Suppose it is not possible to invest in the bond before filing the tax. In that case, the money can be deposited in any public sector bank or a bank listed under the Capital Gains Account Scheme (CGAS).
- The exemption is valid if the money deposited is converted into an investment within under two years from the date of sale.
- But if the deposit remains as is even after two years, it is considered to be short-term capital gains.
Capital gains tax must be paid after the sale of land or any property. However, this tax can be avoided by reinvesting the amount within a specific period. The Income Tax Act of 1961 provides some exemptions to this tax.