REAL ESTATE TRANSACTION AND CAPITAL GAINS.

Transcription

1 REAL ESTATE TRANSACTION AND CAPITAL GAINS. CAPITAL GAINS: 1. Amount received on surrender of tenancy. BY: FIROZE B. ANDHYARUJINA. SENIOR ADVOCATE. 1.1 Long Term Capital Asset. Is defined in sec2 (29A) of the IT act as an asset which is not a short term capital asset and short term capital asset is defined in sec 2(42A) to mean a capital asset held for not more than 36 month immediately preceding the date of its transfer the expression Held by the Assesse means the date from which the assesse acquired the right or got hold of and started enjoying the asset. 1.2 The word HELD in sec 2(42A) is not confined or restricted to ownership of the property or the asset. Capital asset can consist of rights other than ownership rights in an asset, like leasehold rights, allotment rights etc. The sequitur therefore is that the word HELD or HOLD is not synonymous with right over the asset as an owner. 1.3 Sec 116 of transfer of property Act 1882 provides that where a tenant after the end or determination of the lease remains in possession of the property and rent is accepted by the lessor that is the landlord, then in absence of a agreement to the contrary, the lease is treated as renewed from year to year, month to month as the case may be. In such cases rent is paid and accepted, therefore u/s 106 of the transfer of property act notice of termination has to be issued. 1.4 In CIT vs. Frick India LTD ITR 328 (DELHI) the assessing officer was of the view that the amount received on surrender of tenancy rights is short term capital gains the logic behind the finding of the AO was that the tenancy after the initial period that is 3 years by way of written instrument month-month- month thus the tenancy rights were

2 extinguish on the last day of each month and a fresh or a new tenancy was created resulting in to short term capital gains. The Delhi High Court held that the tenancy rights were continuously held for 14 years and the consideration received was long term capital gains. 1.5 In Mrs Madhu Kaudh Vs. CIT ITR (P&H) it was held that for the purpose of calculating the period of holding one has to look and take in to account the date since the assesse got beneficial interest in the property. Similar view is also taken in CIT VS. K.Ramakrishnan ITR 59 (DELHI). 1.6 The ALLAHABAD High Court in CIT VS. Shrimati Rama Rani Kalia ITR 499 (ALLAHABAD) drew a distinction between holding of an asset and nature of title. It stated the conversion of lease hold rights in to freehold by way of improving the title over the property would not affect the taxability of the gain from such property. Thus even if there is change of user by the premises are held for more than 36 months the amount received on surrender of tenancy would be Long Term Capital Gains. 2. RELINQUISHMENT OF SUB-TENANCY RIGHTS- When there is relinquishment of sub tenancy rights the same are assessable as capital gains and not under the head income from other sources. In this connection reference is made to the case of CIT D. P. Sandu Bros ITR 1(SC). In this case lease agreements was for 50 years there was surrender of tenancy rights to the lessor and consideration was received the SC held that income derived from a source falling under a specific head has to be computed under the appropriate sec. A tenancy right is a capital asset and its surrender would attract sec 45 and the gains derived would be assessable only under the head capital gains. It was further observed that if the income cannot be taxed u/s 45, it cannot be taxed at all. 3. PROPERTY ON INHERTENCE- INDEXED COST OF ACQUISITION OF PREVIOUS OWNER TO BE TAKEN :

3 3.1 Indexed cost of acquisition is defined Explanation to sec 48 as an amount which bears to the cost of acquisition the same proportion as the cost inflation index for the year in which the asset is transferred bears to the cost inflation index for the first year in which the asset was held by the assesse or for the year beginning on the first day of April 1981 whichever is later. 3.2 Sec 49 deals with cost with reference to certain modes of acquisitions one such mode is succession, inheritance, devolution in which case the cost of acquisition of the asset shall be deemed to be the cost for which the previous owner of the property acquired it, as increased by cost of any improvement. Therefore when an asset is acquired by way of inheritance the cost of acquisition of the asset should be calculated on basis of cost of acquisition in the hands of previous owner which has to be calculated on the basis of index cost of acquisition. 3.3 In CIT vs. Manjula J. Shah ITR 474 (BOM) it was held that asset acquired through succession, index cost of acquisition had to be computed with reference to the year in which the previous owner first held the asset. And not the year in which the assesse actually becomes the owner of the asset through succession. 4. VALUATION SEC 50 C- DISTRESS SALE : The assesse objected to the value by Stamp Valuation Authority. The assessing officer instead of referring to the valuation officer estimated the capital gains in Appadurai Vijayaraghavan VS. JCIT ITR 486 (MAD) It was held that once an assesse makes a specific request then the assessing officer should refer the matter to valuation officer in terms of sec 50C(2). The court further held that as the assesse was in various financial difficulties and there was distress sale those factors should also be considered. That the AO had estimated Capital Gains Tax which was not correct. The court also held that when a claim is made it amounts to assertion and the AO was bound to refer the matter to the valuation cell. 5. INVESTMENT OF CAPITAL GAINS IN RESIDENTIAL HOUSE SEC 54F:

4 It is settled law that a house consisting of several units would constitute a residential house this view was reiterated by Delhi High Court in CIT VS. Geeta Duggal: ITR 153 (DELHI). Recently the SC has dismissed the departments SLP holding that a house consisting of several units would constitute a residential house for the purpose of exemption u/s 54 See ITR (St.) AGREEMENT SUPERSEEDED BY ANOTHER AGREEMENT- REAL INCOME THEORY : 6.1 In CIT vs. Shooriji Vallabhdas and company ITR 144 The SC observed at pg 148 as under : INCOME TAX is a levy on INCOME. No doubt the INCOME TAX takes in to account two points 0f time at which the liability to tax is attracted, viz. the accrual if the income or its receipt but the substance of the matter is the income. If income does not result at all there cannot be a tax, even though in book keeping an entry is made about a hypothetical income which does not materialize where income has, in fact, being received and is subsequently given up in such circumstances that it remains the income of the recipient even though given up, the tax may be payable where, however, the income can be said not to have resulted at all, there is obviously neither accrual nor recipe of income, even though an entry to that effect might, in the circumstances have been made in the books of account. 6.2 In CIT vs. Chemosys Ltd ITR 427(BOM), the assesse was the owner of two plots of land he entered in to development agreement with developer. Under the development agreement the developer was to develop the second plot for a consideration of RS crores and construction of 18thoushand sq.ft of built up area free of cost Thereafter a tripartite agreement was entered inn to between the developer and new buyers for bought plot of land for a total

5 consideration of crores. The assesse for A.Y offered crores and the balance of 13 crores in A.Y being the difference between crores and crores The assesse pointed out that the consideration in the form of constructed area of 18 thousand sq.ft. Was neither received nor has accrued and therefore there is no occasion to bring it tax. The AO held that capital gains would be payable on the market value of 18 thousand sq.ft It was held that there was no dispute as to transfer of property but the issue was relating to quantum of sale consideration for the purpose of computing capital gains. In this case the concept of Real Income Theory was invoked and it was held that no income arouse on account of 18 thousand sq.ft. On constructed area since the income had neither accrued nor received which could be brought to tax It was further observed that the first development agreement was not acted upon and it was superseded/ modified by tripartite agreement. This was the position when the return was filed. Therefore on application of real income theory it was held that no income was accrued or received by the assesse 6.3 In Kalpataru Constructions vs. DCIT SOT 194 It was held that where consideration to be received originally was 1.25 crores but finally settled at rupees 1 crore then such subsequent settling of consideration at RS 1 crores though arrived at subsequent year would Relate back to an earlier assessment year. Thus the theory of doctrine of relation back was applied. 6.4 In CIT vs. Shivsagar estates ITR 1(BOM) the theory of real income was applied to the facts of the case and income which had not accrued could not be brought to tax.

6 7. DIFFRENCE BETWEEN SHORT TERM AND LONG TERM CAPITAL GAINS- IN THE LIGHT OF REASSESSMENT UNDER SEC 147 AND 148 : 7.1 Issue for consideration is that land is held on lease for more than 3 years. There is conversion from lease hold in to free hold and transferred thereafter. There question is whether the gains assessable are long term or short term capital gains. The difference between short term and long term capital asset is the period over which the property has been held by the assesse it has nothing to do with the nature of the title over the property. Conversion of the rights of the lessee from leasehold to freehold is only an improvement of the rights over the property and this would not have any effect on the taxability of capital gains from such property. 7.2 In Amarnath Agrawal vs. CIT ITR 183 Allahabad the petitioner already had rights as owner of the property subject to covenant of the lease the property was taken on lease by petitioners father in 1958 the conversion of the rights from lease hold to freehold was done as per the rules issued by the state government by introducing the policy for conversion of leasehold land in to free land. The conversion was only an improvement of the rights over the property which the petioner enjoyed and this would not have any effect on the taxability of capital gains from such property. Since the property was held by the petioner for more than 3 years the taxability would be as long term capital gains 7.3 Case of CIT vs. V.V. MODI ITR 1 (Karnataka) is on the footing that the assesse was allotted a site by the Bangalore Development Authority. The assesse had no transferable right. Subsequently a sale agreement was executed pursuant to which the assesse became the owner and landlord. There after within a period of 3 years the land was sold. The Karnataka High Court held that the assesse sold the land within 3 years from the date of becoming the owner.

7 7.4 In CIT vs. Doc D.A. Irani ITR 850( BOM) The petioner sold the property within 3 years and thus there was short term capital gains liability. 7.5 In this connection in Amar Agarwal s case (supra) the issue arose of liability to capital gains in reassessment notice u/s 147,148 after a period of 4 years. It was laid down by the Allahabad high court that two conditions must be satisfied before the AO can issue notice u/s 148 of the IT ACT after 4 years namely he must have reason to believe that the income has escaped assessment and he must have reason to believe that such escarpment was by reason of omission or failure by part of assesse fully and truly all material facts necessary for his assessment. If either of these conditions is not fulfilled the notice is without jurisdiction. Sec 149 provides time limit for issuance of notice u/s 148 with a further condition that income chargeable to tax has escaped assessment amounts to or is likely to amount rupees 1 lakh or more for that year. Approval and satisfaction is to be recorded by the competent authority u/s 151.In this connection reference is also invited to Jagdishbhai Govindlal Patel vs. ITO ITR 419(GUJ). 8. Income from House property or Business Income : 8.1. Assesses main business is of construction and selling properties and letting it out. The rental income it receives is income from business or house property. This is a very tricky issue. A company has its main object of owning or sub letting the properties and the only income that it derives is rental income. It must be borne in mind that when the main object is letting out property and deriving income there from the income is income from business/income from house property/ income from other sources There are some cases where Service Charges are received against services of electricity, air-condition, security and the same have to be considered as

8 Business income Dhanrajgir Buisness Pvt. Ltd. VS. ACIT ITA NO.6802/ MUM/2010-AY Now the issue stands settle by the case of SC Chennai Properties VS. CIT Civil Appeal 4494 of 2004 Judgment dated 9 th April 2015 in which SC held that the main objectives is to acquire properties and to let out those properties then the rental income received there from is business income. The SC referred to the judgment the sultan brothers which is a constitutional bench judgment. It was categorically laid down that if letting the properties is the business of the assessee then the income derived is income from business In this connection attention is also invited to the decision Karanpura Development CO Ltd VS. CIT ITR 362( SC). Where at page 377 it was held that a company formed with the specific object of acquiring properties not with the view of leasing them but to sell them or turn them to account even by way of leasing them out as an integral part of business, cannot be said to treat them as land owner but as trader. It was further laid down that in deciding whether a company dealt with its properties as owner one must see not to the form which it gave to the transaction but to the substance of the matter. The court further held that where a company acquires properties which it sells or leases out with a view to acquiring other properties to be dealt with in the same manner the company is not treating them as properties to be enjoyed in the shape or rents which they yield but as a kind of circulating capital leading to profits of business which profits may be either enjoyed or put back in to the business to acquire more properties for further profitable exploitation In S.G Mercantile Corp VS. CIT ITR 700(SC) it was laid down that ownership of property and leasing it out may be done part of business or it may be done as land owner. Whether it is one or other must necessarily depend upon the object with which the act is done. But a company formed with the specific object for acquiring properties not with the view of leasing them as property but to sell them or turning them to account even by way of leasing then the income is to be treated as business income.

9 TIME OF TRANSFER: 1. Booking rights: 1.1 Issue for consideration is whether provisional booking of property amongst to acquisition of a new capital asset. In Gulshan Malik VS. CIT ITR OL 275 (DELHI). The facts were that the assesse booked a flat and was a recipient of a provisional allotment letter. Subsequently the transaction was converted in to a written agreement to sell. It was held that even booking rights or rights to purchase apartment or to obtain its letter was a capital asset. 1.2 The court held that acquisition can be way of agreement, arrangement or any other manner which establishes that it is not conveyance of the property or the doctrine of part performance, which results in enforceable rights, for the purpose of Income Tax. The scheme of the act could sit beyond doubt that even rights or interest in a property is kinds of properties that are transferable capital asset. Thus, booking rights or rights to purchase apartment is a capital right that can be transferable. 1.3 In CIT vs. RL Sood ITR 727 (DELHI). Wherein the investment is a flat irrespective of delivery of possession by the builder has been held to be an investment in purchase of construction of a new flat. 1.4 In Saleem Fazelbhoy VS. DCIT ITR 169(AT)(MUM). It was held that investment incurred towards improvement of new house purchase to make it habitable would go towards amount invested for purchase of new asset. 1.5 Thus booking rights or rights to purchase an apartment or even a letter giving rights in a capital asset and is transferable irrespective of delivery of possession of the flat. 2. Allotment Letter :

10 2.1 Allotment Letter is issued and payment of first installment is made. Allottee obtains a right to hold the property and the period of holding is to be reckoned from the date of allotment. Identification of a particular flat and delivery of possession are consequential acts. Sale of flat 3 years after date of allotment letter and payment of first installment amongst to long term capital gains. 2.2 The mere fact that possession is delivered later does not detract from the fact that the allottee was conferred a right to hold the property on the issuance of an allotment letter. The payment of balance installments, identification of a particular flat and delivery of possession are consequential acts that relate back to and arise from the rights conferred by the allotment letter. 2.3 In Vinod Kumar Jain Vs. CIT ITR 501(P&H).The issue arose whether capital gains arising from allotment of a flat the possession of which was delivered later whether the period of long term capital gains is to be considered from the date of allotment, possession or conveyance. After considering sec 2(29A), 2(42A) read with sec 54 it was held that allotment letter confers rights and the period is to be taken in to consideration from the date of allotment letter. 2.4 Attention is invited to Circular no471, dated OCT 15, 1986 reported in ITR (St.) 41. It was laid down that allottee gets title to the property on issuance of allotment letter and the payment of installments in only follow-up action and taking the delivery of possession is only formality. If there is failure on the part of the Delhi Development Authority to deliver the possession of the flat after completing the construction, the remedy for the allottee is to file a suit for recovery of possession. 3. Attachment of Property: 3.1 In Lachmandas and sons vs. DCIT ITR 315(Kerala) the issue arose regarding time of transfer where there was attachment of the

11 property with the bank. In this case an MOU for acquisition of property which was under attachment by a bank was entered in to Property was sold in The payment was made in 2004 and the property was sold in The AO held that there was no right to purchase acquired by virtue of MOU of 2001, unless the terms and conditions of the MOU were completely fulfilled. It was held that as per the MOU the property would not be transferred either in the name of the assesse or its nominee till the entire amount agreed upon in terms of MOU was paid. Thus the right accrued only on complete payment of the amount that is in 2005 and hence the gains were short term capital gains. 3.2 Reference may be made to the decisions in J.K. Kashyap VS. ACIT ITR 255(DELHI) and to CIT VS. Vijay Flexible Containers ITR 693(BOM) for the proposition that if a assesse is a party to the document then it is necessary to be considered from the date on which the document is entered in to and it could be long term capital gains. 4. Part Consideration Paid: 4.1 In CIT VS. Cochin Stock Exchange ITR 382(Kerala) issue arose of time of transfer of immovable property in an agreement of sale of land to developer. Part consideration was paid and buyer put in possession of land. Buyer also given power of attorney to sell portions of land, It was held if a transaction involves allowing possession to be retained in part performance of a contract as in sec 53A of the T.P. ACT it would amount to transfer. 4.2 The execution of the sale deed was deferred. The builder had stepped in to the shoes of the purchaser and the registered instruments were created subsequently and the idea of keeping alive the agreement and execution of power of attorney in favor of the builder was only for the purpose of avoiding duplication of registered instruments and payment of stamp duty.

12 5. PROPSITIONS : 5.1 In Jitendra Mohan VS. ITO SOT 594(DEL) it has been held that it is the date of allotment which is relevant for the purpose of computing a holding period and not the date of registration of the conveyance deed. 5.2 Sec 47 of Registration ACT lays down that registration of a document operates retrospectively. 5.3 In Gurbax Singh VS. Qartar Singh ITR 112(SC). It was held that registration of a document would relate back to the date of its execution also M. Syamala Rao VS. CIT ITR 140(AP). RELATED ISSUES: 1. When does income accrue 1.1 Sometimes there is supply of electrical equipment to customers. In some cases a certain percentage is paid only upon certification of quality confirming to specifications. In such cases the question arises when does income accrue 1.2 In many construction contracts certain payments are made at a later stage when the product is duly certified. Part amount of consideration is paid but a small percentage say 10% is retained to be paid on satisfaction of quality and specification. That eventuality admitted does not take place within the relevant assessment year. Though an assesse may claim a particular amount as of right, it could not be treated as his income, unless the corresponding obligation was either accepted or fastened upon. Therefore the income arises only on approval and certification. 1.3 In Seth Pushalal Mansinghka vs.pltd vs. CIT ITR 159 SC it was explained that the words Accrued and arise and Actual receipt has different implications. It is pointed out that an assessee can be said to have received the income only when the corresponding right has

13 accrued to him. However recently CIT vs. Excel industries LTD ITR 295(SC) The SC added a further dimension and held that income accrue not only when it is due, but also it is accompanied by a corresponding obligation on the part of the other party to pay the sum. 1.4 In Civil construction contracts sums are retained for payment after expiry of defect-free period. The right to receive the amount is contingent upon there being no defects in such circumstances it was held in CIT vs. Shanker Constructions ITR 320 (T& AP) That accrual of income would be on receipt basis after the defect free period expires, notwithstanding the fact that assesse follows mercantile system of accounting. In this case 2.5% was retained to be paid after the expiry of the defect/free period the court held that the right to receive the amount was contingent upon there not being any defect in the work, during the stipulated period thus the amount could be set to have accrued only after the expiry of the defect free period. 2 CARRY FORWARD OF LOSS: 2.1 Return is filed in time showing positive income in assessment AO determined loss. The loss can be carried forward and set off U/S In CIT vs. Shrinivsa Builders ITR 69 (KARN) The assessing officer issued notice u/s 154 of the IT ACT to rectify the order and to withdraw the benefit of carry forward of business loss. It was held that the business loss was determined by the AO. This being the factual position the Assesse was entitled to the benefit of carry forward of business loss. Whether the loss determined by the AO was liable to carry forward or not was a debatable issue and rectification was not valid.

14 2.3 Advance sale of room rights: In CIT vs Pandcard clubs Ltd ITR 45(BOM) the assesse was engaged in running of hotels, resorts and clubs it offered holiday schemes for card members who were entitled to utilize room nights in assesse s hotels and resorts they were entitled to surrender the unutilized room nights and received back proportionate deposit and also premium. The assesse showed advance amount of sale of nights as a liability and income accrued only on actual utilization of room nights. Provision for utilization of room nights on pro-rata as well as expenses and commission were provided. It was held by the Bombay High Court that the method of accounting was correctly followed by the assesse customers were entitled to surrender the room nights and therefore the same was correctly shown as a liability. When a customer opted for surrender value, he is paid in cash or may opt to buy or utilize other products and services. Thus the conclusion that the assesse incurred liability and no income accrued to the assesse on receipt of advance was correct. In Taparia Tools Ltd vs. JCIT ITR 102 BOM it was held that a capital receipt does not become revenue receipt just because some expenditure is incurred on the same. In Siddheshwar Sahakari Karkhana vs. CIT ITR 1(SC) It was held that the concept of deposit denotes that the amount received has to be refunded coupled with the right to demand the refund which is contingent in nature and in these circumstances there is an obligation on the part of the assesse to refund the advance and thus it cannot be treated as a trading receipt. 1. SPREAD OVER OF CONSTRUCTION COST WITH REFERENCE TO SEC Assesse purchased house property, demolished it and constructed a new house. The issue arose on cost of construction the assessing officer

15 referred the matter to Department Valuation Officer u/s 142 A who fixed the cost of construction at very high figure. The difference was taxed as unexplained investment u/s 69 B. The CIT (A) reduced the addition to a lesser figure and spread the addition over various assessment years 1.2 Spreading over the cost of construction over 2 or 3 years is perfectly valid and justified. More particularly if the assesse has accepted the claim that the construction cost to be spread over then the order of spreading over is a finding or a direction and the same should be considered. 2. CONVERSION OF FIRM TO COMPANY : 2.1 The firm was converted in to Pltd and the entire assets and liability were taken over by the company. The partners were issued shares by the company corresponding to the value of their shares in the firm.ao was of the view that transfer of assets from the firm to company attracted capital gains u/s 45 of the IT ACT. 2.2 In CIT vs. United Fish Nets ITR 67 (T&PA) it was held that u/s 45(4) distribution must result in some tangible act of physical transfer of properties or tangible act of conferring exclusive rights vis-à-vis an item of property, if not it cannot be inferred that there was any distribution of assets The shares of the shareholders were defined as per the partnership deed the change being transformation of share in the partner to proportionate shares of the company reflected in the form of share certificates, but beyond this there was no physical distribution of the assets or allocation or even distribution of monetary value, hence the provisions of sec 45 are not attracted at all. 6. Recent decision of Mumbai Tribunal

16 The Mumbai Tribunal has recently held that benefit under section 54F cannot be denied if the delay in the requisite period of delivery and completion of flat is attributable to builder s neglect and fault if timely possession of a house is not given in which capital gains proceeds are reinvested such delay cannot deny the benefits to such an assesse. The section requires that the proceeds from the original asset must be reinvested in another residential property within the prescribed period. On a number of occasions, the house is not available for possession within the stipulated time. The projects are delayed for various reasons by the builder and this results in the assesse losing the tax benefit. The Mumbai Tribunal came to the conclusion that the assesse cannot be denied tax relief if the delay is by the builder on delivering the flat. If reinvestment in flat is made within the stipulated time and amounts are paid the assesse cannot be denied the benefits of the sections. The tribunal observed that the assesse has no control over the possession as to when it would be given by the builder. The Tribunal made it clear that the intention of the tax payer was to take benefit then the same cannot be denied due to neglect on the part of the builder to handover the possession of the flat within the stipulated time. The Tribunal stated that The intention of the tax payer is very clear he has invested almost the entire sale consideration of land towards purchase of the residential flat it is almost impossible for the tax payer to complete other formalities, such as taking over possession for getting the flat registered in his name. This cannot be the reason for denying the tax payer s for claim for tax benefit.