Selling Under-construction Property
In case of sale of capital assets, other than shares, units of mutual funds and listed securities, the holding period in order to qualify for long-term capital asset is 36 months (above three shall be long term capital asset if the holding period exceeds 12 months). Long-term capital gains are taxed at the rate of 20% by indexing the cost of acquisition and cost of improvements as opposed to taxation of short-term capital gains at normal slab rates (30% in case of taxpayers in the highest income bracket).
Long term capital gains are also eligible for lots of tax exemptions schemes mentioned under sections 54 to 54GB of Income-Tax Act such as exemption in case of reinvestment of capital gains in a residential house property or in specified capital gains bonds of the National Highway Authority of India or Rural Electrification Corp. Ltd. Unfortunately no such exemptions are available for short term capital gains.
Asset in an under-construction property (say flat):
For a flat that is under-construction, two questions are widely asked, when does the holding period begin and how is it computed? For this purpose, it is utmost important to know that there is a difference between a flat which is still under-construction and the possession has not been given to you by the builder, and a flat which is ready and the possession has already been taken by you. Though both are capital assets, in the first case the asset is not the flat (as it is not yet complete and, therefore, not in existence) but the right to acquire a flat, while in the second case the asset is the flat itself. You, therefore, need to determine what is it that you are selling—the right to acquire the flat or the flat itself—to be able to determine the date of acquisition and period of holding.
When the asset is your right
Generally, in cases of sale of flats under-construction, a tripartite agreement is entered into between the seller (who had originally booked the flat), the purchaser and the builder. Under this agreement, the seller assigns his rights to the under-construction flat to the purchaser with the consent of the builder, the purchaser agrees to pay the balance of the original purchase price payable to the builder and the builder agrees to give possession of the ready flat to the purchaser directly. The agreement assigns the right to acquire a particular flat. To find out the date of acquisition of such right, one has to determine when exactly this right came into existence.
Normally, when one books a flat to be constructed, one pays a token amount as booking charges, a letter of allotment is issued when the layout is finalized and, thereafter, an agreement to purchase is executed and registered. If you have merely booked a flat in the building to be constructed with no particular flat having been allotted to you, you cannot be said to have acquired the right to purchase a specific flat. It is only when the letter of allotment is issued that such a right can be said to have come into existence.
The purchase agreement codifies the rights between the parties, which have already come into existence after the issue of the letter of allotment. However, a safer view is that the date of signing of the agreement to purchase is the date of acquisition of such right. Subsequent registration of the purchase agreement merely grants better legal protection to such right and, therefore, it is the date of agreement and not the date of registration that would be the date of acquisition of such right. The dates of payments made for such a purchase are irrelevant for this purpose.
When the asset is your house
When you take possession of the flat which you have agreed to purchase, the right to purchase the flat gets converted into the flat itself. Therefore, if you are selling the flat after taking possession of the flat, the period of three years starts from the date of taking possession of the flat.
If you are, therefore, intending to sell the flat soon after taking possession, it is better to carry out the sale while the flat is still under-construction and possession is not yet taken by you. This will substantially reduce your tax liability in respect of the capital gains, provided of course those three years have elapsed since you entered into the agreement for purchase of the flat.
Simple Example for better understanding
Query: Sanyam booked an under-construction flat in March 2008 and made the partial payment initially to builder followed by installments as per agreement as it was under-construction flat. Total amount paid to builder was Rs.23,50,000. Sanyam then sold the flat in October 2011 for Rs.26,00,000, it was still under-construction and possession was NOT received. Net profit is Rs.2,50,000. Now the question arises that Sanyam sold it after more than 3 years from date of booking, will it be a long term capital gain and from where the period of holding shall be reckoned?
1. Since Sanyam had not taken the possession so it falls under the capital assets of right not flat, so the period of holding shall be reckoned from March 2008. The total period of holding comes to 43 months i.e. more than 3 years, thus the capital asset is long term and the gain shall be long term capital gains which is to be taxed at the rate of 20% .
2. Had the Sanyam taken possession before selling off the flat, the same shall be considered as short term capital provided the period of holding comes to less than 3 months which is to be reckoned from the date of possession to the date of sale.