SECTION 54F – CAPITAL GAINS TAX EXEMPTION IF RENOVATION IS MADE IN THE EXISTING HOUSE

Capital Gain exemption

Section 54F of the Income Tax Act, 1961 (‘Act’ for short) provides exemption from long term capital gains arising from transfer of a long-term capital asset other than a residential house, where the assessee invests in one residential house in India. This exemption is available only to the individual and Hindu Undivided Family. The purchase of new house shall be occurred within one year before or 2 years after the transfer of the said property. The said exemption is available if a new house is constructed within 3 years after transfer. The condition to avail this exemption is that the assessee should not own more than one residential house other than the new asset on the date of transfer. The maximum investment considered under this Section is up to Rs.10 crore with effect from 01.04.2024.

Issue

The issue to be discussed in this article as to whether the exemption is available to an individual or HUF if the sale consideration is expended towards the renovation of the existing building under Section 54F with reference to a decided case law.

Case law

In Mrs. Kaziyur Narayanan Godha Versus The Income Tax Officer, Ward – 2 [2] [2], Bengaluru - 2026 (7) TMI 35 - ITAT BANGALORE, the appellant in this case, as an assessee filed her income tax returns for the assessment year 2022 - 23 declaring her income from salary, income from house property and income from business. During this period, the appellant sold a vacant site for the consideration of Rs.55.6 lakhs on 12.04.2021. The said property has been purchased by the appellant on 18.06.2015 for Rs.24.32 lakhs. The appellant computed long term capital gain on sales of the said vacant land at Rs.25.24 lakhs and claimed exemption for this amount under Section 54F of the Act on the ground that the amount was reinvested in renovation of a residential property, which had been purchased earlier on 13.03.2020.

The Assessing Officer observed that the appellant had purchased the residential property on 13.03.2020, which was prior to the sale of the original asset and also beyond the period of one year before the date of transfer. The Assessing Officer also observed that the assessee had only incurred expenditure towards renovation of the property, which does not qualify as purchase or construction of a new residential house for the purpose of section 54F of the Act. Therefore, the Assessing Officer held that the appellant was not eligible for deduction under section 54F of the Act.  The Assessing Officer disallowed the claim deduction of Rs. 25,24,251/- by adding the same to the income of the appellant as long-term capital gain.

Being aggrieved against the order of the Assessing Officer, the appellant filed an appeal before the Commissioner of Income Tax (Appeals). The appellant submitted the following before the Commissioner of Income Tax (Appeals)-

• She sold a vacant site situated at Kithaganuru Village on 12.04.2021 for Rs.55,60,000, which was originally purchased on 18.06.2015.
• The long-term capital gain was reinvested in construction and improvement of his residential property.
• She had earlier purchased a residential property at Malleswaram which was more than 50 years old and in damaged condition.
• She carried out necessary construction works such as construction of an additional room and pooja room, digging of a borewell, construction of underground sump, compound wall with gate and other renovation works to make the said damaged house habitable.
• The entire sale proceeds were utilized for construction and improvement of the residential property and therefore the benefit under section 54F of the Act was rightly claimed.
• The Assessing Officer ignored the engineer’s certificate and supporting documents and wrongly treated the expenditure as mere renovation and disallowed the deduction.

The Commissioner of Income Tax (Appeals) held that section 54F of the Act allows deduction only when the capital gain is invested in purchase or construction of a new residential house. In this case, the appellant had not purchased or constructed any new residential house during the relevant year, and the amount was only utilised for renovation of the existing residential property. The Commissioner of Income Tax (Appeals) further observed that the appellant had already claimed deduction under section 54F of the Act in AY 2021-22 in respect of the residential property purchased on 13.03.2020. The appellant again claimed deduction for the expenditure incurred on the renovation of the same property. Therefore, the appellant was not eligible to claim deduction of Rs. 25,24,251 under section 54F of the Act. The Commissioner of Income Tax (Appeals) confirmed the addition of Rs. 25,24,251 made by the Assessing Officer and decided the appeal against the assessee.

The appellant also aggrieved against the order of Commissioner of Income tax (Appeals). She filed the present appeal before the ITAT. The appellant submitted the following before the ITAT-

• She filed copies of the sale deed, purchase deed, return of income, notices issued by the Assessing Officer, replies filed by the assessee and other relevant documents.
• The Commissioner of Income Tax (Appeals) erred in upholding the disallowance of deduction claimed under section 54F of the Act amounting to Rs. 25,24,251 out of the capital gains reported by the assessee for the year under consideration.
• The appellant had incurred the said expenditure towards additional construction and renovation of the existing residential house in order to make the property more habitable.
• The authorities below wrongly rejected the claim merely on the ground that there was no purchase or construction of a new residential house.
• The expenditure incurred was for extension and improvement of the residential property and therefore deduction claimed under section 54F of the Act ought to have been allowed.

The Revenue submitted the following before the ITAT-

• The appellant had not purchased or constructed any new residential house during the relevant year and the amount was only utilized for renovation of the existing property.
• The deduction under section 54F of the Act is allowable only when the capital gain is invested in purchase or construction of a new residential house.
• Since, the appellant had already claimed deduction under section 54F of the Act in the earlier year on the residential property purchased on 13.03.2020 and the expenditure in the year under consideration was only towards renovation, the appellant was not eligible for deduction.

The ITAT heard the submissions of both the parties and perused the documents available on record. The ITAT observed that the appellant had undertaken various works in the residential property including construction of additional room, pooja room, compound wall, underground sump, borewell and other related works. The appellant has also placed on record the certificate issued by the registered engineer certifying the nature of work carried out along with details of expenditure incurred. The Assessing Officer and the Commissioner of Income Tax (Appeals) rejected the claim of the appellant on the ground that the expenditure incurred by the assessee was in the nature of renovation of existing property and not construction of a new residential house.

The ITAT considered that section 54F of the Act being beneficial in nature are required to be construed liberally so as to advance the object of the provision. The ITAT considered that the works carried out by the appellant are not confined merely to painting or routine repairs but include structural additions such as construction of additional room and pooja room along with other connected civil works. The appellant has also furnished engineer’s certificate and supporting evidences demonstrating utilisation of the capital gain towards such construction activities. The Revenue has not brought any material on record to disprove the genuineness of the expenditure incurred by the assessee. The ITAT held that merely because the assessee had earlier claimed deduction u/s 54F of the Act in respect of purchase of the residential property, the benefit otherwise available under the Act cannot be denied when subsequent capital gain has been utilised towards further construction and structural improvement of the same residential property within the prescribed period. the expression “construction of a residential house” occurring in section 54F of the Act cannot be interpreted in a narrow or hyper technical manner so as to defeat the very object of the beneficial provision. The ITAT further held that the appellant has substantially complied with the conditions prescribed u/s 54F of the Act and therefore the appellant is entitled to deduction claimed thereunder.

The ITAT set aside the impugned order of Commissioner of Income Tax (Appeals) and directed the Assessing Officer to allow the deduction of Rs.25.24 lakhs.