Capital gains computation excludes sale proceeds compulsorily applied to clear mortgage encumbrance before transfer is completed.

Where sale proceeds are compulsorily applied to discharge an encumbrance that must be cleared to complete the transfer, the amount so appropriated is not part of the transferor's real consideration for capital gains purposes. On the facts noted, the property was mortgaged for a sister concern's borrowing, the bank released the property only on receipt of the sale proceeds, and the amount was applied towards repayment and related dues. The amount was therefore treated as excluded from sale consideration and, in the alternative, as expenditure incurred wholly and exclusively in connection with the transfer under section 48(1) of the Income-tax Act, 1961, with the issue decided in favour of the assessee.

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Issues: Whether the amount of Rs. 50 crores paid to the bank for release of the mortgaged property and removal of the encumbrance was to be excluded from the sale consideration while computing capital gains, either as diversion of income by overriding title or as expenditure incurred wholly and exclusively in connection with the transfer under section 48(1) of the Income-tax Act, 1961.

Analysis: The property had been offered as security for the sister concern's loan and the assessee had not obtained any benefit from creating the charge. The bank's release of the property was conditional upon receipt of Rs. 50 crores from the sale proceeds, and the amount was appropriated by the bank towards repayment and related dues. On these facts, the amount retained by the bank was not part of the real consideration received by the assessee and, in any event, the payment was necessary to clear the encumbrance and effect the transfer.

Conclusion: The amount of Rs. 50 crores was rightly excluded from the sale consideration, and the deduction was allowable under section 48(1) of the Income-tax Act, 1961. The issue is decided in favour of the assessee.

Ratio Decidendi: Where sale proceeds are compulsorily applied to discharge an encumbrance that must be removed to complete the transfer, the amount so appropriated is not assessable as the transferor's real consideration and is deductible in computing capital gains.

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