LTCG exemption under Section 54 allowed despite construction starting before sale and using borrowed funds

The ITAT Delhi ruled in favor of the assessee regarding LTCG exemption under Section 54. The AO had disallowed the deduction because construction of the new house began before selling the old properties and was funded through borrowed amounts rather than actual sale proceeds. The tribunal held that Section 54 does not require construction to commence only after the sale of the original asset, nor does it mandate using actual sale proceeds for construction. Following precedents from Madras HC, Punjab & Haryana HC, and Allahabad HC, the tribunal directed the AO to allow the Section 54 deduction as claimed.

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Issues Involved:
1. Disallowance of deduction u/s 54 of the Income Tax Act.
2. Charging of interest u/s 234A, 234B, and 234C of the Income Tax Act.

Summary:

Issue 1: Disallowance of Deduction u/s 54
The assessee sold two properties in Mumbai and claimed a deduction u/s 54 of the Income Tax Act amounting to Rs. 1,31,47,100/-. The Assessing Officer (AO) restricted this deduction to Rs. 1,08,23,892/- on the grounds that Rs. 23,23,208/- was paid to the builder after the sale of the properties, and that the construction cost was met from a loan obtained from Axis Bank, not from the sale proceeds. The CIT(Appeals) not only confirmed the AO's disallowance but also enhanced the disallowance by Rs. 23,23,208/-, resulting in a total disallowance of Rs. 1,31,47,100/-.

The ITAT considered the assessee's argument that there is no statutory requirement for the sale proceeds to be used directly for the new asset's cost. The Tribunal referenced multiple judicial pronouncements, including CIT vs. Kapil Kumar Agarwal (Punjab & Haryana High Court), ITO vs. K.C. Gopalan (Kerala High Court), and CIT vs. J.R. Subramanya Bhat (Karnataka High Court), which supported the assessee's claim that the source of funds (whether borrowed or from sale proceeds) does not affect the eligibility for deduction u/s 54.

The Tribunal also addressed the timing of the construction and possession of the new property, referencing the decision in C. Aryama Sundaram vs. CIT (Madras High Court), which clarified that the construction of a new house could commence prior to the sale of the old house, provided the new house is completed within the stipulated time.

Issue 2: Charging of Interest u/s 234A, 234B, and 234C
The assessee contended that the CIT(A) erred in not reversing the AO's decision to charge interest u/s 234A, 234B, and 234C of the Income Tax Act. However, the Tribunal's primary focus remained on the disallowance of the deduction u/s 54, and no separate detailed discussion on this issue was provided in the judgment.

Conclusion:
The ITAT reversed the findings of the CIT(A) and directed the AO to allow the deduction u/s 54 of the Act as claimed by the assessee. The appeal of the assessee was allowed. The judgment was pronounced in the open court on 21/03/2024.

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