Is exemption under section 54F available when the assessee owns residential apartments which are let out for commercial purpose

Introduction

Capital gains tax is a levy assessed on the positive difference between the sale price of the asset and its original purchase price. The income tax law provides for certain situations where such capital gains will not be subject to tax. Section 54F provides one such exemption.

Provisions of Section 54F are as follows:-

In the case of an assessee being an individual or a HUF, the capital gain arises from the transfer of any long-term capital asset, not being a residential house (original asset), and the assessee has, within a period of 1 year before or 2 years after the date on which the transfer took place purchased, or has within a period of 3 years after that date constructed, one residential house in India (new asset), the capital gain shall be dealt with in accordance with the following provisions of this section, that is to say,—

1. if the cost of the new asset is not less than the net consideration in respect of the original asset, the whole of such capital gain shall not be charged under section 45
2. if the cost of the new asset is less than the net consideration in respect of the original asset, so much of the capital gain as bears to the whole of the capital gain the same proportion as the cost of the new asset bears to the net consideration, shall not be charged under section 45:

Provided that nothing contained in this subsection shall apply where

1. The Assessee
• owns more than one residential house, other than the new asset, on the date of transfer of the original asset; or
• purchases any residential house, other than the new asset, within a period of 1 year after the date of transfer of the original asset; or
• constructs any residential house, other than the new asset, within a period of 3 years after the date of transfer of the original asset; and
2. The income from such residential house, other than the one residential house owned on the date of transfer of the original asset, is chargeable under the head “Income from house property”.

Whether holding a property used for the commercial purpose, falls within the meaning of residential house as per the proviso (a)(i) to Section 54F(1) of the Act?

Let us understand this with the help of case of Navin Jolly and The Income Tax Officer, Karnataka High Court

Reasons for Appeal:-

Appeal was sought to determine:-

1. Whether exemption under Section 54F will be available in this case?
2. Whether holding a property used for the commercial purpose, falls within the meaning of residential house as per the proviso (a)(i) to Section 54F(1) of the Act on the facts and circumstances of the case?

Facts of the Case:-

1. Assessee is an individual who had sold his shares in the company viz., M/s Corporate Leisure Resorts and Hotels Pvt. Ltd and derived long term capital gain.
2. The assessee/appellant further declared that he had constructed a residential property during the year. The appellant claimed exemption under Section 54F for the same.
3. Assessee owns 9 residential flats in his name. Out of 9 flats, seven flats have been sanctioned for commercial purposes and only two flats have been sanctioned as residential units which are being used for commercial purposes.

Order of Assessing Officer (AO)

1. The AO held that the assessee owns 9 residential flats in his name and that he is deriving the income from the residential flats and declared the same under the head income from house property during Assessment year 2006-07 and is therefore, not eligible to claim exemption by invoking proviso to Section 54F.
2. The AO further recorded a finding that properties owned by the appellant are residential apartments. Accordingly, exemption under Section 54F of the Act was denied.

Appeal to Commissioner of Income Tax (Appeals) [CIT(A)]

1. It was held that on the date of transfer of original asset the assessee was in possession of atleast two residential houses and therefore, the appellant is not entitled to the benefit of exemption under Section 54F of the Act.
2. It was also held that in respect of six out of seven properties, from the records it is evident that they have been let out by the assessee to different companies and rental income is being shown regularly in the returns as income from house property and even if the nature of plan sanction is commercial, the appellant cannot be allowed to take a different stand and to contend that the properties are not residential houses.
3. The word ‘residential house’ includes not only self-occupied properties but also let out properties.
4. It was held that the assessee is not entitled to benefit of deduction under Section 54F of the Act. Accordingly, the appeal was dismissed, and the assessee filed an appeal to the ITAT.

Appeal to Income Tax Appellate Tribunal [ITAT]

1. The Tribunal held that assessee should not have more than one residential unit on the date of transfer of the original asset.
2. It was further held that it is immaterial as to how the assessee utilized the residential units and whether these residential units are used for commercial purposes or residential purposes, so long as these units were recognized as residential units.
3. Therefore, it was held that the assessee cannot claim the benefit of exemption under Section 54F of the Act. The appeal preferred by the assessee was therefore, dismissed. Aggrieved by the order of ITAT, assessee filed an appeal to the High Court.

Appeal to High Court [HC]

1. From close scrutiny of Section 54F(1) of the Act, it is evident that in order to attract Section 54F(1) of the Act, the conditions stipulated in clauses (a) and (b) of proviso to Section 54F(1) have to be complied with as the legislature has used the expression ‘and’ at the end of clause (a) of proviso to Section 54F(1) of the Act.
2. It is pertinent to note that under Section 22, any income from any buildings irrespective of which the use which has to be treated under the head ‘income from house property’.
3. Revenue has submitted that out of nine apartments, seven flats have been sanctioned for commercial purposes. Therefore, the dispute only survives in respect of two apartments, which have been sanctioned for residential purposes and are being used for commercial purposes as serviced apartments.
4. The usage of the property has to be considered for determining whether the property in question is a residential property or a commercial property.
5. It is not in dispute that the aforesaid two apartments are being put to commercial use and therefore, the aforesaid apartments cannot be treated as residential apartments.
6. Alternatively, it was held that assessee even otherwise is entitled to the benefit of exemption under Section 54F(1) of the Act as the assessee owns two apartments of 500 square feet in same building and therefore, it has to be treated as one residential unit.
7. The aforesaid fact cannot be permitted to act as impediment to allowance of exemption under Section 54F(1) of the Act.
8. Similar view was taken by Delhi High Court in case of Geeta Duggal wherein the issue whether a residential house which consists of several independent residential units would be entitled to exemption under Section 54F(1) of the Act was dealt with and the same was answered in the affirmative. The appeal against the aforesaid decision was dismissed by the Supreme Court by an order reported in (2014) 52 246 (SC).

In accordance of the above mentioned reasons, High Court quashed the order of the Tribunal and allowed the assessee exemptionof Section 54F.