Section 54 of Income Tax Act: Rules, Eligibility & Tax Exemption

Section 54 of the Income Tax Act helps taxpayers reduce capital gains tax when selling a residential property. By reinvesting the gains in another residential property within the specified time, individuals and Hindu Undivided Families (HUFs) can claim an exemption and lower their tax burden.

How Does Budget 2025 Affect Taxes?

Budget 2025 introduces significant tax changes. Individuals earning up to ₹12.75 lakh annually will no longer pay income tax. Here’s a breakdown of the new tax slab rates:

Income Range	Tax Rate
Up to ₹4 lakh	No tax
₹4 lakh to ₹8 lakh	5%
₹8 lakh to ₹12 lakh	10%
₹12 lakh to ₹16 lakh	15%
₹16 lakh to ₹20 lakh	20%
₹20 lakh to ₹24 lakh	25%
Over ₹24 lakh	30%

Also Read: What Investments Qualify for Deductions Under Section 80C?

How Does Section 54 Reduce Your Tax When You Buy a New Home?

Section 54 of the Income Tax Act can lower your taxes. If you sell your house and use that money to buy another, you might not owe taxes on the profit.

Here’s what you need to know:

• The money gained from selling your house is called capital gain.
• If you buy a new house within two years after selling, or build one within three years, you can get a tax break.
• This rule only applies to residential properties.

Suggested Read: Section 54B of the Income Tax Act

Different Types of Capital Assets Under Income Tax

Capital assets are important for tax calculations. They fall into two categories: short-term and long-term.

Short-term capital assets

These are items you own for no more than 36 months. When you sell these assets, the profit you make is called short-term capital gains.

Long-term capital assets

These are those you hold for over 36 months. Profits from selling these assets are long-term capital gains. Certain items like unlisted shares and land become long-term if held for more than 24 months.

Also Read: Which Tax Regime to Choose as a Homebuyer?

What are Capital Gains Exemptions Under Section 54?

Section 54 of the Income Tax Act allows you to save on taxes when you sell your residential property. If you reinvest the sale proceeds into another residential property, you can avoid paying capital gains tax. This rule is designed to promote investment in residential real estate and help maintain continuity of home ownership.

Check Out: LTCG Tax on Sale of Property Calculator

Who Can Benefit from the Section 54 Tax Exemption?

This exemption is available to individuals and Hindu Undivided Families (HUFs) in India. To qualify, the following conditions must be met:

• The property sold must be a long-term capital asset, specifically a residential house.
• The seller must buy a new residential property within one year before or two years after the sale, or construct one within three years.
• The new property must be located in India.

Check Out: Home Loan Tax Savings Calculator

Which Properties Qualify for Exemption Under Section 54?

Section 54 provides a tax exemption on capital gains from selling residential properties. However, not all properties qualify.

Eligible Properties

• The property must be a residential house used for living purposes.
• Apartments, independent houses, and other dwelling units qualify.
• The seller must own and use the property as a residence.

Ineligible Properties

• Vacant land does not qualify unless sold with a residential house.
• Commercial properties used for business are not eligible.

How to Qualify for a Tax Exemption When Selling Your Home?

Are you planning to sell your home and buy another? You might qualify for a tax break under Section 54. Here are the simple rules you need to follow:

Nature of the Asset:

• The property you sell must be a long-term asset.
• It should be a residential house listed under “Income from House Property.”

Timeline for Your Next Purchase or Construction:

• You must buy a new house within one year before or two years after selling your old one.
• If you choose to build, you have three years from the sale date to do so.

Where Your New Home Should Be:

• The new property must be in India. Homes outside India don’t qualify for this tax break.

Exemption Limit:

• As of April 1, 2023, you can only get tax exemptions up to ₹10 crore.

Important to Remember:

• You need to meet all these conditions to get the tax exemption. Missing even one can disqualify you.

Also Read: Smart Saving Strategies With Capital Tax Gains

How to Apply for Section 54 Tax Exemption?

You can claim a tax exemption under Section 54 if you reinvest capital gains from selling a house into another residential property. Follow these steps to apply:

1. Calculate Capital Gains

• Determine the profit made from selling your residential property.
• Only long-term capital gains qualify for this exemption.

2. Reinvest in a New Residential Property

• Buy a new house within one year before or two years after the sale.
• If constructing, complete it within three years of selling the old house.

3. Invest the Full Capital Gain Amount

• To get full exemption, reinvest the entire capital gain amount.
• If the new property costs less than the gain, invest the balance in a Capital Gains Account Scheme before the tax return deadline.

4. Submit Required Documents

• Provide property purchase details and supporting documents.
• If applicable, submit Form 10BA while filing your income tax return.

5. Consult a Tax Expert

• Seek advice to ensure compliance with tax laws and avoid errors.

Steps to Calculate Tax Exemption When Buying a New Home

Also Read: Home Loan Tax Benefits

Essential Documents for Claiming Section 54 Tax Exemption

To claim an exemption under Section 54, you must submit specific documents. These records verify your property transactions and investment in a new home.

Required Documents:

• Sale Deed of the old residential property.
• Purchase Deed of the new residential property.
• Completion Certificate if the new property is under construction.
• Bank Statements showing the transaction details of property purchases.
• Form 10BA if claiming benefits for a self-occupied house.

Provisions for Property Transfer Under Section 54: Implications for Home Sellers

Section 54 of the Income Tax Act offers a tax exemption when you reinvest capital gains from selling a house into another residential property. However, this exemption can be reversed if the new property is sold within three years. Here’s how it works with simplified examples:

Scenario 1: New Home Costs Less Than the Capital Gain

Example:

• Mr. B sells his house in May 2022, with a capital gain of ₹30,00,000.
• He buys a new home in June 2022 for ₹18,00,000.
• He sells this home in December 2023 for ₹35,00,000.

Tax Impact: If Mr. B sells the new home within three years, the exemption he claimed is reversed. Here’s the calculation:

Year	Particulars	Amount (₹)
2022	Capital gain on old house	30,00,000
	Less: Investment in new house	(18,00,000)
	Taxable capital gain	12,00,000
2023	Sale price of new house	35,00,000
	Less: Cost of acquisition (nil)	Nil
	Taxable capital gain	35,00,000

Scenario 2: New Home Costs More Than the Capital Gain

Example:

• Mr. C sells his property in June 2021, gaining ₹25,00,000.
• He purchases a new house in October 2021 for ₹40,00,000.
• He sells this house in January 2023 for ₹55,00,000.

Tax Impact: Even though the new home costs more than the gain, selling it within three years results in taxable capital gains due to the adjusted basis of calculation.

Year	Particulars	Amount (₹)
2021	Capital gain on old house	25,00,000
	Less: Investment in new house	(40,00,000)
	Taxable capital gain	Nil
2023	Sale price of new house	55,00,000
	Less: Adjusted cost of acquisition (15,00,000)	15,00,000
	Taxable capital gain	40,00,000

Understanding the Rules:

• Exemption Reversal: The cost basis of the new property is adjusted to zero if the new property costs less or equal to the capital gain. If more, the basis is reduced by the amount of the gain.
• Three-Year Rule: If you sell the new property within three years, the tax benefits are reversed. The calculation of taxable gain depends on whether the new home’s cost was less than, equal to, or more than the capital gain from the original sale.

Suggested Read: Old vs New Tax Regime

Capital Gains Account Scheme Details

Do you need more time to reinvest your property sale gains? The Capital Gains Account Scheme can help. Here’s how it works:

How to Use the Scheme:

• If you sell a house and can’t reinvest the profit in another property before filing your tax return, don’t worry.
• You can deposit the amount you made into the Capital Gains Account Scheme at an authorised bank.
• Remember, you can’t use rural bank branches for this deposit.
• Make sure to deposit before the deadline for your income tax return.

Rules for Using the Money:

• The money must be used to buy or build a new house within two or three years, depending on the property type.
• If you don’t use the money within this time, the profit from your old house sale becomes taxable.

What Happens If You Don’t Use the Money on Time?

• If you don’t buy or build a new house within the required time, you will need to pay tax on your initial profit.
• This means the tax break you hoped to get will be lost.

What Happens If You Sell the New House Within Three Years?

If you buy or build a new house after selling your old one, you can claim a tax exemption under Section 54. However, you must hold the new property for at least three years.

If you sell the new property before three years, the exemption is revoked. The capital gains you initially saved become taxable in the year of sale.

In case of a delay in possession by the builder beyond three years, the exemption remains valid.

When the new house is sold within three years, tax liability depends on two situations:

1. If the new house costs less than the capital gain from the old property:
   • The exemption is initially granted.
   • On sale, the entire sale price is taxed since the cost of acquisition is considered zero.
2. If the new house costs more than the capital gain from the old property:
   • The exemption is allowed at the time of purchase.
   • If the property is sold within three years, the tax benefit is reversed, and the capital gain becomes taxable.

Also Read: How to Save Income Tax on Rental Income

How the Finance Act 2023 Changed Section 54 Rules?

The Finance Act 2023 brought a major change to Section 54, affecting how much tax exemption you can claim on capital gains.

What Changed?

• Before: There was no upper limit on the exemption. You could invest the entire capital gain in a new house and claim full exemption.
• Now: From April 1, 2024 (Assessment Year 2024-25), the exemption is capped at ₹10 crore.

What This Means for Taxpayers

• If the new house costs more than ₹10 crore, the excess amount is not considered for exemption.
• You can only claim an exemption on up to ₹10 crore of capital gains reinvested in a new residential property.

How Does Section 54EC Affect Taxes on Unused Capital Gains?

Section 54EC helps reduce tax on capital gains if the amount is reinvested in specific infrastructure bonds within six months. However, any leftover amount that is not reinvested becomes taxable.

Reinvesting in Eligible Bonds

• The exemption applies only to the amount reinvested in the specified bonds.
• If the investment is less than the total capital gain, the remaining amount is taxed.

Tax on Leftover Capital Gains

Situation	Tax Treatment
Full reinvestment in bonds	No tax on the reinvested amount.
Partial reinvestment	The leftover capital gain is taxed at applicable rates.
No reinvestment	The full capital gain is taxed.

Applicable Tax Rates

• Short-term capital gains (held for less than 24 months) are taxed at 30% plus surcharge and cess.
• Long-term capital gains (held for more than 24 months) are taxed at 20% with indexation benefits.

Also Read: Maximizing Income Tax Benefits for Home Buyers

How Does Section 54 Differ from Section 54F?

The Income Tax Act provides tax exemptions on long-term capital gains under Section 54 and Section 54F. While both sections help reduce tax liability, they apply in different situations.

Aspect	Section 54	Section 54F
Applicable to	Sale of a residential property	Sale of any capital asset other than residential property
Reinvestment Requirement	Must reinvest the capital gain	Must reinvest the entire sale proceeds
Partial Reinvestment	Unused capital gain is taxed as long-term capital gain	Exemption allowed proportionally based on reinvestment
Property Ownership Rule	No restriction on owning multiple properties	Cannot own more than one residential property at the time of sale
Holding Period Rule	Selling the new house within 3 years reverses the exemption	Selling within 3 years or buying another house within 2 years reverses exemption

Also Read: Section 54F of Income Tax Act​

Conclusion

Section 54 of the Income Tax Act allows taxpayers to save on capital gains tax by reinvesting in a new residential property. Following the eligibility criteria and timelines ensures a smooth exemption claim and reduces tax liability.

Frequently Asked Questions