How to save tax on the sale of residential property

Selling a property can be a lucrative endeavour but it also comes with a tax implication. Capital gains tax will be applicable on the earnings from the sale of a property. When you sell a property after holding it for at least two years, it falls under the category of long-term capital gains.  LTCG is taxed at a flat rate of 20 percent. However, there are several strategies and exemptions available to reduce your tax liability on the sale of residential property.

Indexation benefit in house sale

Indexation adjusts the purchase cost of the property to account for inflation, thereby lowering the amount of capital gains and subsequently the tax on it. To leverage this benefit, hold the property for at least two years, as it is only available for long-term capital gains.

Joint ownership of property for tax benefit 

If you co-own the property, you can divide the capital gains from the sale among the co-owners based on their ownership share. This allows each co-owner to utilise the basic exemption limit available to them, potentially reducing the overall tax liability.

Reduce selling expenses

When calculating capital gains, remember to deduct certain selling expenses from the sale price. Deductible expenses include brokerage fees associated with the sale, which can lower the capital gains and, in turn, the tax payable. Additionally, living in the house for more than two years and keeping receipts for expenses related to enhancing or renovating it can help reduce the taxable capital gain amount by adding these expenses to the cost of the house.

Buy new property (Exemption under Sec 54)

One of the most popular ways to save tax on the sale of residential property is to reinvest the capital gains in another residential property. To qualify for this exemption under Section 54 of the Income Tax Act, 1961, you will need to purchase a new property either one year before or two years after the sale. Alternatively, if you construct a new property within three years after the sale you can still apply for the exemption.

Invest in bonds (Exemption under 54EC)

If you prefer not to reinvest in property, consider investing your capital gains in government-specified bonds. This strategy allows you to achieve a tax exemption, but you must invest within six months of the property sale, and these bonds come with a lock-in period of 5 years.

Tax loss harvesting

 Another financial strategy often used by investors involves selling securities that have experienced a loss. By realising or "harvesting" a loss, investors can offset taxes on both gains and income. Losses from sales of mutual funds or shares can be used to offset capital gains on property sales. 

Invest in Capital Gain Account Scheme (CGAS)

If you cannot purchase a suitable house or bond, consider investing in CGAS provided by public banks for that assessment year. While filing your income tax returns, you can claim exemptions for the money in CGAS. However, you must utilise the deposited amount within 3 years, or you will be taxed for that amount.

Reinvest Gains into shares of a manufacturing company

Under Section 54GB, individuals can reinvest long-term capital gains from the sale of a residential property into shares of an eligible company or by investing the amount into a new startup.