Redevelopment worries

Redevelopment worries

A N ShanbhagUpdated: Wednesday, May 29, 2019, 04:49 AM IST
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These days many builders offer to buy a flat of the existing owner in exchange for one larger flat after completion of the redevelopment of the building. In addition some money is also paid as additional compensation to enable the owner shift to a new place and pay rent thereon until the new flat is ready for occupation and also for the inconveniences caused.

This is a win-win situation for both the builder and the flat owner. The builder can use the FSI and sell the new flats at a good (often stiff) price. On the other hand, the tenant or the owner of the old flat gets brand new more spacious ownership flat having a higher fair market value.

Obviously, the original owner will earn Long-term Capital Gains (LTCG) on the sale or transfer of his original property to the builder. This becomes exempt since he is reinvesting the capital gains in the new flat. This amount of reinvestment can be arrived at by ascertaining the price at which the builder sells other flats in the same building.

Surely, this would be far in excess of the LTCG on the original housing property plus the cash, received. Incidentally, the reimbursement of rent paid by the builder to the tenant or the owner until the redeveloped flat is transferred by the builder to him is tax neutral and any extra sum paid for the inconveniences caused or mental agony is a capital receipt and therefore not taxable.

Provisions of Sec. 54 (house to house) are attracted where the person owns the old flat. On the other hand, in the case of a tenant, Sec. 54F is applicable (tenancy rights to house).  The cost of acquisition is required to be taken as nil. Moreover, the person should not be an owner of more than one residential house other than the rental premises on the date when the property is handed over to the builder.  The fact that the builder is interested only in the land and is going to demolish the superstructure is immaterial and inconsequential.

Now, under this background, let us examine an interesting real life case of one Mr. Mehta (name changed) whose building also similarly underwent redevelopment. Mehta was residing as a tenant in an old dilapidated flat. A builder entered into a contract with him to redevelop it. Mehta agreed and the builder finished the job within the specified period and handed over the redeveloped flat to Mehta.

After three years, Mehta sold this redeveloped flat and purchased a new smaller flat.  There is no dispute over the fact that there is no tax liability arising out of the surrender of the dilapidated flat to the builder since the entire amount of the long-term capital gain (computed after taking the cost of acquisition of the tenancy flat as nil), has been invested in the redeveloped flat. Therefore, this gain is exempt u/s 54F.

Mehta has also earned long-term capital gain by selling the redeveloped flat after the lock-in period of three years. This second transaction is covered by Sec. 54. The CA of Mr Mehta is of the opinion that the cost of acquisition of the redeveloped flat for the purpose of computing long-term capital gain, even on this second transaction should be taken as nil, since he has not paid any money to acquire it.

We do not agree with this opinion for the following reasons —

Finally, and most importantly, notwithstanding all observed above, note that —
Supreme Court had held in the case of B. C. Srinivasa Shetty, 128 ITR 294 that no capital gain arises on transfer of capital assets in respect of which there is no cost of acquisition. This decision is being negated steadily u/s 55 by ordaining that capital gains shall be computed and charged to tax by taking the cost of acquisition as nil in the following cases —

A N Shanbhag may be contacted at wonderlandconsultants@yahoo.com

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