No indexation benefit: You may be better off if property price rise is much higher than inflation

It stated that this move will ease the computation of capital gains for the taxpayer and tax administration.

In a post-Budget interaction with journalists, top Finance Ministry officials, however, clarified that old real estate investments will continue to get indexation benefits up to the year 2000. This means that if a residential property was purchased in 1975 and is sold now, the seller can avail indexation benefit up to 2000, but not for the remaining 24 years.

It is worth noting that despite the changes in the long-term capital gains tax regime, sellers of residential properties can continue to claim exemption under Section 54 of the Income Tax Act. The section provides for an exemption on the long-term capital gains tax from sale of residential property if the proceeds from the sale are used to purchase or construct another residential property.

So will the new tax rate of 12.5% without indexation benefit be better or the old tax rate of 20 per cent with indexation? Rough calculations show that if the inflation levels are low and the property price increase is faster, then the new system will work out better for sellers.

For example, if a property’s price doubles in 10 years from Rs 10 lakh to Rs 20 lakh and the average inflation is 5 per cent, then the investor will benefit from the old system as he would have paid a tax of Rs 74,000 as against a tax of Rs 1.25 lakh under the new system.

However, if the property price triples in the same period, then the new system would be beneficial. So, if the price of the property rises three times from Rs 10 lakh to Rs 30 lakh in the same 10-year period and the inflation remains same at 5 per cent, then in the old system the seller would pay a tax of Rs 2.74 lakh as against Rs 2.50 lakh under the new proposed system.

So, while the government has proposed the new taxation of 12.5 per cent without indexation, sellers would hope for a faster growth in property prices to be better-off.

Many in the real estate industry and investment advisory space, however, say that with real estate taxation coming at par with long term capital gains tax of 12.5 per cent on equity investments, investors may sway towards the equity segment, which is relatively far more liquid and has ease of transaction.

“Only the salaried class may avoid real estate and switch to equities for ease of transaction and liquidity, after the tax rate for both have come at par. Those dealing in cash and investing large sums in real estate will continue to invest in the same (real estate),” said the CEO of a mutual fund who did not wish to be named. He said this move may lead to an increase in black money transactions going forward.