Heeding the growing chorus of resentment on long term capital gains (LTCG) tax on unlisted assets, particularly property, Finance Minister Nirmala Sitharaman has rightly decided to amend the Budget proposals to provide a flexible option for calculating LTCG tax. For assets such as land or buildings acquired before July 23, taxpayers can now choose between the new and old regimes based on the benefits. Under the new proposals, tax on capital gains was reduced to 12.5 percent from 20 percent; but the adjustment for inflation—known as indexation—was done away with for properties bought after 2001. Indexation allowed capital gains to be calculated lower by deducting inflation’s impact on the price since the time the property was bought. This translated into 20 percent higher tax on properties purchased before 2010.
Taxpayers can now continue with the old regime of indexation, but at the higher 20 percent rate. This will not only save them from a higher tax outgo on older properties, but will also allow more flexibility to those opting for exemption under Section 54 by investing their capital gains in another residential unit. The government revisiting its proposals was also perhaps influenced by reports that a higher LTCG tax would slow down sales in the secondary housing market.
There is a mindset that looks at property sales as a gold pit waiting to be mined. The investment stampede we saw in real estate prior to the Lehman Brothers crash in 2008 is long over. As an asset class, returns on property investments are lukewarm and lower than on equity, gold and other asset classes. Property holdings are usually of a large ticket size, making them fairly illiquid. Over the years, state governments have heaped huge stamp duty and registration charges on property sales, in some cases touching 9-10 percent of the transaction value.
These moves have discouraged deals, impacting tax revenues in the long term. If we exclude builders’ primary sales, secondary sales by individuals—which is a huge market—are largely a realignment of wealth and should not count as windfall gains. Property assets are often consolidated and sold when joint families break up, or when individual owners sell one unit to buy a larger home as they move up the income chain. So the government needs to have an open mind before taxing property gains.