The Income Tax Act provides for tax exemptions on long-term capital gains earned from the transfer of a capital asset if the sale proceeds are invested in a house property within the time prescribed under section 54F of within two years from the date of transfer or within one year prior to the date of transfer.
If a taxpayer wants to construct her/his own house, the time limit to complete the construction is three years from the date of transfer. Section 54 provides exemption from long-term capital gains earned from the transfer of a house property if the sale proceeds are invested in another house property within the prescribed time.
Hence, Sections 54 and 54F of Income tax act provide that capital gains arising on transfer of a long-term capital asset shall not be charged to tax to the extent specified therein, where the amount of capital gain is invested in a residential house. In the case of purchase of a house, the benefit is available if the investment is made within a period of one year before or after the date on which the transfer took place and in case of construction of a house, the benefit is available if the investment is made within three years from the date of the transfer.
Is it Advantageous to buy under construction property or ready property ?
It is true that buying a property in a project under construction offers greater advantages than purchasing a ready property. To begin with, the price of a property under construction is lower because there is no immediate possession. For a ready-property, the seller charges a premium for ready possession. In under-construction property, buyers get time to arrange for funds and the cost is also associated with offers and discounts.
Capital Gains Exemption if Construction is not completed within 3 years
As per section-2(29A) of Income Tax Act,1961, any capital asset which is not a short term capital asset is a long term capital asset i.e. any capital asset held by assessee for a period of more than 36 months is a long term capital asset. For the purpose of capital gain, transfer is defined as any transaction involving the allowing of the possession of any immovable property in part performance of a contract in the nature of section-53A of Transfer of Property Act,1882.
Therefore if you have taken actual possession of property, you may calculate holding period from that date as in the hands of the builder the capital gain/income from business or profession will be charged on this date, therefore you may be regarded as the holder of the property from that date
The Judicial views on this issue are as under
In Sardarmal Kothari 302 ITR 286 (Mad) the Hon’ble Madras High court held that : Section 54F of Income tax is a beneficial provision for promoting the construction of residential house & requires to be construed liberally for achieving that purpose. The intention of the Legislature was to encourage investments in the acquisition of a residential house and completion of construction or occupation is not the requirement of law. The words used in the section are ‘purchased’ or ‘constructed’. The condition precedent for claiming benefit u/s 54F is that the capital gain should be parted by the assessee and invested either in purchasing a residential house or in constructing a residential house. Merely because the sale deed had not been executed or that construction is not complete and it is not in a fit condition to be occupied does not disentitle the assessee to claim s. 54F relief. … “
Smt. Rajneet Sandhu vs. DCIT (2010) 133 TTJ 0064 (Chandigarh): In this case the construction of the house was not completed within the prescribed period. It was held that section 54F does not prescribe that the residential house should be completed within the prescribed period and benefit under s. 54F was allowed. It was held that thrust was on investment and not on completion.
Satish Chandra Gupta vs. Assessing Officer 54 ITD 508 (ITAT, Delhi Bench): The facts of this case were, the assessee had purchased a site and could not complete the construction of the house within the prescribed period of three years. However, the house was constructed and completed subsequently. Relief was given on the ground that the delay had occurred on account of reasons beyond the control of the assessee.
Narasimha Raju Rudra Rao vs. ACIT (35 taxmann.com 90) (Hyderabad-Tribunal) The co-ordinate Bench has decided as follows:•
- Provision contained under section 54F being a beneficial provision has to be construed liberally. In various judicial precedents it has been held that the condition precedent for claiming benefit under section 54F is only that the capital gain realized from the sale of capital asset should be parted by the assessee and invested either in purchasing a residential house or in constructing a residential house. If the assessee has invested the money in construction of residential house, merely because the construction was not complete in all respects and it was not in a fit condition to be occupied within the period stipulated, that would not disentitle the assessee from claiming the benefit under section 54F.
- Once the assessee demonstrates that the consideration received on transfer has been invested either in purchasing a residential house or in constructing a residential house, even though the transactions are not complete in all respects and as required under the law, that would not disentitle the assessee from availing benefit under section 54F.
In Pradeep Kumar Chowdhry vs. DCIT (ITAT Hyderabad) in ITA No.1520/Hyd/2013 dt.31.12.2014 – The aggrieved assessee submitted that the flat was not in a completely habitable state, though structures etc., were completed. This delay was entirely due to the reasons beyond the control of the assessee. The assessee submitted that he very honestly and sincerely desiring to avail the benefits conferred by the said section has acquired a new house and has paid monies as per the agreement with the builder. The time limit available for purchase of flat is three years in the case of assessee as the assessee had not purchased readymade flat but was purchasing a flat which was to be constructed and which is equivalent to constructing a residential house.
The Hon’ble Tribunal held that in the context of exemption u/s. 54F , the Real estate prices have soared up and, therefore, very few individual house are being constructed. It has been held by co-ordinate Benches that consideration received on transfer has been invested either in purchasing a residential house or in constructing a residential house, even though the transactions are not complete in all respects and as required under the law would not disentitle the assessee from availing benefit u/s. 54F of the Act. The concept of reasonable delay will not apply . Section 54F is a benevolent provision. In this scenario, the only issue is whether the amount of consideration received on transfer invested by the assessee in a flat constructed within three years would amount to construction of a residential house within the time limit of three years. In short, we are of the opinion that a flat which is newly constructed by a builder on behalf of the assessee is in no way different from a house constructed. Section 54F being a beneficial provision has to be interpreted so as to give the benefit of residential unit viz., flat instead of house in the present state of affairs. Further, as already pointed out even if only advance is given the benefit still will be available for exemption u/s. 54F.
Investment in a flat under the self-financing scheme of the Delhi Development Authority – Whether to be treated as construction for the purposes of capital gains ?
CBDT Circular No. No. 471 [F. No. 207/27/85-IT(A-II)], dated 15-10-1986.
The Board had occasion to examine as to whether the acquisition of a flat by an allottee under the Self-Financing Scheme (SFS) of the D.D.A. amounts to purchase or is construction by the D.D.A. on behalf of the allottee. Under the SFS of the D.D.A., the allotment letter is issued on payment of the first instalment of the cost of construction. The allotment is final unless it is cancelled or the allottee withdraws from the scheme. The allotment is cancelled only under exceptional circumstances.
The allottee gets title to the property on the issuance of the allotment letter and the payment of instalments is only a follow-up action and taking the delivery of possession is only a formality. If there is a failure on the part of the D.D.A. to deliver the possession of the flat after completing the construction, the remedy for the allottee is to file a suit for recovery of possession.
The Board have been advised that under the above circumstances, the inference that can be drawn is that the, D.D.A. takes up the construction work on behalf of the allottee and that the transaction involved is not a sale. Under the scheme the tentative cost of construction is already determined and the D.D.A. facilitates the payment of the cost of construction in instalments subject to the condition that the allottee has to bear the increase, if any, in the cost of construction. Therefore,for the purpose of capital gains tax the cost of the new asset is the tentative cost of construction and the fact that the amount was allowed to be paid in instalments does not affect the legal position stated above. In view of these facts, it has been decided that cases of allotment of flats under the Self-Financing Scheme of the D.D.A. shall be treated as cases of construction for the purpose of capital gains.
JUDICIAL ANALYSIS on CBDT’s circular as above
In CIT v. Mrs. Hilla J.B. Wadia  69 Taxman 114 (Bom.), it was observed that the Board had stated in Circular No. 471, dated 15-10-1986 that when an allotment letter is issued to an allottee under this scheme on payment of the first installment of the cost of construction, the allotment is final unless it is cancelled. The allottee, thereupon, gets title to the property on the issuance of the allotment letter and the payment of instalments is only a follow-up action and taking delivery of possession is only a formality. The Board has directed that such an allotment of flat under this scheme should be treated as cost of construction for the purpose of capital gains.
Smt. Shashi Varma vs. CIT 224 ITR 106 (MP): In this case the assessee was denied exemption on the investments made with Delhi Development Authority. However, relief was granted by the Hon’ble High Court. It was held that section 54 of the Act of 1961 only says that within two years, the assessee should have constructed the house but that does not mean that the construction of house should necessarily be complete within two years. What it means is that the construction of house should be completed as far as possible within two years. In the modern days, it is not easy to construct a house within the time-limit of two years and under the Government schemes, takes years and years. Therefore, confining to two years’ period for construction and handing over possession thereof is impossible and unworkable under section 54 of the Act. If substantial investment is made in the construction of house, then it should be deemed that sufficient steps have been taken and this satisfies the requirements of section 54.
In Mrs. Seetha Subramanian v. ACIT  59 ITD 94 (Mad. – Trib.) it was held with the following observations :
“. . . The assessee also relied upon certain circulars issued by the CBDT. One of the circulars was [Circular No. 471, dated 15th October, 1986. This was issued by the CBDT clarifying the position that where an assessee acquires a flat by an allotment under the self-financing scheme of the Delhi Development Authority, the allotment itself is sufficient compliance for getting the benefit under section 54F, even though the assessee has not paid all the instalments due under the said scheme. Later by another Circular No. 672, dated 16th December, 1993, the CBDT has issued clarification extending the same benefits for acquisition of houses or flats on allotment under similar schemes. Therefore it was contended that the intention of the Legislature was to invest in the acquisition of a residential house and completion of construction or occupation is not required. We find force in the argument of the learned counsel for the assessee. The said intention is very clear from the two circulars issued by the CBDT, where it was held that an assessee is entitled to the benefit of sections 54 and 54F, if an assessee gets an allotment under the self-financing scheme and pays the first instalment of the cost of the construction. From that it is clear that in order to get the benefit under section 54F the assessee need not complete the construction of the house and occupy the same. . . .”
The Hon’ble Supreme Court in the case of Bajaj Tempo Ltd. v. CIT  196 ITR 188 held that a beneficial provision has to be construed liberally so as to promote the purpose for which it was introduced.
To conclude, host of decisions by various Courts and Tribunals says that, if for reasons beyond the control of the tax payer, the builder has not completed construction, a tax payer, in her/his claim for deduction u/s 54/54F, cannot be penalized for a fault not hers/his. The Hon’ble members may take the help of the above decisions in order to present your contentions on this issue.