June 12, 2023

Income Tax/ Capital gains on sale of inherited property

Inheritance of property is a very common scenario and these properties are sold subsequently as well. In India, the sale of inherited property can have potential tax implications, particularly regarding capital gains. Capital gains tax is levied on the profit earned from the sale of an asset, including inherited property.

Many questions may come to a person’s mind with respect to inherited property such as whether any income tax is payable at the time where inherited property is received by a legal heir and what are the tax implications when such property is further sold by heirs.

This article aims to provide a detailed guide on capital gains tax on the sale of inherited property in India.

1. Income tax at the time of Transfer of Inherited Property to Legal heir

a. Income from Other Sources

As per Section 56(x)(2) of Income Tax Act, 1961, if any person receives any immovable property:
- Without consideration having stamp duty value exceeding INR 50,000; or
- For a consideration which is less than stamp duty value of the property and difference between stamp duty value and consideration is more than higher of the following amounts:
  - INR 50,000; or
  - 10% of consideration

Then stamp duty value of such property shall be immovable property shall be taxable as “Income from other sources”

However as per proviso to Section 56(x)(2), this clause shall not apply to immovable property received under a will or by way of inheritance.

b. Income from Capital Gain

Section 47 of Income Tax Act, 1961 specifies transactions which are not considered as transfer and therefore, not liable to capital gain tax.
As per Section 47(iii), any transfer of capital asset under a will or gift or irrevocable trust is not considered as transfer.

Therefore, transfer of immovable property through will or inheritance is not liable to income tax.

2. Income Tax on transfer of inherited property by Legal Heir

a. Income Tax from Capital Gain

Transfer of capital assets by legal heir for consideration is not covered under any exemption or exclusions. Therefore, the same is liable to Capital Gain under section 45 of Income Tax Act.

Further, there are various factors that will be determined for computation of capital gains such as holding period, cost of acquisition etc.

b. Computation of Holding Period

For computation of period of holding of any capital asset which become the property of the assessee due to will, succession or inheritance, period for which asset was held by pervious owner shall also be included.
E.g.
- Date of Acquisition of Immovable Property by Father: 04/01/2001
- Date of Transfer to Son through will: 04/01/2022
- Date of Transfer by son for consideration: 04/01/2023
- Period of holding shall be 22 Years.
- Accordingly, capital gain arising from transfer of such capital asset shall be taxable as long term capital gain.

c. Cost of Acquisition

As per Section 55(2) of Income Tax Act, 1961, “Cost of Acquistion” is the amount of purchase price of capital asset. However, in case of asset inherited through will, succession or inheritance, cost of acquisition shall be the amount of purchase price for previous owner.
So, in above mentioned example, cost of acquisition shall be the price paid by father for acquisition of such property.

Property bought prior to 01.04.2001
Where property is acquired before 01.04.2001, cost of acquisition shall be any of the following value at the option of the assessee:
- the fare market value of the property as on 01.04.2001; or
- Original cost of acquisition

In general, the circle rate prevailing as on 01.04.2001 is considered as Fair Market Value of the property as the same is available easily.
However, if circular rates are not available, the assessee can get the fair market value of the property by obtaining a certificate from any registered valuer. However, cost of acquisition can’t exceed stamp duty value of the property as on 01.04.2001.

d. Indexed Cost of Acquisition

Indexed cost of acquisition brings the value of property on present day by considering inflation index notified by government. Indexed cost of acquisition is determined by following formula:

Cost of acquisition * CII of Year in which property is transferred/ CII of year of in which capital asset is first held by assessee

If asset is acquired before 01.04.2001, CII of year 2001 shall be considered instead of CII of the year in which asset by first held by assessee.

As per section 48 of Income Tax Act, CII of the year in which capital asset was first held by the assessee shall be considered for computation of Indexed Cost of Acquisition. In case of inherited property, asset is first held by the assessee is the year of inheritance not the year in which the asset was acquired by previous owner.

Therefore, there has always been litigation that for the purpose of computation of Indexed cost of acquisition of inherited property, whether CII should be considered of year of inheritance or the year in which the asset was acquired by the previous owner. However, this matter has always been resolved reasonably by various Tribunals and High Courts that CII of the year in which asset was acquired by previous owner shall be considered. Therefore, is asset was acquired by previous owner before 01.04.2001, CII of 2001 shall be considered.

E.g.
- Fair Market value as on 01.04.2001: INR 5,00,000
- Fair Market value in year of Inheritance: INR 10,00,000 (2019)
- Sales Consideration: 20,00,000 (2020)
- CII of 2001-22: 100
- CII of 2020-21: 301
- Indexed Cost of acquisition (5,00,000* 301/100): 15,05,000.

e. Cost of Improvement

Cost of improvement represents any expenditure of capital nature incurred in making addition or alteration to capital assets.
As per section 55(1)(b) of Income Tax Act, Cost of Improvement incurred by previous owner shall also be considered.
Only expenditure incurred on or after 01.04.2001 by previous owner or by the assessee shall be considered.

f. Property is inherited by more than one person

Where property is inherited by more than one person then capital gain will be computed in hands of all legal heirs in the ratio of their share in the property.

g. Computation of Capital Gain

Capital gain is computed by deducting following expenses from sales consideration:
- Cost of Acquisition/ Indexed Cost of Acquisition
- Cost of Improvement/ Indexed Cost of Improvement
- Expenses on sales

In above mentioned example, Capital gain shall be:

Sales Consideration	20,00,000
Indexed Cost of Acquisition	15,05,000
Long Term Capital Gain	4,95,000

h. TDS on sale of Immovable Property

As per Section 194-IA, any person who is purchasing any immovable property from a resident is required to deduct TDS @ 1% of sales consideration payable to the seller where consideration for transfer of immovable is INR 50 Lacs or more.
Assessee is entitled to get benefit of such deducted TDS while computing capital gain tax payable.
If TDS deducted is more than Income Tax payable on Capital gain then the assessee is entitled to get refund of such excess amount.
Read more about TDS on sale of Immovable Property.

h. Sale of property by Non-Resident Indian

Sale of property by Non-resident Indians is subject to the same provisions as mentioned above.
However, in case of NRIs, TDS is required to be deducted @ 20.8%.
Read more about Capital Gain on sale of immovable property by NRI

DISCLAIMER: The views expressed are strictly of the author and VJM & Associates LLP. The contents of this article are solely for informational purpose. It does not constitute professional advice or recommendation of firm. Neither the author nor firm and its affiliates accepts any liabilities for any loss or damage of any kind arising out of any information in this article nor for any actions taken in reliance thereon.

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