Beware the haze, cap 54EC investments at Rs50 lakh

You can save on capital gains tax by investing in 54EC bonds only up to Rs50 lakh, a closer reading of a recent ruling by the tax tribunal shows.

Under the rules, long-term capital gains tax may be saved by investing in Sec 54EC bonds within six months of the date of sale.

As per a proviso to the section introduced since April 1, 2007, one can invest a maximum of Rs50 lakh in such bonds in any financial year.

While by no means small, the amount of Rs50 lakh, especially in respect of capital gains from property, may not be enough to cover the entire amount of capital gains.

However, over the years, investors have found an ingenious way to work around the problem. Since one has, from the time of earning the capital gain, six months to invest in the bonds, if the sale transaction is timed between October and March of any year, the six month period, in effect, would overlap two financial years — and this in turn would enable the taxpayer to double the investible amount from Rs50 lakh to Rs1 crore!

This is precisely the issue that came up recently before the Jaipur Tribunal in the case of the Assistant Commissioner of Income-tax, Circle-2, Ajmer v. Shri Raj Kumar Jain & Sons (HUF).

The brief facts of the case were that the assessee-HUF had sold a property for Rs2.47 crore on December 13, 2007 and earned long-term capital gain of around Rs1.14 crore. The assessee claimed deduction under section 54EC amounting to Rs1 crore by investing Rs50 lakh on March 31, 2008 and Rs50 lakh on June 10, 2008. Note that the entire investment was done within a period of six months from date of sale.

The assessing officer (AO) denied the exemption claim of the assessee by adopting the view that the assessee had exceeded the investment limit prescribed in the proviso and therefore, restricted the deduction to Rs50 lakh.

Upon an appeal lodged by the assessee, the commissioner (appeals) (CIT(A)) ruled in favour of the assessee by observing that since the investment fulfilled the conditions as laid out in the relevant section, the full deduction of Rs1 crore should be allowed.

The Revenue then took up the issue before the Tribunal.

The CIT(A) defended his stand by observing that from the reading of the main content of Sec 54EC and the proviso thereto together, it is clear that the assessee has to make investment within six months to be able to avail the exemption, whether falling in one financial year or more.

Further, the word used in the proviso is ‘any’ and not the ‘relevant financial year’, which implies that such a limit of Rs50 lakh is for each financial year. The plain, literal and unambiguous interpretation of the proviso also makes it clear that the amount of investment should not exceed Rs50 lakh during any financial year, which implies that the assessee is free to make investment within a period of six months within which if more than one financial year falls, the investment may exceed Rs50 lakh.

The Legislature in various exemption provisions contained u/s 54, 54B, 54F and 54G, etc has given the assessee the liberty to invest in the purchase/construction of house property, etc within a period of 2-3 years of the date of transfer. Thus, the activities of investment can extend beyond the relevant financial year.

The interpretation of the Revenue that the investment can be made only once and in the financial year relating to the subjected assessment year and not beyond that is completely ignoring the entire scheme of capital gain.

The Tribunal, however, ruled in favour of the Revenue. The Bench observed that in cases where the transfer of assets takes place from October 1 to March 31, an assessee will be able to invest Rs50 lakh in a financial year in which the transfer has taken place and Rs50 lakh in the subsequent financial year. However, taxpayers who have earned the capital gain from April 1 to September 30 of any financial year will be able to avail of a deduction only of Rs50 lakh.

But then, two interpretations of Section 54EC are not possible.

The notification of the government clearly suggested that assessees are entitled to the extent of Rs50 lakh u/s 54EC of the Act. Investment within six months is the investment for the financial year in which transfer has taken place.

Hence, subsequent investment is also to be considered as part of the investment of the financial year in which transfer has taken place.

Therefore, the CIT(A) was not justified in allowing deduction to the assessee to the extent of Rs1 crore u/s 54EC of the Act and therefore, the original order of the AO is being upheld.

Conclusion
It is clear from the above discussion that the issue of whether over Rs50 lakh may be invested in Sec 54EC bonds or not is not free from doubt. Clearly, even the income tax authorities do not seem to have a consensus view on the matter.

Under the circumstances, it would be advisable for taxpayers to refrain from exceeding the Rs50 lakh limit.

A possible solution could be to use Sec 54 and Sec 54EC together. Admittedly, this would not be feasible for everyone —- but where the long-term capital gain is earned from sale of a residential house, exemption from tax payable is available if the capital gain is reinvested in another property. At the same time, nowhere does it say that both property and bonds cannot be invested in together. Therefore, if workable, a part of the capital gain may be invested in residential property and the balance, if any, may be invested in the bonds or vice versa, ensuring at all times that the bonds investment is limited to Rs50 lakh.

The writer is director, Wonderland Consultants, a tax and financial planning firm, and can be reached at sandeep.shanbhag@gmail.com