Have you sold or thinking to sale the house or shares or any jewellery gifted by your father or any family relative . Maybe you are selling an inherited land or house and now you are concerned about the capital gains tax on the property for which you did not incur any amount. Under Income Tax Act , there are provisions which explicitly applicable to taxation of any gains or loss on sale of such property. In this post , following issues related to sale of gifted or inherited property are explained and simplified through the slide.
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Issues on Taxation of Sale of Gifted Property
Following issues are related to the sale of a gifted or inherited or asset received under a will .[infobox style=”alert-success”]1. Which date will be counted to determine whether the asset sold is a short term or long term ? In other words, how the period of holding in hand of seller ( donee) will be determined.
2. What will be the cost of the asset sold in hand of seller who got it free ?
3. Whether indexation of cost allowed in hand of donee?
4. If donor invested on improvement and the donee also investment , will both the improvement cost will be taken for indexation and computation of capital gains ?
5. If the donor himself /herself received the property as gift or inherited , how to compute the cost in hand of person last received the property as gift and the sold the property ? For example ancestral property sale , has this issue.
Issue 1: How to determine period of holding in hand of seller ?
Let me come to the point directly. Explanation 1(i)(b) to Section 2(42A) provides that the period of holding will be from the date the “previous owner ” had acquired the capital asset. Here is the excerpt from the provision
Explanation 1].—(i) In determining the period for which any capital asset is held by the assessee—
(b) in the case of a capital asset which becomes the property of the assessee in the circumstances mentioned in sub-section (1) of section 49, there shall be included the period for which the asset was held by the previous owner referred to in the said section ;
What are the circumstances ?
Section 49(1)(a) provides among various circumstances , transfer by Gift or Will or Inheritance . A detailed posting about how to know period of holding in 11 circumstances are already published. So, just to make it simple , if you receive a gift from your father, the date for the purpose of determining period of holding will be counted from the date your father got it.
2. What will be the cost of the asset in hand of donee?
The cost in hand of person who is selling the gifted asset is NIL . But when the capital gains is to be arrived , Income Tax Act provides under section 49 that the cost for acquiring the asset in hand of donor will be the cost in hand of donee. So , if your father baught the asset for Rs 1,00,000 , not only the date it was acquired by him will be the date for period of holding , but also the cost incurred will be taken for computation of the capital gains in your hand -the donee.
3. Whether indexation of cost allowed in hand of donee?
Yes, section 48 applies to any resident in whose case capital gains on long term capital asset sale is to be charged. So Indexation will be applied . But the one issue which became controversial was from which date the indexation can be applied . That whether the indexation is to be done from the date donor got the asset or the date on which the done who sold the asset is to be taken for indexation purpose.
ITAT Mumbai Special Bench in its decision in case of CIT vs Manjula J Shah clarified that the date the donor owner will be the date the from when the indexation will be allowed in hand of donee. This Special Bench decision was later confirmed by Mumbai High Court in CIT-12 vs Manjula J Shah  355 ITR 474 (Bombay) . The Hon’ble High Court concluded as under :
In the result, that the Tribunal was justified in holding that while computing the capital gains arising on transfer of a capital asset acquired by the assessee under a gift, the indexed cost of acquisition has to be computed with reference to the year in which the previous owner first held the asset and not the year in which the assessee became the owner of the asset.
So, indexation of cost is allowed from the date the previous owner had acquired the asset.
4. Improvement Cost of Previous Owner Also Allowed
Say the donor had invested some amounts on improvement and later even the donee ( person who received the property as gift or inheritance) incurred some cost on improvement , will both the improvement cost will be allowed . The answer is yes. The answer in section 55(1)(b)(2)(ii) of the Act provides that where the capital asset became the property of the assessee by any of the modes specified under Section 49(1) of the Act, not only the cost of improvement incurred by the assessee but also the cost of improvement incurred by the previous owner shall be deducted from the total consideration received by the assessee while computing the capital gains under Section 48 of the Act. Read the excerpt
55. (1) For the purposes of sections 48 and 49,—
(b) “cost of any improvement”,—
(2) in relation to any other capital asset,—]
(i) where the capital asset became the property of the previous owner or the assessee before the 1st day of April, 1981,means all expenditure of a capital nature incurred in making any additions or alterations to the capital asset on or after the said date by the previous owner or the assessee, and
(ii) in any other case, means all expenditure of a capital nature incurred in making any additions or alterations to the capital asset by the assessee after it became his property, and, where the capital asset became the property of the assessee by any of the modes specified in sub-section (1) of section 49, by the previous owner,
5. Donor Himself Received Asset as Gift or Inheritance
This happens all the time in case of inheritance. Your great grand father had this property which ultimately became yours and now you are selling it . So, whose cost will be taken as your cost while computing capital gains. The answer to this complex question is given in section 49 (1) only which is for cost with referenec to various types of acquisition
Cost with reference to certain modes of acquisition.
49. (1)] Where the capital asset became the property of the assessee—
(i) on any distribution of assets on the total or partial partition of a Hindu undivided family;
(ii) under a gift or will;
(iii) (a) by succession, inheritance or devolution, or
(iv) such assessee being a Hindu undivided family, by the mode referred to in sub-section (2) of section 64 at any time after the 31st day of December, 1969,
the cost of acquisition of the asset shall be deemed to be the cost for which the previous owner of the property acquired it, as increased by the cost of any improvement of the assets incurred or borne by the previous owner or the assessee, as the case may be.
Explanation.—In this sub-section] the expression “previous owner of the property” in relation to any capital asset owned by an assessee means the last previous owner of the capital asset who acquired it by a mode of acquisition other than that referred to in clause (i) or clause (ii) or clause (iii) or clause (iv)] of this sub-section.
A plain reading of Explanation says that the cost in hand of the last person who acquired in ways other than gift, inheritance or will or any mode given in section 49(1)(i) to( iv) will be taken as cost for all purpose.
For example say , your grand father bought shares for Rs 50,000 which was gifted to your father who gifted you teh share. When you sell the shares, since the grand father was the last person who got the shares in ways other than given ins ection 49(1)(i) to (iv) of teh Income Tax Act , cost in his hand will be taken for indexation and determination of capital gains.