Capital Gains Tax and Section 54 Exemptions India

Posted on Feb 14, 2026 in Financial and Accounting Management

Capital Gains and Exemptions — Section 54

Definition of Capital Gains

Capital Gains is defined in Section 45(1) of the Income Tax Act, 1961. It refers to the profit or gain arising from the transfer of a capital asset effected in the previous year. The capital gain is charged to tax in the assessment year immediately following the previous year in which the transfer took place.

Key Components of the Definition

• Capital Asset (Section 2(14)): Property of any kind held by an assessee, whether connected with their business or profession or not. This includes movable or immovable property, tangible or intangible (for example, land, buildings, shares, debentures, jewellery, goodwill).
• Exclusions: Stock-in-trade; personal effects (movable property for personal use); rural agricultural land in India; certain gold bonds.
• Transfer (Section 2(47)): Defined broadly to include sale, exchange, relinquishment of the asset, compulsory acquisition, or conversion of a capital asset into stock-in-trade.
• Time of Taxation: Capital gain is charged to tax in the assessment year immediately following the previous year in which the transfer took place.

Types of Capital Gains

Capital gains are classified based on the holding period of the asset:

Exemptions under Section 54 (Rollover Relief)

Section 54 provides a specific exemption from Long-Term Capital Gains (LTCG) arising from the transfer of a residential house property. It is a relief provision that encourages reinvestment into housing.

Conditions for Claiming Exemption under Section 54

• Eligible Assessee: The exemption is available only to an Individual or a Hindu Undivided Family (HUF).
• Asset Transferred (Old Asset): The asset transferred must be a long-term capital asset being a residential house property (the income from which is chargeable under the head “Income from House Property”).
• Nature of Gain: The gain must be a long-term capital gain (LTCG).
• Investment in New Asset: The assessee must purchase or construct a new residential house property in India within the specified time limits:
  • Purchase: within 1 year before or 2 years after the date of transfer of the old house.
  • Construction: within 3 years after the date of transfer of the old house.
• Restriction on Number of Houses:
  • General rule: Exemption is available for investment in one new residential house property in India.
  • Special one-time exemption: If the amount of the LTCG does not exceed ₹2 crore, the assessee may invest in two residential house properties in India. This option can be exercised only once in the lifetime of the assessee.
• Restriction on Claiming Exemption: The maximum exemption permitted is capped at ₹10 crore.

Quantum of Exemption

The amount of exemption is the lower of the following two amounts:

1. The Long-Term Capital Gain (LTCG) arising from the transfer of the old house.
2. The cost of the new residential house property (or the combined cost of two properties, if eligible).

Capital Gains Account Scheme (CGAS)

If the capital gain is not utilized for purchase or construction before the date of filing the income tax return, the unutilized amount must be deposited into the Capital Gains Account Scheme (CGAS) with a bank before the due date of filing the return. If the amount is deposited, it is deemed to have been utilized and the exemption is allowed. If the amount is not utilized even after the specified period (2 or 3 years), the unutilized amount deposited in CGAS is treated as LTCG of that previous year and is taxed.

Business and Capital Gains Concepts

(a) Unabsorbed Depreciation

Unabsorbed depreciation arises when the current year’s depreciation allowance (computed under Section 32) is greater than the profit available under the head “Profits and Gains of Business or Profession (PGBP)” before deducting the depreciation.

• Treatment priority: Current-year depreciation is first set off against the current year’s PGBP income. If any balance remains, it is treated as unabsorbed.
• Set-off in the current year: Unabsorbed depreciation for the current year can be set off against any other head of income (for example, Income from House Property, Capital Gains, or Income from Other Sources) in the same assessment year.
• Carry forward (Section 32(2)): If depreciation still remains unabsorbed after the current year’s set-off, it can be carried forward to subsequent assessment years.
• Indefinite carry forward: Unlike business losses (which have an eight-year limit), unabsorbed depreciation can be carried forward indefinitely and set off against future income chargeable under the PGBP head of the assessee.
• Priority in future years: When carried forward, unabsorbed depreciation gets a lower priority than the current year’s depreciation and brought-forward business losses. The order of set-off in subsequent years is:
  1. Current year’s depreciation.
  2. Brought-forward business loss (eight-year limit).
  3. Unabsorbed depreciation (no time limit).

(b) Short-Term Capital Gain/Loss on Depreciable Assets

The computation of capital gains or losses arising from the transfer of depreciable assets is governed by Section 50 of the Act, which creates a legal fiction.

• Block of assets concept: Depreciable assets (plant, machinery, furniture, buildings, etc.) used for business or profession are grouped into “blocks of assets” (assets with the same rate of depreciation). Depreciation is charged on the Written Down Value (WDV) of the block, not on individual assets.
• Legal fiction (Section 50): Notwithstanding the actual period of holding, any gain or loss arising from the transfer of an asset forming part of a block of assets is deemed to be a short-term capital gain (STCG) or short-term capital loss (STCL). This rule applies even if the asset was held for many years (i.e., it would otherwise have been a long-term capital asset).
• Computation: The STCG or STCL arises only when the entire block of assets ceases to exist.
• STCG (when block ceases): If the net sale consideration received from the transfer of assets exceeds the opening WDV of the block (plus the cost of assets acquired during the year), the excess is treated as STCG.
• STCL (when block ceases): A STCL arises only when the entire block is sold and the sale consideration is less than the WDV of the block.

(c) WDV under Section 43(6)

WDV stands for Written Down Value. Section 43(6) of the Income Tax Act provides the definition for WDV, which is critical for computing depreciation under the WDV method for assets used in business or profession (Section 32).

WDV is calculated differently based on when the asset was acquired:

• For assets acquired in the current previous year: Depreciation will be calculated on this cost.
• For assets acquired before the current previous year:

  WDV = Actual cost of the asset - Aggregate of depreciation actually allowed or allowable to the assessee

  Note: Only depreciation allowed/allowable under the Income Tax Act, 1961 (or earlier Acts) is reduced. Depreciation claimed for non-tax purposes is ignored.

• For a block of assets:

  The WDV of a block of assets at the beginning of the previous year is calculated as:

  • WDV of the block at the end of the preceding previous year;
  • ADD: Actual cost of any asset falling within that block acquired during the current previous year;
  • LESS: Money payable in respect of any asset falling within that block that was transferred (sold, scrapped, destroyed) during the current previous year;
  • LESS: The amount of depreciation actually allowed for the preceding previous year.

  The resulting amount is the WDV on which the current year’s depreciation is calculated.