Budget tweaks on real estate tax: Who gains and who loses?

What is indexation and how is it calculated?

Indexation is a method through which prices can be calculated while factoring in inflation. Generally, capital gains/loss in a transaction is the difference between the sale price and the purchase price. For assets that have been held for long periods like houses or commercial properties, if the original acquisition price is used for calculating capital gains, the quantum of gains could be disproportionately high. Hence, inflation is also factored in while deciding the cost of acquisition. To calculate indexation, the original price is multiplied by the Cost Inflation Index(CII) during the year of sale and then the result is divided by the CII of the year of purchase.

For instance, a 200-square-yard house purchased in Delhi in 2001 would have cost about Rs 80 lakh and the current market value of the property is Rs 12 crore. In this case, if there is no indexation, capital gains would be Rs 11.2 crore. But if indexation benefit is availed for this transaction, the 2001 acquisition cost becomes Rs 2.9 crore implying a capital gain of only Rs 9.1 crore, calculations showed.

Who gains and who loses under the new rules?

Market experts say the new rules may be beneficial to taxpayers in certain situations.

For instance, properties owned for a shorter duration may benefit from the new regime because the quantum of inflation would not be high. The answer also depends on how much the price of the property has gone up. To put it simply, in cases where the property has not given inflation beating returns, the taxpayer may face additional tax liability under the new regime. However, if the property has appreciated considerably in value and the quantum of gains is higher, then in such cases newer regime may be more beneficial.

“In circumstances, where the property prices are flat and almost matching the market inflation, the seller will be required to pay more taxes at 12.5 percent without benefits of indexation shield," Vivek Rathi, who heads research at Knight Frank India, said.

However, in situations where the property has appreciated at a rate higher than average inflation, taxpayers will be subject to considerably less tax. This is because of the reduced tax rate, from 20% to 12.5%.

Abhilash Pillai, Partner, Cyril Amarchand Mangaldas, said that the removal of indexation benefits means that the RE investors can no longer adjust the purchase price for inflation and this could lead to higher taxable gains.

"This might lead to a short-term increase in property prices as sellers might (upward) adjust prices to offset the lack of indexation benefits," he said.

Experts say these changes may hurt sentiments when it comes to investments in Tier II cities — where property prices appreciate much slower than in metros. Similarly, the changes may adversely impact the mid-segment market (below Rs 1.5 crore ticket size) where the property appreciation rate is at least 10-20 percent lower than in the luxury and high-end segments.

The new regime may also be beneficial for short-term property investors in metro markets, where the prices are appreciating quicker. However, for long-term investors who had invested around 2006 and are looking to sell now, the tax outflow at 12.5 percent will be much higher without the indexation benefits.

Rohit Chopra, founder of proptech company Southdelhiprime.com, said that post-COVID buyers are poised to benefit from the significant appreciation that has occurred in the market since the pandemic.

"Older property owners would look at doing joint-venture collaborations or redeveloping old assets to mitigate 12.5 percent taxes on gains," he added.

Thus, going forward, those who are investing today in high-growth markets will have an edge over people who are buying properties for end-use or for moderate capital gains in the real estate sector.