Middle class homeowners to be hit hardest as FM revokes indexation benefits in property deals

Middle-income homeowners are likely to face the biggest brunt of Finance Minister Nirmala Sitharaman’s decision to do away with the indexation benefits on real estate transactions, announced in her Budget speech on July 23.

This implies that real estate owners selling their property will no longer be able to adjust their purchase price using inflation, thereby reducing their capital gains.

According to industry experts, a large number of real estate owners, especially those owning residential real estate property, may see their tax burden go up significantly in the absence of indexation benefits. Before the announcement, long-term capital gains (LTCG) from property sales were taxed at 20 percent with the indexation benefits. Under the new tax regime, however, the new tax rate for long-term capital gains on property sales will be 12.5 percent without the indexation benefit.

For instance, if a property bought in 1991-92 for Rs 20,00,000 was sold in FY2009-10 for Rs 80,00,000 (assuming four times price appreciation)  the indexed cost would be Rs 63.51 lakh and long-term capital gains tax payable would be around Rs 3.29 lakh under the old regime. Under the new regime, with 12.5 percent tax, the total tax outgo will be Rs 7.5 lakh for the same transaction value.

"My understanding is that if the selling price of the property as a result of regular market movement is much higher than its computed price through the Cost Inflation Index (CII), then the new regime is beneficial," said Samantak Das, chief economist and head of research at JLL India.

"Experts, however, note that in most cases, especially in non-metro cities, the price of property appreciation has not moved significantly higher than the CII. In the absence of indexation benefits, the tax on the total sale value will cause a bigger dent in the seller’s finances and diminish the attractiveness of real estate as an asset class to some extent.

"For most people in the 1990s and 2000s, owning a home was the preferred investment for a lot of professionals, including IT professionals, and with indexation being present, people knew that they would not need to pay tax on all of their capital gains if they sell the house. The removal of indexation may break real estate as an investment asset class for the middle class," said Abhilash Pillai, partner at Cyril Amarchand Mangaldas.

Real estate stocks fell after the finance minister proposed to eliminate the indexation benefit on calculating LTCG on real estate. The Nifty Realty index was down 2.29 percent in the afternoon trade on July 23. The DLF stock fell more than 6 percent to the day’s low of Rs 778.2, while  Oberoi Realty closed 3.3 percent lower than its previous close at Rs 1,686.75.