Thursday, May 9, 2013

[aaykarbhavan] Article on Section 54 / 54 F



Physical structure of new houses isn't impediment to section 54/54F deduction

[2013] 32 taxmann.com 365  (Article)
Physical structure of new houses isn't impediment to section 54/54F deduction
An analysis of CIT v. Gita Duggal[2013] 30 taxmann.com 230 (Delhi)
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DINDAYAL DHANDARIA
CA
Sections 54 and 54F of the Income-tax Act, 1961, grant exemption from long-term capital gains for purchase/construction of "a residential house". It has been a contentious issue whether the prefix "a" has been used before the words "residential house" in grammatical sense of an indefinite article or in the numerical sense of a unit or one.
In a recent judgment of the Delhi High Court in CIT v. Gita Duggal[2013] 30 taxmann.com 230, it is for the first time that a High Court has held that the Legislature has not prescribed any particular structural design, floor plan, etc., according to which a residential house is required to be built for claiming exemption under section 54/54F. As per the High Court, the assessee has the freedom to construct a residential house according to his choice, requirement and future plans. It is a welcome decision for the assessees.
Moreover, this judgment reaffirms the judgment of the Karnataka High Court in Basappa's case that the prefix "a" has been used in a grammatical sense of an indefinite article and justifies the exemption for purchase/construction of more than one dwelling unit.
The author has also drawn attention to fresh controversies likely to arise after the judgment in Gita Duggal's case.
Introduction
1. Sections 54, 54B, 54D, 54E, 54EA, 54EB, 54EC, 54ED, 54F, 54G, 54GA, 54GB and 54H of the Income-tax Act, 1961 ("the Act") provide for situations when no tax on capital gains would be charged. In this article, only a particular issue relating to exemptions under sections 54 and 54F of the Act has been discussed. Under both the provisions exemptions are available for purchase/construction of "a residential house", subject to various conditions stipulated therein. This article is about the interpretation of the expression "a residential house" by the Delhi High Court in Gita Duggal's case and few other judicial precedents on the issue.
Relevant Provision
2. Briefly stated, Section 54 of the Act provides for exemption in respect of long-term capital gains arising from the transfer of a residential house. This exemption is available only to an individual or a Hindu Undivided Family. This exemption is subject to fulfilment of certain conditions by the transferor regarding purchase/construction of a new house. The amount of exemption depends upon the fact, whether the amount of capital gain is greater than or less than the cost of the new residential house?
Section 54F of the Act provides for similar exemption in respect of long-term capital gains arising from the transfer of a long-term capital asset, other than a residential house. In order to gain full exemption under section 54(1)(a) only the whole of the amount of capital gains arising from transfer of the original asset needs be invested in the purchase or construction, as the case may be, of the new asset. The requirement under section 54F(1)(a) demands the investment of the entire 'net consideration' on such purchase or construction, as the case may be.
Background of the contentious issue
3. It has been a contentious issue whether several independent dwelling units (e.g., flats in multi-storied complexes) can be said to form "a residential house". Where such dwelling units were found to be contiguous or inter-linked and had "unity of structure" and "common use", the Courts had no difficulty in ruling that such independent units together could be construed as "a residential house". In cases where such dwelling units were located on different floors of a building and had common kitchen or were inter-linked with staircases, it was held that the said separate units could be treated as "a residential house".
Although, with reference to the provisions of Section 13(2) of the General Clauses Act, 1897, it was held that in all Central Acts or Regulations, the words in singular shall include plural and vice versa,unless there is anything repugnant in the subject or context, yet this proposition was used by Courts with caution. Where different independent dwelling units were situated on different floors in a building complex, this proposition was pressed into service to hold that such dwelling units constituted "a residential house". But where independent houses were situated at different locations, distinction was made by the Courts by resorting to the principle of "substance over form".
In CIT v. D. Ananda Basappa [2009] 180 Taxman 4 (Kar.), it was held that expression 'a residential house' as occurring in section 54(1) should be understood in a sense that building should be residential in nature and 'a' should not be understood to indicate a singular number and when an HUF's residential house is sold and members of HUF, keeping in view future needs in event of separation, invest capital gain in purchasing more than one residential building, benefit of exemption under section 54(1) would be available to HUF, if the apartments are situated side by side. [Note: Special leave petition against the above judgment was dismissed by the Apex Court.]
The Judgment of the Delhi High Court in the case of CIT v. Gita Duggal[2013] 30 taxmann.com 230 (Delhi)
4. Recently, in CIT v. Gita Duggal [2013] 30 taxmann.com 230,the Delhi High Court was confronted with the issue that where an assessee obtained two separate residential units having separate entrances, whether he was entitled to exemption in respect of the cost of construction of one unit or both? While deciding the issue in favour of the assessee, the Court not only concurred with the judgment of the Karnataka High Court in D. Ananda Basappa's case (supra), but explained in detail the provisions of law in this regard.
4.1 The brief facts of the case - In this case, the assessee, an owner of a property, being desirous of getting the property redeveloped/reconstructed, engaged a builder to develop the property for and on behalf of the owner at the cost of the builder. The builder was entitled to keep the third floor of the developed property and hand over the rest to the assessee, in addition to an agreed monetary consideration. The assessee claimed exemption in respect of the two floors so obtained. The Assessing Officer rejected the claim of the assessee for deduction under section 54 on the footing that the two floors obtained by the assessee contained two separate residential units having separate entrances and could not qualify as a single residential unit. He agreed that the assessee was eligible for the relief under section 54F in respect of the cost of construction incurred on one unit. In other words, the Assessing Officer interpreted the provisions of section 54F as if the prefix "a" meant one residential house.
4.2 Contention of the assessee - The assessee strongly relied upon the judgment of the Karnataka High Court (supra) which, it is stated, has become final- the special leave petition filed by the revenue against the said decision having been dismissed by the Supreme Court, as reported in the annual digest of Taxman publication. The judgment of the Karnataka High Court supports the contention of the assessee.
4.3 Contention of the Revenue - An identical contention raised by the revenue before that Court was rejected in the following terms:
"A plain reading of the provision of section 54(1) of the Income-tax Act discloses that when an individual-assessee or Hindu undivided family- assessee sells a residential building or lands appurtenant thereto, he can invest capital gains for purchase of residential building to seek exemption of the capital gains tax.
Section 13 of the General Clauses Act declares that whenever the singular is used for a word, it is permissible to include the plural."
The contention of the Revenue was that the phrase "a" residential house would mean one residential house and it does not appear to the correct understanding. The expression "a" residential house should be understood in a sense that building should be of residential in nature and "a" should not be understood to indicate a singular number."
This judgment was followed by the same High Court in the decision in CIT v. Smt. K.G. Rukminiamma[2011] 196 Taxman 87 (Kar.)
4.4 Analysis of the ruling of the High Court - It is for the first time that a High Court has held that the Legislature has not prescribed any particular manner, (e.g., structural design, floor plan, etc.) according to which a residential house is required to be built. As per the High Court, an assessee has the freedom to construct a residential house according to his choice, requirement and future plans. It is a welcome decision for the assessees.
The Hon'ble Delhi High Court agreed with the rulings of the Karnataka High Court in the cases of B. Ananda Basappa and Smt. K.G. Rukminiamma (supra), that the prefix "a" before the expression "residential house" has been used by the Legislature in the grammatical sense of an indefinite article and not in the numerical sense of a unit or one.
The findings of the Court have been summarised as follows:
"Sections 54 and 54F use the expression "a residential house". The expression used is not "a residential unit". Therefore, the physical structuring of the new residential house, whether it is lateral or vertical, should not come in the way of considering the building as a residential house.
  Section 54/54F requires the assessee to acquire a "residential house".
  So long as the assessee acquires a building which may be constructed for the sake of convenience, in such a manner as to consist of several units which can, if the need arises, be conveniently and independently used as an independent residence, the requirement of the section should be taken to have been satisfied.
  There is nothing in these sections which require the residential house to be constructed in a particular manner.
  The only requirement is that it should be for the residential use and not for commercial use.
  If there is nothing in the section which requires that the residential house should be built in a particular manner, the income-tax authorities cannot insist upon that requirement.
  A person may construct a house according to his plans and requirements.
  Most of the houses are constructed according to the needs and requirements and even compulsions.
  For instance, a person may construct a residential house in such a manner that he may use the ground floor for his own residence and let out the first floor, having an independent entry so that his income is augmented. It is quite common to find such arrangements, particularly post-retirement.
  One may build a house consisting of four bedrooms (all in the same or different floors) in such a manner that an independent residential unit consisting of two or three bedrooms may be carved out with an independent entrance so that it can be let out.
  He may even arrange for his children and family to stay there, so that they are nearby, an arrangement which can be mutually supportive.
  He may construct his residence in such a manner that in case of a future need he may be able to dispose of a part thereof as an independent house.
  There may be several such considerations for a person while constructing a residential house. One is unable to see how or why the physical structuring of the new residential house, whether it is lateral or vertical, should come in the way of considering the building as a residential house.
  The fact that the residential house consists of several independent units cannot be permitted to act as an impediment to the allowance of the deduction under Section 54/54F. It is neither expressly nor by necessary implication prohibited.
Judicial precedents holding that several dwelling units constitute "A residential house" when examined in the light of Gita Duggal's Case
5. Even prior to Gita Duggal's case (supra), various Tribunals and High Courts were called upon to decide whether several dwelling units would constitute "a residential house"? Following cases were decided in favour of the assessee on the basis of facts and reasonings which differed from that in Gita Duggal's case:
5.1 Case of Shiv Narain Choudhari v. Commissioner of Wealth Tax - In the case of Shiv Narain Choudhari v. Commissioner of Wealth- tax [1977] 108 ITR 104, the Allahabad High Court held that where a house consisted of more than one self-contained dwelling unit and if there is unity of structure, mere fact that such self-contained dwelling units were occupied by different persons, will not make that house into several houses. [Thus, the reasoning behind the High Court's judgment was "unity of structure".]
5.2 Case of K.G. Vyas v. Seventh ITO - In K.G. Vyas v. Seventh ITO [1986] 16 ITD 195 (Bom.), the ITAT Bombay Bench "B", exemption in respect of investment in four flats was allowed where the assessee purchased four flats in same building - two flats were on first floor and one flat each on second and third floor and the assessee was living in these flats with his big family with a common kitchen and a common ration card. [Thus, the reasoning behind the Tribunal's decision was common use of several flats.]
5.3 Case of Asstt. CIT v. Leela P. Nanda - In Asstt. CIT v. Leela P. Nanda [2006] 102 ITD 281 (Mum.), the Tribunal held that where two contiguous flats were converted into a single residential premise, these had to be treated as a residential house for purpose of section 54. [Thus, the reasoning behind the Tribunal's decision was 'contiguity' of flats.]
5.4 Case of Prem Prakash Bhutani v. Asstt. CIT- In Prem Prakash Bhutani v. Asstt. CIT [2009] 31 SOT 38 (Delhi)(URO), the assessee had invested money in three flats to be used for his residence, as his married son along with his family and widowed daughter and her family were living with him. It was held that the fact that residential house consisted of several independent units could not be an impediment to allowance of exemption under section 54. [Thus, the reasoning behind the Tribunal's decision was user of several independent units according to the requirement of the family.]
5.5 Case of CIT v. Smt. Jyothi K. Mehta - In CIT v. Smt. Jyothi K. Mehta [2011] 12 taxmann.com 440 (Kar.), it was held that the expression 'a residential house' should be read in consonance with other words 'buildings' and 'lands' and, therefore, the singular 'a residential house' also permits use of plural by virtue of section 13(2) of the General Clauses Act and as two units were situated side by side, modifications were made anddoor was opened making them as a single unit, assessee was entitled to benefit of section 54. [This ruling of the Karnataka High Court is based upon facts.]
5.6 Case of ITO v. P.C. Ramakrishna (HUF) - In ITO v. P.C.Ramakrishna, [2007] 108 ITD 251 (Chennai - Trib.), the assessee acquired two flats, one on ground floor and the other on third floor. The reason stated by the assessee for acquiring the ground floor was that the assessee's mother who was entitled to be provided with accommodation by the assessee was to stay in the property and she was finding it difficult to stay on the upper floor due to her old age and health. The assessee's mother was staying on the ground floor and they were having common kitchen on ground floor flat and there was no kitchen on third floor flat. These flats fell under one building, i.e., ground floor and third floor. The desire of the assessee was that these two flats were to be used as one house. [Note: In this case, the two residential units were physically separated inasmuch as one was on ground floor and the other on third floor. This fact did not restrain the Tribunal in holding that the investment was in "a residential house"].
From a perusal of the cases cited above, it is abundantly clear that, though the cases were decided in favour of the assessees, yet the Courts did not decide the issue as to whether expression "a residential house", "a" is used in grammatical sense as an indefinite article or in the numerical sense of a unit or one?
Judicial precedents in cases where the property was situated at different locations
6. In the following cases, the Courts found that different independent dwelling houses were situated at different locations and ruled against the assessees. These judgments were rendered prior to the judgment in Gita Duggal's case (supra). An attempt is made herein to examine whether the judgment would have been different if the Gita Duggal's case (supra) was decided prior to these judgments:
6.1 In Dy. CIT v. Ranjit Vithaldas Lokupavan [2008] 25 SOT 420 (Mum.) - The ITAT Mumbai Bench 'A', denied exemption under section 54 where properties were situated at two different places without being adjacent to each other and without having common passage. [In a case like this, the Delhi High Court's judgment in Gita Duggal's case (supra) is likely to be differentiated by applying the principle of "substance over form"].
6.2 In Pawan Arya v. CIT [2011] 11 taxmann.com 312 (Punj. & Har.) - The assessee was not allowed exemption on capital gains in respect of acquisition of two independent houses situated in two different locations. [In a case like this, the Delhi High Court's judgment in Gita Duggal's case (supra) is likely to be differentiated by applying the principle of "substance over form"].
6.3 In Neville J. Pereira v. ITO [2010] 8 taxmann.com 68 (Mum.) - The assessee had made investment in four new residential flats which were situated at different floors of building. Exemption under section 54F of the Act was denied as the four flats being full-fledged residential units having separate kitchen and separate entrance and located at different floors, could not be said to be contiguous units converted into one residential house. [Had the judgment of the Delhi High Court been rendered prior to this judgment, the ruling in this case could have been in favour of the assessee.]
6.4 In Dy. CIT v. Chaturbhuj Vallabhdas (HUF) [2011] 9 taxmann.com 96/130 ITD 230 (Mum.) - In view of fact that three flats were three independent residential units having separate kitchens and separate entrances and were located at different floors deduction was allowed only in respect of one flat as per choice of the assessee. [Had the judgment of the Delhi High Court been rendered prior to this judgment, the ruling in this case could have been in favour of the assessee.]
6.5 In Smt. Myrtle D'Souza v. ITO [2012] 24 taxmann.com 261 (Mum.) - ITAT Mumbai Bench 'B', it was held that two flats situated on different floors would not constitute one house for purpose of benefit of exemption under section 54 where there was no unity of construction between there two flats. As such, benefit of exemption was to be limited to one flat. [Had the judgment of the Delhi High Court been rendered prior to this judgment, the ruling in this case could have been in favour of the assessee.]
6.6 In Prabhandam Prakash v. ITO [2008] 22 SOT 58 (Hyd.) - Several flats were purchased in same building and were contiguous with each other. They were treated as one house and not as several houses for purposes of section 54. But as the assessee occupied two flats for his residence and let out other two flats, assessee was entitled to pro rata exemption under section 54 in respect of two flats occupied by him and not in respect of all four flats. Thus, even contiguous flats were not considered as exempt where the same were not used for residential purposes of the assessee. [Had the judgment of the Delhi High Court been rendered prior to this judgment, the ruling in this case could have been in favour of the assessee.]
Gita Duggal's case may not help the assessees in following situations
7. In Krishnagopal Nagpal v. Dy.CIT[2004] 2 SOT 628, the ITAT Pune Bench, held that notwithstanding the fact that Section 13(2) of the General Clauses Act, 1897, stipulates, inter alia, that in all the Central Acts or Regulations, the words in singular shall include plural and vice versa,unless there is anything repugnant in the subject or context, it is not correct to say for all the words in the singular appearing in any Central Act the plural shall be substituted. It held as follows:
"It is not correct to say for all the words in the singular appearing in any Central Act the plural shall be substituted as that section 13 of General Clause Act means is that the word need to be considered as a 'singular under all circumstances, but it merely indicated the intention of the Legislature that the words may be interpreted in the plural wherever the circumstances required that it should be so construed, in order to get its true import, it is necessary to view the enactment in retrospect, the reasons for enacting it, the evils it was to end and the objects it was to serve. The Act has, therefore, to be viewed as a whole and its intention determined by construing all the constituent parts all the Act together and not be taking one word here and another from there from particular enactment.
The Tribunal observed that it is well known fact that row houses constructed by any builder are separate and independent houses. When somebody purchases seven row houses it cannot be said that the person concerned has purchased "a residential house". The assessee had entered into separate agreement with S Ltd. in respect of all the seven row houses. Each house was independent and separate. Some of the row houses situated adjacent to each other were also divided by a partition wall. The assessee had himself let out only one out of seven row houses. This clearly showed that each row house was capable of being used as one house independently of the other row houses, it was beyond comprehension that seven row houses acquired by the assessee pursuant to seven separate agreements in furtherance to the joint venture agreement could be treated as 'a residential house'."
It is a moot question whether the Gita Duggal's case alters the legal situation in a case like above. While holding the fact that the residential house consists of several independent units cannot be permitted to act as an impediment to the allowance of the deduction under Section 54/54F, the High Court was not oblivious of the spirit and intention of the Legislature that the property purchased/constructed should essentially be "a residential house", to be used for residence and not for commercial purposes. It would be too far-fetched to hold that construction of seven row houses would be in accordance with the spirit and intention of the Legislature.
In a case like above, in the humble opinion of the author, Gita Duggal's case is not likely to help the assessee.
Contradictions in Gita Duggal's case likely to result into fresh controversies
8. It is important to take note of the fact that on the one hand the Delhi High Court holds that the legal requirement is that the constructed property should be for the residential use and not for commercial use, on the other hand, it holds that a part of such property may be let out under certain circumstances. The relevant para 9 of the Order is extracted below and emphasis supplied is for easy and ready reference:
"9. There could also be another angle. Section 54/54F uses the expression "a residential house". The expression used is not "a residential unit". This is a new concept introduced by the Assessing Officer into the section. Section 54/54F requires the assessee to acquire a "residential house" and so long as the assessee acquires a building, which may be constructed, for the sake of convenience, in such a manner as to consist of several units which can, if the need arises, be conveniently and independently used as an independent residence, the requirement of the Section should be taken to have been satisfied. There is nothing in these sections which require the residential house to be constructed in a particular manner. The only requirement is that it should be for the residential use and not for commercial use. If there is nothing in the section which requires that the residential house should be built in a particular manner, it seems to us that the income tax authorities cannot insist upon that requirement. A person may construct a house according to his plans and requirements. Most of the houses are constructed according to the needs and requirements and even compulsions. For instance, a person may construct a residential house in such a manner that he may use the ground floor for his own residence and let out the first floor having an independent entry so that his income is augmented. It is quite common to find such arrangements, particularly post-retirement. One may build a house consisting of four bedrooms (all in the same or different floors) in such a manner that an independent residential unit consisting of two or three bedrooms may be carved out with an independent entrance so that it can be let out. He may even arrange for his children and family to stay there, so that they are nearby, an arrangement which can be mutually supportive. He may construct his residence in such a manner that in case of a future need he may be able to dispose of a part thereof as an independent house. There may be several such considerations for a person while constructing a residential house. We are therefore, unable to see how or why the physical structuring of the new residential house, whether it is lateral or vertical, should come in the way of considering the building as a residential house. We do not think that the fact that the residential house consists of several independent units can be permitted to act as an impediment to the allowance of the deduction under Section 54/54F. It is neither expressly nor by necessary implication prohibited."
It may not always be possible to plead that letting out of a part of a constructed property in the circumstances envisaged by the Court does not amount to "commercial use" thereof and such a user is in accordance with the spirit and intention of the Legislature.
The aforesaid contrary views of the High Court are likely to give rise to fresh controversies.
Conclusion
9. The judgment of the Delhi High Court in Gita Duggal's case (supra) is a welcome decision for the assessees, as it makes it unambiguously clear that an assessee is not prevented by law to purchase/construct different dwelling units/houses, according to its choice, requirement and future plans. Such dwelling units need not be contiguous ones or have "unity of structure" or "common use". An assessee would be entitled to exemption in respect of the aggregate amount invested for purchase/ construction of such dwelling units/houses.
It is important to note that where independent dwelling houses are situated on different floors of a multi-storied building, the assessee would be entitled to exemption on the basis of this judgment. However, this judgment does not deal with the issue where independent dwelling houses are situated in different locations. It is inconceivable that the Legislature intended to grant exemption in such cases also and so, the assessee may not succeed on the basis of the judgment of Delhi High Court in Gita Duggal's case (supra).
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• DT - Secs. 54 & 54F
 


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