Budget 2024: Indexation benefits for property sales eliminated. What does that mean? How does it impact you?

Budget 2024: Finance Minister Nirmala Sitharaman introduced significant revisions to capital gains taxation, focusing particularly on real estate transactions in the Union Budget 2024. While these changes aim to reduce taxpayers' burden, they might pose a dual challenge for individuals looking to sell properties or engage in real estate transactions. 

The updated tax regulations will increase tax obligations related to long-term capital gains on property sales. Before the announcement, the government taxed long-term capital gains (LTCG) from property sales at 20% with indexation benefits. According to the Budget documents, the new tax rate for LTCG on property sales will be 12.5% without indexation benefit. 

The budget eliminated the indexation benefit, which previously enabled property owners to adjust their purchase price for inflation, thereby reducing taxable profits.

Put simply, you'll now face a reduced tax rate (12.5%) on capital gains from property sales, but without the ability to lower taxable profits through indexation. This change could lead to a higher tax payment compared to the previous system. Investors should be aware that the removal of the indexation benefit applies not only to property sales but also to other unlisted asset classes, such as gold.

The budget document reads, “With the rationalisation of rate to 12.5%, indexation available under second proviso to Section 48 is proposed to be removed for calculation of any long-term capital gains, which is presently available for property, gold and other unlisted assets. This will ease computation of capital gains for the taxpayer and the tax administration.”

Interpreting the indexation concept

Inflation erodes the purchasing power of money over time. Adjusting the purchase price for inflation reduces the taxable capital gain, which may result in lower tax payments. Without the indexation benefit, taxes are calculated based on the original purchase price without adjusting for inflation. This could lead to a higher taxable capital gain despite the lower LTCG rate. Essentially, while the tax rate is reduced, the taxable amount might be higher due to the absence of inflation adjustment, potentially resulting in increased taxes.

For example, if you purchased a property for ₹25 lakhs in 2000 and sold for ₹1 crore in 2024, the indexed purchase price would have been adjusted for inflation, substantially reducing the taxable gain.

The Ministry of Finance highlights that this change aims to benefit the middle class by streamlining the tax approach. Nirmala Sitharaman said, “We wanted to simplify the approach to taxation, especially for capital gains. The average taxation has come down. When we say it is 12.5%, it is because we have calculated it for each of the different classes. We have brought it down to 12.5%, which is the lowest in several years, encouraging investment in the market.”

Should taxpayers be concerned?

The elimination of indexation benefits is a significant concern for numerous investors in the real estate market, especially for those holding properties over the long term. In the absence of indexation, it is anticipated that the taxable capital gain on real estate sales will increase, increasing the sellers' tax burden. This might have a big effect on their acquisition's net profit. The higher tax obligation might reduce the total return from the sale, discouraging real estate investment—particularly for those with longer holding periods where inflation is more significant.

Feroze Azeez, Deputy CEO, Anand Rathi Wealth, shared, “With the marginal increase in LTCG from 10% to 12.5%, long-term investors might be paying slightly higher taxes. However, with the exemption limit raised to ₹1.25 lakh, small investors will see modest benefits.”

Balwant Jain, a tax and investment expert, said, “There are two ways of looking at it. There is a positive effect and a negative outcome, too, depending on myriad factors. The government has done away with the indexation benefit but, at the same time, has brought down the taxation rate, too. When clubbed together, the two changes may benefit some, though they may affect others’ tax liability in a big way, like when the asset was bought or at what price it was purchased. It all depends on the difference between the purchase price and the sale price. If the gap is too large, the loss of indexation benefits may pinch, but if the difference is too small, investors will benefit from the reduced tax rate.”

Chaos in the real estate market

These concerns are evident in the real estate sector's negative response to the budget announcement. Real estate dealers fear that the tax changes could diminish real estate's appeal as an investment compared to other options, exacerbating concerns among investors already grappling with increased taxation.

The recent budget amendments concerning LTCG on property sales present a complex scenario for the real estate market. Real estate stakeholders are deeply concerned about these changes. With real estate prices soaring in recent years due to improved infrastructure and expanded loan options, the elimination of indexation benefit is expected to have a significant impact by potentially increasing the tax liability on property transactions. 

Despite a reduction in the LTCG tax rate, these revisions may result in higher taxes for those selling properties.

The enduring demand for residential units fueled by end-users will persist. Moreover, the ingrained desire among many Indians to profit from real estate suggests that the impact of recent tax regulation changes may only temporarily dampen enthusiasm. This hints at a potential decline in short-term investment demand from those primarily focused on maximising profits.