Legal minefield: Decoding capital gains tax on the sale of leasehold and tenancy rights

It is an accepted legal position that such rights are capital assets and thus liable for capital gains tax. Capital gains on the transfer of leasehold rights is computed by taking into account the sale consideration received on the transfer of such rights and deducting the cost incurred for acquiring these rights.

Deemed sale consideration introduced in 2003

In 2003, the Indian Income-tax Act added a rule (Section 50C) stating that if you sell a property (land, building, or both) for a price lower than the value assessed by the government for stamp duty purposes, then for income tax calculations, the government will consider the higher stamp duty value as your sale price, not your actual lower selling price.

For example, if a taxpayer sells a plot of land for ₹1 crore and the land was valued at ₹1.25 crore for the purpose of stamp duty, he is required to pay capital gains tax based on a sale value of ₹1.25 crore and not ₹1 crore.

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The issue of whether Section 50C covers tenancy rights has been raised before various appellate authorities.

Judicial position on tenancy rights

In the case of Atul G. Puranik, a Mumbai tribunal rendered a decision in 2011, holding that Section 50C applied only to assets in the nature of ‘land or building or both’. Leasehold rights are neither land nor building, so it was held that these provisions would not apply. This view was upheld in two other cases – CIT vs Heatex Products Pvt. Ltd, and CIT vs Greenfield Hotels and Estates Pvt. Ltd.

However, this legal position was reviewed by the Nagpur bench of Bombay High Court in the case of Vidarbha Veneere Industries Ltd vs ITO in 2022. The court took a contrary view in its judgement on 1 April 2025. It said that even though the language of the provision referred to ‘land or building or both’, there are a number of ways in which land or building can be held – as owner, lessee, sub-lessee, allottee, tenant, licensee, gratuitous licensee or any other mode permissible or recognised by law. In other words, the holding of land is merely a method through which rights to the land can be held or acquired by a person. The court concluded that leasehold rights would also be covered by Section 50C. 

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Hence, when computing capital gains tax on the transfer of leasehold rights, one needs to find the valuation of such rights for the purpose of payment of stamp duty. This will be considered as the sale value if it is lower than the sale consideration received by the taxpayer.

Challenges for taxpayers

Following the ruling, taxpayers must be cautious when calculating their capital gains on the transfer of leasehold/tenancy rights. They need to value such rights for the purpose of stamp duty payment, which may result in a larger amount of capital gains tax if the valuation adopted is higher than the actual sale consideration.

This may also pose another challenge to taxpayers in cases where the consideration received on the transfer of leasehold/tenancy rights has been invested and an exemption from capital gains tax has been claimed under sections 54, 54F or 54EC. 

On 12 March 2019, the Bombay High Court held in the case of Jagdish C. Dhabalia vs ITO that for the purpose of 54F, the deeming fiction of Section 50C would apply and the enhanced sale consideration would be considered for the purpose of investments and consequential exemption.

(‘Deeming fiction’ is a legal concept where a statute or law declares something to be true, or to have happened, even if it is not true or has not happened in reality. The purpose is to allow specific legal rules or consequences to apply as if that fictional state of affairs were true. It's an artificial construction used to extend the literal meaning of a law, simplify its application, or prevent loopholes.)

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For example, say a taxpayer sells leasehold/tenancy rights in a property for ₹1 crore and reinvests the amount in the specified assets to get an exemption from capital gains tax. Ordinarily, the entire income would be exempted from tax. However, if the tenancy rights on the property is valued at ₹1.25 crore for the purpose of stamp duty valuation, as per Section 50C, he would be required to pay capital gains tax on ₹1.25 crore sale amount. Hence, the additional ₹25 lakh would be considered as capital gains and he would have to pay tax on it.

Dharmesh Shah practises as a counsel in the Income-tax Appellate Tribunal and high court for income tax matters.