The Mumbai Bench of the Income Tax Appellate Tribunal (ITAT) has held that an assessee cannot be denied exemption under Section 54 of the Income Tax Act merely because the new residential property was purchased from her husband. 

The bench of  Amit Shukla (Judicial Member) and Vikram Singh Yadav (Accountant Member) has rejected the Income Tax Department’s allegation that the transaction was a colourable device adopted to evade tax.

The assessee had originally acquired two residential flats in Mumbai jointly with her husband in 2002. Subsequently, in April 2017, her husband gifted his undivided share in the property to her through a registered gift deed, making her the exclusive owner of the property.

The flats were later sold in January 2020, resulting in long-term capital gains of approximately ₹4.22 crore. Against these gains, the assessee claimed exemption under Section 54 after purchasing another residential property from her husband for about ₹3.85 crore and paying the applicable stamp duty.

However, the Assessing Officer (AO) denied the exemption of approximately ₹3.97 crore and added the amount back to the assessee’s income.

The department raised multiple objections against the Section 54 claim.

Firstly, it alleged that the assessee’s husband was the real or economic owner of the original property sold because the assessee had allegedly failed to establish that she had contributed towards its purchase consideration when the flats were acquired in 2002.

Secondly, the AO contended that since the new residential property was purchased from the assessee’s husband, the transaction effectively amounted to a person purchasing property from himself, thereby making the exemption unavailable.

The Department also invoked the clubbing provisions under Section 64(1)(iv), arguing that because the husband had gifted his share in the original property to the assessee, he remained the deemed owner for tax purposes.

Further, the AO alleged that funds moved between the assessee, her husband, and a private company in which both were directors, indicating a circular movement of money and suggesting that the arrangement was merely a tax avoidance mechanism.

According to the Revenue, the transaction represented a “colourable device” designed to claim an artificial exemption under Section 54.

The assessee argued that the Revenue’s position was contradictory.

She submitted that if the Department considered her husband to be the true owner of the original property, then the capital gains themselves ought to have been assessed in his hands. Having assessed the entire capital gain in her hands, the Department could not simultaneously deny the corresponding Section 54 exemption by asserting that she was not the real owner.

The assessee further pointed out that after the registered gift deed executed in 2017, she became the exclusive owner of the property. Rental income from the property had also been offered to tax in her hands. The sale deed was executed by her individually, and the sale consideration was received directly into her bank account.

Regarding the alleged rotation of funds, the assessee explained that sale proceeds had initially been parked in fixed deposits and advanced to a company before being received back and utilized for payment towards the new property. She maintained that the purchase consideration was fully paid within the permissible statutory period.

After examining the documents and transactions, the ITAT found merit in the assessee’s contentions.

The Tribunal noted that the original property had been sold by the assessee in her individual capacity and the entire sale consideration had been received by her and taxed in her hands. Therefore, the Revenue could not disregard her ownership while simultaneously taxing the gains arising from the sale.

The Bench also observed that the new residential property was acquired through a registered agreement and that the ownership of the property in the husband’s name prior to the transfer was undisputed.

On the allegation of fund rotation, the Tribunal held that the Assessing Officer had focused only on the transactions occurring on a single date and ignored the larger sequence of events. The record showed that the assessee had initially parked funds in fixed deposits and with a company before receiving them back and utilizing them for payment towards the purchase of the residential property.

The Tribunal further accepted the assessee’s submission that the investment had been completed within the extended time limits available under the Taxation and Other Laws (Relaxation and Amendment of Certain Provisions) Act, 2020 (TOLA).

The ITAT emphasized that the original residential property was sold on 9 January 2020 and the replacement residential property was purchased through a registered agreement dated 18 March 2021. The consideration had substantially been discharged by 12 March 2021.

Since the purchase fell within the statutory period prescribed under Section 54 and the investment conditions stood satisfied, the exemption could not be denied.

Rejecting the Revenue’s stand, the Tribunal directed the Assessing Officer to allow the entire exemption claimed under Section 54.

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