Taxpayers or assessees who acquire capital gains can avail of tax deductions under Section 54EC of the Income Tax Act 1961. This section allows taxpayers to save on tax on any capital gains or profits that they might accrue following the transfer of one or more long-term or original capital assets.
Application of Section 54EC:
Taxpayers can only avail of the benefits and deductions provided by Section 54EC if the following criteria has been satisfied:
- The asset that has been transferred by the assessee must be a long-term capital asset, and the transfer of such an asset should result in long-term capital gains or profits.
- The transfer of the long-term capital asset in question should have taken place post April 1st 2000
- The capital gains or profits received by the assessee from the transfer of the long-term capital asset, either completely or partially, must be invested in the long-term specified asset
- These long-term specified assets are any of the following:
- Bonds issued by the National Bank of Agriculture and Rural Development (NABARD), which are redeemable following the completion of three years
- Bonds issued by the Small Industries Development Bank of India (SIDBI), which are redeemable following the completion of three years
- Bonds issued by the National Highways Authority of India (NHAI), which are redeemable following the completion of three years
- Bonds issued by the National Housing Bank, which are redeemable following the completion of three years
- Bonds issued by the Rural Electrification Corporation Ltd (REC), which are redeemable following the completion of three years
- The investment in the long-term specified asset takes place within a duration of six months following the date of the transfer of the long-term or original asset
- As per the provisions outlined in Section 54EC(1), any investment that the assessee has made over the course of any financial year, must not be more than Rs 50 lakhs
- The assessee will not be able to claim tax deductions under Section 80C, should any investment of capital gains be made in the bonds mentioned previously.
Tax Deductions Under Section 54EC Based On Amount Invested:
The assessee can avail of tax deductions under 54EC depending on the amount of capital gains he or she has invested. This can be explained in the following way:
- Full Investment - Should the assessee fulfill or meet the conditions or criteria mentioned above, then the assessee will be eligible to avail of tax deductions of the full amount of the capital gains or profits provided the complete amount accrued by the assessee is invested in the specified long-term asset.
- Partial Investment - Should the assessee fulfill or meet the conditions or criteria mentioned above, but only a partial amount of the capital gains accrued by the assessee is invested in the specified long-term asset, then the assessee can only claim deductions up to a proportionally similar amount to the amount he or she has invested.
Illustrations of Deduction Under Section 54EC:
An assessee can only claim deductions or exemption under Section 54EC up to the amount of capital gains that he or she has invested in the long-term specified asset provided that the investment has taken place prior to the completion of six months from the asset transfer date.
Full Investment Illustration:
If an assessee has accrued capital gains of Rs 15 lakhs on the transfer of assets, and has invested the entire amount of Rs 15 lakhs in bonds mentioned under Section 54EC, then the entire amount invested will be exempt from tax.
Partial Investment Illustration:
If an assessee has accrued capital gains of Rs 15 lakhs on the transfer of assets, and has invested the a partial amount of Rs 10 lakhs in bonds mentioned under Section 54EC, then only the amount of Rs 10 lakhs will be exempt from tax, while the assessee will be liable to pay tax on the remaining amount of Rs 5 lakhs
Maximum Limit Permitted Under Section 54EC:
As per the provisions outlined under Section 54EC, the maximum amount of investment that an assessee can make in long-term specified assets or bonds mentioned under Section 54EC, cannot be more than Rs 50 lakhs over the duration of a financial year. However, it should be noted that the period of six months from the date of the transfer of the asset, during which the capital gains investment must be made, cannot include any portion of the following financial year.
This can be further explained by the following illustration:
If Mr. X has accrued capital gains to the amount of Rs 1 crore as on January 1st 2014, he will not be eligible to claim exemption on this amount under Section 54EC should he make an investment of Rs 50 lakhs in long-term specified assets prior to March 31st 2014, nor will he be able to claim exemption under Section 54EC should he make an investment of Rs 50 lakhs in long-term specified assets after March 31st 2014, by stating that both investments have been made in two different financial years.
Lock In Period Specified Under Section 54EC:
As per the provisions outlined under Section 54EC, the following conditions apply with regards to the lock in period of any capital gain investment:
- Should an assessee invest in any of the bonds specified under Section 54EC, then these bonds are not eligible to be either transferred or redeemed for cash prior to the completion of three years from the date they were acquired. In other words, a lock in period of three years will be applicable for such bonds.
- Should these bonds be either transferred or redeemed for cash, then the capital gain amount invested by the assessee in these bonds will not long be eligible for exemption under Section 54EC, and will be considered as long-term capital gain acquired during the year prior to the transfer or redemption of such bonds.
- Should the assessee opt to take out a loan on the bond’s security, then this act will be considered to be a conversion of the long-term specified asset into cash on the same date that the loan was acquired.
Other Exemptions Permitted Under Section 54EC:
Section 54EC also allows taxpayers or assessees to claim deductions or exemptions under certain other circumstances, such as:
Bonds Acquired or Purchased Jointly By Two Individuals:
Section 54EC also states that any investment of capital gains made in bonds or long-term specified assets made jointly by the assessee in question and a second person, will still be eligible for exemption provided that the capital gains or profits utilised to make the investment can be traced back to the sale of the original asset. This condition was primarily included in Section 54EC in order to promote infrastructural development, wherein any investment made in long-term specified assets need not solely be in the name of the assessee in question.
A taxpayers or an assessee can also claim tax deductions on the sale or transfer or any depreciable asset that has been in his or her possession for a period exceeding 36 months. Although any profit or capital gain arising from the sale or transfer of a depreciable asset is considered to be a short term capital gain, Section 54 does not consider depreciable assets to be short-term capital assets. Hence, even if the assessee in question fulfils the necessary criteria laid down under Section 54E, then he or she will be eligible to claim benefits or deductions under this particular section.
Non-Availability of Long-Term Specified Assets:
Should an event arise wherein an assessee is unable to invest the capital gains or profits he or she has acquired from the sale or transfer of a long-term capital asset, within the time frame of 6 months, due solely to the non-availability of long-term specified assets or bonds mentioned as per Section 54EC, then the assessee can still claim for tax deductions under Section 54EC. In this case, the assessee in question will have a legitimate and genuine reason for not investing his or her capital gains in the bonds during the specified six month duration, provided that the assessee has made the investment once the bonds were available again.
In some cases the capital gains or proceeds that an assessee receives following the sale or transfer of a long-term capital asset is made in the form of instalments. However, if the assessee makes an investment in long-term specified assets within the six month period following the receipt of the installments, then the assessee can claim tax exemption on the capital gain amount invested under Section 54EC.
Closure of Subscription:
An assessee can still claim for deduction or exemption under Section 54EC in the event of closure of subscription. Should he or she be unable to invest in bonds due to such closure, then any investment in these long-term specified assets made even after the expiration of the six month period is still eligible for exemption or tax deduction under Section 54EC.
FAQs on Section 54EC:
- What is the interest rate offered by the bonds that are specified under Section 54EC
The interest rate offered by bonds specified under Section 54EC is 6% per year.
- How is the interest earned from these bonds taxed?
Interest earned from these bonds is not free from tax. Any interest earned by the assessee on these bonds will be taxed in full.
- Can an assessee claim tax deductions on capital gains of more than Rs 50 lakhs?
No. The maximum amount of capital gains that an assessee can claim exemption or tax deductions over the course of a financial year is Rs 50 lakhs. This means that even if the assessee in question earns capital gains or profits of Rs 80 lakhs for example following the sale of long-term capital assets, he will be eligible to claim exemptions only on Rs 50 lakhs as per Section 54EC, provided he invests this amount in long-term specified assets, while the remaining amount of Rs 30 lakhs will be taxable in its entirety.
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