The Madras high court, in a recent order, has held that the restrictive provisions introduced in the Income Tax (I-T) Act, which call for reinvestment in only 'one' residential house in India for claiming capital gains tax exemption, apply from fiscal April 1, 2014.

The explanatory memorandum to the Finance Bill, 2014, had clarified that the benefit of capital gains tax exemption under section 54 and 54F was intended only in respect of reinvestment in one residential house in India. Thus, on enactment of the Bill, the relevant sections of the I-T Act were amended.

Earlier, the words used in the I-T Act were reinvestment in 'a residential house'. This is now substituted with 'one residential house in India'. Prior to the amendment, there was ambiguity on whether the term 'a residential house' meant a single unit or could include more than one new house.

Tax authorities often disputed the matter when a taxpayer had sold a house or any other long-term capital asset (say land) and reinvested in more than one house. However, courts in several instances passed orders in favour of the taxpayer. Court orders were favourable especially in those instances where the reinvestment was in adjoining flats and joint use by the family could be proven through a common kitchen, or a passage connecting the two flats.

As this issue was litigious, the apprehension was that tax authorities could contend that the amendment made was clarificatory in nature. Thus, it would apply even to pending assessment cases.

"However, the Madras high court's decision, which is the first such decision post the amendment to tax laws, makes it clear that the amendment curtailing reinvestment for the purpose of capital gains tax exemption in only one residential house in India, applies only from April 1, 2014. Thus, this decision will help taxpayers whose cases are currently pending at various levels of litigation," says Surabhi Marwah, tax partner at EY.

In V R Karpagam's case, which was heard by the Madras high court, the taxpayer — under a land development agreement with a builder — was to receive 43.75% of the built-up area after development. This translated into five flats and the taxpayer claimed exemption under section 54F of the I-T Act on the value of the five flats. According to her, there were no taxable capital gains post claiming this exemption for the fiscal year 2006-07.

The Madras high court observed, "Prior to the amendment, it is clear that 'a residential house' would include multiple flats or residential units, as in the present case where the taxpayer has got five residential flats." Hence, the high court ruled in favour of the taxpayer. (Times of India)