When a property is received on inheritance or as a gift, it is not taxable for the receiver. When the inheritor or the receiver of this gift of property sells it, capital gains on the sale are taxable for the inheritor.
The property passed down or transferred to the legal heirs of a deceased person is called as inherited property. Such property received by the legal heir is said to be their inheritance. Legal heirs of a deceased person can be a spouse, children, mother, grandchildren etc. In India, the rules regarding property inheritance are regulated by personal laws like the Hindu Succession Act, 1956, and the Indian Succession Act, 1925.
Legal heirs can inherit property through a will or under the law of succession. A person can also inherit property through a gift deed executed by a family member.
Taxation on income derived from an inherited property can be viewed as income tax imposed on an individual due to his/her inheritance. In many cases, inherited property provides additional income to the new owner, such as interest, rent, etc. As a result, the new owner must declare this additional income while filing income tax returns and pay taxes on it.
In India, the inheritance or estate tax was abolished in 1986. Thus, there is no tax liability at the time of inheritance. However, an owner of inherited property is liable to pay the annual tax under the head 'Income from house property'. The annual value is considered nil for self-occupied property, whereas, for a let-out property, the annual amount is the yearly rent received.
The owner of the inherited property is liable to pay the capital gains tax upon the sale of the inherited property. Any asset received as an inheritance is exempted from gift tax, but the amount received from the asset's sale is not exempted and is taxable under the category of capital gains.
Capital gains can be long-term or short-term, depending on the period for which the asset was held. If the inherited property is owned for two years or more, the income received from its sale is considered a Long Term Capital Gain (LTCG).
For the calculation of capital gains on the sale of inherited property, the holding period will beign from the time when the previous owner bought or acquired that property. Thus, in most cases, an inherited property is eligible for the LTCG tax.
The capital gains on the sale of inherited property are as follows:
The procedure to calculate the capital gains of inherited property is given below:
Step 1: You must know the cost of acquisition and indexation in order to calculate the capital gains.
Step 2: Cost of the property – The property did not cost anything to the inheritor, but for calculation of capital gain the cost to the previous owner is considered as the cost of acquisition of the property.
Step 3: Indexation of cost – The year of acquisition of the previous owner is considered for the purpose of indexation of the cost of acquisition along with the year of sale of the property.
Step 4: The base year for such calculations has been updated from 1981 to 2001.
Step 5: Calculate the cost of capital gains using the formula,
Cost of acquisition x ( Cost inflation index of the year of sale / Cost inflation index of the year of acquisition)
where, Cost Inflation Index (CII) varies every financial year and a few are tabulated below:
Year | CII | Year | CII |
2001-02 | 100 | 2011-12 | 184 |
2002-03 | 105 | 2012-13 | 200 |
2003-04 | 109 | 2013-14 | 220 |
2004-05 | 113 | 2014-15 | 240 |
2005-06 | 117 | 2015-16 | 254 |
2006-07 | 122 | 2016-17 | 264 |
2007-08 | 129 | 2017-18 | 272 |
2008-09 | 137 | 2018-19 | 280 |
2009-10 | 148 | 2019-20 | 289 |
2010-11 | 167 | 2020-21 | 301 |
The Cost Inflation Index (CII) for the financial year 2022-23 is 331.
Step 6: Subtract the cost of capital gain from the selling price of the property to know the net gain of the transaction.
Mr Arora purchased a property on 1 August 2004 for Rs.75 lakh. Neha inherited this property from her father in 2012. However, she decides to sell this house. In May 2014, Neha sold this house for Rs.1.8 crore.
In this case, the cost for calculating Neha’s capital gain shall be Rs.75 lakh and the cost shall be indexed since it’s a long-term capital gain. For the purpose of indexation, the CII for 2004-05 shall be considered.
Therefore, the cost for calculating capital gains for Neha shall be
Rs.75 lakh x CII of 2014-15 / CII of 2004-05
= Rs.75 lakh x 240 / 113
= Rs.1.6 crore.
Therefore, the net gain for Neha is Rs.20 lakh (Rs. 1.8 crore-1.6 crore).
Do note that the date or year of inheritance is of no importance in this calculation.
Taxpayers can save capital gains tax on the sale of inherited property in the following ways:
You can read about how to save capital gains tax here.