Home / Money / Personal Finance /  Pagdi system: How amount received from builder will be taxed

My grandfather bought a one room kitchen in Pagdi system at Goregaon West  in Mumbai for Rs. 6,000 in 1960's. Now the original owners of the building have sold the building with its land to a builder. The builder has given an amount of  Rs. 27 lakh to my grandmother (my grandfather expired some 35 years ago) to vacate the premises. How this amount received from the builder will be taxed under Income Tax in her hands? My grandmother is of 85 years of age and does not have any other income. How can we save tax on this amount?

Answer: A person has to pay capital gains tax on the profits realised on sale/transfer of a capital assets. The same may be long term capital gains or short term capital gain depending on the holding period of the asset sold. Basically the Pagdi system is a system under which a tenancy right in a building is purchased and which can be transferred for a price, with the consent of the landlord. So what your grandmother has transferred is her tenancy right which is a capital asset. Any money received over the cost of the tenancy right is to be offered for tax as capital gains. As the tenancy rights were acquired more than 3 years prior to the date of transfer, the profits would be treated as long term capital gains.

Moreover, as the tenancy rights were acquired by your grandfather prior to 1st April 20001, your grandmother has an option to take the Fair Market Value (FMV) of the tenancy right as on 1st April 2001 as cost of the tenancy rights and apply the cost inflation index on such cost to compute the capital gains. For arriving at the FMV of the tenancy rights, you can obtain a valuation certificate from a registered valuer. The difference between money received and indexed FMV is long term capital gains on which tax is payable at flat 20% beyond 5 lakh of basic exemption as she does not have any other income.

She can save tax on such long term capital gains by investing the net consideration for buying/constructing a residential house in her name within specified time limit. The capital gain exemption available will get reduced proportionately if she does not invest whole of the consideration received. Since tenancy right in a residential house is not same as a residential house so she can not avail the exemption under Section 54 by investing the indexed capital gains but will have to invest the net consideration to avail the exemption under Section 54F. Since tenancy right is neither land nor a building she can not avail the tax exemption by investing in capital gains bonds under Section 54EC.

Balwant Jain is a tax and investment expert and can be reached on jainbalwant@gmail and @jainbalwant on Twitter.

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