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A person can receive inheritance either under a Will or under the personal law of the deceased in case the deceased has not made any Will or even if has made a Will but the assets are not covered under the Will. There is confusion and curiosity about the tax laws applicable on assets inherited by a person. Let us discuss the tax implications of inheriting the assets and selling the inherited assets.

Tax liability at the time of inheriting the asset

Since India does not have any inheritance tax, the person inheriting any asset either under a Will or under the personal law does not have to pay any tax on it. Moreover, Section 56(2)(x) which provides for taxation of gifts received in the hands of the recipient specifically provides for exemption in respect of assets received at the time of inheritance. However, the person receiving the inheritance has to pay tax on the income earned in respect of the assets inherited by him once he becomes owner of the same.

Tax liability at the time of sale and determination of cost in such cases

Though there is no tax at the time of receiving the inheritance but the person has to pay capital gains tax when he sells the inherited asset. Though he does not have any cost of acquisition of the assets inherited but for the for the purpose of capital gains computation purpose his cost of acquisition is the amount which was paid for by the original previous owner. 

In case the asset was acquired prior to 1st April 2001, the seller has the option to substitute fair market value of the asset as on 1st April 2001 as his cost for the purpose of computation of long term capital gains. For arriving at fair market value you can take a valuation certificate from a Registered Valuer. In case of an immovable property, the fair market value of the property cannot be higher than the stamp duty valuation as on 1st April 2001.

Computation of holding period for determining capital gain purposes 

For the purpose of determining whether the capital asset being sold is a long term capital asset or short term capital asset the holding period for the seller has to be computed from the date on which the original owner had purchased the capital assets. Though the law allows you to substitute the cost of the previous owner in case of assets received as inheritance, it does not specifically provide that the indexation benefit shall also be available from the date on which the paid for previous owner had acquired it. A strict reading of the law says that the indexation will be available from the date on which the seller got to own the asset.

However some of the judicial pronouncements like  CIT Vs. Gautam Manubhai Amin  of Gujrat High Court,  Arun Shungloo Trust Vs. CIT  of Delhi High Court and CIT Vs. Manjula J. Shah of  Bombay High Court  have held that since the cost to the previous paid for owner is to be substituted,  the indexation should also be allowed from the date of purchase by the previous owner or 1-4-2001 in case fair market value as on that date is adopted. 

The indexed capital gains are taxed at flat rate of 20%. However in case of listed securities other than listed shares and units you have option to pay tax at 10% without availing the benefit of indexation.

Tax saving avenues for long term capital gains on sale of inherited assets 

If the capital asset sold is a long term capital asset, you can save tax on capital gains by investing in a residential house or capital gains bonds depending on nature of the capital asset sold within prescribed time frame. The amount of investments to be made in a residential house will vary depending on whether the asset sold is a residential house or any other asset. 

Special provisions for listed shares and equity oriented schemes

In case the capital asset inherited is listed shares or units of equity oriented schemes the law provides that you can take the fair market value of the shares and NAV of the mutual funds units as on 31st January 2018 in case the same were acquired prior to 1st February 2018. The long term capital gains will be taxed at flat rate of 10% after initial one lakh on which no tax is payable if STT is paid.  It is important to note that no indexation benefit is available on listed shares and units of equity oriented schemes.

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

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