Doing Business in India: How New Tax Rules Are Making Real Estate More Attractive for Homebuyers

Vishwas Panjiar, Partner, Nangia Andersen LLP, with inputs from Shreya Agarwal

Owning a home is a lifelong dream for many people in India, but due to financial constraints, it remains out of reach for many. While some are fortunate to inherit ancestral property, others work hard to save enough to buy or build their own homes. To support homeownership, the Indian government has provided various tax benefits through Sections 54 and 54F of the Income Tax Act of 1961. These sections offer exemptions on capital gains tax when selling property or other long-term assets, provided the gains are reinvested in residential property. While these tax breaks were originally intended to help people secure homes, recent reforms aim to prevent the misuse of these benefits by those looking to save on taxes rather than buy a home to live in.

Section 54 applies when someone sells a residential property and uses the proceeds to buy another home. Before 2014, people could reinvest their gains into multiple properties, which led to speculative buying and drove up real estate prices. Additionally, tax deductions were available even for purchasing properties outside India. These loopholes led to an environment where investors took advantage of the system to avoid taxes rather than purchase homes for personal use. To curb this, the government introduced amendments in 2014 and 2015, now the tax exemption is limited to reinvestments in in one house in India (or two homes, if the total capital gains are under Rs 2 crore which can only be used once in a lifetime).

On the other hand, Section 54F deals with the sale of long-term assets other than residential property—such as stocks or bonds—and lets people avoid capital gains tax if they use the proceeds to buy a home.

In 2023 Budget, the government introduced another significant reform under Sections 54 and 54F by capping on the maximum capital gains exemption to investment up to Rs 10 crore in real estate sector. The goal of these string of reforms is clear: bringing the focus of the benefit back to genuine homebuyers who plan to live in the properties, rather than using real estate purely as an investment vehicle to avoid taxes.

Initially, there was concern that these reforms would hurt the luxury real estate market, as high-net-worth individuals might lose interest in buying expensive properties without the accompanying tax breaks. However, demand for luxury homes has remained strong, particularly among those buying primary residences rather than investment properties. While the top-tier market is stable, the secondary market, where speculative buyers have historically been more active, is likely feeling the impact of these tighter rules.

In conclusion, the combination of new tax caps, stricter regulations on capital gains reinvestment, and rising borrowing costs is reshaping the real estate market in India. Real estate is becoming less appealing to those who were looking for quick tax savings, but it’s becoming more attractive to genuine homebuyers who want long-term homeownership. These changes are contributing to a more balanced and healthier real estate market, driven by actual demand rather than speculative buying. The government’s reforms are successfully shifting the focus of the housing market back to its original intent: providing homes for people, not just tax advantages for investors.