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Assessing the impact of budget proposal for real estate

The government has rationalized the long-term capital gains tax on real estate by removing the indexation benefit while simultaneously reducing the applicable rate to 12.5% from 20% earlier. We highlight that the impact of the change is case-specific: a seller would now have a lower tax implication in the case of higher price appreciation (>10% average). We view the change as having negligible impact on end-users (75-80% of demand), with some impact on investor returns, although the impact on overall housing demand should be limited.

Long-term capital gains: indexation removed; rate lowered to 12.5% from 20%

In a bid to simplify the tax structure, the government has (1) removed the indexation benefit for the computation of long-term capital gains on the sales of residential property; and (2) reduced the long-term capital gains tax rate on such sale to 12.5% from 20% earlier. The tenure for the computation of long-term capital gains has remained unchanged at 24 months for real estate. We highlight that the bulk of the new residential purchases are for end-use (75-80%), with the balance (20-25%) for investment purposes, although the same can vary by geography–cities that have seen a higher price appreciation in the recent past (Gurgaon, Bangalore) would have a higher share of investor demand.

We highlight that the index used for computation of the benefit has historically compounded at 5-6% CAGR, so price increases beyond ~10% in a similar scenario would be better off under the new tax regime, and vice versa. We note that there is grandfathering of capital gains for assets indexed up to 2001.

Tax liability can be offset through reinvestment of gains

There has been no change to the short-term capital gains tax on the sale of real estate assets: such sale would continue to be taxed at the marginal tax rate for the seller. In addition, capital gains from real estate asset sales were tax exempt under Section 54 if the gains were reinvested in a residential property–there is no change to this provision. Alternately, asset owners also have the option to reinvest the gains in specified securities for reducing their tax liability.

Demand would not be impacted by change in taxation laws

In our view, the impact on end-user decision making to buy new homes would be negligible since the home is purchased for personal consumption. For investors, the impact of the tax change would be case-specific and dependent on (1) the price appreciation of the underlying property relative to the index and (2) the holding period. Assets that would have seen a higher price appreciation (relative to the appreciation of the index used for such indexation benefit calculation historically) would be better off under the new regime, while assets that would have seen a lower/no price appreciation would be worse off under the new regime.

Other announcements include: (1) government to encourage states to lower the stamp duty, while also considering lower duties for women buyers, (2) higher Rs 302 bn allocation for Pradhan Mantri Awas Yojana Urban in FY2025, in comparison to Rs221 bn revised estimate in FY2024, and (3) income from letting out of a house should be classified under the head ‘income from house property’ only. We also highlight that the holding period for REITs for the purpose of LTCG has been reduced to 12 months, from 36 months previously.

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