Inheriting Real Estate May Bring Hidden Tax Burdens – Learn How to Escape Tax Liabilities

Inheriting or receiving a property as a gift can be an exciting event, but it's essential to understand the tax implications that come with it. Here's a breakdown of the key points to keep in mind.

Firstly, it's important to note that property is not taxed until it is sold. However, there are some scenarios where the clubbing rule may apply. This rule adds rental income or capital gains to the parent's (or husband's) taxable income if the property is gifted to a spouse, daughter-in-law, or a minor child.

When selling a property, the Income Tax Act in India allows the use of indexation (adjusting the purchase cost for inflation) or a lower flat rate without indexation. If the property was bought before April 1, 2001, you have two options: pay 20 percent tax with indexation or pay 12.5 percent tax without indexation. For properties bought after this date, the FMV benefit cannot be used, and you only get these two options.

The cost of acquisition for tax purposes when inheriting property is the original amount paid by the previous owner. However, if the property was bought before April 1, 2001, the fair market value (FMV) as on April 1, 2001 can be used as the cost instead. For instance, if a parent bought land in 1990 for Rs 10 lakh and the recipient inherited it in 2001 when the value was ₹40 lakh, the cost of acquisition will still be Rs 10 lakh.

Rental income earned from a gifted property is taxable in the recipient's name. Selling a gifted property may also result in capital gains tax liability for the recipient. For example, if parents bought a property in 1990 for Rs 20 lakh and sold it in 2025 for Rs 20 crore with an FMV of Rs 40 lakh on April 1, 2001, choosing Rs 40 lakh as the cost reduces the taxable gain.

The holding period of the previous owner is added to the recipient's, which usually qualifies the sale as long-term capital gains. In most cases, using the FMV and the 12.5 percent option works out better when selling a property bought before April 1, 2001.

It's crucial to remember that the authority to set the tax level for the sale of inherited property purchased after April 1, 2001, lies with the tax law provisions governing inheritance and capital gains taxation. These provisions consider the acquisition date and applicable tax rules such as speculation periods and valuation methods, typically under federal tax law and regulated by tax authorities.

In summary, while inheriting or receiving a property as a gift can be a significant financial advantage, it's essential to understand the tax implications involved to make informed decisions when selling or renting out the property. Consulting with a tax professional is always recommended to ensure compliance with the law and minimise potential tax liabilities.

Inheriting Real Estate May Bring Hidden Tax Burdens – Learn How to Escape Tax Liabilities