Allowable Costs of Improvement in LTCG Computation (Residential Property – India)

When a residential immovable property in India is sold after being held for more than 24 months, the resulting gains are classified as long-term capital gains (LTCG). To compute these gains, the Income Tax Act, 1961 permits the deduction of certain costs, including the cost of acquisition, cost of improvement, and expenses incurred in connection with the transfer.

These deductions are governed by Section 48 and Section 55 of the Act. However, it is essential to understand what constitutes an allowable cost of improvement, as not all expenses qualify. This article presents a structured overview of what expenses may or may not be deducted, with relevant legal references and practical illustrations.

Under the Income Tax Act:

• Section 48 outlines the computation of capital gains and permits the deduction of:
  • Expenditure incurred wholly and exclusively in connection with the transfer
  • Indexed cost of acquisition and indexed cost of improvement
• Section 55 defines “cost of improvement” as capital expenditure incurred in making any additions or alterations to the property after acquisition (or after 1st April 2001 for assets acquired earlier). It explicitly excludes routine maintenance and any expenses already claimed under other heads, such as “Income from House Property”.
• Indexation refers to adjusting the cost for inflation using the Cost Inflation Index (CII), thereby reducing the taxable gain.

Important Update: Pursuant to recent amendments, non-residents (NRIs) are not eligible to claim indexation benefit on the sale of immovable property in India on or after 23rd July 2024. This change significantly impacts LTCG computations for NRIs and must be factored while planning a property transaction.

1. Brokerage and Commission on Sale

Allowable under Section 48(i) as a transfer-related expense.

Brokerage or commission paid to agents for facilitating the sale of the property is deductible, as it is an expenditure incurred wholly and exclusively in connection with the transfer.

Case Reference: CIT v. Shakuntala Kantilal (Bombay High Court) – a payment made to clear title and facilitate transfer was allowed as a deductible expense.

Note: Brokerage paid at the time of purchase is not an improvement cost but forms part of the cost of acquisition.

2. Substantial Renovations or Structural Alterations

Allowable under Section 55 as capital improvement.

Examples include:

• Addition of a new room or floor
• Structural remodeling (kitchen, bathrooms)
• Replacement of electrical wiring, plumbing
• Installation of high-quality tiling or flooring

These are capital in nature and enhance the value or life of the asset.

Case References:

• Komal Sangatani v. ITO (ITAT Mumbai, 2022) – permitted tiling and renovation as cost of improvement.
• CIT v. Siddhartha Bangur (Calcutta High Court) – allowed civil renovations made to improve marketability.

Note for NRIs: While such expenses may still qualify as improvement, indexation benefit is not available to non-residents on property sales made on or after 23rd July 2024.

3. Painting and Repairs – Only If Capital in Nature

Partially allowable, depending on scope.

Routine painting or minor repairs such as whitewashing or fixing broken tiles do not qualify. However, painting and repairs undertaken as part of a major renovation project or those that materially enhance the property’s condition may qualify.

Case Reference:
Mohamed Ibrahim v. ITO (ITAT Chennai, 2023) – expenses for protective grills, tiling, and painting were allowed when incurred to make the property habitable.

4. Compensation to Vacate Tenants or Occupants

Allowable as either a cost of improvement or a transfer-related expense.

Where amounts are paid to tenants, squatters, or unauthorised occupants to vacate the property and ensure vacant possession, such payments enhance the marketability of the asset and are deductible.

Case References:

• CIT v. Eagle Theatres (Delhi High Court) – allowed payment to a tenant for vacating the premises.
• CIT v. Mohd. Shaffiulla (Karnataka High Court) – compensation paid to remove encroachments was held allowable.

Proper documentation of such payments (agreements, receipts) is essential.

5. Legal Fees, Stamp Duty and Transfer Charges (at Sale)

Allowable under Section 48(i).

All legal and documentation charges incurred exclusively in connection with the sale of the property are deductible as transfer expenses. These include:

• Legal drafting fees
• Advertising costs for sale
• Transfer charges paid to housing society

However, similar costs incurred at the time of purchase are part of the cost of acquisition, not cost of improvement.

1. Routine Maintenance, Society Charges

Not allowable.

Recurring maintenance costs, society dues, or general upkeep expenses are revenue in nature and do not result in a capital enhancement of the property. These are expressly excluded from cost of improvement under Section 55.

2. Property Taxes and Other Levies

Not allowable.

Annual municipal taxes, water charges, or electricity infrastructure levies are statutory obligations. They are not considered as enhancing the property and hence cannot be claimed as cost of improvement.

If such expenses were claimed as deductions under “Income from House Property,” they cannot be claimed again while computing capital gains.

3. Personal Moveables and Furnishings

Not allowable.

Expenses on furniture, modular kitchens, AC units, refrigerators, or other household appliances are not embedded into the immovable asset and are treated as personal effects.

Case Reference: Komal Sangatani v. ITO – the tribunal disallowed the cost of refrigerators, LED TVs, and loose furniture.

Only fixtures permanently affixed to the property may qualify.

4. Interest on Housing Loan

Not allowable.

Interest on a home loan, even if not claimed under other heads, is considered a financing cost and not a cost of improvement. If claimed earlier under Section 24, it is expressly barred from being counted again under Section 55.

5. Loan or Mortgage Repayments

Not allowable.

Repayment of an existing loan or mortgage is a personal liability and does not affect the property’s condition or value. Hence, it is not deductible under either cost of acquisition or cost of improvement.

Supreme Court Ruling: V.S.M.R. Jagadishchandran v. CIT – mortgage discharge was held not to be a part of property cost.

6. Transfer Fees or Betterment Charges to Local Authorities

Partially allowable, depending on the nature.

1. Transfer fees paid to the society at the time of sale may be considered a transfer expense.
2. Betterment charges paid to municipal authorities might be allowable if they directly increase the property’s value. In most cases, however, they are treated as incidental to ownership.

In computing long-term capital gains from the sale of residential property in India, understanding what constitutes a valid cost of improvement is essential. Only capital expenses that enhance or extend the life of the property are allowed, and each such expense must be substantiated with documentation.

Non-residents must now note that indexation benefit is not available for property sales on or after 23rd July 2024, as per recent legislative amendments. This change makes it even more important to assess and claim only eligible and documented capital improvements while planning property sales.