Can Exemption u/s 54F Be Claimed For Buying Two Adjacent Flats Joined By Breaking Internal Wall?

Section 54 F is for relief from long term capital gains arising on any asset other than residential house. However , the provision u/s 54 or 54F provides for investment of sale proceeds in purchase or construction of of “a residential house” . So , prima facie , the exemption is avalable for one residential house purchase or construction only . But as , stated in your question , when a person invests in two houses adjacent to each other and joined as one or when house is constrcuted on another floor , different courts have held that in that case , more than one house will mean “a residential house ” and aggreagte investment in all those houses/flats shall be taken into account for exemption u/s 54F.

In case of Income-tax Officer, Ward-19(3)-4, Mumbai v. Ms. Sushila M. Jhaveri [2007] 107 itd 327 (Mum.) Mumbai Tribunal , Special Bench I was set up to decide on following question :

“Whether, the phrase “a residential house” used in sub-section (1) of sections 54 and 54F means one residential house or more than one residential house independently located in the same building/compound/city ?”
The tribunal after considering many decisions , held as under

The view taken by us in this para is also justified by the decision of the Hon’ble Calcutta High Court in the case of B.B. Sarkar v. CIT [1981] 132 ITR 150, wherein purchase of ground floor of a house and thereafter construction of first floor was held to be an investment in one house only. Their Lordships at page 156 observed as under :

“If a floor is constructed to the new house or if it is renovated it remains a house and this will not be two houses.”

11.In view of the above discussion, it is held that exemption under sections 54 and 54F of the Act would be allowable in respect of one residential house only. If the assessee has purchased more than one residential house, then the choice would be with assessee to avail the exemption in respect of either of the houses provided the other conditions are fulfilled. However, where more than one unit are purchased which are adjacent to each other and are converted into one house for the purpose of residence by having common passage, common kitchen, etc., then, it would be a case of investment in one residential house and consequently, the assessee would be entitled to exemption.

To sum up , the Mumbai Special Bench’s decision was

1. Exemption u/s 54 or 54F is allowable for one house only.
2. If assessee has purchased more than one house, choice will be with assessee to select on which house he wants to avail exemption u/s 54 or 54 F as the case may be.
3. If more than one unit are purchased and made into one unit for the purpose of residence, it will be considered as one house for claiming exemption u/s 54 or 54 F.
4. If floor is added to a new house , it remains one house , therefore exemption for both the new house and the house on added floor shall be taken together for claiming exemption u/s 54 or 54F.

Therefore, even if you purchase two adjacent house from two different person , but converts those two house as one by breaking the internal wall, you can claim exmeption u/s 54F for investment in both house.

Recent Decision

In

CIT vs D. Ananda Pasappa (2009) 309 ITR 321 (Kar)

, the issue before the court was that the assessee sold a residential house and in lieu of the same purchased two residential flats adjacent to each other by entering into two separate sale deeds. The exemption u/s 54 was sought for investment in both the houses treating them as one unit.

The A.O allowed exemption for only one house and the order of A.O was confirmed by the CIT(A).
The Tribunal agreed with the ground of the assesee that both the house although purchased separately , but the builder had carried modification to make it usable as one unit. The Tribunal allowed the exemption on both the house.
The department filed case in High Court and Hon’ble Karnataka High Court upheld the judgment of the Tribunal by accepting the contention of the assessee that both units were modified by the builder to be use as one