Advance money received and Forfeited – Capital Gain [Section 51] :
It is possible for an assessee to receive some advance in regard to the transfer of capital asset. Due to the break-down of the negotiation, the assessee may have retained the advance. Section 51 provides that while calculating capital gains, the above advance retained by the assessee must go to reduce the cost of acquisition. However, if advance has been received and retained by the previous owner and not the assessee himself, then the same will not go to reduce the cost of acquisition of the assessee.
Section 56(2)(ix) provides for the taxability of any sum of money, received as an advance or otherwise in the course of negotiations for transfer of a capital asset. Consequently, such sum shall be chargeable to income-tax under the head ‘Income from other sources’, if such sum is forfeited on or after 1st April, 2014 and the negotiations do not result in transfer of such capital asset.
In order to avoid double taxation of the advance received and retained, section 51 provides that where any sum of money received as an advance or otherwise in the course of negotiations for transfer of a capital asset has been included in the total income of the assessee for any previous year in accordance with section 56(2)(ix), then, such amount shall not be deducted from the cost for which the asset was acquired or the written down value or the fair market value, as the case may be, in computing the cost of acquisition.
However, any such sum of money forfeited before 1st April, 2014, will be deducted from the cost of acquisition for computing capital gains.
Illustration
Mr. Kay purchases a house property on April 10, 1978 for Rs 35,000. The fair market value of the house property on April 1, 1981 was Rs 70,000. On August 31, 1984, Mr. Kay enters into an agreement with Mr. Jay for sale of such property for Rs 1,20,000 and received an amount of Rs 10,000 as advance. However, as Mr. Jay did not pay the balance amount, Mr. Kay forfeited the advance. In May 1987, Mr. Kay constructed the first floor by incurring a cost of Rs 50,000. Subsequently, in September 1987, Mr. Kay gifted the house to his friend Mr. Dee. On February 10, 2016, Mr. Dee sold the house for Rs 10,00,000. CII for F.Y. 1984-85 : 125; 1987- 88: 150; 2015-16:1081. Compute the capital gains in the hands of Mr. Dee for A.Y.2016-17.
Solution
Computation of taxable capital gains of Mr. Dee for A.Y.2016-17
| Particulars | Rs | Rs |
| Sale consideration | 10,00,000 | |
| Less: Indexed cost of acquisition (See Note below) | 5,04,467 | |
| Indexed cost of improvement (See Note below) | 3,60,333 | 8,64,800 |
| Long-term capital gain | 1,35,200 |
For the purpose of capital gains, holding period is considered from the date on which the house was purchased by Mr. Kay, till the date of sale. However, indexation of cost of acquisition is considered from the date on which the house was gifted by Mr. Kay to Mr. Dee, till the date of sale. i.e. from September 1987 (P.Y. 1987-88) to February 2016 (P.Y. 2015-16).
Indexed cost of acquisition = (Rs 70,000 × 1081/150) = Rs 5,04,467
Indexed cost of improvement = (Rs 50,000 × 1081/150) = Rs 3,60,333
Amount forfeited by previous owner, Mr. Kay, shall not be deducted from cost of acquisition.
Note – As per the view expressed by Bombay High Court in CIT v. Manjula J. Shah 16 Taxman 42, in case the cost of acquisition of the capital asset in the hands of the assessee is taken to be cost of such asset in the hands of the previous owner, the indexation benefit would be available from the year in which the capital asset is acquired by the previous owner. If this view is considered, the indexed cost of acquisition would have to be calculated by taking the CII of F.Y.1981-82, since the Fair Market Value as on 1.4.1981 has been taken as the cost of acquisition.
Illustration
Mr. X purchases a house property in December 1975 for Rs 1,25,000 and an amount of Rs 75,000 was spent on the improvement and repairs of the property in March, 1981. The property was proposed to be sold to Mr. Z in the month of May, 2003 and an advance of Rs 40,000 was taken from him. As the entire money was not paid in time, Mr. X forfeited the advance and subsequently sold the property to Mr. Y in the month of March, 2016 for Rs 40,00,000. The fair value of the property on April 1, 1981 was Rs 3,90,000. What is the capital gain chargeable in the hands of Mr.X for the A.Y. 2016-17?
| Financial year | Cost Inflation Index |
| 1981-82 | 100 |
| 2003-04 | 463 |
| 2015-16 | 1081 |
Solution
Capital gains in the hands of Mr. X for the A.Y.2016-17 is computed as under:
| Particulars | Rs |
| Sale proceeds | 40,00,000 |
| Less : Indexed cost of acquisition [Note 1] | 37,83,500 |
| Indexed cost of improvement [Note 2] | – |
| Long term capital gains | 2,16,500 |
Note 1: Computation of indexed cost of acquisition
| Cost of acquisition (higher of fair market value as on April 1, 1981 and the actual cost of acquisition) | 3,90,000 |
| Less : Advance taken and forfeited | 40,000 |
| Cost for the purposes of indexation | 3,50,000 |
| Indexed cost of acquisition (Rs 3,50,000 x 1081/100) | 37,83,500 |
Note 2 : Any improvement cost incurred prior to 1.4.1981 is to be ignored when fair market value as on 1.4.1981 is taken into consideration.