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Income chargeable under the head "Capital gains" is calculated by deducting from full value of consideration received or accruing as a result of transfer, the cost at which the asset was acquired and the cost incurred subsequently on improvement of the capital asset. However besides the conventional costs such as the cost of construction, the phrase "wholly and exclusively in connection with such transfer of the capital asset" as used in section 48, is wide enough to include other expenditure that one may miss while calculating capital gain. The article aims to make a catalogue of such expenditures which one should account for under section 48 to calculate capital gains As stated above section 48 deals with the computation of Capital Gains which provides for deduction of expenditure from the full value of the "consideration" received or accruing from transfer of the asset. Consideration as defined in the case of CIT v. Jaykrishna Harivallabhdas [1998] 231 ITR 108 (Guj.) means " in the ordinary sense means something in lieu of or exchange of".
In CIT v. Smt. Bilquis Jahan Begum1 hon'ble court held that "The expression "full value of the consideration received as a result of the transfer of the capital asset" occurring in section 48 represents the full sale price actually paid. The sale price actually received is not subject to any artificial deduction except by those specified in section 48."
Section 48 provide that the expenditure must be incurred wholly and exclusively in connection with such transfer and the courts have held that the expression 'in connection with such transfer' is certainly wider than the expression 'for the transfer'. Only that expenditure is allowed to be deducted from the sale consideration which is made wholly and exclusively in connection with the transfer. In the case of Smt. Sita Nanda v. CIT2 the court made an observation that
"The crucial words in section 48(i) are 'in connection with such transfer'. The expression means intrinsically linked with the transfer. Such expenditure has to be wholly and exclusively in connection with the transfer. Even if such expenditure has some nexus with the transfer, it does not qualify for deduction unless it is wholly and exclusively in connection with the transfer."
Some of the common litigative positions in this regard have been dealt as under;
Litigation Expenses
The words of statute "expenditure incurred wholly and exclusively in connection with such transfer" have been given very wide interpretation. In the case of V.A. Vasumathi v. CIT [1980]3 the court while holding that the words 'in connection with such transfer' mean intrinsically related to the transfer, allowed the expenditure incurred by the assessee for the purpose of prosecuting in a civil court for enhancement of his claim of compensation under the Land Acquisition Act to be deducted from the sale consideration. The court held that the litigation expenses emanating from a proceeding is intimately and intrinsically connected with the acquisition, hence allowable to be deducted.
Similar ratio was held in the case of CIT v. Bradford Trading Co. (P.) Ltd.4 wherein the assessee company had entered into agreement with "A" for transfer of shares of the assessee company but the assessee company then entered into another agreement with ITC for sale of the entire undertaking. The assessee company paid a certain sum to "A" as full and final settlement for withdrawing his claims and petition under companies Act. The court in this case observed that the purpose of such litigation by "A" was to prevent transfer of hotel Building in favour ITC hence the compensation paid to "A" to withdraw litigation was intimately connected to the transfer and thus was incurred wholly and exclusively to the transfer. In CIT v. Dr. P. Rajendran5,the court held that the Tribunal was right in holding that the expenses incurred by the assessee in his litigation before the civil courts to claim enhanced compensation for the compulsory acquisition of his property was an expenditure incurred wholly and exclusively in connection with its transfer and thus included as cost in section 48 of the Act. Further, it was held that the crucial test was whether the expenditure was incurred wholly and exclusively in connection with the transfer and it was immaterial whether it was incurred prior or subsequent to the passing of title.
Portfolio Fee
In the case of KRA Holding & Trading (P.) Ltd. v. Dy. CIT6 the court held that the words of section 48 and 48(i) must necessarily encompass the transfer involved at the stage of acquisition of the securities till the stage of transfer involved at the step of sale of capital asset. In this case the portfolio fee which was paid for the acquisition and sale of securities was held to be "expenditure incurred wholly and exclusively in connection with such transfer".
However, in case the assesse fails to show one to one nexus of PMS fees with purchase and sale of shares and the said fees was payable even without there being any purchase or sale of shares in a particular period the said fees should not be included as cost of acquisition as held in the case of Devendra Motilal Kothari v. Dy. CIT7. In other words, if the assessee can allocate fees paid for PMS in relation to each purchase and sale transaction undertaken during the year as well as in relation to shares held as investment on last date of previous year, it can be concluded that PMS is not inextricably linked with particular instance of purchase and sale of shares and securities so as to treat the same as expenditure incurred wholly and exclusively in connection with cost of acquisition/improvement of shares and securities so as to be eligible for deduction in computing capital gains u/s 48. In a similar the fashion since Demat charges paid to stock broker has no direct nexus with the purchase and sale of shares and such fees being payable by the assessee even without there being any purchase or sale of shares in a particular period in discharge his contractual liability with its share depositary, such expenses also cannot be added as cost u/s 48.
Amount paid to clear the Mortgage Debt
In the case of R.M. Arunachalam v. CIT8, honourable Supreme Court has held that u/s 49(1) where the assessee acquires a property from the previous owner in inheritance, then the cost of acquisition to the assessee is the cost of two the previous owner as increased the cost of improvement incurred by the assessee and the previous owner. In a mortgage there is a transfer of interest in the property by the mortgagor in favour of mortgagee. When the previous owner had mortgaged the property, then after his death the legal heir inherits only the mortgagor's interest in the property. By discharging the mortgage debt his heir who has inherited the property acquires the interest of the mortgagee in the property. As a result of such payment made for clearing off the mortgage, the interest of the mortgagee is acquired by the heir. The said payment should therefore regarded as cost of acquisition. Therefore, the cost of acquisition to the legal hair should be the aggregate of cost to the previous owner of the amount paid to clear the mortgage.
"In taking the view that in a case where the property has been mortgaged by the previous owner during his lifetime and the assessee, after inheriting the same, has discharged the mortgage debt, the amount paid by him for the purpose of clearing off the mortgage is not deductible for the purpose of computation of capital gains, the Kerala High Court has failed to note that in a mortgage there is transfer of an interest in the property by the mortgagor in favour of mortgagee and where the previous owner has mortgaged the property during his lifetime, which is subsisting at the time of his death, then after his death his heir only inherits the mortgagor's interest in the property. By discharging the mortgage debt his heir who has inherited the property acquires the interest of the mortgagee in the property. As a result of such payment made for the purpose of clearing off the mortgage the interest of the mortgagee in the property has been acquired by the heir. The said payment has, therefore, to be regarded as 'cost of acquisition' under section 48, read with section 55(2)" However where mortgage is created by the assessee himself subsequent to its purchase, the expenditure made to clear such mortgage debt is not allowed as expenditure from the sale consideration. In the case of V.S.M.R. Jagadishchandran v. CIT9 the Supreme Court held that "In the present case, we find that the mortgage was created by the assessee himself. It is not a case where the property had been mortgaged by the previous owner and the assessee had acquired only the mortgagor's interest in the property mortgaged and by clearing the same he had acquired the interest of the mortgagee in the said property". The ratio behind this position was law was laid out in RM. Arunachalam v. CIT (supra) where the court held that
"The clearing off of the mortgage debt by him prior to transfer of the property would not entitle him to claim deduction under section 48 of the Act because in such a case he did not acquire any interest in the property subsequent to acquiring the same"
It is noteworthy to mention that though amount expended to clear mortgage debt on inherited property is included in meaning of cost u/s 48, amount paid by the inherent to discharge burden of estate duty on the inherited property is not included in section 48. Reliance in this regard, is place in the case of Smt. Bilquis Jahan Begum10 wherein it has been held that the liability for payment of estate duty is a personal liability of the accountable person and not a liability on the estate itself. Though estate duty is generally burdened on the property inherited, it cannot be considered to be an encumbrance against the property, and cannot, therefore, be related to the property as such. The estate duty corresponding to the property inherited does not constitute expenditure referable to the property as such by the assessee. Compensation Paid To Withdraw Suit In the case of CIT v. Smt. Shakuntala Kantilal11 the court observed that the expression used by the legislature "in connection with the transfer" is wider than the expression 'for the transfer'. The court held that any amount, the payment of which is absolutely necessary to affect the transfer will be an expenditure covered by this clause. In other words, if without removing any encumbrance, sale or transfer could not be effected, the amount paid for removing that encumbrance will fall under clause (i). In this case the assessee contracted to sell the land to 'R' which could not materialize. 'R' filed a suit for specific performance, in the meantime the assessee contracted to sell the plot to another party. In this case the compensation paid to 'R' to withdraw suit was allowed as expenditure as if compensation would not have been paid, the sale transaction could not be completed because of the suit of specific performance.
However the Ahmedabad high court has recognised the subtle difference between compensation paid to withdraw suit and amount paid for protection of title. An expenditure which is incurred for the perfection of title of the assessee or which is made for the protection of title is not allowed as expenditure.In the case of Maradia Wire Rods Ltd. v. ITO12 "The amount was paid only to protect title and possession of the plots by the assessee. Any payment towards perfection of title or possession of an asset cannot be held be expenditure incurred wholly and exclusively in connection with transfer of asset subsequently. A bare reading of the provision makes it clear that what can be deducted under section 48(i) is expenses incurred wholly and exclusively in connection with the transfer. The crucial words in the provisions are "in connection with such transfer". The expression means intrinsically linked with the transfer. Such expenditure has to be wholly and exclusively in connection with the transfer. Even if such expenditure has some nexus with the transfer it does not qualify for deduction unless it is wholly and exclusively in connection with the transfer." As held above for an expenditure to be deducted from the sale consideration, such expenditure must be intrinsically linked with the transfer. In the case of Smt. Sita Nanda v. CIT13, the court held that even if the expenditure incurred has some nexus with the transfer, it does not qualify for the deduction unless it is wholly and exclusively in connection with the transfer. In this case the interest paid on delayed payment to the Land Development Officer on unearned increase was not allowed as deduction from sale consideration even though the land could not have been transferred without the permission of the Land Development Officer.
Amount paid to tenant for vacation
In the case of CIT v. Spencers & Co. Ltd. (No. 1)14 it has been held that the compensation paid to the tenants for delivering the vacant possession, improved the right and interest of the assessee over the property and, therefore, it would amount to improvement cost. Thus, compensation paid to tenants for getting vacant possession would amount to cost of improvement and the assessee was entitled for indexation benefit on that account. However, the same was based on perusal of development agreement, which nowhere imposed an obligation on the part of the assessee to settle the claim of the tenants for getting vacant possession of the property and it was concluded that in the absence of such contractual obligation, the payment of compensation to the tenants for getting vacant possession of the property could not be related to transfer of development rights.
In CIT v. Miss Piroja C. Patel15 it was held that Tribunal was justified in holding that the amount being compensation paid by the assessee to the hutment dwellers for vacating the land was an allowable expenditure within the meaning of section 48 read with section 55 of the Act. It was held that on eviction of the hutment dwellers from the land in question, the value of the land increases and therefore, the expenditure incurred for having the land vacated would certainly amount to cost of improvement. This ratio was followed by Hon'ble Bombay High Court in the case of J.S. & M.F. Builders v. A.K. Chauhan16. Similarly, in the case of CIT v. Eagle Theatres17, the assessee sold cinema hall and it paid certain sum to tenant, who was running canteen in said cinema hall, to vacate said premises and it was held as under;
"In the instant case, as per the facts found by the Tribunal and the Commissioner (Appeals), there was a canteen/refreshment stall in the cinema hall which was in occupation of a tenant/licensee since 1971. The property was to be sold. In order to procure and get proper value and effectuate the sale, the assessee paid Rs. 1.48 crores to the tenant/licensee to vacate the property. These are the factual findings recorded by the Tribunal and have been noticed above. Under these circumstances, it cannot be said that the said sum cannot be set-off from the sale consideration as it was incurred solely and exclusively in connection with the transfer. The said amount has to be allowed because it was incurred in view of facts found, wholly and exclusively connected and linked with transfer/sale."
Interest Paid on borrowing made for acquiring Capital Asset
It has been held in numerous judgements of various ITAT benches that interest paid on the borrowing made for acquiring capital asset is a part of the cost of acquisition and hence deductible from the sale consideration for computation of capital gains. In the case of Asstt. CIT v. C. Ramabrahmam18, the department representative opposed this contention by relying on the fact that the assessee had already taken exemption of interest on borrowed capital under section 24(b) of the Act and this amount of interest cannot be added to cost of acquisition of the property. Rejecting the contention of the DR, the tribunal opined that deduction under section 24(b) and computation of capital gains u/s 48 of the Act are altogether covered by different heads of income i.e., income from 'house property' and 'capital gains' and a perusal of both the provisions makes it unambiguous that none of them excludes operation of the other.
In another case of Subhash Bana v. ACIT19, the Delhi bench of ITAT relying on the CIT v. Mithilesh Kumar20 reiterated the above judgment of ITAT Chennai that since section 24(b) and section 48 of the Income-tax Act, 1961 are altogether different, the assessee isentitled to include interest paid on housing loan for computation of capital gains u/s 48 despite the fact that same had been claimed u/s 24(b) while computing income from house property. Further in Gayatri Maheshwari v. I.T.O.21 and ITO v. Smt. R. Aishwarya22, the ITAT benches remained steadfast on this stand taken by the earlier benches that interest on borrowed capital can be deducted from the sale consideration for computation of capital gains even though the such interest has been deducted for calculating income from house property.
This position of law however throws a conundrum when we consider it in the light of section 55 of the Act, which clearly provides that any expenditure which is deductible in computing the income chargeable under the head "Income from house property" is not included in "Cost of Improvement". Reading them together puts forth a strange position of law that while interest on borrowed capital on acquisition of the capital asset is deductible from the sale consideration, the interest on borrowed capital for improvement of the capital asset cannot be deducted. This conundrum certainly needs a revisit from a judicial authority to clarify the position of law.
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1. [1984] 150 ITR 508/19 Taxman 135 (AP)
2. Smt. Sita Nanda v. CIT [2001] 119 Taxman 227 (Delhi)
3. V.A. Vasumathi v. CIT [1980] 4 Taxman 94/123 ITR 94 (Ker.)
4. CIT v. Bradford Trading Co. (P.) Ltd. [2002] 125 Taxman 632 (Mad.)
5. [1981] 5 Taxman 311/127 ITR 810 (Ker)
6. KRA Holding & Trading (P.) Ltd. v. Dy. CIT [2011] 46 SOT 19/11 taxmann.com 250 (Pune)
7. [2011] 13 taxmann.com 15/132 ITD 173 (Mum.)
8. [1997] 93 Taxman 423/227 ITR 222 (SC)
9. V.S.M.R. Jagadishchandran v. CIT [1997] 93 Taxman 389/227 ITR 240
10. (supra)
11. CIT v. Smt. Shakuntala Kantilal [1991] 58 Taxman 106/190 ITR 56 (Bom.)
12. [2011] 9 taxmann.com 66 (Ahd.)
13. [2001] 119 Taxman 227 (Delhi)
14. [2015] 55 taxmann.com 105/[2013] 359 ITR 644 (Mad.)
15. [2002] 122 Taxman 752/[2000] 242 ITR 582 (Bom.)
16. [2020] 117 taxmann.com 228 272 Taxman 359 (Bom.)
17. [2012] 19 taxmann.com 7/205 Taxman 449 (Delhi)
18. [2012] 27 taxmann.com 104/[2013] 57 SOT 130 (Chennai - Trib)
19. ITA No.147/Del/2015
20. (1973) 92 ITR 9
21. [2017] 88 taxmann.com 757 (Jodh) (UO)
22. ITA No. 1120/Mds/2016
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