In a landmark decision, the Mumbai bench of the Income Tax Appellate Tribunal (ITAT) has ruled that purchasing a residential property from close relatives cannot be deemed a sham transaction merely because it results in tax benefits. The tribunal allowed a significant exemption of Rs 41.5 crore claimed under Section 54F of the Income Tax Act, overturning the tax department's allegations of a colourable device.
Case Background
The case involved an individual who sold unlisted shares, generating long-term capital gains. The taxpayer reinvested the net sale proceeds into a high-value residential property in Mumbai, purchased from her in-laws. She claimed exemption under Section 54F, which permits exemption from long-term capital gains on the sale of any asset other than a residential house, provided the proceeds are used to buy or construct a residential house within the stipulated period.
Tax Department's Objections
The Income Tax officer denied the exemption on grounds that the transaction was an artificial arrangement within the family designed to avoid taxes. The officer cited several factors: the buyer and seller shared a common residence, a family member acted under power of attorney for both parties, and the sellers had no effective tax liability due to indexation benefits. The department argued that the arrangement was a colourable device lacking commercial substance.
ITAT's Findings
The ITAT, however, found that the core transactions—sale of shares and purchase of property—were fully supported by documentary evidence. This included a registered agreement, payment of stamp duty, and demat records. The tribunal observed that the Income Tax Act does not prohibit purchasing property from relatives for claiming Section 54F benefits. It emphasized that suspicion, however strong, cannot substitute for evidence, and that family relationships or perceived unnatural conduct cannot justify denying a statutory exemption without concrete proof of wrongdoing.
Key Legal Principles
The bench clarified that lawful tax planning cannot be equated with tax evasion merely because it results in a reduced tax liability. The tribunal also noted that the seller's tax position, including cases where capital gains are offset through indexation, has no bearing on the buyer's eligibility to claim the exemption. Importantly, the tax authorities had not identified any legal infirmity in the transaction itself, nor had they invoked the General Anti-Avoidance Rules (GAAR). In such circumstances, the benefit of a beneficial provision like Section 54F cannot be denied.
Ruling and Implications
Allowing the appeal, the ITAT directed the deletion of the entire addition made by the Income Tax officer. Tax experts highlight that this ruling reinforces the principle that genuine intra-family transactions, when backed by proper documentation and carried out within the legal framework, cannot be disregarded solely on suspicion of tax avoidance. The decision provides clarity for taxpayers engaging in property transactions with relatives while claiming capital gains exemptions.
