FMV Of Ownership Flat Received On Surrender Of Tenancy Rights Is Cost Of Acquisition For Capital Gains: ITAT Mumbai
Pranav B Prem
The Income Tax Appellate Tribunal (ITAT), Mumbai Bench has held that where a taxpayer receives an ownership flat in exchange for surrender of tenancy rights, the fair market value (FMV) of the flat on the date of acquisition constitutes the cost of acquisition for computing capital gains on its subsequent sale. The Tribunal directed recomputation of capital gains by allowing deduction of cost of acquisition based on FMV with applicable indexation.
The Bench comprising Amit Shukla (Judicial Member) and Arun Khodpia (Accountant Member) observed that once tenancy rights are surrendered and converted into a distinct capital asset in the form of an ownership flat, Section 49 of the Income-tax Act, 1961—which deems cost in cases of inheritance or succession—has no application. The FMV of the flat as on the date it was acquired under the redevelopment agreement represents the true cost of acquisition for capital gains purposes.
The dispute pertained to Assessment Year 2015–16 and arose from the sale of a residential flat in Mumbai for a consideration of ₹86 lakh. The taxpayer had not originally filed a return of income for the relevant year, as the income declared after computation of capital gains was below the taxable threshold. Based on information relating to the sale of immovable property, the Assessing Officer (AO) reopened the assessment under Section 147 of the Act.
In response to the reassessment proceedings, the taxpayer disclosed long-term capital gains of approximately ₹2.37 lakh after claiming an indexed cost of acquisition of ₹83.62 lakh. The cost was computed by adopting the FMV of the ownership flat as on the date it was received pursuant to a redevelopment agreement, in lieu of surrender of ancestral tenancy rights.
The AO rejected the computation and held that the property had been acquired without monetary consideration, as it was received in exchange for surrender of tenancy rights. Treating the tenancy rights as self-generated, the AO invoked Sections 49 and 55 of the Act and adopted the cost of acquisition as nil, thereby taxing the entire sale consideration of ₹86 lakh as long-term capital gains. The AO also denied the exemption claimed under Sections 54 and 54F on the ground that the taxpayer failed to produce supporting documents.
The Commissioner of Income Tax (Appeals) upheld the order of the AO, agreeing that there was no determinable cost of acquisition and that the conditions for claiming exemption under Sections 54 and 54F were not satisfied.
On further appeal, the Tribunal examined the nature of the transaction and the settled judicial position governing redevelopment cases involving tenancy rights. The Tribunal noted that the original property was held under the pagdi (tenancy) system by the taxpayer’s father and subsequently devolved upon the legal heirs. Under a redevelopment agreement, the tenancy rights were surrendered and, in exchange, an ownership flat was allotted to the taxpayer. What was eventually sold was not tenancy rights but a newly acquired ownership flat.
Relying on earlier decisions of the Mumbai Bench of the Tribunal and the Bombay High Court, the ITAT reiterated that tenancy rights are valuable and transferable rights. When such rights are surrendered in exchange for an ownership flat, the transaction cannot be regarded as cost-free. The Tribunal observed that had the tenancy rights not been surrendered, the taxpayer would have been entitled to monetary compensation or its equivalent, which clearly establishes the existence of a cost element.
Accordingly, the Tribunal held that the FMV of the ownership flat as on the date of acquisition under the redevelopment agreement constitutes the cost of acquisition for computing capital gains. The AO was directed to recompute the capital gains by allowing deduction of such cost along with applicable indexation benefits.
However, on the issue of exemption under Sections 54 and 54F, the Tribunal upheld the findings of the lower authorities, observing that the taxpayer failed to substantiate the claim with requisite documentary evidence. The denial of exemption was therefore confirmed. The appeal was partly allowed, with the issue relating to determination of cost of acquisition decided in favour of the taxpayer, while the claim for exemption under Sections 54 and 54F was rejected.
Cause Title: Murtuza KotharinVersus ITO
Case No.: I.T.A. No. 4080/Mum/2025
Coram: Amit Shukla (Judicial Member) and Arun Khodpia (Accountant Member)
