Tenancy Rights are capital asset, transfer of which is liable to be taxed as capital gains

Vasant N. Barabde[1] (‘the Appellant’), filed his income tax return reporting income for the assessment year 2018-19. He faced scrutiny after purchasing a property (flat no. 1103 at Rudraksh Block, Chembur, Mumbai) through a Permanent Alternate Accommodation (PAA) agreement dated September 21, 2017, in which no monetary consideration was paid but which bore a substantial stamp duty value of Rs. 2,88,85,600. The Income Tax Officer (ITO) questioned this transaction, asserting the value of the property should be treated as income under Section 56(2)(x) for which no consideration was paid. The ITO added this amount to the Appellant’s income.

The Appellant argued that the tenancy rights, which were surrendered by his daughter, Ms. Ashwini Barabde (the primary occupant and tenant), led to the allotment of this flat by the developer Sandu Developers. Hence, the capital gain from the transfer of tenancy rights should be taxable, not as income from other sources. Furthermore, the appellant contended the capital gain was reinvested in the new property and thus eligible for exemption under Section 54F.

• Appellant’s Contentions:
  1. The property was allotted as Permanent Alternate Accommodation against surrendered tenancy rights by the daughter.
  2. The capital gain accrued from the transfer of tenancy rights is liable for tax under capital gains provisions (Section 45 read with Section 48).
  3. The Appellant’s daughter was the rightful owner and tenant, and the Appellant’s name appeared for administrative convenience.
  4. The capital gain was invested in the new flat, making it eligible for exemption under Section 54F.
• Revenue contended that,
  1. The property allotment should be taxed under Section 56(2)(x) (income from other sources) because no consideration was paid.
  2. The daughter was alleged to be a minor at the time of tenancy and thus could not have entered the agreement.
  3. No claim for deduction under Section 54F was made initially by the Appellant, so it is not admissible.
  4. The transaction might be a disguised gift; there was no gift deed, so the addition to income in Appellant’s hands was justified.

Key Findings and Final Judgment

Tribunal considered facts of the matter and held that,

• the transaction constituted a transfer of capital asset (tenancy rights surrendered in exchange for PAA flat).

• Tribunal relied upon Supreme Court judgement in case of D.P. Sandu Bros. Chembur Pvt. Ltd[2], whereby it was held that the income from a source must be classified under appropriate head. income liable to tax under capital gains cannot be taxed under income from other sources (Section 56). This precedent was fundamental in rejecting the AO’s application of Section 56 in this case.

• The capital gains provisions are applicable, and the addition under Section 56 was deleted.
• The daughter was a major and rightful owner of tenancy rights; however, even if the appellant’s name appeared first, it was for administrative purposes.
• Deduction under Section 54F was valid due to reinvestment in the residential flat. Reliance was placed in the Supreme Court Judgement in case of Goetze India Ltd[3] whereby it was held that the appellate authority has the power to entertain claims for deduction like Section 54F even if not originally claimed in the return, removing the AO’s objection for late claim.
• The appeal of the appellant was allowed, relieving him of the addition made by the AO under Section 56.

This case clarifies that surrender of tenancy rights in a redevelopment scenario results in a transfer attracting capital gains tax. The claim for exemption under Section 54F on reinvestment of capital gains in a new residential flat is permissible, and income cannot be double-taxed under Section 56 if it qualifies as capital gains. The decision relies heavily on Supreme Court rulings, particularly D.P. Sandu Bros. and Goetze India Ltd., ensuring correct head of income classification and allowing relief for reinvestment claims.

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[1] Vasant Nagorao Barabde [TS-642-ITAT-2025(Mum)]

[2] CIT vs. D.P. Sandu Bros. Chembur Pvt. Ltd. (2005) 273 ITR 1 (SC)

[3] Goetze India Ltd. vs CIT (2006) 284 ITR 323 (SC)