Capital gains from property sale in India

[shankar_roy]

I am a US citizen and planning to sell a property in India. I had the property for over 10 years. It was our vacation home and never rented out. The capital gains calculated in India considers an inflation index due to which the gains calculated are on lower side as compared to the US. Additionally, there was a scenario where I can buy or invest in capital gain bonds equivalent to the gains from property sale. As a result of this, I will be exempt from paying capital gains tax and hence not pay any gains tax in India.

To give some figures, example of $350,000 sale whereas cost of purchase (including taxes/expenses) is $100,000. The capital gains calculated in India after considering inflation index is say $100,000. Hence if I invest in the bonds for 3 years for $100K and I will not have to pay tax.

Is there a consideration for the gain bonds while filing US taxes in reporting the home sale / capital gains calculations. Since US does not charge capital gains tax on sale of property can I take advantage of that.  Also, can the inflation indexed value be considered while entering cost of purchase in US taxes?

Is so, how do this?

[Opus 17 · Accepted solution]

As a US taxpayer, you must follow US tax laws regardless of the laws in India.  The US very definitely taxes capital gains on the sale of property, and the US does not have an inflation adjustment for your cost basis.  You must pay capital gains tax based on the difference between the sales price and your adjusted cost basis.  Your adjusted cost basis is what you originally paid, plus the cost of any permanent improvements.  You figure your cost basis using the US$ value of the purchase price based on the exchange rate on that day, and the US$ value of any improvements on the day that you paid for the improvements. The sales price is calculated as the US$ value of the selling of the selling price on the day of the sale.  You don’t get any adjustment for inflation or for fluctuating currency values.

It sounds like your strategy could result in paying extra tax, depending on the tax rates.  The US tax rate on long-term capital gains is 15% for most taxpayers and 20% for high income taxpayers.  If you paid the Indian capital gains tax directly, the US will give you a tax deduction or a tax credit for the foreign taxes that you paid on the same income, up to the amount of US tax due.  However, if you pay no capital gains tax in India, you will pay the full capital gains tax in the US with no offset. Then, the US will also tax you on the interest from the bonds that you buy to offset the Indian tax.

In your example you will pay US capital gains tax on $250,000, and then you would pay US income tax on the bond interest over the next three years.   If you did not buy the capital gains bonds, you would pay Indian capital gains tax on $100,000 of gain and you would pay US capital gains tax on $250,000 of gain, minus a credit for the Indian capital gains tax that you paid.  I think you end up paying less income tax overall if you don’t invest in the capital gains bonds. However, you may want to run your situation past a professional who is experienced with international tax law.

US tax law only allows you to exclude part of your capital gains when you are selling your main home, where you have lived for at least two of the previous five years. That doesn’t apply in this case, so you owe capital gains tax on the entire gain.