The Income Tax Appellate Tribunal, Delhi, has clarified that notional rent under Section 23(1)(c) of the Income-tax Act, 1961, cannot be imposed on commercial property held as stock-in-trade by a real estate developer. The ruling establishes a critical distinction between inventory and capital asset status, with direct implications for property developers across India.
Background & Facts
The Dispute
The assessee, Aakarshan Estate Pvt. Ltd., is a real estate developer that constructed a commercial project named "M2K Corporate Park" in Sector 51, Gurgaon. The project had a total built-up area of 2,75,444 square feet. Of this, 91,149.67 square feet was sold in the ordinary course of business. The remaining 1,84,294.33 square feet was initially held as stock-in-trade. On 01.01.2018, the assessee converted this unsold portion into a capital asset. During the financial year 2017-18, the assessee let out 1,02,572 square feet of the property and earned rental income of Rs. 5,51,62,000, which was duly disclosed in its return of income. An additional 33,031 square feet was partially let out during the year, with income from this portion also accounted for.
Key Facts
- Total built-up area of M2K Corporate Park: 2,75,444 sq. ft.
- Area sold during the year: 91,149.67 sq. ft.
- Area held as stock-in-trade until 31.12.2017: 1,84,294.33 sq. ft.
- Date of conversion to capital asset: 01.01.2018
- Area let out during A.Y. 2018-19: 1,02,572 sq. ft. (rental income Rs. 5,51,62,000)
- Partially let out area: 33,031 sq. ft. (income disclosed)
- Vacant area as per assessee’s records: 48,692 sq. ft. (post-conversion)
- Assessee filed return of income on 31.10.2018 declaring total income of Rs. 1,01,70,868
- Occupancy certificate received: 21.10.2016
Procedural History
- 31.10.2018: Assessee filed return of income for A.Y. 2018-19
- 23.04.2021: Assessing Officer passed order under Section 143(3) r.w.s. 144B, adding Rs. 4,39,49,118 as notional rent on the entire unsold area of 1,84,294.33 sq. ft.
- 04.07.2025: CIT(A)/NFAC allowed the appeal, reducing the addition to Rs. 51,12,660 after applying Section 23(5) and Section 24(a)
- 18.05.2026: Hearing held before ITAT Delhi
- 05.06.2026: ITAT Delhi pronounced order dismissing the Revenue’s appeal
Relief Sought
The Revenue sought to restore the addition of Rs. 4,39,49,118 as notional rent under Section 23(1)(c). The assessee sought confirmation of the CIT(A)’s order, which restricted the addition to Rs. 51,12,660 after accounting for the period of conversion and allowing the mandatory 30% standard deduction under Section 24(a).
The Legal Issue
The central question was whether Section 23(5) of the Income-tax Act, 1961, exempts a real estate developer from the levy of notional rent on property held as stock-in-trade, and if so, whether notional rent can be computed only for the period after conversion to a capital asset.
Arguments Presented
For the Appellant (Revenue)
The Revenue contended that the entire unsold commercial area of 1,84,294.33 sq. ft. was capable of generating rental income and therefore should be subject to notional rent under Section 23(1)(c) for the entire financial year. It argued that the CIT(A) erred in distinguishing between stock-in-trade and capital asset status, and that the mere fact of leasing out part of the property demonstrated the commercial potential of the entire asset. The Revenue relied on the literal interpretation of Section 23(1)(c), asserting that any unlet property held by a developer should be deemed to yield rent.
For the Respondent (Assessee)
The assessee argued that Section 23(5) explicitly excludes property held as stock-in-trade from the computation of annual letting value under Section 23(1). It submitted that the conversion to capital asset occurred on 01.01.2018, and therefore, any notional rent could only apply to the remaining three months of the financial year (January to March 2018). The assessee relied on multiple ITAT judgments and provided documentary evidence including lease agreements, occupancy certificate, and profit and loss statements to substantiate the actual vacant area and rental income. It further contended that the Assessing Officer had failed to apply the mandatory 30% standard deduction under Section 24(a), rendering the addition legally unsustainable.
The Court's Analysis
The Tribunal examined the statutory framework under Sections 22, 23, and 24 of the Income-tax Act. It emphasized that Section 23(5) provides a clear statutory exemption: "No annual value shall be determined in respect of any property which is held as stock-in-trade." The Tribunal held that this exemption applies during the period the property is classified as inventory, regardless of its potential rental yield.
"The conversion of stock-in-trade into investment property occurred on 01.01.2018. Consequently, any notional rent can be computed only for the balance three-month period of the financial year - i.e., January to March 2018."
The Tribunal accepted the assessee’s evidence that the vacant area post-conversion was 48,692 sq. ft., not the 81,722 sq. ft. estimated by the Assessing Officer. It noted that the AO had not conducted any independent verification or issued a show-cause notice before making an arbitrary estimation, thereby violating principles of natural justice.
The Tribunal further held that once notional rent is computed under Section 23(1), the deduction under Section 24(a) - a mandatory 30% standard deduction for repairs and maintenance - must be applied automatically. The Assessing Officer’s failure to allow this deduction was legally erroneous.
The Tribunal affirmed the CIT(A)’s computation: monthly rent of Rs. 50 per sq. ft. on 48,692 sq. ft. for three months yielded Rs. 73,03,800. After applying the 30% deduction under Section 24(a), the taxable income was Rs. 51,12,660. The Tribunal found no error in this approach and rejected the Revenue’s contention that the entire year should be subject to notional rent.
The Verdict
The Revenue’s appeal was dismissed. The ITAT Delhi upheld the CIT(A)’s order, restricting the addition to Rs. 51,12,660 under the head "Income from House Property." This amount comprises notional rent of Rs. 73,03,800 for the period January to March 2018, reduced by the mandatory 30% standard deduction of Rs. 21,91,140 under Section 24(a). The Assessing Officer was directed to accept this figure and make corresponding adjustments in the assessment order.
What This Means For Similar Cases
Notional Rent Applies Only Post-Conversion
- Practitioners must now identify the exact date of conversion from stock-in-trade to capital asset in real estate developer cases
- Notional rent can only be computed for the period after conversion, not the entire financial year
- The burden of proving the conversion date lies with the assessee, but documentary evidence (board resolutions, accounting entries, balance sheet reclassifications) is decisive
Section 24(a) Deduction Is Mandatory and Non-Discretionary
- The 30% standard deduction under Section 24(a) must be allowed even if no actual expenses are incurred
- Assessing Officers cannot deny this deduction on grounds of "lack of proof" - it is a statutory entitlement
- Failure to apply Section 24(a) renders any notional rent addition legally invalid
Documentary Evidence Overrides Estimation
- Assessee’s lease agreements, tenant records, and profit and loss statements take precedence over AO’s arbitrary estimates
- AO must issue show-cause notices and afford opportunity of hearing before making adverse inferences on vacant area
- Estimation of vacant area without verification violates principles of natural justice and is liable to be set aside
