Advance Money Forfeited on a Property Deal: Tax Treatment under the Income Tax Act 2025
If a buyer pays you an advance for a capital asset, the deal falls through and you keep the money, that sum is taxed as income from other sources under section 92(2)(h) of the Income-tax Act, 2025. If an advance was retained earlier but never taxed that way, section 81 reduces the cost of the asset when you eventually sell it. The two rules work as a pair, so the same rupee is not ignored twice or taxed twice.
This guide explains both rules, with worked examples for tax year 2026-27. The text is taken from the Act as amended by the Finance Act, 2026. It is information, not advice for your specific case.
Is forfeited advance money taxable under the Income Tax Act 2025?
Yes, when two conditions are both met. Section 92(2)(h) lists "any sum of money received as an advance or otherwise during negotiations for the transfer of a capital asset" as income from other sources if:
- the sum is forfeited, and
- the negotiations do not result in transfer of the capital asset.
A capital asset is the kind of asset on which capital gains arise, for example a flat, plot, shop or shares. "Forfeited" means the seller keeps the money because the buyer backed out or failed to complete. If the deal goes through, the advance is simply part of the sale price and section 92(2)(h) does not apply.
What does section 81 do, and when does it apply?
Section 81 is a cost adjustment. It applies where a capital asset was, on any previous occasion, the subject of negotiations for its transfer, and you received and retained an advance or other money for those negotiations. When you later sell the asset and compute capital gains:
- Rule (section 81(a)): the retained advance is deducted from the cost for which the asset was acquired, or the written down value, or the fair market value, as the case may be, in computing the cost of acquisition.
- Exception (section 81(b)): do not deduct it if the advance was already included in your total income for any tax year under section 92(2)(h) of this Act or section 56(2)(ix) of the Income-tax Act, 1961.
A lower cost of acquisition means a higher capital gain on the later sale. The exception exists because an advance that has already been taxed as income should not be taxed again through a lower cost.
What if the advance is refunded, or the deal completes?
Neither rule applies to money you hand back. Section 92(2)(h) needs the sum to be forfeited, and section 81 needs it to be received and retained. If the advance is refunded, nothing is forfeited or retained, so there is no income under section 92(2)(h) and no cost reduction under section 81. If the deal completes, the advance is part of the sale consideration and is dealt with in the capital gains computation for that sale.
How do section 92(2)(h) and section 81 compare?
| Section 92(2)(h) | Section 81 | |
|---|---|---|
| What it does | Treats the forfeited advance as income from other sources | Reduces the cost of acquisition of the asset on a later transfer |
| Trigger | Advance forfeited and negotiations do not result in transfer | Asset was earlier the subject of negotiations and the advance was retained |
| When it bites | Tax year of forfeiture | Tax year in which the asset is later sold |
| Switch-off | None for this clause | Does not apply if the advance was already taxed (section 81(b)) |
How is the cost of acquisition adjusted? Worked examples
Assumptions for both examples: Meena bought a plot for Rs 40,00,000. A buyer paid her Rs 3,00,000 as advance and the deal failed. Meena kept the advance. In tax year 2026-27 she sells the plot to another buyer for Rs 60,00,000. We ignore improvement costs, transfer expenses and the rate of tax, and look only at how the gain changes.
Example 1: the advance was not included in her total income
| Step | Working | Rs |
|---|---|---|
| 1 | Cost for which the plot was acquired | 40,00,000 |
| 2 | Less: retained advance, section 81(a) | (3,00,000) |
| 3 | Cost of acquisition | 37,00,000 |
| 4 | Sale price | 60,00,000 |
| 5 | Capital gain (60,00,000 less 37,00,000) | 23,00,000 |
Example 2: the advance was taxed under section 92(2)(h)
| Step | Working | Rs |
|---|---|---|
| 1 | Advance forfeited, taxed as other income in the year of forfeiture | 3,00,000 |
| 2 | Cost of acquisition, no reduction because of section 81(b) | 40,00,000 |
| 3 | Sale price in 2026-27 | 60,00,000 |
| 4 | Capital gain (60,00,000 less 40,00,000) | 20,00,000 |
In both cases Rs 3,00,000 ends up in her taxable income once. In Example 1 it arrives through a higher capital gain, in Example 2 through other income.
What happens in real life? Two scenarios
Ravi, the buyer who walked away. Ravi paid Rs 2,00,000 to a seller, Anil, as advance for a shop and then could not arrange the loan. Anil forfeited the money. The sum is Anil's income from other sources under section 92(2)(h), and the shop is still his. If Anil sells the shop to someone else later, section 81(b) stops any cost reduction because the advance has already been taxed.
Meena's neighbour, Sunita. Sunita retained an advance on a flat, and it was never part of her total income for any year. When she sells the flat years later, section 81(a) takes that advance off her cost of acquisition, so her capital gain is higher by the same amount.
Common mistakes
- Treating the forfeited advance as a capital receipt and leaving it out of the return. Section 92(2)(h) lists it as income from other sources.
- Reducing the cost under section 81 even though the advance was already taxed. Section 81(b) blocks that.
- Ignoring the advance when the sale happens years later. Section 81 applies "on any previous occasion", so keep the old receipt records with the title papers.
- Applying section 92(2)(h) when the deal did complete. The clause needs both forfeiture and a failed transfer.
- Using the same tax year for both effects. The income arises when the sum is forfeited, the cost adjustment arises on the later sale.
Where this is in the Act
- Section 81: advance money received, adjustment to cost of acquisition
- Section 92(2)(h): forfeited advance as income from other sources
- Section 92(1): residual head, income from other sources
For a CA firm, the practical risk is remembering an old advance when a client's property is finally sold. Finexo's practice management software lets you keep notes and reminders on each client file, so details like this are still there years later. It does not compute capital gains for you.
Related reading: TDS on rent under the Income Tax Act 2025.
Frequently Asked Questions
Is forfeited advance on a property deal taxable?
Yes. Under section 92(2)(h), an advance received during negotiations for transfer of a capital asset is income from other sources if it is forfeited and the negotiations do not result in transfer.
What does section 81 of the Income Tax Act 2025 say?
Advance money retained from earlier negotiations for a capital asset is deducted from its cost of acquisition when the asset is later sold, unless the advance was already included in total income.
When is the advance not deducted from the cost of acquisition?
Under section 81(b), when the advance was included in your total income for any tax year under section 92(2)(h) of the 2025 Act or section 56(2)(ix) of the 1961 Act.
Does section 92(2)(h) apply if the sale goes through?
No. The clause needs the advance to be forfeited and the negotiations not to result in transfer of the asset.
Which head of income is a forfeited advance taxed under?
Income from other sources, under section 92(2)(h), read with section 92(1).
Is a refunded advance taxable under section 92(2)(h)?
No. The clause needs the sum to be forfeited. An advance that is returned to the buyer is neither forfeited nor retained, so neither section 92(2)(h) nor section 81 applies to it.