In a crucial ruling, the Kerala High Court has made it clear that when a person receives compensation—including enhanced compensation and interest—for the compulsory acquisition of agricultural land, such income will fall under ‘Capital Gains’, not ‘Income from Other Sources’, under the Income Tax Act.
This decision was passed in a joint judgment in two income tax appeals: I.T.A. No. 32 of 2023 and I.T.A. No. 60 of 2024. The Division Bench comprised Dr. Justice A.K. Jayasankaran Nambiar and Justice Easwaran S.
The assessees, Shri. Anvar Ali Poolakkodan and Shri. Abdul Azeez Poolakkodan, had received compensation for agricultural land that was compulsorily acquired by the State. They also received enhanced compensation and interest as directed by the Reference Court under Section 28 of the Land Acquisition Act, 1894 (LAA).
They declared this entire amount—including interest—as Capital Gains and claimed exemption under Section 10(37) of the Income Tax Act, 1961.
However, the Income Tax Appellate Tribunal (ITAT) held a different view, classifying the interest component as ‘Income from Other Sources’ under Section 56(2)(viii), and denied the exemption under Section 10(37).
- In I.T.A No. 32/2023, the Tribunal made a distinction: “Interest received at 9% per annum would be treated as Capital Gains, but interest at 15% would fall under Income from Other Sources.”
- In I.T.A No. 60/2024, the Tribunal ruled that: “Post amendment of Section 56(2), all interest amounts from delayed compensation would be treated as Income from Other Sources.”
The High Court disagreed with this logic and clarified the correct interpretation.
"Amounts received by an assessee as compensation or enhanced compensation for compulsory acquisition of his landed property would be treated as income under the head of ‘Capital Gains’."
The Court highlighted that interest received under Section 28 or 34 of the LAA is not ‘interest’ in the traditional sense under Section 2(28A) of the Income Tax Act. Instead, such interest:
“Partakes the character of the principal compensation itself, as it compensates for the delay in payment of the due amount.”
As a result, such amounts should be treated as Capital Gains, and if the land in question is agricultural, the benefit of Section 10(37) will apply.
This section provides exemption from tax on Capital Gains arising from the compulsory acquisition of agricultural land. To qualify:
- The land must be located in a notified area.
- It must have been used for agriculture in the two years preceding the acquisition.
- The acquisition must be compulsory.
- The compensation must be received after April 1, 2004.
The High Court observed that the assessees in these cases met all these conditions. Hence:
“Interest amounts will also get the benefit of Section 10(37) of the I.T. Act if the land compulsorily acquired is agricultural land.”
The Court referred to several constitutional principles and precedents. It emphasized:
“Compensation amounts paid for compulsory acquisition of property trace their roots to the constitutional obligation under Article 300A.”
It cited recent decisions like Dharnidhar Mishra v. State of Bihar and Kolkata Municipal Corporation v. Bimal Kumar Shah, reinforcing that the right to property is still a constitutional and human right, even though it’s no longer a fundamental right.
Hence, compensation and any related delayed payment must be treated with the same importance, and denying tax exemptions by reclassifying them goes against this principle.
“Interest amounts received by an assessee in respect of delayed payment of compensation under the LAA will be treated as accruals to the principal compensation amount and be classified as ‘Capital Gains’ for the purposes of the I.T. Act.”
Further:
“Such interest amounts are not in the nature of ‘interest’ as defined under Section 2(28A), hence, provisions of Section 56 will not apply.”
The High Court allowed both appeals and ruled in favour of the assessees.
- Compensation and enhanced compensation for compulsory land acquisition = Capital Gains.
- Interest on delayed compensation under Section 28/34 LAA = also Capital Gains, not 'Other Sources'.
- Agricultural land acquisition compensation enjoys exemption under Section 10(37).
- Section 56(2)(viii) won’t apply where the nature of interest aligns with compensation itself.
“Any statutory interest paid to a person for delayed payment of compensation partakes the character of the compensation itself.”
“For a citizen whose property is compulsorily acquired, the right to receive the compensation in full accrues from the date of dispossession.”
Case Title: Anvar Ali Poolakkodan v. The Income Tax Officer
Case Number: I.T.A.NO.32 OF 2023
Counsel for Petitioner/ Assessee: Anil D. Nair, Aaditya Nair and Telma Raju
Counsel for Respondent/ Department: P.G. Jayashankar and Keerthivas Giri
