Taxation · Capital Gains

Exemption on Investment in Specified Bonds under Section 85

Updated 4 October 2026 · Fact-checked

Section 85 of the Income-tax Act, 2025 exempts long-term capital gain on transfer of land or building if you invest in notified specified bonds within six months of the transfer. The exemption is the lower of the gain and the amount invested, capped at ₹50 lakh, and the bonds are locked in for five years.

Understand Exemption on Investment in Specified Bonds

Some capital gains can be saved from tax if you put the money back into approved assets. Section 85 is the route for bonds. You sell land or a building at a long-term gain, and you park the gain in specified bonds (long-term specified assets) issued by notified bodies. The Government wants long-term funds for infrastructure, so it gives you the exemption.

The exemption is narrow. The asset sold must be a long-term capital asset that is land or building or both. Gains on shares, gold or other assets do not qualify. Only the capital gain matters, not the full sale price. You do not have to invest the whole sale consideration.

Three conditions control the claim. First, the time limit: invest within six months after the date of transfer. Second, the limit: the investment made in the tax year of transfer and in the next tax year, taken together, cannot exceed ₹50 lakh. Third, the lock-in: the bonds must be redeemable only after five years, and you cannot sell them, convert them into money or take a loan or advance against them during that period.

If you break the lock-in, the exemption is reversed. The gain that was exempted is treated as a long-term capital gain of the tax year in which you transferred the bonds, converted them into money, or took the loan or advance. The reversal does not reopen the earlier year. It is taxed in the year of the breach.

For the exam, think in this order: Is it land or building? Is it long-term? What is the gain? When was the transfer? What was invested, when, and how much is eligible? What is the exemption? What remains taxable? Then check for any breach of lock-in.

Key rules to remember

Eligible asset transferred: Long-term capital asset being land or building or both; Gain on any other asset (shares, gold, etc.) does not qualify under this section.
Time limit for investment: Investment within 6 months after the date of transfer; Count from the date of transfer, not from the end of the tax year. The window can cross into the next tax year.
Investment cap: Investment in tax year of transfer + investment in next tax year ≤ ₹50,00,000; Amounts above ₹50 lakh in total do not earn exemption, even if the gain is larger.
Exemption amount: Exemption = lower of (long-term capital gain, eligible amount invested); Eligible amount invested means the investment within the time limit, capped at ₹50,00,000.
Taxable gain after exemption: Taxable LTCG = Long-term capital gain − Exemption; The balance is taxed at the applicable long-term capital gains rate.
Lock-in: 5 years from the date of acquiring the bonds; No transfer, conversion into money, or loan or advance against the bonds during this period.
Withdrawal consequence: Exempted gain = deemed LTCG of the tax year of transfer, conversion or loan; Taxed in the year of breach, not in the original year.

How to solve Exemption on Investment in Specified Bonds questions

Use this order for any question on exemption through specified bonds. Write each step on the answer sheet so you pick up step marks.

1Check the asset sold. It must be land or building or both. If it is anything else, state that section 85 does not apply.
2Check that the asset is long-term and compute the long-term capital gain with the usual full value of consideration, cost of acquisition and expenses on transfer.
3Note the exact date of transfer and compute the last date for investment, which is six months after it.
4List each investment with its date. Drop any investment made after the last date. Note which tax year each falls in.
5Add the eligible investments for the tax year of transfer and the next tax year and cap the total at ₹50,00,000.
6Exemption = lower of the long-term capital gain and the capped investment. Taxable gain = gain − exemption.
7If the question mentions a sale of the bonds, a loan against them or conversion into money within five years, bring the exempted gain into the long-term capital gain of that tax year.
8State the final taxable amount and the tax year in which each amount is taxed.

Quickest way: Four-check shortcut for MCQs and written answers

When to use it: Use this when time is short, especially for 1 or 2 mark MCQs and short written parts.

Check 1: land or building, long-term? If no, the answer is no exemption.
Check 2: investment within six months of transfer? Eliminate any option that counts a late investment.
Check 3: take the smallest of the gain, the eligible investment and ₹50,00,000. That is the exemption.
Check 4: any loan, sale or redemption within five years? If yes, the exempted gain becomes LTCG in that later tax year.
In MCQs, options that give an exemption above ₹50 lakh or equal to the sale price are usually traps. In written answers, show the cap, the lower-of comparison and the taxable balance as separate lines.

Common mistakes in Exemption on Investment in Specified Bonds

Applying the exemption to a long-term gain on shares or gold.
Students mix section 85 with the provisions for reinvestment in a residential house or other assets.
Fix: Remember that bond investment applies only to long-term gain on land or building or both. Check the asset first.
Investing the whole sale consideration and claiming exemption on it.
Students confuse capital gain with the net sale proceeds.
Fix: Exemption is the lower of the capital gain and the eligible investment. Never exceed the gain.
Ignoring the ₹50 lakh cap and exempting the full gain.
The cap is easy to forget when the gain is large and the investment is also large.
Fix: Add the investments of the tax year of transfer and the next tax year, then cap the total at ₹50,00,000 before the lower-of test.
Counting the six months from the end of the tax year, or from the date of receipt of money.
Students link the time limit with return due dates or with receipt of consideration.
Fix: Count six months from the date of transfer of the original asset and compare each investment date with that last date.
Saying a loan against the bonds is allowed during the lock-in.
Students think only a sale or redemption is a breach.
Fix: State clearly that transfer, conversion into money, and loan or advance against the bonds within five years all trigger withdrawal of the exemption.
Taxing the withdrawn exemption in the original year of the sale.
Students think of reopening the earlier year.
Fix: Add the exempted gain to the long-term capital gain of the tax year in which the breach occurs.

Worked examples

Example 1

Mr. Arun, a resident individual, transferred a plot of land held for more than 24 months on 10 August 2026 (tax year 2026-27). The long-term capital gain computed is ₹50,00,000. On 20 December 2026 he invested ₹40,00,000 in specified bonds. Compute the exemption and the taxable long-term capital gain.

Show the solution

The asset is land and the gain is long-term, so section 85 can apply.
Last date for investment = six months after 10 August 2026 = 10 February 2027.
Investment on 20 December 2026 is within the time limit, so ₹40,00,000 is eligible.
Cap check: ₹40,00,000 is below ₹50,00,000, so the full amount is eligible.
Exemption = lower of ₹50,00,000 (gain) and ₹40,00,000 (investment) = ₹40,00,000.
Taxable long-term capital gain = ₹50,00,000 − ₹40,00,000 = ₹10,00,000.

Answer: Exemption is ₹40,00,000 and the taxable long-term capital gain is ₹10,00,000, which is taxed at the applicable long-term capital gains rate.

Example 2

Ms. Meera transferred a building on 15 January 2027 (tax year 2026-27) and has a long-term capital gain of ₹70,00,000. She invested ₹30,00,000 in specified bonds on 10 March 2027 and a further ₹30,00,000 on 5 June 2027. (a) Compute the exemption and taxable gain. (b) In tax year 2029-30 she takes a loan against the bonds. What is the effect?

Show the solution

Last date for investment = six months after 15 January 2027 = 15 July 2027.
Both investments fall within the time limit. The first is in tax year 2026-27 and the second is in tax year 2027-28, the next tax year.
Total investment = ₹30,00,000 + ₹30,00,000 = ₹60,00,000.
The cap is ₹50,00,000, so eligible investment = ₹50,00,000.
Exemption = lower of ₹70,00,000 (gain) and ₹50,00,000 (eligible investment) = ₹50,00,000.
Taxable long-term capital gain for tax year 2026-27 = ₹70,00,000 − ₹50,00,000 = ₹20,00,000.
Part (b): the bonds were acquired in 2027, so a loan taken in tax year 2029-30 is within five years. This is a breach of the lock-in condition.
The exempted gain of ₹50,00,000 is treated as long-term capital gain of tax year 2029-30.

Answer: (a) Exemption ₹50,00,000; taxable long-term capital gain ₹20,00,000 for tax year 2026-27. (b) ₹50,00,000 becomes long-term capital gain of tax year 2029-30.

Exam tips

Always write the last date for investment as a separate line. Examiners look for it and it decides which investments count.
Show the ₹50 lakh cap and the lower-of comparison explicitly, even when the cap does not bite. This earns step marks.
In MCQs, look for traps: a non-land asset, a late investment, a short-term gain, or an investment above ₹50 lakh.
For withdrawal questions, name the tax year of the breach. The gain is taxed there, not in the year of the original sale.
Quote the section number as section 85 of the Income-tax Act, 2025 and use the term tax year, never assessment year.

Practice questions from Capital Gains

Exemption on Investment in Specified Bonds in other exams

The same ground in other exams, if you are preparing for more than one or want another angle on it.

Exemption on Investment in Specified Bonds: frequently asked questions

What is the maximum amount I can invest in capital gain bonds to claim exemption?

The investment made in the tax year of transfer and in the next tax year, taken together, cannot exceed ₹50 lakh. Anything above this does not earn exemption. The exemption is also limited to the amount of the capital gain.

What is the lock-in period for specified bonds?

The lock-in is five years from the date you acquire the bonds. During this time you cannot transfer them, convert them into money, or take a loan or advance on their security. A breach makes the exempted gain taxable as long-term capital gain in the tax year of the breach.

Can I claim this exemption on the sale of shares or gold?

No. The exemption is available only for long-term capital gain on transfer of land or building or both. For other assets you must look at other exemption provisions, if any apply.

How do I claim the exemption in the exam answer?

Compute the long-term capital gain, state the last date of investment, check the investment against the time limit and the ₹50 lakh cap, and take the lower of gain and eligible investment as the exemption. Then show the taxable balance.