Section 81 Income Tax Act 2025: How Is Forfeited Advance Money Taxed?

Section 81 explains how advance money retained after unsuccessful negotiations for the transfer of a capital asset affects its cost of acquisition, and when no such reduction is permitted.

Current legal position: The Income-tax Act, 2025 generally came into force on 1 April 2026. Section 81 should be read with section 92(2)(h) of the 2025 Act and section 56(2)(ix) of the Income-tax Act, 1961, as applicable.

What does Section 81 of the Income-tax Act, 2025 provide?

Section 81, titled Advance money received, applies where a capital asset was previously the subject of negotiations for its transfer and the assessee received and retained advance money or other money in connection with those negotiations.

Under clause (a), the retained amount is deducted, as applicable, from the original cost, written down value or fair market value when computing the cost of acquisition. Clause (b) prevents that deduction if the amount has already been included in the assessee's total income under the specified provisions.

When is advance money deducted from cost of acquisition?

The cost adjustment under section 81(a) is relevant where:

A capital asset was the subject of earlier negotiations for transfer;
Advance money or another amount was received in connection with those negotiations;
The assessee retained that amount; and
The exception for amounts already included in taxable income does not apply.

The adjustment affects the cost used in the relevant capital gains computation. It does not mean that every advance received on a proposed sale is automatically taxable or automatically deductible from cost.

When is forfeited advance money not deducted?

Section 81(b): No deduction from cost is made where the advance or other money has been included in the assessee's total income for any tax year under section 92(2)(h) of the Income-tax Act, 2025, or under section 56(2)(ix) of the Income-tax Act, 1961.

This prevents the same retained advance from both being taxed as income and reducing the asset's cost for capital gains purposes. The timing and applicable law for the receipt must be examined before preparing a return or calculating a gain.

Important statutory terms and concepts

Capital asset: Property covered by the statutory definition of capital asset, subject to exclusions under the Income-tax Act, 2025. Whether a particular asset qualifies depends on the facts and the applicable definition.

Assessee: A person by whom tax or another sum is payable under the Act, including persons covered by the extended definition in section 2(11).

Advance money received and retained: Money received in negotiations for a proposed transfer and kept by the recipient, for example following cancellation of the proposed transaction. Section 81 does not apply merely because a refundable deposit was received.

Cost of acquisition: The cost attributed to the asset for computing capital gains, subject to applicable statutory adjustments and special rules.

Fair market value and written down value: Valuation measures that may be relevant instead of original cost where the applicable capital gains provisions so require.

Illustration: How does Section 81 affect capital gains?

Assume an assessee acquired a capital asset for Rs. 20,00,000. In an earlier proposed sale, the assessee retained Rs. 2,00,000 of advance money after negotiations failed.

If the amount was not included in taxable income under the specified provisions: subject to other applicable rules, the adjusted acquisition cost may be Rs. 18,00,000.
If the Rs. 2,00,000 was already included in total income under section 92(2)(h) or section 56(2)(ix): section 81(b) prevents a second adjustment, so the cost is not reduced on that account.

This is a simplified illustration. Indexation, deemed cost, grandfathering and other special provisions, where applicable, are not considered.

Relationship with the Income-tax Act, 1961

Section 81 of the 2025 Act broadly carries forward the subject of section 51 of the Income-tax Act, 1961. Its express exception also recognizes amounts previously taxed under section 56(2)(ix) of the 1961 Act. Historical transactions must be examined under the provisions applicable to the relevant period.

Frequently asked questions

Is every forfeited advance deducted from the cost of acquisition?

No. Section 81(b) excludes amounts already included in total income under the specified income-tax provisions.

Does Section 81 apply if the proposed sale was never completed?

Yes, it specifically addresses advance or other money received and retained in connection with previous negotiations for the transfer of a capital asset, subject to the statutory conditions.

Does Section 81 itself prescribe a tax rate?

No. It concerns an adjustment to cost of acquisition. Any taxation of the retained amount under the income-from-other-sources provisions is a separate issue.

Official statutory references

Income-tax Act, 2025 - official amended text Income Tax Department - 2025 Act resources Gazette publication of the 2025 Act

Last updated: 10 November 2026. This article provides general legal information and should be read with the statutory text and applicable amendments.