HUF – A way to save Income Tax (I)
Hindu Undivided Family, more popularly known by the abbreviation – HUF, is a term used to denote a family of Hindu with common ancestor of the lineal male offspring together with their spouses & daughters. It symbolizes everyone in the family, males by default, females whether married or unmarried & those women married into the family.
Hindu law recognizes the concept family unit & also the prevailing old practice of pooling of efforts, skill & resources by the family members for the benefit of all the members in the family. Concept of HUF is duly recognized & approved under the Income Tax Act-1961. Understanding the concept of Hindu Undivided Family (HUF) can help taxpayer to save their taxes in a legal manner. Buddhists, Jains, and Sikhs can also form an HUF.
From taxation perspective, HUF is altogether separate tax entity. It is taxed separately from its members. It is treated as a ‘person’ under section 2(31) of the Income-tax Act, 1961. Without the knowledge of HUF, lot many taxpayers end up paying higher tax treating certain income as their individual income which in-fact belongs to HUF. HUF is taxable like an individual. It can enjoy the basic exemption limit as is available to individual assessee. It can enjoy the concessional tax slab of 5% & 20% as available for individual. However, Personal income of the members cannot be treated as income of HUF. Similarly, “Stridhan” is absolute property of a woman & so income from it is not taxable as income of HUF.
HUF is also eligible for deductions under various sections of chapter VI-A of the Income Tax Act-1961 like deduction u/s 80C up to Rs. 1.50 Lakh by taking insurance policy on the life of its members. Similarly, it can claim separate deduction in respect of payment of Health Insurance Premium (medi-claim) u/s 80D of the Income-tax Act, 1961. It is also eligible for deduction u/s 80DD, 80DDB, 80G etc. HUF is also entitled to claim deduction for interest on self occupied house property u/s 24 up to Rs. 1,50,000 in a year. Like individual, income of the HUF from dividend or shares or Mutual Funds is exempt up to certain limit.
Ancestral property held by HUF can be let out to earn rental income. In fact, the HUF is a wonderful tool for tax planning for the taxpayers who have income from ancestral property & is expected to inherit financial assets. Such taxpayers will be able to divert the inheritance to the HUF thereby preventing taxation on such income in the individual hands at a higher tax slab.
The income which is earned by using HUF funds or property only is taxable as HUF income. Income that arises on the investment of HUF funds (e.g. interest earned on loans given by a HUF) or out of the utilization of HUF assets (e.g. rent of HUF property) would be regarded as HUF income. HUF can earn income from all sources except salary. It can invest the initial corpus as well as gifts received to start a business and earn profits or earn capital gains. Investments can be made from HUF’s income. Any returns from these investments are taxable in the hands of the HUF.
HUF can be a partner in a partnership firm through its Karta. If funds of an HUF are invested in a firm as capital, interest & share of profit received from the firm would be taxable as income of the firm. As far as remuneration from the firm is concerned, it may be noted that it can be paid only to ‘working partner’. If remuneration is received from the firm, it may be treated as income of the family if fees or remuneration is earned essentially as a result of investment of funds- CIT Vs. Trilok Nath Mehrotra (1998) 98 Taxmann 462 (SC). However, if remuneration is earned for services rendered by the member in his personal capacity, it will be treated as the personal income of the member – Laxmandas Vs. CIT (1982) 138 ITR 628 (All).
HUF can pay salary to its members if they are contributing to its functioning & work of the joint Hindu family business. If any remuneration is paid by the HUF to the karta or any other member for services rendered by him, remuneration is deductible from income of HUF if such payment is genuine and not excessive and paid under a valid bonafide agreement.
If a member transfers his self-acquired property to the HUF without receiving proper sale consideration, income from such property is not taxable in hands of the HUF. It will continue to be taxed in the hands of the member by virtue of clubbing provision.
Income from an individual property of daughter is not taxable in hands of HUF even if such property is vested into HUF by the daughter.
How the HUF is formed, what are the other provision and precaution for HUF, I will try to cover it in my next issue. HUF is a powerfultax vehicle & its recognition as a distinct unit for tax policy u/s 2(31) of the Income Tax Act-1961 provides ample opportunity to save tax
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