Income Tax Taxation

How HUF can help you in Saving Income Tax?

HUF (Hindu Undivided Family) is one of the most important concepts under the Income Tax Act. In the below article, we will cover what a HUF is and can it be an important tool to save tax. Let’s begin our journey.

What is HUF?

A Hindu Undivided Family (HUF), as its name suggests, is a joint family which is seen as a separate entity from that of the individual members in the HUF. The head of the family is called Karta which operates the business of the HUF. In case of the death of the father, any elected person could operate it. Hindu, Buddhists, Jains, and Sikhs can form the HUF. HUF usually has assets that come as a gift, a will, or any ancestral property, or property acquired from the sale of joint family property, etc.

HUF consist of co-parceners (who are family members) and the distant relatives, called members of HUF. Co-parceners are the family members and it consists of four levels of lineal descendants including the first male ancestor. It is only a coparcener who can demand the partition of HUF.

What does Income Tax Act say about HUF?

According to section 2(31) of the Income-tax Act, 1961, a HUF is considered as a “person” and therefore is treated as a separate entity for the purpose of tax assessment. Mostly big families that own ancestral properties and businesses obtain a separate Permanent Account Number (PAN) in the name of the HUF. This is done so that the incomes earned from the assets and businesses owned by the HUF are assessed separately, which also brings down the family’s tax liability to pay.  It is to be noted that a HUF is taxed on the same slab rates that are applicable to an individual income tax assessee.

The Hindu Undivided Family is a tax entity which can be formed by members of a Hindu family and select other religions which are mentioned above as a means of saving taxes. Forming a HUF allows for significant tax savings especially when you are in higher income brackets.

Who can be members of a HUF?

All the members of a family, including wife, children, their wives, and their children. The male members are called coparceners while the females are referred to as members. The senior-most male member is called the Karta or manager and a typical HUF consists of a Karta, his sons, grandsons, and great-grandsons who will be known as coparceners and their wives and unmarried daughters which are known as members.

Are daughter’s Coparceners?

In the year 2005, after the amendment of the Hindu Succession Act, 1956 which was effective from September 9, 2005, now daughters when born are equivalent to sons and are coparceners. Before the amendment, they were merely members of the family and did not form part of the coparceners.

What are the rights of HUF members?

The difference between a coparcener and a member is that a coparcener has the right to demand partition of a HUF by way of the distribution of HUF property among the coparceners. Therefore, each coparcener is entitled to a share in the property; the members are entitled to receive maintenance from the HUF.

The Karta is responsible and generally manage the family property, which is the joint property of all the coparceners.

Who Manages a HUF?

The person who is responsible for managing the affairs of the family is known as Karta. Generally, the senior-most male member of the family is regarded as Karta.

What is the benefit of Creating HUF?

1. According to the Income-tax law, a HUF is treated as an independent person (Separate legal entity) for tax purposes, so the most obvious reason is the benefit of Income Tax Slabs, Deductions u/s 80.
2. Secondly, two pan cards can be applied and an individual can file two income tax returns, one
   in his personal/individual capacity and secondly in the name of the HUF.
3. Loans can be availed very easily.

What kind of Documents or Paperwork is Involved for a HUF?

1. Obtain PAN number in the name of the HUF.
2. Open a bank account in the name of the HUF.
3. Open a Demat account in the name of the HUF.
4. Use the HUF’s bank account to make all investments/expenses.
5. Maintain proper documentation and books of accounts to keep their own investments and investments of HUF segregated.
6. Karta of the HUF will have the power to sign all the documents on behalf of the HUF.
7. Filing income tax returns separately for the HUF.

What Income is Taxable as HUF Income?

1. Any funds of a HUF that are invested in a company or a firm, fees or remuneration received by the member as a director or a partner in a company or any firm may be treated as income of the family if fees or remuneration is earned as a result of the investment of funds.
2. In case any remuneration is paid by the HUF to the Karta or any other member for services rendered by them, remuneration is deductible from the income of HUF if such payment is genuine and is not in excess and is paid under a valid and bonafide

What Income is Not Taxable as HUF Income?

The following incomes are not taxable as HUF income:-

1. If a member has converted or transferred or merged without adequate consideration of his self-acquired property into the joint family property, then, income from such property is not taxable in hands of the HUF.
2. The income of impartible estate (though it belongs to family) is taxable in the hands of the holder of the estate and not in hands of HUF.
3. The personal income of any member cannot be treated as an income of HUF.
4. “Stridhan” is the absolute property of a woman; hence income arising from there cannot be taxable as income of HUF.
5. Income from the individual property of the daughter is not taxable in hands of HUF even if such property is vested by the daughter into HUF.

Deduction from Gross Total Income:

A HUF is entitled to deductions that are available under Chapter VI-A while calculating its taxable income.

The rate of Tax:

1. A HUF is taxed on the same slab rates as applicable to an Individual.
2. A HUF is liable to pay Alternative Minimum Tax if the tax payable is less than 18.5 percent (including cess and surcharge) of “Adjusted Total Income” subject to prescribed conditions.

What are the major Drawbacks of a HUF?

1. No outside person other than family members can be a part of the HUF which makes it very difficult to get additional capital from the market. With such limited capital, the chances of expansion become very low and ultimately It limits the scope of the business.
2.  While the Karta has all the powers, he has the burden of unlimited liability as well. He may even be held responsible for the actions of other members.
3. The major drawback is that the Karta may not be the most qualified person to lead. The position is given to the senior-most family member in the family without considering if he is the most qualified or not.

How HUF can be Beneficial for tax Planning?

Since an Individual and a HUF has similar benefits under the Income Tax Act, 1961^[1], if a married individual can shift his income legally to his HUF, then he can avail the benefit of much lower tax liability.

Similarly, several individuals in their personal capacity are not able to utilize the exemptions and deductions available to them under provisions of Income Tax Act, 1961. For e.g. Section 80 C, 80 G, 80 D etc. Because of the sub-limits imposed on such deductions. For e.g. Maximum Deduction allowed u/s 80 C is restricted to Rs. 1,50,000/-. Such individuals can transfer these payments through their HUF and thereby avail the benefit of deductions under these sections through their HUF.

Let’s try to understand this better with the help of an example.

Option A

Let’s take the case of Mr. Aditya, a married man having two children working in the Corporate Sector and earning a salary of Rs. 20,00,000/- per year. His income also includes income from investments of Rs. 10,00,000/-.

Also, he pays a Life insurance Premium of Rs 60,000 for his family, PPF investment of Rs. 1,00,000. His company also deducts PF of Rs. 1,50,000 from his Salary. He also pays a medical insurance premium for himself and his family for Rs. 20,000/-.

Gross Taxable Income from all sources	30,00,000	20,00,000 + 10,00,000
Deductions u/s 80C	1,50,000	Basic Investments in PF, PPF, and ELSS
Deductions under chapter VIA (80D, 80E, 80G etc)	20,000	Medical Insurance Premium
Net taxable income from all sources	28,30,000	–
Total tax liability	6,81,345	–

Option B

Let’s assume that Mr. Aditya is able to legally shift his income from investments of Rs. 10,00,000/- to his HUF. He also pays the Life Insurance premium of Rs. 60,000/- and PPF of Rs. 1,00,000/- in his name from his HUF. Let’s see his revised tax outflow in this scenario.

Gross Taxable Income from all sources	20,00,000	–
Deductions u/s 80C	1,50,000	Basic Investments in PF, PPF, and ELSS
Deductions under chapter VIA (80D, 80E, 80G etc)	20,000	Medical Insurance Premium
Net taxable income from all sources	18,30,000	–
Total tax liability	3,72,345	–

The Tax liability of Mr. Aditya’s HUF will be as follows:

Gross Taxable Income from all sources	10,00,000	–
Deductions u/s 80C	1,50,000	Basic Investments in PF, PPF, and ELSS
Deductions under chapter VIA (80D, 80E, 80G etc)	0	–
Net taxable income from all sources	8,50,000	–
Total tax liability	84,975	–

Under option B, tax saving is for an amount of Rs. 2,24,025 per year

Hence, from the above example, it is evident that, if Aditya is able to legally shift the incidence of taxable income from his individual capacity to his HUF and make payment of expenses on which he gets tax deductions from his HUF, he is able to save nearly Rs. 2,00,000/- every year.

HUF as a concept is very beneficial for someone in the highest tax slab. If you have any questions on this, do contact Enterslice, India’s No. 1 consultant.

Conclusion

As taxpayers, we all look to minimize our tax liability by availing benefits under various sections of the Income Tax Act. Saving taxes through HUF is a completely valid and lawful thing to do. As discussed, HUF is treated as a ‘person’ according to section 2(31) of the Income-tax Act and is a separate entity for the purpose of assessment. Any personal income of the members is not treated as income of a HUF. HUF has its own PAN and files a separate income tax return.

Read our article: Hindu Undivided Family – A Way to Save Income Tax