Taxation

Tax Implications of Rental Income in India

Investment in property can be either for personal use or for renting it out to a tenant. When you use the property for personal use, no income is generated from the property. If you rent out your property to a tenant, you earn rental income on it. Rental income is considered as income under the Income Tax Act of 1961 (IT Act). Rental income is one of the primary sources of income. The property owners i.e. the person letting out their property, should be aware of the income tax rate applicable on rental income, to what extent rental income is tax-free, etc. To pay taxes on rental income, one has to be aware of the tax rate applicable and pay all the taxes due on time. However, in the majority of cases, the property owners are not aware of the deductions and exemptions. Proper planning and knowledge of the tax liability are required before renting out a property so that the property owner can avail of exemptions on rental income. So let’s understand the tax implications of rental income in India.

What is the meaning of Tax on Rental income in India?

The amount received in return for leasing or renting a property is termed “Rental Income”. It also includes any amount received in advance, such as a security deposit. The tax calculated on such an amount is known as Tax on Rental Income. Tax on rental income is calculated after deducting municipal tax. In India, the government makes no differentiation between residential property and commercial property when it comes to imposing a tax on rental income. Even a parking lot attached to a home or office is considered a house property. On every rented building, tax shall be imposed. The rental income is taxed under section 24 of the IT Act. In India, rental income is taxable at the rate of 30% under the head of income from house property. To avail of tax exemptions and standard deductions under the IT Act, the person should be the legal owner of the property.

How is the tax on rental income calculated?

Let’s understand the step-by-step process to determine the tax on rental income:

1. Gross Annual Value (GAV) of the Property

The first step is to determine the GAV of the property. If the house is self-occupied, the GAV will be zero. However, if the property is rented, then the amount received annually will be the GAV.

2. Property Tax

Property tax is the tax paid by the property owner for owning the property to the government. If the property tax is paid in advance, then it is allowed as a deduction from GAV.

3. Net Annual Value (NAV) of the property

The difference between the GAV and property tax paid will give us the NAV.

4. Standard Deduction

As per section 24 of the IT Act, a standard deduction is made on the NAV. The standard deduction is allowed at the rate of 30% on NAV.

5. Home Loan

If any home loan is taken by the property owner for that property, then the home loan’s interest amount is deducted as per section 24 of the IT Act. If the property for which the loan is taken is rented out, then the total amount paid as interest is allowed to be deducted.

6. Apply rental income tax rate

The amount arrived at after making the above deduction is the income from the rental property. The rental income so arrived at is the taxable income. The tax rate under the current tax law is imposed on the rental income to arrive at the tax on rental income.

How does tax on rental income differ based on the type of property?

Any income generated from a property sublet to another is known as rental income. The property owner is allowed to make certain deductions to the amount paid as income tax on rental income in India from residential property in India. These deductions include any amount incurred as cost towards making the property rent-ready or for maintenance of the property. The security deposit amount can also be deducted subject to the condition that the owner intends to return it. Further, if the security amount is kept against some damage, it can be shown in the income statement and the owner can ask for a deduction on it. Under the IT Act, the following are the deductible expenses from rental income arising from a commercial property:

1. Cleaning and Maintenance
2. Depreciation
3. Repairs
4. Trash Removal
5. Pest Control
6. Insurance premiums
7. Commissions
8. Local property tax
9. Interest expense
10. Advertising
11. Providing utilities
12. Yard maintenance
13. Supplies
14. Renting equipment
15. Management Fees
16. Professional Fees
17. Travel expenses
18. Rent paid to others

The aforementioned are the deductions allowed from rental income. However, there is a bar that standard deductions cannot exceed 30% of the GAV generated from commercial property in India.

Where a property is vacant, it is considered a self-occupied property. Before the fiscal year 2019-20, if a taxpayer had more than one self-occupied property, only one property was considered self-occupied, and the other properties were presumed to be sublet. However, from the fiscal year 2019-20 onwards, if the taxpayer has more than two self-occupied properties and the remaining were presumed to be sublet for income tax.

What is the provision under which the Income from House Property is taxed?

A person who owns land or a building is chargeable to tax on the annual value of the property under the head of ‘income from house property’ as per section 22 of the IT Act. The computation of tax shall be done under sections 23 to 27 of the IT Act^[1]. Except in cases outlined under section 27, such as cases where the property is transferred with inadequate consideration or where the possession is granted in part performance of a contract, in every other case, the responsibility to pay tax shall be on the legal owner of the property.

What is the exemption available on rental income in India?

The IT Act allows special exemptions and deductions towards the amount paid as rental income. It is the GAV that is considered for income tax. So if the rental income is not paid to the owner, the owner can claim a deduction of that amount. If a property is rented for less than 14 days, then the owner of the property can deduct the amount from GAV. A deduction of up to INR 2 lakh is allowed if a home loan has been taken against the property. In addition to this, budget 2020 also allowed an additional tax deduction of up to INR 1.5 lakh for any interest paid towards the property. Rental income is a common source of income in India and therefore, from the fiscal year 2021-22 onwards, income up to INR 2.5 lakh is tax-free for individual taxpayers.

Calculation of Income Tax on House Rent received

Let’s understand the calculation of income tax on house rent received, in cases where the rental income is the main source of income of an individual. Suppose an individual has a property let out for INR 20,000/- per month. So the GAV would amount to 20,000*12 equal to INR 2.4 lakh annually. As this amount is below INR 2.5 lakh, the owner does not have to pay any tax on his rental income. However, if the rent of the property would have been INR 30,000/- per month, the GAV would have been INR 3.6 lakhs annually. In this case, the owner would have been liable to pay tax on the rental income as it exceeds INR 2.5 lakh mark. On the NAV, the taxpayer can avail of standard deductions and home loan benefits.

Tax on rental income for NRIs

Non-resident Indians (NRIs) or persons of Indian origin who have property in India will be subject to Indian tax laws on their earnings on property rentals or any capital gains arising from investments exceeding the basic exemption limit for rental income. Any income earned from the property in India to an NRI or person of Indian origin will be credited to NRE or NRO account after deducting the taxes and is easily repatriable. The tenant paying rent has to make a tax deduction at source (TDS) at the rate of 31.2% of tax on rental income and provide NRI with a certificate of the same.

The rental income of NRIs and persons of Indian origin is doubly taxed. They have to pay tax under section 24 of the IT Act and also pay taxes in the country where they reside. To avoid payment of tax doubly, the person should know whether or not a Double Taxation Avoidance Agreement (DTAA) is available with the other country and if yes, then what are the tax implications of rental income earned in India.

The Bottom Line

If a person has rented his property in India, then he should have an idea of the Income-tax Laws applicable to him. An understanding of the tax laws applicable will save you from paying excessive taxes, help reduce your tax burden, delay and defaults in payment, etc.

Read our Article: Rental Income Doesn’t Come under Tax in the Absence of Agreement