A very effective and legal way advised by chartered accountants to save tax is HUF i.e. Hindu Undivided Family. In India there are many families which are undivided and the incomes earned by such families are joint income as compared to Individual Incomes.
As these are joint incomes and not Individual Incomes, these incomes cannot be taxed in the hands of any specific individual and are therefore taxed in the hands of the whole family. As these are taxed in the hands of the family, the family has a separate PAN Card as compared to Individual members of the HUF who also have a separate PAN Card.
Logic behind Forming a HUF to Save Tax
Basically the logic behind forming an HUF to save tax is to avail the benefit of an extra PAN Card legally. As the Income of the Family is not taxed in the hands of any specific Individual, a new PAN Card is allotted to the HUF and Tax would be paid by the Family using this PAN Card.
As a new PAN Card would be allotted to the whole family, it will also enjoy the benefits of Income Tax Slab Rates i.e. Income would be Tax Free up to the specified limits and would then be taxed progressively at 10%, 20% & 30% resulting in tax saving.
How creating a Hindu Undivided Family Account would result in tax saving would become clearer with the help of an example. Let’s assume there are 4 Members in a Family – Husband, Wife and 2 Children. The Income of the Husband is Rs. 25 Lakhs, Income of the Wife is Rs. 18 Lakhs. They also have a ancestral property from which they are earning rent of Rs. 8 Lakhs p.a.
The rent from such a property would either be taxed in hands of the Husband or the Wife or both.
Case 1: If taxed in the hands of the Husband, the husband who is currently in the 30% Income Tax Slab Category would be required to pay 30% of Rs. 8 Lakhs i.e. Rs. 2.4 Lakhs as Tax.
Case 2: If taxed in the hands of the Wife, the wife who is also currently in the 30% Income Tax Slab Category would be required to pay 30% of Rs. 8 Lakhs i.e. Rs. 2.4 Lakhs as Tax.
Case 3: If taxed equally in the hands of both Husband and Wife i.e. Rs. 4 Lakhs each, both the Husband and Wife would be required to pay tax @ 30% on Rs. 4 Lakh = 1.2 Lakhs each by both Husband and Wife thereby leading to a total tax outflow of Rs. 2.4 Lakhs
However, there is a better way out by which you can plan your Income Tax. As this Income is arising from an asset which belongs to the whole family, this Income shall be taxed in the hands of the Family (provided an HUF is formed) and you would be able to enjoy the benefits of slab rates.
Case 4: If this Rental Income of Rs. 8 Lakhs is taxed in the hands of HUF, the tax payable by the HUF as computed as per the Slab Rates would be Rs. 70,000 to Rs. 80,000 (depending on the income tax deductions claimed by the HUF)
Taxing this Rental Income in the hands of the HUF would lead to a Tax Saving of Rs. 1,80,000 p.a. (Rs. 2,40,000 – Rs. 60,000)
For easy understanding of the concept, we explained this article using only Rental Income, but there are many other Incomes as well which arise to the family as a whole wherein the concept of saving taxes by forming an HUF can also be applied.
Benefits and Drawbacks of forming an HUF
The major advantage of creating a Hindu Undivided Family Account is that the family gets an extra PAN Card and can split the family income and thereby resulting in tax saving and reducing the tax outgo. This is the major reason why CA’s advise their clients to create a HUF and save taxes of upto Rs. 1.8 Lakhs every year (as explained above).
However it should be noted that there is a disadvantage as well and that is the fact that all assets of in the name of the Hindu Undivided Family are assets of the family and not of a specific individual. All members of the family have a right in the assets of the Hindu Undivided Family (including an unborn child in the womb of a mother).
Therefore proper caution should be exercised while gifting assets to the Hindu Undivided Family as the whole family would be having a share in the assets of the family as compared to the fact that if these assets were in the name of a specific individual – only that individual would have a right over that asset.
Other Relevant Points regarding HUF
- HUF is also required to file Income Tax Return every year just like an Individual and if the turnover of the business of the HUF is more than Rs. 25 Lakhs/ Rs. 1 Crore, tax audit under Section 44AB would also be required to be conducted by a Chartered Accountant.
- Due Date of filing of Income Tax Return of the HUF would be 31st July of the Assessment Year. However, in case the Tax Audit is required to be conducted, the Due Date of filing of Return would be 30th Sept.
- The Karta of the HUF has the power to sign all documents on behalf of the HUF. However, he may also permit other adult members to have this power.
- A adopted child can become a member of the HUF but he cannot become a co-parcener. The difference between a member and a co-parcener is that the co-parcener cannot ask for partition of the HUF.
- HUF’s are recognised all over India except Kerala wherein HUF’s are not recognised. This de-recognistion was done by Kerala Joint Family System (Abolition) Act, 1975 with effect from 01.12.1976.
- The HUF may be a resident or a non-resident in India depending on where the control of the HUF is residing.