One can leverage the Hindu Undivided Family (HUF) to lower their tax burden. A HUF functions as a separate entity for tax purposes, allowing the couple and the HUF to claim tax deductions and exemptions individually. This way, one can significantly reduce one’s overall tax liability.
Let’s explore how this works further.
A HUF is a creature of law and consists of all males lineally descended from a common ancestor, their wives and daughters. From the income tax point of view, HUF is a separate legal entity with an independent set of tax liabilities and exemptions, such as an individual, partnership firm, and other forms of entity. For instance, you can receive rental income from a property on behalf of a HUF instead of an individual account. The tax authorities levy taxes on profits generated from the family business under the name of a HUF, with exemptions providing greater leverage for tax savings. This way, a HUF can help reduce tax outgo.
While a HUF can run a business, generate income, and invest its funds in various avenues, it’s important to note its limitations. For instance, an individual will not be eligible for any tax relief on additional income from pooling his assets with the HUF. This is a crucial consideration when weighing the benefits and drawbacks of forming a HUF.
Apart from that, HUFs can enjoy basic exemption limits like individual tax deductions under various provisions, to quote, Section 80, Section 80D, Section 80DDB, and Section 80 collectively. Further, a HUF member can avail of a 100% exemption on any income received from business done by his HUF, which is taxable in the hands of the HUF.
A HUF can obtain bank loans to purchase residential property and give loans to its members on mutually agreed-upon terms and conditions. Thus, a HUF can be an efficient tax-saving option in the long term.
Establishing an HUF is simple. A HUF comes into existence by law and by status through marriage. The husband and wife, along with their children, form the members of this undivided family. The individual must apply for a separate Permanent Account Number (PAN) for the HUF, after which they can start depositing savings into it.
This way an HUF can serve as an indispensable tool for tax planning for married couples who aim to reduce their effective tax burden.
Disadvantages: Alienating a HUF property imposes certain restrictions. For instance, the property can be alienated only with the consent of all the coparceners or by the Karta, who is the eldest member and can dispose of it alone. However, a coparcener can challenge the same, or if a minor child is a member, then the court’s prior permission is required. One also should keep in mind the tax implications.
Managing an HUF can be administratively complex, requiring adherence to legal formalities, maintenance of separate accounts, and compliance with tax laws. Dr. Suresh Surana, Founder of RSM India, said, “While HUFs offer some level of asset protection, they are not immune to partition risks. Disputes among coparceners or changes in family dynamics can lead to partition, resulting in the division of assets. Though, it is notable that there shall not be any income-tax implication in case of full partition under the Income-tax Act.”