For tax-saving many taxpayers, try transferring assets to close relatives or splitting income under various pretexts, often unaware of the income tax provisions that could void these tactics. The Income-tax Act of 1961 contains specific provisions under “clubbing of income,” which impacts tax savings strategies. Here’s an in-depth guide on the concept of income clubbing and its implications.
1. Transferring Assets to Family Members
A common tax-saving approach is to transfer assets, such as house property or investments, to family members like a spouse or children. However, under the clubbing provisions, income generated from these assets may still be included in the original owner’s income, nullifying tax benefits. For example, if an individual invests in a fixed deposit (FD) in the name of a spouse, any interest earned on this FD will be added to the income of the original investor.
2. Transfer of Assets for Inadequate Consideration
Another approach to reducing taxes is transferring assets for “inadequate consideration.” If an asset is transferred to a spouse at a lower value or without full payment, the clubbing provision is triggered. This provision ensures that the income generated from the asset is taxed in the hands of the transferor, not the recipient. Therefore, transferring house property to a spouse for nominal consideration could result in the property income being taxed as the transferor’s income.
Tip: To avoid clubbing, ensure transfers are made at full market consideration.
3. Remuneration from a Concern with Spouse’s Substantial Interest
If a spouse receives salary, commission, or fees from a concern where the other spouse holds a substantial interest, this income is subject to clubbing unless the individual has professional qualifications relevant to the role. For example, if a spouse receives a salary from a family-owned business without technical qualifications, this income will be added to the income of the spouse with the substantial interest in the business.
4. Transfer of Income without Transfer of Asset
If a person transfers income from an asset to a spouse or children without transferring ownership of the asset, the income will be included in the transferor’s total income. This rule applies even if the agreement was made before April 1, 1962, reinforcing that transferring only income—without the asset—does not alleviate tax responsibility.
Pro Tip: Understanding the nuances of clubbing provisions can help taxpayers structure legitimate tax-saving strategies without incurring unexpected tax liabilities.
Summary of Key Points for Tax-Saving Success
- Understand clubbing provisions: Many tax-saving tricks fail because of clubbing rules.
- Transfer assets for full consideration: Only complete transfers exempt income from clubbing.
- Beware of family transactions: Transfers to family members or income from spouse-owned concerns can result in clubbing.
- Consult a professional: Ensure any income splitting or asset transfer complies with the Income-tax Act.
By understanding these provisions, taxpayers can avoid tax liabilities from income clubbing and pursue legally sound tax-saving strategies.
Specified Scenarios to Club Income
|
Section |
Specified person |
Specified scenario |
Income to be clubbed |
|
Section 60 |
Any person |
Transferring income without transferring asset either by way of an agreement or any other way, |
Any income from such asset will be clubbed in the hands of the tranferor |
|
Section 61 |
Any person |
Transferring asset on the condition that it can be revoked |
Any income from such asset will be clubbed in the hands of the transferor |
|
Section 64(1A) |
Minor child |
Any income arising or accruing to your minor child where child includes both step child and adopted child. The clubbing provisions apply even to minor married daughter. |
Income will be clubbed in the hands of higher earning parent. Note: If the marriage of the child’s parents does not subsist, income shall be clubbed in the income of that parent who maintains the minor child in the previous year. If a minor child’s income is clubbed in the hands of parent, then an exemption of Rs. 1,500 is allowed to the parent (This is applicable only if the parent opts for the old tax regime). Exceptions to clubbing Income of a disabled child (disability of the nature specified in section 80U) Income earned by manual work done by the child or by activity involving the application of his skill and talent or specialised knowledge and experience Income earned by a major child. This would also include income earned from investments made out of money gifted to the adult child. Also, money gifted to an adult child is exempt from gift tax under gifts to ‘relative’. |
|
Section 64(1)(ii) |
Spouse** |
If your spouse receives any remuneration irrespective of its nomenclature, such as Salary, commission, fees or any other form and by any mode, i.e., cash or in kind from any concern in which you have substantial interest* |
Income shall be clubbed in the hands of the taxpayer or spouse, whose income is greater (before clubbing). An exception to clubbing: Clubbing is not allowable if spouse possesses technical or professional qualifications in relation to any income arising to the spouse, and such income is solely attributable to the application of his/her technical or professional knowledge and experience. |
|
Section 64(1)(iv) |
Spouse** |
Direct or indirect transfer of assets to your spouse by you for inadequate consideration |
Income from out of such asset is clubbed in the hands of the transferor. Provided the asset is other than the house property. Exceptions to clubbing of income in the following cases: a. Where the asset is received as part of divorce settlement b. If assets are transferred before marriage, c. No husband and wife relationship subsists on the date of accrual of income. d. The asset is acquired by the spouse out of pin money (i.e. an allowance given to the wife by her husband for her personal and usual household expenses) |
|
64(1)(vi) |
Daughter-in-law |
Transfer of assets transferred directly or indirectly to your daughter in-law by you for inadequate consideration |
Any income from such assets transferred is clubbed in the hands of the transferor |
|
64(1)(vii) |
Any person or association of person |
Transferring any assets directly or directly for an inadequate consideration to any person or association of persons to benefit your daughter in-law either immediately or on deferred basis |
Income from such assets will be considered as your income and clubbed in your hands
|
|
64(1)(viii) |
Any person or association of person |
Transferring any assets directly or directly for an inadequate consideration to any person or association of persons to benefit your spouse either immediately or on deferred basis |
Income from such assets will be considered as your income and clubbed in your hands |
|
Section 64(2) |
Hindu Undivided Family |
In case, a member of HUF transfers his individual property to HUF for inadequate consideration or converts such property into HUF property |
Income from such converted property shall be clubbed in the hands of individual |
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