Hindu Undivided Family (HUF) Tax Planning

The HUF includes Hindus, Buddhists, Jains, and Sikhs. It obtains its own Permanent Account Number (PAN) and files tax returns independently. The HUF is headed by the 'Karta,' who manages the HUF's business affairs. The assets of the HUF typically consist of ancestral property, gifts, proceeds from the sale of joint family property, property acquired through a will, or contributions made by HUF members into the common fund.

Members of the HUF

• All members of a Hindu family, including wives, children, daughters-in-law, and grandchildren, can be part of the HUF.
• Within the HUF, male members are called coparceners, and female members are referred to as members.
• Only coparceners have the legal right to request the partition of the HUF, dividing its assets among the members.

• With the amendment in the Hindu Succession Act in 2005, daughters now have equal rights as sons in a HUF. They become coparceners in the HUF from birth, granting them the same privileges and responsibilities as male members. This means that daughters can demand their share of HUF properties just like sons.

HUF Rules

Given below are the important rules related to HUF accounts:

• HUF should be formed by a family.

• HUF is automatically created when a member gets married.
• HUF consists of a common ancestor and all descendants, including daughters and wives.
• Buddhists, Hindus, Sikhs, and Jains can form HUF.
• HUF commonly holds assets received through wills, gifts, or ancestral property.
• A dedicated bank account should be opened in the name of HUF, along with obtaining a PAN number.

• Members can contribute their income to the common corpus of HUF.
• Tax benefits are applicable to deposits made under relevant sections.
• The division of the HUF corpus requires agreement from all coparceners.

Taxation of HUF

HUF is taxed separately as it possesses its own Permanent Account Number (PAN) and files an independent tax return. By virtue of its separate existence from its members, HUF is recognized as a distinct entity, which allows for the creation of a separate joint Hindu family business. The HUF is subject to taxation at the same rates applicable to individuals. The HUF is eligible to claim deductions under Section 80 and other exemptions in its income tax return.

Insurance policies can be taken by the HUF on the lives of its members. In cases where HUF members contribute to the functioning of the HUF, the HUF can provide salary payments to them, and these salary expenses can be deducted from the HUF's income. Investments can be made using the income of the HUF, and any returns derived from these investments are taxable in the hands of the HUF.

How HUFs Help to Save Tax?

Hindu undivided families (HUFs) enjoy additional tax benefits as separate entity under income tax laws in India. Here are some key points to know:

• HUFs are eligible for independent income tax deductions, including those under Section 80C.
• They can also claim deductions under various sections like 54(B, D, EC, F, G,) and 47.
• All resident and non-resident HUFs in India have a standard tax deduction of Rs.2.50 lakh per year.

• HUFs can claim up to Rs.1.50 lakh deduction under Section 80C for principal repayment of a home loan.
• They can also claim deductions under Section 24B for interest paid on a home loan.
• Under Section 54F, HUFs can claim tax deductions on long-term capital gains by investing in one residential house property, provided they don't own more than one house at the time of sale.
• Gifts received up to Rs.50,000 are tax-free.
• It's important to note that both the HUF and its members cannot claim deductions for the same investment or expense.

How HUFs help to Save Tax?

Given below is an example of how HUF is taxed for Amit, who has started a HUF with his spouse and children.

Assumptions:

Salary: Rs.30 lakh

Income from House Rent: Rs.10 lakh

How to Form or create HUF

Here are three simple steps to create a HUF:

• Step 1: Create HUF Deed Prepare the HUF Deed, which is a document that outlines the rules and guidelines of the HUF. It should include details of the Karta, coparceners, and other members of the family.
• Step 2: Apply for HUF PAN Card Obtain a PAN (Permanent Account Number) card for the HUF by applying to the Income Tax Department. The PAN card is essential for conducting financial transactions and filing tax returns on behalf of the HUF.
• Step 3: Open a Bank Account for the HUF Open a dedicated bank account in the name of the HUF. This account will be used to manage the financial transactions and funds of the HUF separately from individual members' accounts.

Once these steps are completed, the HUF becomes a distinct legal entity. It can receive payments and hold assets in its name. Importantly, any income received by the HUF is taxed separately and not attributed to individual members of the HUF.

The table provided below is an organized overview of various aspects related to the formation and structure of a Hindu Undivided Family (HUF).

Benefits of the HUF system

The benefits of HUF are described below:

• Tax Planning: HUF allows for effective tax planning by increasing the number of quantifiable units through the HUF partition, reducing the tax liability.
• Inclusion of Women: Women can be part of their husband's HUF as well as their father's, serving as co-partners. Additional income earned by women is not added to the HUF income.

• Formation of Taxable Units: HUF enables the formation of different taxable units using will or gift loopholes, with assets, savings, or insurance premiums subtracted from the net income for tax purposes.
• No Requirement for Joint Family Assets: Recent rulings have established that the HUF can exist without a nucleus or ancestral joint family assets.
• Comfortable Partition Arrangement: HUF members can agree on a partition arrangement that saves on taxes, distributing assets and businesses impartially among family members.
• Asset Retention: In the event of the demise of the Karta or the last male member, ancestral or acquired assets of the HUF remain in the hands of widows and need not be partitioned.
• Easy Loan Access: HUF members find it easier to avail of loans due to the legal recognition and structure of the HUF.

• Separate Tax Filing: HUF allows for the separate filing of taxes with two PAN cards, eliminating the need to consider the personal incomes of individual members as HUF income.
• Property Gifting: Women in the family can gift property or assets bought in their name to the HUF.

Drawbacks of HUF

The drawbacks of the HUF are summarized below:

• Complex Financing: Resources for HUF can only be brought in through inheritance or gift, subject to gift tax laws. Financing becomes complicated, especially when non-family members contribute more than a specified amount.

• Requirement of Money-Spinning Asset: To be documented by income tax officials, HUF should show a money-spinning asset, which can only be acquired through gifts from close kin or via a Will for each HUF member.
• Limitations on Partnership: HUF is not allowed to become an equal partner in any company, and the income earned is taxed as HUF income. Only the Karta or a HUF member can represent the HUF in an enterprise.
• Technical Hitches and Potential Action: As the HUF grows in strength over time, technical issues may arise. If the income tax department detects tax-saving motives, they may take action against the HUF.
• Limited Recognition Abroad: HUF is purely an Indian phenomenon and is not recognized in other countries. Income assessment becomes challenging when HUF members move abroad for studies or jobs.
• Suitable for High-Income Level: HUF setup is most beneficial for individuals earning a significant income from multiple sources.

• Unanimous Agreement for Dissolution: Breaking a HUF requires the agreement of all concerned parties.
• Restrictions on Property Transfer: The Karta of a HUF cannot gift or alienate HUF property, and property can only be sold if all members agree. Partition of HUF land often leads to conflicts and court cases.
• Separate Assets Exclusion: Women cannot combine their separate assets with the joint family's property.

Significant Features of Hindu Undivided Family (HUF)

There are certain advantages as well as disadvantages of forming a Hindu Undivided Family. These are listed below. Also listed are certain features that are specific to HUFs.

• The foremost benefit of forming an HUF is that you get to avail an extra PAN card in the name of a new entity and thus income and income tax can be split into smaller chunks thereby leading to tax saving on a variety of income types.
• There is a major drawback of forming a Hindu Undivided Family. This is related to ownership of property. Any assets in the name of Hindu Undivided Family and any income earned by HUF is in the name of the entire family and not on an individual's name. Care should thus be taken when property is being transferred to HUF since the whole family becomes the owner of that asset.
• HUFs are also mandated to pay income tax every financial year. The income is taxed as per the existing tax slab rates and audit of the same is also required if the annual turnover of the HUF is more than Rs.25 lacs per annum.
• Due date of tax filing for HUFs is also the same as 31st July of each financial year. However, in case the HUF falls in the category of units that require audit then the tax paying date is extended to 30th September.
• HUFs are a recognized entity in the whole of the country except for the state of Kerala. In Kerala, HUFs were abolished as a result of the Kerala Joint Family System (Abolition) Act 1975.
• An adopted child can be made a member of an existing HUF. However, this child cannot become a coparcener. Co-parceners are members who can demand the partition of a Hindu Undivided Family.
• Formation of HUF is allowed for both residents of the country and for Non-Resident Indians (NRIs). This depends upon where the HUF is residing.
• The bank account for an HUF should either be in the name of the HUF or in the name of the karta of the HUF.
• Only the karta of an HUF is authorized to sign cheques and carry out financial transactions on behalf of the HUF. However, a karta may authorize any other member of the HUF to do so.
• Any HUF needs to have at least two members of the same family out of which one should be male.

Apart from the points listed above, there are some other legal points too that need to be taken care of while forming a Hindu Undivided Family. HUF is an important tool used by Chartered Accountants to help their clients save tax on their income. However, formation of HUF is easy and simple but the dissolution of the same is tricky since it requires the consent of all HUF members.

Experts are of the view that running a HUF can be a tricky business that requires expertise. Assets under the name of HUF cannot be sold or inherited individually. HUFs with a few members may run smoothly while those that have a higher number of members may have complex issues to deal with. Nonetheless, HUFs are an important tool to revisit taxation of income and reap benefits.