Taxpayers can lower the incidence of income tax by means of legal transfer of their sources of income among family members, so that each unit of the family enjoys the basic personal income tax exemption limit, which the Finance Bill 2008 has revised for financial year 2008-09 to Rs 150,000 for male individuals and HUFs; Rs 180,000 for resident women tax payers and Rs 225,000 for resident senior citizens.
The first step in tax saving through family tax planning is to adopt the concept of divide and rule. The simple rule is that each family member must have his or her independent source of income so as to legally become an independent tax payer under the provisions of the income tax law.
In case the entire income of a family belongs to just one member, the tax liability is much higher than when the same income is spread among different members of the family.
Now, under the income tax law it is not possible to arbitrarily divide one's income amongst different members of the family - and then pay lower tax in the names of different family members. However, this goal can be achieved by intelligent use of the facility of gifts and settlements.
Thus, for example, even if a taxpayer's parents are not paying income tax today but if they receive some gift from friends or relatives or from anyone else in the world, the income so generated would belong to them.
In this manner, independent income tax files can be started for different family members by developing independent funds for each person through gifts thereby resulting in separate independent sources of income which would then be taxed separately to income tax.
Once the income is spread among more people, chances are some of them would attract lower rates of tax. Also, each one would then be entitled to independently claim exemptions, deductions, rebates, etc.
Generally, any gift you receive from various members of your family and specified relatives is not considered your income but a capital receipt. Thus, no income tax is payable on gifts received from relatives - and also gifts received from parties other than relatives upto a sum of Rs. 50,000 and at the time of marriage up to any amount.
Care should, however, be taken to ensure that any gift which is received should be a genuine one. The person making the gift, called the donor, should have proof of his or her having the source for making the gift.
The other important point to keep in mind in the case of gifts is that the provisions of Section 64 of Income Tax Act prohibit any direct or indirect transfer of funds between an assessee and his/her spouse.
Thus, a husband should not make any gift to his wife; likewise, the wife should not make a gift to her husband. If the gift is made between spouses, it would attract the provision of Section 64 and lead to clubbing of the incomes of the spouses.
To achieve the best results of gift, and to avoid clubbing of income, you may receive gift from any relative other than your spouse, and, in the case of a daughter-in-law from her father-in-law.
A trust for minor children eliminates clubbing of income
The gifts made to a minor child would similarly result in clubbing of income. Hence, from the point of view of tax planning a trust could be created for the welfare of the minor child with a specific condition that no part of income should be spent on the minor child during the period of minority.
If this simple technique is adopted then there will be no clubbing of income of the minor child with the income of the parents. The clubbing provisions do not apply when you make gifts to your major children.
Your major children are your great tax savers
All your major children can help you save your income tax. You can freely gift money to your major children without attracting the payment of gift tax. This amendment makes it a good idea to make liberal gifts to your major children so that the income, if any, arising from these investments in years to come can be taxed in the hands of your major children.
For example, if you have fixed deposits let us say of Rs 20 lakh (Rs 2 million) and you have a major son as well as a major daughter then it makes sense to gift away Rs 500,000 to each of them.
After receiving the gift amount the children also make investment in bank fixed deposit and each of them receives yearly interest of say, Rs. 45,000. On this amount the son as well as the daughter will not pay income tax because the amount is below the exemption limits of Rs 150,000 and Rs. 180,000, respectively.
Thus your major children can now be great source of tax saving and you can enjoy the benefit of lower income tax incidence in the family as a whole. If, however, due to some reasons you do not feel inclined to make huge gifts to your major children, then you may give interest-free loans to your major children so as to legally reduce your taxable income. It is lawful to grant interest-free loans to your major children from your own funds.
Your parents and in-laws can save you taxes
Might sound incredible to most readers but the fact is that your own parents as well as your own in-laws can become legal tools of tax planning for you and your family. If you want to achieve this dictum then all you are requested to do is just to give away a portion of your funds either as a gift or a loan to your parents as well as your in-laws so that in years to follow your income tax burden become light as the income on funds transferred by you to them which would bring in income would be taxed in their hands.
With the increase in the limit of exempted income for individuals, women tax payers and senior citizens, it is now a great time for having income tax files for all.
Separate income tax file for a daughter-in-law
Under Section 64 (1) (a) of the IT Act, if the father-in-law or mother-in-law makes any gift to his or her daughter-in-law, i.e., their son's wife, on or after 1 June 1973, the income arising to the daughter-in-law in respect of the gifts so made would be liable to be included in the total income of the father-in-law or the mother-in-law making the gift.
However, where such a daughter-in-law receives a gift not from her father-in-law or mother-in-law or her husband but from her father or mother or uncle or aunt or uncle-in-law, etc. then the income arising to such daughter-in-law in respect of such a gift would be liable to be assessed as the income of the daughter-in-law separately.
Such income would not be included in the total income of the father-in-law or the mother-in-law or the husband of such a lady.
Besides, if the daughter-in-law makes an investment of such gifted amount, the income arising to her out of such investment would also be liable to be assessed separately.
Similarly, if she were to join a partnership firm as a partner with the help of such gifted money, the interest arising to her would be assessable to tax in her separate assessment.
Such interest or salary as a working partner would not be liable to be included in the income of her husband or father-in-law or mother-in-law or any other relative. If she is a partner of any firm carrying on any business, her husband could also be a partner in the same firm.
Now, from assessment year 1993-94 her share income from the firm would not be clubbed with the income of the husband. This is illustrated in the following example.
| Example |
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Mr. A has a major son named Mr. B, who gets married on 18.1.2008. Mrs. B receives a sum of Rs 4,00,000 as gifts from her father, mother and other relatives, on the occasion of her marriage. |
Tax planning for a nuclear family
The concept of joint family is cracking down. Nuclear family concept is on a rise. Under the present scenario for a nuclear family there is imperative need of tax planning so as to cut down taxes.
The simple methodology of tax planning for a nuclear family is to have separate income tax file for self, spouse and all children as well as the Hindu Undivided Family.
For major children the tax planning is easy and simple, namely to resort to the concept of gifts and loans. As far as the minor child is concerned the best answer could be achieved by having a separate income tax file of the minor child through his 100 per cent specific beneficiary trust as mentioned in the preceding paragraph.
The Hindu Undivided Family file can also be opened. In case the nuclear family adopts tax planning by having income tax files for different family members and thereafter takes liberal advantage of the provisions relating to tax deduction, then it would be possible to achieve best tax planning for a nuclear family.
Tax planning by DINKs
Working couples who have no children are known as DINKs (Double Income No Kids). Substantial tax planning is needed for them even in the initial years of their married life. The best tax planning which DINKs should adopt is that each one of them should take full advantage of income tax exemptions and deductions.
The present exemption limit for the financial year 2008-09 is Rs 150,000 for every individual male tax payer. In addition, for a woman tax payer the exemption limit would be Rs 180,000. Thus, for the financial year 2008-09, DINKS would be able to enjoy a combined exemption limit of Rs. 330,000.
Never in the past the tax exemption slabs were so very attractive. They should also make investments in a residential house by taking a loan and thus save income tax up to the maximum extent (each of them). They should also plan a separate income tax file of HUF.
Excerpt from How to Save Income Tax through Tax Planning (AY 2009-10) by R. N. Lakhotia and Subhash Lakhotia, two of India's top taxation experts.
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