What are Income tax provisions on clubbing of income?

Income tax provisions on clubbing of Income

Gift tax provisions should always be read along with the clubbing of income rules. Many people try to dodge the taxman by taking shield under gift tax, but there are some relations where giving gift might be tax free to receiver but income generated from the gift will be clubbed back in the income of the giver and taxed accordingly. So it is important from the tax planning point of view to understand the clubbing of Income rules.

Normally Person pays tax on one’s own income only, but there are some instances when income of other person gets added in the taxable income of taxpayer, such instances are termed as Clubbing of Income. Section 60-64 of Income tax act has various provisions related to Clubbing of Income. Some of the provisions are related to gift tax laws.

Clubbing of Income Rules

  1. Gifting to Spouse:

Spouse do come in the specified relations as per Income tax laws on gifts to give and receive tax free gifts, but as per clubbing of income provisions whatever income generated by spouse on those gifts/transfers will be clubbed in the income of Transferor.

Gift can be in any form like cash, movable or immovable asset. Clubbing provisions will apply even if the form of asset is changed by transferee spouse. Let’s understand this with examples:

Case 1 – Husband gives Rs 10 lakh as gift to his wife, which she invested in bank fixed deposit @9% rate of interest. Now as per clubbing rules, Rs 90000 which she would earn on the bank FD will be clubbed in the total income of Husband and taxed as per his IT slabs.

Case 2 – Husband himself invests Rs 10 lakh in bank FD in the name of his wife. Here again whatever interest the FD would get will be clubbed in the income of Husband.

Case 3 – Husband has one Residential property in his name which is on Rent. He makes such arrangement that every month the rent of the property would get transferred in the account of his spouse so as to keep him away from the taxability of rental income. But as per clubbing of income rules if only income of the asset is transferred without transferring the asset, then income from such an asset will be taxed in the hands of transferor.

In the following situations asset/income transfer to spouse would not be clubbed with transferor:

–          If transfer of asset is for adequate consideration

–          If the transfer of asset is in connection with the arrangement to live apart

–          If the asset is transferred before marriage. ( Read tax planning tips for young couple)

2. Gifting to daughter-in-law:

This is somewhat similar to the “gift to spouse” provision. If daughter in law receives any gift (without adequate consideration) from Parents in law (Father in law or Mother in Law) then the income generated from that transfer will be clubbed in the income of the transferor.

All the cases mentioned above (gifting to spouse) can be applied in this case too. However here again if the transfer is backed by adequate consideration or transfer has happened before marriage then the clubbing of income would not apply.

3. Gifting to Minor child:

 

As per this rule whatever income is generated out of investments in the name of your minor child will be clubbed in the income of the Parent who is in higher tax slab. Say for e.g. your child gets a gift of Rs 1 lakh on his/her birthday from Grandfather, and you invest that amount in bank FD @10% p.a. Now Rs 10000 interest which that FD will generate will be clubbed in your income if you are in higher tax slab than your spouse or if your spouse is not working.

There are 2 exceptions here:

–          If the income of minor was due to his/her manual work or due to application of knowledge, skill , talent etc. then that income will be counted as minor’s own income and will not be clubbed with that of parents. However, the return generated out of investment of minor’s income will be clubbed with Parent’s income.

Say for e.g. your child wins a painting competition and got Rs 1 lakh as prize money, then this Rs 1 lakh will be considered as child’s Personal income. But now if that amount was invested somewhere and earned say Rs 25000, then this Rs 25000 will be added in the income of Child’s Parent who’s in higher tax slab.

–          Clubbing of income with minor child’s income will not apply in case Child is suffering from disability mentioned in Section 80U of Income Tax act.

 ( Read: Tax planning tips for small family)

Please note that when income of individual includes the income of Minor child then he/she can claim exemption of upto Rs 1500 per child u/s 10(32) of IT act.

These are some of the specific instances as mentioned in the act which explains the clubbing of income provisions, but do remember that if tax man feels that the transfer was made just to dodge the tax payments payment, though under Gift tax laws then Tax man has full right to disallow the exemption.

Conclusion:

Understanding of Gift tax and clubbing of income rules is very useful as you can spread your family income and create different tax files to take benefit of tax slabs, deductions and exemptions in a lawful manner. Read my Business standard article where i have summarized on how to make use of gifting and clubbing to your advantage

This article is related to clubbing of Income with special reference to Gift tax rules. There can be other instances too where Clubbing may get applied. Check out these articles from taxguru.in to get more insight on this subject.

Do share your thoughts an queries in the comments section below.

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8 COMMENTS

  1. Whether cash/bank transfer gift received from son to his mother and income earned on them by mother would be clubbed into son’s income or not. Please advice.

    • Hi Kamal

      Gifts exchanged between Major Son and mother is completely tax free, and clubbing is not applicable in this case.

  2. My mother sold a house (which she bought in 1995) and purchased a new house with the same money in September 2015. Now she is giving me that house as a gift in November 2015. I would like to know that will any one of us has to pay short term capital gain as the gap of purchasing and gifting is less than 3 years.

    • Mr Garg is right, there’s no tax liability on gift given by mother to major Son. When you mother has sold the house tax liability arises at that very step, and she has to pay long term capital gain tax on gain generated on sale of house.
      In case of gifting of Non movable properties registration of gift deed is mandatory and thus necessary stamp duty has to be paid.

  3. With my limited knowledge, capital gains tax is applicable when you sell a property and not when you gift it. To my knowledge, gifting would not attract any kind of capital gains tax. Gifting between parents and major children is free from any clubbing provision also.
    May be Mr. Singhal will be a better person to answer for that.

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