A number of tax laws in India were abolished as the cost of collection did not justify the benefit of amount collected. Estate duty, introduced in 1953, was abolished in 1985, gift tax, introduced in 1958, was abolished in 1998, and wealth tax was abolished in 2016. We strongly feel that income tax should also be abolished as the cost of collection of income tax, not only to the revenue department but also to the taxpayer, inclusive of the cost of the various litigations in courts, is higher than the revenue collected.
However, there is a catch. Although these taxes were abolished in pen and paper, they have been modified and included in Income Tax forms. Yes, wealth tax was abolished but the Income Tax Return forms were modified to capture the information relating to the relevant assets. Consequently, we will have to give this detail even when the total value of these assets is less than Rs 30 lakh.
Gift Tax Act too was abolished, but FA04 has revived it in the form of donee-based income tax, in place of donor-based gift-tax. Does this not look like we are taking one step forward and two steps backward? Let’s read in details.
The clubbing provisions in the ITA have not been deleted. Therefore, income from assets transferred directly or indirectly without adequate consideration to minor children, spouse (otherwise than in connection with an agreement to live apart) or daughter-in-law continues to be deemed as income of the transferor. Ditto for assets held by a trustee for benefit of the assessee, the spouse, daughter-in-law and minor children.
‘Indirectly’ implies income by way of salary, commission, fees or any other form of remuneration whether in cash or in kind from a concern in which such individuals have a substantial interest unless the spouse possesses technical or professional qualifications and the income is solely attributable to the application of his or her technical or professional knowledge and experience.
A strange fact in this is that gifts to daughter-in-law are clubbed but not gifts to son-in-law. Again, clubbing provision is applicable even if the daughter-in-law enters into an agreement to live apart. Moreover, ‘indirect’ gifts to daughter-in-law are not clubbed.
The entire income that arises or accrues to a minor is to be included in the income of that parent whose total income (excluding the income includible) is higher. Where the marriage of the parents does not subsist, the income of the minor will be included in the income of that parent who maintains the child. Once the income is included in the hands of one of the parents, it shall continue to be included, even if the criteria change, unless the AO is satisfied that it is necessary to do so. However, no clubbing will be applicable where the income of the minor child arises on account of any manual work done by him or from application of his skill, talent or specialised knowledge and experience.
An exemption up to Rs 1,500 with respect to each minor child can be claimed by the individual u/s 10(32).
Advantage of gifts
In the case of spouse or daughter-in-law, income-on-income is not clubbed. For example, if you have given your wife, who has no income, a gift of Rs 10 lakh and she invests this amount in an avenue earning 10 per cent per annum fully chargeable to tax, then after a year she will earn interest of Rs 1,00,000, which will be clubbed in your hands. At the end of the second year, she will earn an interest of Rs 10,000 in addition to the Rs 1,00,000 on the original deposit. The Rs 1,00,000 will continue to be clubbed but Rs 10,000 is chargeable to tax in her hands and obviously, this amount escapes tax. Continuing this strategy, sometime in future, she will come in the tax net. At this stage, she can get out of it by contributing up to Rs 1.5 lakh to avenues covered by Sec 80C. In the distant future, she may come into the 5 per cent tax zone and much later into the 20 per cent tax zone. Even then, there is a saving since the husband is in the 30 per cent zone.
Yes, income from gifted corpus is clubbed, but the dividend and the LTCG thereon are tax-free up to the specified limits. This renders clubbing provision toothless.
Now a strange aspect. When she travels into the 30 per cent zone, if she gives a gift to you, the income thereon will be clubbed in her hands separately. It does not neutralise the gift given by you. In other words, x – x ≠ 0.
This strategy can also be used for your daughter-in-law, but not for your minor children since their entire income, including interest on interest, suffers clubbing.
It is cumbersome to keep track of clubbable and not clubbable incomes, but it is worth the effort.
The authors A.N. Shanbhag and Sandeep Shanbhag are financial advisors and can be reached at email@example.com