Real estate, or property, is one of the one of the major asset classes people the world over invest in. Such real estate could be residential house property, whether self-occupied or let out, commercial property, whether used for one's own business or profession or meant for letting out, farm house, agricultural, urban and rural lands, and so on. Through proper planning it is possible to save a great deal of tax on real estate investments -- both on income and on capital gains. Let's see how.
Residential Property
As far as possible, no individual should own more than one self-occupied residential property. This is because under the provisions of Income Tax Act, only one self-occupied house property is completely exempt from being taxed on its notional rental value. Thus, if one individual owns more than the residential house property for self-occupation, then only one of them would be exempt from income tax. In respect of the other property or properties; the owner would be taxed as if the property is let out at a reasonable rent.
Another important consideration should be to use, so far as possible, one's own funds for investing in the self-occupied residential house property, except to the extent of such loans which would result in an interest outgo of a net amount up to a maximum of Rs 1,50,000 per annum. Under the provisions of Section 24 of the Income Tax Act, a deduction up to a maximum of Rs 1,50,000 is allowed in respect of money borrowed after 31.3.1999 for investment in self-occupied residential house property, which is constructed within three years of the borrowing. This deduction would result in a net loss up to Rs 1,50,000 from "house property" and would be available for adjustment or set off against any other income such as salary, income from business and income from other sources, etc.
People sometimes invest in a residential house property for earning rental income. If the person investing in such residential property does not have adequate funds for investment, he may borrow the money for meeting the deficit requirement. As far as possible, the funds may be borrowed from other members of one's own family having lower income. This would enable such family members both to have an income on the one hand and a lower tax incidence on the other.
Thus, if the head of the family were to invest in a residential property and he were to borrow funds from his wife or school/college-going major children, HUF or other family members or personal Trust, etc., then he would be entitled to claim deduction out of the ensuing rental for the interest paid to the different persons in respect of the borrowed funds. Thus, from the gross rental value, deduction would be made for the Municipal taxes, if any. The balance sum would represent the annual value from which 30 per cent thereof would be allowed as per Section 24 of the I.T. Act as a statutory deduction in respect of repairs and other expenses. Further, deduction would be allowed on borrowed funds and if after that there is a deficit the same would result in a loss figure from house property.
Commercial Property
The income tax aspects regarding investment in commercial property which is let out are the same as are applicable in the case of a residential property described above. In addition, investment in commercial property is completely exempt from wealth tax. Thus, one can own any number of commercial properties without either having to pay income tax on "notional" rent in case of vacant commercial property, nor pay a single rupee as wealth tax.
Farmhouses
Ownership of farmhouses has become a big attraction for the urban rich. Farmhouses, however, attract wealth tax at 1 per cent on the value of the farm house provided it is situated within 25 km. from the local limits of the Municipal area of the town concerned. Thus, wherever possible, the farmhouse should be situated beyond 25 km. of municipal limits.
Agricultural Land
As per the definition of "capital asset" under Section 2(14) of the Income Tax Act, 1961, agricultural land fulfilling certain conditions is not considered as a capital asset with the result that any capital gain made on its transfer is not liable to tax at all. Such agricultural land should not be situated within the jurisdiction of the Municipality, called by any name, or a Cantonment Board, etc. and which has a population not less than 10,000. In the alternative, it should not be situated in any area within a distance not being more than 8 km as may be notified in the Official Gazette, from the local limits of any Municipality or Cantonment Board, etc. Such agricultural land is popularly known as rural agricultural land.
Saving Tax on Capital Gains Arising from Sale of Property
Where an investor sells a residential house property which is used either for one's own residence or for letting out, then as per Section 54 of the I.T. Act the net long-term capital gain can be fully protected from income tax if it is invested in another residential house property either within one year in advance of the purchase of the new house property; or within two years in another house property; or within three years in the construction of a house property.
Alternately, any long-term capital gain in relation to any type of capital asset, including property, enjoys full exemption from income tax under Section 54EC of the I.T. Act, if the you invest the capital gain within six months in bonds issued by the Rural Electrification Corporation or National Highway Authority of India which must be retained for a minimum period of three years. The maximum upper limit for investment in these bonds is Rs. 50 lakh.
Excerpted from: 51 Income Tax Tips for Investors by Subhash Lakhotia. Price Rs 145.
Subhash Lakhotia has been an income-tax practitioner for nearly 30 years and is the author of a large number of books. He is a featured expert on tax saving on several TV channels and also a regular contributor to the financial press.
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