The HUF Magic - Legally save lakhs of rupees in taxes

Going old school works.

Clients approach their Chartered Accountants (like us) to save taxes. And CAs like us advise clients to form an HUF and save lakhs in taxes over the years.

This form of tax planning is completely unique to India!

So what is the hype all about?

HUF stands for Hindu Undivided Family. There are three conditions to fulfill:

1. You are either a Hindu, Sikh or Jain

2. You must be married (not necessary to have kids)

3. The family must be undivided i.e. husband, wife and children (if any) must live together

If you fulfill all the three conditions above, congratulations! You are eligible to save a lot of taxes legally!

How does HUF help in saving taxes?

Let's get down to the details. Here is all you need to know.

Features of HUF

1. HUF is treated as a separate person for the purpose of tax law. It has its own Permanent Account Number, bank account and files its own tax returns.

2. For income taxes, it is taxed at slab rates similar to an individual. Thus, first Rs 2.5 lakhs are exempt.

3. HUF is awarded almost all the same deductions as an individual. Example, if HUF takes out a life insurance for its members, a deduction under section 80C of the Income-tax Act, 1961 is available.

4. HUF has a separate bank account, PAN and own balance sheet.

5. HUF is created in many ways like through wills, gifts, inheritance. However, creation of HUF through gifts from the members is the most common way.

6. The head of the HUF is called as 'Karta' and the other members are called co-parceners.

7. HUF can make investments in its own name. It can be a shareholder of companies too. Thus, a separate demat account can be opened in the name of the HUF.

Who is ‘Karta’?

The ‘Karta’ is the senior-most male member of the family who is responsible for management of the affairs of the family.

In simple terms, ‘Karta’ is the head of the family.

Only a family member with coparcenary rights can become ‘Karta’. However, after Hindu Succession (Amendment) Act, 2005, a daughter has also been given coparcenary rights in the HUF property.

Tax planning must be done properly so as to avoid the income of HUF getting clubbed with the income of the Karta.

How does HUF help in saving taxes - an illustration.

Let us take family of Mr. Chandumal who earns a salary Rs 25 lakhs. He gets married this year to Mrs. Chandumal who earns a similar salary too. They pay taxes of roughly Rs 5,85,000 each.

The parents now want to gift ancestral property to their son and newly wed daughter-in-law.

Scenario 1: Mr Chandumal does not create an HUF

Mr. and Mrs. Chandumal receive ancestral property from his parents giving income of Rs 10 lakhs per year.

The income would get split evenly between the husband and wife i.e. Rs 5 lakhs is added to each of their total incomes.

The tax outgo for both Mr and Mrs Chandumal will rise to Rs 7,41,000 each for the entire year in their individual names.

To put it in perspective, an additional income of Rs 5,00,000 has increased their tax outgo by Rs 1,56,000. This is because of the higher tax slab of 30%.

Total tax outgo = Rs 14,82,000 (7,41,000 + 7,41,000)

Scenario 2: Mr Chandumal creates an HUF

The ancestral property is in the name of the HUF. The income of Rs 10 lakhs is taxed in the hands of the HUF and the return is filed separately too.

The HUF has to pay a tax of Rs 1,17,000 only.

Total tax outgo = Rs 12,87,000 (5,85,000 + 5,85,000 + 1,17,000)

Difference between Scenario 1 and 2 = Saving of Rs 1,95,000 every single year!

Using HUF for tax planning makes a lot of difference in creating the family wealth of Mr and Mrs Chandumal. It will help them achieve their financial goals faster.

Steps for creating an HUF

Step 1: Prepare a HUF deed

Though it is not mandatory, it is highly advisable (based on our practical experience) to have a deed. It helps the HUF sail smoothly in documentation requirements, especially while liaising with regulators and authorities.

The deed must create the name of the HUF. If Mr. Raj Mehra is creating an HUF, the name should be 'Raj Mehra HUF'. Using any other iterations is not advisable.

It is advisable to seek professional assistance (e.g. CAs, lawyers) for creating the HUF deed to ensure it is bullet-proof and in compliance with laws.

Step 2: Create a rubber stamp

The Karta is the person who runs the HUF. A rubber stamp must be created (available at local stationery shops and online as well) in the name of the HUF. It is required for PAN and bank accounts.

It should read as under:

For Raj Mehra HUF

Karta

Step 3: Application for PAN

An Income Tax identification number is to be obtained for the HUF. A separate PAN application must be filed along with the HUF deed as proof of creation of HUF.

It takes nearly a week for the PAN to be allotted.

Step 4: Opening of bank account

After PAN has been allotted by the Income tax department, the Karta can proceed to open a regular bank account. The HUF deed, PAN card along with other details of the Karta should suffice as proof required by banks.

Step 5: Deposit money into bank account

Based on how the HUF is created (e.g. wills, gifts), the money can be transferred into the bank account of the HUF.

Remember, HUF is a separate entity in the eyes of the law.

Separate accounts are required to be maintained for an HUF. The tax return would be filed separately too.

It is always advisable to seek professional assistance in the creation and administering of HUF.

Thank you for reading.

In case of any clarification or information, please reach out to us at contact@vprpca.com. We shall be happy to assist you.