When the taxman wields a club

This happens when you try to masquerade your income as someone else’s

The tax return filing season is again upon us, boys and girls. Be good, make full disclosure, hide nothing. Including income that you may be tempted to pass off as someone else’s to avoid paying tax. The taxman can give you a good tax spanking if you try to be clever. The Income Tax Act gives him the clubbing power — Sections 60 to 64.

Say, you are a taxpayer while your spouse, a home-maker, isn’t, since she has no taxable income. Now, you may be thinking of putting money in a deposit in her name, declaring the interest earned in her tax return and not paying tax since the income will be less than her tax exemption limit. Don’t. You are supposed to include, that is, club this interest income along with your income and pay tax on it. This, in essence, is clubbing of income.

Swinging it wide

Clubbing of income happens in many cases. One, if you transfer income to another person without transferring the asset that generates the income, the income is considered yours. For example, if you continue owning a house, but transfer the rent received to a friend, the rental income will be clubbed with yours.

What if you transfer the asset? Clubbing of income derived from the asset will apply if the transfer is revocable — that is, if you retain the right to take back the asset.

Suppose you transferred an asset to your spouse. If you have not received adequate consideration for this, the income from the asset will be clubbed with yours. So, in the earlier example, the interest from the fixed deposit will be clubbed with your income, since you essentially gifted the deposit to your spouse without getting adequate consideration in return.

What if the spouse changed the form of the asset? The income will still be clubbed with yours. Say, you gifted money to your spouse who used it to buy some bonds. The interest on the bonds will be clubbed with your income. There is some respite though. Income earned from re-investment of such clubbed income will not be clubbed. Say, interest from the bonds is put in bank deposits; the income from the deposits will be considered as the spouse’s.

If you transfer an asset without adequate consideration to another person, but the benefit goes to your spouse immediately or in the future, the income on the asset will be clubbed with yours. The rules are similar if you transfer incomes or assets to your son’s wife.

Minor matters

Some folks think they can get away by investing in their minor children’s names. If only. Incomes of minor children are clubbed with that of the parent, whose income is higher. Where the marriage of the parents does not sustain, the income will be clubbed with that of the parent maintaining the minor child.

In any case, there is a minor respite — ₹1,500 or the minor’s income, whichever is less, can be claimed as exemption. Also, if the minor child has earned the income doing manual work or applying skill, knowledge and talent, then clubbing of income does not come into play.

Also, if the income accrues to a minor child suffering from certain disabilities specified under Section 80U of the Income Tax Act, then clubbing provisions don’t apply.

Spousal salary

Paying a salary or other remuneration to your spouse? The taxman could look askance. If your spouse gets salary from an entity in which you have substantial interest, it could be clubbed with your income. You will be deemed to have substantial interest if you, along with relatives, are entitled to 20 per cent or more of the entity’s profits.

In such cases, clubbing of incomes kicks in if the salary cannot be justified — that is, your spouse is getting it without any technical or professional knowledge or experience.

Out of the net

Income from assets transferred to your spouse is not always clubbed, even if it is for inadequate consideration. If the transfer of the asset is in connection with an agreement to live apart, there is no clubbing.

Also, if the asset is transferred before the wedding, there is no clubbing. Similarly, if the husband-wife relation does not exist on the date of accrual of the income from the transferred asset, there is no clubbing.

Similar exemptions apply when assets are transferred to the son’s wife.

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