Clubbing Of Income Under Section 64

Clubbing of income refers to the inclusion of another person’s income, generally a family member’s, in the total income of the taxpayer for calculating taxes. This provision has been outlined in the Income Tax Act to prevent individuals from transferring income or assets to reduce their tax liability by re-addition of this income to the total taxable income of the transferor. This ensures equitable tax compliance.

To further clarify clubbing of income meaning, it involves combining income under specific conditions where the transferor is indirectly associated with the generated income. To illustrate with an example, consider that an individual has gifted funds or assets to their spouse, and the spouse is earning an income from these assets. In this case, the income is attributed back to the individual under the clubbing of income under section 64.

It is important to note, however, that not all income or relationships fall under this rule. This provision is only applicable to specific relationships such as income earned by a spouse, minor child, or certain relatives via transfers that are made without adequate consideration. For instance, income that is earned by a minor child through gifted funds or investments is included in the parents’ taxable income unless the child has a disability.

These rules are also applicable in the case of genuine gifts given to family members, highlighting the importance of knowing tax implications before transferring assets or income. The clubbing of income provisions is designed to discourage tax avoidance and maintain fairness in the taxation system.

By knowing what the restrictions and exceptions are, individuals can plan their finances more efficiently, avoid unintended tax liabilities, and ensure compliance with the law.

The clubbing of income in income tax refers to situations where the income of an individual includes earnings that are generated by another person under certain specific circumstances.

These provisions are designed to ensure fair tax practices and prevent any misuse of income transfers with the objective of evading tax liabilities. Let us dive into the various scenarios outlined in different sections of the Income Tax Act that govern the clubbing of income.

Section 60: Income Transfer Without Transferring Asset

If an individual has transferred their income to another person without transferring the underlying asset, whether by agreement or other means, the income that is generated by the asset continues to remain taxable in the hands of the transferor. This provision ensures that the liability for taxes cannot simply be shifted by splitting the ownership and income generation.

Section 61: Revocable Transfers

In the case that an individual has transferred their asset on the condition that it can be revoked, any income that arises from such an asset also falls under the tax liability purview of the transferor. This ensures that temporary asset transfers for tax avoidance do not relieve the original owner from taxation.

Section 64(1A): Income of a Minor Child

The income earned by a minor child (this includes step-children as well as adopted children) subject to clubbing of income under section 64. This is inclusive of cases where the income arises through investments or other methods. The law specifically states that such income is taxable in the hands of the higher-earning parent.

Exceptions to this provision are as follows:

• Income earned through manual work or specialised skills by the child.

• Income of a disabled child as outlined under section 80U of the Income Tax Act.

• If the parent chooses to file their taxes under the old tax regime, a tax exemption of ₹1,500 per child is available.

Section 64(1)(ii): Spouse’s Remuneration

If the spouse of an individual receives remuneration—such as salary, fees or commissions—from businesses in which the individual has a substantial interest, the income is clubbed in the hand of the individual or their spouse whose income is higher before clubbing.

Exceptions to this provision are as follows:

• If the spouse possesses technical or professional qualifications and is earning solely through their expertise, clubbing would not be applicable.

Section 64(1)(iv): Transfer of Assets to Spouse

Under section 64(1)(iv) of the Income Tax Act, if an individual transfers assets to their spouse, via direct or indirect methods, and without appropriate consideration, the income generated from such assets is clubbed with the transferor’s income.

Exceptions to this provision are as follows:

• Transfers that are made as part of a divorce settlement.

• Transfers that are made prior to marriage.

• If at the time of accruing the income, the relationship between husband and wife ceases.

Income that is earned by reinvesting the clubbed income is not clubbed again.

Section 64(1)(vi): Assets Transferred to Daughter-in-Law

When assets are directly or indirectly transferred to a daughter-in-law for inadequate consideration, the income that is generated is clubbed with the income of the transferor.

Section 64(1)(vii) and 64(1)(viii): Transfers for the Benefit of Spouse or Daughter-in-Law

In the case that assets are transferred to a person or entity for the benefit of a spouse or daughter-in-law (whether it is immediately or on a deferred basis), the income derived from these assets is taxable in the hands of the transferor.

Section 64(2): Property Converted to Hindu Undivided Family (HUF)

Basis the rules outlined under section 64(2) of the Income Tax Act, if a member of a Hindu Undivided Family (HUF) ad transferred their individual property to HUF without fair compensation, or has converted it into HUF property, the income that results from such property is clubbed in the hands of the individual who made the transfer.

To promote fairness in the taxation system, there are some exceptions to the clubbing of income provisions. These are:

• Disabled Minor Child: If a child is considered disabled (as per the rules mentioned under section 80U), then the income of the child is not clubbed with that of their parents.

• Earnings from Skills or Talent: Income generated by a minor through the application of special skills, manual work or professional knowledge is excluded from clubbing provisions.

• Major Children: Income that is earned by adult children, even if it originates from assets that have been gifted to them, is not clubbed. In addition to this, gifts to adult children are exempted from gift tax when categorised under gifts to ‘relatives.’

The clubbing of income tax serves a dual purpose: on one hand, it ensures compliance with tax laws while on the other it discourages the transfer of income that is solely done for the purpose of tax evasion. These provisions are designed to uphold the integrity of the tax system. They hold taxpayers accountable for income that is generated from assets that they hold directly or indirectly.

Understanding the clubbing of income meaning and its scope helps individuals effectively manage their financial transactions while ensuring they remain within the ambit of the law while minimising unintended tax liabilities. By being attentive to these rules, taxpayers can achieve optimal compliance and transparency in their income declarations.

• Example 1: Consider that Mr. Rahul owns a property that generates a monthly rental income of ₹15,000. He then decides to transfer this rental income to his friend Mr. Arjun without transferring the ownership of the property.

  In the above case, Mr. Rahul has transferred the rental income without transferring the underlying asset. As per section 60 of the Income Tax Act, this rental income still remains a part of Mr. Rahul’s total income for tax purposes, as he continues to retain the ownership of the property.

• Example 2: Imagine that Mrs. Vibha holds 22% equity shares in ABC Pvt. Ltd. giving her a substantial interest in the company. The spouse of Mrs. Vibha is employed as a marketing manager in ABC Pvt. Ltd., and earns a monthly salary of ₹50,000. However, her spouse neither possesses the qualifications, nor the experience, or expertise required for the role.

  In the above case, since Mrs. Vibha has a substantial interest in the company, and her spouse’s salary is not attributable to his skills or qualifications, the salary is added to Mrs. Vibha’s income under section 64(1)(ii) of the Income Tax Act. If, however, Mrs. Vibha’s spouse is qualified and is earning the salary from their expertise, the clubbing provisions would not apply, and his income would be separately assessed.

• Example 3: Consider that Mrs. Shanta gifts her husband ₹8,00,000 who then invests the money in mutual funds. Over time, these investments generate an annual return of ₹10,000.

  Now, since Mrs. Shanta transferred the cash (an asset) to her husband without adequate consideration, and this was used to generate income, the ₹10,000 return will be clubbed with Mrs. Shanta’s income as per the rules outlined in section 64(1)(iv) of the Income Tax Act.

Just like the provisions of section 64 of the Income Tax Act, there are other effective strategies to legally plan your finances and avoid falling under the purview of clubbing of income rules. The following methods can help you optimise tax savings while remaining compliant with the law:

• Gifting money to parents: One hassle-free way to bypass clubbing provisions is by gifting money to your parents. For instance, if an individual gifts money to their parents and invests it in fixed deposits, the interest earned on the investment is taxed to the parent. Since gifts made to parents are exempt from taxes this strategy ensures that income from such investments is not clubbed under your total taxable income.

• Gifts received at the time of marriage: Any gifts received at the time of marriage are tax-exempt on the recipient’s end. If these gifts are converted into investments, the earnings are taxed to the recipient and not the sender.

• Investing in PPF (Public Provident Fund): Interest earned on investments in PPF accounts is entirely exempt from taxes. Even if investments in PPF are made in the name of your spouse or minor child, the interest earned remains non-taxable.

Consequently, the clubbing provisions under section 64 of the Income Tax Act do not apply. To truly optimise this benefit, individuals can open PPF accounts under the name of their spouse or minor children, following the annual investment limit of ₹1,50,000 per account.

Clubbing provisions under the Income Tax Act are curated to ensure fairness and prevent tax avoidance. Here are some key points that taxpayers must make a note of:

• Applicability to Both Income and Loss: The rules for clubbing are not only applicable to income but also to losses. So, any loss arising from the transfer of income is also considered as the transferor’s loss.

• Capital Gains on Future Transfers: If the transferee sells the asset that has been transferred to them, all capital gains from the sale are clubbed with the income of the transferor. This ensures accountability even after the asset changes hands.

• Income from Converted Assets: When the transferred asset is converted into a different form, any income that is generated from the converted asset is clubbed in the hands of the transferor.

• Partial Consideration: If a part of the asset's value is paid as consideration, only the inadequate portion is clubbed with the income of the transferor.

• Income from Clubbed Income: Clubbing provisions are not applicable to income that is earned from already clubbed income. For example, if a bond that has been transferred without adequate consideration generates an interest of ₹20,000, the amount is clubbed with the income of the transferor. However, any income derived from the ₹20,000, such as reinvestment returns, is not clubbed for taxes.

• Indirect or Cross Transfers: Clubbing is applicable to both indirect and cross-transfers. To illustrate with an example, if Mr. Ahuja gifts ₹8,000 to Mrs. Batra and Mr. Batra gifts ₹15,000 to Mrs. Ahuja without consideration, the overlapping ₹8,000 is added to the taxable income of Mr. Ahuja and Mr. Batra, ensuring they are not evading taxes through this transaction.

Being aware of these rules helps taxpayers better navigate the implications of clubbing provisions and ensure compliance with tax laws.

Taxpayers with income arising under the provisions of Section 60 to 64 owing to the rules of clubbing are expected to make certain disclosures in their Income Tax Return (ITR) forms. These individuals must either file ITR-2 or ITR-3 if their income comprises amounts subject to the clubbing provisions.

Income earned by a spouse, child or another individual, which is subject to clubbing, must be reported as part of the taxpayer’s Total Income under the relevant head (e.g., salary, income from other sources). In addition to this, a detailed disclosure is needed in the Schedule SPI (Specified Person Income) section of the ITR form.

This rule ensures transparency and compliance with tax laws as all income that is clubbed must be explicitly accounted for. With accurate reporting in the appropriate format, individuals can avoid penalties and ensure smooth processing of tax returns. Taxpayers must carefully review their ITR forms to include this information where applicable.

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