Hindu Undivided Family A Tax Saving Tool

G. Venkatesh
st
1 Year LLB (3 years)

Introduction

Amid all the wide diversity there is a philosophy of underlying unity in India. Yet, at the dawn of
freedom, the founding fathers of our nation chose to continue separate personal laws for its citizens
based on their religious identities. This was despite the fact that the new constitution embraced
secularism. While Hindus continue to be governed by the Hindu laws, Muslims follow the
Mohammedan laws and so on. Personal laws are set of laws relating to marriage, divorce,
guardianship, adoption, maintenance, succession to estate and such other family related matters.

This paper attempts to understand the unique tax saving opportunity available for Hindus in the form
of Hindu Undivided Family (HUF) concept. Firstly, let us analyze how HUF is a tax saving tool. Next
we will understand certain anti-abuse provisions relating to HUF in the tax laws due to which certain
aspects of HUF vary significantly from the principles under civil laws. Finally we will identify the
actual avenues of tax saving available currently given that most of the loop holes in the tax laws
have been plugged. All references, in this paper, to tax laws are to be read as Income Tax Act, 1961
and the rules thereof. While under the civil laws, the term Joint Hindu Family (JHF) is frequently
used, the tax laws use the term Hindu Undivided Family (HUF). In this paper, HUF and JHF are
interchangeably used.

Hindu Law: Joint Hindu Family and Coparcenery

To begin with, without going into too many details, a quick recapitulation of principles and provisions
of joint family and coparcenery in the Hindu law would be appropriate. A joint Hindu family (JHF)
consists of all persons who are lineally descended from a common Hindu ancestor and includes their
wives and unmarried daughters. No stranger can be admitted into it except by way of marriage or
adoption. A JHF consists of not only male members but also female members. However, a joint
family may also consist of only female members1.

A joint Hindu family is the normal condition of a Hindu society. A joint Hindu family is joint in food,
worship and estate. With severance of joint estate, a joint Hindu family ceases to exist. Mere
severance in food and worship does not operate as a separation 2. A joint family may be broken up by
partition and the separating member would form a new joint family with his descendents.

Hindu coparcenery was a male dominated system under Mitakshara law where only son, grandson
and great-grandson (i.e. lineal male descendants within four degrees) acquired interest in the

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coparcenery property by birth. An adult coparcener at anytime could ask for a partition. However,
under the Dayabhaga school of law, there are two differences. Firstly, the sons do not acquire any
interest by birth and only on the death of the father such right arises. Secondly, females too could be
coparceners. With the amendment made to the Hindu Succession Act in the year 2005, now a
daughter of a coparcener of a Mitakshara Hindu family has the same rights and liabilities as a son.
Such rights and liabilities continue even after her marriage. The states of Karnataka, Maharashtra,
Andhra Pradesh and Tamil Nadu had already amended their laws to this effect much earlier. Kerala
had gone a step ahead and abolished the joint family system in the year 1975.

As observed by the Privy Council 3, in a Hindu coparcenery under Mitakshara law, there is
community of interest and unity of possession between all the members of the family. The members
are joint tenants with right of survivorship. However, the devolution by survivorship has been given a
go by to a great extent with the 2005 amendment of the Hindu Succession Act. Now, Section 6
provides for inheritance by succession even in respect of interest of a coparcener in joint family
property.

A member of a JHF may hold separate properties apart from the family property which he may
dispose of by a will and if he dies intestate, such properties shall devolve upon his heirs by intestate
succession in accordance with the provisions of the Hindu Succession Act.

Hindu Undivided Family a tax saving tool

HUF as a tax saving tool, under the income tax laws, chiefly stems from the following advantages it
enjoys which are discussed in detail:

1. Separate tax status coupled with progressive tax rates

2. Deductions from gross total income
3. Simultaneous existence of multiple HUFs

1. Separate Tax Status & Progressive Tax Rates:

The Income Tax Act is common to all in India and does not discriminate based on religious identities.
However, the provisions relating to an HUF is peculiar in the Indian tax laws. Section 4 of the Income
Tax Act contains the charging provision wherein the taxable unit is the person. Person is defined
by section 2(31) to include (i) an individual, (ii) a Hindu Undivided Family, (iii) a company, (iv) a firm,
(v) an association of persons or a body of Individuals, (vi) a local authority, and (vii) every artificial
juridical person not falling under any of the preceding categories. An HUF, therefore, has a separate
tax status. The incomes of HUF will not be includible in the income of its karta or any other
coparcener or member in whose name the property yielding the income may be.

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The Income Tax Act does not define an HUF. Only those undivided families are covered to which
Hindu law applies4. A Muslim family of Cutchi Memons sect following the Hindu laws of inheritance
and succession by custom cannot claim the status of HUF 5. The Hindu laws, of course, apply to
Jains, Sikhs and Buddhists and others covered by the expression Hindu as contained in section 2
of the Hindu Marriage Act, 1955 and other principal enactments concerning Hindus. As noted earlier,
Kerala abolished joint Hindu family system in 1975. Therefore, Hindus resident in Kerala would not
be able to use HUF for taxation purposes.

An HUF is undoubtedly a person within the meaning of Indian Income Tax Act; it is however not a
juristic person for all purposes6.

In India, a progressive tax rate is followed for individuals. This is in contra distinction with a flat rate
applicable to companies, firms, etc. Thus, in the case of a male individual for financial year 2011-12,
the tax rate on total income of up to Rs.1.8 Lakhs is nil; on income above Rs.1.8 Lakhs up to Rs.5
Lakhs is 10%; on total income of Rs.5 Lakhs to Rs.8 Lakhs is 20% and 30% on income exceeding
Rs.8 Lakhs. The rate of tax applicable to an HUF is same as that of an individual.

An illustration

Lets understand, with an illustration, how separate tax status coupled with progressive tax rates help
save tax for HUFs. Suppose an HUF consists of A, his wife, his two sons B and C and their wives. A,
B and C all have incomes from salary of Rs. 2 Lakhs each. The HUF has a property which yields
income of Rs.1.5 Lakhs per annum.

Applying this tax rate in the given illustration, if HUF were to be separately assessed to tax on the
income of Rs.1.5 Lakhs, there will be no tax payable as it falls in the first tax bracket of up to Rs.1.8
Lakhs. On the other hand, if the income were to be divided among A, B and C the coparceners and
thereafter included in their hands, there would be tax payable as they have already exhausted the
limit of Rs.1.8 Lakhs with their salary incomes.

2. Deductions from Gross Total Income

There are certain deductions from gross total income that may be availed by an individual under
Chapter VI-A of the Income Tax Act. The most important of such deduction is under section 80C on
investments in PPF, NSC, ELSS, bank FDs, Life Insurance Premium, etc. Other such deductions
are 80D (medical insurance), 80DD (medical treatment of disabled dependent) and 80DDB (medical
treatment of specified diseases and ailments). A deduction from the gross total income is allowed to
the extent of that investment, subject to a ceiling of Rs.1 Lakh. An HUF is also eligible for this benefit
and thus can save tax. The deduction availed by the HUF would be over and above the deductions
that may be availed by coparceners. In our illustration above, the three coparceners would be able to
avail deduction of Rs.1 Lakh each from their respective incomes and HUF also would be able to

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avail a deduction up to Rs. 1 Lakh from its income. The total deduction under section 80C for the
entire family is Rs.4 Lakh which otherwise would have been only Rs. 3 Lakhs.

3. Simultaneous Existence of Multiple HUFs

Under the Hindu law, an HUF can consist of several branches and sub-branches. Each of these
would constitute an HUF within the meaning of section 2(31). For example, a son being a member of
an HUF of which his father is the karta can also form another HUF consisting of himself, his wife and
children. The son in this case would be the karta of the smaller HUF. In order to constitute a joint
family, it is not always necessary that there should be two male coparceners. A single male member,
after his marriage, could duly form an HUF 7. More the number of HUFs, more the tax savings that
can be achieved.

How to create an HUF?

For tax purposes if one wants to make use of HUF structure, how should one go about? Can we
really create an HUF? An HUF cannot be created by acts of parties. It is a creature of law. An HUF
automatically comes into existence when a person gets married. What really needs to be done,
therefore, is to create the property for the HUF from which incomes may be earned by the HUF.
Once the property of the HUF is in place, separate PAN (Permanent Account Number) and bank
account have to be obtained for the HUF. Tax return declaring the incomes earned by the HUF has
to be filed annually. Of course, the karta will be the authorized signatory for the HUF.

Under civil law an HUF can acquire property in any of the manners as (i) ancestral property (through
partition) (ii) accretion to the ancestral property (iii) by joint labour of its members (iv) by will (v) by
gift (vi) by throwing into the common stock of separate property of its member. However, there are
certain limitations placed on these by the tax laws. It is of capital importance that these limitations
are duly considered and studied to avoid any pitfalls.

Anti-abuse provisions relating to HUF under Income Tax Act

While HUF is a genuine tool of tax saving, it came to be used as a colorable device for tax
avoidance. The tax laws have over a period evolved to keep pace with human ingenuity. The Income
Tax Act contains certain provisions which are at divergence from the civil laws. Knowledge of these
divergences which are in fact anti-abuse provisions is of great importance. Some of the important
ones are:

1. Clubbing Provision - section 64(2)

2. Gift tax under - section 56(2)(vii)
3. Mode of Partition section 171(1)
4. Partial partition - section 171(9)

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 1. Clubbing Provision under Section 64(2)

While under civil law, any member may convert his separate property by impressing on it the
character of joint property, the tax laws frown upon such acts. This was an area of wide abuse. To
reduce the tax burden, a member would declare that he has given up the claim for separate property
and offer the income thereof to be assessed in the hands of the HUF. Section 64(2) contains the
clubbing provision wherein, if the separate property of a member is converted or blended with the
HUF property, the income thereof would continue to be assessed as the income of the member.

2. Gift tax under section 56(2)(vii)

Any amount, immovable property or certain specified properties in excess of Rs.50,000/- (in
aggregate in a financial year) received by an individual or HUF without consideration is taxable
under section 56(2)(vii) as Income from Other Sources. This manner of taxing gifts in the hands of
the receiver was introduced in the Income Tax Act, with effect from 1 st September 2004. It may be
noted that erstwhile Gift Tax Act, 1958 was deleted with effect from 1st October 1998.

The law also provides for exemption from gift tax if received from relatives and in certain other
circumstances. For this purpose, relative is narrowly defined in this section itself. If gift is received by
an HUF from any of its members, would it amount to receipt from a relative? The Income Tax
Appellate Tribunal, Rajkot8 has held an HUF is a group of relatives; gift received by an individual
from HUF is therefore exempt. So far there are no other authorities on this question and it may be
too early to conclude either way.

A conversion by a member to the HUF of his separate property into HUF property (in aggregate in
excess of Rs.50000/- per annum) may turn out to be a double edged sword with the incidence of
clubbing provision on the one hand and gift tax provision on the other. Also gifts made by a bigger
HUF to a smaller HUF even if valid under the civil laws would nevertheless attract gift tax incidence
under Income Tax Act. One has to be alert to these possibilities and take due care.

3. Mode of Partition under Explanation to section 171

Partition is the severance of joint status of the Hindu family. A mere intention to severe would be
enough to disrupt the joint status and effect a partition under the civil law. The hitherto joint tenants
would thereafter enjoy the property as tenants-in-common until a division of property by metes and
bounds is carried out. This is a settled principle of law laid down by the Privy Council 9.

However, the position under the Income Tax Act is not the same. Section 171(1) states that an HUF
assessed to tax shall continue to be so assessed until a finding of partition is recorded by the
assessing officer. Further, the Explanation to section 171 defines partition as division of property by
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metes and bounds. Where the property does not admit of such division, such division as it admits of
and a mere severance of the status alone shall not be deemed as partition. The intention of the law
appears to be to discourage partitions of convenience that may be engineered by the parties, without
altering the circumstances of enjoyment of properties. Further, this also overcomes the partitions
claimed to be made orally (and usually as an after-thought) with no other intention except the
reduction of tax.

4. Partial Partitions under section 171(9)

A partition may be either full or partial under civil law. A full partition is one where all the properties
are partitioned among all the persons eligible to get a share. On the other hand, a partial partition
may be partial as to the persons or the properties or both. As discussed earlier, more the number of
HUFs, more the tax benefits that may be enjoyed. Ingenuous ways of proliferating HUFs by use of
partial partitions were devised at sometime. Innumerable HUFs were artificially created within an
HUF with various permutations and combinations of properties and persons to avail the tax benefits.
Section 171(9) was inserted by the Finance (No.2) Act, 1980 effective from 1 st April 1980 which does
not recognize a partial partition. Thus, even where there is a genuine partial partition and certain
properties are allotted to some of the members of the HUF; the income from these properties would
continue to be assessed to tax in the hands of the HUF as if there was no partition.

A notional partition by operation of law under section 6 of the Hindu Succession Act, 1956 is also not
enough under the Income Tax Act10. A partition has to strictly adhere to the requirements under
section 171.

Room available for tax saving

Having seen the limitations in using the HUF as tax saving tool, it is quite natural to question if there
is really any scope left for tax planning. The answer is a qualified yes. There is still enough room to
use HUF for tax saving within the four corners of the tax law. The following are some important
aspects that should be borne in mind which can help to lawfully create the property for the HUF:

1. On partition (within the meaning of section 171), the share allotted to a member may be
taken into the HUF file without including in the individual members file. A separate identity of
property and income of the HUF may be maintained for taxation purposes. If the individual is
unmarried at the time of partition, on his marriage the property so received on partition will
be HUF property11. Once the property is in the HUF file, all the accretions thereafter will be
that of the HUF.
2. Wills may be made bequeathing properties for the benefit of the HUF rather than to the
individual.

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 3. Gifts received on the occasion of marriage of an individual are not taxable under section
56(2) (vii). Such gifts may be given to the benefit of the HUF rather than to the individual.
Also, gifts below the specified limit may be taken from anyone including strangers at
anytime.
4. Existence of HUFs can be very helpful in reducing the tax incidence of long term capital
gains as HUFs too enjoy the benefits of exemption under section 54 and 54F. Under these
sections, only individuals and HUFs can claim these exemptions and not other assesees.
5. Even without a partial partition, HUFs within HUFs can be assessed to tax simultaneously.
Smaller HUFs can receive properties through wills and gifts as stated above and thus earn
incomes.
6. Where an HUF has never been assessed to tax, section 171 is not applicable going by the
plain reading of the section. Hence, the partition of such an HUF would be valid even if
division is not by metes and bounds. So also partial partitions in such cases would be
recognised under the Income Tax Act. Thus, one should be alert to the possibility of use of
this advantage whenever an occasion arises.
7. The benefits under Income Tax Act, 1961 have been dealt with in detail in this article. The
position of law as concerns an HUF under Wealth Tax Act, 1962 is similar to that under
Income Tax Act. Assets up to Rs.30 Lakhs are exempted from wealth tax. This benefit can
also be availed by an HUF.

A small step today will go on to make a big difference tomorrow. Thus, all is not lost and howsoever
small a benefit it may yield, HUFs should not be ignored for tax purposes.

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1End Notes:
CIT v. RM. AR. AR. Veerappa Chettiar (1970) 76 ITR 467 (SC)

2 Chowdhry Ganesh Dutt v. Jewach, 1904 31 IA 10

3 Katama Nachiar v. The Rajah of Shivaganga (1893) 9 MIA 539

4 CWT v. Smt. Champa Kumari Singi & Ors. (1972) 83 ITR 720 (SC)

5 Hajee Abdulla Sait v. CIT (1989) 177 ITR 71 (Kar)

6 Ram Laxman Sugar Mills v. CIT (1967) 66 ITR 613 (SC)

7 Prem Kumar v. CIT (1980) 121 ITR 347(All.); CIT v. Arun Kumar Jhunjunwalla & Sons (1997) 223 ITR 45 (Gauhati)

8 Vineetkumar Raghavjibhai Bhalodia v. ITO (IT Appeal Nos. 583 (Rjt.) of 2007 and 601 (Rjt.) of 2008)

9 Approvier v. Rama Subba Aiyan (1866) 11 MIA. 75 (PC)

10 CIT v. R.B. Tunki Sah Baidyanath Prasad 212 ITR 632 (SC)

11 CIT v. Arun Kumar Jhunjunwalla & Sons (1997) 223 ITR 45 (Gauhati)