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Gifts to relatives will notattracttax
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ARVIND RAO
Gifts are always special to the recipient and it would be extra-special if there is no tax payable on these. The taxman believes so, too. In the provision introduced in Section 56 of the Income Tax Act, if any sum of money is received gratis by an individual or Hindu Undivided Family (HUF) during any year, it shall not be taxable if from a relative. The law has already defined the term ‘relative’ and HUF. However a case that came up before the Income Tax Tribunal shows that some clarifications were still needed.
Background
The law also exempts gifts during special occasions like marriage of an individual or under a will or by way of inheritance and even in contemplation of death of the payer. Money received as grants or loans from educational institutions/universities, charitable trusts or similar institutions is also exempt.
The term relative has been defined in the law to include spouse of the individual, brother or sister of the individual, brother or sister of the spouse of the individual, brother or sister of either of the parents of the individual, any lineal ascendants or descendents of the individual, any lineal ascendants or descendents of the spouse of the individual, and spouses of all of the persons mentioned above.
However, a plain reading of the above definition seems to convey it has overlooked reference to relatives for the purpose of an HUF. Also, an HUF has not been included as a relative for the individual.
In the case of HUFs, the concept of relatives may not make sense, since the joint family consists of all family members. But the exclusion of this term in the provision could mean the exemption is available for the gifts received by the HUF from any person related to the karta or any other family member. Alternatively, it could mean that since an HUF cannot have relatives, any/all gifts received would be taxable.
Issue posed
This question came up before the Income Tax Tribunal in a recent case. The tax payer had accepted a gift of ~ 60 lakh from his fathers HUF. During the assessment, the tax officer held the gift to be taxable, as an HUF was not covered in the definition of relative under Section 56. At the first appellate level, the authority confirmed the tax officers view and stated that if the legislative intent was to exempt the amount received from an HUF, this would have been specified in the definition of relatives.
During the proceedings, the tax payer said the amount received from the fathers HUF was as good as money received from relatives, as the father and all other members comprising the HUF were relatives within the meaning of the definition given in section 56(2). It was also contended that the term individual would include a group of individuals and, hence, an HUF should be covered under the term individual. And, that an HUF was aconglomeration of relatives as defined above and should be interpreted in a way to avoid any absurdity. Relying on an earlier Supreme Court decision, the tax payer contended that in case of any ambiguity in the language of any provision, it must be interpreted in a manner that benefits the taxpayer.
The tribunal order clarifies that an HUF is a person within the meaning of the term as defined in the Act and is, thus, distinctively assessable. The term HUF is not defined anywhere under the law, but is well defined under Hindu law and is widely acceptable and recognised. The HUF constitutes all persons lineally descended from a common ancestor and includes their mothers, wives or widows and unmarried daughters. All these people fall within the definition of relatives as provided in the relevant provision of the Act.
It was further stated that HUF is a group of relatives and with this view in mind, the question that needed clarity was whether only the gift given by the individual relative from an HUF would be exempt or even a gift collectively given by the group of relatives from the HUF would be exempt.
Illustration
To better comprehend this, the Tribunal used a simple illustration. In case an employee retires, and in token of their affection and affinity for him, the secretary of the staff club on behalf of the members presents the retiring employee with a gift. Could this gift presented by the secretary on behalf of the staff club be termed a gift from the secretary alone and not from all the members of the club? Using the same example, the Tribunal stated the gift presented by the secretary represents the gift given by him on behalf of all the members; it is the collective gift from all the members and not the secretary in his individual capacity.
The Tribunal, further held that, on a plain reading of the relevant provision, along with the explanation provided therein, coupled with an understanding of the intention of the legislature from the provision, a gift received from a relative, irrespective of whether this is from an individual relative or agroup of relatives, is exempt from tax. A group of relatives definitely falls within the meaning of relatives as given under the relevant provision.
Nowhere has the provision expressly defined that the word relative represents a singular person, and many a time, singular can mean more than one. The term Hindu Undivided Family, though sounding singular in its form and assessed to tax for income tax purposes, is at the end made up of a group of relatives.
So, the Tribunal held that the term relative as explained in the relevant provision of the Act includes relatives and as the tax payer received the gift from an HUF, which is a group of relatives, the gift received by the tax payer should be interpreted to mean the gift was received from relatives. And, therefore, would not taxable.
The writer is a certified financial analyst
According to the Income Tax Act, relatives are on a par with Hindu Undivided Family leading to such exemptions
TAXATION PARSING THE LAW
|HUF not included in the definition of relatives for gift provisions under Income Tax law |HUF is also not defined in the Income Tax Act but the meaning as per the Hindu law is well accepted and recognised |HUF should be looked at as a group of relatives |Gift received from HUF is similar to gift received from the group of relatives |The term relative used in the Act should be interpreted to include more than 1 relative
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Limit infra investments to ~ 20,000
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SANDEEP SHANBHAG
Every taxpayer, regardless of income level or tax bracket would do well to invest in the special infrastructure related bonds that can be availed under Section 80CCF. It offers a deduction over and above the ~1 lakh limit available under Section 80C deduction.
The finance minister (FM) had introduced a deduction of ~ 20,000 for investment under the section, in his budget speech of 2010. Issuers such as IDFC, IFCI, REC and L&T have since issued such bonds. Currently, the REC Long Term Infrastructure Bonds has opened since 19 December and is due to close on the 10 February 2012.
Investors have two options to invest in these bonds - one could either choose bonds with a 10 year maturity or with a 15 year maturity. For the 10 year maturity, the interest rate on offer is 8.95 per cent per annum (p.a) whereas it is 9.15 per cent p.a. for the series having a 15 year maturity. Similarly the minimum lock in period is 5 years and 7 years respectively for each series. In other words, though the term of the bonds is longer, there is an option to exit after five years and seven years respectively. After the lock in, the investor may exit either through the secondary market or through a buyback facility provided by the issuer. One may choose either the regular interest or the cumulative option.
Though one may invest an additional amount, the tax deduction would be applicable only to the extent of ~ 20,000. To be listed on the Bombay Stock Exchange (BSE) or National Stock Exchange (NSE) or both, the minimum application amount is fixed at ~ 5,000.
Extremely relevant in the case of these bonds are the provisions of the Direct Tax Code (DTC). The revised discussion paper on the DTC released by the Central Board of Direct Taxes (CBDT) specifically provides that any investments made, before the date of commencement of the DTC, in instruments which enjoy exempt-exemptexempt (EEE) method of taxation under the current law, would continue to be eligible for EEE method of tax treatment for the full duration of the financial instrument.
In other words, the exemptexempt-taxed (EET) regime of taxation would be applicable only prospectively. What this means is that since these 80CCF bonds are being issued before the DTC has been made operational, even if the maturity proceeds are received during the DTC regime, the same would continue to remain tax-free.
This has enormous implications for investors in terms of the effective return on the bonds. For example, though the nominal return for bonds is 8.95 per cent / 9.15 per cent p.a., the real effective rate is much higher. In case of individuals who fall in the 30.9 per cent tax bracket, the effective post-tax return for the 10 year bond is as high as 15.51 per cent p.a!! The corresponding rate for the 15 year bond works out to 13.38 per cent p.a.
This is primarily because of the tax deduction. Remember that the initial investment saves you tax. And since a penny saved is a penny earned, the saving in tax payable works akin to having invested that much lesser in the first place. For someone in the 30.9 per cent tax bracket, the tax outgo will be lower by ~. 6,180 (~. 20,000 x30.9 per cent). This jacks up the effective return. The accompanying table illustrates the effective returns per annum for different tax slabs.
However, a note of caution. In the past, for earlier bond issues of similar type, we have come across advertisements and promotions that declare higher returns than those arrived at using proper mathematical calculations. This is patently misleading. The rate of return is as mentioned in the article and that too this is the IRR that is something that emerges on account of the upfront tax deduction on invested capital. Without this deduction, the yield will be the same as the coupon rate that is 8.95 per cent or 9.15 per cent p.a. (as the case may be) before tax. In other words, for any investment over and above ~ 20,000 the investor stands to earn the coupon rate only - a bank deposit currently would yield a higher rate! However, to the extent of ~ 20,000, it is almost like saving tax and getting paid for it, regardless of which tax bracket the investor belongs to (obviously the higher the better). So go for it by all means.
Though there could be another issue before the end of the fiscal, its better not to risk waiting till the last minute. Interest rates in all probability have peaked and would be on a decline in the future. For example, the earlier Section 80CCF bond issue from L&T that just closed on 24 December, offered a marginally higher rate of 9 per cent p.a. for a ten year maturity.
So one can never say, for the next issue, the interest rate could be even lower than what is being offered currently.
Another notable point is that in all probability, this year is the limited window for these bonds. The DTC (as announced) has no room for Section 80CCF and consequently, this deduction may not be available next year.
At a time when there is a dearth of good fixed income avenues to invest in, these bonds with their high effective rate could prove to be extremely useful for the fixed income allocation in your portfolio. Moreover, as explained above, so long as the initial investment has been made before the advent of DTC, the maturity amount will continue to be tax-free even in the DTC regime. So do avail of this tax saving opportunity as long as it is made available.
The writer is Director, Wonderland Consultants
Investors have two options to invest in infrastructure bonds —one could eitherchoose bonds with a 10-yearmaturity orwith a 15-year maturity
Anything more will only earn the coupon rate with yields lower than those of bank deposits GAINING FROM BONDS
TaxBracket 10 year bonds 15 year bonds
30.90% 15.51% 13.38% 20.60% 12.95% 11.73% 10.30% 10.70% 10.34% |
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Rupee fall jacks up India’s arms purchase bill
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AJAI SHUKLA
New Delhi, 24 December
The falling rupee and the defence ministry’s (MoD’s) tardiness could cost India an extra ~15,000 crore for its planned purchase of 126 medium multi-role combat aircraft (MMRCA). On 31st October 2010, three months after the Indian Air Force submitted its flight trial report to the MoD (i.e. roughly the time needed for evaluating the price bids; negotiating a final cost; and awarding the contract) the rupee reached its high-water mark of ~43.71 to the dollar. Had the MoD signed the MMRCA contract then, the anticipated bid price of $15 billion would have amounted to ~65,565 crore. An extra ~1,311 crore for the 2% cost of hedging the forex risk would have taken the tab to ~66,876 crore.
Today, at about ~53 to the dollar, that $15 billion bid translates into ~79,500 crore. The two per cent cost of forex hedging is ~1,590 crore, taking the bill to ~81,090 crore, ~15,525 crore more than last October. The MoD is set to pay almost twice the ~42,000 crore that was budgeted for the MMRCA.
If the MoD does not hedge the forex risk, and the dollar hits ~58, the MMRCA cost would rise further to a mindboggling ~87,000 crore.
This disastrous exposure to the rupee’s diminishing fortunes is the MoD’s own failure. In 2003 a committee, headed by Shashanka Bhide of the National Council of Applied Economic Research (NCAER), examined a proposal to hedge forex risk in defence contracts. The committee’s unequivocal recommendation — that the forex component of defence contracts be invariably hedged against fluctuation — remains ignored to this day.
The Bhide Committee found that the cost of hedging forex risk would increase the cost of a contract by two per cent, but not doing so risked an Exchange Rate Variation (ERV) that averaged four to five per cent over the duration of a defence contract. This ERV is naturally larger during strongly negative periods for the rupee, like the present.
An illustrative example is provided by the MoD’s forex outgo this year of about ~50,000 crore. Hedging forex risk could cost three per cent today (a high premium due to the rupee’s volatility); while ERV losses seem very likely to exceed five per cent. The extra two per cent lost on a ~50,000 crore forex payout amounts to a whopping ~1,000 crores.
MoD’s forex outgo
The MoD’s capital budget (~69,199 crore in 2011-12), which buys new arms and equipment, is not all disbursed in foreign exchange. Institute of Defence Studies and Analysis (IDSA) expert, G Balachandran, says that barely ~25,000 crore of that amount would be disbursed in foreign exchange; the rest would be paid in rupees to Indian vendors. The bulk of this goes to the 8 defence public sector undertakings (DPSUs) like Hindustan Aeronautics Ltd and Bharat Electricals Ltd; and the 41 factories of the Ordnance Factory Board (OFB).
But DPSUs and the OFB — which incorporate many foreign components in the equipment that they build— will disburse another ~20,000 crore to foreign vendors this year, says Balachandran. That would raise the forex outgo to ~45,000 crore.
Additionally, a portion of the revenue budget (which is ~95,216 crore this fiscal) would be paid out in foreign exchange. The revenue budget is earmarked for running expenses like pay and allowances; maintenance and spare parts; housing and storage; food and fuel; all the dayto-day running of the military. Of this, about ~5,000 crore worth of ammunition, and aircraft spares and engines, are purchased from abroad.
That takes the MoD’s budgeted forex spend to approximately ~50,000 crore this year. Going by the exchange rate of ~44.43 at the start of this fiscal, the budget catered for about $11.25 billion in overseas payments.
Lopsided spending
Only a small percentage of this was paid out in the first six months of this fiscal year, when the rupee was relatively stable. MoD sources say that, by October-end (the latest figures available), just 37 per cent of the capital budget had been expended, i.e. the equivalent of $4.15 billion, with procurement worth $7.1 billion still pending.
Skewing spending towards the end of the financial year, is standard MoD malpractice; in the last fiscal year, the MoD did 33 per cent of its capital procurement in the last month, i.e. March 2011.
Since the dollar was relatively stable then the damage was limited. Over the last three months, the dollar’s sprint to ~53 levels means that the remaining outgo of $7.1 billion will cost ~37,630 crore, ~6,000 crore more than the budgeted amount.
In contrast to the under spent capital budget, the revenue budget is overspent: 62 per centof the revenue budget was spent by end-October, say sources. At this stage last fiscal, just 56 per cent of the revenue budget had been spent.
With the Ministry of Finance (MoF) grappling with the national fiscal deficit, MoD officials do not realistically expect assistance from that quarter. By end-October the fiscal deficit was already 74.4 per centof the budgeted figure (compared to 42.6 per cent last year). The MoF has issued a note requesting all ministries to prune expenditure.
“The writing is on the wall. It seems we will have to cross-subsidise our revenue budget from our capital budget this year”, says a senior MoD official.
Defence PSUs and ordnance factories had budgeted ~20,000 crore in forex payout for foreign components in ‘made-in-India’ systems like this corvette, INS Kadmatt, pictured at its launch in Kolkata in October. The rupee’s fall has raised that by 20%. BS PHOTO
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