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Category: Investments

  • The HUF Magic – Legally save lakhs of rupees in taxes

    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.

  • Personal finances tasks for March

    Personal finances tasks for March

    Because the month of March 2022 has already begun, Indian citizens must complete a number of financial responsibilities by the conclusion of the month. Several deadlines, such as the final day for submitting a belated or updated income tax return (ITR), the PAN-Aadhaar link, and others, are approaching in March. As a consequence, here are the six most crucial financial tasks to consider and do, if any are applicable to you.

    Calculate your advance taxes

    Missed the due date instalment of 15 March? You can still save some interest component by calculating the income for FY22 and paying taxes on or before 31 March 2022.

    Section 234C interest is levied on each advance tax instalment. So if you have not paid your advance tax instalments on time, you will have to pay interest at 1% per month.

    Section 234B interest is levied from 1 April till the date the tax is paid.

    If you directly calculate your tax liability at the time of filing of filing your return (which happens in July), you will have to pay interest under both section 234B and section 234C.

    So, it is advisable to compute your income and pay taxes on or before 31 March 2022.

    Filing belated or revised Income Tax Return (ITR)

    The deadline for filing a revised income tax return (ITR) is 31st March 2022. Following the epidemic of Covid-19, the government has extended the deadline for reporting updated ITRs for FY 2020-21 from December 31, 2021 to March 31, 2022. Also because the deadline for filing a belated or revised return for AY 2021-22 is March 31, 2022, you must submit your updated or belated ITR on or before that date to avoid a penalty under Section 234F of the Income-tax Act of 1961.

    Aadhaar-PAN link

    Following the government extended deadline from September 30, 2021 to March 31, 2022, Aadhaar linking with PAN is now possible till March 31, 2022. To avoid PAN becoming inactive, these two most important documents should be linked on or before the deadline. As a result of possessing an invalid PAN, you may be subject to a Rs 10,000 penalty under section 272B.

    KYC compliance of bank accounts

    The Reserve Bank of India (RBI) has set a deadline of March 31, 2022, for periodic updation of KYC in order to prevent restrictions on account operations for non-compliance. The account holder can avoid having his or her bank account suspended by satisfying KYC compliance.

    Making contributions towards your tax saving instruments

    As a tax saver, keep in mind that beginning in FY 2021-22, an individual can choose between the old and new tax regimes, making use of tax exemptions. As a result, it’s critical to make sure you’ve made the needed minimum contribution before the end of the fiscal year to keep your tax-saving instrument operational. As a result, you must ensure that you have successfully deposited the required contribution in your tax-saving instrument on or by March 31, 2022, or your tax-saving funds would become invalid and your tax liability for the fiscal year 2021-22 will be increased.

    For any queries, feel free to reach out to us at contact@vprpca.com

  • Diversification – Why you should use it now

    Diversification – Why you should use it now

    two men shaking hands in a conference room

    The word of ‘Diversification’ seems long but it is not really complicated.

    It just builds on the famous saying – “Do not put all your eggs in one basket”

    In simple terms, diversification means spreading your investments so that your exposure to any one type of asset is limited.

    But why do investors fear diversifying?

    For starters – because they do not know anything about it.

    But before we dive into it, we must first accept the fact that the market is unpredictable. No one can predict what will happen in the market tomorrow, and if anyone claims to predict that – they are either lying or are God.

    So, the next best thing is to work with probabilities.

    And here is where diversification helps. It reduces the volatility of your portfolio over time.

    Why diversify?

    One of the keys to successful investing is learning how much risk you can tolerate in comparison to the returns you want.

    Invest your retirement nest egg too conservatively at a young age, and you run the risk that the growth rate of your investments won’t keep pace with inflation. On the other hand, if you invest too aggressively when you’re older, you could leave your savings exposed to market volatility, and run the risk of eroding your assets at an age when you have fewer opportunities to recoup your losses.

    The primary goal of diversification is not to maximize returns. Its primary goal is to limit the impact of volatility on a portfolio and help you sleep better.

    I would definitely not trade my good night’s sleep for any amount of returns. Would you?

    How to diversify?

    Financial advisors can make it complicated but at its root, it is the simple idea of spreading your portfolio across several asset classes like equity, mutual funds, debt etc.

    Even within those asset classes, you should diversify within sub-classes.

    Talking about equity, you can diversify by purchasing assets of companies in different industries.

    For debt, you can diversify between bank deposits, corporate bonds, government securities etc.

    How diversification can help reduce the impact of market volatility

    A study in the USA is a good example on the benefits of diversification. Look at the charts below, which depict hypothetical portfolios with different asset allocations.

    The average annual return for each portfolio from 1926 through 2015, including reinvested dividends and other earnings, is noted, as are the best and worst 20-year returns.

    The most aggressive portfolio shown comprises 60% domestic stocks, 25% international stocks, and 15% bonds: it had an average annual return of 9.65%. Its best 12-month return was 136%, while its worst 12-month return would have lost nearly 61%. That’s probably too much volatility for most investors to endure.

    Changing the asset allocation slightly, however, tightened the range of those swings without giving up too much in the way of long-term performance. For instance, a portfolio with an allocation of 49% domestic stocks, 21% international stocks, 25% bonds, and 5% short-term investments would have generated average annual returns of almost 9% over the same period, albeit with a narrower range of extremes on the high and low end.

    As you can see when looking at the other asset allocations, adding more fixed income investments to a portfolio will slightly reduce one’s expectations for long-term returns, but may significantly reduce the impact of market volatility. This is a trade-off many investors feel is worthwhile, particularly as they get older and more risk-averse.

    Regardless of your goal, your time horizon, or your risk tolerance, a diversified portfolio is the foundation of any smart investment strategy.

    History is witness to this fact.

    Thank you for reading.

    Feel free to reach out in case of any questions.