Tax implication in transactions between spouses

Many people have a common misconception that transactions between spouses are completely exempt from tax implications. The reality is more nuanced. While there are certain provisions to prevent taxes being levied on transfers of assets between spouses, there are also regulations in place to prevent the abuse of these exemptions for tax evasion. To ensure accurate income tax calculation and reporting, individuals need to be aware of both sides of this coin.

Exchange of funds: It is common practice among spouses to exchange funds for daily household expenses. However, it is important to distinguish between ordinary expenditure and cash transfers designated as gifts or investments, which exceed the scope of ordinary household outlays. According to income tax regulations, transfers as gifts between spouses are exempt, which means that these transfers are not categorized as taxable income for the recipient. However, any income generated from the use of such transferred funds may be considered as income in the hands of the donor.

For example, if a husband owns a rental property and directs the tenants to pay the rental income to his wife, according to the clubbing provisions of the Income Tax Act, this rental income would still taxable in the hands of the husband, not his wife. wife. Not only that, if the wife chooses to invest this money in a fixed deposit, the interest earned would also be taxable in the hands of the husband and not in the hands of the wife. Or, if she uses the funds to buy stocks, the capital gains arising from the sale of the stocks will be taxed in the husband’s hands.

When you extend a loan to your spouse: Income tax laws do not restrict individuals providing loans to their spouses. However, it is advisable to ensure that the spouse repays the loan, together with interest, at a reasonable rate. It is recommended that interest be paid so as to ensure the bona fide of the loan. If you give your spouse an interest-free loan and later waive it after they are unable to pay, it may be considered an asset transfer without consideration. In addition, if the spouse uses the funds to invest in any instrument such as fixed deposits or stocks, the clubbing provisions will be attracted to the income.

Transfer of property: The process of transferring property between spouses also follows a similar pattern. There are no tax implications at the time of transfer. However, if there is no consideration (money paid in exchange for the acquisition of an asset) or insufficient consideration for the transfer, then the clubbing provisions may be attracted and the income arising from such transferred assets will still be taxable in the hands of. the spouse who transferred the property. Take, for example, a husband transferring ownership of his house to his wife as a gift. Although the wife becomes the legal owner, in the absence of any consideration, the provisions of clubhouse are drawn and the rental income from such a house will be taxable in the hands of the husband even though his wife receives the rent. The same rule will apply if the husband were to buy a new property with his funds but register it in his wife’s name. The purpose of the clubbing provisions is to ensure that income generating assets are not transferred to family members for the sole purpose of avoiding taxes.

Equality for working spouses and domestic carer spouses: The way spouses are treated from a tax point of view is consistent, regardless of whether they are working or keeping house. The purpose of these laws is to discourage tax evasion rather than to impede genuine transactions between spouses. It is vital to remember that the clubs provisions are only attracted when assets are transferred to a family member without sufficient consideration. Assets acquired before marriage or from income alone will fall outside the scope of the clubbing provisions. In such cases, the income generated from self-acquired assets will be taxable in the hands of the owner and not in the hands of the respective spouse.

Finally, understanding the intricacies of tax implications in transactions between spouses is essential for responsible financial planning and compliance with tax regulations. By understanding and complying with these provisions, couples can navigate the complex tax environment and ensure that their financial affairs continue to comply with the law. This understanding empowers spouses to make informed financial decisions and steer clear of unintended tax consequences.

Neeraj Agarwala is a partner, Nangia Andersen India. Neetu Brahma, manager, Nangia Anderson India, contributed to this article.

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Updated: 06 November 2023, 10:22 PM IST

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