HUF: tax planning

In the era of progressive taxation system, it is always advisable to distribute the income across multiple legal entities. A new pan card can save approximately 1.6Lkhs every year in taxes. Yet creating a Hindu Undivided Family (HUF), is one of the least talked about topic in India’s financial advisers.

How it saves tax:

  1. HUF becomes a separate legal entity. Hence it is eligible for rebates that is enjoyed at lower tax rate. Making the first 4-5 Lakhs of income virtually tax free.
  2. Cost of set up is also negligible. (20/- for a stamp paper, 50/- to get it notarized, 107/- for the PAN card application, ~200/- per annum for the bank account, ~400/- per annum for the demat account) Remember the bank account & demat account are optional.

Process to set it up:

  1. Create an affidavit for HUF & get it notarized.
  2. Apply for PAN. It is a simple process that you can do from your home.
  3. Open a bank account (or post office)
  4. Open a demat account
  5. Buy 1.5 Lakhs of NSC or investments that are 80C eligible.
  6. Transfer your assets to HUF so that the returns on it can be reported at a lower tax slab
  7. File HUF income tax returns

Process to dissolve:

  1. The best way to dissolve the HUF is to use its assets for the family expenses. You could buy a car, pay for the maid, gardener, driver salary etc. Buy furniture, pay for the medical expenses of the Karta or coparceners etc.
  2. Although there is no restriction on HUF holding property or shares of business, try to keep the HUF hold liquid funds invested in taxable entities (like bonds & FD). This way it is easy to prevent the HUF for owning too much funds and make periodical withdrawals to extinguish easier.
  3. As long as the karta is alive, the coparcener cannot force it to dissolve. The HUF karta (under whose name HUF is formed) has the sole discretion on its assets.

Other considerations

  1. As the name suggests, only Hindus, Buddhist, Jains & Sikhs can open a HUF.
  2. Also people from Kerela are not eligible to open the HUF.
  3. The HUF is formed at the time of marriage and all lineal ascendants & descendants automatically become members, without exception.

HUF is beneficial for you only if your non-salary income is substantial. By moving those assets & income here, you could save some taxes. Apart from tax saving, there is little to be gained from this instrument.