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Parvatha Vardhini C

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The first major investment decision most of us make, soon after embarking on a career or on tying the knot, is that of buying a home. And most often, the tipping point in that decision is the urge to save on your obligations to the tax-man.

Before you take that big step, it is important to understand the various tax issues that govern property — ranging from tax benefits on home loans to how second homes are subject to tax. Here’s a simplified ready-reckoner on taxation issues relating to property:

Both principal and interest payments on home-loans enjoy tax benefits. Interest paid on the home loans is deductible with an annual cap at three possible levels: Rs 30,000, Rs 1,50,000 and unlimited. Each of these limits applies to different situations. Here’s an example:

Akmal borrowed money on March 15, 2005 to acquire/ construct a house which he intended to occupy on completion. Construction was completed in November 2006.

To claim a deduction of Rs 1.5 lakh a year, Akmal must satisfy three conditions: one, property must be self-occupied; two, the loan must be taken after April 1, 1999 and, three, the construction/acquisition should be completed within three years of the end of the financial year in which the capital was borrowed. In this case, he satisfies all three conditions and, hence, can claim the enhanced deduction.

What if Akmal had run into a problem after borrowing and is able to finish acquisition/ construction only in July 2008? Here, he can claim a deduction of only Rs 30,000 every year and not Rs 1.5 lakh.

Even if Akmal is paying, say, Rs 2.5 lakh as interest, he can claim deduction only up to Rs 1.5 lakh as he is occupying the house. If he plans to let it out, he can then claim the entire amount as deduction as there is no cap on interest repaid on let-out property.

There is usually a time gap between taking the loan and completion of acquisition/ construction. The interest paid during the construction period cannot be claimed during that period. Instead, it is to be aggregated and deducted in five equal instalments, beginning from the year in which acquisition/ construction is completed.

In Akmal’s case, interest for the year April 2005-March 2006 cannot be claimed when he files his tax return for that year.

He will have to claim one-fifth of this interest every year in the five years starting from 2006-07. However, the pre-EMIs (predominantly the pre-construction interest) and the interest paid for any year can together be claimed up to Rs 1.5 lakh a year only.

While interest paid can be deducted from your income, your principal repayment can be claimed under Section 80C of the Income-Tax Act. Principal repaid on your home loan will be bunched up along with your other 80C investments, such as PPF, insurance premium and ELSS funds, under an overall limit of Rs 1 lakh, , while computing your tax outgo.

Tax benefits and easy availability of loans will, no doubt, lure you to turn your dream home into a reality. But will you be able to service the loan month after month? If your EMI (Equated Monthly Instalment) is a stretch, explore the option of jointly taking a loan along with your spouse.

Not only will you share the loan burden, your tax exemption eligibility will be higher.

This is because both of you can individually claim up to Rs 1.50 lakh for interest repaid each year and up to Rs 1 lakh limit on principal (under section 80C). However, the benefits must be split in the ratio of your actual shares in the loan.

Aman, who already owns an apartment, is investing in another house. But he is worried whether he will get the same tax benefits on the loan to fund this second property .Can he claim to the tax-man that both houses are self-occupied?

Although tax laws place no bar on Aman owning more than one house or taking second loan, they don’t permit him to show two houses as self-occupied.

In such a situation, one of the houses he owns is ‘deemed to be let out’ and the notional rental income is taxed.

Consequently, there will be no restriction on interest deduction for the ‘deemed to be let-out’ house. However, he will have to accommodate the principal repayment on both the loans put together within his yearly 80C limit of Rs 1 lakh.

True, he cannot conveniently show ‘nil’ income from both the houses. But since the law allows him to choose which house he wants to show as self-occupied, he can do some planning to lower his tax burden (see Table).

Here, Aman can choose his first house as self-occupied to save taxes, as loss from house property is greater in Situation 1.

Often, a doubt arises on the allowability of tax benefits on HRA (house rent allowance) when an assessee claims tax benefits for acquiring/constructing house property, as both situations are considered mutually exclusive. But tax experts say there is no provision prohibiting HRA when already using the tax shelter for the other.

For example, take the case of Anil, who works in Bangalore but has bought a house in Mysore, his hometown. He can claim both HRA for his rented accommodation in Bangalore and interest and principal deduction for the loan taken to buy the Mysore house.

Surplus Cash: Should you repay?

Anuj took a home loan for Rs 20 lakh at 9.5 per cent (assume fixed) interest in 2006. He has surplus cash of Rs 2 lakh today. Should he repay his home loan or invest elsewhere, is his dilemma. That decision will depend on whether Anuj can earn a higher return on his investments than he is paying (net of tax) on his loan.

Assuming he is in the Rs 3-5 lakh income bracket, he will be taxed at 20.6 per cent for the assessment year 2009-10. Then, the post-tax interest burden falls to 7.54 per cent.

He should pre-pay the loan if he cannot earn more than this rate by investing in other avenues. He should also consider outgo in the form of prepayment charges levied by banks.

More Stories on : Housing Finance | Insight | Income Tax

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