A Comprehensive Guide to Rental Tax and Its Benefits for Property Owners

Rental income is a significant revenue stream for many property owners in India. Whether you’re leasing out a residential flat, a commercial space, or even a piece of industrial property, the income you generate is subject to taxation. Understanding how rental tax works, the applicable sections, and the available deductions can help you manage your finances more efficiently and ensure that you’re taking full advantage of the benefits available to you. In this guide, we’ll explore everything you need to know about rental tax, from how it’s calculated to the deductions you can claim, and the overall benefits of staying compliant with tax laws.

Tax on Rental Income

When you rent out a property, the income you receive is classified as Income from House Property, and like any other form of income, it’s subject to tax. The Income Tax Act of India has specific provisions that govern how this rental income is taxed, ensuring that property owners contribute their fair share while also offering various deductions to reduce the overall tax burden. Whether the property in question is residential, commercial, or industrial, the income it generates must be reported, and taxes must be paid accordingly.

Section Under Which the Tax on Rental Income is Charged

Rental income falls under the "Income from House Property" head in the Indian Income Tax Act, 1961. Specifically, it’s covered under Sections 22 to 27 of the Act. These sections detail how the tax is to be calculated based on the property’s annual value, which could either be the actual rent received or the potential market rent the property could earn, whichever is higher. As a General Rule, Income Tax is applicable in the Ratio of Contribution of Funds to Acquire the Property. Merely adding names for splitting Rental Income in order to avoid or Divert Tax in the hands of Co-owners without any actual Contribution from Co owners towards Acquisition of Property can attract Clubbing Provisions. Rental Income includes Rent+Maintenance collected for the let-out Property whether or not Maintenance is paid by the Tenant. A Standard Deduction of 30 % is provided by the Govt on Rental Income irrespective of the Actual Repairs and Maintenance bore by the Owner.

Tax Benefits for Property Owners

Understanding the tax benefits available to property owners can significantly reduce your taxable income, maximising your rental property’s profitability. Here are some key benefits:

1. Deduction on Home Loan Interest: Under Section 24(b), you can immediately lower your taxable income by deducting the whole amount of interest paid on a home loan used to buy the rental property once the property is ready to occupy. Any Pre-Construction Interest Paid before the Handover of the Property is deductible as 1/5th over Next 5 Years.
2. Standard Deduction for Repairs and Maintenance: The Net Annual Value (NAV) of a property can be deducted by property owners for upkeep and repairs as a 30% standard deduction, irrespective of the actual costs incurred.
3. Municipal Taxes: Similar to property taxes, municipal taxes are also deductible from the Gross Annual Value (GAV), which reduces the amount of taxable rental income.
4. Depreciation: Owners who have properties that are categorized as business assets are entitled to deduct building depreciation from their taxable income, which is particularly advantageous for commercial properties, but once those properties on which depreciation are claimed are sold at a price higher than the Book Value of Assets then it will attract Business Income and Short-Term Capital Gains.
5. TDS on Rent: Tenants are required to deduct 5% TDS if the annual rent exceeds ?50,000 per month. This is applicable for Resident Landlord. For Non-Resident (NRI) Land Lords, TDS is applicable at 31.2% of Rent. TDS Return is to be Filed u/s 26QC for Domestic Landlords, for NRI Land Lords, Quarterly Return to be filed under form 27Q and TAN Number also required to be obtained by Tenants. This TDS credit can be claimed by Filing ITR Annually. ITR is required to be filed if Taxable Income Exceeds Rs 2.5 lacs even if no TDS is deducted.

How is Income Tax on Rental Income Calculated?

The tax on rental income isn’t simply a flat percentage of the rent you receive. Instead

• Calculate the Gross Annual Value (GAV) of the rented property, which is the total annual rent received from the tenant.
• Subtract the Property Tax paid by the Landlord from the GAV to determine the Net Annual Value (NAV). Property Tax, also known as House Tax, is a municipal tax paid annually to the local municipal authority. Only Taxes Paid by Landlord is allowed. Any Taxes paid by the Tenant on behalf of the Landlord is not allowed as deduction.
• Deduct 30 percent from the NAV as the standard deduction allowed under Section 24A of the Income Tax Act.
• If the property owner has taken a housing loan for the rented property, the entire amount of interest paid on the loan during the financial year can be deducted from the rental income after applying the standard deduction. This deduction is allowed under Section 24B of the Income Tax Act.
• Excess Interest Paid in Case of Self Occupied House Property is Allowed to be Set Off Against Salary Income till a Capping of Rs 2 Lacs. Excess Interest Paid on Let Out House Property Does not have any Capping as Such, but Set off against Salary Income is Allowed till a Maximum Limit of Rs 2 Lacs. Any Amount of Excess Loss after Set off from Salary Income is carried forward for 8 Years. Any Brought Forward Loss from Previous Year is only Adjusted from House Property Income.
• The remaining amount is the taxable rental income, on which income tax must be paid according to the applicable tax slab.

Example

To better understand how taxable rental income is calculated, let's consider an example. Assume the monthly rent of an apartment is ?55,000, the annual property tax is ?20,000, the interest paid on a home loan is ?80,000, and the property is eligible for a standard deduction on repairs and maintenance, as well as depreciation. Below is a table that outlines the step-by-step process for calculating the taxable rental income, incorporating these deductions.

What is Income from House Property?

Now that we’ve covered how to calculate tax on rental income, it’s important to understand the different sources of income that fall under the category of rental income.

Rental Income Taxed Under Income from House Property

Rental income from various types of properties is typically taxed under the "Income from House Property" head. Here are the key classifications:

• Rental Income from Residential Property: Any rental income earned from a residential property—whether it’s an apartment, building, or plot of land owned by the taxpayer—is taxed under "Income from House Property.
• Rental Income from Commercial Property: If you earn rental income from a commercial property, such as a shop or commercial plot that you own, this income is also taxed under "Income from House Property. GST is also applicable on Renting of Commercial property. It is Levied on Reverse Charge Mechanism if the Tenant Registered and Landlord is Unregistered. If Landlord is Registered under GST, He has to collect GST from the Tenant and pay to the Govt. GST is applicable if Annual Rent exceeds 20 lacs or more.
• Rental Income from Composite Rent: Composite rent refers to renting out a building along with additional assets like appliances (e.g., washing machines, refrigerators, TVs). In such cases, the rent received for the property itself is taxed under "Income from House Property," while the rent for the assets is taxed under "Income from Other Sources" or "Profits and Gains of Business or Profession”.
• Rental Income from a Partially Self-Occupied Property: If a property owner occupies part of a property and rents out the rest, the income from the rented portions is taxed under "Income from House Property." The property is treated as having independent units, with only the income from the let-out units being taxable.

Rental Income Not Taxed Under 'Income from House Property'

There are certain situations where rental income is not taxed under "Income from House Property":

• Subletting by a Tenant: If a tenant sublets a property, the rental income they receive is not taxed under "Income from House Property." Instead, it is taxed under "Income from Other Sources."
• Inseparable Rent for Property and Assets: When a property and its assets are rented together in a way that they cannot be separated, such as renting out an equipped thereafter, the entire rent is taxed under "Income from Other Sources."

GST on Rental Income

If you’re renting out a commercial property and your annual rental income exceeds ?20 lakhs, you are liable to pay Goods and Services Tax (GST) at 18%. It’s important to note that residential properties are generally exempt from GST, unless they’re being used for commercial purposes.

Benefits of Rental Tax

While paying taxes on rental income may seem like a burden, there are several benefits to staying compliant. First, you can take advantage of various deductions like municipal taxes, standard deductions, and home loan interest, which can significantly reduce your taxable income. Secondly, by properly declaring your rental income, you avoid legal complications and penalties, maintaining a clean financial record. This compliance is particularly beneficial when applying for loans or other financial products, as it shows that you are financially responsible.

Conclusion

Understanding the intricacies of rental tax can help you manage your property investments more effectively. By knowing how rental income is taxed, what deductions you can claim, and the benefits of staying compliant, you can reduce your tax burden and ensure that you’re making the most of your rental income. Always consult a tax professional to tailor these strategies to your specific situation, and take full advantage of the benefits that rental tax compliance offers.

Special Thanks

Special thanks to CA Hemanshu Bahety from H Bahety & Co for his valuable contributions to this blog. For more details, you can contact him at +919903133862 or [email protected].

Disclaimer

This article is for informational purposes only and does not constitute legal advice. Agarwal Estates is not liable for any actions taken based on the information provided in this article. Consult with a tax advisor to ensure compliance and stay updated with tax laws.