Hindu Undivided Family and Uniform Civil Code

Why in News?

• Recently, the 22^nd Law Commission of India has made some recommendations on key issues and one recommendation is about a fresh deliberation on a Uniform Civil Code (UCC).
• The debate on UCC has triggered discussion on the institution of Hindu Undivided Family (HUF) and its separate treatment under tax laws.

 

Genesis and Structure of HUF

• Genesis
  • The existence of HUF as a legal entity is based on an acknowledgment of customs by the British Raj in India.
  • It was seen as an institution that operated on a strong sense of blood ties and kinship to jointly exercise control over property in Hindu families and led to business arrangements based on Hindu personal laws rather than contractual arrangements.
• Structure
  • As a legal entity, HUF always portrayed a dual identity of a family-backed institution and an income-generating entity solely for the maintenance of the family. 
  • For income tax purposes, an HUF consists of all persons lineally descended from a common ancestor, and includes their wives and unmarried daughters.
  • An HUF has its own Permanent Account Number (PAN) and files tax returns independent of its members.
  • An HUF has a karta who is typically the eldest male person in the family, and manages its day-to-day affairs.
  • Other members are coparceners; children are coparceners of their father’s HUF.

 

The Historical Background of Income Tax Laws for HUF

• Rules During Pre-Independence Era
  • The Indian Income Tax Act of 1886 recognised HUF under the term “person”.
  • To shore up finances for World War I, the British introduced the Super Tax Act, 1917, which recognised HUF as a separate entity for tax purposes for the first time.
  • Super tax was levied in addition to income tax.
• Post-Independence Rules
  • The idea of HUF as a distinct category of taxpayer was incorporated in the Income Tax Act, 1922, which formed the basis of the post-independence Income Tax Act, 1961.
  • The law currently in force recognizes HUF as a person under Section 2(31)(ii).
  • From 1922 onward, additional exemption limit was allowed to HUFs compared to other taxpayers, including individuals, which allowed HUFs to pay lesser tax than other similarly placed taxpayers, despite earning the income in the same manner.
  • This preferential exemption regime was done away with under the Income Tax Act, 1961.

 

Current Features of Income Tax Laws for HUF

• Beneficial Tax Treatment
  • HUF as a separate tax entity provides avenues for Hindu families to reduce their tax burden.
  • Section 10(2) of the Income Tax Act, 1961 provides that any sum received by an individual as a member of HUF out of the HUF income is not to be included in her total income. 
  • The benefit is not only at the HUF level but also at an individual member level.
  • Additionally, the HUF is entitled to claim expenses, exemptions, and several deductions from its taxable income, which further reduces the tax burden of a Hindu family.
  • HUF also enjoys the basic tax exemption of Rs 2.5 lakh. In addition, HUF can also own a “residential property” without having to pay tax for it.
  • If an individual has more than one property, then as per the Act, the second property is “deemed to be let out” and tax will be levied based on the “notional rent”.
  • However, if the second property is in the name of the HUF, tax can be avoided.
  • HUF also gets benefits for a “home loan” for the purpose of buying a residential property wherein it receives tax benefits of up to Rs 1.5 lakh under Section 80C for the principal amount repaid and a benefit of up to Rs 2 lakh for the interest paid on the loan.
• Not Available to All Religions: The concept of HUF is closely tied to the concepts of joint family & coparcenary. This is unique to Hindu personal law (deemed to include Jains, Buddhists & Sikhs).

 

Various Committee Reports on Preferential Tax Treatment for HUF

• The Income Tax Enquiry Report of 1936: The report flagged the substantial revenue loss owing to the special exemptions for HUFs.
• The Taxation Enquiry Commission of 1953-54 acknowledged the anomalies created by the preferential tax treatment for HUFs.
  • But since the treatment of HUF under tax law was tied to the legal position of HUF under Hindu personal law, and owing to the pendency of the Hindu Code Bill during that period, the Commission decided not to change the tax position of HUF.
• The Justice Wanchoo Committee Report of 1971 explicitly stated that the institution of HUF was being used to avoid tax.
• In 2018, a Law Commission consultation paper declared that “justifying this institution on the ground of deep-rooted sentiments at the cost of the country’s revenues may not be judicious”.

 

Abolition of HUF in Kerala and Subsequent Supreme Court Judgement

• Kerala abolished the joint family system in 1975 by enacting the Kerala Hindu Joint Family (Abolition) Act, 1975.
• The Supreme Court adjudicated on the interplay of this abolition with the Income Tax Act, 1961 by holding that once the entity of joint family and HUF has been abolished by a competent legislature, the Tax Department can no longer make an assessment on an HUF assessee.
• As a corollary, the individual taxpayer also can’t avail of tax benefits by creation of an HUF.

 

Potential Impact of UCC on HUF’s Tax Benefits

• The benefit of statutory tax planning is not available to a taxpayer for other religions, such as Muslims, Christians, Parsis, etc., which raises concerns over the lack of uniform application of tax laws.
• Outside the scope of UCC, it can be argued that granting an additional treatment that lowers the tax burden only based on religion is arbitrary, and may fall foul of Article 14 of the Constitution.
• If UCC is implemented, eventually, its endeavour to attain “uniformity in personal laws” would result in one of two situations for HUF tax beneficiaries -
  • Removal of HUF along with its tax benefits
  • Introduction of a “HUF-like framework” for each religion, which is highly unlikely.
• Removing the present HUF tax benefits could substantially increase revenue for the state and end the preferential tax structure. 

 

Way Forward: Assessment in a Larger Context Before the Removal of HUF

• The HUF enables family members to pool their financial resources in their common family property, which provides a safety net during financial hardships.
• It also facilitates effective risk mitigation and promises investment options.
• Therefore, the removal of the HUF structure and its benefits needs to be assessed in the larger context of its impact on financial planning, tax efficiency and the social cohesion of Indian Hindu households.

 

Conclusion

• HUF is a legal entity that allows Hindu taxpayers to claim certain benefits.
• If UCC is considered, this beneficial tax treatment will be scrutinised on grounds of equality before tax law and uniformity in application across religions.

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Q1) How can removal of HUF impact small businesses?

HUF is a boon to small businesses. While ownership remains with the family and the corpus can be utilised for business expansion, HUF offers a propitious legal framework to small businesses. Simultaneously, it facilitates optimal management of business assets and allows the seamless transfer of ownership to the next generation in the family. Removing HUF and its benefits would create superfluous challenges for these business families.

 

Q2) How does HUF tax benefits encourage the Joint Family System?

HUF tax benefits encourage and support the joint family system and foster familial harmony and unity. With the supplemented tax advantages, it recognises the significance of “collective economic activities” in the family. Phasing out the HUF tax structure or the available benefits will be a disincentive to the joint family system. Without tax benefits, families may be more inclined to opt for individual taxation, resulting in the fragmentation of family assets and weakened family bonds.

 

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Source: The Indian Express