Determination of income from property is the easiest exercise amongst the head of incomes chargeable under Income-tax law. However, deciding if a property fetching income should be taxed as property income or business income or as ‘income from other sources' is litigated in recent times, thanks to continuous efforts by the tax planners and payers.
The apex court in Universal Plast's case (237 ITR 454) had given certain principles for taxing property income under the head ‘other sources'. In the cases where letting out of property is combined with complex commercial activities, it could be taxed as business income.
This has been the recent line of thinking of the appellate authorities. For example, the Allahabad High Court in Scientific Instrument Co Ltd v. CIT (ITA No. 1 of 2003, dated 12-8-2011) had held that exploitation of property by letting out can be taxed as income from business.
SELF-USE VERSUS USE BY FIRM
Where the owner himself occupies the property for residence or commercial purpose, there is no income chargeable to tax under law. But in the case of a firm in which the owner has some interest as a partner and the firm occupies the property free of rent, deciding if it should saddle the owner with deemed annual value liable to tax is a tricky issue.
In Prodip Kumar Bothra v. CIT (2011) 62 DTR (Cal) 47, a dissenting judgment was given, in spite of numerous contrary decisions. The Court held that when a partner gives his property to the firm without rent, such let out cannot be called as use of building for one's own business purpose. As a result, the annual value determination and taxation of that property was held as compulsory. In spite of no rental compensation from the firm, the partner, being the owner of the property, was exposed to pay tax on its annual value, on deemed let out basis.
The court held that the owner of the house property and the occupant of the premises must be the same person, and where the owner claims that it is used for his business, the profits of the owner from the business must be chargeable to tax, and only then the property could be excluded from the levy of tax. It held that a partner letting out premises to the firm cannot be equated to self-use of premises for business by him.
PRECEDENTS
There are so many court decisions on the same point that when the premises of the partner is used by the firm, it is tantamount to the partner using the premises for his own business, and no annual value could be fixed to such building for taxing it in the hands of partner.
The precedents are CIT v. Rasiklal Balabhai (119 ITR 303) (Guj); CIT v. Mustafa Khan 276 ITR 601 (All); CIT v. Syed Anwar Hussain 186 ITR 749 (Pat); CIT v. K. M. Jaganathan 180 ITR 191 (Mad); CIT v. P. M. Thomas 181 ITR 256 (Ker) and CIT v. Rabindranath Bhol 211 ITR 799 (Ori.).
However, the Karnataka High Court in CIT v. K. N. Guruswamy 146 ITR 34 had held that when property of the partner is used by the firm, the partner cannot claim the annual value to be ‘nil' on the reasoning that it was used for business by him. This lone decision was followed in Pradip Kumar Bothra's case (Supra) to hold that exemption from property income cannot be availed by a partner where the property is used by the firm merely because he happens to be a partner of the firm occupying the property.
SOLUTION
In spite of so many precedents and contrary views taken at the High Court level, why do taxpayers resort to such practices? Instead, will it not be wise to take rent from the firm and claim a notional deduction of 30 per cent? And, to that extent, arrange the profit-sharing methodology amongst the partners? By that, no deemed income would suffer tax and any rental income would be liable to tax, that too, after the notional deduction.
(The author is an Erode-based chartered accountant.)