DTC Impact on Residential House Property

You could almost hear the huge sigh of relief as the Indian public digested the changes outlined by Pranabda in the Direct Tax Code(DTC) slated to be live from the next financial year. All the more controversial aspects such as Asset based MAT, EET method of taxation for savings instruments, etc. are proposed to be modified.

Of course all that is going to come at a still to be determined cost (perhaps the tax slabs will not be as generous as was proposed in the DTC as also the limits for deductions for savings instruments may be toned down)

One area where the changes proposed by Pranabda will be most welcome is in the taxation of income from house property. The changes are:

  1. The current tax provision requires that in respect of every property (other than one self-occupied property where gross rent would be assumed at nil) whether let out or not the income tax payer needs to calculate gross rent at the contractual rent (actual rent) or reasonable rent (a term coined by me) whichever is higher. The DTC had come up with the concept of calculating gross rent in respect of every property except one not let out property. The gross rent was to be taken at higher of contractual rent or presumed rent (a pernicious provision that assumed that the property would be let out at 6% of the flat value even if it was lying empty for the whole year). Fortunately the latest discussion paper improves even on the current tax provisions by providing for calculation of gross rent only for properties that are actually let out. For all other properties the gross rent will be taken as nil. The big implications is that people who have multiple properties (which are lying vacant) and therefore are liable to pay tax on notional rental income both under the current provisions and the DTC, will not be required to include any notional income on this account.
  2. The current tax provisions provide for a deduction of a maximum of Rs. 1,50,000 as interest payable to acquire one ‘self-occupied property. The DTC had omitted this deduction. The latest discussion paper re-instates this deduction for one non let out property. All homeowners can breathe easy now. Of course the discussion paper also promises (or should I say threatens) that the savings limit that had been hiked from Rs. 1 lac to Rs. 3 lac will be calibrated accordingly (essentially we will probably see the limit for deduction going down significantly).
  3. The DTC proposal to reduce the standard deduction of 30% (under current tax provisions) to 20% continues under the latest discussion paper.
  4. For people who have taken a loan to acquire a property that is not let out whilst they will benefit as they will not require to calculate rental income on notional basis (see point 1 above) they will also not be able to claim any deduction for interest payable on such loan.
  5. Of course the provision for deduction of interest payable for the under-construction period in 5 equal installments was deleted in the DTC and the latest discussion paper is also silent on it.
  6. On wealth tax front the current provisions provide that anything other than one property would be treated as unproductive asset and be charged to wealth tax. The DTC had virtually abolished wealth tax with an exemption limit of Rs. 50 crores but the latest discussion paper essentially plans to revert back to the current system. Hopefully this time they will not qualify house property as unproductive assets no matter how many you own.

The overall impact of this will be quite positive for the residential house property segment both for actual users as well as investors. Of course one consequence could be increased reluctance of buyers to buy under construction property, as the interest payable during the construction period will no longer be tax deductible. This is not such a bad thing as it looks as anywhere else in the world it is the builders who bear the construction risks (and the entire interest cost during the construction period). This may actually lead to the institutionalizing of the market which cannot but be good for the larger industry players.

Summary table of proposed changes:

Sl. no Current tax provisions As proposed in the DTC Discussion paper Impact if discussion paper is finalized
1 Calculation of gross rent on every property On all properties except one self occupied property On all properties except one not let out property Only on properties that are let out Tax only on if there is an actual rental income
2 Gross rent how calculated Contractual rent or reasonable rent whichever is higher Contractual rent or presumed rent whichever is higher Contractual rent Tax on real income rather than notional income
3 Standard deductions for rent and repairs 30% of gross rent 20% of gross rent 20% of gross rent Lower deduction on let out properties
4 Deduction for interest payable to acquire property Limited to a maximum of Rs. 1,50,000 in respect of one self occupied property and actual amount for all other properties without any limit No deduction for the one non let out property mentioned in sr. no. 1 above but otherwise on actuals without any limit Limited to a maximum of Rs. 1,50,000 in respect of one not let out property. On let out properties on actuals without any limit Deduction for one self occupied continues as before
5 Deduction for interest payable during construction period Allowed in 5 equal installment after construction is completed Not allowed Not allowed No tax deduction for any payment to lender during construction period
6 Wealth tax More than one house property subject to tax No tax if value of all assets did not exceed Rs. 50 crores Not known as of now

All this of course assuming the actual changes in the code accurately reflect what is stated in the latest discussion paper.

After all, as goes the saying, ‘there is many a slip between the cup and the lip.

We will have to wait till the actual DTC to come out to really know what it holds.

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