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Saturday, March 02, 2013

Reduce your tax burden by owning a second house

Background
As your wealth goes up, you need to get innovative about the options that are available to multiply it further and faster. One of the lesser known options is to own a second home and get "unlimited" tax benefit on the interest portion of the home loan. Yes, theoretically, the tax benefit is unlimited since there is no cap to the interest amount eligible for tax benefit (the way you have a cap of rupees 1.5 Lacs on the interest part of the first home loan)

Exemption on interest
We already know that in case of a home loan taken for a self-occupied property, the principal amount repaid up to Rs 1.5 lakh qualifies for deduction under Section 80C, while up to Rs 2.0 lakh of interest paid is tax deductible under Section 24.
However, in case of a home loan for the second property, only interest payment is eligible for deduction. No income tax benefit is available on the principal repayment on the second loan. However, the good part is that there is no limit on the deduction for interest payment on the second loan. This is because the assumption is that the second house has been given out on rent.

A property owner can avail of tax benefits on the interest paid on multiple home loans. Whether the second house is purchased purely as an investment option or as a weekend get away, the interest paid on a loan taken to buy it is tax-deductible. Since the interest payment is a large expense (especially during the first few years of the loan), you can add significantly to your disposable income if you can save on it.
In case the house is yet to be constructed, 20% of the total interest paid during the pre construction period is also allowed as tax deduction. This is available for five years from the time the construction is complete till you get possession.

Deductions allowed on income from second home
Even if the second house is lying vacant, the Income Tax Department will consider that it has a rental value. The notional or deemed income (see How income is computed) will be added to your taxable income.
A buyer can deduct expenses, such as municipal or property taxes actually paid, from the deemed income. Other than this, 30% of the net annual value, which is the difference between the rental income and municipal taxes, is also allowed as deduction. In case the house is rented out, 30% of the actual rent can be deducted from the taxable income, apart from deductions for local and municipal taxes. Details are all available in the earlier post - Sec-24 : Income from Let House Property

After deducting such expenses from the income that you earn from the property, if you incur a loss, you have the option to set it off as follows:
. The current year's loss will first be set off against any other income from property.
. It can also be set off against other incomes, such as that from salary, business or profession and capital gains, earned in the current year.
. If your balance continues to be in the red, you can carry forward the loss for up to eight years. However, the amount that is carried forward is only allowed to be set off against the income that is earned from a house.

How to save on taxes
If you own several houses, you can choose any one as your primary residence. The income from this property (read Income from Self Occupied Property) will be treated as nil and exempt from tax, even if you have actually rented it out. It is for this house that the limit of Rs 2 Lacs applies for deduction on loan interest.

The entire interest on the loan taken for the other house(s), the income from which is taxable, can be deducted from your income. This applies to any number of nonexempt houses that you may own.

So, to maximize your savings, consider the house with the highest loan as the non-exempt one. However, make sure that the interest payment on this loan is higher than the principal-cum-interest payment on the other loan.

Additionally, if you give your second house on rent for more than 300 days in a year, it will not be subject to wealth tax, which is levied at the rate of 1% on wealth that is in excess of Rs 30 lakh.

Save on the money, own more real estate and multiply your income faster.

Cheers

Manoj Arora

4 comments:

  1. Hi
    I am a little confused. You have stated that income from rent of the house (treated as self occupied)will be treated as nil and is non taxable. I have two houses and both are rented. Income from rent of both is added to my income and taxed. Off course I get interest+ principal tax benefit on one and for interest on the other.My return is prepared by a professional. Has he not been advising me correctly?

    ReplyDelete
    Replies
    1. Hi Salaamreaders,

      The assumption when i say 2 houses is that you "own" two houses, one is shown as self occupied and the other one is shown as rented. If you are showing both the houses as rented, then where are you putting up? If you are staying in a 3rd house where you are paying the rent, then you can claim HRA on the 3rd house, even if it is "owned" by your parents.

      Hope this clarifies, else please feel free to come back.

      Delete
  2. Read your post its really informative and helpful. Keep Updating with newer post on house loan interest

    ReplyDelete