How to calculate tax on rental income from property

Tax payable on rent on rented out property, deemed rent on vacant property

What is Income from Property?

You probably know that you can earn income by renting out your property. What you may not know is that the Income Tax Act allows you attractive rebates on income from house property. This results in effective tax rate being significantly lower than the tax rate of normal income like salary and business.
Under Indian Income Tax Act, income from property is considered as taxable. The tax is levied on any income earned from a commercial, residential or industrial property. A property can include a residential house, office building, shop, factory, hall etc and any land associated with the building (e.g. garden, compound, playground, car parking space etc).
Income from property is one of the few sources of income where the borrower needs to pay tax not only on actual income but also on deemed rental from the property in some cases. The deemed rental is calculated based on an assessment of the potential income that a property is capable of earning.
Income from self-occupied property, rented-out property and deemed income from vacant property (including houses), other than one self occupied house, is taxable under the head of "Income from property".
A taxpayer pays tax on the "annual taxable value" of the property which is calculated as follows:
  • Repairs and maintenance allowance of 30% of (rent - municipal taxes)
  • Interest on capital borrowed to purchase property
Gross annual value (GAV) of the property (rent received or receivable or deemed rent)
Less actual municipal taxes paid for the property
Net annual value (NAV)
Less deductions available u/s 24
= Annual taxable value of the property

How is the Gross Annual Value of a property calculated?

Gross Annual Value (GAV) of a property is calculated as higher of the two calculations:
  • Rent received or receivable from the property during the year
  • Fair Market Value (FMV): Rent that the property may expect to earn on an annual basis based on rent on similar properties in its vicinity
The only exception to the above calculation in which fair market value even when it is higher is not considered as the GAV is when rent received on a property is lower because the property remained vacant during whole or part of the previous year. Also, fair market value cannot exceed the value that has been fixed by a standard rent agreement

How is the Net Annual Value of a property calculated?

Net Annual Value of a property is calculated after deducting the municipal taxes and the unrealized rent, if any from the Gross Annual Value of a property. However, receipt of any unrealized rent shall be chargeable to tax in the year in which it is received.

What are the deductions available under Section 24?

Section 24 allows for two exemptions that can be claimed against the NAV of a property to arrive at its taxable annual value:
(i) Standard deduction for repairs and maintenance of the property equal to 30% of the gross annual value after deducting municipal taxes is allowed as deduction even when your actual expenditure on the property is higher or lower than this amount. For a self occupied property, where the annual value of the property is taken as nil, standard deduction is not allowed.
(ii) Deduction for actual interest paid on home loan on the property for purchase/construction/repairs: This deduction is availed for all categories of properties whether it is rented or deemed to be rented or self occupied, however with differences in the allowable amounts for rented or deemed to be on rent property and self occupied property
Interest Deduction for Rented or Deemed to be on rent property
Interest on money borrowed for acquisition/construction/ repair/renovation of property is 100% tax deductible on accrual basis. If the interest paid is higher than the NAV, the tax payer can adjust the reported loss against other income heads (thus reducing overall tax liability) or can carry forward the loss for up to 8 years for setting off against taxable income of the future years.
Interest Deduction for Rented or Deemed to be on rent property
Annual interest of up to Rs. 2,00,000/- (Rs. 3,00,000 for senior citizens) can be claimed as standard deduction against income, thus allowing the tax payer to report a loss that can be adjusted against other income heads or carried forward for 8 years. However, if the construction of the house does not get completed within three years of availing the loan, the tax deductible amount gets reduced to Rs 30,000.

How is the Annual Taxable Value of a property calculated?

Annual Value of a property is calculated after deducting any exemptions available under Section 24 from Net Annual Value of a property. This is the value on which the tax payable by the taxpayer is calculated.

What are the situations in which the annual value of a property can be nil?

The annual value of property will be nil if the property is self occupied by the owner and he is not deriving any financial benefit from the same. Apart from this, if the owner has property in some other city and he living in a rented house in another city for employment purpose, the annual value will be considered as nil.
Illustration: Mr. A owns a house property and earns rental income of Rs. 18,000 per month. He has paid Rs. 1,000 as municipal taxes during the year and also paid Rs. 50,000 as interest on home loan he has taken to buy the property. The annual table value will be calculated as below:
Income from House Property Amounts (in Rs.)
Total Annual Rental Income (Rs.) 18,000 x 12 = 2,16,000
Less: Municipal Taxes Paid (Rs.) 10,000
Net Annual Value (NAV) - Rs. 2,06,000
Deductions under Section 24
Standard deduction (30% of NAV) - Rs. 30% of 2,06,000 = 61,800
Interest on borrowed capital (Rs.) 50,000
Total Deductions under Section 24 (Rs.) 61,800 plus 50,000 = 1,11,800
Annual Taxable Value or Income from House Property (Rs.) 2,06,000 less 1,11,800 = 94,200

What is meant by deemed owner?

Deemed owner is someone who is getting the rental income of a house but is not legally registered as the actual owner. For instance, If a person transfers his or her house property to his/her spouse (not being a transfer in connection to an agreement to live apart) or to his/her minor child (not being married daughter) without monetary consideration, then the person will be considered as the deemed owner.

What is a composite rent?

A property owner may decide to rent out his house along with other assets like sofas, bed, kitchen appliances, air conditioners etc. In this case, the rent received by the owner will also include the cost of assets which is giving along with the house/building. The rent received will then be considered as a composite rent.

What are the tips to save tax on property income?

  • It is advisable to take the property in a joint name in case your spouse is an earning member and annual interest liability on home loans is estimated to be more than Rs 2,00,000. Joint property owners can claim standard deduction of up to Rs 2,00,000 individually.
  • Please remember to claim the interest paid during the construction period after the completion of property construction. The interest paid on under construction property can be claimed in five equal installments in five financial years, post the completion or possession of the property.
  • If you already have a self occupied property and wish to avoid paying tax on the second home, you can easily register the second property on your wife or relative name. This way you can avoid excessive payments of tax.
  • Even if own two houses, one self occupied and another vacant house, you will have pay property tax based on the fair rental value of your unused house. Thus, it is better to rent out your second house to keep up the regular income flow and lessen the burden of taxes.
  • In case you own multiple properties, you can claim the property with the highest rental value as self occupied to lessen your tax burden. A tax payer is allowed to choose any house as self occupied irrespective of the actual usage.
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