HUF Fund Raising legal and illegal Examples while avoid clubbing

[Hitesh Sathawane]

I have created my HUF with my wife and son with no consideration or ancestral property, I am the karta of HUF

Currently I have Bonds, SGBs, Stocks and MFs and some cash, I do not have ancestral property to attach to huf currently

I want to raise funds in HUF and want to avoid clubbing provisions, also want to explore ways to legally better plan the tax and eventually start family business

I have few queries regarding below solutions and want to know if it is legal to implement it, if not what are the alternative means to achieve the same

1] Give as interest free or interest at RBI Bank Rate (2.5%) for X number of years loan to my HUF and use the money to buy bonds, Stocks or any other asset from Me, My relative or open market, Can I have a digital documentation of such loan agreement instead of stamp paper

2] Can I purchase SGBs in secondary market which are about to mature and gift to my HUF, as SGB do not have capital gains tax and once the amount is matured I can use the fund to purchase other assets.

3] Can I offer my stocks or bonds as loan and expect bank interest rate from HUF for value on execution day.

4] may be 20 years down the line I will inherit  ancestral property, what are the tax and cost implications to get the property under HUF

5] Is it possible to dissolve the current HUF and then recreate new HUF

Are there any other ways I can raise funds for HUF

What makes fund raising legal and illegal when trying to avoid clubbing

[Ryan Vaz]

Applicable Law

• Sec 2(31) – HUF separate taxable entity

• Sec 64(2) – Clubbing on transfer of assets to HUF

• Sec 56(2) – Gifts

• Sec 47(i), 49(1) – Capital assets & cost

• SC rulings: Surjit Lal Chhabda - 1975 (10) TMI 1 - Supreme Court, Yudhishter v Ashok Kumar - 1986 (12) TMI 380 - Supreme Court

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Key Principle

?? Any asset/gift transferred by a member to HUF ? income is clubbed back
?? Loan to HUF = NO clubbing, if genuine and documented.

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Query-wise Answer

1] Interest-free / low-interest loan to HUF

? Legal & best method

• Loan can be interest-free or any rate (no minimum under IT Act)

• Must have:

  • Written loan agreement

  • Repayment terms

  • Banking trail

  • Shown as liability in HUF books

• Digital agreement valid (stamp paper not mandatory for tax purposes)

Income earned by HUF from investments using loan ? taxable in HUF, not clubbed.

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2] Buying SGBs and gifting to HUF

? Not advisable

• Gift by member to HUF triggers Sec 64(2)

• Even though SGB maturity gains are exempt, interest & reinvestment income will be clubbed

? Better: Loan funds ? HUF buys SGB directly.

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3] Giving stocks/bonds as “loan”

? Not valid

• Loan must be money, not assets

• Transfer of shares/bonds = transfer ? clubbing / capital gains risk

? Correct route: Sell ? loan cash ? HUF invests.

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4] Future inheritance of ancestral property

? On inheritance from father/grandfather:

• Not taxable (Sec 56)

• Becomes HUF property automatically

• Cost = ancestor’s cost (Sec 49)

• Rental/capital gains taxable in HUF

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5] Dissolve and recreate HUF

? No tax benefit

• Partition needed (Sec 171)

• Recreating HUF with same members does not reset clubbing

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Other Legal Ways to Fund HUF

• Loans from members/relatives

• Business income earned by HUF

• Inheritance

• Bank loans (once credit history exists)

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Legal vs Illegal Fund Raising

? Legal: Loans, independent business income, inheritance
? Illegal: Gifts from members, asset transfers, income diversion

Courts apply substance over form.

[Hitesh Sathawane]

Thanks @Ryan for the reply

i have a followup question for loan to Huf question

q: in case i offer loan of x amount to my huf with appropriate documentation, and then can huf use the loan amount (x) to purchase stocks or bonds in off market transaction from me (karta) or other members of huf 

AI Summary

HUF funding via genuine loans vs gifts: Section 64(2) clubbing risk, while documented loans keep HUF income separate A Hindu undivided family is treated as a separate taxable person, but section 64(2) mandates clubbing where a member transfers assets to the HUF; the income from such transferred assets is taxed in the transferor's hands. Funding the HUF through a genuine loan from a member (including interest-free or low-interest) is stated as permissible if documented by a written agreement, clear repayment terms, banking trail, and proper accounting as an HUF liability; income earned by the HUF from investments made using the loan is then taxable in the HUF and not clubbed. Gifting assets (including SGBs) to the HUF is discouraged because it triggers clubbing notwithstanding exemption on SGB maturity gains, and interest/reinvestment income may be clubbed. Transfer of shares/bonds as a 'loan' is treated as an asset transfer, creating clubbing and capital gains exposure. Inherited ancestral property is stated to become HUF property, with HUF taxation of ensuing rental/capital gains. Partition is required for dissolution, and recreating the HUF does not avoid clubbing.