The Government has changed income tax rules that could increase the tax outgo of those who have taken a home loan for a property that has been rented out. The amount that could be set off on home loans for rented property has been reduced. Earlier, in case of rented property, the loss from house property – which is basically the interest paid on home loan minus rental income – was allowed to be adjusted from income without any limit. This helped significantly reduce tax liability. Now the limit that can set off against the loss from rented house property has been restricted to Rs. 2 Lakh per annum. This came into effect from April 1, 2017 (Assessment Year 2018-19).
However, on rented properties, the interest paid above Rs. 2 Lakh can be carried forward for eight assessment years. Since the interest component of home loan repaid in initial years is higher, experts say that the borrower may not be able to fully adjust the interest paid as deduction even in subsequent years.
For example, your interest outgo on a second property is Rs. 5 lakh in a particular year. Assume that you are earning a rent of Rs. 1.5 Lakh annually from the property. Such buyers, as per the current rules, are allowed to adjust the difference of Rs. 3.5 lakh (Rs. 5 lakh interest minus Rs. 1.5 lakh). But from the next financial year, they will be allowed deduction of just Rs. 2 lakh. The remaining amount of Rs. 1.5 lakh (Rs. 3.5 lakh minus Rs. 2 lakh) can be carried forward up to eight financial years and be adjusted later.
Tax experts say that some high net worth individuals – who used to buy properties on loan and were able to set off the full interest liability against the lettable value of property and thus bring down their tax liability substantially – would be particularly hit from this new tax rule.
Note: Income tax rules say that those who own more than one property can only treat one of them as self-occupied and the rest have to be assumed to be rented. Income tax has to be paid on notional rent.
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From April another tax rule related to the properties will also change. The new tax rule will help bring down tax liability from property sale. The holding period of a property for qualifying under long-term gains will get reduced to two years, from three years currently. As per current tax norms, if a property is sold within three years of buying, the profit from the transaction is treated as short-term capital gain and is taxed according to the slab rate applicable to him/her. So reducing this time period to two years will bring down tax liability.
Thus, after two years, the transaction will be able to qualify for long-term capital gains, thus lower taxes. Under long-term capital gains on immovable properties, the profit is taxed at 20 per after indexation. Under indexation, inflation during the holding period is taken into account and thus the purchase price is adjusted, reducing the tax burden on the property seller. There are also other benefits for the seller under the long-term capital gains tax. If the gains are invested in some select government investment schemes, the tax liability goes down significantly.