Hindu Undivided Family (HUF) v. Private Family Trust: It’s time to reconsider and make wise structuring of family investments!
With the rise of nuclear families, shifting demographics, the deterioration of patriarchal traditions in Hindu households, increasing diversity in outlook and lifestyle among generations, the expansion of education and rationalisation of customs and traditions, and the emergence of global families with members and/or assets dispersed across nations, it is time to reconsider Hindu Undivided Family (‘HUF’) Structure as a viable succession planning / framework in current contacts.
HUF Structure has fallen out of favour with Indian families and individuals due to an increase in the number of co-owners / coparceners of HUF property and, as a result, the risk of litigation too. These factors have also contributed to the emergence of doubts about ability of HUF Structure to meet the objectives in terms of protection and succession. Furthermore, the extension of the liability of the HUF may not be appropriate for certain co-owners / coparceners of HUF especially the married daughters.
In HUF structure, the assets are typically acquired by gifts, wills, ancestral property, purchases made from the sale of joint family property, or contributions made to a common pool by HUF members.
HUF members’ earnings go to the family as a whole, not just to one person and because of this, HUF as a whole and not an individual members get taxed on the income. Whereas any asset received by a member from HUF upon its partition shall not be taxable in the hands of members under the Income Tax Act, 1961 (‘IT Act’).
Under section 2(31) of the IT Act, HUF is considered as a “person” and it pays taxes at the same rate as an individual, separately and independently from its members, provided that it meets two requirements: (i) it has coparceners; and (ii) it has joint family property, which includes ancestry property, property acquired with the aid of ancestral property, and property transferred by its members.
In addition to making investments from HUF income taxable in the hands of HUF, section 80C of the IT Act, deductions and other exemptions may be claimed by HUF in its tax return. The same investment or expense cannot be deducted by both the members and HUF from its income, though.
In HUF Structure there is a significant flaw because each HUF member inevitably has an equal claim to the assets in the common pool. If any additional family members are joined by birth or marriage, HUF may also become too huge to ever consider sustainable as the same advantages and recognition will be extended to these additional family members too.
HUF Structure’s dissolution is unquestionably the most difficult exercise. Most of HUFs may be divided into parcels to which all members must agree and divide the assets among the people covered by a parcel in order to dissolve HUF, which can present a number of legal and consequential difficulties.
Although HUF Structure may not be preferred by the majority of families, it is nevertheless a viable solution in some circumstances. However, it should be remembered that while HUF Structure is simple to create, it is more difficult to partition or transit into private family trust.
Given the foregoing, the Private Family Trust (PFT) Structure offers Indian families and individuals future-proof options for juggling the competing demands of protection, ownership, management, enjoyment, and succession among the family members through generations.
PFT Structure is a different choice that can be considered. Due to its independence from its beneficiaries, as suggested by its name, it has a more permanent character and more management options for the assets kept in the trust, including the ability to invest, buy, sell, and transfer those assets. According to PFT Structure, the family’s property and business could be placed under a private trust settled under the Indian Trusts Act, 1882, held in the trustees’ names and administered for the benefit of the beneficiaries.
The trustees of PFT could be specific named relatives, close friends of the family, or qualified professional individuals viz. advocates and chartered accountants etc. The settlor of PFT may provide guidance to the trustees regarding the management of PFT’s assets and income as well as how to distribute ownership, enjoyment, and management rights of various assets and businesses among different family members under any circumstances the settlor of PFT may recommend.
PFT Structure is a common legal arrangement that provide several advantages, including asset protection, upholding family unity, preserving family money and values, controlling outsiders’ access to family businesses, avoiding the probate procedure in case of will, etc.
According to the IT Act donation of a property by family member to PFT established for their benefit is exempted for tax. Furthermore, any distributions of assets or income from PFT to its beneficiaries won’t result in any tax obligations, either during the interim period or at the time of PFT’s dissolution.
Nevertheless, the income of PFT will be taxed based on whether it is specific or discretionary structure. Depending on the income stream and other requirements outlined in the IT Act income can be assessed either in the hands of the trustee or in the hands of individual beneficiaries in a specific PFT Structure where each beneficiary’s share is fixed, using the maximum marginal rate (‘MMR’) or tax rates applicable to individuals. Whereas, in the case of a discretionary PFT Structure, when each beneficiary’s portion is variable, the PFT’s income is taxed at MMR and distributions to the recipients once the tax debt has been settled are tax-free.
PFT Structure, in contrast to HUF Structure, provide the required defence against the potential effects of bankruptcy and estate tax regulations. In accordance with settlements of PFT with “relatives” as beneficiaries, the IT Act also exempts transfers of property to PFT from the rules of the presumed gift tax. In cases where PFT agreements involve “blood relatives,” the stamp authorities may permit stamp duty exemptions or relaxations as per the respective state stamp laws.
PFT Structure can be used as a vehicle to keep assets exclusively for that purpose, multiplying, safeguarding, managing, and securing them for that cause. It can be used to provide for specific family requirements, such as education, health, travel, or marriage etc.
Even though PFT Structure meets all the requirements, there are still crucial factors to take into account before choosing one such as – the cost of setup and maintenance, the size of the family, the amount of money, and the source of income.
PFT Structure is incredibly useful and practical, and when utilised wisely, they can be a terrific structure for managing assets, money, investing in securities, and using its earnings for the benefit of beneficiaries.
Considering the above, it surely is time to re-think structuring your family investments legitimately!
Disclaimer: The information provided in this article is for general informational purposes only. While an author tries to keep the information up-to-date and correct, there are no representations or warranties, express or implied, about the completeness, accuracy, reliability, suitability, or availability of the information. Any views or interpretations described in this article are the author’s personal thoughts and do not constitute legal or other professional advice. You may discover there are other views or interpretations to accomplish the similar end result.