Income Tax Law and Accounts (COM5CJ301) — Module 3: Income from House Property
Lecture Notes • Complete Study Material
Module III provides an exhaustive statutory and mathematical analysis of the second specific head of income under COM5CJ301: Income Tax Law and Accounts (Calicut University B.Com Honours, Semester V Major). Governed by Sections 22 to 27 of the Income Tax Act, 1961, taxation under this head is anchored upon the inherent earning capacity of real estate—known as its Annual Value—rather than actual commercial receipts. This module explores the charging mandate of Section 22, the statutory fictions of Deemed Ownership [Section 27], composite rent apportionment, and exempted properties. It details the algorithmic determination of Gross Annual Value (GAV) [Section 23(1)] across vacancy and unrealized rent scenarios under Rule 4, deductions for municipal taxes to establish Net Annual Value (NAV), and statutory deductions under Section 24 (30% standard deduction and interest on borrowed capital with pre-construction amortization). Furthermore, it evaluates all operational configurations—Let-Out (LOP), Self-Occupied (SOP up to two houses per Finance Act 2019), Deemed Let-Out (DLOP), partly let-out units, co-ownership [Section 26], recovery of arrears [Section 25A], loss set-off rules [Section 71], and the impact of the Section 115BAC regime—culminating in a complete master workout problem.
Unit 1: Basis of Charge & Essential Conditions of Chargeability (Section 22)
1.1 The Charging Section and Three Cumulative Tests
Section 22 enacts that the annual value of property consisting of any buildings or lands appurtenant thereto of which the assessee is the owner, other than such portions as he may occupy for the purposes of any business or profession carried on by him the profits of which are chargeable to income tax, shall be chargeable under the head "Income from House Property."
A critical statutory deconstruction of Section 22 reveals three cumulative conditions that must be simultaneously satisfied:
Building or Land Appurtenant
The subject matter of taxation must be a building or land appurtenant thereto. Vacant open land devoid of any superstructure does not constitute house property; rental income derived from open plots is taxable under PGBP (Sec 28) or Income from Other Sources (Sec 56).
Ownership of Property
The assessee must be the owner (legal or deemed owner under Section 27) during the previous year. If an assessee sublets a rented property, rental receipts from the sub-tenant cannot be assessed under Section 22, but are taxable under Section 56 or Section 28.
Non-Business Use by Owner
The property must not be occupied by the owner for carrying on his own business or profession whose profits are chargeable to income tax. If an owner utilizes his building as his own factory, corporate office, godown, or showroom, its annual value is completely exempt from Section 22.
1.2 Judicial Interpretation of Building and Land Appurtenant
The term "building" is not restrictively defined in the Act. Judicial jurisprudence encompasses any permanent, semi-permanent, or substantial roofed superstructure adapted for human habitation, commercial trade, storage, or industrial activity. It includes residential mansions, apartment blocks, commercial shopping complexes, cinema theatres, office skyscrapers, godowns, and warehouse sheds.
"Lands appurtenant thereto" refers to land inextricably linked to, surrounding, or subservient to the enjoyment of the main building. This legally includes courtyards, compound areas, vehicular parking spaces, approach driveways, private pathways, front lawns, and backyards. If an open piece of land is leased out independently without any building, rental proceeds cannot be brought to tax under Section 22.
1.3 Subletting vs. Ownership: Supreme Court Principles
To attract Section 22, the recipient of the rent must possess proprietary title. Where a tenant leases a house for ₹15,000 per month and sublets a floor to a sub-tenant for ₹25,000 per month, the net surplus of ₹10,000 per month realized by the tenant is assessable under Income from Other Sources, because the tenant does not hold ownership title in the building. However, the original landlord who receives ₹15,000 from the primary tenant will be assessed under Section 22.
Unit 2: Deemed Ownership (Section 27)
In general law, ownership signifies legal title registered in the deed of conveyance. However, to prevent artificial tax avoidance and tax evasion via Benami arrangements or colorable asset transfers, Section 27 creates a statutory legal fiction of "Deemed Ownership." Under Section 27, an individual is legally deemed to be the owner of a house property under five specific circumstances, even if legal title does not vest in his name:
1. Transfer to Spouse
Where an individual transfers any house property to his or her spouse directly or indirectly without adequate monetary consideration, the transferor is deemed to be the owner of the transferred property.
2. Transfer to Minor Child
Where an individual transfers house property to a minor child without adequate consideration, the transferor parent is deemed to be the owner.
3. Holder of an Impartible Estate
The holder of an impartible estate (an estate which by law or custom cannot be divided among family heirs) is legally deemed to be the sole individual owner of all the properties comprised in the estate.
4. Co-operative Society / Company Allottee
A member of a co-operative housing society, company, or association of persons to whom a building or flat is allotted or leased under a house-building scheme is deemed to be the owner of that building or flat, even though legal conveyance remains with the society/company.
A person who is allowed to take or retain possession of any building (or part thereof) in part performance of a contract of the nature referred to in Section 53A of the Transfer of Property Act, 1882, is deemed to be the owner of that property. This applies where a buyer has executed an agreement to sell, paid substantial consideration, and obtained physical possession, even if the formal deed of sale has not yet been registered.
A person who acquires any rights in or with respect to any building or part thereof, by virtue of any transaction referred to in clause (f) of Section 269UA (i.e., lease for a term not less than 12 years), is deemed to be the owner of that building. Rule: This excludes leases from month to month or for a period not exceeding one year, even if renewable.
Unit 3: Commercial Letting vs. Composite Rent
"Composite Rent" refers to a bundled consideration where the owner lets out a building along with other assets (machinery, plant, furniture) or specialized auxiliary services (lift maintenance, central air conditioning, security guards, power back-up, cleaning). The statutory tax treatment depends on the separability of the letting agreement:
| Category of Letting | Statutory Condition & Criteria | Tax Head & Treatment |
|---|---|---|
| 1. Letting of Building Separable from Other Assets | The agreement allows the letting of the building to be separated from the letting of plant, machinery, or furniture (e.g., separate rent stipulated). | Rent for building is taxed under House Property (Sec 22); rent for assets is taxed under PGBP or IFOS. |
| 2. Letting Inseparable (Plant & Machinery) | The letting of the building is inseparable from the letting of plant, machinery, or furniture (e.g., cold storage, cinema theatre, hotel building). | Entire composite rent is taxable under PGBP (Sec 28) or IFOS [Sec 56(2)(iii)]. No part is taxed under Sec 22. |
| 3. Letting with Incidental Amenities | The building is let out along with amenities like lift, security, water supply, and common area electricity. | Base rent of building is taxed under House Property (Sec 22); service charges collected for amenities are taxed under IFOS. |
| 4. Commercial Exploitation (Shopping Malls) | The primary intention is not mere passive letting of real estate, but active commercial exploitation of complex business infrastructure. | Taxable under Profits and Gains of Business or Profession (PGBP) per Supreme Court rulings. |
Unit 4: Incomes from House Property Exempt from Income Tax
Under the provisions of the Income Tax Act, 1961, rental income or annual value arising from certain specified properties is completely exempt from income tax:
Unit 5: The Four Rental Parameters of Annual Value
The determination of the Gross Annual Value (GAV) of a house property is based upon a statutory comparison of four distinct rental benchmarks:
Municipal Value (MV)
The annual rental value assigned to the property by the local municipal corporation, municipality, or gram panchayat for levying local property taxes.
Fair Rent (FR)
The rental value that a similar property in the same or comparable locality, with identical structural specs and modern amenities, would command in an open market.
Standard Rent (SR)
The maximum statutory rent that a landlord can legally recover under the relevant State Rent Control Act. Landlords cannot legally charge rent in excess of SR.
Actual Rent Received / Receivable (ARR)
The actual rent payable by the tenant for the period let out during the previous year, adjusted for owner obligations paid by tenant and minus unrealized rent under Rule 4.
Unit 6: Determination of Gross Annual Value (GAV) [Section 23(1)]
Section 23(1) of the Income Tax Act provides the statutory algorithm for calculating the Gross Annual Value of a let-out house property through three structured steps:
Step 1: Expected Rent (ER) = Minimum [ Maximum (Municipal Value, Fair Rent), Standard Rent ]
Step 2: Actual Rent Received/Receivable (ARR) = (Monthly Rent × Months Let Out) − Unrealized Rent (Rule 4)
Step 3: Compare ER and ARR considering Vacancy Loss:
- Situation A (No Vacancy): GAV is the Higher of Expected Rent (ER) and ARR.
- Situation B (Vacancy Exists and ARR < ER solely due to Vacancy): Where property was vacant during all or part of the previous year, and by reason of vacancy ARR is less than ER, GAV = ARR under Section 23(1)(c).
- Situation C (Vacancy Exists but ARR < ER due to other factors): If actual rent is less than ER due to lower agreed rent and not solely due to vacancy, compute Expected Rent, compare with ARR, and deduct vacancy loss.
- Situation D (Actual Rent ≥ Expected Rent despite Vacancy): GAV = ARR.
Conditions for Deduction of Unrealized Rent (Rule 4)
"Unrealized Rent" represents rent that the owner could not recover from a defaulting tenant. According to the Explanation to Section 23(1), unrealized rent can be deducted from ARR only if all four conditions of Rule 4 are strictly satisfied:
Illustrative Numerical Cases: Determining Gross Annual Value across 4 Properties
| Particulars / Rent Parameter | House P (₹) | House Q (₹) | House R (₹) | House S (₹) |
|---|---|---|---|---|
| Municipal Value (MV) | 1,80,000 | 2,40,000 | 3,00,000 | 2,00,000 |
| Fair Rent (FR) | 2,10,000 | 2,20,000 | 3,60,000 | 2,40,000 |
| Standard Rent (SR) | 1,95,000 | 2,60,000 | 3,20,000 | 2,10,000 |
| Step 1: Expected Rent [Min(Max(MV, FR), SR)] | 1,95,000 | 2,40,000 | 3,20,000 | 2,10,000 |
| Actual Monthly Rent | 18,000 | 22,000 | 30,000 | 20,000 |
| Period Let Out / Vacancy Period | 12 mos / Nil | 10 mos / 2 mos | 9 mos / 3 mos | 12 mos / Nil |
| Unrealized Rent satisfying Rule 4 | Nil | Nil | 30,000 (1 mo) | 40,000 (2 mos) |
| Step 2: Actual Rent Received/Receivable (ARR) | 2,16,000 | 2,20,000 | 2,40,000 | 2,00,000 |
| GROSS ANNUAL VALUE (GAV) DETERMINED | 2,16,000 | 2,20,000 | 2,40,000 | 2,10,000 |
• House P: No vacancy. GAV = Higher of Expected Rent (₹1,95,000) and ARR (₹2,16,000) = ₹2,16,000.
• House Q: Vacancy of 2 months. ARR (₹2,20,000) is less than ER (₹2,40,000) solely because of vacancy (had it not been vacant, ARR would be ₹2,64,000 > ₹2,40,000). Hence, u/s 23(1)(c), GAV = ARR = ₹2,20,000.
• House R: 3 months vacant + 1 month unrealized rent. Full year potential rent = ₹3,60,000 > ER ₹3,20,000. ARR is ₹2,40,000. Under Sec 23(1)(c), GAV = ARR = ₹2,40,000.
• House S: No vacancy, but 2 months unrealized rent. ARR (₹2,00,000) is lower than ER (₹2,10,000). GAV = Higher of ER and ARR = ₹2,10,000.
Unit 7: Deduction of Municipal Taxes & Net Annual Value (NAV)
The Net Annual Value (NAV) represents the statutory base upon which statutory deductions under Section 24 are computed. Under the proviso to Section 23(1), municipal taxes paid are deducted from GAV:
Net Annual Value (NAV) = Gross Annual Value (GAV) − Municipal Taxes Paid by Owner
Mandatory Statutory Conditions for Deducting Municipal Taxes:- Taxes Levied by Local Authority: Must be property taxes levied by a municipal corporation, municipality, or panchayat (general tax, water tax, sewerage tax, education cess).
- Actual Payment Basis: Municipal taxes are deductible strictly on actual payment basis during the previous year. Outstanding, unpaid, or accrued taxes cannot be deducted.
- Paid by the Owner: Must be borne and paid by the owner. If paid by the tenant under the agreement, no deduction is permissible to the owner.
- Arrears of Prior Years Deductible: If an owner clears past municipal tax arrears spanning multiple prior years during the current year, the entire aggregate sum paid is fully deductible.
- Negative Net Annual Value: If municipal taxes paid during the year exceed the Gross Annual Value, the Net Annual Value becomes negative.
Unit 8: Deductions from Net Annual Value (Section 24)
Section 24 provides an exhaustive list of deductions admissible from the Net Annual Value. No other expense—such as actual repairs, insurance premiums, ground rent, legal fees, or collection charges—is allowable as a deduction under the Income Tax Act.
1. Standard Deduction
A statutory flat deduction equal to 30% of the Net Annual Value (NAV) is allowable.
- Allowable irrespective of actual expenditure incurred by the owner on repairs, painting, maintenance, or white-washing.
- If NAV is Zero (e.g., Self-Occupied House), Standard Deduction is NIL.
- If NAV is Negative, Standard Deduction is NIL.
2. Interest on Borrowed Capital
Interest payable on loan capital borrowed for acquisition, construction, repair, renewal, or reconstruction of the property is deductible.
- Deductible on accrual / due basis (admissible even if not actually paid during the year).
- No deduction for penal interest, compound interest, or brokerage charges.
- Interest on fresh loan taken to repay original construction loan is fully deductible.
Pre-Construction and Pre-Acquisition Interest
Where capital is borrowed for construction or acquisition, the construction period often spans several financial years before the property is ready for occupation. Under Section 24(b), interest paid during this interim phase is classified as Pre-Construction / Pre-Acquisition Interest.
(i) Date of Loan Repayment, OR
(ii) March 31st immediately preceding the Financial Year of Completion of Construction
Amortization Rule: The total accumulated pre-construction interest is deductible in five equal annual installments commencing from the financial year in which the construction is completed or property is acquired.
Facts: Assessee borrowed ₹20,00,000 at 10% p.a. on 01-07-2020 for constructing a residential house. Construction completed on 15-11-2023. Compute interest deductible for AY 2024–25 (PY 2023–24).
1. Date of borrowing: 01-07-2020. Completion: 15-11-2023 (FY 2023–24).
2. Pre-construction period ends on: 31-03-2023 (March 31 preceding FY of completion).
3. Duration: 01-07-2020 to 31-03-2023 = 33 months (2 years and 9 months).
4. Pre-construction interest = ₹20,00,000 × 10% × (33 / 12) = ₹5,50,000.
5. Annual installment (1/5th) = ₹5,50,000 / 5 = ₹1,10,000 per year (for FYs 2023–24 to 2027–28).
6. Current year interest for FY 2023–24 = ₹20,00,000 × 10% = ₹2,00,000.
7. Total interest deductible u/s 24(b) for FY 2023–24 = ₹2,00,000 + ₹1,10,000 = ₹3,10,000 (subject to statutory occupancy limits).
Unit 9: Annual Value in Different Operational Situations
Situation 1: Let-Out Property (LOP) Throughout the Year
Where a property is let out for the entire 12 months without vacancy, GAV is the higher of Expected Rent (ER) and Actual Rent Received/Receivable (ARR). Municipal taxes paid are deducted to determine NAV. Deductions u/s 24(a) (30% of NAV) and u/s 24(b) (interest on loan, without any monetary ceiling) are subtracted to compute Income from House Property.
Situation 2: Self-Occupied Property (SOP) [Section 23(2)(a)]
Where a property consists of a house or part of a house in the occupation of the owner for his own residential purposes, or which cannot be occupied by reason of employment elsewhere:
- The Annual Value (GAV and NAV) is statutorily taken as NIL.
- No deduction is allowable for Municipal Taxes paid.
- Standard Deduction u/s 24(a) is NIL.
- Deduction for Interest u/s 24(b) is permissible subject to strict statutory ceilings:
- Maximum ₹2,00,000: Where loan was borrowed on or after 01-04-1999 for acquisition or construction, provided construction/acquisition is completed within 5 years from the end of the FY in which capital was borrowed.
- Maximum ₹30,000: Where capital was borrowed for repair, renewal, or reconstruction; or where loan was borrowed before 01-04-1999; or where construction was not completed within 5 years.
- Resulting Income: The income from a self-occupied property is always NIL or a negative loss (up to −₹2,00,000).
Under the amendment introduced by the Finance Act, 2019, an assessee is granted the option to claim TWO house properties as Self-Occupied Properties (SOP) with their Annual Value treated as NIL under Section 23(2).
Crucial Statutory Restriction: The aggregate deduction for interest on borrowed capital under Section 24(b) across both self-occupied properties combined cannot exceed ₹2,00,000 (or ₹30,000 for repair loans).
Situation 3: Deemed to be Let Out Property (DLOP) [Section 23(4)]
Where an assessee owns more than two residential house properties and uses all of them for personal residence:
- Assessee has statutory autonomy to select any two houses as self-occupied properties (NAV = NIL).
- Remaining house property or properties are legally treated as "Deemed to be Let Out" (DLOP).
- For DLOP, Actual Rent is NIL. The Gross Annual Value is equal to Expected Rent (ER).
- Municipal taxes paid by the owner are fully deductible. Standard deduction (30% of NAV) is allowable.
- Interest on borrowed capital u/s 24(b) is FULLY DEDUCTIBLE without any upper monetary ceiling!
Situation 4: House Self-Occupied for Part of Year and Let Out for Part of Year
Where a property is occupied by the owner for residence for a portion of the year and let out for another portion, the benefit of Section 23(2) (NIL Annual Value) is forfeited entirely. The property is assessed as let-out for the entire year:
- Expected Rent (ER) is calculated for the full 12 months.
- Actual Rent Received/Receivable (ARR) is computed for the actual let-out duration.
- GAV is higher of ER and ARR. Municipal taxes paid are deducted; full Section 24 deductions apply.
Situation 5: Property Having Distinct Units / Portions
Where a property consists of two or more independent residential units (e.g., ground floor let out, first floor self-occupied), it is bifurcated into two independent computational schedules based on floor/plinth area. MV, FR, SR, Municipal Taxes, and Loan Interest are apportioned proportionately between the units. The self-occupied unit is computed under Section 23(2) (NAV = NIL, interest capped at ₹2,00,000), while the let-out unit is computed under Section 23(1) (full rent, full taxes, 30% deduction, uncapped interest).
Unit 10: Special Statutory Provisions (Sections 25A, 26, & 71)
Recovery of Unrealized Rent & Arrears
Where an assessee recovers arrears of rent or previously deducted unrealized rent:
- Taxable in the previous year of actual receipt.
- Taxable even if the assessee is no longer the owner of the property in the year of receipt!
- A flat statutory deduction of 30% is allowed. Only 70% is brought to tax.
Property Owned by Co-Owners
Where property is owned by two or more persons having definite and ascertainable shares:
- They are not assessed as an AOP; income of each co-owner is computed separately.
- For self-occupied co-owned property, each co-owner is entitled to the full ₹2,00,000 interest deduction u/s 24(b) independently!
Set-Off and Carry Forward of House Property Losses
Where net computation under House Property yields a loss (primarily from interest on loan u/s 24(b)):
- Inter-Source Set-Off [Section 70]: Loss from one house property can be set off against income from any other house property without restriction.
- Inter-Head Set-Off [Section 71(3A)]: Net house property loss can be set off against income under any other head (Salaries, Business, Capital Gains, Other Sources) up to a maximum cap of ₹2,00,000 in a given assessment year.
- Carry Forward of Unabsorbed Loss [Section 71B]: Any loss exceeding ₹2,00,000 that remains unabsorbed can be carried forward for up to 8 consecutive Assessment Years. In subsequent years, it can be set off ONLY against Income from House Property. Return need not be filed on time to carry forward house property losses.
1. No deduction is allowable for interest on borrowed capital u/s 24(b) for Self-Occupied Property (NAV = NIL; Interest deduction = NIL).
2. For Let-Out Property, interest u/s 24(b) is deductible up to rental income, but any loss from house property CANNOT be set off against any other head of income (e.g., Salary).
Property Details:
• House 1 (Let Out): MV = ₹3,00,000 | FR = ₹3,30,000 | SR = ₹3,15,000 | Monthly Rent = ₹30,000 | Vacant = 2 mos | Unrealized rent (Rule 4) = ₹30,000 (1 mo) | Municipal taxes paid by owner = ₹25,000 (incl. ₹10,000 arrears of prior year) | Loan interest u/s 24(b) = ₹65,000
• House 2 (Self-Occupied): MV = ₹2,50,000 | FR = ₹2,80,000 | Municipal taxes paid = ₹15,000 | Loan borrowed on 01-05-2019 (completed Oct 2022): Current year interest = ₹1,80,000; Annual pre-construction interest installment = ₹40,000
• House 3 (Deemed Let Out - DLOP): MV = ₹1,80,000 | FR = ₹2,00,000 | SR = ₹1,90,000 | Municipal taxes paid = ₹12,000 | Repair loan interest = ₹45,000
• Arrears Received: ₹50,000 received on 10-01-2024 for House 1 relating to FY 2020–21 (not taxed earlier)
- Step 1: House 1 (Let Out): Expected Rent = Min[Max(₹3,00,000, ₹3,30,000), ₹3,15,000] = ₹3,15,000. ARR (10 mos × ₹30,000 − ₹30,000) = ₹2,70,000. Since ARR < ER solely due to vacancy, GAV = ARR = ₹2,70,000. Less Municipal Taxes = ₹25,000 → NAV = ₹2,45,000. Less Sec 24 deductions: 30% Standard Deduction (₹73,500) + Interest (₹65,000) → Income from House 1 = ₹1,06,500.
- Step 2: House 2 (Self-Occupied): NAV u/s 23(2) = NIL. Municipal taxes = NIL. Standard deduction = NIL. Interest on loan = ₹1,80,000 + ₹40,000 = ₹2,20,000, restricted to statutory cap of ₹2,00,000 → Loss from House 2 = (−₹2,00,000).
- Step 3: House 3 (Deemed Let Out): GAV = ER = Min[Max(₹1,80,000, ₹2,00,000), ₹1,90,000] = ₹1,90,000. Less Municipal Taxes = ₹12,000 → NAV = ₹1,78,000. Less Sec 24 deductions: 30% Standard Deduction (₹53,400) + Interest on loan (₹45,000, fully allowable without ceiling for DLOP) → Income from House 3 = ₹79,600.
- Step 4: Arrears of Rent u/s 25A: Gross Arrears = ₹50,000. Less 30% Statutory Deduction = ₹15,000 → Taxable Arrears = ₹35,000.
Net Aggregation = Income from House 1 (+₹1,06,500) − Loss from House 2 (−₹2,00,000) + Income from House 3 (+₹79,600) + Taxable Arrears (+₹35,000)
NET TAXABLE INCOME FROM HOUSE PROPERTY = +₹21,100
Unit 11: Summary Comparative Reference Matrix
| Feature / Parameter | Let-Out Property (LOP) | Self-Occupied (SOP) | Deemed Let Out (DLOP) |
|---|---|---|---|
| Gross Annual Value (GAV) | Higher of ER or ARR (adjusted for vacancy u/s 23(1)(c)) | Statutorily NIL | Equal to Expected Rent (ER) |
| Municipal Taxes Paid | Fully deductible on actual payment basis | Not deductible | Fully deductible on actual payment basis |
| Net Annual Value (NAV) | GAV − Municipal Taxes (can be negative) | Always NIL | ER − Municipal Taxes |
| Standard Deduction [Sec 24(a)] | 30% of NAV (if NAV > 0) | NIL | 30% of NAV |
| Interest on Loan [Sec 24(b)] | No ceiling limit (fully deductible) | Capped at ₹2,00,000 (construction) or ₹30,000 (repairs) | No ceiling limit (fully deductible) |
| Net Resulting Head Outcome | Positive Income or Loss | Always NIL or Loss (max −₹2,00,000) | Positive Income or Loss |
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