Many parents invest in the name of their children to save for future expenses such as higher education, marriage etc. However, not many people are aware of the income tax implications for investing in their children's name.
"There is no restriction for investing in a mutual fund scheme in the name of a minor. However, the process of making such an investment is an offline process that requires physical copies of all the documents. A parent cannot make investments online in the name of their children," says Senthil G, Chief Business Development Officer, KFintech, a registrar and transfer agent (RTA) to mutual funds and companies.
Income tax implications of investing in mutual funds/shares in the name of minor
To invest in equities and mutual funds in the name of a minor, a separate account must be opened. A parent can open a demat account in the name of the minor for investing in shares. A separate mutual fund folio must be created to invest in the name of the minor.
Investment made in the name minor attracts clubbing provision of the Income-tax Act, 1961. Any income arising or accruing to investments made in a minor child's name is added to the parent's taxable income if the source of funds was the parent itself. The child includes all children including stepchild and adopted child.
"Capital gains arising from shares and mutual fund investments made in the minor's name will be clubbed with the income of the parent or guardian for tax purposes. The total income of the parent or guardian will increase because of clubbing. The income is clubbed in the hands of the higher-earning parent," says Akhil Chandna, Partner, Grant Thornton Bharat, a business and tax consultancy company.
For example, if a parent had invested Rs 85,000 in a mutual fund in the name of his/her minor child. It may happen that the parent who had the least income among both the parents contributed solely for this investment. However, for the purpose of income tax, any income from the sale of such investment while the child is a minor will be clubbed with the income of parent earning more.
This is because although the source of payment for such an investment can be any parent, at the time of redemption, the gains would only be clubbed with the income of the higher earning parent.
What if you have invested in bank FD or post office schemes in minor's name
An investment in the minor child's name can be made in bank fixed deposits (FD) and also in various post office schemes. However, any interest from such investments would be clubbed with the higher earning parent's income.
"It does not matter whether the interest is accrued or paid. Even if the interest payments are made after the minor attains majority the income would still be clubbed with the higher earning parent. This is because accrual or payment of any income is an independent concept and clubbing provisions of the Income-tax Act has no relation to it," says chartered accountant Aastha Gupta, partner S.K Gulati and associates.
Tax exemption on minor's clubbed income
If a minor child's income is clubbed in the hands of a parent, then a income tax exemption on total income per child is allowed for the parent. This exemption is available for a maximum of two children in a financial year. There is no exception in the case of twins. For example: even if someone has one child and twins thereafter, the tax exemption is limited to two children, not three.
"The parent whose total income includes his/her minor child’s income, can claim an tax exemption under section 10(32) of the Income-tax Act of Rs. 1,500 or whatever amount of income of minor so clubbed, whichever is less. This deduction is only available if the parent whose income was clubbed with the minor chooses old tax regime. In the new tax regime, no such deduction is allowed," says Dr. Suresh Surana, founder, RSM India, a tax and business consulting group.
What if investment is redeemed when child is 18 years old
"The moment minor becomes 18 years old i.e., an adult any income of the said minor would not be clubbed with the parents. So, if a parent made some investments in the name of the minor and the minor sells them when he/she became an adult, it would be taxable in the hands of the minor who became an adult now," says Gupta.
If both parents are not alive
If both the parents of the minor are not alive, then the minor has to file a separate income tax return (ITR). Such filing of ITR has to be done by the legal guardian of the minor. The guardian can do it by registering as a 'representative assessee of the minor'. The income of the minor will not be clubbed with that of the legal guardian.
What if money is earned by the child
The situation changes when the minor is using their own earned money to invest in either mutual funds or stocks. "If a minor invests using his/her own income (earned due to his manual work or an activity that requires the application of his skill and talent), then the capital gain arising shall be taxable in the hands of the minor," says Chandana.
"Any Indian citizen, regardless of age, is permitted to own stocks in publicly traded companies under the Companies Act, 2013. Hence, a Demat account in the name of a minor can be opened in India," says Sidhavelayutham M, Founder and CEO, Alice Blue, founder, a Bengaluru based stockbroking firm.
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