Do Personal Loans Offer Tax Benefits?

Personal loans are unsecured loans that help bridge financial gaps in times of emergency. These loans do not require borrowers to pledge a property or other form of security against the loan. At the same time, since the borrower does not give any asset as security, the interest rates on personal loans are usually higher (between 11.5% and 24%) than the interest rates charged on secured loans.

Application and approval of personal loans is easy for salaried as well as self-employed individuals, on providing salary slips and proof of income for business respectively. These loans can be granted as high as almost INR 25 lakhs for salaried individuals and up to INR 50 lakhs for those who are self-employed. Personal loans usually have a repayment tenure of up to 60 months.

Since personal loans are generally not considered as a part of income, the loan is not considered as a taxable fund while filing IT returns, meaning that borrowers do not need to pay taxes on personal loans. However, the loan must be availed from valid sources, such as recognized financial institutions or banks — loans from unknown sources may be considered as income while computing taxes.

Tax Relief on Personal Loans

Getting a personal loan is swift, in most cases does not require a guarantor, and it does not involve elaborate documentation. Another beneficial aspect of personal loans is the tax-saving angle. The Indian Government offers tax benefits on personal loans, subject to certain conditions. As per different sections of the Act, personal loans can be used as tax saving instruments when used towards certain specified purposes.

Irrespective of the loan’s source, if an individual can prove that the personal loan proceeds have been used for a valid and acceptable purpose (as specified in the Income Tax Act), then they can use the availed personal loan to save taxes and claim tax deductions on the interest paid towards the loan.

Tax Benefits on Personal Loans Used for Home Purposes

If you take a personal loan and employ it for any of the below mentioned purposes towards your home, you can avail tax deductions under the Income Tax Act:

·         Section 24(b) of the Income Tax Act provides tax relief to homebuyers who avail personal loans to either buy a residential property or to renovate it

·         If a personal loan is used to make down payment for the purchase of a residential property, it can be claimed for tax exemption

·         If the personal loan is used to pay for home renovation, repairs, or construction/reconstruction, all the instances qualify as valid expenditure for tax deduction

·         On the principal amount of a personal loan, no deduction can be claimed. However, the interest paid on the loan qualifies for tax benefits

·         If you currently live in the home on which you spend the personal loan proceeds, you may claim tax deduction for interest paid up to INR 1.5 lakhs

·         In case of a rented house, there are no limits on the claimable interest amount

·         In case of purchase of an under-construction house, the tax deduction cannot be claimed until the house’s construction is complete. Further, the house should be ready to be occupied within three years of availing the personal loan

To avail of the applicable tax benefits, it is important to preserve all the documents that prove you have indeed used the personal loan proceeds towards purpose of the house. If the loan has been used to carry out repairs or renovations, the bills for labour, materials, etc. need to be preserved. All these documents/bills are required to claim the applicable tax benefits.

Tax Benefit on Personal Loan for Business Purposes

Personal loans also qualify for tax exemption/benefits if they are taken for use towards business purposes. However, the loan amount should be necessary for the business and its earnings should be declared.

The downside:

A personal loan’s principal amount is not exempt from tax. Also, personal loans have processing and pre-payment charges.

Concluding:

It helps to know about the various tax benefits if you plan to take any loan, or in case you are repaying one already. This awareness can help save a large amount that you would otherwise be paying towards taxes.

A personal loan is an excellent option to handle urgent requirements for funds, and if understood and used correctly, a personal loan can be an excellent tax saving instrument as well.