Navigating the tax landscape for a Loan Against Property (LAP) can be tricky, as its tax treatment depends entirely on how you use the borrowed funds. Unlike a home loan, where the purpose is pre-defined, a LAP offers flexibility, but with that flexibility comes the responsibility of understanding the rules.
Here’s a breakdown of the two primary scenarios under which you can claim tax benefits on your LAP, along with a crucial clarification on what is not covered.
1. When the Loan is Used for Residential Property
If you use the funds from your LAP to purchase, construct, renovate, or repair a residential house, you can claim a tax deduction on the interest component of the loan under Section 24(b) of the Income Tax Act. For a detailed overview of this section, you can refer to the Income Tax Department’s official page on the subject.
The amount of deduction you can claim depends on whether the property is self-occupied or let-out.
- For a Self-Occupied Property: You are eligible to claim a deduction of up to ₹2,00,000 per financial year on the interest paid.
- Condition: The purchase or construction of the property must be completed within five years from the end of the financial year in which the loan was sanctioned. If this condition is not met, the deduction limit is reduced to ₹30,000.
- Note: This benefit is typically available under the Old Tax Regime. Under the New Tax Regime, this specific deduction is generally not allowed for self-occupied property. You can read more about the differences between the two regimes here.
- For a Let-Out Property: You can claim the entire interest amount paid as a deduction, with no upper limit.
- This is a significant benefit, as the full interest paid on the loan reduces your taxable “Income from House Property.”
- Note: This benefit is available under both the Old and New Tax Regimes.
Example: Residential Use Suppose you take a LAP and use the funds to renovate a house you own, which you then rent out. Your annual interest payment on the LAP is ₹2,50,000. You can claim the full ₹2,50,000 as a deduction from your rental income, effectively reducing your taxable income from that property.
2. When the Loan is Used for Business Purposes
This is one of the most common and powerful uses of a LAP. If you use the borrowed funds to finance your business, you can treat the interest paid on the loan as a legitimate business expense.
- Deduction under Section 37(1): Under this section of the Income Tax Act, you can claim a deduction for the full amount of interest paid on your LAP.
- How it Works: By showing the interest payment as a business expense, you reduce your business’s net profit. This, in turn, lowers your overall taxable income from the business. You can find more information on this section from financial experts like Cleartax.
- Additional Expenses: It’s important to note that other related expenses, such as processing fees, documentation charges, and stamp duty paid to secure the loan, can also be claimed as business expenses.
Example: Business Use You are a business owner who needs capital to purchase new machinery. Instead of a business loan, you opt for a LAP. The annual interest on this loan is ₹3,00,000. When filing your taxes, you can deduct this ₹3,00,000 from your business’s profits, directly reducing your tax liability.
3. The Crucial Exception: No Tax Benefit for Personal Use
It is essential to remember that if you use the LAP for personal expenses such as a wedding, foreign vacation, medical emergency, or your child’s education, you cannot claim any tax benefits on the interest paid.
This also brings us to another critical point of clarification:
Section 80C is NOT Applicable to a Loan Against Property
One of the major tax benefits of a standard home loan is the deduction on the principal repayment under Section 80C, up to a limit of ₹1,50,000. However, a LAP is distinct from a home loan. The deduction under Section 80C is strictly reserved for the principal repayment of a loan taken for the purchase or construction of a residential property. Since a LAP is taken against an existing property for a non-specific purpose, its principal repayment is not eligible for this deduction. You can learn more about Section 80C and home loans here.
Conclusion
A Loan Against Property can be a highly effective financial tool for tax planning, but only if its funds are used for the right purpose. The key takeaway is to clearly document the end-use of the borrowed amount, as this will determine which section of the Income Tax Act you can use to claim your benefits. Whether it’s to boost your business or invest in a new property, understanding these rules is the first step toward maximizing your savings.
