Interest-free Loan Used in Property Producing Taxable Income

Q: What is the tax treatment of concessionary/interest-free loan which is used by the employee in acquiring an asset or property producing income chargeable to tax? (Section 13(8) of ITO-2001)

Ans: If concessionary/interest-free loan acquired by employee from employer is used by him in acquiring an asset or property which produces income chargeable to tax under ITO-2001, following provions shall apply:

(1) An amount equal to the bench mark rate in case of interest-free loan and difference of the bench mark rate and the interest charged by employer in case of concessionary loan, shall be charged to tax under the head Salary in accordance with Section 13(7).

(2) The amount of profit on loan equal to the bench mark rate shall be DEEMED to have been PAID by the employee to employer.

(3) Although the employee may not have actually paid any amount to employer on account of the profit on loan, but an amount equal to the bench mark rate is assumed to have been paid to the employer owing to the reason that DEDUCTION for profit on loan equal to the benchmark rate may be allowed to employee under the head in which income arising from the asset/property is charged to tax.

Example: Mr. A is an employee at XYZ Ltd. He has received interest free loan at Rs. 800,000 from his employer and has purchased a car from that loan. The car, being used in rent-a-car, produces income from business at Rs. 350,000. Bechmark rate is 13%.

Solution:

Amount chargeable under Salary   800,000 x 13% = 104,000

Amount chargeable under IFB    350,000
Deduction for profit on loan        104,000
Income under IFB                       246,000

Note: In case the property purchased from loan is land or building and rental income is generated from the said property, then there will be no benefit of the aforesaid provision of law to the employee as no deduction is allowed under Income from Property.