You are currently viewing Understanding Income Tax Implications of Investing in a Child’s Name

Understanding Income Tax Implications of Investing in a Child’s Name

Loading

Tax Implications of Investing in a Child’s Name

Many parents wisely choose to invest in the name of their children to secure their financial future, covering expenses like higher education and marriage. However, it’s essential to know the income tax implications when investing in a child’s name. This article delves into the nuances of income tax related to investments in shares, mutual funds, and bank fixed deposits (FDs) in a child’s name.

Investing in Mutual Funds and Shares in a Minor’s Name

When investing in equities and mutual funds in a minor’s name, a separate account must be opened. A parent can create a Demat account in the child’s name for investing in shares, and a separate mutual fund folio is required for mutual fund investments.

Investments made in a minor’s name fall under the clubbing provision of the Income-tax Act, 1961. Any income from such investments is added to the parent’s taxable income if the funds’ source was the parent. This rule applies to all children, including stepchildren and adopted children.

For example, if a parent invests Rs 85,000 in a mutual fund in their minor child’s name, and they were the sole contributor to this investment, any income from the sale of these investments during the child’s minority would be clubbed with the income of the higher-earning parent.

Bank FDs and Post Office Schemes in a Minor’s Name

Investments in bank fixed deposits and post office schemes in a minor’s name are also subject to the clubbing provision. Regardless of whether the interest is accrued or paid, any income from these investments is clubbed with the higher-earning parent’s income. The accrual or payment of income does not affect this rule.

Tax Exemption on Minor’s Clubbed Income

If a minor child’s income is clubbed with a parent’s income, the parent can claim an income tax exemption on the total income attributed to the child. This exemption is available for a maximum of two children in a financial year, with no exception for twins. Under Section 10(32) of the Income-tax Act, the parent can claim a deduction of Rs. 1,500 or the minor’s clubbed income, whichever is lower. However, this deduction is only available in the old tax regime, not in the new tax regime.

Redemption of Investments When the Child Turns 18

Once a minor becomes 18 years old, any income from investments made in their name is no longer clubbed with the parent’s income. If a parent makes investments in the child’s name, and the child sells them after turning 18, the income becomes taxable in the hands of the adult child.

Dealing with the Situation When Both Parents are Deceased

If both parents of the minor are no longer alive, the minor must file a separate income tax return (ITR). In this case, the legal guardian of the minor can file the ITR as a ‘representative assessee of the minor.’ The minor’s income remains separate and is not clubbed with the guardian’s income.

Income Earned by the Child

The situation changes when a minor uses their own earned income to invest in mutual funds or stocks. In this case, the capital gains from such investments are taxable in the hands of the minor. It’s important to note that any Indian citizen, regardless of age, can own stocks in publicly traded companies under the Companies Act 2013. Hence, a Demat account can be opened in the name of a minor for such investments.

Conclusion

Investing in a child’s name can be a smart financial move, but understanding the income tax implications is crucial. Income from investments in a minor’s name may be clubbed with the parent’s income, leading to potential tax consequences. Therefore, parents should carefully consider the tax implications and plan their investments to optimize their child’s financial future while minimizing tax liabilities.

Sumitha

I'm a professional content creator passionate about writing. My articles span law, business, finance, investments, and government schemes, always simplifying complex topics. Exploring and embracing novelty are my off-duty joys.