Introduction

Income earned from letting out commercial properties, such as office spaces, retail shops, or warehouses, is a common source of revenue. However, the taxation of this income depends on various factors, such as the nature of the property and the purpose for which it is rented. The Income Tax Act, 1961, provides distinct guidelines for classifying such income under the heads “Income from House Property” or “Profits and Gains of Business or Profession.”

This blog explores the criteria for classification, the tax implications of each category, and how to determine the correct treatment for income from commercial properties.

---

Key Question: Business Income or House Property?

Income from letting out commercial property can be classified as:

1. Income from House Property: When the property is rented as part of a passive investment.
2. Profits and Gains of Business or Profession: When renting out properties constitutes a core business activity.

---

When Is Income Taxed as ‘Income from House Property’?

1. Ownership of the Property

• The taxpayer must own the property.
• Income earned by letting out properties owned for investment purposes is taxable under this head.

2. Passive Income

• If letting out the property is not a core business activity, the income is classified under “Income from House Property.”

Example:

• An individual owns a commercial office space and rents it out for ₹50,000 per month. The rental income is taxed under this head.

Tax Treatment Under ‘Income from House Property’

1. Standard Deduction:
   • 30% of the net annual value (gross rent minus municipal taxes) is allowed as a standard deduction.
2. Interest on Borrowed Capital:
   • Deduction is allowed for interest paid on loans taken to purchase, construct, or repair the property.
3. Net Taxable Income:
   • Taxable income = Gross annual value – Municipal taxes – Standard deduction – Interest on borrowed capital.

---

When Is Income Taxed as ‘Business Income’?

1. Core Business Activity

• If renting out properties is the primary business activity, the income is taxed under “Profits and Gains of Business or Profession.”

2. Organized Real Estate Businesses

• Income earned by companies or individuals engaged in leasing or letting out properties as their main business is classified as business income.

Example:

• A company owns multiple office buildings and earns ₹10,00,000 monthly by renting them. This income is taxed as business income.

Tax Treatment Under ‘Profits and Gains of Business or Profession’

1. Allowable Deductions:
   • Expenses incurred for repairs, maintenance, depreciation, salaries, and other business-related costs are deductible.
2. No Standard Deduction:
   • Unlike “Income from House Property,” there is no standard deduction of 30%.
3. Depreciation:
   • Depreciation on the building can be claimed as an expense.

---

Key Factors Determining Classification

1. Nature of Ownership:
   • If the property is owned for passive rental income, it is taxed under “House Property.”
   • If the property is part of the business, it is taxed under “Business Income.”
2. Intention of Use:
   • Rental income from properties held as part of an investment portfolio falls under “House Property.”
   • Properties used as a part of regular business operations fall under “Business Income.”
3. Judicial Precedents:
   • In Chennai Properties and Investments Ltd. v. CIT, the Supreme Court ruled that rental income from properties held as a core business is taxable as business income.
   • In Raj Dadarkar & Associates v. ACIT, the court held that rental income from passive investments is taxable under “House Property.”

---

Practical Examples

Example 1: Individual Renting an Office Space

• Details: An individual rents out a commercial property and earns ₹6,00,000 annually.
• Classification: Income from House Property.
• Tax Treatment:
  • Standard deduction: ₹1,80,000 (30%).
  • Taxable income: ₹4,20,000.

Example 2: Real Estate Company Leasing Buildings

• Details: A company earns ₹50,00,000 annually by leasing multiple properties.
• Classification: Business Income.
• Tax Treatment:
  • Deductible expenses: ₹20,00,000 (repairs, salaries, depreciation).
  • Taxable income: ₹30,00,000.

---

FAQs

1. Is income from sub-letting a commercial property taxable under ‘House Property’?
No, sub-letting income is not taxable under “House Property.” It is taxed under “Profits and Gains of Business or Profession.”

2. Can an individual classify rental income as business income?
Yes, if renting out properties constitutes the individual’s main business activity.

3. Can depreciation be claimed for properties taxed under ‘House Property’?
No, depreciation is not allowed under “House Property.” It is only allowed under “Business Income.”

4. Is the standard deduction of 30% available for properties taxed as business income?
No, the standard deduction is available only under “House Property.”

5. How to determine the gross annual value for ‘House Property’?
The gross annual value is the higher of the actual rent received or the expected rent based on municipal valuation.

---

Conclusion

The tax treatment of income from letting out commercial properties depends on whether it is classified as “Income from House Property” or “Profits and Gains of Business or Profession.” Understanding the nature of ownership, the intent behind renting, and judicial precedents is crucial for accurate classification and compliance. Proper classification also ensures optimal tax planning and deduction of eligible expenses.

Additional Resources

Learn more about Tax Provisions on the official Income Tax India website.

Want to consult a professional? Contact us: 09463224996

For more information and related blogs, click here.