Library / Income-tax Act, 2025: The Professional's Master Guide

14. Clubbing and Unexplained Income (Sections 96 to 106)

14.1 Clubbing (section 99, old 64)

Some income of another person is added to the taxpayer's income to prevent tax planning through family members.

Situation	Whose income?
Income from asset transferred to spouse without adequate consideration	Person who transferred
Income from asset transferred to son's wife	Person who transferred
Income of a minor child (other than from own skill or work, or if disabled)	Parent with higher income; exemption Rs. 1,500 per child
Salary to spouse from a concern where taxpayer has substantial interest, without qualification	Taxpayer
Revocable transfer of assets (sections 96 to 98)	Transferor

Illustration 78: Gift to spouse

Vikram gifts Rs. 10 lakh to his wife, who puts it in an FD earning Rs. 70,000 interest. The Rs. 70,000 is clubbed with Vikram's income. If she reinvests the Rs. 70,000 and earns further interest, that second level income is taxed in her hands.

14.2 Unexplained credits and investments (sections 102 to 106)

If a taxpayer cannot explain the nature and source of a cash credit, investment, asset or expenditure, it is taxed at a flat 60% plus 25% surcharge and cess (effective 78%). No deduction, allowance or loss set off is allowed against it. For companies, share capital and premium credits must be explained with the source of the investor as well.

Illustration 79: Cash deposit

A salaried person deposits Rs. 8 lakh in cash and cannot explain the source. It may be taxed under section 102 (old 68) at 78%, about Rs. 6,24,000.

Judicial view: Share capital from doubtful investors

CIT v. Lovely Exports (P) Ltd. (Supreme Court, 2008): where a company gave the names of its share applicants, the department could proceed against those investors, but could not tax the money as the company's unexplained income. This view was overtaken by the 2012 amendment requiring closely held companies to explain the source of funds of their investors.

PCIT v. NRA Iron and Steel (P) Ltd. (Supreme Court, 2019): a company must prove the identity, creditworthiness and genuineness of its share subscribers; where the investors were shell entities without means, the addition as unexplained credit was upheld.

14.3 Clubbing in detail

Transfer to spouse used in business

Where an individual gifts money to his spouse and she invests it in a business, the income clubbed is in the ratio of the gifted amount to the total investment in the business on the first day of the year.

Illustration 80: Proportionate clubbing

Mahesh gifts Rs. 5,00,000 to his wife Rina, who starts a boutique with that amount plus Rs. 5,00,000 of her own savings. On 1 April 2026 the total investment is Rs. 10,00,000. Business income for Tax Year 2026-27 is Rs. 2,00,000. Clubbed in Mahesh's hands = 2,00,000 x 5/10 = Rs. 1,00,000. Rina is taxed on the balance Rs. 1,00,000.

Remuneration of spouse

Salary, commission or fees received by a spouse from a concern in which the individual has a substantial interest (20% or more of shares or profits, alone or with relatives) is clubbed, unless the spouse has technical or professional qualifications and the income is attributable to them. If both spouses have substantial interest and both receive remuneration, the total is clubbed with the spouse having the higher total income before clubbing.

Minor child

All income of a minor child is clubbed with the parent whose total income is higher (or the parent maintaining the child if parents are separated), except income from the child's own manual work or skill, or if the child suffers from a specified disability. An exemption of Rs. 1,500 per child is available in the old regime. Once the child becomes a major, clubbing stops.

Cross transfers and indirect transfers

Where A gifts to B's wife and B gifts to A's wife, the courts treat this as indirect transfer, and each husband is taxed on the income of his own wife's asset. Clubbing also applies if assets are transferred to a person or AOP for the benefit of the spouse or son's wife.

Judicial view: Cross transfers

CIT v. C.M. Kothari (Supreme Court, 1963): where two persons make cross gifts to each other's spouses, the transfers are connected, and the income arising to each spouse is included in the income of her own husband, as if he had made the transfer.

Income from accretions is not clubbed

Only income from the transferred asset is clubbed. Income earned by reinvesting that income is taxed in the hands of the recipient. Likewise, capital gain on sale of a gifted asset is clubbed, but income from reinvestment of the sale proceeds is only clubbed to the extent it is traceable to the original asset.

Key point

Gifts to a spouse are not taxable as income in her hands (spouse is a relative), but the income from them is clubbed. Plan family investments with this two step analysis: is the gift taxable, and is the income clubbed?

Chapter summary

• Income from assets transferred to spouse or son's wife, and income of minor children, is clubbed.

• Clubbing is proportionate where gifted funds are mixed with own funds in a business.

• Unexplained credits, investments and expenditure are taxed at 60% plus surcharge and cess.