Tax Benefits of Personal Loans: 3 Ways to Save on Taxes

Learn how to save on taxes through personal loans. Explore tax deductions and exemptions for home improvement, house acquisition, and business purposes.

Personal loans offer financial flexibility for various needs, but did you know they can also help you save on taxes? While personal loans themselves don't offer direct tax benefits, you can still leverage them to claim deductions and exemptions under certain circumstances. This article explores three ways you can save on tax through personal loans, including home improvement, house acquisition/construction, and business purposes. Understanding these tax-saving opportunities can help you make informed financial decisions and optimise your tax liabilities.

How can I use personal loans?

Personal loans are mainly unsecured loans, that is, without any collateral. It will be offered based on your credit history, score and other factors. 

And what can you use the loan for? Almost anything you want. Some borrowers use it to make that destination wedding possible, some to strike off that place from the bucket list, and some to put all the loans under a single loan. 

What are the tax benefits I can claim from personal loans?

Though no direct tax benefits are available for personal loans, you can claim tax deductions and exemptions based on the amount used. 

These uses can be for the following:

Home Improvement

House improvements such as changing the kitchen set-up and adding another bathroom can be expensive, and it's expected to take loans for the purpose. 

You can claim a tax deduction of up to Rs. 30,000/- on the house improvement activities. One plus point is that it doesn't have to be purely a home loan. 

Under section 24B of the Income Tax Act, the deductions are based on accrual rather than the interest paid. It means you can claim the tax deduction on the interest paid whether you have paid it or not.

The interest mentioned includes the service charges, prepayment fees, brokerage, commission, etc. However, it does not include penalties and interest on missed payments.

Can I claim interest as a co-owner/ co-borrower?

Yes, you can. To claim the exemption, you must be the co-owner of the house and can claim it in proportion to the amount you borrowed.

House Acquisition/Construction

Moving to your own home is an incredible achievement. You must have suffered a lot regarding paperwork, payments and efforts to make that dream a reality. You can compensate for that suffering by claiming a tax deduction on the principal amount paid back. 

Section 80C of the IT Act allows the borrower to claim tax benefits on the loans taken to construct or purchase a house. You can claim up to 1,50,000 based on the amount paid to the principal amount. 

There are some conditions before you can claim the benefits:

• Benefit can be claimed only after the construction is completed
• The exemptions will not be applicable if the property is transferred within 5 years.
• If the property is transferred within 5 years, then the tax deduction claimed on the property prior should be paid in the transfer year.

Business purposes:

Under section 36(1) iii of the Income Tax Act, any interest paid on the capital borrowed to expand a business or profession can be claimed. The advantage of the act is that there is no upper limit on the deduction that can be claimed. One catch of the act is that you can only claim it once the asset is used.

You can also claim benefits in section 37 of the IT Act, where the amount is used solely and entirely for business operations. The amount should only be used for the company's operational expenses, such as salaries, interest on business loans, and advertisement expenses. Other costs, such as capital and revenue expenditures, are not liable for the deductions. 

What all are disallowed under section 37?

1. Expenditure that alters the business’ constitution and rights
2. Capital expenditures include land rights payments and register fees for increasing capital.
3. Revenue expenditures, such as expenses related to legal actions or other measures taken to remove occupants or encumbrances from the land 
4. Activities not related to the company operations.

Bottom Line

Personal loans are a great way to secure funds without worrying about the collateral. Be it for home renovation, a new home purchase or your business needs, utilise the appropriate policies of Income Tax Acts to save your money. Remember, a penny saved is a penny earned. Happy saving.

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