Are business loans tax deductible? The answer is Yes; the interest you pay on your business is tax deductible that is generally subtracted from your gross income. As per the Income Tax Act, 1961, you can avail deduction on business loan interest that is paid from business profits. It is predefined in the Income Tax Act that money utilized in the form of business loans is not the same as business income, earning revenue or profit for the business.
Business loans are availed to meet the instant cash requirements and to fulfil various business related needs. Funding received in the form of business loans can be used for business expansion purposes and various other business related activities like purchase of equipment, to meet working capital requirements, buying raw materials, managing cash flow, purchase of inventory, debt consolidation, paying-off rent or salaries, hiring new staff, etc.
In this article, we shall discuss the tax benefits and exemptions on business loans in India. But first let’s understand the meaning of business loan interest.
Business loan interest is the extra amount of money that you, as a borrower, need to pay to the lender to avail the funds. This interest is paid over and above the total borrowed amount.
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Interest paid on Business Loan is Tax-Deductible
Taking a business loan is quite a decisive move for any individual or firm. However, it comes with tax benefits, as you can easily write off the interest payments as your business expenditure. Tax deductible business expenses are the types of expenditure incurred to generate income. The types of business expenses are deducted from total revenue to get tax amount.
Formula to Calculate Tax Liability: Business Expenditure – Total Revenue = Tax Amount
The interest on business loans is a part of these expenses thus helping in tax exemption. To write off interest payments in the form of business expenditure is a huge advantage for entrepreneurs.
Principal Amount on Business Loan is not Tax-Deductible
Principal amount is the total funding or loan amount taken from the bank or NBFC to manage business activities; it is not the interest on business loan, business expenditure or a part of business expense. Therefore, the principal amount on business loan is not tax deductible. You are not required to pay income tax for the principal or borrowed amount. Moreover, you cannot remove it from your gross income. Tax is generally paid on the net income earned by an entrepreneur in a financial year.
Tax Benefits on Business Loan – At a Glance
- Business loan interest amount is tax exempted
- Principal loan amount is not tax deductible and do not offer any tax benefit
- The interest paid on a business loan is usually deducted from the gross income
- Personal loan taken for business purposes is also tax deductible
- Helps in the reduction of total tax amount to be paid
- Tax liability is calculated by subtracting business expenses from total business revenue
- To avail the deduction on interest, you need to fulfil some basic criteria defined by the lender
- Business loan borrowed by the lender is a type of funding and not your income, so it is not tax deductible
- Repayment amount that is form of EMI is not tax deductible
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Eligibility for availing a Business Loan
Business loans can be availed by the following entities, such as MSMEs, SMEs, entrepreneurs, small business owners, artisans, traders, retailers, manufacturers, private limited and public limited companies, sole proprietorship, partnership firms, limited liability partnerships, etc.
Age Criteria: Minimum age 18 years at time of loan application and maximum 65 years at time of loan maturity
Loan Amount: Minimum Rs. 10,000 and maximum Rs. 50 lakh, can exceed up to Rs. 10 crore and more, depending up on business requirements and applicant’s profile
Repayment Tenure: From 12 months to 60 months
CIBIL/Credit Score: 650 or above
Applicant should be Indian national with no past criminal records
Business existence: minimum 2 years form the date of incorporation
Business experience: Minimum 1 year in the same line of occupation
Company’s Turnover: To be decided by the lender or financial institution
Types of Business Loans
- Term Loan – Short- and Long-Term
- Working Capital Loan
- Bill Discounting
- Letter of Credit
- Merchant Cash Advance
- Overdraft Facility
- Equipment Finance
- Machinery Loan
- Micro Loan
- Small Business Finance
- Farm/Construction Equipment Finance
In today’s banking and financial market there are several private and public sector banks, Non-Banking Financial Companies (NBFCs), Small Finance Banks (SFBs), Micro Finance Institutions (MFIs) and Regional Rural Banks (RRBs) offering business loans for individuals, self-employed, professionals, MSMEs and SMEs. However, these entities still have to meet some eligibility criteria to avail deduction on interest.
Before applying for any type of business loan, you should always assess your business requirements as per the demand of the situation. Tax benefits can be enjoyed by business owners availing business loans and definitely; business loans are tax deductible.