Composite Letting: Tax on Combined Rentals

Picture the owner of an old single-screen cinema hall. Business has slowed, so instead of running the theatre, the owner leases out the entire building along with the seating, projectors, and air-conditioning plant to another operator for one consolidated monthly rent. Is this rent taxed the same way as renting out a plain residential flat? Not quite. When a building is let out together with machinery, plant, or furniture, and the two cannot realistically be separated, the tax law treats this as a distinct category called composite letting. Understanding how this works matters for anyone studying income tax, and even more for property owners structuring real leases.

What composite letting actually means 🔗

Composite letting happens when an owner rents out a building and, at the same time, rents out machinery, plant, or furniture that goes with it, under a single arrangement. The rent might be shown as one lump sum or split into separate figures for the building and the assets, but that distinction on paper does not decide the tax treatment. What matters is whether a tenant could have taken the building alone, without the machinery or furniture, on terms the owner would have accepted. If the answer is no, the letting is composite, and the entire rent is taxed as one unit rather than being split across different heads of income.

A furnished guesthouse let out with beds, wardrobes, and kitchen equipment is a common example. So is a factory shed leased along with the manufacturing machinery installed inside it. In both cases, the tenant is not just renting four walls; they are renting a functioning, equipped space.

Where this sits in the income tax law 🔗

Under the Income Tax Act, 1961, income from the composite letting of a building along with machinery, plant, or furniture is specifically dealt with under the residuary head, Income from Other Sources. This applies whenever such income is not already taxable as business income. So, for AY 2025-26 and earlier years, this rests on Section 56 of the Act.

What changes under the Income-tax Act, 2025 🔗

From 1 April 2026, the Income-tax Act, 2025, has replaced the 1961 Act, and the residuary income head has been reorganised. Composite letting income now falls under Section 92 of the new Act, which continues to treat income from letting out machinery, plant, or furniture, along with buildings that cannot be separated, as taxable under Income from Other Sources when it is not already chargeable as business income. Students working from older textbooks will see this referred to as Section 56(2)(iii); the concept and the computation remain the same under the new numbering, only the section reference has shifted.

How you tell if a letting is really inseparable 🔗

The tricky part is deciding whether a letting is genuinely composite or whether the building and the assets could, in principle, be let separately. This question has been settled by the courts rather than by a rigid formula in the Act itself.

The Sultan Brothers test 🔗

The landmark ruling on this came from the Supreme Court in Sultan Brothers (P) Ltd. v. CIT, a case involving a building constructed and furnished specifically to be leased out as a hotel. The rent for the building and the hire charges for the furniture were fixed separately in the lease, yet the court still treated the two as one inseparable letting. As later commentary on the ruling explains, courts examine three questions: whether the parties intended the building and the assets to be enjoyed together, whether the lease was structured as one single transaction, and whether either party would have accepted one letting without the other. As one detailed analysis of the ruling notes, if the first two answers are yes and the third is no, the letting is inseparable, and the composite rent must be taxed as a whole.

This means that even splitting rent into two neat figures on a lease deed does not automatically make the lettings separable. What the courts look at is the underlying business reality of the arrangement, not just how the invoice is drafted.

Composite letting vs separable letting 🔗

The tax treatment genuinely changes depending on which category a lease falls into. Here is how the two compare:

When does it slide into business income instead? 🔗

Composite letting is only taxed under Income from Other Sources when it is not chargeable as business income. If letting out equipped premises is itself the taxpayer’s regular business activity, such as running a serviced office or a marriage hall with catering equipment as a commercial venture, the income shifts to Profits and Gains of Business or Profession. The distinguishing factor is intent and continuity: is the owner simply exploiting an asset they own, or are they systematically organising a business around letting? A related case, Universal Plast Ltd. v. CIT, illustrates this well; a company that had wound down manufacturing and rented out its idle machinery was held to be earning house property or other sources income rather than business income, because the intention was to stop business, not continue it in another form.

Deductions available against composite rental income 🔗

The good news for taxpayers is that composite rental income is not taxed on the gross amount received. Section 57 of the 1961 Act, carried forward as Section 93 under the 2025 Act, allows specific deductions before arriving at taxable income.

Repairs and insurance 🔗

Any expenditure on current repairs to the building, machinery, plant, or furniture, along with the insurance premium paid to cover these assets against damage or destruction, can be claimed as a deduction. As Section 57 lays out, these deductions follow, so far as applicable, the same rules used for computing business income under Sections 30 and 31.

Depreciation, with one important condition 🔗

Normal depreciation on the machinery, plant, and furniture is deductible, computed under the regular provisions that apply to business assets. Depreciation on the building itself is also allowed, but only if the taxpayer is the actual owner of the property. A lessee or a mortgagee in possession cannot claim this deduction, since ownership is a strict precondition. As one summary of Section 57 puts it, only the owner of the asset can claim depreciation against it, which is a detail examiners often test directly.

Working through a simple computation 🔗

Suppose an owner lets out a factory building along with installed machinery for a composite monthly rent of Rs 1,00,000, and the two lettings are held to be inseparable. Over the year, the owner incurs Rs 80,000 on repairs and insurance combined, and is entitled to Rs 1,50,000 in depreciation on the building and machinery together.

Notice that there is no flat standard deduction here, unlike house property income, which usually enjoys a 30 percent deduction regardless of actual expenses. Under composite letting, the deduction is strictly tied to genuine expenditure and depreciation, so accurate record-keeping of repair bills, insurance receipts, and asset schedules becomes essential for the owner.

Why this distinction is worth getting right 🔗

Misclassifying composite rental income can lead to either overpaying tax by missing legitimate deductions or underpaying it by wrongly claiming a house property standard deduction that does not apply. For businesses that lease out equipped premises as a side activity, such as a manufacturer renting out unused factory space with machinery, getting the classification right also affects whether the income can be set off against business losses. Since the underlying tests come from case law rather than a simple checklist in the statute, examining the actual lease terms and the parties’ intent, rather than just the rent structure, is the safest way to arrive at the correct tax treatment.

What do you think? If you were structuring a lease for a furnished commercial space, would you deliberately keep the building rent and equipment hire separate to avoid the composite letting rules, or does bundling them make more commercial sense despite the tax treatment? And how would you argue inseparability if you were the taxpayer trying to justify a lower standard deduction claim?

References

1. https://www.incometaxindia.gov.in/w/income-from-other-sources-2
2. https://www.incometaxindia.gov.in/w/section-56-64
3. https://www.incometaxindia.gov.in/w/section-92-109
4. https://indiankanoon.org/doc/41029/
5. https://taxguru.in/income-tax/business-house-property-shift-taxing-rental-income.html
6. https://www.incometaxindia.gov.in/w/section-57-13
7. https://cleartax.in/s/section-57-of-the-income-tax