d. The loss of Rs. 5 lakhs of the non-speculative business is fully allowed to be set off against the income from a speculative business provided the assessee is resident and not ordinarily resident in India. 4. Ms. Bina Bisht is a salaried person who also owns multiple house properties. Her taxable salary income during the previous year is Rs. 10 lakhs. From the house properties she owns she suffered a loss of Rs. 3 lakhs. Which of the following statements is TRUE with reference to Ms. Bina? a. The entire loss under the head of house property is allowed to be set off against the income under the head income from salaries. b. The loss under the head of house property is NOT allowed to be set off against the income under the head income from salaries. c. The loss under the head of house property is allowed to be set off against the income under the head income from salaries to the extent of 50 per cent of the loss under the head house property, that is, Rs. 150,000. d. The loss under the head of house property is allowed to be set off against the income under the head income from salaries to the extent of Rs. 200,000. 5. Ms. Asha Ail is a salaried person who also owns runs a business. Asha's taxable salary income during the previous year is Rs. 10 lakhs. She suffered a loss of Rs. 500,000 under the head profits and gains from business and profession. Which of the following statements is TRUE with reference to Ms. Asha? a. The entire loss under the head of profits and gains from business and profession is allowed to be set off against the income under the head income from salaries. b. The loss under the head of profits and gains from business and profession is NOT allowed to be set off against the income under the head income from salaries. c. The loss under the head of profits and gains from business and profession is allowed to be set off against the income under the head income from salaries to the extent of 50 per cent of the loss under the head house property, that is, Rs. 250,000. d. The loss under the head of profits and gains from business and profession is allowed to be set off against the income under the head income from salaries to the extent of Rs. 200,000. Answer 51 1-a, 2-a, 3-b, 4-d, 5-b CU IDOL SELF LEARNING MATERIAL (SLM)
4.8 REFERENCES Reference Books Cruz, A., Deschamps, M., Niswander, F., Prendergast, D., & Schisler, D. (2018). Fundamentals of Taxation. New York: McGraw-Hill Education. Martin, E. A. (2003). The Dictionary of Law. Oxford: Oxford University Press. Singhania, V., & Singhania, K. (2021). Direct Taxes Law & Practice. New Delhi: Taxmann. Website: Income Tax Department. (2021, 4 1). Set Off and Carry Forward of Losses Under the Income Tax Act. Retrieved from Tutorials: https://www.incometaxindia.gov.in/Tutorials/21- %20MCQ%20set%20off%20and%20carry%20frwrd.pdf Institute of Chartered Accountants of India. (2019, February 1). Set off and Carry forward, of Losses. Retrieved from Western India Regional Council: https://www.wirc-icai.org/images/material/Key-Aspects-Carry-Forward-Set- Losses.pdf Sirwalla, P. (2012, January 31). Income Tax Deductions That You Should Not Miss. Business Today. Retrieved from https://www.businesstoday.in/magazine/tax/story/income-tax-deductions-24273- 2011-12-28 52 CU IDOL SELF LEARNING MATERIAL (SLM)
UNIT- 5 COMPUTATION OF INCOME TAX STRUCTURE 5.0 Learning Objectives 5.1 Introduction 5.2 Insurance Premium 5.3 Retirement Planning 5.4 Deposit Schemes 5.5 Child Development 5.6 Housing 5.7 Investments in Securities 5.8 Disability 5.9 Donations 5.10 Environment Protection 5.11 Royalty and Interest Income 5.12 Rate of Income Tax 5.13 Computation of Tax Liability 5.14 Summary 5.15 Keywords 5.16 Learning Activity 5.17 Unit End Questions 5.18 References 5.0 LEARNING OBJECTIVES After studying this unit, you will be able to: Explain the various deductions allowed to an assessed. State expected to compute the gross and net taxable income and determine the amount of income tax payable. 5.1 INTRODUCTION Deductions from Total Income 53 CU IDOL SELF LEARNING MATERIAL (SLM)
A taxpayer needs to compute his total income by aggregating the income earned by him from the following sources: Salaries House property Profits and gains from business and profession Capital gains Income from other sources For arriving at the taxable income, the taxpayer is allowed several deductions. The deductions allowed by the Income Tax Act, 1961 can be classified in two categories: Deductions specific to a head of income. Deductions allowed from total income. The deductions allowed by the Income Tax Act, 1961 are for two purposes. Deductions allowed to provide relief to taxpayer from tax payables. Examples of such deductions include standard deductions from salary income and income from house property. Deductions allowed to encourage certain behaviour and actions. Examples of such deductions include encourage to provide for one’s retirement, setting up industries in backward areas, etc. Types of Deduction The deductions allowed by the Income Tax Act, 1961 can be classified in two categories: Deductions specific to a head of income. Certain deductions are allowed while calculating tax under each head of income. Deductions allowed from total income. Certain deductions are allowed after calculating the total income from all the heads of income (Income Tax Department, 2021). Purpose of Deductions The deductions allowed by the Income Tax Act, 1961 are for two purposes. Deductions allowed to provide relief to taxpayer from tax payables Examples of such deductions include standard deductions from salary income and income from house property. Deductions allowed to encourage certain behaviour and actions. Examples of such deductions include encourage to provide for one’s retirement, setting up industries in backward areas, etc (Sirwalla, 2012). 54 CU IDOL SELF LEARNING MATERIAL (SLM)
5.2INSURANCE PREMIUM The following deductions are available for payment of insurance premium: Life Insurance Individual assesses are allowed deduction for the premium they pay for insuring their own life, and that of his spouse and children. An HUF is also allowed such deduction for insuring the life of any member of the HUF. Health Insurance Individual and HUF assesses are allowed deduction for the premium they pay for health insurance for specified person. Specified person means: (a) In case of Individual, self, spouse, dependent children, or parents; and (b) In case of HUF - any member of the HUF. Preventive Health Check-up Individual and HUF assesses are allowed deduction for preventive health check-up up to Rs. 5,000. Such payment may be made in cash. 5.3 DEDUCTIONS FOR RETIREMENT PLANNING The following deductions are available for investments made by an assessed towards retirement planning: Annuity Plans An annuity is a contract between the contract holder (called the annuitant) and an insurance company. An annuity is a contract in which a person pays a premium to an insurance company, usually in one lump sum, and in return receives periodic payments for an agreed period or for the rest of his or her life. An annuity has been described as the opposite of a life assurance as the policyholder pays the lump sum and the insurer makes the regular payments. Many people buy annuities as a kind of retirement-income insurance, which guarantees them a regular income stream after they have left the workforce, often for the rest of their life. There are two types of annuities: immediate and deferred. Immediate annuity involves the investor gives to the insurance company a lump sum of money and start receiving payments right away. Those payments can either be a fixed amount or a variable one, depending on the contract. A deferred annuity is a contract between the insurance company and the buyer as per which the buyer has to make a regular contribution towards the annuity plan and can receive the return in the form of monthly income or as a lump sum after the retirement. The contributions you make to the annuity grow until you take 55 CU IDOL SELF LEARNING MATERIAL (SLM)
income from the account. This period of regular contributions and tax-deferred growth is called the accumulation phase. Individual assesses are allowed deduction for contributing to a contract for a deferred annuity for themselves, and for their spouse and children. HUFs are allowed deductions on life of any of its member. Although, the deduction is allowed for contribution to annuity plans of any company, the annuity plans of LIC are explicitly recognised, namely New Jeevan Dhara, New Jeevan Akshay, etc. Pension Schemes The following deductions are allowed to individual assesses: (a) contribution to specified account of the pension scheme in case of central Government employees; (b) contributions to certain pension funds of LIC or any other insurer up to Rs. 1, 50,000; (c) contribution to pension scheme notified by Central Government up to 10 per cent of salary; and (d) contribution made by employer is also allowed as deduction while computing total income of the employee. Unit-Linked Insurance Plan (ULIP) A unit linked insurance plan (ULIP) is a multi-faceted product issued by insurance companies that combine insurance coverage and investment exposure in a single offering. This product requires policyholders to make regular premium payments, part of which are utilized to provide insurance coverage, while the remaining portions are pooled with assets from other policyholders, then invested in equity and debt instruments, much like mutual funds.Policyholders must commit an initial lump sum payment when they first buy into a ULIP, followed by annual, semi-annual, or monthly premium payments. Although the premium payment obligations vary from product to product, in all cases, they are proportionally invested towards a designated investment mandate. Individual assesses are allowed deduction for contributing to a unit-linked Insurance Plan of Unit Trust of India in the name of the individual, his spouse, or any child of such individual. The HUF is allowed such deductions in the name of any of its member.The above deduction is also allowed for contribution to notified unit-linked insurance plan of LIC Mutual Fund. Provident Fund A provident fund is a compulsory, government-managed retirement savings scheme used in India, and other developing countries. Employees contribute a portion of their salaries to the provident fund and employers must contribute on behalf of their employees. The money in the fund is then held and managed by the government, and eventually withdrawn by retirees or, their surviving families. In India, we also have Public Provident Fund (PPF). This scheme is a long-term investment option that offers an attractive rate of interest and returns on the amount invested. The interest earned and the returns are not taxable under Income Tax. 56 CU IDOL SELF LEARNING MATERIAL (SLM)
The following deductions are allowed to individual assesses: (a) contributions by an individual made under Employees' Provident Fund Scheme: (b) contribution by an employee to a recognised provident fund; (c) contribution by an employee to an approved superannuation fund. Individual assesses are allowed deduction for contributing to a Public Provident Fund Account in their own name and that of their spouse or any child of such individual. The HUF is allowed such deductions in the name of any of its member 5.4 DEDUCTIONSFOR DEPOSIT SCHEMES Deposit schemes are money deposited by investors with a financial institution for a fixed tenure. These deposits usually pay a fixed interest rate. These interest-earning accounts offer higher rates than savings accounts. However, these deposit accounts require that money be kept in the account for a set period. Sukanya Samriddhi Yojana (SSY) is a government-backed small savings scheme for the benefit of girl child. A Sukanya Samriddhi Account has tenure of 21 years or until the girl child marries after the age of 18. Senior Citizen Savings Scheme (SCSS) is designed with the primary objective to help senior citizens ensure a regular flow of income post retirement. Since SCSS is a government-backed investment scheme, it gives guaranteed returns on a quarterly basis. The following deductions are allowed to individual assesses. Subscription by an individual to any notified security or notified deposit scheme of the Central Government such as the Sukanya Samriddhi Account Scheme is eligible for deduction. Subscription to notified savings certificates such as the National Savings Certificates (VIII Issue). Deposit in an account under the Senior Citizen Savings Scheme Rules, 2004. 5-year term deposit in an account under the Post Office Time Deposit Rules, 1981. Term deposits for a fixed period of not less than 5 years with a scheduled bank, and which is in accordance with a scheme framed and notified. 5.5 DEDUCTIONS FOR CHILD DEVELOPMENT The following deductions are allowed to individual assesses. Deposit in the Name of the Girl Child Amount can be deposited by an individual or in the name of girl child of an individual or in the name of the girl child for whom such an individual is the legal guardian. 57 CU IDOL SELF LEARNING MATERIAL (SLM)
Children’s Tuition Fees Tuition fees (excluding development fees, donations, etc.) paid by an individual to any university, college, school, or other educational institution situated in India, for full time education of any two of his/her children. Interest Paid on Education Loan Amount paid out of income chargeable to tax by way of payment of interest on loan taken from financial institution approved charitable institution for the purpose of pursuing his higher education or for the purpose of higher education of his relative. The deduction is available for a maximum period of seven yearsassessment years immediately succeeding the initial assessment year. In this context relativemeans the spouse and children of that individual or the student for whom the individual is the legal guardian. 5.6 DEDUCTIONS FOR HOUSING The following deductions are allowed to individual assesses. Certain payments for purchase or construction of residential house property. Subscription to notified schemes of (a) public sector companies engaged in providing long-term finance for purchase or construction of houses in India for residential purposes (b) authority constituted under any law for satisfying need for housing accommodation or for planning, development or improvement of cities, towns, and villages, or for both. Subscription to notified deposit scheme or notified pension fund set up by National Housing Bank. Housing Loan Interest Interest payable on loan taken by an individual from any financial institution for the purpose of acquisition of a residential house property subject to certain condition. Maximum deduction is Rs. 50,000. Housing Loan Interest Paid by First Time Borrower Interest payable on loan taken by an individual assess, who does not own any residential house property on the date of sanction of loan, and who is not eligible to claim deduction under 80EE, from any financial institution for the purpose of acquisition of a residential house property subject to certain condition. Maximum deduction allowed is 1, 50,000. House Rent Generally, a deduction for housing rent is available under the head salaries for assesses who receive a house rent allowance from their employers. However, this deduction is allowed to individuals who do not receive any house rent allowance from their employers. The amount 58 CU IDOL SELF LEARNING MATERIAL (SLM)
deduction is the amount of rent paid in excess of 10 per cent of total income for residential accommodation. This deduction is subject to maximum of Rs. 5,000 per month or 25 per cent of total income, whichever is less. Affordable Housing Projects The affordable housing projects are mainly government focused real estate arena aimed to ensure housing for all. In the Union Budget 2020, the affordable housing developers were provided with a tax holiday for a year. The tax holiday has been further extended this year too.The entire profits and gains derived by assesse from the business of developing and building affordable housing projects are deductible from the total income. 5.7 DEDUCTIONSFOR INVESTMENTS IN SECURITIES The following deductions are available for investments in securities: Subscription to any units of any notified mutual fund or a scheme of the UTI such as the Equity Linked Saving Scheme. Contribution by an individual to any pension fund set up by any mutual fund or by the UTI such as the UTI Retirement Benefit Pension Fund. Subscription to equity shares or debentures forming part of any approved eligible issue of capital made by a public company or public financial institutions. Subscription to any units of any approved mutual fund, provided amount of subscription to such units is subscribed only in 'eligible issue of capital’. Subscription to notified bonds issued by the NABARD. 5.8 DEDUCTIONS FOR DISABILITY The following deductions are available for disability: Medical Treatment of Disabled Dependent Where a resident individual or a resident Hindu undivided family, incurs any expenditure for the medical treatment (including nursing), training and rehabilitation of a disabled dependent, an amount of Rs. 75,000 is allowed as deduction from the gross total income. The amount if this deduction is Rs. 1, 25,000 in case the dependent is a person with severe disability. Deposit Funds in a Scheme for Maintenance of a Disabled Dependant Where a resident individual or a resident Hindu undivided familypays or deposits any amount under an approved scheme of Life Insurance Corporation, etc., for the maintenance of a dependant, being a person with disability, an amount of Rs. 75,000 is allowed as deduction from the gross total income. The amount if this deduction is Rs. 1, 25,000 in case the dependent is a person with severe disability. 59 CU IDOL SELF LEARNING MATERIAL (SLM)
Medical Treatment Where a resident assesse has paid any amount for the medical treatment of specified disease or ailment (a) for himself or a dependant, in case the assesse is an individual; or (b) for any member of a HUF, the assesse is allowed a deduction of the amount actually paid or a sum of Rs. 40,000, whichever is less, in respect of that previous year in which such amount was actually paid. 5.9 DEDUCTIONS FOR DONATIONS Donations to certain approved funds, trusts, charitable institutions or donations for renovation or repairs of notified temples, etc. The amount of deduction is 50 per cent of net qualifying amount. The amount of deduction is100 per cent of qualifying donations if the same is to: (a) National Defence Fund, (b) Prime Minister's National Relief Fund, (c) Prime Minister’s Citizen Assistance and Relief in Emergency Situations Fund; and (d) National Children's Fund. Generally, assesses who have business income are allowed a deduction for donations to certain approved research organisations from the profits and gains from business and profession. But, what about assesses who do not have business income? Assesses not having any income chargeable under the head profits and gains of business or profession are also allowed donations for scientific, social, or statistical research or rural development programme or for carrying out an eligible project or scheme or National Urban Poverty Eradication Fund. 5.10 DEDUCTIONS FOR ENVIRONMENT PROTECTION The following deductions are available for environment protection: Electric Vehicle Any interest payable on loan taken by an individual from any financial institution for the purpose of purchase of an electric vehicle is allowed as a deduction from total income subject to a maximum deduction of Rs. 150,000. Bio-Degradable Waste The entire income from business of collecting and processing or treating of bio-degradable waste for generating power, or producing bio-fertilizers, bio-pesticides, or other biological agents or for producing biogas, making pellets or briquettes for fuel or organic manure is allowed as a deduction from total income for five consecutive assessment years. 60 CU IDOL SELF LEARNING MATERIAL (SLM)
5.11 DEDUCTIONS FOR ROYALTY AND INTEREST INCOME Royalty income of individual resident author of certain specified category of books is allowed as a deduction from total income subject to a maximum deduction of Rs. 300,000. Royalty on patents up to Rs. 300,000 in the case of a resident individual who is a patentee and is in receipt of income by way of royalty in respect of a patent registered on or after April 1, 2003. Interest income on deposits in savings bank accounts is allowed as a deduction from total income subject to a maximum deduction of Rs. 10,000 per year for individuals and HUFs (80TTA). Interest on deposit in saving account or fixed deposit is allowed as a deduction from total income subject to a maximum deduction of Rs. 50,000 per year for senior citizens. 5.12 RATE OF INCOME TAX The basic tax rates applicable to a resident individual will depend on the age of the individual. However, in case of a non-resident individual the tax rates will be same irrespective of his age.For the purpose of ascertainment of the applicable tax slab, an individual can be classified as follows: Resident individual below the age of 60 years. Resident individual of the age of 60 years or above at any time during the year but below the age of 80 years. Resident individual of the age of 80 years or above at any time during the year. Non-resident individual irrespective of the age. Basic Rates of Taxation for Individuals Net Income Range Rate of Income Tax AY 2022-23 AY 2021-22 Up to Rs. 250,000 Nil Nil Rs. 250,000 to Rs. 500,000 5% 5% Rs. 500,000 to Rs. 1,000,000 20% 20% Above Rs. 500,000 30% 30% Basic Rates of Taxation for Senior Citizens 61 CU IDOL SELF LEARNING MATERIAL (SLM)
Net Income Range Rate of Income Tax AY 2022-23 AY 2021-22 Up to Rs. 300,000 Nil Nil Rs. 300,000 to Rs. 500,000 5% 5% Rs. 500,000 to Rs. 1,000,000 20% 20% Above Rs. 500,000 30% 30% Basic Rates of Taxation for Super Senior Citizens Net Income Range Rate of Income Tax AY 2022-23 AY 2021-22 Up to Rs. 500,000 Nil Nil Rs. 500,000 to Rs. 1,000,000 20% 20% Above Rs. 500,000 30% 30% Surcharge and Health and Education Cess Surcharge is levied on the amount of income-tax at following rates if total income of an assessed exceeds specified limits. Surcharge: Assessment Year 2021-22 | 2022-23 Rs. 50 Lakhs and Rs. 1 Crore and Rs. 2 Crores and Rs. 5 Crores and Rs. 10 Crores Less than Rs. 1 Less than Rs. 2 Less than Rs. 5 Less than Rs. 10 and More Crore Crores Crores Crores 10% 15% 25% 37% 37% Health and Education Cess is levied at the rate of 4 per cent on the amount of income-tax plus surcharge. 5.13 COMPUTATION OF TAX LIABILITY There are three steps in computation of tax liability 1. Compute the gross total income from all the five heads of income. 62 CU IDOL SELF LEARNING MATERIAL (SLM)
a. Income from salary b. Income from house property c. Profits and gains of business or profession d. Capital gains e. Income from other sources 2. Subtract deductions from total income (Chapter VI-A) 3. The total taxable income is found out by subtracting (2) from (1) 5.14 SUMMARY For arriving at the taxable income, the taxpayer is allowed several deductions. The deductions allowed by the Income Tax Act, 1961 can be classified in two categories: (a) deductions specific to a head of income; and (b) deductions allowed from total income. In this unit we discussed the latter. These deductions are allowed to encourage certain behaviour and actions. Examples of such deductions include insurance premium, retirement planning, deposit schemes, child development, housing, investments in securities, disability, donations, setting up business in special states, specified businesses, environment protection, and royalty and interest income. The basic tax rates applicable to a resident individual will depend on the age of the individual. However, in case of a non-resident individual the tax rates are same irrespective of his age. There are three steps in computation of tax liability: (1) compute the gross total income from all the five heads of income; (2) subtract deductions from total income (Chapter VI-A); and (c) the total taxable income is found out by subtracting (2) from (1). 5.15 KEYWORDS e. Annuity. An annuity is a contract in which a person pays a premium to an insurance company, usually in one lump sum, and in return receives periodic payments for an agreed period or for the rest of his or her life. f. Cess. Cess is a form of tax levied over and above the base tax liability of a taxpayer. A cess is usually imposed to raise funds for specific purposes, such as health and education. g. Deferred Annuity. A deferred annuity is a contract between the insurance company and the buyer in which the buyer has to make a regular contribution towards the annuity plan and can receive the return in the form of monthly income or as a lump sum after the retirement. 63 CU IDOL SELF LEARNING MATERIAL (SLM)
h. Immediate Annuity. Immediate annuity is an annuity contract that begins to make payments as soon as the contract has come into force. i. Insurance Policy. An insurance policy is a document that sets out the terms and conditions of an insurance contract, stating the benefits payable and the premium required. j. Insurance Premium. Insurance premium the amount paid by insured to keep alive the insurance policy. The premium is paid either once or at regular intervals. k. Pension. Pension is a specified sum paid regularly to a person who has reached a certain age or retired from employment. It is normally paid from the date of reaching the specified age or the retirement date until death. l. Surcharge. Income tax surcharge is an additional charge payable on income tax by taxpayers having an income beyond a specified limit. 5.16 LEARNING ACTIVITY 1. Explain the deductions available regarding donations. ___________________________________________________________________________ _____________________________________________________________________ 2. Explain the deductions available regarding environment protection. ___________________________________________________________________________ _____________________________________________________________________ 5.17 UNIT END QUESTIONS A. Descriptive Questions Short Questions 1. Explain the concept of immediate annuity in brief. 2. Explain the concept of deferred annuity in brief. 3. Explain the concept of cess in brief. 4. Explain the concept of surcharge in brief. 5. Explain the concept of pension in brief. Long Questions 3. Discuss the purpose for allowing deductions from total income. 4. Explain the deductions available regarding insurance premium. 5. Explain the deductions available regarding retirement planning and deposit schemes. 6. Explain the deductions available regarding child development. 7. Explain the deductions available regarding housing. 64 CU IDOL SELF LEARNING MATERIAL (SLM)
8. Explain the deductions available regarding investments in securities. 9. Explain the deductions available regarding disability. B. Multiple Choice Questions 1. What is the amount of deduction allowed to individual and HUF assesses for preventive health check-up up? a. Rs. 50,000. b. Rs. 5,000. c. Rs. 10,000. d. Rs. 20,000. 2. Which of the following involves the investor giving to the insurance company a lump sum of money and start receiving payments right away? Those payments can either be a fixed amount or a variable one, depending on the contract. a. Immediate annuity b. Deferred annuity c. Ordinary annuity d. Annuity due 3. Hema Hatti is employed by a private company where she received a consolidated annual salary of Rs. 600,000 (Rs. 50,000 per month). She does not receive any allowances. She is staying in a rented property on which she pays annual rent of Rs. 84,000 (Rs. 7000 per month). What is maximum deduction allowed to Hema Hatti under Section 80GG? a. Rs. 5,000 b. Rs. 60,000 c. Rs. 24,000 d. Nil 4. Which of the following is described as the opposite of a life assurance as the policyholder pays the lump sum and the insurer makes the regular payments? a. Deposit b. Annuity c. Perpetuity d. Reverse Mortgage 65 CU IDOL SELF LEARNING MATERIAL (SLM)
5. What is the taxable income up to which the tax rate is nil for an individual is aged above 60 but who has NOT reached the age of 80? a. Rs. 250,000 b. Rs. 300,000 c. Rs. 500,000 d. Rs. 150,000 Answer 1-b, 2-a, 3-c, 4-b, 5-b 5.18 REFERENCE Reference Books Cruz, A., Deschamps, M., Niswander, F., Prendergast, D., & Schisler, D. (2018). Fundamentals of Taxation. New York: McGraw-Hill Education. Martin, E. A. (2003). The Dictionary of Law. Oxford: Oxford University Press. Singhania, V., & Singhania, K. (2021). Direct Taxes Law & Practice. New Delhi: Taxmann. Website Income Tax Department. (2021, 4 1). Set Off and Carry Forward of Losses Under the Income Tax Act. Retrieved from Tutorials: https://www.incometaxindia.gov.in/Tutorials/21- %20MCQ%20set%20off%20and%20carry%20frwrd.pdf Institute of Chartered Accountants of India. (2019, February 1). Set off and Carry forward, of Losses. Retrieved from Western India Regional Council: https://www.wirc-icai.org/images/material/Key-Aspects-Carry-Forward-Set- Losses.pdf Sirwalla, P. (2012, January 31). Income Tax Deductions That You Should Not Miss. Business Today. Retrieved from https://www.businesstoday.in/magazine/tax/story/income-tax-deductions-24273- 2011-12-28 66 CU IDOL SELF LEARNING MATERIAL (SLM)
UNIT- 6 TAX PLANNING FOR SALARIED 67 EMPLOYEES STRUCTURE 6.0 Learning Objectives 6.1 Income Chargeable to Salaries 6.1.1 What Does Salary Include? 6.1.2 Conditions for Considering Income as Salary 6.1.3 Chargeability of Salary 6.2 Taxability of Allowances 6.2.1 Children Education Allowance 6.2.2 House Rent Allowance 6.2.3 Allowance that are Exempted to the Extent of Actual Expenditure 6.2.4 Allowance that are Fully Taxable 6.3 Taxability of Perquisites 6.3.1 Taxable Perquisites 6.3.2 Tax-Free Perquisites 6.4 Tax Planning Relating to Individuals 6.5 Tax Planning Relating to Employee Remuneration 6.5.1 Employer’s Contribution to Provident Fund 6.5.2 Voluntary Retirement Benefits 6.5.3 Leave Encashment 6.5.4 Retrenchment Compensation 6.5.5 Gratuity 6.5.6 Compassionate Gratuity 6.5.7 Pension 6.6 Deduction from Salary 6.7 Summary 6.8 Keywords 6.9 Learning Activity CU IDOL SELF LEARNING MATERIAL (SLM)
6.10 Unit End Questions 6.11 References 6.0 LEARNING OBJECTIVES After studying this unit, you will be able to: The learning objectives of this unit is that students should be able to understand the various types of allowances that are taxable as salary and the two systems of taxation available to salaried persons. Based on the learning from this unit the students are also expected to work out which of the two options of taxation are best suited to an assessee whose income is predominantly in the form of salaries. 6.1 INCOME CHARGEABLE TO SALARIES A salary is a form of periodic payment from an employer to an employee. Income under the head salary covers all remuneration due to or paid to an individual for service rendered by him under an expressed or implied contract of employment. This module discusses the various incomes that form a part of salary, the chargeability of salary to income tax and the deductions allowed from gross salary for the purpose of determining the taxable income of an assessee. 6.1.1 What Does Salary Include? Salary includes basic salary, encashment of leave salary, advance of salary, arrears of salary, various allowances such as dearness allowance, entertainment allowance, house rent allowance, conveyance allowance and includes perquisites by way of free housing, free car, free schooling for children of employees, etc. The term salary includes remuneration in any form for personal service, under an expressed or implied contract of employment or service. The law defines salary to include: Wages; (b) annuity; (c) pension; (d) gratuity; (e) fees, commission, perquisites, profits in lieu of or in addition to salary or wages; (f) advance of salary; (g) leave encashment; (h) annual accretion to the balance of recognized provident fund; (i) transferred balance in recognized provident fund; and (j) contribution by central government or any other employer to employees’ pension account. 6.1.2 Conditions for Considering Income as Salary The following are the essential conditions for income to be treated as salary income: There must be relation of employer and employee between the payer of income and receiver of income. 68 CU IDOL SELF LEARNING MATERIAL (SLM)
Salary income must be real and not fictitious there must an intention to pay and receive salary. If an employee surrenders his salary to the central government, then the salary so surrendered is not treated as taxable income of the employee. Any salary, bonus, commission, or remuneration, by whatever name called, due to, or received by, a partner of a firm from the firm is not regarded as salary. 6.1.3 Chargeability of Salary Salary is chargeable to tax in the following circumstances: When due from the former employer or the present employer in the previous year, whether paid or not. When paid or allowed in the previous year, by or on behalf of a former employer or present employer, though not due or before it becomes due. When arrears of salary are paid in the previous year by or on behalf of a former employer or present employer, if not charged to tax in the period to which it relates. Salary is taxable in the year of receipt or in the year of earning of the salary income, whichever is earlier. If the salary has been received first (though not due), it will be taxable in the year of receipt. If it has been earned first but not received, then it will be taxable in the year of earning. Salary income is taxable in the hands of individuals only. No other type of person such as a firm, a HUF, or a company can earn salary income. Salary may be received from not just the present employer but also a prospective employer and, in some cases, even from a former employer. For example, pension may be received from a former employer and advance salary may be received from a prospective employer. Salary may also be received from more than one employer (KPMG, 2020). 6.2 TAXABILITY OF ALLOWANCES An allowance is defined as a monetary benefit given to an employee by the employer in addition to salary. Some allowances are specifically granted to meet expenses incurred wholly and necessarily in the performance of duties of office while other allowances are granted to compensate the employee for increased cost of living. Allowances are of various types such as entertainment allowance, house rent allowance, city compensatory allowance, dearness allowance, daily allowance, helper allowance, academic allowance and traveling allowance. All allowances are taxable under the law unless they are specifically exempt from tax. 6.2.1 Children Education Allowance 69 CU IDOL SELF LEARNING MATERIAL (SLM)
Where an employee receives an allowance for education of children, the same is exempt up to Rs. 100 per month per child up to a maximum of two children. Further, where an employee receives an allowance for hostel expenditure, the same is exempt up to Rs. 300 per month per child up to a maximum of two children. 6.2.2 House Rent Allowance House rent allowance received by an employee is taxable under the head salaries to the extent it is not exempt by the law. The exemption is denied where the employee lives in his own house or in a house for which he does not pay rent. If the employee is otherwise eligible for exemption of house rent allowance, the maximum exemption is the least of the following: Actual house rent allowance received by the employee in respect of the period during which the rented accommodation is occupied by the employee during the previous year. Excess of rent paid over 10 per cent of the salary for the relevant period. 50 per cent of the salary where the residential house is situated at Mumbai, Calcutta, Delhi, or Chennai and 40 per cent of the salary where the house is situated at any other place, for the relevant period. 6.2.3 Allowance that are Exempted to the Extent of Actual Expenditure The following allowances are exempted to the extent of actual expenditure: Conveyance allowance granted to meet the expenditure on conveyance in performance of duties of an office. Any allowance granted to meet the cost of travel on tour or on transfer. Daily allowance to meet the ordinary daily charges incurred by an employee on account of absence from his normal place of duty. Helper/assistant allowance. Research allowance granted for encouraging the academic research and other professional pursuits. Uniform allowance. 6.2.4 Allowance that are Fully Taxable The following allowances are fully taxable: City Compensatory Allowance Fixed Medical Allowance Tiffin, Lunch, Dinner or Refreshment Allowance Servant Allowance Project Allowance Overtime Allowance Telephone Allowance 70 CU IDOL SELF LEARNING MATERIAL (SLM)
Holiday Allowance Any Other Cash Allowance 6.3 PERQUISITE In addition to salaries and wages, employees often get some additional benefits from their employers. These additional benefits are called perquisites or simply, perk. Some examples of perquisites are reimbursement for educational expenses, rent-free accommodation, vacation time, life insurance coverage, and company cars. To get a clear understanding of the taxability of perquisites we may classify them in two categories: (a) taxable perquisites; and (b) tax-free perquisites. 6.3.1 Taxable Perquisites The following perquisites are taxable under the law: Value of rent-free accommodation provided to the assessee by his employer. Value of any concession in the matter of rent respecting any accommodation provided to the assessee by his employer. Value of any benefit or amenity granted or provided free of cost or at concessional rate by: (a) a company to an employee who is its director; (b) a company to an employee who has a substantial interest in the company. Any sum paid by the employer in respect of any obligation which, but for such payment, would have been payable by the assessee. Any sum payable by the employer, whether directly or through a fund, other than a recognised provident fund or an approved superannuation fund or a deposit-linked insurance fund to effectuate an assurance on the life of the assessee or to effectuate a contract for an annuity. 6.3.2 Tax-Free Perquisites The following benefits provided by employers to their employees are not considered perquisites: The allotment by a company to an employee of any shares, debentures, or warrants, free of cost or at a discount, under an Employees Stock Option Plan or Scheme, provided the plan or scheme is drawn in accordance with the guidelines issued in this behalf by the Central Government. The use of any vehicle provided by an employer for journey by the assessee from his residence to his office or other place of work, or from such office or place to his residence. The value of any medical treatment provided to an employee or any member of his family in any hospital maintained by the employer. 71 CU IDOL SELF LEARNING MATERIAL (SLM)
Any sum paid by the employer in respect of any expenditure actually incurred by the employee on his medical treatment or treatment of any member of his family: (a) in any hospital maintained by the Government or any local authority or any other hospital approved by the Government for the purposes of medical treatment of its employees; (b) in respect of certain diseases or ailments, in any hospital approved by the Chief Commissioner having regard to the prescribed guidelines, provided that the employee shall attach with his return of income a certificate from the hospital specifying the disease or ailment for which medical treatment was required and the receipt for the amount paid to the hospital. Any portion of the premium paid by an employer in relation to an employee, to effect or to keep in force an insurance on the health of such employee, or a member of his family, under any scheme approved by the Central Government or the Insurance Regulatory and Development Authority (IRDA). Any sum paid by the employer in respect of any premium paid by the employee to effect or to keep in force an insurance on his health or the health of any member of his family under any scheme approved by the Central Government or the Insurance Regulatory and Development Authority (IRDA). Any sum paid by the employer in respect of any expenditure actually incurred by the employee on his medical treatment or treatment of any member of his family if the sum does not exceed fifteen thousand rupees in the previous year. Any expenditure incurred by the employer on: (a) medical treatment of the employee, or any member of the family of such employee, outside India; (b) travel and stay abroad of the employee or any member of the family of such employee for medical treatment; and (c) travel and stay abroad of one attendant who accompanies the patient in connection with such treatment. 6.4 TAX PLANNING RELATING TO INDIVIDUALS The basic rate of income tax for individuals and HUFs in the highest slab is 30 per cent. However, like in case of domestic companies, the government has offered an alternative method to such individuals and HUFs which offers them lower rates of taxation provided they satisfy certain conditions. This alternative system is called as the New Optional Tax System (NOTS) The government offered various tax concessions to individuals and HUFs to encourage certain types of businesses and incentives certain types of activities. Over the years, these provisions have resulted in creating a complex web of incentives, conditions, limitations, and controls. There was a demand by the taxpayers to reduce the rate of taxation so that they would be relieved from the burden of taxation. 72 CU IDOL SELF LEARNING MATERIAL (SLM)
Responding to the demand of taxpayers, the government has reduced the rate of income tax applicable to individuals and HUFs to as low as 5 per cent, provided they do not claim any deduction which they were earlier eligible to claim. While introducing this scheme, the government also recognised that some individuals and HUFs may wish to continue with the old system. Therefore, while introducing the new scheme the government has given an option to individuals and HUFs to either choose the new scheme or to continue with the traditional system. The new system of taxation for salaries employees is discussed below. Finance Act, 2020 has introduced a New Optional Tax System for Individuals and HUFs to provide for concessional rate of slab rates to be applied on total income calculated without claiming specified deductions and exemptions. Hence, from AY 2021-22 or FY 2020-21, there are two operative tax system(Directorate of Income Tax, 2021): The existing tax system where all the applicable deductions and exemptions are allowed and the tax rates are as per the slab rates of tax specified in the Finance Act, 2020; and The optional tax system under which many deductions and exemptions have not been allowed but lower slab tax rates. Only a person, being an individual or a Hindu undivided family having income other than income from business or profession”, may exercise option in respect of a previous year to be taxed under the New Optional Tax System. The concessional rate provided under New Optional Tax System is subject to the condition that the total income shall be computed without specified exemption or deduction, set-off of loss and additional depreciation. The following special rate are applicable under New Optional Tax System Net Income Range AY 2021-22 Up to Rs. 250,000 Nil Rs. 250,000 to Rs. 500,000 5% Rs. 500,000 to Rs. 750,000 10% Rs. 750,000 to 10,00,000 15% Rs. 10,00,000 to Rs. 12,50,000 20% Rs. 12,50,000 to Rs. 15,00,000 25% Above Rs. 15,00,000 30% 73 CU IDOL SELF LEARNING MATERIAL (SLM)
6.5 TAX PLANNING RELATING TO EMPLOYEE REMUNERATION 6.5.1 Employer’s Contribution to Provident Fund A provident fund is a compulsory retirement savings scheme used in India, and other developing countries. Workers give a portion of their salaries to the provident fund and employers must contribute on behalf of their employees. The money in the fund is then held and managed by the government or a private entity, and eventually withdrawn by retirees or, in certain countries, their surviving families. In some cases, the fund also pays out to the disabled who cannot work. For taxation, the law classifies provident funds in four categories: (a) statutory provident funds; (b) recognised provident funds; (c) unrecognised provident funds; and (d) public provident fund. A statutory provident fund is provident fund meant for Government or semi-Government employees, university or educational institutions affiliated to a university established under the statue or other specified institution. This fund is set up under the Provident Fund Act, 1925.An employer’s contribution to a statutory provident fund is fully exempt.Any interest credited to the statutory provident fund is also fully exempt.Any payment received at the time of retirement or termination of service is fully exempt. A recognised provident fund is one that is approved by the income tax commissioner. It applies to organisations or factories with 20 or more employees. An employer’s contribution to a recognised provident fund to the extent of 12 per cent of the salary (basic salary + dearness allowance) is exempt from tax. The remaining contribution is added to the employee’s income. Any interest credited to the recognised provident fund to the extent of 9.50 per cent is exempt from tax; the rest is added to the employee’s income.Any payment received at the time of retirement or termination of service is fully exempt subject to the condition that: (i) the employee has rendered continue service with his employer (including previous employer, when PF account is transferred to current employer) for a period of five years or more; or (ii) where the employee has been terminated because of certain reasons which are beyond his control such as, ill health, discontinuation of business of employer, etc. An unrecognised provident fund is one that is not approved by an income tax commissioner. An employer’s contribution to an unrecognised provident fund is taxable in the hands of the employee. Further, any interest credited to an unrecognised provident fund is added to the employee’s income.Any payment received at the time of retirement or termination of service, except the contribution by the employer, is fully exempt, The public provident fundis governed by Public Provident Fund Act, 1968. Any person, whether in employment or not, may contribute to Public Provident Fund. However, employers are not required to contribute to the Public Provident Fund. 74 CU IDOL SELF LEARNING MATERIAL (SLM)
6.5.2 Voluntary Retirement Benefits Company who believes that they are over-staffed encourage their employees to opt for voluntary retire from employment by offering cash incentives. The Scheme applies to an employee who has completed ten years of service or attained 40 years of age. The scheme applies to all employees except directors of a company. The rationale for framing the scheme is to reduce the overall strength of employees and the vacancy created by voluntary retirement is not to be filled up. The retiring employee shall not be employed with any company belonging to the same management. The amount of tax exemption is the least of the following: Actual amount received as per the guidelines Three months’ salary for each completed year of services Salary at the time of retirement multiplied by the number of months of services left for retirement Rs. 5,00,000 6.5.3 Leave Encashment Leave encashment refers to an amount of money received in exchange for a period of leave not availed by an employee. Encashment of accumulated leave can be availed by an employee at the time of retirement, during the continuation of service or at the time of leaving the job. The leave encashment policy varies from employer to employer. Some employers pay for the unavailed leaves in the next calendar year. Some let the employees carry forward the balance leaves in a year to the next year. And the employer pays for the unavailed leaves at the time of leaving the job. Income tax treatment of the amount received towards leave encashment depends on type of employment - private or government - and time of - in service or at the time of retirement. Government Employee. Any encashment of unutilized earned leave at the time of retirement of Government employees is fully exempt. Non-Government Employee. Any encashment of unutilized earned leave at the time of retirement of a non-government employee is taxable subject to the following exemption. Least of the following shall be exempt from tax: Amount received. Unutilized earned leave times the average monthly salary. While computing unutilized earned leave, earned leave entitlements cannot exceed 30 days for each year of service rendered to the current employer. Ten months average salary immediately preceding the retirement. Rs. 300000 75 CU IDOL SELF LEARNING MATERIAL (SLM)
For the above purpose, salary includes the sum of: (i) basic pay; (ii) dearness allowance (to the extent it forms part of retirement benefits); and (iii) turnover-based commission. 6.5.4 Retrenchment Compensation Retrenchment is the termination of an employee by an employer for reasons other than a punishment meted out by disciplinary action. Employees terminated in such a manner are financially compensated by the employer. This kind of compensation is known as retrenchment compensation. Retrenchment does not include the following: Voluntary retirement of the employee. Employee’s retirement at the age of superannuation. Termination due to non-renewal of the contract. Termination owing to continued illness. Retrenchmentcompensation received by a workman under the Industrial Dispute Act, 1947 is exempt from income tax as follows: Least of the following shall be exempt from tax: 15 days average pay for each completed year of continuous service or any part thereof in excess of six months as calculated per labour laws; or Rs. 5,00,000; or Amount received. 6.5.5 Gratuity The work 'gratuity' is derived from French gratuité or gratuitatem, which means, gift. Gratuity is given by the employer to her employee for the services rendered by her during the period of employment. It is usually paid at the time of retirement but can be paid earlier, provided certain conditions are met. A person is eligible to receive gratuity only if he has completed minimum five years of service with an organisation. However, it can be paid before the completion of five years at the death of an employee or if he has become disabled due to accident or disease. For determining the taxability of gratuity under the income tax law, the employees are classified in three categories: Government Employees Gratuity received by a government employee (other than employees of statutory corporations) is fully exempt. Non-Government Employees Covered Under Gratuity Act, 1972 Gratuity received by non-government employees who are covered under Gratuity Act, 1972 is exempt to the extent of the least of the following: 76 CU IDOL SELF LEARNING MATERIAL (SLM)
15/26 times the last drawn salary times completed year of service or part thereof in excess of six months. Rs. 20,00,000 Gratuity received. For the above purpose, salary includes dearness allowance but does not exclude any bonus, commission, house rent allowance, overtime and any other allowance, benefits, or perquisite. Non-Government Employees Not Covered Under Gratuity Act, 1972. Gratuity received by non-government employees who areNOT covered under Gratuity Act, 1972 is exempt to the extent of the least of the following: Half month’s average salary times completed years of service. Rs. 20,00,000 Gratuity received. For the above purpose, salary includes basic pay, dearness allowance (to the extent it forms part of retirement benefits) and turnover based commission. 6.5.6 Compassionate Gratuity Sometimes, an employer makes a gratuitous payment to family member of an employee who dies while in service. This is called at compassionate gratuity. This amount is fully exempt in the hands of the widow or other legal heirs of an employee who dies while still in active service. Similarly, any gratuitous payment to a person (or legal heirs) by Central or state government, local authority or public sector undertaking consequent upon injury to the person or death of family member while on duty is fully exempt from income tax. 6.5.7 Pension A pension is an amount of money paid regularly by an employer to a person who does not work anymore because they are too old or have become ill. Instead of receiving a pension payment over a period the employee may choose to receive a lump sum at the time of retirement. This is called as commutation of pension. Commutation refers to the act of changing a financial agreement so that someone receives the whole of an amount of money immediately instead of receiving it later in a series of smaller payments. Family pension is granted to the widow, or widower and where there is no widow-widower to the children of an employee who is dead or retired and at the time of his death was in receipt of pension. Family pension is payable to the children up to 25 years of their age, or marriage or till they start earning a monthly income exceeding a specified amount. Family pension is payable to wholly dependent parents of the deceased employee, when the employee is not survived by a widow, widower, or eligible child. The family pension will be 77 CU IDOL SELF LEARNING MATERIAL (SLM)
payable to mother first, failing which to the father. If the son or daughter, of an employee is suffering from any disorder or disability of mind or is physically crippled or disabled to render him or her unable to earn a living even after attaining the age of 25 years, the family pension can continue to be paid for lifetime subject to conditions. The taxability of pension under income tax law is covered by the following provisions: Commuted pension received by an employee of the Central Government, state government, local authority and statutory corporation is fully exempt. Commuted pension received by other employees who also receive gratuity, an amount equal to one-third of full value of commuted pension is exempt from income tax. Commuted pension received by other employees who do not receive any gratuity, an amount equal to one-half of full value of commuted pension is exempt from income tax. Family pension received by the family members of armed forces is fully exemptfrom income tax. Family pension received by the family members of employees other than armed forces is exemptfrom income tax to the extent of one-third of family pension subject to maximum of Rs. 15,000. 6.6 DEDUCTION FROM SALARY The following deductions are available under the head salaries. Standard Deduction Standard deduction may be deducted of Rs. 50,000 or the amount of salary, whichever is lower Entertainment Allowance Entertainment allowance received by the government employees can be deducted. However, entertainment allowance received by a non-government employee is fully taxable. Employment Tax and Professional Tax An amount actually paid during the year is deductible. However, if professional tax is paid by the employer on behalf of its employee than it is first included in the salary of the employee as a perquisite and then same amount is allowed as deduction. 6.7 SUMMARY For arriving at the taxable income, the taxpayer is allowed several deductions. The deductions allowed by the Income Tax Act, 1961 can be classified in two categories: 78 CU IDOL SELF LEARNING MATERIAL (SLM)
(a) deductions specific to a head of income; and (b) deductions allowed from total income. In this unit we discussed the latter. These deductions are allowed to encourage certain behaviour and actions. Examples of such deductions include insurance premium, retirement planning, deposit schemes, child development, housing, investments in securities, disability, donations, setting up business in special states, specified businesses, environment protection, and royalty and interest income. The basic tax rates applicable to a resident individual will depend on the age of the individual. However, in case of a non-resident individual the tax rates are same irrespective of his age. There are three steps in computation of tax liability: (1) compute the gross total income from all the five heads of income; (2) subtract deductions from total income (Chapter VI-A); and (c) the total taxable income is found out by subtracting (2) from (1). 6.8 KEYWORDS Allowance. An allowance is a fixed amount received by a salaried employee from his employer to meet specified needs or expense other than his basic salary. For example, dearness allowance, medical allowance, etc. Gratuity.A gratuity is a monetary benefit given by the employer to his employee at the time of retirement. Pension. Pension is a specified sum paid regularly to a person who has reached a certain age or retired from employment. It is normally paid from the date of reaching the specified age or the retirement date until death. Perquisite. A perquisite is a benefit which one enjoys or is entitled to on account of one's job or position. Retrenchment. Retrenchment means termination of service of a workman by the employer by any reason but other than punishment or disciplinary action. 6.9 LEARNING ACTIVITY 1. Explain the taxability of amount received by a person as family pension. ___________________________________________________________________________ _____________________________________________________________________ 2. Explain the various deductions allowed under the head income from salaries. ___________________________________________________________________________ _____________________________________________________________________ 79 CU IDOL SELF LEARNING MATERIAL (SLM)
6.10UNIT END QUESTIONS A. Descriptive Questions Short Questions 1. Explain the concept of gratuity in brief. 2. Explain the concept of retrenchment in brief. 3. Explain the concept of allowance in brief. 4. Explain the concept of perquisite in brief. 5. Explain the concept of gratuity in brief. Long Questions 1. Discuss the conditions under which an income is charged under the head salaries. 2. Enumerate the various incomes which are chargeable under the head salaries. 3. Explain the concept of an allowance and enumerate which allowances are taxable and which are not. 4. Explain the concept of a perquisite and enumerate which perquisites are taxable and which are not. 5. Explain the rationale for the New Optional Tax System for salaried employees. 6. Explain the taxability of employer’s Contribution to the following: 7. Statutory provident fund 8. Recognised provident fund 9. Unrecognised provident fund 10. Explain the taxability of amount received by an employee under the voluntary retirement scheme. 11. Explain the taxability of amount received by an employee under the leave encashment scheme. 12. Explain the taxability of amount received by an employee as compensation for retrenchment. 13. Explain the taxability of amount received by an employee as gratuity. 14. Explain the taxability of amount received by an employee as compassionate gratuity. 15. Explain the taxability of amount received by an person as pension. B. Multiple Choice Questions 80 CU IDOL SELF LEARNING MATERIAL (SLM)
1. Ms. Asha receives an allowance from her employer for the education of her three children at the rate of Rs. 1000 per child per month. How much of this allowance she received during the previous year is exempted from income tax? a. Rs. 2400 b. Rs. 3600 c. Rs. 36000 d. Rs. 24000 2. Ms. Bhavana stays in a house owned by her. She receives a sum of Rs. 300,000 as house rent allowance (HRA) from her employer during the previous year. If she were to rent out her house, she would receive a sum of Rs. 200,000 as rent. Her annual salary is Rs. 900,000. What amount of HRA is exempt under income tax? a. Nil b. Rs. 200,000 c. Rs. 300,000 d. Rs. 90,000 3. Ms. Bhavani stays in a rented house in Mumbai for which she pays an annual rent of Rs. 400,000. She receives house rent allowance (HRA) of Rs. 120,000 from her employee during the previous year. Her annual salary is Rs. 600,000. What amount of HRA is exempt under income tax? a. Rs. 120,000 b. Rs. 340,000 c. Rs. 300,000 d. Rs. 400,000 4. Ms. Babita stays in a rented house in Aurangabad for which she pays an annual rent of Rs. 240,000. She receives house rent allowance (HRA) of Rs. 200,000 from her employee during the previous year. Her annual salary is Rs. 600,000. What amount of HRA is exempt under income tax? a. Rs. 200,000 b. Rs. 180,000 c. Rs. 240,000 d. Rs. 150,000 81 CU IDOL SELF LEARNING MATERIAL (SLM)
5. Ms. Arzoo is currently employed with Asia International and has drawn a salary of Rs. 12, 00,000 from this company during the previous year. Before she joined Asia International, she was temporarily employed with Occidental Enterprises from whom she had drawn a salary of Rs. 1,00,000 during the previous year. During the previous year Arzoo also work as a selling agent for Sinovac Corporation. She did not draw any salary from this company but received a commission of Rs. 200,000 for the sales effected by her. What is the amount chargeable to tax under the head salaries? a. Rs. 12,00,000 b. Rs. 13,00,000 c. Rs. 15,00,000 d. Rs. 13,50,000 Answer 1-a, 2-a, 3-c, 4-b, 5-c 6.11 REFERENCE Reference Books Cruz, A., Deschamps, M., Niswander, F., Prendergast, D., & Schisler, D. (2018). Fundamentals of Taxation. New York: McGraw-Hill Education. Martin, E. A. (2003). The Dictionary of Law. Oxford: Oxford University Press. Singhania, V., & Singhania, K. (2021). Direct Taxes Law & Practice. New Delhi: Taxmann. Website Income Tax Department. (2021, 4 1). Set Off and Carry Forward of Losses Under the Income Tax Act. Retrieved from Tutorials: https://www.incometaxindia.gov.in/Tutorials/21- %20MCQ%20set%20off%20and%20carry%20frwrd.pdf Institute of Chartered Accountants of India. (2019, February 1). Set off and Carry forward, of Losses. Retrieved from Western India Regional Council: https://www.wirc-icai.org/images/material/Key-Aspects-Carry-Forward-Set- Losses.pdf Sirwalla, P. (2012, January 31). Income Tax Deductions That You Should Not Miss. Business Today. Retrieved from https://www.businesstoday.in/magazine/tax/story/income-tax-deductions-24273- 2011-12-28 Directorate of Income Tax. (2021). Salary Income and Tax Implications for AY 2020-21. New Delhi. Retrieved from 82 CU IDOL SELF LEARNING MATERIAL (SLM)
https://www.incometaxindia.gov.in/booklets%20%20pamphlets/salary-income- tax-implications-ay-20-21.pdf KPMG. (2020, January 30). India: Income Tax. Retrieved from Taxation of International Executives: https://home.kpmg/xx/en/home/insights/2011/12/india- income-tax.html 83 CU IDOL SELF LEARNING MATERIAL (SLM)
UNIT- 7 CORPORATE TAXATION 84 STRUCTURE 7.0 Learning Objectives 7.1 Exempted Incomes 7.2 Corporate Taxation 7.2.1 Definition of Company 7.2.2 Features of a Company 7.2.3 Types of Companies for Tax Purposes 7.2.4 Taxation of Domestic Companies 7.2.5 Taxation of Dividends and Share Buybacks 7.2.6 Tax on Distributions by Mutual Funds 7.2.7 Taxes on Share Premium 7.3 Computation of Income under Different Heads of Income 7.3.1 Salaries 7.3.2 House Property 7.3.3 Profits and Gains from Business and Professions 7.3.4 Capital Gains 7.3.5 Other Sources 7.4 Set Off and Carry Forward of Losses 7.4.1 Intra-Head Set Off of Losses 7.4.2 Inter-Head Set Off of Losses 7.4.3 Carry Forward of Losses 7.5 Deductions out Of Gross Total Income 7.6 Ratesof Tax 7.6.1 Basic Rates of Taxation for Individuals 7.6.2 Basic Rates of Taxation for Senior Citizens 7.6.3 Basic Rates of Taxation for Super Senior Citizens 7.6.4 Surcharge and Health and Education Cess 7.7 Summary CU IDOL SELF LEARNING MATERIAL (SLM)
7.8 Keywords 7.9 Learning Activity 7.10Unit End Questions 7.11References 7.0 LEARNING OBJECTIVES After studying this unit, you will be able to: Explain the various issues involved in taxation of corporate assesse. State the expected to compute the gross and net taxable income and determine the amount of income tax payable by a company. 7.1 EXEMPTED INCOME Generally, the entire income person earned by a taxpayer is chargeable to tax. However, in order to provide relief to some taxpayers and to encourage some activities and businesses, the government exempts some income from being included in the taxable income of a taxpayer. Some income is fully exempt, whereas some other incomes are partially exempt. Purpose of Exempting Income The exemptions allowed by the Income Tax Act, 1961 are for two purposes. Certain income is exempted from being included in the taxable income of the taxpayer to provide relief to taxpayer from tax. Examples of such deductions include exemption of house rent allowance from taxable income. Similarly, certain post- retirement benefit earned by salaried employees is exempted from income. Certain income is exempted from being included in the taxable income of the taxpayer to encourage certain behaviour and actions. Examples of such exemptions include encouragement tonon-resident persons to invest in the Indian financial institutions in convertible foreign currency. The following are the examples of fully exempt income. Agriculture Income Any income earned by a person from agriculture activities including income from the land, or processing or renting out agricultural land and certain income from farmhouses is fully exempt from income tax. Income of Coparcener of an HUF A Hindu Undivided Family (HUF) is a separate taxable entity. However, a HUF is not recognised as a separate legal entity, as such the members or coparceners of a HUF and the 85 CU IDOL SELF LEARNING MATERIAL (SLM)
HUF itself are intertwined. In order to provide relief to the members or coparceners of a HUF, the law exempts the income received by them from the HUF exempt from tax The rationale for this exemption is that the said income is chargeable to tax in the hand of the HUF and if the income is taxed in the hands of the members it would result in double taxation .A coparcener of a HUF is someone who acquires a right in the ancestral property by birth and a person who has a right to demand partition in the HUF property. Income of a Partner from a Partnership Firm A partnership firm, including a limited liability partnership firm is a separate taxable entity. However, a partnership is not recognised as a separate legal entity, as such the partners and the firm it are intertwined. In order to provide relief to the partners, the law exempts the income received by them from the partnership firm exempt from tax The rationale for this exemption is that the said income is chargeable to tax in the hand of the partnership firm and if the income is taxed in the hands of the partners it would result in double taxation. This exemption is restricted to the share of profit received by a partner. This exemption is not applicable to any salary received by a partner, or interest received by a partner, from the partnership firm. Certain Income of Non-Resident Persons In order to encourage non-resident persons to invest in the Indian financial institutions in convertible foreign currency, several incomes of such persons is exempted from income tax. The following are some examples of exempted income. Interest received by non-resident person from their investment in notified securities and notified bonds. Interest earned from money deposited by non-resident persons in the Non-Resident (External) Account. Interest earned by a non-resident person who also happens to be a person of Indian origin from investment in certain savings certificates of the Central Government is exempt if the investment was made in the convertible foreign currency. Certain Salary Income In order to provide relief to salaried persons, several incomes of such persons is exempted from income tax. The following are some examples of exempted income. Leave travel concession received by a salaried person for travel to any place in India during his service period or after the retirement from service is exempt from income to the extent of the actual expenditure and subject to several conditions. The remuneration received by persons who are not citizens of India in respect to services rendered in India is exempt subject to several conditions. 86 CU IDOL SELF LEARNING MATERIAL (SLM)
A perquisite provided by the Government of India to its employees serving outside India is exempt subject to several conditions. 7.2 CORPORATE TAXATION Companies are by far the most common vehicles used to carry on business activity both in India and around the world. They have become so because governments have legislated to provide companies with various incentives, rights, and privileges. Governments have successfully used the law to create a legal framework favourable to form various types of companies. 7.2.1 Definition of Company The law defines company as: A company means a company incorporated under the Companies Act, 2013 (CA 2013) or under any previous company law. A company was defined by John Marshall as follows: A company is an artificial being, invisible, intangible, and existing only in the contemplation of the law. Among the most important [of its qualities] is immortality, and if the expression were allowed, individuality; properties by which a perpetual succession of many persons may be considered the same and may act as a single individual (Dignam & Lowry, 2016). The process of becoming a corporation, called incorporation, gives the entity a separate legal standing from its members and protects them from being personally liable if the entity is sued. Incorporation also provides companies with a more flexible way to manage their ownership structure. In these respects, corporations differ from sole proprietorships and partnership firms. 7.2.2 Features of a Company There are several distinct features of a company. The following fives features are the most important. Legal Personality A company is a legal entity, which, while being composed of natural persons, exists completely separately from them. This separation gives the corporation unique powers which other legal entities lack. A company is different and distinct from its members in law. It has its own name and its own seal, and its assets and liabilities are separate and distinct from those of its members. A company capable of owning property, incurring debt, borrowing money, having a bank account, employing people, entering into contracts, and suing other persons and being sued in its own name. The classic statement of the principle of corporate personality is found in Lennard's Carrying Co. Ltd. v Asiatic Petroleum Co. Ltd. (1915), where Lord Haldane said: 87 CU IDOL SELF LEARNING MATERIAL (SLM)
My Lords, a company is an abstraction. It has no mind of its own any more than it has a body of its own; its active and directing will must consequently be sought in the person of somebody who is really the directing mind and will of the corporation, the very ego and centre of the personality of the corporation (Villiers, 2006). Limited Liability of Shareholders The liability of a member of a corporation is limited to the extent of face value of shares held by him. The members cannot be called upon to pay more than the face value of the shares held by them. Several reasons are proffered for limited liability. The justifications are that limited liability: Creates an incentive to invest – increasing the level of economic activity, Encourages socially desirable high-risk projects. Permits the functioning of an efficient capital market. Enables the promotion of large projects. Diminishes agency and social costs and spreads risk efficiently. Encourages diversified portfolios. Avoids litigation and bankruptcy costs. Transferability of Shares The capital of the company is divided into shares. A share is an indivisible unit of capital. Shares in a company are freely transferable, subject to certain conditions. When a member transfers his shares to another person, the transferee steps into the shoes of the transferor and acquires all the rights of the transferor in respect of those shares. A crucial element in the success of the company as a form of business association is the idea of the transferable share. Shares in a company are transferable in the manner provided for in the company’s articles. In respect of the company, in theory, changes of the shareholders can be accomplished conveniently and with a minimum of disruption to the company’s business. Delegated Management The number of members or shareholders may be so large and scattered that they cannot manage the company collectively. In companies the shareholders elect directors, who appoint managers. Directors are supposed to represent shareholders' interests and to determine the broad policies that the managers will carry out. In order to conduct the complicated business of running a large firm, a full-time professional management group must be given broad powers of decision. Although managerial decisions can be reviewed from time to time, they cannot be supervised in detail. Investor Ownership As soon as a company is incorporated, it acquires a separate legal personality. This operates as a shield - the courts will not normally look beyond the façade of the company to the 88 CU IDOL SELF LEARNING MATERIAL (SLM)
shareholders who comprise it. The screen separating the company from its individual shareholders and directors is commonly referred to as \"the veil of incorporation\". 7.2.3 Types of Companies for Tax Purposes The Companies Act, 2013 recognises and defines several types of companies, such as: company limited by shares, company limited by guarantee, unlimited limited company, private company, one Person Company, small company, public company, listed company, non-profit company, Nidhi Company, associate company, subsidiary company, holding company, Government Company, and foreign company. The world of commerce had added further to the list several companies such as offshore company, Shell Company, and vanishing company. For the purpose of Income Tax, the following types of companies have been distinguished: Indian company Domestic company Foreign company Widely held company Closely held company Infrastructure capital company Indian Company The Income Tax Act, 1961 defines the expression ‘Indian Company’ as: A company formed and registered under the Companies Act, 2013 and includes (a) a company formed and registered under any law relating to companies formerly in force in any part of India; (b) any corporation established by or under a central, state or provincial act; (c) any institution, association or body which is declared by the CBDT to be a company; and (d) in the case of any of the union territories of a company formed and registered under any law for the time being in force in that union territory. The registered or principal office of the company, corporation, institution, association, or body in all cases should be in India (Singhania & Singhania, 2021). Domestic Company The Income Tax Act, 1961 defines the expression ‘Domestic Company’ as: Domestic company is defined as an Indian company or (a) any other company which, in respect of its income liable to tax under the Income Tax Act; (b) has made the prescribed arrangements for the declaration and payment within India, of the dividends (including dividends on preference shares) payable out of such income. 89 CU IDOL SELF LEARNING MATERIAL (SLM)
Thus, a non-Indian company would be considered as a domestic company if it makes the prescribed arrangements for the declaration and payment of dividends in India on which tax is deductible under Section 194. The prescribed arrangements are as follows: The share register of the company concerned, for all its shareholders, shall be regularly maintained at its principal place of business within India in respect of any assessment year from a date not later than the first day of April of such year. The general meeting for passing the accounts of the previous year relevant to the assessment year declaring any dividends in respect thereof shall be held only at a place within India. The dividends declared, if any, shall be payable only within India to all shareholders. Foreign company Foreign company as a company, which, is not a domestic company. However, all non-Indian companies are not necessarily foreign companies. If a non-Indian company has made the prescribed arrangements for declaration and payments of dividends within India, such a non- Indian company must be treated as a “domestic company” and not as a “foreign company”. Widely Held Company A widelyheld company is defined as a company in which the public are substantially interested. The following are examples of when a company is said to be one in which public are substantially interested: A company owned by Government or the Reserve Bank of India or in which not less than 40 per cent of the shares, whether singly or taken together, are held by the Government or the Reserve Bank of India or a corporation owned by the Reserve Bank of India. A not-for-profit company registered under Section 8 of the Companies Act, 2013. A company having no share capital declared by CBDT. Nidhi or Mutual Benefit Society. A company where more than 50% shares are held by co-operative society. Listed company. Closely Held Company A company in which the public is not substantially interested is known as a closely held company.The distinction between a closely held and widely held company is significant from the following viewpoints. The law deems certain payments as dividend, is applicable only to the shareholders of a closely held company; and A closely held company is allowed to carry forward its business losses only if certain specified are fulfilled. 90 CU IDOL SELF LEARNING MATERIAL (SLM)
Infrastructural Capital Company Infrastructural Capital Company is defined as a company which makes investments in one or more of the following manners. By way of acquiring shares. Providing long-term finance to any enterprise or undertaking wholly engaged in certain specified business. An undertaking developing and building a housing project referred to in Section 80IB (10). A project for constructing a hotel of not less than three-star category as classified by the Central Government or a project for constructing a hospital with at least 100 beds for patients. 7.2.4 Taxation of Domestic Companies The basic rate of income tax for domestic company is of 25 per cent if its turnover or gross receipt does not exceed Rs. 400 crores in the previous year 2019-20. The rate of tax is 30 per cent otherwise.However, like in case of individuals, the government has offered an alternative method to such companies which offers them lower rates of taxation provided they satisfy certain conditions. The government offered various tax concessions to companies to encourage certain types of businesses and incentives certain types of activities. Over the years, these provisions have resulted in creating a complex web of incentives, conditions, limitations, and controls. There was a demand by the business community to reduce the rate of taxation so that the domestic companies would become competitive vis-à-vis foreign companies operating, both in India and abroad. Responding to the demand of the business community, the government has reduced the rate of income tax applicable to certain domestic companies to as low as 15 per cent, provided they do not claim any deduction which they were earlier eligible to claim. While introducing this scheme, the government also recognised that some domestic companies may wish to continue with the old system. Therefore, while introducing the new scheme the government has given an option to domestic companies to either choose the new scheme or to continue with the traditional system. The new system of taxation of domestic companies is discussed below: Domestic Companies (115BA) A company is liable to pay taxes at the rate of 25% provided the following conditions are satisfied (Government of India, 2021): Company has been set-up and registered on or after March 1, 2016. 91 CU IDOL SELF LEARNING MATERIAL (SLM)
Company is only engaged in business of manufacture or production of any article or thing and research in relation to, or distribution of, such article or thing manufactured Total income of the company has been computed without set off of any loss Depreciation is determined in the manner as may be prescribed. Further, the total income of the company must have been computed without any deduction for the following: Newly established Units in Special Economic Zones (10AA). Additional depreciation in the case of any new machinery or plant acquired and installed by an assessee engaged in the business of manufacture or production of any article or thing or in the business of generation or generation and distribution of power. Investment in new plant or machinery. Business of growing tea in India. Business of prospecting, extraction, or production of petroleum or natural gas in India. Amount paid for scientific research. Amount paid to certain NGOs. Deductions under 80C to 80U. Domestic Companies (115BAA) A domestic company is liable to pay taxes at the rate of 22% provided the following conditions are satisfied (Government of India, 2021): Company is only engaged in business of manufacture or production of any article or thing and research in relation to, or distribution of, such article or thing manufactured. Total income of the company has been computed without set off any loss Depreciation is determined in the manner as may be prescribed. Further, the total income of the company must have been computed without any deduction for the following: Newly established Units in Special Economic Zones (10AA). Additional depreciation in the case of any new machinery or plant acquired and installed by an assessee engaged in the business of manufacture or production of any article or thing or in the business of generation or generation and distribution of power. Investment in new plant or machinery. Business of growing tea in India. Business of prospecting, extraction, or production of petroleum or natural gas in India. 92 CU IDOL SELF LEARNING MATERIAL (SLM)
Amount paid for scientific research. Amount paid to certain NGOs. Deductions under 80C to 80U. New Manufacturing Domestic Companies (115BAB) A company is liable to pay taxes at the rate of 15 per centif it satisfies the following conditions (Government of India, 2021): The company is incorporated on or after October 1, 2019. Further, the company must commence production on or before March 31, 2023. Company is only engaged in business of manufacture or production of any article or thing and research in relation to, or distribution of, such article or thing manufactured. Further, the total income of the companymust have been computed without any deduction for the following: Newly established Units in Special Economic Zones (10AA). Additional depreciation in the case of any new machinery or plant acquired and installed by an assessee engaged in the business of manufacture or production of any article or thing or in the business of generation or generation and distribution of power. Investment in new plant or machinery. Business of growing tea in India. Business of prospecting, extraction, or production of petroleum or natural gas in India. Amount paid for scientific research. Amount paid to certain NGOs. Deductions under 80C to 80U. 7.2.5 Taxation of Dividendsand Share Buybacks Profitable companies regularly face three important questions: How much of our free cash flow should we pass on to shareholders? Should we provide this cash to stockholders by raising the dividend or by buying back shares? Should we maintain a stable, consistent payment policy, or should we let the payments vary as conditions change? Meaning of Dividends As applied to a company that is a going concern, dividend ordinarily means the portion of the profits of the company which is allocated to the holders of shares in the company. In the case 93 CU IDOL SELF LEARNING MATERIAL (SLM)
of winding up, dividend means a division of the realized assets among creditors and contributories according to their respective rights. Sources of Dividends A company may declare and pay dividends from three sources: current profit, past profits, and from government grants. Current Profits A company declaring dividends out of current profits has to compulsorily transfer certain proportion of profits to reserves. Past Profits While declaring dividends out of past profits: (a) the rate of dividend must not exceed average rate of for last five years or ten per cent whichever is less; (b) the total amount drawn from the reserves must be less than or equal to ten per cent of paid up capital and free reserves; (c) and the balance of reserves after drawl should not be less than 15 per cent of the total amount drawn from the paid up capital and free reserves Government Grants Such grants are usually given by the government in pursuance of guarantees provided by it to some companies. Dividend Distribution Tax Up to assessment year 2020-21, where any domestic company paid dividend to its shareholders, it had to pay a tax on such dividend. This tax was called as the dividend distribution tax. The shareholders who received such dividends from domestic companies were not liable to pay any tax on such dividend. Dividend distribution tax was a tax on dividend (interim or final) declared, distributed, or paid by a company (whether out of current or accumulated profits) on or after June 1, 1997 (excluding previous year 2002-03). Dividend distribution tax was in addition to income tax on total income. This tax was applicable only to domestic company. However, the dividend distribution tax has been rescinded from assessment year 2020-21. Now, when a shareholder received dividend from a domestic company, he has to pay tax and not the company (Government of India, 2021). Inter-Corporate Dividend It is very common for companies to invest in the shares of other companies. When they do so they may receive dividends from other companies. Inter-corporate dividend refer to the dividends received by one company from another company in respect of the shares held by the former. The taxability of inter-corporate dividend in the hands of a domestic company 94 CU IDOL SELF LEARNING MATERIAL (SLM)
depends upon whether it was received from another domestic company or from a foreign company. Domestic company receives dividend from another domestic company The provisions of section 80M removes the cascading effect by providing that inter-corporate dividend shall be reduced from total income of company receiving the dividend if same is further distributed to shareholders one month prior to the due date of filing of return. Domestic company receives dividend from a foreign company Dividend received by a domestic company from a foreign company, in which such domestic company has 26 per cent or more equity shareholding, is taxable at a rate of 15 per cent plus Surcharge and Health and Education Cess. Such tax shall be computed on a gross basis without allowing deduction for any expenditure. Dividend received by a domestic company from a foreign company, in which equity shareholding of such domestic company is less than 26 per cent, is taxable at normal tax rate. The domestic company can claim deduction for any expense incurred by it for the purposes of earning such dividend income. Taxation of Share Buybacks A share buyback refers to the process by which a company repurchases its own shares from its shareholders by paying them cash. Shares may be bought back by a tender process, reverse book building, or open market purchases on the stock markets. In a buyback, a company uses internal resources to buy back its issued equity from its shareholders. The shares bought back are extinguished, resulting in a corresponding reduction in the company’s equity. A company can buy back its shares either by making a tender offer to all its shareholders at a pre-determined price and buying back on a proportionate basis, or by buying in the secondary market at market prices. Rationale for Share Buyback Companies launch a share buyback (stock repurchase) programme for several reasons, such as the following: Presence of surplus cash and absence of profitable investment opportunities. Rationalize capital structure. Pre-empt takeovers. Company management feels that the shares are undervalued. Enables controlling shareholders to enhance their hold on the company. Offer exit route to investors if the company’s shares are illiquid. Share Buyback Vs Dividend 95 CU IDOL SELF LEARNING MATERIAL (SLM)
Company with surplus cash prefer buying back shares rather than paying dividends because of the following reasons: Dividends don’t reduce the equity base. Dividends may raise expectations. Shareholders may expect similar dividends in the future, which may not be possible. Dividends do result in the improvement in ratios like EPS, P/E. Sources of Share Buybacks The company may use the following resources for buying back its securities Free reserves Securities premium account Proceeds of an earlier issue of another class of security Taxation of Buyback Share Vs Dividends Till recently, Indian companies were required to pay a dividend distribution tax at an effective rate of 20.56 per cent. Indian companies showed a preference for share buybacks to escape the dividend distribution tax. To discourage this practice the government imposed a long-term capital gains tax of ten per cent on sale of equity shares in the buy-back process if the gain was more than Rs. 100,000. Despite this, companies went for buy-backs in large numbers. Companies preferred to use their free cash to buy back shares as opposed to paying dividends as payment of dividends was subject to dividend distribution tax. To counter this preference for buy-backs over dividends and the consequent loss of tax, the government introduced a ‘buy back tax’ of at the rate of 20 per cent on share buy-backs by listed companies. This tax is payable on the difference between the buyback price and the issue price (Government of India, 2021). Impact of Removal of Dividend Distribution Tax The Union Budget 2020 has removed the provision of dividend distribution tax. Now, dividend will be taxable in the hands of the shareholder. It is estimated that this would result in resident shareholders in the highest tax bracket being burdened with additional tax at the rate of 28.49 per cent. Foreign portfolio investors, on the other hand, stand to gain due to the double taxation avoidance treaties. On balance, it is expected that now companies will shift their preference from share buy-backs to dividends. Current Position of Tax of Share Buyback 96 CU IDOL SELF LEARNING MATERIAL (SLM)
Buyback of shares by domestic companies. Company is subject to additional income-tax @23.296%. Shareholder of specified securities are liable to tax on income arising to shareholders exempt (Government of India, 2021) . Buyback of shares by a company, other than a domestic company. Not subject to tax in the hands of the company. Shareholders of specified securities are liable to tax on income arising to them as capital gains under section 46A (Government of India, 2021). Buyback of specified securities by any company. Not subject to tax in the hands of the company. Shareholders of specified securities are liable to tax on income arising to them as capital gains under section 46A. 7.2.6 Tax on Distribution of Income by Mutual Funds Any amount of income distributed by a mutual fund, to its unit holders after April 1, 2003, but on or before March 31, 2020, is chargeable to tax and the Mutual Fund becomes liable to pay additional tax on such distribution. Section 10(35), which provides an exemption to the unit holder in respect of income distributed by a Mutual Fund, is withdrawn from Assessment Year 2021-20. Thus, any income distributed by a Mutual Fund received during the financial year 2020-21 and onwards shall not be taxed under section 115R and shall now be taxable in the hands of the Unit holders. [As amended by Finance Act, 2020]. 7.2.7 Taxes on Share Premium Share premium is the amount payable for shares in a company and issued by the company itself in excess of their nominal value. Share premiums received by a company must be credited to the share premium account. The balance in this account cannot be ordinarily used to distribute dividends to shareholders. About taxation of share premium, the Income Tax Act, 1961 states that: where a company, not being a company in which the public are substantially interested, receives in any previous year, from any person being a resident, any consideration for issue of shares that exceeds the face value of such shares, the aggregate consideration received for such shares as exceeds the fair market value (FMV) of the shares, shall be chargeable to tax under the head “Income from other sources” In case of issue of shares at premium by listed companies, share premium is not considered as income. However, in case of un-listed companies, premium can be considered as income in case the price charged at the time of issue of share is more than face value (that is at premium) and is also higher than fair market value. Provided that this clause shall not apply where the consideration for issue of shares is received: (a) by a venture capital undertaking from a venture capital company or a venture capital fund; or (b) by a company from a class or classes of persons as may be notified by the Central Government in this behalf. 97 CU IDOL SELF LEARNING MATERIAL (SLM)
7.3 COMPUTATION OF INCOME UNDER DIFFERENT HEADS OF INCOME A taxpayer needs to compute his total income by aggregating the income earned by him from the following sources: 7.3.1 Salaries A salary is a form of periodic payment from an employer to an employee. Income under the head salary covers all remuneration due to or paid to an individual for service rendered by him under an expressed or implied contract of employment. Salaries include allowances. An allowance is defined as a monetary benefit given to an employee by the employer in addition to salary. Some allowances are specifically granted to meet expenses incurred wholly and necessarily in the performance of duties of office while other allowances are granted to compensate the employee for increased cost of living. In addition to salaries and wages, employees often get some additional benefits from their employers. These additional benefits are called perquisites or simply, perk. Some examples of perquisites are reimbursement for educational expenses, rent-free accommodation, vacation time, life insurance coverage, and company cars. Finance Act, 2020 has introduced a New Optional Tax System for Individuals and HUFs to provide for concessional rate of slab rates to be applied on total income calculated without claiming specified deductions and exemptions. Hence, from AY 2021-22 or FY 2020-21, there are two operative tax systems (Directorate of Income Tax, 2021): Three deductions are available under the head salaries: (a) standard deduction; (b) entertainment allowance; and (c) employment tax and professional tax. Standard deduction may be deducted of Rs. 50,000 or the amount of salary, whichever is lower. Entertainment allowance received by the government employees can be deducted. However, entertainment allowance received by a non-government employee is fully taxable. An amount actually paid during the year is deductible. However, if professional tax is paid by the employer on behalf of its employee than it is first included in the salary of the employee as a perquisite and then same amount is allowed as deduction. This topic of computation of income under the head salaries is discussed in more detail in Unit 6 of this course. The computation of income under the head salaries is computed using the following format: Sr# Particulars Amount A Income Chargeable Under Salaries 1 Basic Salary 98 CU IDOL SELF LEARNING MATERIAL (SLM)
2 Fees, Commission and Bonus 3 Allowances 4 Perquisites 5 Retirement Benefits B Deductions from Salary Income Gross Salary XXX 1 Standard Deduction 2 Entertainment Allowance Total Deduction XXX 3 Employment Taxes: Professional Tax Net Salary Income (A-B) XXX C 7.3.2 Income from House Property Income from house property refers to the inherent capacity of property to yield income. This essay discusses what constitutes income from house property, and what does not. It also discusses the deductions available for computing the taxable amount chargeable to income tax. The law defines income from house property to mean the 'annual value' of any 'building or lands appurtenant thereto' owned by the assessee. The charge is not on the rent received, but on the inherent potential of the property to generate incomes. It may be noted that it is only the 'owner' of a property who is assessed under this head. Thus, if a tenant, or lessee, or a licensee lets out the property any income received by him will not be taxable under this head, but under the head 'profits or gains from business', or as the case may be, income from other sources. Annual Value Income from house property is the annual value of the property. The defines annual value of any property as: a. The sum for which the property might reasonably be expected to let from year to year; or b. Where the property or any part of the property is let and the actual rent received or receivable by the owner in respect thereof is in excess of the sum referred to in ‘a’, the amount so received or receivable; or 99 CU IDOL SELF LEARNING MATERIAL (SLM)
c. Where the property or any part of the property is let and was vacant during the whole or any part of the previous year and owing to such vacancy the actual rent received or receivable by the owner in respect thereof is less than the sum referred to in (a), the amount so received or receivable. From the above definition we can see that the annual value of a house property is primarily the income that an owner can generate from the property. But how do we determine notional annual value, that is, ‘the sum for which the property might reasonably be expected to let from year to year’? Valuation done by municipalities or other local authorities may be taken as a basis. Further, some states in our country have enacted rent control laws, which prescribe the standard rent that can be charged by a landlord. In such cases, the standard rent is taken as the basis for determining the annual value of the house property. These bases have been approved by the Supreme Court. Annual value is not the annual money benefit derivable by the property; it is rather the inherent capacity of the property to yield income. It is immaterial whether he generates that income or not. Thus, if a property can be let out for an annual rent of Rs. 60000, then the annual value of the property is taken as Rs. 60000, even though the owner may not have let out the property. If the property is let out and the rent is more than the notional annual value, then the annual value is the actual rent received or receivable. For example, if a property can be let out for an annual rent of Rs. 60000, but is let out for an annual rent of Rs. 100,000, then the annual value is Rs. 100,000, and not Rs. 60000. On the other hand, if the property is let out, and the annual rent is less than the notional annual value, then the actual rent received, or receivable is to be ignored. For example, if a property can be let out for an annual rent of Rs. 60000, but is let out for an annual rent of Rs. 50000, then the annual value is Rs. 60000. Further, it is possible that a property is let out, but for whatever reason, remains vacant during a period. As a relief, the law provides that if a property is let out and was vacant during the whole, or part, of the previous year, and the actual rent received or receivable was lower than the notional annual value, then the actual rent received, or receivable is taken as the annual value. Self-Occupied Property The law provides that the annual value of a house is taken as nil if: (i) it is occupied by the owner for the purpose of his own residence; or (ii) it cannot be occupied by the owner due to his employment, business or profession carried out at any other place and he must stay in that place in a building not belonging to him. The annual value of one house or any part thereof is to be taken as nil if the same or its part is in the occupation of the owner for his residence for the whole year and if no other benefit is 100 CU IDOL SELF LEARNING MATERIAL (SLM)
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