Salary Income under Income Tax

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Salary Income under Income Tax

Salary income refers to the compensation received by an employee from a current or former employer for the execution of services in connection with employment. Thus, income is taxable as salary under Section 15 only if an employer-employee relationship exists between the payer and payee. Salary income could be in any form such as gift, pension, gratuity, usual remuneration and so on. In this article, we look at various aspects of salary income under the Income Tax Act.

Meaning of Salary under Income Tax Act

Under the Income Tax Act, the term salary is defined to include the following:

  • Wages;
  • Annuity or pension;
  • Gratuity;
  • Fees, commissions, perquisites or profits in lieu of or in addition to any salary or wages;
  • Advance of salary;
  • Payment received by an employee in respect of any period of leave not availed by him/her;
  • The portion of annual accretion in any previous year to the balance at the credit of an employee participating in a recognised provident fund to the extent it is taxable;
  • Transferred balance in a recognised provident fund to the extent it is taxable;
  • Contribution by the Central Government to the account of an employee under a pension scheme referred to in section 80CCD (i.e NPS);

Computing Total Salary Income

While computing the chargeability to tax, salary consists of:

  • Any salary due from an employer (current or former) to an assessee in the previous year, whether actually paid or not;
  • Any salary paid or allowed to an employee in the previous year by or on behalf of an employer though not due or before it became due; and
  • Any arrears of salary paid or allowed to him in the previous year by or on behalf of an employer, if not charged to income tax for any earlier previous year.

Salary income is chargeable to tax either on a due basis or on receipt basis. Once salary has accrued, it is subsequent waiver is only an application of income and is liable to be taxed.

Taxability of Various Salary Components

Salary Component Taxability under Income Tax Act
Basic salary Taxable
Dearness allowance Taxable
Advance salary Taxable in the year received
Arrears of salary Taxable in the year received, if not taxed on due basis
Leave encashment at time of retirement Taxable – Exempt in some scenarios
Salary in lieu of notice Taxable on receipt
Salary to partner Taxable under the head of “Profits and gains of business or profession”
Fees and commission Taxable
Bonus Taxable
Gratuity Taxable – Exempt in some scenarios
Pension Taxable – Exempt in some scenarios
Annuity from Employer Taxable
Retrenchment compensation Exempt from tax to a certain extent
Remuneration for extra work Taxable
Salary to Foreign Citizens Taxable – Exempt in some scenarios

Salary Income

Amount taxable under the head “Salaries” is real salary and not fictitious salary. There should be an intention for both payment and receipt of a salary. There should be an intention to render services.

Who can receive Salary?

Salary is compensation for personalized services which could be provided by an ordinary human being and not an association or entity. Hence, salary income is chargeable in the hands of an individual only. No other type of individual such as firm or HUF, LLP or Company can earn salary income. Also, if the association of employer and employee prevails, the income that would be charged would be classed under the head “Salaries”. It does not matter whether the employee is working full time or part-time. Finally, any payment received by an employee from his present, former or prospective employer will be charged to tax under the head “Salaries”.

Income Not Salary

The benefits to be taxable under the head “Salaries” must be established by virtue of an office amounting to an occupation. Mere allotment of an office is not sufficient to bring the tax incidence under the head “Salaries”. Also, an income received by an individual from a person other than his employer cannot be termed as salary and subsequently, such income may not be taxable under the head “Salaries”. All such income must be accounted under the head “Profits and Gains of Business or Profession”.

Due Date & Calculation Period of Salary

Salaries are usually paid on the last working day of the month. The Minimum Wages Act 1948 governs the minimum wages and its calculation in India. As per the Act, if a company houses less than 1000 employees, then the salary is paid on 7th of every month. If the company houses more than 1000 employees, then the salary is paid on 10th of every month. In the case of government and semi-government employees, salary is due on the first day of the next month and for other employees, the salary is due on the last day of each month.

Period of Calculation

For Government Employees – 1st March to 28th February

For Private Employees – 1st April to 31st March

Leave Salary

In case of non-Government employee, leave salary is exempt from tax to the extent of the least of the following:

  • Cash equivalent of the leave salary in respect of the period of earned leave to the credit of an employee only at the time of retirement whether on superannuation or otherwise; or
  • 10 months average salary. Average salary is to be calculated on the basis of average salary drawn during the period of 10 months immediately preceding the retirement or superannuation; or
  • Amount not chargeable to tax as specified by the Government;
  • Leave encashment actually received at the time of retirement.

Tax on Suspended Employee’s Salary

During the suspension period, the employer is not permitted to essentially work and also is not provided with full compensation but only the necessary allowances, which would be taxable.

Tax-Free Salary in India

There is no notion of tax-free salary in India. Amount of tax paid by the employer on behalf of the employee shall comprise of the taxable revenue of the employee.

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