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Taxable-Salary-Components

Which Salary Components are Taxable?

Which Salary Components are Taxable?

Salary is one of the taxable heads of income under the Income Tax Act. There are a number of components in an employee’s salary. Some of them are fully taxable, some are partly taxable and some are completely exempted from income tax. If the taxpayer understands the taxation of every salary component, it becomes easier to carry out better tax planning. In this article, we look at the various components of salary and its taxability under the Income Tax Act.

 Salary ComponentSub-Category of the Component Information about the component Taxation
Basic SalaryFixed part of the salary which does not include benefits, bonuses or any other potential form of compensation from the employerFully Taxable
AllowancesDearness Allowance (DA)Cost of living adjustment allowance to mitigate the impact of inflation on people. It is calculated as a percentage of Basic SalaryFully Taxable
AllowancesHouse Rent Allowance (HRA)Cost of rent paid by an employee

Partly Taxable.

Tax Exemption is for the least of the following three :

  • Actual HRA received from the employer
  • Actual house rent paid minus 10% of your basic salary
  • 50% of basic salary for metro or 40% of basic salary for non-metro
AllowancesLeave Travel Allowance (LTA)Cost of employee’s travel to any place in India alone or with family

Tax Exemption based on criteria.

Tax Exemption is based on the below criteria :

  • LTA exemption is limited to the extent of actual travel costs incurred by the employee.
  • LTA exemption only in respect of two journeys performed in a block of four calendar years.
  • Travel has to be undertaken within India
AllowancesMedical AllowanceAllowance paid to meet the medical expensed of employee and his/her familyFully Taxable. 
AllowancesTransport AllowanceAllowance paid to meet the transport expenses

Partly Taxable.

Tax exemption on Transport Allowance is limited to ₹ 1,600 per month or ₹ 19,200 per annum. Transport Allowance over that amount is taxable.

Perquisites

Fringe Benefits that one enjoys on account of one’s job or position

Examples – Rent Free Accommodation, Motor Car Provided, Superannuation fund

Fully Taxable.

The equivalent monetary value of the Fringe Benefit provided by the employer is fully taxable.

Profits in lieu of salary

Additional payment in addition to one’s salary.

Examples – Compensation in connection with the termination of employment or modifications of T&C, any sum received under Keyman Insurance Policy

 Fully Taxable

Advance Salary

Advance salary is taxable in the same year that the employee receives it. Its rules of taxability are derived from the fundamental tax rules for this head, i.e., due or receipt basis, whichever is earlier. The employee is vested with the option of claiming relief under section 89.

Arrears of Salary

Taxes for arrears on salary will be levied on the year the employee receives it. The employee is vested with the option of claiming relief under Section 89.

Bonus

Bonuses received by an employee will be taxed on the year of receipt. Relief under section 89 can be availed in respect of arrears of bonus received during the particular year.

Fees or Commission

Fees or commission remitted to the employee is taxable as salary income. The commission will be taxable under this head whether received as a fixed monthly amount or as a percentage of any particular aspect such as turnover achieved by the employee, or the likes of it.

Salary in Lieu of Notice Period

Salary in lieu of notice period is taxed on a receipt basis, or in other words, on the year of receiving it.

Provision of Gifts to the Employee

Gifts received by the employee from an employer are taxable under the head “Salaries” as perquisites. Non-monetary gifts are exempted from income tax if their value is limited to Rs. 5,000. On the other hand, if the gift is not related to the services of the employee, it would be taxed under the head “Income from other sources.”

Compensation

Compensation accorded to an employee with respect to any modification in terms of employment is taxed as profits in lieu of salary.

Remuneration for Additional Work

Payments received for the additional services rendered by the employee will be taxed under the head salaries.

Allowances

Allowances are considered to be a part of the salary and hence a few of them are taxable, while the rest are partially or fully exempted. Let’s examine its taxability:

Taxable Allowances

The following allowances are taxable:

  • Dearness allowance
  • Entertainment allowance
  • Overtime allowance
  • City compensatory allowance
  • Interim allowance
  • Project allowance
  • Tiffin/meals allowance
  • Uniform allowance
  • Cash allowance
  • Non-practising allowance
  • Warden allowance
  • Servant allowance

Partially Taxable Allowances

The following allowances are partially exempted:

  • House Rent Allowance, except when it is fully exempt under Section 10
  • Fixed medical allowance
  • Special allowance
  • Conveyance allowance exceeding Rs.19,200 per annum under section 10
  • Entertainment allowance

Fully Exempted Allowances

The following allowances are entirely excluded from tax:

  • HRA up to 40% of the basic salary (50% for employees residing in Delhi, Mumbai, Chennai and Bangalore), if the actual rent paid exceeds the HRA amount plus 10% of basic.
  • Conveyance allowance up to Rs.1,600 per month or Rs.19,200 per annum.
  • Remittances to Government employees posted abroad.
  • Allowance accorded to UN employees.
  • Sumptuary allowance remitted to the judges of Supreme Courts and High Courts.
  • Compensatory allowances remitted to the judges of Supreme Court and High Courts.

Perquisites

Perquisites would be taxable on the perks offered by the employees at the rate of 30% of the value of fringe benefits. Taxes will be levied on the employer who provides these fringe benefits to employees. Perquisites are classified into taxable, exempted, and taxable only by employees. Taxable perquisites include the likes of rent-free accommodation, a supply of essential commodities, professional tax of employee, reimbursement of medical expense, free meals, gifts exceeding Rs. 5000, etc. Perquisites such as travel allowance, computer or laptop provided by the entity for official use, refreshments provided during work hours, provision of medical aid, provident fund contribution by employers, free medical and recreational facilities, etc, are completely exempted from tax. Besides, certain perquisites such as car owned by the company but sued by an employee, an education facility for children, free medical recreational facilities, etc, can only be taxed by employees.

Salary Received by Partner

Salary received by the partners in a firm is not taxable under the head “Salaries” as partners are not employees of a firm and as a consequence, there would be no employer-employee relationship. However, the salary received by a partner will be taxed under the head “Profits and gains of business.”

Salary received by an Indian Citizen Deployed Abroad

Salary remitted to an Indian citizen deployed abroad is treated as income deemed to be accrued or arisen in India and will be taxed under the head “Salary,” with the exemption of allowances and perquisites.

Salary Relinquished by Employee

Any amount of remuneration relinquished by an employee will be taxed on a due basis, even if it is not received by the concerned employee.

Surrender of Salary to the Central Government

In contrast to the normal relinquishment of salary, salary surrendered to the Central Government is not taxable.

Salary Received From the UNO

Salary received from the United Nations Organization (UNO) is not included in the purview of tax and hence will be exempted.

Payment Received Before Joining

Payments received by an employee before the individual had joined a particular job will be taxed as profit in lieu of salary.

Relief on Arrears of Salary

An employee will be entitled to claim relief on arrears of salary and other retirement benefits like gratuity, compensation on termination of employment, payments received on commutation of pension, and other payments.

To know about the concept of tax-free incomes in India, click here.

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