How to Optimize Salary Structure to Reduce Tax Burden?

An individual’s salary structure includes various components that can help in reducing his/her tax liability. If one can optimally utilize all the allowances that they receive as a part of their salary and claim all the applicable deductions while filing their ITR, they can reduce their tax burden significantly. This article will throw some light on how to better plan your salary structure to minimize tax liability.

What are the Allowances and Deductions that can Reduce the Tax Liability?

Following are the salary components that will help in reducing the tax burden:

House Rent Allowance

House Rent Allowance is a component that is provided to employees who are staying in rented accommodation. In order to claim this exemption, it is necessary that it forms a part of one’s salary structure. The lowest amount from the following is exempt from taxes:

  • Actual HRA received;
  • Actual rent paid less 10% of basic salary
  • 50 % of basic salary plus dearness allowance if staying in metro cities (Mumbai, Kolkata, Delhi or Chennai) or 40 % of basic salary plus dearness allowance if staying in non-metro cities.

Children Education Allowance

Children Education Allowance is given in order to support an employee’s child’s education. A monthly allowance of INR 100 per month i.e. INR 1200 per annum per child is exempt from taxation. This exemption can be claimed for a maximum of 2 children. Individuals can also claim deduction under section 80C for the tuition fees that are paid for the child’s education.

Hostel Expenditure Allowance

Hostel Expenditure Allowance of INR 300 per month i.e. INR 3600 per annum per child is provided to meet the hostel expenditure of the employee’s children. This exemption can be claimed for a maximum of 2 children.

Phone Bill Reimbursement

Phone Bill Reimbursement covers the cost of broadband Internet connection as well as a mobile phone bill. It is to be noted that this benefit may be given only to specific employees and not all.

Food Coupons

Food/Meal Allowance is provided by the employees to meet the food expense an employee may incur. This allowance is in the form of coupons. Coupons up to INR 50 per meal are exempt from taxation. This means that annually if there are 22 working days in a month and 2 meals a day then an employee can claim INR 26,400 as an exemption from his salary.

Leave Travel Allowance

Leave Travel Allowance is given by the employees to help meet the travel expenses incurred while travelling with family in India. The exemption is provided on the mode of travel to the destination and back i.e., economy air travel or AC railway travel. An employee can claim this allowance for two journeys taken in the block on four calendar years.

Gift Vouchers

The gift or voucher that given by the employer whose value is not more than INR 5000 annually can be claimed as an exemption if it becomes part of the salary.

Newspaper/Journal Allowance

If the employee has to gain extra knowledge for the job by subscribing to newspapers and journals, then he/she can claim a Newspaper/Journal allowance by showing the bills of the subscriptions taken.

Uniform Allowance

An employer provides Uniform Allowance to meet the expenses of purchase/maintenance for wearing a uniform while working.

Car Maintenance Allowance

An employee can claim an exemption of the car expenses partially or fully depending on the ownership of the car. If the ownership of the car is with the employer, the employee using that car will pay tax on a prerequisite of INR 2,700 per month (car with engine capacity up to 1,600 cc) or INR 3,300 per month (car with engine capacity more than 1,600cc) in respect of the aggregate of the actual lease rent, driver’s salary, maintenance expenses and fuel expenses borne by the employer. If the employee owns the car, he can claim an exemption of INR 2,700 per month or INR 3,300 per month.

How are these Allowances Calculated in a Salary?

Let us take an example to understand how to maximize tax savings by structuring your salary efficiently.

Ms Mehra is an employee at a reputed bank and earns INR 10,00,000 per annum. Let us examine her salary structure in two different manners:

Particulars Salary Structure 1 Salary Structure 2
Basic Salary 5,00,000 4,00,000
+ HRA 3,00,000 2,00,000
+ Provident Fund (12%) 60,000 48,000
(+) Standard Allowance (Conveyance allowance + medical reimbursement) 40,000 40,000
(+) Leave Travel Allowance 30,000 30,000
(+) Other Allowances 70,000 2,82,000
Total 10,00,000 10,00,000
(-) Exempted HRA 2,50,000 2,00,000
(-) Standard Allowance 40,000 40,000
(-) Leave Travel Allowance 30,000 30,000

(-) Other allowances

Meal allowance
Mobile bill reimbursement
Gift voucher
Child’s education allowance
Child’s hostel allowance
Newspaper/Journal allowance
Internet Bill reimbursement
26,400
10,000
5,000
2,400
7,200
16,000
 12,000
Total taxable Salary 6,80,000 6,51,000
Less: Profession Tax Paid 2,500 2,500
Income under the head Salary 6,77,500 6,48,500
(-) Deductions under Section 80C 1,50,000 1,50,000
Total Taxable Income 5,27,500 4,98,500
Tax on income 18,720 12,920
Saving in tax   5,800

Which ITR Form to file?

  • If an individual earns income from salary has to file ITR 1 if the total salary is below INR 50 lakhs, inclusive of both salary income and income from other sources.
  • ITR 2 must be filed if the individual has other income apart from salary like income from more than one house property, income from capital gains and IFOS.

Professional Tax : Meaning, Rates, and Applicability

In your Form 16 or Salary slips you may have come across “Professional Tax” along with other Salary breakups. Your employer pays this tax to the state government on your behalf. The deduction is generally of INR 200. The amount of professional tax differs from state to state. Not all states in India chose to levy this tax. State Government is also empowered to make laws with respect to profession tax.

What is Professional Tax?

It is not only the tax levied on professionals, but it is a tax on all kinds of professions, trades, and employment. And it is levied based on the income of such profession, trade, and employment. It is levied on employees, a person carrying on the business including freelancers, professionals, etc., subject to income exceeding the threshold if any. This tax is levied by a state government. Further, this tax can be paid either online/offline.

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Professional Tax Slab

The rate of professional tax varies from one state to another. However, the limit has been set to Rs. 2500 per year as per Article 276 of the Constitution. Therefore, each state declares a slab, and the tax is deducted on the basis of these slabs. Here are some illustrative Profession Tax slabs in a few states:

Maharashtra

Income per month (INR) Tax per month in INR
Up to 7500 for Men Nil
Up to 10000 for Women Nil
7500 TO 10000 for Men 175
10000 and above 200 ( And 300 for February)

Gujarat:

Income per month (INR) Tax per month (INR)
Upto 5999 Nil
6000 to 8999 80
9000 to 11999 150
More than 12000 200

Karnataka:

Income per month (INR) Tax per month (INR)
Upyo 15000 Nil
More than 15000 200

Tamil Nadu:

Income per month (INR) Tax per month (INR)
Upto 21000 Nil
21,001 to 30,000 100
30,001 to 45,000 235
40,001 to 60,000 510
60,001 to 75,000 760
75,001 and above 1095

Who is Responsible for deducting Profession Tax?

Self-employed persons who carry out their profession or trade on their own and fall in the ambit of profession tax are liable to pay the tax themselves to the state government. In the case of salaried individuals and wage earners, the employer is liable to deduct profession tax on a monthly basis. Therefore, the employer needs to register and obtain both the Professional Tax Registration Certificate to be able to pay professional tax on his trade or profession and Professional Tax Enrolment Certificate to be able to deduct the tax from his employees and pay. List of forms for payment of Profession Tax.

Consequences

If a person fails to get registration, then he will be liable to a penalty for the period during which he remains unregistered. However, the actual amount of penalty or interest shall depend upon State’s Legislation. Non-payment of tax or a late payment attracts a 10% additional tax.

Procedure to Pay Professional Tax

In general, a professional tax may be paid either online/offline. Further, depending on the State’s requirement, professional tax returns also need to be filed at specified intervals.

FAQs

Why does Profession tax differ from one state to another?

As professional tax is levied by the state government, it usually differs from one state to another. Each state has its own slab that it declares and the profession tax is deducted based on these slabs.

Is Profession tax applicable in Union territories?

As Union Territories are small regions of the country, they tend to generate lower revenue than states. Hence, professional tax is not applicable to employees working in a Union Territory.

Who is exempted professional tax?

There are a few categories of people that get benefit of tax exemption:
– Senior citizens are exempt from professional tax.
– Parent of a mentally challenged child is exempt from this tax.
– Persons or parents of children suffering from physical disability are exempt from paying professional tax.

Compliance Portal: Tax liability for Salary Income

Salary Income u/s 5(1) of the Income Tax Act refers to an Individual receiving any of the following from its employer:

  • Wage
  • Annuity
  • Pension
  • Gratuity
  • Fees
  • Commissions
  • Perquisites
  • Profits in lieu of salary
  • Advance of salary
  • Leave encashment etc

However, taxpayers who receive an SMS or any communication via call or email from ITD are likely to face some verification issues in their ITRs. Taxpayers can receive the SMS for three reasons:

  1. Not filed ITR or even if the ITR is not filed in the given assessment year and has potential tax liability pending.
  2. It also happens if the details provided by taxpayers and Information received to the ITD don’t match for that particular assessment year.
  3. Significant transactions get reported to the Income Tax department during a financial year which is considered abnormal or out of line with the profile of the taxpayer.

Taxpayers who have received any such verification issue needs to submit a response on those issues raised. Additionally, the response has to be submitted online by logging into the compliance portal.

Verification issue in the computation of tax liability from Salary Income

Code Description Response
A1 Total receipts as per taxpayer pertaining to the above information Amount
A2 Less: Amount relating to another year/PAN  PAN year-wise list
A3 Less: Amount covered in other information Amount
A4 Less: Exemption/Deduction/Expenditure/ Set off of Loss Exemption/Deduction wise list
A5 Income/Gains/Loss (A1-A2-A3-A4) Computed

A1- Total receipts:

Any gross salary received from the employer. Moreover, all the components of the salary should be included and a final amount should be mentioned.

A2- Amount relating to other year or PAN:

 If part of the salary relates to someone else’s PAN or is considered for some other year then the List of details of such salary is to be mentioned as per the table below:

A3- Amount repeatedly covered:

 If any amount is mistakenly covered twice then it should be mentioned under the Remarks section of the previous table. This will nullify the repeated Income/Gains/Loss covered.

A4- Exemption/Deduction/Expenditure/Set off of loss:

This section has to include gross salary and a list of all the available allowances which are exempt. The taxpayer needs to select the correct category from the drop-down list as under:

  • Income is not taxable in India (Non-Resident)
  • Exemption related to
    • House Rent Allowance u/s10(13A)
    • Leave Travel Allowance u/s 10(5)
    • Encashment of Leave u/s 10(10AA)
    • Pension u/s 10(10A)
    • Gratuity u/s 10(10)
    • Voluntary Retirement Scheme u/s 10(10C)
    • Perquisites
    • Other Allowances
  • Set off of Loss
  • Others

The details are to be submitted as per the table mentioned below:

A5- Income/Gain/Loss:

This section includes the self-computation of salary income chargeable to tax A5=(A1-(A2+A3+A4)). If your income computation exceeds the minimum of 2.5 lakh then you should file your ITR.

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FAQs

Is it necessary to login to Compliance Portal? What happens if I don’t log in?

Yes, it is advisable to log in to the compliance portal. If a taxpayer doesn’t log in he/she will not be able to respond to the issues raised.

What is an additional query request?

Upon examining the online response submitted by the taxpayer, ITD can raise an additional query request to seek further information/clarification from the taxpayer. Therefore, the taxpayer needs to respond to the additional query request as well.

How will the taxpayer come to know about pending e-verification?

If there are any e-Verification issues it will be pushed to the compliance portal for e-verification, Email and SMS will be sent to the taxpayer informing about the issue raised. Hence, taxpayers then need to respond to those issues raised.

ESOPs Taxation in the hands of an Employee

What are ESOPs?

ESOP (Employee Stock Ownership Plan) is an Employee Benefit Plan provided by the company/employer. ESOP allows an employee to buy a stock of their company at a below-market price. It also offers ownership interest to employees. ESOPs can be issued in as Direct Stock, Profit-Sharing Plans or Bonus. ESOPs is the three-step process:

  1. The company/employer decides to issue shares,
  2. The employee decides to exercise/buy issued shares,
  3. The employee decides to sell shares.

Before granting ESOPs to employees, an employer needs to follow Rules and Regulations relating to ESOPs are as per the Companies Act 2013.

An employee needs to understand ESOP taxation before exercising the option. ESOPs are taxed twice in the hands of an employee:

  • At the time of exercising right i.e purchasing the shares,
  • At the time of selling the shares.

Hence it is important to understand the tax implications of ESOPs before filing ITR of that financial year.

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Prerequisites of ESOPs

Following are the prerequisite of ESOP:

  • An employer has the right to decide who can avail ESOP,
  • An employee needs to go through the pre-defined vesting period ie., an employee has to work for the company until a part or the entire stock options could be exercised,
  • The company/employer grants ESOPs to its employees for a Specified Number of Shares of the company at a Pre-determined Price after the option period (a certain number of years).  

Employer: Contributions to the ESOP are tax-deductible as they are made to repay the loan amount. Both principal and interest are tax-deductible. But once ESOPs are executed, the employer/company needs a proper administration including the third-party administration, trustee, valuation, legal costs. Hence it will be the burden of ongoing cost for a company/employer.

Benefits of ESOPs

The purpose of ESOP is to give benefit to both the Employer/Company and Employee. Startup eco-systems widely use ESOPs.

Following are the benefits of ESOP to the Employer/Company:

  • For attracting and retaining high-quality employees,
  • Making employees stakeholders of the company,
  • The company can avoid cash compensation as a reward, thus saving on immediate cash outflow.

Following are the benefits of ESOP to an Employee:

  • The benefit of acquiring the shares of the company at the nominal rate, and sell them (after a defined tenure set by his employer) and make a profit,
  • Compensation of hard work in the form of ownership interest in the company.

Tax Implications of ESOPs

It is important to understand the tax implications of ESOPs in India before the employer considers implementing an ESOP scheme.

Employee: ESOPs are taxed at the following two times:

  1. At the time of Exercising ESOP: It is considered as a Prerequisite under Salary Income Head. Hence when an employee exercises his option, the difference between Fair Market Value (FMV) as on date of exercise and the exercise price is taxable as a prerequisite.
  2. At the time of Selling: It is considered as Capital Gain. An employee might sell his/her shares after buying them. In case he/she sells these shares at a price higher than FMV on the exercise date, he/she would be liable for capital gains tax.

ESOPs Taxation on Purchase of Shares

When an employee buys the shares of a company, it is treated as Perquisite. The shares are credited to a Demat Account of an employee once shares are purchased. Following are the tax implications when you buy the shares:

  • Perquisite is the difference between the Fair Market Value (FMV) and exercised price/buy price.
  • Perquisite is a part of taxable salary and taxed under the Salary Income Head.
  • It will be taxed in the year in which ESOP is exercised by an employee. An employer/company will deduct TDS on the same.
  • Form 16 issued by an employer/company will reflect the prerequisite amount and TDS on the same.

Example: Neha works in a startup in India. During FY 2019-20 her company announces ESOPs for all the current employees. Neha decides to exercise her option to buy the shares of the company. Under this scheme, Neha received 2000 shares at INR. 20 per share. The FMV of the shares is INR. 65 per share. Following are the tax implication on the above transaction:

Purchase Price: INR. 20

FMV: INR. 65

Perquisite: INR 45 (65-20)

Taxable Perquisite Amount: INR. 90,000 (2000X65)

Now the company will treat INR. 90,000 as a taxable salary of Neha and will deduct TDS on the same. While filing her ITR Neha needs to show INR. 90,000 as Perquisites under Salary Income Head.

In Budget 2020 FM announced to defer TDS or tax payment on shares allotted by the startups to their employees under ESOPs. This means an employee of startup who are exercising their ESOPs may have to pay tax at a later date. Employees will be paying tax at the time of exit from the company or selling the shares or for a period of 5 years whichever is earlier.
Tip
In Budget 2020 FM announced to defer TDS or tax payment on shares allotted by the startups to their employees under ESOPs. This means an employee of startup who are exercising their ESOPs may have to pay tax at a later date. Employees will be paying tax at the time of exit from the company or selling the shares or for a period of 5 years whichever is earlier.

ESOP Taxation on Sale of Shares

When an employee sells the shares, it is treated as Capital Gains. Following factors are considered for calculating Capital Gain Income:

  1. The Period of Holding: In case of ESOPs period of holding is from the exercise date up to the date of sale. Short Term or Long Term Capital Gain is determined by taking into account the period of holding.
  2. Taxable Amount: The difference between Sale Price and FMV on the exercise date is taxed as Capital Gains.

The tax treatment is different depending on whether the company is listed on the stock exchange or not.

Tax Treatment on sale of Listed Shares

  • Long Term Capital Gains(LTCG): Taxed at a special rate of 10%. (Shares held for more than 12 months).
  • Short Term Capital Gains(STCG): Taxed at a special rate of 15%.(Shares held for less than 12 months).

Tax Treatment on Sale of Unlisted Shares

  • Long Term Capital Gains(LTCG): Taxed at a special rate of 20% with Indexation (Shares held for more than 24 months).
  • Short Term Capital Gains(STCG): Taxed at applicable slab rate (Shares held for less than 24 months).

Example: Arya is a salaried individual. She works for a startup(listed Company) She received 2000 shares from her company under the ESOPs scheme in FY 2018-19. And she sales the shares on 20/01/2020. Following are the information to keep in mind:

Date of Purchasing Shares/Exercising the ESOPs: 25/02/2019

FMV as on 25/02/2019: INR. 50

Sales Price as on 20/01/2020: INR. 75

In the above case, the following will be the taxability:

Period Of Holding: 25/02/2019 to 20/01/2020 i.e, less than 12 months (Listed Company). Hence there will be Short Term Capital Gains.

Taxable Amount: INR. 50,000 [2000X25(75-50)]

Tax Rate: 15%. Since this is STCG from shares of Listed Company it is taxable at a special rate of 15%.

Tax Amount: INR. 7,500 (50000 X15/100)

FAQs

Under which head of Income-tax is ESOP taxable and which ITR is to be filed?

-When an employee buys the shares of a company, it is treated as Perquisite. And thus taxable under the head Salary. In this case, the taxpayer is required to file ITR-1.
-When an employee sells the shares, it is treated as Capital Gains and thus taxable under Capital Gain head. In this case, the taxpayer is required to file ITR-2.

How do I report employee stock options on tax return?

Since you’ll have to exercise your option through your employer, your employer will usually report the amount of your income as ordinary wages or salary and the income will be included when you file your tax return on Income Tax Portal.

What happens when you leave an ESOP?

If you quit or are laid off, the ESOP distributions are deferred for six years . Once those six years pass, you may receive the value of your ESOP shares in either one lump sum, or in basically equal payments made over five years. 

Documents required for Income Tax Return filing in India

Income Tax Return or ITR forms are different on the basis of income sources. Specific documents of the taxpayer are required to file ITR.
Other documents required may differ based on the income situation. These documents are not required to be submitted to the IT Department while filing the Income Tax Return. Since ITR is an annexure-less form. However, if a taxpayer receives a notice from the ITD such documents may be required to be submitted.

List of Basic Documents required for filing the Income Tax Return – ITR

Following are the basic documents mandatory to file an ITR in India:

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Documents Required for Different Income Heads

Salary Income/ Pension Income

Following documents are required from taxpayer having salary/ pension income:

  • Form 16
  • Salary Slips (If form 16 is not available)
  • Pension Statement / Passbook

House Property Income

The following documents are required to determine when rental income is earned by a taxpayer or there is a home loan. These documents will help determine the correct deduction and Income from House Property.

  • Property Address
  • Rent Agreement
  • Co-ownership details in case of co-owned property
  • Municipal Tax Receipts
  • Form 16A if TDS is deducted on rental income
  • Home loan repayment certificate/ Interest Certificate from the bank
  • Pre-Construction Interest Details
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Capital Gains Income

When an individual sells any movable or immovable property a Capital Gain arises. It also includes the sale of shares and securities.

  • Sales and Purchase deed, stamp duty valuation in case of sale of the land/ building
  • Details of Improvement cost.
  • Details of expenses incurred on the transfer of capital assets
  • Proof of cost of the asset, cost of improvement and sales receipts in case of movable assets
  • Details of investment made to claim exemptions
  • Capital Gains Deposit Account details if any
  • For shares & securities- Trading statement/ Stock Ledger/ Contact Notes
ITR for Gains from Sale of House / Property
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Business and Professional Income

Following are the documents required to file the return if you are earning any income from Business and Profession during the year:

  • Balance Sheet and Profit & Loss Statement
  • Bank Account Statement/ Passbook
  • Supporting documents for expenses incurred
  • Cash Register
  • Any other documents required to maintain the books of accounts of the business & profession
  • Audit Report in case the profit from the business is less than 8% of the Total Turnover.
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Income from Other Source

Any income which does not fall under any of the above heads of income, in that case, it will come under the head Income From Other Source.

  • Total Interest income earned from savings/ current account
  • Interest certificate from deposits/ Bonds/ NSC
  • PPF Account Statement/ Passbook
  • Dividend Warrants/ counterfoils
  • Proof of details of receipt of any other incomes
  • Rent Agreement in case of let out machinery
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Documents Required for Tax Saving Investments (Section 80)

One can invest in some of the tax-saving investment schemes to save taxes and claim a tax deduction. Following are the documents that come in handy for tax saving investment made:

  • ELSS/ ULIP/ NSC investment details
  • PPF account passbook/ statement
  • Life/Medical Insurance Receipts
  • Details of Tax Saving FD
  • National Pension Scheme investment details
  • Senior Citizen Saving scheme investment details
  • Donation Receipts
  • Children Tuition Fees Paid Receipts
  • Repayment Certificate for home loan/ education loan
  • Certificate from specified medical authorities in case of disability
  • Receipts/proof of any other tax saving investment/contributions

Documents Required for Foreign Income and Foreign Investments

  • Details of foreign income and taxes deducted on the same
  • Details of Assets held outside India including the foreign bank accounts.
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FAQs

What is the list of documents required for filing basic ITR?

The basic list of documents required to file ITR is as follows:
PAN (Permanent Account Number)   
Aadhar Number
Form 26AS
Bank Account Details
Challan of any advance tax or self-assessment tax (if paid during the year)
Details of the original return (if filing a revised return)

What is Form 16?

It is a certificate of TDS on salary. Every employer issues Form 16 to an employee after the end of a Financial year. Employees usually receive Form 16 before 31st May of the next financial year. It contains details of income earned and the taxes deducted. Furthermore, Form 16 is divided into two parts: Form 16 Part A and Form 16 Part B.

What is Form 26AS?

It is a consolidated Tax Credit Statement which provides the following details to a taxpayer:

1. Details of taxes deducted from the taxpayer’s income.
​2. Details of taxes collected from taxpayer’s payments.
3. Advance Taxes, Self Assessment Taxes, and Regular Assessment
4. Taxes paid by the taxpayers.
5. Details of the refund received during the year.
6. Details of any high-value transactions (for eg. Shares, Mutual Funds, etc.).

Clubbing of Income under section 64

​​Normally, a person is taxed in respect of income earned by him only. However, in certain special cases the income of other person is included (i.e. clubbed) in the taxable income of the taxpayer. In such a case he will be liable to pay tax in respect of his income (if any) as well as the income of other people too. The situation in which the income of another person is included in the income of the taxpayer is called clubbing of income.

What is Clubbing of Income under section 64 of the Income Tax Act?

Clubbing of income means income of other person included in assessee’s total income. This is allowed under Section 64 of the IT Act. This means that a person cannot divert his income to any other person. For example: If the income of your spouse is included in your total income and also taxed in your hand, then this is known as clubbing of income.

However, there would not be any clubbing of the income, earned from the investment of clubbed income. For example, Hari transfers INR 10,000 to his wife Priya and Priya invests the money in an FD scheme. Now the interest earned on this FD would get clubbed in the total income of Hari and he would be liable to pay tax on the same. However, if Priya re-invests the interest earned (i.e. clubbed income) in some FD or any other investment scheme then the income from such re-investment would be taxable in the hands of Priya only. This interest income from reinvestment will not be clubbed with Hari’s income.

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Specified persons to club income

We cannot club income of any person on random basis while computing total income of an individual and also not all income of specified person can be clubbed. As per Section 64 of Income Tax Act, there are only certain specified income of specified persons which can be clubbed while computing total income of an individual.

When does Clubbing apply?

In case of following situations, clubbing provisions will apply:

Section Specified person Specified scenario Income to be clubbed
Section 60 Any person
Transfer of Income without transfer of Assets either by way of an agreement or any other way,

– Any income from such asset will be clubbed in the hands of the transferor.

– Irrespective of whether such transfer is revocable or not.

Section 61 Any person Transferring asset on the condition that it can be revoked Any income from such asset will be clubbed in the hands of the transferor
Section 64(1A) Minor child Any income arising or accruing to your minor child [Child includes step child, adopted child and minor married daughter] – Income will be clubbed in the hands of higher earning parent.
Note:
If marriage of child’s parents does not subsist, income shall be clubbed in the income of that parent who maintains the minor child in the previous year

– If minor child’s income is clubbed in the hands of parent, then exemption of INR 1,500 is allowed to the parent.

– Exceptions to clubbing
Income of a disabled child (disability of the nature specified in section 80U)

– Income earned by manual work done by the child or by activity involving application of his skill and talent or specialized knowledge and experience

– Income earned by a major child. This would also include income earned from investments made out of money gifted to the adult child. Also, money gifted to an adult child is exempt from gift tax under gifts to ‘relative’.
Section 64(1)(ii) Spouse If your spouse receives any remuneration irrespective of its nomenclatures such as Salary, commission, fees, or any other form and by any mode i.e., cash or in-kind from any concern in which you have a substantial interest

–  Income shall be clubbed in the hands of the taxpayer or spouse, whose income is greater (before clubbing).

The exception to clubbing: – Clubbing is not attracted if the spouse possesses technical or professional qualifications in relation to any income arising to the spouse and such income is solely attributable to the application of his/her technical or professional knowledge and experience

Section 64(1)(iv) Spouse Income from assets transferred directly or indirectly to the spouse without adequate consideration. – Income from out of such asset is clubbed in the hands of the transferor. Provided the asset is other than the house property.

– Exceptions to clubbing No clubbing of income in the following cases:

a. Where the asset is received as part of the divorce settlement

b. If assets are transferred before marriage

c. No husband and wife relationship subsists on the date of accrual of income

Section 64(1)(vi) Daughter-in-law Income from the assets transferred to son’s wife for inadequate consideration Any income from such assets transferred is clubbed in the hands of the transferor
Section 64(1)(vii) Any person or association of person
Transferring any assets directly or directly for inadequate consideration to any person or AOP to benefit your daughter-in-law either immediately or on a deferred basis
Income from such assets will be considered as your income and clubbed in your hands
Section 64(1)(viii) Any person or association of person Transferring any assets directly or directly for inadequate consideration to any person or association of persons to benefit your spouse either immediately or on a deferred basis Income from such assets will be considered as your income and clubbed in your hands
Section 64(2) Hindu Undivided Family In case, a member of HUF transfers his individual property to HUF for inadequate consideration or converts such property into HUF property Income from such converted property shall be clubbed in the hands of individual

Transfer of income without transfer of an asset to any person

Clubbing applies when you (transferor) transfer your income to some other person without transferring the ownership of the asset from which the income is derived. Therefore the income so transferred will still be included in your total income and also taxable in your hands.

For Example: Pranav transferred the income from his rental property, to his wife Divya. The property is in the name of Pranav only and ownership of the property is not transferred to Divya. In this situation, rental income will be taxed in the hands of Pranav only.

Transfer of asset (revocable transfer) to any person

  • In case of a revocable transfer* of asset the clubbing will apply and hence the income from such asset will be taxable in the hands of transferor even though asset has been transferred.
  • Clubbing not applicable if transfer by way of trust which is irrevocable during the lifetime of beneficiaries/ transferee

*Revocable transfer of asset means where a transferor retains the right or power to re-acquire the whole or any part of the asset or the income from such asset at any time in future during the lifetime of the transferee.

For Example: If in the earlier example, Pranav transfers the rental income as well as the property to Divya, with a condition that he can re-acquire the property whenever he wishes. In this situation, rental income from the property will be taxed in the hands of Pranav only.

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Clubbing of Spouse Income

Income earned by your Spouse from the firm/company in which you have substantial interest

  • Your spouse income from such a firm/company will get clubbed with the income of the person (you or your spouse) having a higher total income. While comparing the total incomes, income from such a firm/company should be ignored.
  • A person is said to have substantial interest if he/she individually or along with his/her relative holds 20% or above shares of the company or exercise the voting power of 20% or above. In the case of a firm if a person is entitled to have a share of 20% or above in profits.
  • However the above clubbing provision shall not apply if the income earned by your spouse is due to practical application of professional/technical skill he/she possesses.
  • Income other than salary, commission, fees or remuneration is not clubbed under this clause

Eg: Pranav holds 51% of the shares in a private limited company. His wife Divya is getting a salary of Rs. 20,000 per month from the same company. She is not an active employee and does not contribute towards the company’s operations. Pranav’s total annual income is Rs. 10,00,000 whereas Divya’s total income (Excluding salary from the company) is Rs. 5,00,000. In this situation, Divya’s annual salary of Rs. 2,40,000 will be clubbed with Pranav’s income and it will be taxable in the hands of Pranav.

Income from the asset transferred to the Spouse against inadequate consideration

  • The above income will get clubbed in your total income and you would be liable to pay tax on that income.
  • However, the clubbing shall not apply if the above transfer is in a connection with an agreement to live apart or divorce.
  • Let us understand the above provision with the help of the below examples:
    • First Scenario: Rohan transferred an asset worth Rs.1,50,000 to his wife for a consideration of INR 50,000. Here ⅔ rd (two-thirds) of the income from the asset would get clubbed in Rohan’s income and he would be liable to pay tax on this income. However, balance ⅓ rd will be taxable in the hands of his wife as she has paid INR 50,000 being 1/3rd (one-third) of the value of the property.
    • Second scenario: Mr. Aksh gifted INR 5,00,000 to his wife. She invested this amount in the fixed deposit and received interest of 4,500 INR p.a. (Gift received from husband is exempt in the hands of his wife.) Since cash (asset) received was converted into another asset (FD) by Mrs. Aksh, the interest earned of INR 4,500 would be clubbed in the income of Mr. Aksh as per Section 64(1)(iv) of the Income Tax Act.

Note: As per the judgement in R Dalmia Vs CIT (1982) and few other judgments, pin money (i.e. an allowance given to the wife by her husband for her personal and usual household expenses) is not taxable. Further, if the asset is acquired by the spouse out of pin money then the income from such assets cannot be clubbed with the income of her husband.

When an asset is transferred to any person or association of person for the immediate or deferred benefit of Your Spouse

In such a situation, any income out of such an asset would get clubbed in your total income and you would be liable to pay tax on the same.

Clubbing of Income of Son’s Wife

When asset is transferred to Son’s wife

Income earned by your Son’s wife from the asset transferred to her against inadequate consideration would get clubbed in your total income and you would be liable to pay tax on it. Cross transfers are also covered.

When an asset is transferred to any person or association of person for the immediate or deferred benefit of Son’s wife

Here the Income earned from the asset transferred against inadequate consideration would get clubbed in your total income and you would be liable to pay tax on it.

Note: Clubbing would be applicable only when your relationship with spouse and Son’s Wife exist both at the time of transfer of asset and at the time when income is earned.

Clubbing of Income of a Minor child

Any income earned by a minor child (including married minor daughter) will get clubbed with income of the parent whose total income is higher (before inclusion of income of minor child).

In case of a minor child, whose parents are living apart because their marriage relationship does not exist, any income earned by such minor child would get clubbed in the total income of the parent who is maintaining the child.

The income of a minor child would not be clubbed in following circumstances:

  • The minor child has earned income through his/her manual work
  • The minor child has applied his/her skill, talent, specialized knowledge and experience for earning the income.
  • If the minor child is suffering from any disability (disability defined as per section 80U)
  • In case of transfer of House property to married minor daughter, the clubbing will not apply here. Hence any income generated by House property would not be taxable in the hands of Parents.

Clubbing of Income of a Major child

There will not be any clubbing of the income earned by major child (18 years and above) with the total income of the Parents. Whether the major child is earning using his own specialization/skill or on investment of money or asset transferred to him by his Parents.

For example: Rohan who is 18 years old gets Rs. 50,000 as gift from his Father/Mother. He invest the money in a FD scheme. Now the interest income on FD would be taxable in the hands of Rohan only. It would not get clubbed with the total income of the Parents.

Clubbing of Income from H.U.F Property

If you are a member of a HUF and you transfer your property to the common pool of such HUF for inadequate consideration then the income from such property will get clubbed with your total income and you would be liable to pay tax on it.

However, when this transferred asset gets distributed among family members as a result of the complete or partial partition of HUF, the income from the asset received by your spouse would get clubbed in your total income and you would be liable to pay tax on it.

FAQs

How to show clubbed income in ITR?

Except for ITR-1 & ITR-4S, every other ITR contains a section where you can add the income of other persons included in your income. The details which you have to provide are:
– Name of person
– PAN of a person (Optional)
– Relationship
– Nature of Income
– Amount
You also need to make sure that whatever income you enter over here has already been added to the incomes in their respective heads while filing ITR on Income Tax Portal.

Can losses be clubbed?

Clubbing provisions will be equally applicable for losses because: For example, if a person has incurred some loss, in such a situation, such a loss is not allowed to be transferred to anyone and it will be clubbed in his/her own income.

Do any clubbing provisions exist in case of a revocable transfer?

​​Revocable transfer is generally a transfer in which the transferor directly or indirectly exercises control/right over the asset transferred or over the income from the asset.
As per section 61​, if a transfer is held to be a revocable, then income from the asset covered under revocable transfer is taxed in the hands of the transferor. The provisions of section 61 will not apply in case of a transfer by way of trust which is not revocable during the life time of the beneficiary or a transfer which is not revocable during the lifetime of the transferee.

Dearness Allowance (DA): Rules, Exemptions, and Calculations

What is the Dearness Allowance?

Dearness Allowance (DA) is an allowance paid to meet the cost of living. It helps to offsets the impact of inflation. It varies from employee to employee based on their presence in the urban, semi-urban or rural area. DA is only paid to:

  • Central Government Employees,
  • Public Sector Employees,
  • Pensioners of Central Government.

The allowance is decided by the Pay Commission in India. The pay commission must evaluate and change the salaries of central/public sector employees based on the various components that make up the final salary of an employee. 

Dearness Allowance increased by 5% from 12% to 17% from July 2019. Nearly 50 lakh government employees and 65 lakh pensioners will be benefited from this hike.
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Dearness Allowance increased by 5% from 12% to 17% from July 2019. Nearly 50 lakh government employees and 65 lakh pensioners will be benefited from this hike.

Types of Dearness Allowance

It is broadly categorised in the following two types:

  • Industrial DA (IDA)
    • It is applicable to Public Sector employees. It is revised quarterly depending on the rising levels of inflation.
  • Variable DA (VDA)
    • It is applicable to Central Government employees. It is revised on a half-yearly basis depending on the rising levels of inflation.

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How to Calculate Dearness Allowance?

It is calculated at a fixed percentage of Basic Salary. It is directly related to the employee’s location. The consumer price index in India is provided for the urban sector, semi-urban sector, and rural sector. Hence DA will be different for employees working in each of these sectors. DA is calculated as per the following formula:

For the Central Government Employees

DA % = [(Average of AICPI(Base year 2001=100) for the past 12 months – 115.76)/115.76]*100

AICPI means All India Consumer Price Index.

For the Public Sector Employees

DA % = [(Average of AICPI(Base year 2001=100) for the past 12 months – 126.33)/126.33]*100

Role of Pay Commissions to Calculate Dearness Allowance

The pay commission must evaluate and change the salaries of public sector employees based on the various components that make up the final salary of an employee. Therefore, DA is also considered by the Pay Commissions while preparing the subsequent pay commission report.

It is the responsibility of the pay commissions to take into account every factor that helps with the calculation of the salaries. This also includes the periodic reviewing and updating of the multiplication factor for the calculation of the Dearness Allowance.

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Taxability of Dearness Allowance

It is fully taxable in the hands of the employees. It is added to the salary of employee u/s 17(1) of the Income Tax Act. A taxpayer can file ITR 1 if he/she only has a salary income up to INR 50,00,000.

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Dearness Allowance for Pensioners

Pensioners are the retired employees of the central government. They are eligible for individual pension or family pension. The pension also gets revised every time the Pay Commission rolls out a new salary structure. Pensioners DA is calculated on the Basic Pension.

Dearness Allowance Changes as per Budget 2018

There are roughly more than 50-lakh central government employees who receive the salary from the government. Then there are another 55-lakh retired central government employees who are eligible for a pension. As per the recent announcement by the central Government in Budget 2018, the Dearness Allowance was hiked by 2%.This came as a significant relief for all these beneficiaries as their Dearness Allowance was enhanced from 5% to 7%. These changes are going to significantly benefit all the employees and pensioners of the Central Government.

FAQs

Is Dearness Allowance applicable to the employees and pensioners of the private sector?

No. It is not applicable to the employees/ pensioners of the private sector.

Is Dearness Allowance granted to pensioners who stay abroad?

Pensioners who are staying abroad without re-employment are allowed to receive DA on pension. But DA is not allowed to pensioners who are re-employed abroad.

Does Dearness Allowance differ on the basis of work location of an employee?

Yes, D.A. differs for the employees depending on their work location. Since D.A. is directly connected to the cost of living, it is not the same for all employees and varies for employees working in rural, urban, and semi-urban areas.

When is Dearness Allowance merged with the basic salary of an employee?

D.A. is merged with the basic salary of an employee when it exceeds the limit of 50%. This merging results in a significant hike in the salary of the employees. Currently, D.A. stands at 50% of the basic salary of an employee.

Medical Allowance & Reimbursement : Difference, Exemption & Claim

What is Medical Allowance?

Medical allowance is a fixed allowance provided to employees of the company. It is given on a monthly basis to cover any medical expenses. It is paid irrespective of whether any proofs of expenses have been submitted by the employee or not. However, in order to claim tax benefits, an employee must submit medical bills.

Medical Allowance vs Medical Reimbursement

Sometimes people use the words Medical Allowance and Medical Reimbursement interchangeably. Although both medical allowance and medical reimbursement are payable to employees against the medical expenses of the employees. The tax implication is different for both.

Medical Allowance is payable on a monthly basis as a part of the salary. However, it is completely taxable irrespective of any submission of expense proof under the head Salary Income. So an employee does not have to submit any medical bills to the employer in order to receive a medical allowance. It is paid to him as a monthly fixed amount which is part of his salary.

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Medical reimbursement is tax-free to a certain extent. As per section 17(2) of the income tax act, reimbursement against medical expenses of Rs. 15,000 in a year is exempt from tax.

From FY 2018-19 onward, Medical Reimbursement has been discontinued. Instead, a Standard Deduction of up to INR 40,000 has been introduced for all salaried employees. Standard Deduction up to INR 50,000 is allowed from FY 2019-20 onwards.
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From FY 2018-19 onward, Medical Reimbursement has been discontinued. Instead, a Standard Deduction of up to INR 40,000 has been introduced for all salaried employees. Standard Deduction up to INR 50,000 is allowed from FY 2019-20 onwards.

Who is Eligible to Claim Medical Reimbursement?

There are specific conditions under the income tax act that prescribe such expenses are not considered as a prerequisite in the hands of the employee:

  • Employees should have spent the amount on medical treatment
  • The amount should have been spent on his own or his family members’ treatment.
  • Such amount should be reimbursed by the employer
  • Amount reimbursed by the employer does not exceed INR 15,000 in the financial year

How to claim Medical Reimbursement?

  • An employee has to submit proof of medical expenses to claim exemption.
  • An employee can claim the medical expenses for himself as well as his family members. Family for the purpose of reimbursement includes:
    • Spouse and children
    • Parents, brothers, and sisters who are wholly or mostly dependent on the employee.
  • Medical bills can be related to the purchase of medicines, medical checkups, doctor’s consultation fees, etc.
  • There are no restrictions in terms of medical systems. (allopathy, homeopathy, or any other type of treatment)
  • Medical reimbursement is not taxable if the treatment of an employee or his/her family member takes place in any of the following facilities:
    • Hospital or clinic
      • Maintained by an employer
      • Maintained by state government/central government/local authority
      • Approved by Government
    • Hospital approved by Chief Commissioner of Income Tax
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What Amount can be Claimed?

The employee can take the tax benefit of the expenditure incurred by him limited to the extent of INR 15,000. The exemption is available only on the reimbursement of actual expenses that are incurred on medical bills. An employer can only reimburse what is actually spent by the employee.

FAQs

Is the medical allowance taxable?

Medical Allowance is completely taxable. However, Medical reimbursement up to INR 15,000 is not taxable up to FY 2017-18. However, from FY 2018-19 onwards medical reimbursement has been discontinued.

How do I show medical reimbursement in ITR?

Medical Reimbursement is tax-free perquisites under Section 17(2) till INR 15000. However, the employee can incur an amount higher than INR 15,000 on the medical bills. In this case, the excess amount is added to the head salary of the employee at the time of filing ITR on Income Tax Portal.

What is covered under medical reimbursement?

Eligible medical expenses are the costs of diagnosis, cure, mitigation, treatment, or prevention of disease, and the costs for treatments affecting any part or function of the body. These expenses include payments for legal medical services rendered by physicians, surgeons, dentists, and other medical practitioners.

Conveyance Allowance or Transport Allowance – Exemptions & Update on the New Tax Regime

What is Conveyance Allowance or Transport Allowance?

Conveyance allowance or transport allowance is an allowance offered to taxpayers who receive income from salary to meet the cost of transportation in the course of official work. Usually, it is provided to employees only if there is no transportation provided by the employer.

Update in the Finance Act 2018 for the Transport Allowance

Finance Act, 2018 introduced the standard deduction of INR 40,000 in lieu of a transport allowance of INR 1600 per month and also a medical allowance of INR 15,000. This change shall take effect from the financial year 2018-19 and accordingly, no separate transport allowance of INR 1,600 per month is available to employees other than physically challenged employees and employees of a transport business.

Amount of Exemption on Conveyance Allowance

The Section 10(14) with Rule 2BB provides for exemption of transport allowance. Following explain the amount of exemption:

Particulars Exemption limit
Transport allowance for commuting from place of residence to place of duty
(with effect from FY 2018-19 no such separate transport allowance is allowed)
INR 1,600 per month or INR 19,200 per annum
Transport allowance for commuting from place of residence to place of duty for an employee who is physically challenged such as blind/deaf/dumb or orthopedically handicapped with disability of lower extremities INR 3,200 per month or INR 38,400 per annum
Transport allowance for employee of transport business for meeting personal expenditure during the running of such transport Exemption amount shall be lower of following: a) 70% of such allowance; or b) INR 10,000 per month

Tax Exemption on Conveyance Allowance

There is no limit on the amount of conveyance a company can provide to its employer. As per section 10(14) of the income tax act & Rule-2BB, the exemption is allowed to an employee to the extent of expenditure actually incurred for official purposes.

Because of such exemption conditions, companies usually provide this allowance on a reimbursement basis. So if an employee incurs any transportation expenses out of pocket for official purposes, the company will reimburse the same amount to him upon submission of proof of expense.

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Tax Exemption on Transport Allowance

As per Section 10(14) of the income tax act and Rule-2BB, Transport allowance is exempt up to INR 1600 per month. So a total of INR 19,200 is exempt as a transport allowance. For differently-abled employees, the exemption limit for transport allowance is INR 3200 per month (INR 38,400 per annum)

From FY 2018-19 onward Transport Allowance has been discontinued. Instead, Standard Deduction up to INR 40,000 has been introduced for all salaried employees. Standard Deduction up to INR 50,000 is allowed from FY 2019-20 onwards.
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From FY 2018-19 onward Transport Allowance has been discontinued. Instead, Standard Deduction up to INR 40,000 has been introduced for all salaried employees. Standard Deduction up to INR 50,000 is allowed from FY 2019-20 onwards.

Up until FY 2014-15, the exemption limit on transport allowance was Rs. 800 per month (INR 9600 per annum). But the limit was enhanced to Rs. 1600 per annum in Budget 2015. This step was taken to provide a tax benefit to middle-class commuters in the country.

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Transport Allowance under the New Tax Regime

Starting from FY 2020-21, the government provides the taxpayers with the option to choose from the new tax regime for individual and HUF taxpayers. In the new tax regime, there are flat tax rates and no deductions or exemptions. Also, the individual cannot claim deductions for any tax-saving investments. However, the new tax regime allows an individual to claim the following tax-exempt allowances:

  • Allowance by the employer to meet the cost of travel on tour or transfer. It includes an allowance for the cost of travel such as airfare, rail fare, and other transportation costs.
  • Any allowance by the employer to meet the ordinary daily charges incurred by an employee on account of absence from the usual place of duty. The allowance should be in respect of tour or for the period of journey in connection with a transfer. The allowance includes expenses an employee incurs for food and other daily costs while traveling.
  • Allowance to meet conveyance expense incurred while performing duties of an office or employment of profit. However, in this case, the employer should not provide a free conveyance to the employee. The allowance includes traveling expenses an employee incurs while performing official duties.

FAQs

What is the difference between Conveyance and Transport Allowance?

Conveyance is provided to meet transportation expenses in the course of official work. Whereas transport allowance can be claimed for expenses related to commute between home and work.

How much conveyance allowance can I claim?

This allowance is completely exempt from tax. However, Transport allowance, up to INR 1600 per month or INR 19,200 per year can be claimed as an exemption up to FY 2017-18.

LTA : Rules, Tax Exemptions and Conditions to claim

LTA (Leave Travel Allowance) is an allowance paid by employers to their employees when they are on leave and traveling alone or with family within India. Subject to certain conditions, it is tax-free in the hands of the employees.

What is LTA – Leave Travel Allowance?

LTA is an allowance received by the employee from his employer for travelling on leave. There are many situations that need to be considered before planning a trip for the purpose of claiming LTA.

Conditions to Claim LTA Exemption

  • Leave travel allowance should be part of employees Salary i.e employer pays an allowance to an employee as part of his/her salary
  • An exemption is applicable for incurred expenses by the employee and his/her family for the purpose of travel in India.
  • Family for purpose of leave travel allowance includes:
    • Spouse and children
    • Parents, brothers, and sisters who are wholly or mostly dependent on employee.
  • It covers only cost of travel for the trip (travel through rail, air or any other public transport). It does not cover the cost of hotel accommodation, food, etc.
  • Leave Travel Allowance covers only domestic travel and does not cover international travel
  • An exemption is available only for two trips in a block of four calendar years. The current block for leave travel is 2018 to 2021.
  • If an exemption is not availed during the block period, it can be carried over to the next block and used in the first year of the next block.

LTA Exemption

Section 10(5) of the Income Tax Act along with and Rule 2B have prescribed the conditions and amount of exempt leave travel allowance. Subject to these conditions, Leave Travel Allowance is tax-free in the hands of the employees.

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Eligibility to Claim LTA

The LTA exemption is available only on the actual travel costs. Expenses such as sightseeing, hotel accomodation, food, etc are eligible for this exemption. It is also limited to the LTA provided by the employer.

How to Claim Exemption on Leave Travel Allowance?

Employees can claim Leave Travel Allowance exemption by submitting details in Form-12BB. With the newly introduced Form 12BB, employees can provide detail of their travel during the financial year. They should also submit the proof in support of their claim. Employees can submit boarding passes, air tickets, train tickets, invoices of travel agents, etc, as documentary proof to their employers.

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FAQs

Can I claim LTA on internation travel?

No. LTA can be claimed only for domestic travel. You can only claim LTA if the Employer provides it as part of your salary structure. You can claim an exemption on LTA under section 10.

Can I claim LTA every year?

No. You can claim LTA only twice in a block of 4 years. The current block of four years is 2018-2021. However, you can claim LTA reimbursement every year from your employer.

Do I have to submit any document proof to claim LTA?

Employees do not have to submit any proof to Income Tax Department while filing ITR on IT Portal. However, employees are advised to maintain proofs such as flight tickets, invoices from travel agents, passes, etc.

How to know exempt LTA amount?

Employees can know exempt Leave Travel Allowance amount from Form 16 issued by the employer at the end of the financial year. It is exempt u/s 10(5) of the Income Tax Act.

Which ITR can be filed if LTA exemption is claimed?

Since Leave Travel Allowance is a part of salary income. An employee can file ITR-1 while claiming exempt HRA. However, salaried needs to file ITR-2 if income is more than Rs. 50,00,000.