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Allowances
Allowances are fixed amounts paid by an employer to an employee to meet his expenses for personal use or for
performance of his professional duties. The allowances are over and above the basic salary and are taxable as
per their nature and guidelines laid by the Income Tax Act. These allowances can be classified as:
Fully Taxable
Fully taxable allowances are as under:
Dearness Allowance
This allowance is paid to meet the mounting expenses due to inflation. In some cases it forms part of basic salary
for computing retirement benefits.
Overtime Allowance
Any allowance paid for working over and above the prescribed hours is called overtime allowance and is fully
taxable
Other Allowances
There are many other allowances that are taxable such as deputation allowance, servant allowance, etc.
Partly Taxable
Partly taxable allowances are as under:
Special Allowance
This allowance is given to the employee for carrying on his official duties and is exempt to the extent it is actually
incurred. This includes uniform allowance, travel allowance, research allowance, etc.
Fully Exempt
Fully exempt allowances are as under:
Foreign Allowance
Allowances given to employees posted abroad for carrying out their professional duties are completely exempt
from tax
Perquisites
Perquisites are emoluments received by an employee by virtue of holding the position and office over and above
his salary. They benefit the employee and are not just reimbursement of expenses. These benefits are also in kind
and can be valued. Perquisites can be again classified under three heads:
Perquisites that are taxable for all employees: Some perquisites that are taxable for all employees are:
Rent free accommodation
Concession in rent of accommodation
Interest free loans or subsidized loans
Movable assets or transfer of assets
Payment of club fees
Payment of educational expenses
Payment of insurance premium, on behalf of employees
Perquisites that are taxable only for specified employees
Specified employees are employees who are either directors in the organization or have substantial interest in the
organization or their salary was over Rs.50000/- in the previous year:
Free gas, electricity, water supply for domestic purposes
Free or concessional educational expenses
Gardener, sweeper, attendant
Free or concessional transport facility
Any other benefit or amenity
Perquisites that are exempt from tax
Some perquisites are notified by the Income Tax Departmentwhere fringe benefit tax has to be paid by the
employer on the expenses incurred by them on the perquisites. These fringe benefits are absolutely exempt from
tax in the hand of the employee. These include:
Medical Benefits
Leave Travel Concession
Health Insurance Premium
Car, laptop, computers for personal use
Staff Welfare Schemes
The perquisites which are taxable are valued as per the rules laid down in the Income Tax Act.
Retirement Benefits
These benefits are provided either at the time of retirement or during the period of the service. Each benefit has a
different tax treatment. The various benefits are:
Pension
Pension is a reward for the services rendered by the employee> It is usually disbursed as a monthly payment, but
sometimes the employee may opt for a lumpsum payment. The tax treatment depends on the option chosen and
on the category of employee.
Gratuity
Gratuity is a payment received in appreciation of past performance. It is received on retirement. It is exempted
upto a certain limit and also dependent on the type of employee.
Leave Salary
Privilege leave is accumulated in the account of the employee. The employee may avail of leave or may opt for
encashment of leave accumulated. This is permitted either during the tenure of service or at the time of retirement.
The tax treatment will depend on the option chosen and on the category of employee.
Provident Fund
Contribution towards Provident fund is deducted on a monthly basis from the salary of the employee. An equal
amount is also contributed by the employer. At the time of retirement the accumulated balance in the Provident
fund account along with the interest is given to the employee. The tax treatment of the proceeds depends on the
type of provident fund maintained by the employer.
Deductions allowed from Salary: The following deductions are made from the salary income to reach the net
salary income:
Standard Deduction: This deduction has been discontinued from Assessment year 2006-07
Entertainment Allowance: This is first included in the salary and then allowed as a deduction to the State and
Central Government employees. The deduction amount is the least of
Rs.5000/Entertainment allowance actually received
20% of basic salary
Professional Tax: Professional tax also known as tax on employment is first paid by the employer and then
allowed as a deduction from salary. It is allowed only in the year in which it is actually paid.
Computation of Net Salary of an Employee
Particulars
Amount (Rs)
Basic Salary
Fees Commission and Bonus
Allowances
Perquisites
Retirement Benefits
------------------Gross Salary
-------------------
Mrs. Sharma holds a Masters in Financial Management from University of Mumbai. She has graduated from the
University of Mumbai.
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