Payment of Income Tax in India

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India has a well developed tax structure with a three-tier federal levels, comprising of Central Government, State Government and Urban/Rural Bodies. The levy of tax is governed by the Income Tax Act, 1961. The Income Tax Department is governed by the Central Board for Direct Taxes (CBDT) and is part of the Department of Revenue. CBDT provides essential inputs for policy and planning of direct taxes in India

The public bodies, state and central government have clear demarcation of their functioning. The central government imposes tax on all kinds of income such as central excise, customs duties, and service tax apart from income pertaining to agriculture. The State Governments of India is responsible for imposing tax pertaining to Value Added Tax (VAT), sales tax, income from agriculture, state excise duty, stamp duty, professional tax, land revenue, etc. Taxes imposed by the local bodies are pertaining to octroi tax, water supply utilities, drainage and sewage utilities, property tax, etc.

Who will pay Tax in India?

Every Person whose total income exceeds the maximum amount which is not chargeable to the income tax is an assesse, and shall be liable to pay the income tax at the rate or rates prescribed under the finance act for the relevant assessment year, shall be determined on basis of his residential status. Every person is liable to pay income tax on the total income earned in the previous year, at the income tax rate enacted by the Finance Act for every assessment year.

Residential Status of the Tax Payee

Income tax is charged based on Residential status of a person. It is not charged only to persons of Indian origin or citizens of India. Based on stay in India for different time period, persons may be categorized in one of following:

Ordinarily Residents
Person must be living in India at least 182 days during previous year or must have been in India 365 days during 4 years preceding previous year and 60 days in previous year. Ordinary residents are always taxable on their income earned both in India and Abroad.

Resident but not Ordinarily Residents
Must have been a non-resident in India 9 out of 10 years preceding previous year or should have been in India in total 729 days or less out of last 7 years preceding the previous year.

Non Ordinarily residents are taxable in relation to income received in India or income accrued or deemed to be accrue or arise in India and income from business or profession controlled from India.

Non Residents
Non Residents are exempted from paying tax if they are raised outside India. They are taxed if income is earned from business or profession setting in India or having their head office in India.

Heads of Income

The total income of a person is divided into five heads:

Income from Salary

All income received as salary under Employer-Employee relationship is taxed under this head. Employers must withhold tax compulsorily, if income exceeds minimum exemption limit, as Tax Deducted at Source (TDS). Apart from salary following should be considered:
  1. Professional taxes: As per Professional Tax slab basis
  2. Medical reimbursement: Up to Rs. 15,000 per year
  3. Conveyance allowance: Up to Rs. 9,600 per year
  4. House rent allowance: Least of following is allowed as deduction
  5. Actual HRA received
    • 50% or 40% (in case of metro or non-metro city respectively) of the basic salary
    • Rent paid minus 10% of basic salary
    • (Note: Basic Salary: basic+DA forming part+commission)
Income from salary is the least of all the above deductions.

Income from House property

Income from House property is calculated by considering what is called Annual Value(AV) of the let out property. The annual value of a let out property is the maximum of the following:
  • Actual Rent received
  • Municipal Valuation
  • Fair Rent (determined by Income Tax department)
Annual value is assumed to have accrued to the owner, if a house is neither let out nor self-occupied. Annual value in case of a self occupied house is to be taken as NIL.

(Note: If there is more than one self occupied house then the annual value of the other house(s) is taxable.)

Income from Business or Profession

The following incomes are taxable under this head:
  • Profits and gains of any business/profession carried on by the assesse at any time during previous year.
  • Income derived out of a trade, profession or similar association for providing specific services to its members.
  • Gains on sale of licensed property made under Imports & Export (Control) Act, 1947.
  • Any cash assistance received/receivable against exports under any Govt Scheme.
  • Any benefit or perquisite raised out of a business or professional activity.
  • Interest, salary, bonus, commission or remuneration received by a partner of a firm.
  • Any sum received for carrying or not carrying out certain business activity, or not to share any knowledge, patent, trademark, copyright etc.
  • Any sum received/receivable in cash/kind in consideration with capital asset's demolishment or transfer or destruction if the whole amount of expenditure on such asset has been allowed as a deduction u/s 35AD.

Income from Capital Gains

A Capital asset include any kind of property held by an assessee such as real estate, equity shares, bonds, jewellery, paintings, art etc. but does not include items like stock-in-trade for businesses and personal effects. For tax purposes, there are two types of capital assets:

Long term: Long term asset is that which is held by a person for three years except in case of shares or mutual funds which becomes long term just after one year of holding. Sale of such long term assets gives rise to long term capital gains.

The different schemes of taxation of LTCG are:
  • U/s 10(38), no tax is payable for long term capital gains on shares or securities or mutual funds on which Securities Transaction Tax (STT) has been paid. STT does not apply to off-market transactions and company buybacks. Therefore, non payment of STT lead to higher capital gains taxes.
  • In case of other shares and securities, person has an option to either index costs to inflation and pay 20% of indexed gains, or pay 10% of non indexed gains. The indexation rates are released by the I-T department each year.
  • In case of all other long term capital gains, indexation benefit is available and tax rate is 20%.

Short term: Which has been helped by a person for less than three years. Transfer of capital assets results in capital gains. Transfer has been defined under section 2(47) to include sale, exchange, relinquishment of asset, extinguishment of rights in an asset, etc. STCG are taxed as:
  • U/s 111A, for shares or mutual funds where STT is paid, tax rate is 15%.
  • In rest of the cases, it is considered as a part of gross income and taxed as normal tax rate.
For companies abroad: The tax liability is 20% and STT is not paid.

Income from Other Sources

Income which does not meet criteria to go to other heads is taxed under this head. There are also some specific incomes which are taxed under this head:
  • Income from Dividends
  • Winning of Horse races/Bull races
  • Winning of a lottery
  • Any amount received from key man insurance policy as donation.
  • Income from shares (dividend other than Indian company)

Last Updated on June 18, 2015

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