As is well-known, income-tax is deducted at source in respect of income from ‘Salaries’. As the income of salaried tax-payers is fixed, they are more susceptible to inflationary pressures. Therefore, there have been progressive attempts in the past, to grant relief to salaried tax-payers. In order to subserve the aforesaid objective, a number of exemptions and deductions in respect of various allowances and other receipts, have been provided in the Income-Tax Act, 1961 (the Act), over a period of time.
Most of the employers make best use of the aforesaid provisions, in order to minimize the tax incidence in the case of their employees, so as to make their pay-package most attractive. In a given case, it is possible to so arrange the basic salary, allowances and perquisites, that the incidence of taxation is minimized. In other words, the pay-package of a salaried tax-payer can be planned in such a manner, within the four corners of law, that the income-tax payable in respect thereof is kept to the minimum.
Now-a-days flexi pay-package is very popular amongst the employees. As per the flexi pay-package, within the over-all consolidated amount of remuneration or cost to the employer fixed per month or per annum, the employee is allowed to choose the items of payment / benefit, which are most suitable to him. It may be stated here that in a flexi pay-package certain items like basic salary, dearness allowance, etc. are fixed, whereas the other items of payment / benefit are left to the choice of the employee.
At the outset, it may be stated that no hard and fast guidelines may be laid-down for the purpose of tax-planning in respect of the pay-package of a salaried tax-payer, so as to minimize the incidence of taxation in his case.
In order to formulate some broad guidelines for the aforesaid purpose, the relevant provisions of the Act and the Income-Tax Rules, 1962 (the Rules), will have to be examined. In addition, the relevant case-law will also have to be referred to. The same are examined / discussed hereinafter.
1. Charge on salary income – Section 15
Section 15 is the charging section in respect of income from ‘Salaries’. This section brings to charge the following categories of salary-
(i) Any salary due in the previous year, whether paid or not
(ii) Advance salary, and
(iii) Arrears of salary
A combined reading of sections 15 and 16 will reveal the following basis for charging salary to tax.
(a) Due basis
(b) Payment basis, and
(c) Allowance basis
Any salary due from an employer or former employer to an employee in the previous year, whether paid or not, is chargeable to tax. Clauses (b) and (c) of section 15 charge salary to tax when it is paid or allowed, viz. by way of advance salary or arrears of salary.
Under section 17(2), perquisites, when granted or allowed or provided to an employee by an employer, like rent-free accommodation, accommodation on concessional rent, etc., the value thereof, is to be included in salary and is chargeable to tax as such. Therefore, they are chargeable on ‘Allowance basis’.
2. Deductions from salaries – Section 16
clause (ia) has been inserted by the Finance Act, 2018, which states, a deduction of forty thousand rupees or the amount of the salary, whichever is less shall be allowed w.e.f. 1-4-2019
Entertainment allowance under section 16(ii), received by an employee is to be included in the income of the employee under the head ‘Salaries’ and thereafter, a deduction therefrom, is permissible subject to the conditions and limits laid-down under section 16(ii) of the Act.
As per the provisions of section 16(iii),any sum paid by an employee on account of the tax on employment (i.e. Profession tax), which is levied by a State Government, is allowable as a deduction from the salary of the employee, provided it has been paid by him.
The employer may allow deduction for the Profession tax paid by the employee while computing the tax to be deducted at source from ‘Salaries’.
3. Perquisites – Section 17(2)
Section 17(2) of the Act, gives an inclusive definition of ‘perquisites’. This clause comprises six sub-clauses followed by two provisos, and they deal with the following perquisites.
(i) Value of rent-free accommodation provided to the assessee by his employer. [Sub-clause (i)]
(ii) Value of any concession in respect of rent respecting any accommodation provided to the assessee by his employer. [Sub-clause (ii)]
(iii) Sums paid by the employer in respect of any obligation which, but for such payment, would have been payable by the assessee. [Sub-clause (iv)]
(iv) any sum payable by the employer, whether directly or through a fund, other than a recognised provident fund or an approved superannuation fund or a Deposit-linked Insurance Fund established under section 3G of the Coal Mines Provident Fund and Miscellaneous Provisions Act, 1948 (46 of 1948), or, as the case may be, section 6C of the Employees’ Provident Funds and Miscellaneous Provisions Act, 1952 (19 of 1952), to effect an assurance on the life of the assessee or to effect a contract for an annuity;. [Sub-clause (v)]
(v) the value of any specified security or sweat equity shares allotted or transferred, directly or indirectly, by the employer, or former employer, free of cost or at concessional rate to the assessee.[Sub-clause (vi)]
(vi) the amount of any contribution to an approved superannuation fund by the employer in respect of the assessee, to the extent it exceeds.[Sub-clause (vii)]
(vii) the value of any other fringe benefit or amenity as may be prescribed.[Sub-clause (viii)]
(vii) Under the first proviso to clause(2) of section 17, medical benefits are not treated as perquisite in certain specific situations.
As per sub-clause(viii) of section 17(2), ‘Perquisites’ also includes the value of any other benefit or amenity, as may be prescribed.
The valuation of ‘Perquisites’ is to be made as per Rule 3 of the Income-Tax Rules, 1962.
Sub-Rules (1) to (6) deal with the valuation of perquisites as follows:-
(a) Valuation of rent-free / concessional accommodation – Rule 3(1)
(b) Valuation of provision of domestic servants – Rule 3(3)
(c) Valuation of provision of gas / electricity / water – Rule 3(4)
(d) Valuation of provision of free or concessional educational facilities – Rule 3(5)
4. Specified employees
As per section 17(2)(iii), ‘Perquisite’ includes the value of any benefit or amenity granted or provided free of cost or at concessional rate in respect of certain employees. Such employees may be called as specified employees. The specified employees in this context are as follows:-
(i) Director – employee
(ii) An employee having 20 per cent or more of voting power in employer Company, and
(iii) An employee who is drawing salary in excess of Rs.50,000 and does not fall in the aforesaid two categories.
For computing the limit of Rs.50,000, the following items are excluded / deducted:-
(a) Non-monetary benefits
(b) Deduction on account of Profession tax
(c) Exempt entertainment allowance, and
(d) Non-taxable allowance.
From the aforesaid discussion, it may be concluded that any benefit or amenity granted or provided free of cost or at concessional rate, to an employee with salary not exceeding Rs.50,000, will not be treated as perquisite in his hands.
5. Special allowance or benefit – Section 10(14)
Certain special allowances or benefits are exempt under section 10(14) of the Act. This is a very important provision. For the sake of ready reference section 10(14) is reproduced as follows:-
Incomes not included in total income.
10. In computing the total income of a previous year of any person, any income falling within any of the following clauses shall not be included—
(14) (i) any such special allowance or benefit, not being in the nature of a perquisite within the meaning of clause (2) of section 17, specifically granted to meet expenses wholly, necessarily and exclusively incurred in the performance of the duties of an office or employment of profit, as may be prescribed, to the extent to which such expenses are actually incurred for that purpose ;
(ii) any such allowance granted to the assessee either to meet his personal expenses at the place where the duties of his office or employment of profit are ordinarily performed by him or at the place where he ordinarily resides, or to compensate him for the increased cost of living, as may be prescribed and to the extent as may be prescribed :
Provided that nothing in sub-clause (ii) shall apply to any allowance in the nature of personal allowance granted to the assessee to remunerate or compensate him for performing duties of a special nature relating to his office or employment unless such allowance is related to the place of his posting or residence ;
From the aforesaid provisions, it may be seen that under sub-clause (i) of section 10(14), any prescribed special allowance or benefit other than those in the nature of a perquisite, specifically granted to meet expenses wholly, necessarily and exclusively incurred in the performance of the duties of an office or employment of profit, is exempt to the extent to which such expenses are actually incurred for that purpose.
Certificate furnished by the employee in regard to expenditure is adequate evidence
For exemption in respect of any special allowance under section 10(14)(i), there is a condition that the exemption will be limited upto the extent to which such expenses are actually incurred.
In this regard a certificate furnished by the employee that he has fully spent the allowance granted to him in the performance of his duties, will be adequate evidence for the purposes of TDS under section 192 of the Act. It may also be stated here that section 192 does not vest any power in the employer to disbelieve the genuineness of the declarations filed by the employees for the purposes of TDS in respect of their income from salaries.
The allowances prescribed for this purpose(which are fully exempt) are listed in Rule 2BB(1) of the Income-Tax Rules, 1962. For the sake of ready reference Rule 2BB(1) is reproduced as follows:-
(1) For the purposes of sub-clause (i) of clause (14) of section 10, prescribed allowances, by whatever name called, shall be the following, namely :—
(a) any allowance granted to meet the cost of travel on tour or on transfer;
(b) any allowance, whether, granted on tour or for the period of journey in connection with transfer, to meet the ordinary daily charges incurred by an employee on account of absence from his normal place of duty;
(c) any allowance granted to meet the expenditure incurred on conveyance in performance of duties of an office or employment of profit :
Provided that free conveyance is not provided by the employer;
(d) any allowance granted to meet the expenditure incurred on a helper where such helper is engaged for the performance of the duties of an office or employment of profit;
(e) any allowance granted for encouraging the academic, research and training pursuits in educational and research institutions;
(f) any allowance granted to meet the expenditure incurred on the purchase or maintenance of uniform for wear during the performance of the duties of an office or employment of profit.
Explanation : For the purpose of clause (a), “allowance granted to meet the cost of travel on transfer” includes any sum paid in connection with transfer, packing and transportation of personal effects on such transfer.
Besides,under sub-clause(ii) of section 10(14), any prescribed allowance granted to the assessee either to meet his personal expenses at the place where the duties of his office or employment of profit are ordinarily performed by him or at the place where he ordinarily resides, or to compensate him for the increased cost of living, is exempt upto the prescribed extent laid down under Rule 2BB(2). For this purpose, a table has been provided under Rule 2BB(2). For our purpose, the following items are important.
6. Important exemptions in respect of the salaried employees under Section 10 of the I.T. Act
There are a number of exemptions provided under sections 10(10) to 10(13A) in respect of salaried employees. The same may be briefly stated as follows:-
7. Pay more special allowances to the employees, which are exempt in their hands
In view of the reasons stated in earlier para (7), it would be advisable to pay more special allowances to the employees, which are exempt in their hands under section 10 or 17(2). In this context, Rule 2BB(1) is very relevant. As per Rule 2BB(1)(c), any allowance granted to meet the expenditure incurred on conveyance in performance of duties of an office or employment of profit, is exempt from tax. In this regard, a certificate from the employee that he has fully spent the aforesaid allowance for the purpose of his duties, will be sufficient, as regards the employer and no tax will be required to be deducted at source in respect thereof.
Therefore, a special allowance should be preferred to payment by way of reimbursement on the expenditure incurred by the employees.
8. Deductions under section 80C, etc.
Section 80C provides that an assessee, being an individual or a Hindu Undivided Family, will be allowed a deduction from gross total income of an amount not exceeding Rs.1.50 lakh in respect of amount paid or deposited in the previous year in the specified savings listed in section 80C(2).
The deductions include payment of life insurance premia and contributions to provident fund, etc. Such payments also include contribution to certain pension funds, subscription towards units of mutual fund / UTI, payment of tuition fees for children, payment for repayment of loan in respect of purchase / construction of a residential house. The most important point to be noted here is that total deduction under sections 80C as well as 80CCC and 80CCD, should not exceed Rs.1.50 lakh.
9. Tax-planning measures
No hard and fast guidelines can be provided for the purpose of tax-planning, so as to reduce the incidence of taxation to the minimum. In the light of the discussion, in the preceding paragraphs, some broad guidelines by way of tax-planning measures, may be provided as follows:-
(i) The basic salary may be taken at 35-40% of the total pay-package
(ii) It should be ensured that dearness allowance forms part of salary as per the terms of employment.
(iii) House rent allowance (HRA) paid by the employer, is exempt under section 10(13A), as per the limits prescribed by Rule 2A of the Income-Tax Rules, 1962. It is, therefore, advisable to pay house rent allowance to the employees in preference to providing rent-free accommodation to them.
(iv) All these special allowances exempt under section 10(14) r.w.rule 2BB should be provided to the extent possible.
Same instances of these allowances are, as follows:-
(a) Conveyance allowance
(b) Transport allowance for commuting between the office and residence upto Rs. 1600 per month. However wef A.Y 2019-20 this allowance has been withdrawn and standard deduction of Rs 40000 has been allowed u/s 16 in lieu of Transport Allowance and Medical Reimbursement)
(c) Uniform allowance, if the employer has uniform code in the organisation.
(d) Helper allowance where such helper is engaged in the performance of official duties, and
(e) Education allowance, etc.
(v) Leave travel allowance may be provided as a part of pay-package.
(vi) Expenditure on medical treatment should also be made a part of pay-package. Such expenditure is exempt, vide proviso to section 17(2) after clause (vi) thereof.
It may be noted that medical reimbursement of actual expenditure upto Rs. 15,000 per year, is also exempt in the hands of the employee till financial year 2017-18. However wef A.Y 2019-20 this allowance has been withdrawn and standard deduction of Rs 40000 has been allowed u/s 16 in lieu of Transport Allowance and Medical Reimbursement)
(vii) If employee owns a house, which he has occupied for his own residence, such house may be taken by the employer on lease and thereafter, the same may be allotted to the employee as rent-free accommodation.
(viii) Maximum benefit must be availed of, in respect of the exemptions provided to salaried employees under section 10 of the Income-Tax Act. This issue has been discussed in the aforesaid para (6). Some instances of such exemptions are as follows:-
(b) Commutation of pension : section 10(10A)
(e) Approved Superannuation Fund : section 10(13)
(ix) Maximum benefit must be availed of, in respect of deduction under section 80C, etc. This issue has been discussed in the aforesaid para (10).
(x) Motor-car for office and private use, along with driver, if necessary, may be provided to senior employees of the organization.
(xi) Computer or lap-top for office and private use may also be provided to the employee.
(xii) Free tea, coffee, snacks, refreshment, lunch / dinner in office or factory, may be provided to the employees. If feasible paid meal vouchers may also be provided to the employees in the absence of canteen or other such arrangement.
As already pointed out, no hard and fast parameters can be laid-down for the purpose of tax-planning in respect of income from ‘Salaries’. Only broad guidelines may be provided in this regard and the same have been discussed in the preceding paragraphs.
In the light of the aforesaid reasons, the Human Resource Department (HRD) of an organization will have to try different permutations and combinations in respect of the pay-package of the employees of the organization, on the basis of their peculiar needs and circumstances.
The aforesaid broad guidelines may be used as tax-planning measures in respect of the pay-package of the employees of an organization.
Mr. S. K. TYAGI, M.Sc., LL.B., Advocate, Ex-Indian Revenue Service and Income-Tax Advisor
Office Address– Flat No.2, (First Floor), Gurudatta Avenue, Popular Heights Road, Koregaon Park, PUNE – 411 001, Phone Office: 0212-633012, Residence Phone -0212-682032, 0212-682444
(Republished With Amendments)