Income tax is applicable to the salary earned by an employee from the employer. The Income Tax Act, 1961 gives power to the government to levy income tax on salaried individuals. As a direct tax, it significantly contributes to the revenue of the government, enabling it to fund various initiatives and public services throughout the year. For salaried employees in India, understanding the intricacies of income tax and leveraging available exemptions and deductions can lead to substantial savings. This comprehensive guide delves into effective tax saving strategies for salaried employees, helping them optimize their earnings.
Understanding Income Tax Slabs
In India, income tax is charged according to different income tax slabs, which the government can revise periodically. For the Financial Year 2021-22 (Assessment Year 2022-23), the tax slabs are as follows:
| Tax Slab (₹) | Old Regime – Tax Rates | New Regime – Tax Rates |
|---|---|---|
| 0 – 2,50,000 | 0% | 0% |
| 2,50,000 – 5,00,000 | 5% | 5% |
| 5,00,000 – 7,50,000 | 20% | 10% |
| 7,50,000 – 10,00,000 | 20% | 15% |
| 10,00,000 – 12,50,000 | 30% | 20% |
| 12,50,000 – 15,00,000 | 30% | 25% |
| 15,00,000 & above | 30% | 30% |
In addition to income tax, a salaried person also has to pay education cess, which is calculated as a percentage of the total tax liability.
Highly Recommended Salary Components to Reduce Income Tax
1. House Rent Allowance (HRA)
House Rent Allowance (HRA) is one of the most significant components that can help reduce your taxable income. The least of the following amounts is exempt from tax:
– Actual HRA Received
– 40% of Salary (50% if the house is situated in Mumbai, Kolkata, Delhi, or Chennai)
– Rent paid in excess of 10% of salary
If you live with your parents and pay them rent, you can claim the HRA deduction, provided you get a receipt for the same. Your parents must report this rental income in their tax return.
2. Employee Contribution to Recognized Provident Fund (EPF)
EPF is a beneficial tax-saving and investment scheme. The employer contributes to a recognized provident fund for the employee’s benefit, and the employee can also contribute. Contributions by the employer up to 12% of pay (Basic + DA) are tax-free.
3. National Pension System (NPS)
The National Pension System (NPS) offers tax benefits under various sections:
– Section 80CCD(1): Salaried individuals can claim a deduction up to 10% of salary (basic + DA).
– Section 80CCD(1B): An additional deduction of Rs. 50,000 is available.
– Section 80CCD(2): Employer contributions up to 14% of salary (for government employees) or 10% (for others) are deductible.
4. Standard Deduction
From the year 2019, a standard deduction of Rs 50,000 or the amount of salary, whichever is lower, is allowed. This deduction replaces earlier deductions for conveyance allowance and medical reimbursement.
5. Mobile Phone and Internet Bill Reimbursement
Expenses for house landline phones, broadband connections, and mobile phones can be reimbursed. The exemption amount is the lesser of the total amount spent or the amount of compensation received.
6. Meal Coupons
Employers may issue food coupons that can be used at various restaurants. These meal vouchers are tax exempt up to Rs 50 per meal.
7. Uniform Allowance
Expenses for buying and maintaining office uniforms can be reimbursed. The exemption amount is the lesser of the total amount spent or the compensation received.
8. Leave Travel Allowance (LTA)
LTA can be claimed for travel expenses incurred during a vacation. The exemption applies to journeys by rail, air, or bus, subject to specified limits:
– Air Travel: Exemption is limited to economy fare for the shortest route.
– Rail Travel: Limited to first-class AC fare for the shortest route.
– Other Modes: Limited to first-class fare of recognized public transport, if available.
9. Transportation or Conveyance Allowance
A monthly exemption of up to ₹ 1,600 is available for travel to and from work. For handicapped individuals, the exemption is increased to ₹ 3,200.
10. Medical Reimbursement
Medical expenses incurred by the employee or their family can be reimbursed. The exemption amount is the lesser of the amount actually reimbursed or Rs 15,000. However, this exemption is now included in the Standard Deduction.
11. Car Maintenance Allowance
If an employee uses a company’s car, expenses for the driver, insurance, maintenance, and fuel can be reimbursed. The taxable value is Rs 2,700 per month for cars with engines up to 1.6 liters and Rs 3,300 per month for larger engines.
Example of Tax Savings Through Salary Structuring
Let’s consider Mr. Shah, who earns INR 10,00,000 per year, to understand how structuring a salary can lead to tax savings.
| 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 | 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 | 50,000 | 50,000 |
| (-) Leave Travel Allowance | 30,000 | 30,000 |
| (-) Other allowances | Nil | Nil |
| Meal allowance | Nil | 26,400 |
| Mobile bill reimbursement | Nil | 10,000 |
| Gift voucher | Nil | 5,000 |
| Child’s education allowance | Nil | 2,400 |
| Child’s hostel allowance | Nil | 7,200 |
| Newspaper/Journal allowance | Nil | 16,000 |
| Internet Bill reimbursement | Nil | 12,000 |
| Total Taxable Salary | 6,70,000 | 6,41,000 |
| Less: Profession Tax Paid | 2,500 | 2,500 |
| Income under the head Salary | 6,67,500 | 6,38,500 |
| (-) Deductions under Section 80C | 1,50,000 | 1,50,000 |
| Total Taxable Income | 5,17,500 | 4,88,500 |
| Tax on income | 16,640 | 0 (Rebate u/s87A) |
| Saving in tax | 16,640 | Nil |
By structuring his salary appropriately, Mr. Shah can significantly reduce his tax liability.
Other Tax-Saving Options for Salaried Employees
Employees’ Provident Fund (EPF)
EPF is a popular tax-saving option where both the employee and employer contribute 12% of the employee’s salary. The accumulated fund along with interest is tax-free.
Public Provident Fund (PPF)
PPF is an investment option that provides tax-free returns and falls under the EEE (Exempt-Exempt-Exempt) category. Contributions to PPF are deductible under Section 80C.
Equity Linked Savings Scheme (ELSS)
ELSS offers higher returns and tax benefits under Section 80C. However, returns above Rs 1,00,000 are taxed at 10%.
National Pension Scheme (NPS)
NPS provides tax benefits under Section 80CCD (1) within the Rs. 1.5 Lakh ceiling u/s 80CCE and an additional deduction of Rs. 50,000 under Section 80CCD(1B).
Tax-Saving Fixed Deposit (FD)
Tax-saving FDs have a lock-in period of 5 years and offer tax benefits under Section 80C. However, the returns are taxable.
Life Insurance Premium
Premiums paid towards life insurance are deductible under Section 80C, up to Rs. 1,50,000. The benefits received are tax-exempt under Section 10(10D).
House Rent Allowance (HRA)
HRA is partially exempt under Section 10(13A). If you live in rented accommodation, part of your HRA is exempt from tax.
Leave Travel Concession (LTC)
LTC allows tax exemption for actual travel expenses incurred during a vacation within India.
Gratuity
Gratuity received on retirement, resignation, or death is tax-exempt up to Rs. 20, 00,000 under Section 10(10).
Education Loans
Interest paid on education loans is deductible under Section 80E for up to 8 years from the start of repayment.
Home Loan Interest
Interest paid on home loans is deductible up to Rs. 2,00,000 under Section 24(b) for self-occupied properties. Additional deductions under Section 80EE or 80EEA may be available.
Medical Insurance Premium
Premiums paid for health insurance are deductible under Section 80D up to Rs. 25,000 (Rs. 50,000 for senior citizens).
Donations
Donations to specified funds and charitable institutions are deductible under Section 80G.
Conclusion
Effective tax planning involves leveraging various exemptions, deductions, and allowances to minimize taxable income. By understanding and implementing these strategies, salaried employees can optimize their earnings and achieve significant tax savings.