How is Income Tax Calculated?

Many people are amateurs in the whole gamut of calculating income tax, paying taxes, filing returns, tax saving, etc. Several online tools compute income tax for you. We at IIFL, are staunch believers of financial independence and consequently financial literacy. If you are acquainted with the knowledge of Income Tax, this time, you get to know Income Tax.

Income Tax Calculated

There’s a lot to learn before one knows how income tax is calculated. Let’s dive into the (necessary) nitty-gritty of the process.

Who are taxpayers?

  • Individuals
  • Hindu Undivided Family (HUF)
  • Association of Persons(AOP)
  • Body of Individuals (BOI)
  • Firms
  • Companies

Individuals are further broadly classified into residents and non-residents.

  • Resident individuals are liable to pay tax on their global income, in India.
  • Non-residents need to pay taxes only on income earned or accrued in India.

The residential status is determined for every financial year based on the taxpayer's time spent in India. Resident Individuals are further classified into:

  • Individuals less than 60 years of age
  • Individuals aged more than 60 but less than 80 years
  • Individuals aged more than 80 years

Different sources of income:

According to the Income Tax Act 1961, an individual can have five different sources of income. Any income an individual earns can only be categorized under these five sources. They are:

  • Salary
  • House property (Rental income)
  • Business or profession
  • Capital gains - Long-term and short-term capital gains from the sale of capital assets
  • Other sources - All the other remainder incomes, like interest, dividends, taxable gifts, etc.

Computing Gross Total Income and claiming deductions:

Your Gross Total Income is calculated by setting off any losses under each of the income heads and then adding the income from all five sources. Once you have the Gross Total Income, the next step is to claim the relevant tax deductions from the income. That’s how we get to your Taxable Income.

Chapter VI-A of the Income Tax Act offers a wide range of tax deductions from Section 80C to Section 80U. You can claim deductions under relevant sections. This reduces your Gross Total Income and consequently, the income tax calculated.

Income from Salary xxx
Add: Income from House Property xxx
Add: Income from Business/Profession xxx
Add: Income from Capital Gains xxx
Add: Income from Other Sources xxx
Gross Total Income XXXX
Less: Deductions xxx
Taxable Income XXXX

Old & New Tax Regime:

As you may know, the Union Budget consists of a detailed account of the government’s finances, revenues, and expenditures. During Budget 2020, the Government rolled out a new tax regime to offer considerable relief to taxpayers and streamline the income tax law. The new tax regime decreases the dependency of taxpayers on tax consultants and makes it easier to file their returns independently.

The old and new tax regimes both remain relevant. It is your choice as to which scheme and how you want your income tax calculation to be carried out. Individuals who have income from business or profession cannot switch between the new and old tax regimes every year.

If they opt for the new tax regime, such individuals get only one chance to go back to the old regime. Once you switch back to the old tax regime, you will not be able to opt for the new tax regime unless the particular income from business or profession ceases to exist.

Understanding income tax slabs:

Each taxpayer is taxed differently under income tax laws. Based on income, age and tax slabs, and tax rates for any particular financial year. Individuals’ incomes are grouped into blocks called tax brackets or tax slabs with different applicable tax rates. The rate increases in proportion to the income.

Firms and Indian companies have a fixed rate of tax calculated on their taxable profits. Individuals, HUF, AOP, and BOI taxpayers are taxed based on the income slab they fall under.

While the tax slabs are different for resident individuals over the age of 60, we will be covering tax slabs applicable to resident individuals under the age of 60 in this article. This is an educational exercise in calculating your Income Tax online!

 

  1. Old tax regime

    Individuals have the option to continue with the old tax regime. You can claim deductions of allowances like Leave Travel Concession (LTC), House Rent Allowance (HRA), and others. Additionally, deductions for tax-saving investments as per section 80C (LIC, PPF, NPS, etc) to 80U can be claimed. Standard deduction of Rs 50,000, the deduction for interest paid on a home loan.

    The income tax slabs under the old tax regime are as below:

    Income Range Tax Rate Tax to be paid
    Up to Rs.2,50,000 0 Nil
    Rs. 2,50,000 - Rs. 5,00,000 5% 5% of your taxable income
    Rs. 5,00,000 - Rs. 10,00,000 20% Rs. 12,500 + 20% of income above Rs. 5,00,000
    Above Rs. 10,00,000 30% Rs 1,12,500+ 30% of income above Rs 10 lakhs

    For example:

    Suppose your income for the year is Rs. 12 lacs.

    Option A: 30% tax on Rs. 12 lacs = Rs.3,60,000 X

    Option B: Rs. 1,12,500 + (2lacs x 30%) = Rs. 1,12,500 + Rs. 60,000 = Rs. 1,72,500. ✓

  2. New tax regime

    From FY 2020-21, a new tax regime is available for individuals and HUFs with lower tax rates but with zero tax deductions/exemptions. The new tax regime is optional and the choice should be made at the time of filing the ITR. If the old regime is continued, all the tax deductions/exemptions as available can be availed by the taxpayer.

    The income tax slabs under the new tax regime are as below:

    Income Range Tax Rate
    Income from Rs 2.5 lacs to Rs 5 lacs 5%
    Income from Rs 5 lacs to Rs 7.5 lacs 10%
    Income from Rs 7.5 lacs to Rs 10 lacs 15%
    Income from Rs 10 lacs to Rs 12.5 lacs 20%
    Income from Rs 12.5 lacs to Rs 15 lacs 25%
    Income above Rs 15 lacs 30%

    Most of the tax deductions and exemptions are not allowed if you opt for the New Tax regime. However, tax exemptions and deductions that are available under the new regime are:

    • Transport allowances in case of a specially-abled person.
    • Conveyance allowance received to meet the conveyance expenditure incurred as part of your employment.
    • Any compensation received to meet the cost of travel on tour or transfer.
    • Daily allowance received to meet the ordinary regular charges or expenditure you incur on account of absence from his regular place of duty.

    Points applicable to all individual taxpayers:

    1. A rebate of up to Rs 12,500 is available under section 87A under both tax regimes. Thus, no income tax is payable for total taxable income up to Rs 5 lakh in both regimes. [not applicable for NRIs and HUFs]
    2. Cess at the rate of 4% is applicable on the income tax amount.
    3. Surcharge at different rates on the income tax is applicable before the levy of cess if the total income exceeds Rs 50 lakh in a financial year.

What is Advance Tax?

Advance tax is the tax payable by individuals who have sources of income other than their salary as specified above as the five sources of income. This is applicable to rent, capital gains from shares, fixed deposits, lottery winnings, etc.

As the name suggests, it means paying taxes in advance rather than paying a lump sum amount at the end of the financial year. Also known as the 'pay as you earn' scheme, these taxes are supposed to be paid in the same year the income is received.

As per Income Tax Act, a taxpayer needs to pay advance tax if his/her tax liability is Rs. 10,000 or more in a financial year. This can be paid online or through certain banks.

Calculating your Advance Tax payments is easy. Follow the steps below:

  1. Estimate how much income you earned in the financial year for which you are doing the advance tax calculation. (besides Salary income)
  2. Add your salary to the figure above to arrive at the gross taxable income (while advance tax is not applicable on your salary, the total may change your tax slab which will change the tax liability further)
  3. Calculate the tax payable by applying income tax slabs that apply to you
  4. As per the TDS slab, deduct the TDS that is likely to get deducted or which has already been deducted.

If your tax liability after deduction of TDS exceeds Rs. 10,000, you are liable to pay advance tax.

Your income tax calculation does not have to be as daunting. With the right tools and knowledge of the tax system, you can calculate your income tax efficiently.

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