Income tax calculation: 5 things to know

Every year, you pay a certain portion of your income to the government as tax. This income tax is calculated on your total taxable income. While this includes your salary, capital gains from investments, income from business etc, it is often not a simple addition of your income from different sources. This is because many income sources are not taxable. This makes the whole process of calculating income tax complication. Familiarity with the process could make it easier.

This is very important because the government can penalize you for mistakes in your income tax filings. It could even lead to criminal prosecution. Moreover, working knowledge about income tax calculation could help you save on taxes.

Here are five things to know before calculating your taxable income:
Income: Before calculating your income, you should be aware of what the government considers as ‘income’. There are five different heads of incomes under which a person a taxed:
a) Salaries: This includes commissions, perks, bonus, allowances, retirement benefits.

b) Profits and gains from business and profession: This includes income earned from your profession or business.

c) Income from property: This includes rental income from giving your house or property for residential or commercial usage.

d) Capital gains: Any profit or gain earned from an increase in the value of your investments. This includes real estate properties, equity investments, mutual fund holdings and so on. There are two kinds of capital gains – short-term and long-term. Short-term capital gains are usually taxed at a higher rate.

e) Income from other sources: This includes income that does not fall under the four categories above. For example, it could include interest income from bank deposits.

Income Tax slab: Not everyone is taxed at the same rate. Higher your income, greater is the tax rate. This is why every year, during his budget speech, the finance minister announces the tax slabs applicable for the coming financial year. Each slab has a specific tax rate. Get yourself acquainted with them.

The income tax slabs are divided into four categories starting from Slab 0 to Slab III. Slab 0 pertains to those who earn less than Rs 2.5 lakh. If you fall in this segment, you need not pay any income tax. Slab 1 contains those who earn between Rs 2.5 lakh and Rs 5 lakh. The tax rate for this slab is 10%. If you earn between Rs 5 lakh and Rs 10 lakh (Slab 2), your income tax rate is 20%. The last slab is for those who earn over Rs 10 lakh. The income tax rate for this bracket is 30%. For those who earn over Rs 1 crore, the government has levied a tax surcharge of 10% over and above the 30% income tax rate.

However, remember this is for the general working population. There are some special rules for senior citizens.

Senior citizens with age between 60 and 80 years do not have to pay tax if they earn less than Rs 3 lakh, higher than the Rs 2.5 lakh threshold for the general population.  For income above Rs 3 lakh, the tax rates and slabs are the same. For those over 80 years of age, this threshold is higher at Rs 5 lakh.

Tax exemptions: Not all your incomes and gains are taxable. Section 80 of the Income Tax Act underlines all the income that is not taxed. This includes certain types of savings, insurances, donations, home or education loan repayments, medical insurance etc. There is a certain limit to this too. For tax exemptions from investments in public provident funds and equity schemes, the exemption cannot exceed Rs 1.5 lakh.

It is important for you to be aware of theses exemptions. They can help lower your total taxable income, thus helping you save taxes. For example, suppose you earn Rs 3.5 lakh in total. If you invest Rs 1.5 lakh in tax-saving instruments mentioned under Section 80C of the Income Tax, your taxable income would reduce to Rs 2 lakh. You would, thus, not have to pay any tax at all. Otherwise, you would have to pay 10% tax.

Housing Rent Allowances: HRA is an allowance given by the employer to the employee for paying his/her house rent. This allowance not taxed. It can be calculated in three ways. The final amount is the lowest of the three.
a) Amount of HRA received by the employee. This is the amount mentioned in the salary breakup.
b) Sometimes, the salary breakup does not mention a separate allowance for house rent. In such a case, the calculation for income tax purposes could be based on ‘actual rent paid minus 10% of salary’.
c) The above two options cannot exceed 50% of your basic salary.

Final Calculations: First calculate your total income from the different sources mentioned. Next, find out what exemptions are you eligible for. Subtract these from your total income to get your final taxable income. Remember, each source of income may have a different tax rate. For example, all capital gains are not always taxed in the same way. Take these variances into consideration. Also, it is better to get your calculations checked by a chartered accountant.