Many people inquire how their salaries, received in advance or in arrears, would be taxed during a particular year. What must be understood is that tax is calculated on one’s income, which is earned or received during the year. Salaried income is also taxable though one can seek relief in certain cases. For example, assessees who have received any portion of their salaries, be it in advance or in arrears or a received a family pension that was long due, can now relief under Section 89(1) of the Income Tax Act.
This is because the Department assesses tax liabilities for a particular year depending on the income earned in that year. This income may include not only the money earned during a year but also the arrears of the past paid during the current year. However, the new income assessed may be subject to new tax rates, thus, making them liable to pay more taxes. In such situations, the Act provides relief to the assessees under Section 89(1) of the Act.
Calculating relief under Section 89(1)
Relief under Section 89(1) for tax on arrears of salary is available in the following instances:
- Salary received in advance or in arrears
- Earnings from gratuity
- Compensation on termination of job
- Pension amount commuted
As opposed to the common belief of calculations regarding reliefs and exemptions being tedious, you may evaluate the relief amount under Section 89(1) of the Act as follows.
Step 1: The taxpayer must calculate the tax payable on his total income including arrears of the previous year, but received during this year.
Step 2: The taxpayer must then find out the amount of tax payable on his total income excluding arrears.
Step 3: Subtract the amount received calculated under Step 1 from the value obtained in Step 2.
Step 4: Find out the tax payable on the total income inclusive of arrears of the year to which the arrears are accrued.
Step 5: Find out the tax payable on the total income excluding the arrears of the year to which the arrears are accrued.
Step 6: Subtract the amount calculated in Step 5 from the value obtained in Step 4.
You can claim relief on the excess of tax calculated in Step 3 over and above the amount computed in Step 5. However, if the amount calculated in Step 3 is less than the tax computed in Step 5, the taxpayer will not be eligible to seek any relief.
You can seek relief tax relief on gratuity only when the amount received in respect of the previous services of the assessee is extended over an employment period of not less than five years. This means that taxpayers will get no relief on the gratuity amount subject to the service term period being less than five years.
Taxpayers seeking relief on the compensation amount on termination of employment must be mindful of the following conditions.
- The compensation is received after a continued period of equal to or more than three years.
- The unexpired part of the term of employment must be equal to or more than three years.
Filing Form 10E is mandatory to claim relief under Section 89(1). Government employees are entitled to tax relief under Section 89. Employees working in the private sector must apply for tax relief to the assessing officer. However, no exemption from the tax would be granted on the amount received or receivable by an assessee on his voluntary retirement or termination of the service.