A LECTURE ON TAXATION LAW

Dr. Sagar Kumar Jaiswal

ASSISTNT PROFESSOR, GURU GHASHIDAS VISHWAVIDYALAYA, BILASPUR (C.G.)

 MESSAGES TO STUDENTS
This text material is prepared for your self-study during your stay at home. It is a
text study material compiled from many sources and, therefore, is protected from
point of view of copyright of various authors including me. You are not supposed to
infringe copyright of authors. So make use of it for your own academic excellence
and do not commercially exploit the same.
This material does not cover all the perspectives of Income Tax Law. It is confined
to cover only those perspectives which is included in your syllabus.
It is possible that you may have some problems or doubts while understanding the
contents of this study material. It is suggested, therefore, to download and read along
with this material: The Income Tax Act, 1961, Income Tax Rule, 1962, Fiancé Act
of current year and past year. It is also suggested to you to look into web the meaning
and implications of particular provisions. There are many study materials in in the
web in the form of document, pdf, ppt. You can also remove your doubts by direct
calling to me, or leave a message into watsup so that I will call you back to remove
your doubts. Note that numerical questions are not in the purview of asking in
examination.
Share this material only to those students of our university [i.e., Guru Ghashidas
Vishwavidyalay, Bilaspur (C.G.)] who are the students of 8th Semester, BA.LL.B.
or B.Com.LLB., or who are appearing for 8th Semester Exam in the subject of
Taxation Law. Take care that everyone among you have access to this study material.

One last thing I which I want to share with you is that nothing will be asked in the
examination which this study material does not cover. So read and learn this material
carefully. You are supposed to write the answer in the examination in the manner
contentious and relevant. The information and facts should be correct. It does not
mean that you are bound to write words by words of this study material. Prepare
yourself for examination by making notes in your notebook.

Take Care Wishing You all the Best God bless you

Dr. Sagar Kumar Jaiswal

 TABLE OF CONTENTS

1. INTRODUCTION

2. BASIC CONCEPTS

3. RESIDENTIAL STATUS & TAX INCIDENCE

4. INCOMES WHICH DO NOT FORM PART OF TOTAL INCOME

5. COMPUTATION OF TOTAL INCOME UNDER VARIOUS HEADS: PART I – INCOME

UNDER THE HEAD SALARIES

6. COMPUTATION OF TOTAL INCOME UNDER VARIOUS HEADS: PART II– INCOME

UNDER THE HEAD PROFIT AND GAIN FROM BUSINESS AND PROFESSION

7. COMPUTATION OF TOTAL INCOME UNDER VARIOUS HEADS: PART III– INCOME

UNDER THE HEAD CAPITAL

8. SET OFF AND CARRY FORWARD OF LOSSES

9. DEDUCTION FROM GROSS TOTAL INCOME AND TAX LIABILITY

10. TAX CALCULATION AND REBATE

11. INCOME TAX AUTHORITIES

12. RETURN OF INCOME TAX & ASSESSMENT PROCEDURE

CHAPTER 1
INTRODUCTION

Unit 1: Cannon of taxation, constitutional provision relating to taxation, nature and scope of tax,
constitutional basis of power of taxation, article 265 of constitution of India, different direct tax
laws, and their inter-relationship, importance of income tax Act, annual Finance Act, and
harmonization of tax regime.

1. Introduction
Tax is the financial charge imposed by the Government on income, commodity or activity.
Government imposes two types of taxes namely Direct taxes and Indirect taxes. Direct tax is one
where burden of tax is directly on the payer e.g. income tax. Indirect tax is paid by the person other
than the one who utilizes the product or service e.g. Excise duty, Custom duty, Service tax, Sales
Tax, Value Added Tax. The tax in case of indirect tax is invisible.

Note 1.: CST for interstate trade; VAT for intra state trade; EXCISE for manufacturing or
production, and; CUSTOM for import or export.
CST: It is generally payable on the sale of all goods by a dealer in the course of inter-state trade or
commerce or, outside a state or, in the course of import into or, export from India.
VAT: is a multi-stage tax on goods that is levied across various stages of production and supply
with credit given for tax paid at each stage of Value addition. Introduction of state level VAT is
the most significant tax reform measure at state level. The state level VAT has replaced the existing
State Sales Tax. It was introduced from April 1, 2005 in the country.
Excise Duty: Central Excise duty is an indirect tax levied on goods manufactured in India.
Excisable goods have been defined as those, which have been specified in the Central Excise Tariff
Act as being subjected to the duty of excise.
Custom Duty: Custom or import duties are levied by the Central Government of India on the goods
imported into India. The rate at which customs duty is leviable on the goods depends on the
classification of the goods determined under the Customs Tariff.

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Service tax: It is a tax which a consumer receives service from service provider. Though introduced
in India in 1994 with mere 3 basic services viz. general insurance, stock broking and telephone,
the rate of service tax and scope of services have very much enhanced.
Note 2: In 2017 tax on goods and services has been merged. Now they are called GST. However,
GST does not include Custom duty. Custom duty has still a separate existence. This is because of
the very nature of custom duty which is unable to fit in the framework of GST. Moreover, the law
of custom duty depends upon our obligation to International trade regime.
Note 3. : The important provisions of Wealth Tax and Gift Tax have been adjusted in the Income
Tax Act 1961.

The objective of indirect tax is to give facilities to the people. The objective of direct tax is to fill
the gap between the ‘have’ and ‘have not’. It removes inequalities, thus preventing the fall of
wealth in the hand of few. This is done by mechanism of tax slab: the more the income, the more
is the rate of tax.
The taxes are collected for serving the primary purpose of providing sufficient revenues to the
State, these have become an instrument through which the social and economic objectives of a
welfare State could be achieved. They are utilized now for providing incentives for larger earnings
and more savings, fostering industrial development by selective concessions, restraining
ostentatious expenditure, checking inflationary pressures and achieving social objectives like
running Hospitals, Schools, Colleges, providing subsidies, etc.
2. Cannon of taxation
Gone are the days when State was considered as Laissez-faire state the primary function of which
was to police. With the change of time, the concept of state has also changed and hence its function.
In the mid of twentieth century due to popularity of socialist and egalitarian ideas the police state
gradually converted into socio-welfare state.
The concept of welfare state is so large as to include in it the various functions to be played by a
state, for being called so, to ensure among its subjects: socio-economic development, social justice,
social security, sustainable environment, check on concentration of wealth among few, etc.
To meet the expenses on the above heads it is necessary to have some financial resources in hand
of the government, who has to run these welfare objectives. Taxation, therefore, has an important
and established role to play in this regard. In that, (i) it bring adequate revenue to the government
to enable it to perform all the necessary functions of the state, and (ii) it also help in the
redistributions of wealth and income in community and thus hampers the concentration of wealth.
Now, the question do arise before us: How the tax should be imposed?, what should be its rates?,
when should it be imposed?, and many other questions. These are questions the answer to which
paves the way for identification of good tax system. Once it is identified, properly subsequent
development on the finding of good tax system then becomes its characteristics. But the question
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Assistant Professor, Guru Ghashidas Vishwavidyalaya, Bilaspur (C.G.)

of identification comes under the purview of Research and Experiment. The results when are
applied laid down the cannon of taxation.

3. Characteristics of Good Tax system

I. ADAM SMITH
Adam Smith was the first writer who attempted to give a general statement of the principle of
taxation. He on his writing “An Enquiry into the nature and Causes of Wealth of nation” (1766)
suggested four cannon which should be incorporated in any sound system of taxation. They are:
A. ABILITY:
According To Smith, “the subject of every State ought to contribute towards the support of the
government, as nearly as possible in proportion to their respective abilities, i.e., in proportion to
the revenue which they respectively enjoys under the protection of the State. This implies that the
richer the person, the more is his ability to pay towards the running of the government. One who
is earning more is given more protection by the state and therefore he should pay more. It should
be noted much before Adam Smith had observed this principle, the principle of ability found its
manifestation in the words of Manu. In Manu Smiriti, one can find a written description: “As the
bees draw honey from flower without endangering it, the king should draw moderate taxes from
its subject annually”.
In Indian perspective, this principle of ability is followed in imposition of direct tax. The slab
system or progressive taxation provides for increase in rate of taxation with the increase of income.
However, commodities taxes cannot be easily brought under the area of ability principle. But it is
sure that the more luxurious the goods or services is, the more is the tax one has to pay.
B. CERTAINTY:
The second principle suggested by Adam Smith was cannon of Certainty. Accordingly, the people
must know about the amount he is bound to pay, the authority before whom he has to pay and the
time upto which he has to pay, the tax. Besides, the law regarding the imposition of taxes should
also be clear enough and free from ambiguity in its language, nature and scope. Moreover, the
State should be certain as to how much revenue would be generated upon imposition.
The principle of certainty is meant to prevent exploitation of tax-payer by the tax collection of
state. The uncertainty encourages the insolvency and favour the corruption in the administration.
In Indian context, the cannon of certainty is followed in case of direct tax. The amount of income
tax to be paid, slab rate, time of payment, and manner of payment, place of payment, all are certain.
Government also publishes these affairs through various modes of communication.
C. CONVENIENCE:
To the word of Adam Smith, “Every tax ought to be levied at the time or in the manner in which
it is more likely to be convenient for the contributor to pay it.” This implies that the modus operendi
of taxation should be convenient and comfortable. And it is important cannon of taxation because

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Assistant Professor, Guru Ghashidas Vishwavidyalaya, Bilaspur (C.G.)

inconvenience in paying tax leads to problem of tax evasion and tax avoidance. The system of
TDS, advance payment of taxes, E- filing, and many more, incorporated in the Income Tax Act,
are based on this principle.
D. ECONOMY:
The fourth cannon is economy. By Economy, Adam Smith meant “the minimization of collection.”
The revenue from a tax should be very much more than the cost of its collection. Smith, himself,
suggested four measures for keeping low the administrative cost of tax collections. These are:
i. There should be less number of tax authorities
ii. Taxation should not discourage investment and production. For example, high rate of taxes
may discourage corporate investment.
iii. It should not encourage temptation to tax evasion
iv. Tax law should be simple.
The system of self-assessment which is practices under the income tax Law is one of the examples
which verify how this cannon of economy is followed in Indian direct tax system.
II. MODERN ECONOMIST:
It is worthwhile to see what the modern economist and authors of the public fiancé say about the
principle of good tax system. Many modern authors of public finance and economist have proposed
some cannons of taxation. They are as follows:
I. PROGRESSION
A sound tax system should be based on the principle of progression, i.e., the rate of tax increases
with the increase in income and wealth. Proportion and regressive taxes should be avoided as far
as possible.
II. REVENUE GENERATED:
A tax should be revenue productive. It should meet the expenses of government. The merit of the
taxes should be assessed by estimating how much revenue is coming from imposition of tax, and
judging whether the administrative cost of collection of tax is lower than the value of tax collected.
III. ELASTICITY:
The government should not exhaust all the potential of tax payer. Because in case of Famines,
calamities, war, etc. tax may further the revenue in case of emergency.
IV. DIVERSITY:
Rather than one single tax, there should be diversity of taxes. No country can survive only by
single tax system. In case of single tax system, the government has to keep the rate of taxation too
high to meet the expenses which ultimately leads to tax evasion. On the other hand, imposition of
verities of taxes will distribute the burden of taxes almost equally on all the soldiers. Ours
constitution favour the multiplicity of taxes in its various entries of list.

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V. SOCIAL JUSTICE:
i. Principle of Universality: The tax should be imposed on all people without any kinds of
discrimination such as sex, caste, creed, etc.
ii. Principle of equality:
i. Horizontal Tax System: Those who are placed in equal circumstances must pay
equal tax.
ii. Vertical Tax system: Those person who are placed in more favourable
circumstances should contribute more in the treasury of State by way of taxation.
iii. Ability to pay tax: As differ from Smith’s concept on ability in where he proposed that a
person should pay tax as per the protection of the state available to him, the modern
economist viewed that a person must pay taxes as per his ability to pay the tax.
VI. ECONOMIC GOOD:
Taxation should not affect the choice of the person for business or profession. That is one should
not bound to choose to any particular profession or business. However, for the sake of economic
good the possibility of such sort of measure cannot be ignored. For example, if the government
want to save the city X from being polluted by sulphar-pollution, the government must impose
taxes on the concerns which produces or evacuate sulphar during the manufacturing process or
else. It is because, it is only upon such imposition of tax these concerns would tend to either close
their project or shift that in other place.
VII. EASE OF ADMINISTRATIVE AND COMPLIANCE:
a. Clarity and simplicity:
The more the clarity and simplicity of the statute, the more would be its compliance.
b. Continuity:
For the sake of desired result of imposing of Income tax, it is necessary that the law
regarding it should be continued, for some time. A very frequent amendment in tax law
would certainly result in failure of planning of individual to pay his tax liability.
c. Cost effective:
The cost of collection of tax should not be higher than the revenue it is generated.
d. Convenience:
The modus operendi should also be convenient to tax payer, otherwise, there would grow
the tendency of tax evasion and tax-avoidance.
VIII. EXPENDIENCY:
Only those tax should be imposed which government think that it is expedient. Tax should be
based on certain well founded principle so that it may need no justification from the side of the
government. In other words, the tax payers should have no doubt about its desirability. For this
angle, the old taxes are considered to be better than new taxes. Because, the people have already
got accustomed to the old taxes. Thus, the state should not impose new taxes unless there is

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Assistant Professor, Guru Ghashidas Vishwavidyalaya, Bilaspur (C.G.)

sufficient basis for imposing it. Accordingly, this cannon suggest that government should as far as
possible, increases its revenue by increasing the rates of existing taxes.
IX. COORDINATION:
This cannon of taxation implies that there must be co-ordination between different taxes that are
imposed by the various tax authorities. In the democratic set up, although the tax payers are the
same, yet the various taxes are imposed by the central, state and local government. In these
circumstances, it is absolutely important that there is definite coordination between the various
taxes as imposed by different authorities. Lacking these would result into double taxation, or abuse
of taxation principles.
4. Meaning of Income Tax
Income tax is tax on income, whether real or notional, in cash or in kind, of own income or of
someone else’s income, though the chargeability in respect to other person’s income is limited to
specified case only.
5. Income Tax Law
1. Income Tax Act, 1961
The law relating to income tax is governed by income Tax Act 1961. The Income-tax Act, in
its present form came into force on and from 1st April, 1962. Before this, the Indian Income-
tax Act, 1922 was in force. The Income tax Act contains the provisions for determination of
taxable income, determination of tax liability, procedure for assessment, appeal, penalties and
prosecutions. It also lays down the powers and duties of various income tax authorities. The
total number of sections in the Act is 298.
2. Rules and Regulations:
The procedural matters with regard to income-tax are governed by the Income-tax Rules, 1962,
its earlier counterpart being the Income-tax Rules, 1922. Rules are not made by legislature. It
is made by executive when the legislature delegates its power of making law to the executive.
And the same is constitutionally valid u/a 265.
3. Finance Act: Every year a Budget is presented before the parliament by the Finance Minister.
One of the important components of the Budget is the Finance Bill. The Bill contains various
amendments in the Income-Tax Act and prescribes the rates of taxes. When the Finance Bill
is approved by both the houses of parliament and receives the assent of President, it becomes
the Finance Act.
FINANCE ACT & RATES OF INCOME TAX

Every Finance Act contains schedules at the end. Schedule I is consist of three parts. Part I
contains rates applicable for current year. Part II contains rates for TDS purposes and Part III
contains rates for advance tax and TDS on salaries. Next year when the Finance Act is again

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passed Part III of the previous year becomes Part I and Part III contains new rates for TDS on
salaries and advance tax.

4. Notifications: The CBDT issues notifications from time to time, these are for the proper
administration of the Income Tax Act.
5. Circulars: Circulars are issued by the CBDT to clarify the doubts regarding the scope and
meaning of the provisions of the law and provide guidance to the Income Tax officers and
assesses. These circulars are binding on the department, not on the assessee but assessee can
take benefit of these circulars.
6. Judicial Decisions: Decisions pronounced by Supreme Court become Judicial Precedent and
are binding on all the courts, Appellate Tribunal, Income Tax Authorities and on assesses.
Further, High Court decisions are binding on assesses and Income Tax Authorities which come
under its jurisdiction unless it is overruled by a higher authority. The decision of a High Court
cannot bind other High Court.
A brief of income tax law is depicted in a diagram as follows:
Income Tax Law
Income Tax Act 1961 What to do or what not to do
Rule 1962 How to do (guide line)

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Finance Act of every year At what rate the tax is to be levied

Notification Released by Central government
Circulars Released by CBDT
Trade Notice Jurisdictions
Case Law HC/SC/Tribunals

6. Brief History of Income Tax Law

The tax was introduced for the first time in India in 1860 by Sir James Wilson in order to cover up
losses sustained by government due to mutiny of 1857. There were many amendments for time to
time, at last a separate Income tax Act was passed in 1886. This Income Tax Act was replaced by
Income Tax Act, 1918, which was further replaced by Income Tax Act 1922.
Income Tax Act 1922 was subject to many amendments over a period of time due to which it
became very complicated. Therefore, in order to simplify and to plug loopholes the government of
India referred the matter to law commission in 1956, which submitted its report in September,
1958. But in the meantime the government of India constituted Direct Tax Inquiry Committee
which submitted its report in 1959. Finally in consultation with ministry of law the Income tax Act
1961 was enacted which applied to whole of India.
The Income Tax Act 1961 has also been subject to many amendments over a period of time either
though Finance Act as passed by the Parliament every year or by separate amendments Acts. Till
now following important amendments acts have been passed.
1. Taxation Laws Amendment Act 1984
2. Direct Taxes Amendment Act 1987
3. Direct Tax Law (Amendment) Act 1989
4. Direct Taxes Law (second amendment) Act 1989
5. Taxation Law Amendment Act 1991
7. Constitution and Income Tax Law
 The power to tax is an incident to sovereignty. Since the constitution of India is the supreme
law of the land, all other law, including the Income Tax Act, are subordinate to the Constitution
and must be read and interpreted in the light of the constitutional provision.
 One of the most important provisions of the Constitution relating to taxation is article 265
which provides: “No tax shall be levied or collected except by authority of law.” This implies
that there must be a law which authorizes the levy and collection of tax. This means that if
someone collects the tax without being authorized, it will attract the penal provision of the
country.

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 The word “law” in this article means enacted law, enacted by a competent legislature and
cannot include an executive order, or a rule without express statutory authority, or a customary
law. Thus, any act of the state that seeks to impose a tax without legislative authority will be
void.
 The constitution of India contemplates a threefold distribution of legislative power between
the Union and the State. The authority to legislate is conferred by article 246, which provides
for three legislative lists that find place in the seventh schedule of the constitution. These are:
o List I, i.e., Union list, which comprises of entries over which the Union has exclusive
power of legislation
o List II or the State List, which comprises of entries over which the State legislature
have exclusive power of legislation
o List III or the concurrent list, which gives concurrent powers of legislation to the Union
and the State.
 The subject matter of taxation available to parliament are enumerated in entries 82-97 of List
I, those available to the state legislature in entries 45 to 68 of List II, and those available to
both in entry 44 of List III. Again, the parliament has residuary powers of taxation u/a 248(2)
and entry 97, List I. The Income Tax Act, 1961 has been passed under entry 82 of List I, which
is: “Taxes on income other than agriculture income”.
 Income tax being direct tax happens to be the major source of revenue for the Central
Government. The responsibility for collection of income-tax vests with the Central
Government. This tax is leviable and collected under Income-tax Act, 1961 (hereinafter
referred to as the Act). The entire amount of income tax collected by the Central Government
is classified under the head:
1. Corporation Tax (Tax on the income of the companies); and
2. Income tax (Tax on income of the non-corporate assessees)
 Constitutional Validity: In order that the law imposing the tax is regarded as constitutionally
valid, it must firstly be examined whether the legislature that passed the law was competent to
pass it or not; secondly, since a taxing statue is a law for the purpose of article 13, its validity
can also be challenged on the ground that it contravenes any of the fundamental rights
guaranteed by Part III of the constitution. Yet, unless and until the Supreme Court or a High
Court declares any provision to the ultra vires, it must be taken to be constitutionally valid and
treated as such. Further, there is always a presumption in favour of the constitutionality of a
statute and the burden in upon him attacks it to show that there has been a clear transgression
of the constitutional principles.
 The decision of the supreme court laid down, inter alia, the following basic propositions:
(i) It is for the legislature to determine the objects on which tax shall be levied and the
rates thereof;

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(ii) The courts will not strike down an Act as denying the equal protection of laws merely
because other objects could have been, but are not, taxed by the legislature; for a state
does not have to tax everything in order to tax something;
(iii) The legislature is competent to classify persons or properties into different categories
and tax then differently, and if the classification thus made is rational, the taxing statute
cannot be challenged merely because different rates of taxation are prescribed for
different categories of persons or objects; and
(iv) If any taxing statute is found to contravene article 14, it would be open to courts to
strike it down as denying to the citizen the equality before the law guaranteed by that
article.
(v) Article 14 does not insist that all persons must be taxed equally or that the legislative
classification must be scientifically perfect or logically complete.
(vi) The allegation that taxing statute violates article 19 (1)(g) do not stands valid as this
article is subject to article 19(6), which permits the imposition of reasonable restriction
on the exercise of this right ‘in the interest of general public’.

8. Scope of Income Tax Act 1961

1. Tax Act covers the following matters:-
a. Basis of charging income tax.
b. Computation of income tax under various heads
c. Exempted incomes
d. Permissible deductions from income.
e. Rebates and relieves from income tax.
f. Clubbing of income.
g. Set off and carry forward of losses.
h. Double taxation relief.
i. Special provision for avoidance of tax.
j. General Anti-Avoidance rules.
k. Determination of Tax.
l. Determination of Residential status.
m. Special Provisions relating to companies.
n. Special Provisions for limited liability partnership.
o. Tax on dividend distributed by domestic companies.
p. Income tax authorities and their powers.
q. Survey, search and seizures.
r. Assessments of income tax liabilities of the assesses.
s. Tax Deduction at Sources.
t. Advance taxes.

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Assistant Professor, Guru Ghashidas Vishwavidyalaya, Bilaspur (C.G.)

u. Refunds.
v. Appeal and revisions.
w. Acquisition of immovable properties.
x. Penalty and Prosecutions.
2. For implementation of the various provisions of the act, the income tax rules are made
which prescribe the procedures, time limits, conditions and return form etc.

***

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CHAPTER 2
BASIC CONCEPTS

1. Important terms defined u/s 2

1. Assessee: [section 2(7)]: Assesse means a person by whom any tax or any other sum
of money is payable under this Act. The term include the following persons:
a. A person by whom any tax or any other sum of money is payable under the
Act(irrespective of the fact whether any proceeding under the Act has been taken
against him or not]
b. A person in respect of whom any proceeding under the Act has been taken
[whether or not he is liable for any tax, interest or penalty].
c. Every person who is deemed to be an assessee. For instances, a representative
assessee is deemed to be an assessee by virtue of section 160(2).
d. Every person who is deemed to be an assessee under any provisions of this act, as
default
2. Assessment year [(section 2 (9)]: Assessment year (here and after AY) means the
period of 12 months commencing on the 1st day of April and end to 31st March in every
year. This is financial year for the government. For instances, the assessment year of 2018-
19 which commenced on April 1, 2018 will end on March 31, 2018. The period of
assessment year is fixed by statute. In this assessment year income assessed will be of the
previous year, i.e., of the year 2017-2018.
3. Previous year (section 3): Except in certain cases, previous year the financial year
immediately preceding the assessment year. For instances, for the assessment year 2017-
2018, the immediately preceding financial year (i.e., 2017-2018) is the previous year. This
is the year in which income is earned.
EXCEPTIONS:
Income earned in a year is taxable in the next year. To this rule, there are certain exceptions.
These exceptions imply that income earned in a year is taxable in the same year. These
exceptions have been incorporated in order to ensure smooth collection of income tax from
those taxpayers who may not be traceable if tax assessment procedure is postponed till the
commencement of the normal assessment. They are as follows:
a. Shipping Business of non-residents (section 172)
Where a ship belonging to or charted by a non-resident, carries passengers, livestock, mail
or goods shipped at a port in India, the ship is allowed to leave the port only when the tax
has been paid or satisfactory arrangement has been made for payment thereof.
b. Person leaving India (Section 174):

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Where it appears to the assessing officer that any individual may leave India during current
assessment year or shortly after its expiry and he has no present intention of returning to
India, the total income of such individual for the period from the expiry of the respective
previous year to the probable date of his departure from India is chargeable to tax in that
assessment year.
c. Bodies formed for Short Duration (section 174A):
If an AOP or artificial juridical person is formed or established for a particular event or
purpose and the assessing officer apprehends that such AOP, etc. is likely to be dissolved
in the assessment year in which it was formed, or immediately after such assessment year,
he can make assessment of the income up to the date of dissolution as income of the
relevant assessment year.
d. Person likely to transfer property to avoid Tax (Section 175):
During the current assessment year, if it appears to the assessing officer that a person is
likely to charge, sell, transfer, dispose of or otherwise part with any of his assets to avoid
payment of any liability under this Act, the total income of such person for the period from
the expiry of that previous year to the date, when the Assessing officer commences
proceeding under this section is changeable to tax in that assessment year.
e. Discontinued business (section 176):
Where any business or profession is discontinued in any assessment year, the income of
the period from the expiry of the previous year up to the date of such discontinuance may,
at the discretion of the Assessing officer, be charged to tax in that assessment year. Note:
It should be noted that in the first four exceptions it is mandatory on the part of Assessing
officer to lay the income charge to tax. But in this exception, it is at the discretion of the
Assessing officer.
4. Person [Section 2(31)]:
The term ‘person’ includes:
i. Individual
ii. HUF
iii. Company
iv. A firm
v. An association of person or a body of individuals, whether incorporated or not,
vi. A local authority, and
vii. Every artificial juridical person, not falling within any of the preceding categories.
(i) Individual: The word ‘individual’ means only a natural person, i.e., a human being.
Deities and statutory corporation are assessable as “juridical person”. ‘Individual’
includes a minor or a person of unsound mind. Trustees of a discretionary trust have
to be assessed in status of “individual” and not in status of association of person.

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(ii) HUF: It consists of all persons lineally descended from a common ancestor and
includes their wives and unmarried daughter. Profits made by a joint Hindu Family
are chargeable to tax as income of the HUF.
(iii) Company: Section 2(17) defines the term ‘company’ to mean:
o any Indian company, or
o any body corporate incorporated by or under the laws of a country outside India
i.e. a foreign company, or
o any institution, association or body which is or was assessable or was assessed
as a company for any assessment year under the Indian Income Tax Act, 1922
or which is or was assessable or was assessed under this Act as a company for
any assessment year commencing on or before the 1st day of April, 1970, or
o any institution, association or body, whether incorporated or not and whether
Indian or non-Indian, which is declared by general or special order of the CBDT
to be a company for such assessment year as may be specified in the CBDT’s
order.
(iv) Firm: A firm includes a partnership firm whether registered or not and shall include
a Limited Liability Partnership as defined in the Limited Liability Partnership Act,
2008.
(v) AOP or BOI whether incorporated or not: “Association of Person” means an
association in which two or more persons join in a common purpose or common
action. The difference between Association of persons and body of individuals is
that whereas an association implies a voluntary getting together for a definite
purpose, a body of individuals would be just a body without an intention to get-
together. Moreover, the members of body of individuals can be individuals only
whereas the members of an association of persons can be individual or non-
individuals (i.e. artificial persons).
(vi) Local Authority: Local authority is a separate unit of assessment. As per section
3(31) of the General Clause Act, 1897, a local authority means a municipal
committee, district board, body of port commissioners, or other authority legally
entitled to or entrusted by the Government with the control and management of a
municipal or local fund. The supreme court in UOI versus R C Jain (1981), laid
down a test to determine local authority, in that the local authority in essence:
a. The authorities must have separate legal existence as corporate bodies and
autonomous status;
b. It must function in a defined area and must ordinarily wholly or partly, directly
or by indirectly be elected by the inhabitants of the area;
c. It perform governmental functions such as running market, providing civic
amenities, etc.;

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d. Must have power to raise funds for the furtherance of its activities and the
fulfillment of its purpose by levying taxes/fees—this may be in addition to
money provided by the government and control and management of the fund
must vest with the authority.
Examples are State Government, Municipalities, DDA, Government Hospital,
SRTC, ETC.
(v) Every artificial juridical person: This is a residuary clause. If the assessee does
not fall in any of the first six categories, he is assessed under this clause. Generally,
a statutory corporation, deity or charitable institution or an endowment for
charitable or religious purposes falls under artificial juridical person. Example: Bar
Council of India, Guru Granth Sahib, etc. Persons in charge of Temple, Mosque,
Dargah, Gurudwara, Liquidator of company after the dissolution of company, etc.
fall under this category.
5. Income [Section 2(24)]
1) Income Tax Act does not define what “income” is. The definition of the term “income” as
given in the Income Tax Act in section 2(24) is inclusive and not exclusive.
2) Therefore, the term “income” not only includes those things which are included in section
2(24), but also includes such things which the term signifies according to its general and
natural meaning.
3) As per section 2(24) the term “income” includes:
a. Profits and Gains
b. Dividend
c. Voluntary contribution received by a trust
d. Perquisites in the hand of employee
e. Any special allowance or benefit
f. City compensatory allowance dearness allowance
g. Any benefit or perquisite to a director
h. Any benefit or perquisites to a representative assessee
i. Any sum chargeable under section 28, 41, and 59.
j. Capital gain
k. Insurance profit
l. Income of banking of a co-operative society
m. Winnings from lottery
n. Employee’s contribution towards provident fund
o. Amount received under Keyman Insurance Policy
p. Gift of exceeding Rs 50000/-
q. Consideration for issue of share
r. Advance money
s. Assistant in the form of a subsidy or grant

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4. In general terms, Income connotes a periodical monetary return with some sort of
regularity. Shorter Oxford English Dictionary defines “income” as “that which comes in
as the periodical product of one’s work, business, lands, or investment; annual or periodical
receipts accruing to a person or a corporation. For the purpose of taxation, income is
broadly defined as the true increase in the amount of wealth which comes to a person during
a stated period of time. A study of some of the broad principles given below will help to
understand the concept of income:
I. REGULAR AND DEFINITE:
The term “income” connotes a periodical monetary return coming in with some sort of
regularity. However, in the Income Tax Act, even certain income which does not arise
regularly is treated as income for tax purposes e.g. Winnings from lotteries, crossword
puzzles.
II. CASH OR KIND
Income may be received in cash or kind. When the income is received in kind, its valuation
will be made in accordance with the rules prescribed in the Income-tax Rules, 1962.
III. RECEIPT BASIS/ ACCRUAL BASIS
Income arises either on receipt basis or on accrual basis. It may accrue to a taxpayer without
its actual receipt. The income in some cases is deemed to accrue or arise to a person without
its actual accrual or receipt. Income accrues where the right to receive arises. Moreover, in
some cases, income is deemed to accrue or arise to a person without its actual accrual or
receipt.
IV. LEGAL OR ILLEGAL SOURCE
The income-tax law does not make any distinction between income accrued or arisen from
a legal source and income tainted with illegality. By bringing the profits of an illegal
business to tax, the state does not condone it or take part in crime, nor does it become a
party to the illegality. The assessee might be prosecuted for the offence and yet be taxed
upon profits arising out of ots commission [Mann versus Nash, 1932, KB]. In CIT v. Piara
Singh (1980), the Supreme Court has held that if smuggling activity can be regarded as a
business, the confiscation of currency notes by customs authorities is a loss which springs
directly from the carrying on of the business and is, therefore, permissible as a deduction.
V. TEMPORARY/PERMANENT
There is no difference between temporary and permanent income under the Act. Even
temporary income is taxable under the Income Tax Act.
VI. LUMP SUM/INSTALLMENTS
Income whether received in lump sum or in installments is liable to tax. For example: an
arrears of salary or bonus received in lump sum is income and charged to tax as salary.
VII. GIFTS

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Gifts of a personal nature, e.g., birthday gifts, marriage gifts, etc., do not constitute income
and, therefore, recipients of such gift is not liable to income tax. However, if an
individual/HUF gets a sum of money or property exceeding Rs. 50000/- in aggregate
during a financial year without consideration from the persons other than relatives, it will
be taxable under section 56(2) in some cases.
VIII. REVENUE OR CAPITAL RECEIPT:
Income-tax, as the name implies, is a tax on income and not a tax on every item of money
received. Therefore, unless the receipt in question constitutes income as distinguished from
capital, it cannot be charged to tax. For this purpose, income should be distinguished from
capital which gives rise to income. However, some capital receipts have been specifically
included in the definition of income. It should be noted that a revenue receipt is taxable as
income, unless it is expressly exempt under the Act. On the other hand, a capital receipt is
generally exempt from tax, unless is expressly taxable under section 45.
5. If a person receives tax-free income on which tax is paid by the person making payment
on behalf of the recipient, it has to be grossed up for inclusion in his total income.
6. Income includes loss. Loss is a negative income and in calculation of total income of an
assessee both negative and positive income should be taken into account.
7. Since 1972, income includes income from winnings from lotteries, crossword puzzles,
races card games and other games of any sort or from gambling or betting of any form or
nature.
8. Same income cannot be taxed twice. But the same person can be taxed both as individual
as well as Karta of his family.
9. Income should be real and not functional. A person cannot make a profit of trading with
himself or out of transfer of funds/assets from one pocket to another. Likewise, income
does not arise at the time of revaluation of assets. If income does not result at all, there
cannot be a tax, even though in book keeping an entry is made about a hypothetical income
which is not materialized.
10. PIN money received by wife for her dress/personal expenses and small savings made by a
woman out of money received from her husband for meeting household expenses, is not
treated as her income.
11. In case of a sportsman, who is a professional, the award received by him will be in the
nature of a benefit in exercise of is profession and, therefore, will be liable to tax under the
provision of Income Tax Act. In case of non-professional, the award received by him will
be in the nature of gift subject to section 56(2) of the Act.
12. It is well settled that the way in which entries are made by the assessee in his books of
account is not determinative of the question whether the assessee has earned any profit or
suffered any loss.

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13. Income tax assessment cannot be held up or postponed merely because of existence of a
dispute regarding the title of income. The recipient is, therefore, chargeable to tax, though
there may be rival claims to the source of the income.
14. The meaning of income for the purpose of Income tax must be read with the Entry 82 of
List I of the seventh schedule to the constitution. In conclusion it means “income other
than agricultural income” for the purpose of income tax.
15. By virtue of article 289(1) of the Constitution, the property or income of a state is not liable
for Union Taxation. However, income derived by a statutory road transport corporation
from its trading activity cannot be said to be the income of the state under this article, hence
taxable.
6. Gross Total Income:
 As per section 14, income of a person is computed under the following five heads:
1. Salaries
2. Income from house property
3. Profits and gains of business or profession
4. Capital gains
5. Income from other sources
 The aggregate income under these heads is termed as “gross total Income”. In other words,
gross total income means total income computed in accordance with the provision of the
Act before making any deduction under sections 80C to 80 U.
 In short, Aggregate of incomes computed under the 5 heads of income after applying
clubbing provisions and making adjustments of set off and carry forward of losses is known
as Gross Total Income.
 The several heads into which income is divided under the Act do not make different kinds
of taxes. Tax is always one; but it may arise under different heads to which the different
rules of computation have to be applied. These heads are in a sense exclusive to one another
and income which falls within one head cannot be assigned to or taxed under another head.
 Income has to be brought under one of the heads under section 14 and can be charged to
tax only if it is chargeable under the computing section corresponding to that head.
 According to 14A, No deduction shall be made in respect of expenditure incurred by the
assessee in relation to income which does not form part of the total income under this a
Act.

7. Total Income and Tax Liability [Section 2(45)]:

Total income of an assessee is gross total income as reduced by amount deductible under section
80C to 80 U. Taxable income of an assessee shall be calculated in the following manner:
1. Determine the residential status of the person as per section 6 of the Act.

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(Assistant Professor, ICFAI University, Dehradun)

2. Calculate the income as per the provisions of respective heads of income. Section 14 classifies
the income under five heads:
a. Income from salaries
b. Income from House Property
c. Profits and gains of business or Profession
d. Capital Gains
e. Income from other sources
3. Consider all the deductions and allowances given under the respective heads before arriving at
the net under each head.
4. Exclude the income exempt under section 10 of the Act.
5. Aggregate of incomes computed under the 5 heads of income after applying clubbing
provisions and making adjustments of set off and carry forward of losses is known as Gross
Total Income.
6. Deduct therefrom the deductions admissible under Sections 80C to 80U. The balance is called
Total income.
7. The total income is rounded off to the nearest multiple of Rupees ten. (Section 288A)
8. Add agriculture income 1(if any) in the total income calculated in (6) above. Then calculate tax
on the aggregate as if such aggregate income is the Total Income.
9. Calculate income tax on the net agricultural income as increased by Rs.
2,50,000/3,00,000/5,00,000 as the case may be, as if such increased net agricultural income
were the total income.
10. The amount of income tax determined under (9) above will be deducted from the amount of
income tax determined under (8) above.
11. Calculate income tax on capital gains under Section 112, and on other income at specified
rates.
12. The balance of amount of income tax left as per (10) above plus the amount of income tax at
(11) above will be the income tax in respect of the total income.
13. Deduct the following from the amount of tax calculated under (12) above:
– Rebate under section 87A (if applicable).
– Tax deducted and collected at source.
– Advance tax paid.
– Double taxation relief (Section 90 or 91).

1
The “agriculture income” means—as per section 2(1A,
1) Any rent or revenue derived from land which is situated in India and used for agricultural purposes.
2) Any income derived from such land by—
a. Agriculture; or
b. The performance by a cultivator or receiver of rent-in-kind or any such process to fit for sale into
the market.
3) Any income derived from any building owned or occupied by the receiver of rent or revenue by way
of deducting house.

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14. The balance of amount left after deduction of items given in (13) above, shall be the net tax
payable or net tax refundable for the assessee. Net tax payable/refundable shall be rounded off
to the nearest multiple of Ten rupees (Section 288B).
15. Along with the amount of net tax payable, the assessee shall have to pay penalties or fines, if
any, imposed on him under the Income-tax Act.

The following diagram will help you to understand how the tax is calculated:

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8. Assessment [Section 2(8):]

Under the Section 2(8), the word “assessment” is defined to include reassessment. In general
context the word “assessment” means computation of tax and procedure for imposing tax liability.
Under the Act, there are seven kinds of assessments—self assessment, provisional assessment,
regular assessment, best judgment assessment, reassessment, jeopardy assessment under section
172 and 174 to `176, and precautionary assessment.

2. Difference between Capital receipt and Revenue Receipt

 Kind of Receipts: Receipts are of two types, viz., capital receipts and revenue receipts. The
distinction between two is vital because capital receipts are exempt from tax unless they are
expressly taxable (for instances, capital gains are taxable under section 45, even if they are
capital receipts. On the other hand, revenue receipts are taxable unless they are expressly
exempt from tax. For instances, income exempt under section 10.
 Definition of ‘Capital receipt’ in the Act: Income Tax Act does not define the terms “Capital
receipts” and “Revenue receipts”.
 Meaning of the term ‘Capital’ and ‘Revenue’: The word “Capital” means “accumulated
wealth employed reproductively”; whereas, the word “revenue” means “the return, yield, or
profit of any lands, property or other important source of income, or that which comes into one
as a return from property or possessions [See, Shorter Oxford English Dictionary].
 Fixed and Circulating Capital: [John versus Smith Moore]: A receipt on account of
circulating capital is revenue receipt, whereas a receipt on account of fixed capital is capital
receipt. Fixed capital is what the owner turns to profit by keeping it with own possession, it
may be in the form of tangible assets (e.eg plant, machinery, building) or in the form of
intangible assets (e.g., patent rights, commission agency contracts); circulating capital is what
he makes profits of by parting with it and letting it change matters, it is one which is turned
over and in the process of being turned over yields income or loss.
 The Essential Difference: The essential difference between them is that capital is a fund
whereas revenue is a flow.
 Receipts in lieu of source of income: A receipt in lieu of source of income is a capital receipt.
A receipt in lieu of income is revenue receipt. For instances, compensation for loss of
employment is a capital receipt, as it is in lieu of source of income. Likewise, sale proceeds of
trees removed from land together with their roots, leaving behind no prospect of regeneration,
is a capital receipt as the receipt is in lieu of source of income. Where, however, trunks of trees
of spontaneous growth are cut so that the stumps are allowed to remain in the land with the
bark adhering to the stumps to permit regeneration of the trees, receipts from sale of the trunks
would be revenue receipts [V Venugopala Varma Rajah versus CIT, ( SC)]
 Profit and gains arising from business activities: Profits and gains arising from the various
transactions which are entered into in the ordinary course of the business of the tax payers or

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those which are incidental to or closely associated with his business would be revenue receipts
chargeable to tax. Examples of these types of receipts are: 1. profits on purchase and sale of
shares by a share broker on his own account; 2. profits arising from dealings in foreign
exchange by a banker or other financial institutions; 3. income from letting out buildings
owned by a company to its employees etc. But even in these cases the receipts may be of a
capital nature in certain circumstances.
 Dependency on Nature of Business: In order to determine whether a receipt is capital or
revenue in nature, one has to go by its nature in the hands of the recipient. It should be noted
that the same asset may be fixed capital in one business and circulating capital in another
business, and therefore, the nature of a receipt may vary according to the nature of trade in
connection with which it arises.
 Lump sum or Periodic: In order to determine whether a receipt is capital or revenue in nature,
the fact that is a lump sum payment, large payment or periodic payment, is not relevant. It is
not necessary that a revenue receipt should be recurring or a capital receipt should be a single
receipt.
 Receipt under Insurance Policy: A receipt under a general insurance policy may be a capital
receipt, if the policy relates to a capital asset. Alternatively, it may be a revenue receipt, if the
policy relates to circulating assets. Where payment is made by an insurance company to
compensate for loss of use of any goods in which the assessee does not carry on any business
it would be a capital receipt (for example, compensation received for loss of machinery due to
fire). Generally, such a capital receipt is not taxable. In some cases, however, such capital
receipt is chargeable to tax.
 Money raised through issue of equity share: Entire money raised through issue of the equity
shares is treated as capital receipt.
 Capital sum payable in installment: Where capital is repaid in installments, it is not liable to
tax. Capital sum payable in installments is treated as capital receipts.
 Annuity:
o Annuities are periodic payments of specified amounts at regular intervals of time.
Annuities are revenue receipts taxable as income in every case although the payment
of the annuity involves the conversion of capital into income. The contingent or
variable nature of the annuity, its amount, periodicity, mode of payment etc. does not,
in any way, affect the taxability of the annuity. An annuity received by an employee
from his present or previous employer would be taxable as his income from salaries
while all other annuities are taxable as income from other sources.
o Although annuities are generally annual payments, every annual payment does not
represent an annuity. For instance annual installments of capital payments do not
constitute annuities. Thus, when a person sells his business or property and agrees to

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receive the consideration in installments annually or half-yearly, the amounts received

by him are merely capital sums received in installments and are, therefore, not taxable
as annuities. But if the same property is sold for an annuity payable at regular intervals
immediately on sale the property disappears and the right to get annuity takes place;
the annuities received by virtue of the right acquired on sale would be taxable as
income.
o Amount realized by an assessee from the sale of a property received as alimony from
her husband in terms of decree of divorce, is to be regarded as capital receipt not liable
to tax.
o On the other hand, a lump sum payment received in commutation of salaries or pension,
even though a capital receipt would be taxable as salary income. But where property is
conveyed in consideration of what in truth is annuity payable for a definite or definable
period, the annuity is not payment on capital account and is taxable.
 Compensation:
o Compensation paid for agreeing to refrain from carrying on competitive business in
commodities in respect of which an agency was terminated, or for loss of goodwill will
prima facie be of the nature of a capital receipt.
o Where compensation is paid for loss of agency on the condition that the assessee will not
carry on competitive business for five years, that part of the compensation which is
relatable to the loss of agency is a revenue receipt and that part of compensation which is
relatable to the restrictive covenant is capital receipt.
o Receipt of liquidated damages by an assessee from machinery supplier on account of the
delay in supply of machinery, is a capital receipt.
o If goodwill of a business is damaged and later on some compensation is awarded in lieu of
that, it would fall in category of loss to source of income and, therefore, such a receipt
would qualify to be characterized as a capital receipt.
o Compensation received by a journalist from a foreign publisher upon termination of
contract for performance of authorship/professional services for a continuous period of 23
years, is capital receipt.
 Subsidies: Subsidies and grants received from the government would generally be receipts of
a revenue nature since they are intended to supplement the income of the assessee. But in cases
where the grant is received for a specific purpose but not as a supplementary trading receipt it
would be a capital receipt not taxable as income. For instance, if a company is given grant to
undertake work to relieve unemployment or to promote family planning the grant being
received for a specific purpose would constitute capital receipt exempt from tax.
 Entrance Fee: Entrance fee (nonrefundable) charged by a club as a one-time fee for
enrolments are a capital receipt.
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 Royalties: Royalties in every case are taxable as income from other sources; it is immaterial
whether they are received in lump sum or as fixed annual sum or otherwise; the basis of
computation of the royalties would be equally immaterial. The taxability of the royalty does
not also depend upon the nature of the asset the use of which gives rise to the royalty; the asset
may be a patent, copyright, goodwill, technical know-how, secret formula or process and so
on. If, however, the receipt is in consideration of the assignment, sale or surrender of the patent,
copyright, etc. (but not the use thereof) the owner of the asset would cease to be its owner as
soon as the assignment, sale or surrender takes place and therefore, the receipt would constitute
a capital receipt.
 Devaluation of Foreign Currency: Profit arising from devaluation of a currency or dealings
in foreign exchange and that attributable to the normal fluctuations in the rate of exchange of
currencies would be receipts of a revenue nature taxable as income in cases where the foreign
currencies are held as stock in trade by the assessee (e.g. a bank or a dealer in the foreign
exchange). Where the foreign currencies are held as capital assets representing the assesses
investments the profit or loss would be on capital account.
 Following are the instances of revenue receipts:
o Compensation received in respect of loss of a trading asset or stock-in-trade
o Subsidy received from government, under scheme for promotion of industry, by way
of refund of sales tax
o Statutory interest received under section 34 of the Land Acquisition Act is interest for
delayed payment of compensation and is, therefore, a revenue receipt liable to tax.
o When the assessee (engaged in a variety of business including the sole selling agency,
terminable at will of A Ltd.,, on termination of sole selling agency received
compensation.
o Where an owner of an estate exchanges a capital asset for a perpetual annuity as
different from exchanges his estate for a capital sum payable in installment.
o Compensation received by the assessee company who is a dealer in land from
government on account of requisition of land belonging to the assessee was held to be
a revenue receipt.
o Forfeited security deposits would be revenue receipts where they are related to the
assessees trading activity.

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Assistant Professor, Guru Ghashidas Vishwavidyalaya, Bilaspur (C.G.)

CHAPTER 3
RESIDENTIAL STATUS & TAX INCIDENCE
a) Charge of Income Tax (Section 4)
 Section 4 is a charging section. It lay down the basis principles on which the tax is imposed.
Accordingly:
1. Income tax is an annual tax on income.
2. Income of previous year is chargeable in the next following assessment year at the tax rates
applicable for the assessment year. But there are certain exceptions to this rule, and that
exceptions has already been dealt with in chapter 1
3. The tax rates are fixed by the annual Finance Act and not by Income Tax Act. If however,
on the first April of the assessment year, the new Finance Bill has not been placed on the
statute books, the provisions in force in the preceding assessment year or the provisions
proposed in the Finance Bill before parliament, whichever is more beneficial to the
assessee, will apply until the new provisions become effective.
4. Tax is charged on every person, including the assessable entities enumerated in section
2(31).
5. The tax is levied on the “total income” of every assessee computed in accordance with the
provisions of the Act.
6. Total income is calculated in accordance with the provisions of the income Tax Act, as
they stand on the first day of April of the assessment year.
7. The above rule is applicable only for the purpose of computing taxable income. If,
however, an amendment is made which is purely procedural (not for computing taxable
income), then it is applicable from the date of the amendment.

b) Scope of total Income (Section 5):

 Section 4 charges every person in respect of his “total income”. Section 2(45) which
purports to define total income merely says that ‘total income’ means the total amount of
income referred to in section 5 computed in the manner laid down in this Act. Section 5
defines the gamut (scope) of total income.
 For this purpose the section 5 divides all assessee into two categories: resident in India and
non-resident in India. As far as resident individuals and Hindu undivided families are
concerned, they can be further divided into two categories, viz., resident and ordinarily
resident, or resident but not ordinarily resident. All other assesse (viz., Firm, AOA,
company, and every other person) can simply be either resident or a non-resident.
 Section 5, then, defines the scope of “total income” of the assessee in terms of residential
status. Accordingly, the incidence of tax on the three categories of tax payers is as follows:

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Assistant Professor, Guru Ghashidas Vishwavidyalaya, Bilaspur (C.G.)

I.For, Resident and ordinary Resident:

i. Income received or deemed to be received in India during the previous year,
ii. Income which accrues or arise or is deemed to accrue or arise in India during
the previous year, and
iii. Income which accrues or arises outside India even if it is not received or
brought into India during the previous year.
II.For, Resident but not ordinary resident:
i. Income which is received or deemed to be received in India by him or his
behalf
ii. Income which accrues or arises or deemed to be ac rued or arise to him in
India
iii. Income accrues or arises to him or received outside India from business or
profession controlled from India.
III. For, Non-resident:
i. Income received or deemed to be received in India in the previous year
ii. Income which accrues or arises or is deemed to accrue or arises in India during
previous year.
 The following diagram explicitly describe the scope of total income in terms of Residential
status:
Scope of Total Income (Section 5)

ROR RNOR NR

In India

i. Income accrue or arise or deemed to √ √ √

accrue or arise in India

ii. Income received or deemed to be

I. received in India √ √ √

Outside India

Income accrue or arise outside India but if:

i. Bussing is controlled or profession is set √ √ ×

up in India

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II ii. Any other cases (e.g., Salary of outside

India, rent, interest, etc.)
√ × ×

 Indian Income and Foreign Income: From reading section 5 we can derive the incidence of
tax in terms of Indian and foreign income.

INDIAN INCOME:
Any of the following three is Indian income:
i. If income is received (or deemed to be received (in India during the previous year
and at the same time it accrues (or arises or is deemed to accrue to arise) in India
during the previous year.
ii. If income is received (or deemed to be received) in India during the previous year but
it accrue (or arise) outside India during the previous year)
iii. If income is received outside India during the previous year but it accrues (or arises
or is deemed to accrue or arise) in India during the previous year.
FOREIGN INCOME
If the following two conditions are satisfied, then such income is “foreign income”:
i. Income is not received (or not deemed to be received) in India; and
ii. Income does not accrue or arise (or does not deem to accrue or arise) in India.
 Thus, following are the conclusion:
(i) Indian income is always taxable in India irrespective of the residential status of the
taxpayer.
(ii) Foreign income is taxable in the hands of resident (in case of a firm, AOP Company
and every other person) or resident and ordinarily resident (in the case of an individual
or Hindu Undivided Family) in India.
(iii)Foreign income is not taxable in the hands of non-resident in India.
 What are the meaning of “income received”, “income deem to be received”, “income accrue
or arise”, or “income deemed to accrue or arise” these will be dealt with under part IV of this
chapter. But since the incidence of tax has close nexus with residential status, which is clear
from reading of section 5, let us first understand the kind of residential status with standard
how to determine.

c) Residential Status:
 The incidence of tax on any assessee depends upon his residential status under the Act.
According to the Act, the assessee can either be:
(i) Resident in India or

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(ii) Non-resident in India

 However, individual and HUF cannot be simply called resident in India. If individual or HUF
is a resident in India, they will be either be:
(a) Resident and Ordinarily resident in India (ROR) or
(b) Resident but not Ordinarily resident in India (RNOR).
 In case of persons other than individual and HUF, the residential status will be either resident
in India or nonresident in India.

TEST FOR RESIDENCE OF INDIVIDUAL

1. Test for Residential Status for Individual:
An individual may be (a) resident and ordinarily resident, (b) resident but not ordinarily resident,
(c) non-resident.
A. Resident and ordinarily resident:
To find out whether an individual is “resident and ordinarily resident in India”, one has to do two
things: first, find out whether such individual is “resident” in India; second, if such individual is
“resident” in India, then find out whether he is “ordinarily resident” in India. However, if such
individual is a “non resident” in India, then no further investigation is necessary.
I. Basic Condition for a person to be Resident
Under Section 6(1) of the Income-tax Act, an individual is said to be resident in India in any
previous year if he:
i. is in India in the previous year for a period or periods amounting in all to one hundred and
eighty-two days or more i.e., he has been in India for at least 182 days during the previous
year; or,
ii. has been in India for at least three hundred and sixty-five days (365 days) during the four
years preceding the previous year and has been in India for at least sixty days (60 days)
during the previous year.
Exception:
Basic condition (b) is not taken into consideration in two special cases given below. It means in
these two special cases, residential status of an individual shall be determined only on the
basis of basic condition (a).
Case 1: It covers an Indian citizen who leaves India during the previous year for the purpose of
employment outsider India or an Indian citizen who leaves India during the previous years
as a member of the crew of an Indian Ship. [Note: the individual need not be an unemployed
person. He may be employed in India and leave India during the previous year on a foreign
assignment of his employer company.]
Case 2: It covers an Indian citizen or a person of Indian origin who comes on a visit to India
during the previous year. A person is deemed to be of Indian origin if he, or either of his
parents or any of his grand-parents, who born in Undivided India. It may be noted that grand-
parents include both maternal and paternal grand-parents.

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II. Additional conditions for an resident to be “ordinarily resident” in India:

Under section 6(6), a resident individual is treated as “resident and ordinarily resident” in India
if he satisfies the following two additional conditions:
i. he has been resident in India in at least 2 out of 10 previous years immediately proceeding
the relevant previous year.
ii. he has been in India for a period of 730 days or more during 7 years immediately
proceeding the relevant previous year.
B. Resident but not ordinarily resident:
An individual who satisfies at least one of the basic conditions mentioned but does not satisfy the
both two additional conditions, is treated as a resident but not ordinarily resident in India.
C. Non Resident:
An individual is a non-resident in India if he satisfies none of the basic conditions. In the case of
non-resident, the additional conditions are not relevant.
 Rule of resident in Brief:
The table given below summarizes the rule of residence for the individual:

Rule of residence
ROR He must satisfy at least one of the basic conditions. At the
same time, he should also satisfy the two additional
conditions.

RNOR He must satisfy at least one of the basic conditions. He may

satisfy one or none of the additional conditions.

NR He satisfies none of the basic conditions. Additional

conditions are not relevant in the case of a non-resident.

Basic conditions at a glance

Basic Condition 1 Basic condition 2

Presence for at least 182 days in India Presence in India for at least 60 days
during the previous year during the previous years and 365 days
during 4 years immediately preceding
the previous year.

Additional Conditions at a glance

i. Resident in India in at least 2 out of 10 years immediately preceding the previous
year, i.e., he must satisfy at least one of the basic conditions, in 2 out of 10
immediately preceding previous years;

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ii. Presence in India for at least 730 days during 7 years immediately preceding the
previous years.

2. Test of Residential Status for HUF [Section 6(2)]

o A Hindu undivided family (like an individual) is either resident in India or non-resident in
India. A resident Hindu undivided family is either ordinarily resident or non-ordinarily
resident.
o A HUF is said to be resident in India if control and management of its affairs is wholly or
partly situated in India. A HUF is non-resident in India if control and management of its
affairs is wholly situated outside India.
o Now, if it is determined that HUF is a resident in India, the question whether the resident
HUF is “ordinarily resident” or not, is to be determined by the additional test as follows:
o A resident HUF is ordinarily resident in India if the Karta or manager of family (including
successive karta) satisfies the following two additional conditions as laid down by section
6(6)(b):
1. Karta has been resident in India in at least 2 out of 10 previous years immediately
preceding the relevant previous year
2. Karta has been present in India for a period of 730 days or more during 7 years
immediately preceding the previous year.
o If karta or manager of a resident HUF does not satisfy the two additional conditions, the
family is treated as resident but not ordinarily resident in India.
3. Residential Status of a firm and association of persons [Section 6(2)]:
A partnership and an associating of persons are said to be resident in India if control and
management of their affairs are wholly or partly situated within India during the relevant previous
year. They are however, treated as non-resident in India if control and management of their affairs
are situated wholly outside India.
4. Residential status of a company [section 6(3)]:
An Indian company is always resident in India. A foreign company may be resident or non-resident
in India depending upon the rules given below:
1. Up to the assessment year 2016-17: A foreign company is resident in India only if, during the
previous year, the control and management of its affairs are situated wholly in India. However,
a foreign company is treated as non-resident if, during the relevant previous year, the control
and management of its affairs are either wholly or partly situated out of India.
2. From Assessment year 2017-2018: A foreign company will be resident in India if tis place of
effective management (POEM) during the relevant previous year is in India [section 6(3)(ii)].
For this purpose, the place of effective management means a place where key management and
commercial decision are necessary for the conduct of the business of an entity as a whole are,
in substance made.
5. Residential Status of “every other person” [section 6(4)]:
Every other person is resident in India if control and management of his affairs is wholly or
partly situated within India during the relevant previous year. On the other hand, every other

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person is non-resident in India if control and management of his affairs is wholly situated
outside India.

Important points with regard to Residential Status

 If an person is resident in a previous year relevant to an assessment year in respect

of any source of income, he shall be deemed to be resident in India in the previous
year(s) relevant to the same assessment year in respect of each of his other sources
of income.
 An assessee may enjoy different residential status for different assessment years.
 It is not necessary that a person who is resident in India, cannot become resident in
any other country for the same assessment year.
 Whether an assess is a resident or a non-resident is a question of fact and it is the
duty of the assessee to place all relevant facts before the income tax authorities.
 In determination of residential status of an assessee, it is not necessary that stay of
a assessee must be at same place. It is equally not necessary that the stay should be
continuous. A stay in the territorial water of India is treated as stay in India.
Involuntary stay of a person in India caused by unauthorized impounding of passport
must be excluded for determining his residential status under section 6.
 For determination of residential status of other than individual, “the meaning of
Control and management” is to be construe as Control and management is situated
at a place where the head and seat and the directing power are situated.
 POEM: It means where key management and commercial decision that are
necessary for the conduct of the business of entity.

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Residential Status at a Glance

Preceding PY 07 -- 08
Preceding PY 08 -- 09
Preceding PY 09 -- 10
Preceding PY 10 -- 11 2
Preceding PY 11 -- 12 Years
Preceding PY 12 -- 13 +
Preceding PY 13 -- 14 365
days 730
Preceding PY 14 -- 15 Days
Preceding PY 15 -- 16 + +
Preceding PY 16 -- 17
Relevant PY 17 -- 18 60
days

Individual

Basic Conditions:

a. 182 days or more in PY

Non resident

ii. 60 days in PY or more

+ 365 days in PPY

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Resident

Additional condition:

i. 730 days or more in 7 PPY

Not ordinary Resident

ii. Fulfill at least 2 times basic
residential conditions

Ordinary Resident

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d) Meaning of “income received”, “income deemed to be received”, “income

accrues or arises” and “income deems to be accruing or arise”, in India:

1. INCOME RECEIVED:
 The receipt contemplated for this purpose refers to the first receipt for the amount in
question as the income of the assessee. Income is said to be received first when the recipient
gets the money under his own control [Sayyad Ali Imam v/s Crown]. Once the amount is
received as income, its remittance or transmission to another place does not result in
“receipt” at other place [Pandichery Rly. Com v/s CIT (PC)]. For instances, an assessee,
after receiving an income outside India, cannot be said to have received the same again
when he brings or remits the same to India. The same income cannot be received by the
same person twice, once outside India and once inside India [Keseva Mills Ltd. v/s CIT].
 It I not necessary should be received in Cash. Income may be received in cash or kind. For
instances, value of a free residential house provided to an employee is taxable as salary in
the hands of the employee though the income is not received in cash.
 It is not the actual receipt that makes an income liable to tax, a constructive receipt is
enough to make an income liable to the charge of Income tax [Turner Morrison Co. Ltd v/s
CIT]. Receipt by agent (e.g., bank, a broker, or authorized representative, or by auctioneer)
on behalf of the assessee is treated as constructive receipts by the assessee. Similarly,
payment of income tax, insurance premium, etc. by the employer on behalf of the employee
will be constructive receipt by the employee. .%
 However, a mere promise or other collateral arrangement by the debtor to pay cannot
partake the character of constructive receipt [ Bal Umar Schodur Pal v/s CIT].
 When the payment is made through cheque, the time of receipt is when cheque is delivered
and not when the cheque is enchased. Further, when the cheque is send through post, the
place of receipt is where it is delivered provded there is no specific understanding that the
payment is to be made by post [CIT v/s Ogale Glass work Ltd; Azambhai Mills Ltd v/s
CIT; CIT v/s Kirloskers Bros]. But when there is an agreement between the parties to
make the payment on a particular place, then that place shall be place of receiving, even
though cheque is sent by post on request by receipant. And the place will be place of
receiving and not of posting [CIT v/s Patni & Co.].

2. INCOME DEEMED TO BE RECEIVED:

 In addition to the income actually received by the assessee or on his behalf, certain
other incomes not actually received by the assessee and/or not received during the
relevant previous year, are also included in his total income for income tax purposes.
Such incomes are known as income deemed to be received.
 The Act enumerates the following as income deemed to be received in India:
a) That which related to income from provident fund: (Section 7)
1. Employer’s contribution in RPF in excess of 12%
2. Interest on RPF on contribution (employer + employee) in excess of 9.5 %
3. Non Taxable portion transfer from UPF to RPF

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4. Contribution made by the central government or any other employer in the

previous year, to the account of an employee under a notified pension scheme
referred to in section 80CCD

b) That which is related to Dividend Income2 (Section8) r/w Section 2(22):

Under Section 2(22), the following payments or distributions by a company to its
shareholders are deemed as dividends to the extent of accumulated profits of the
company.

Or

2
Dividend income is income that comes under the head of “income from other sources.”

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Section 115(o):

Section 2(22)(a):

Section 2(22)(b)

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Or

Section 2(22)(c):

Section 2(22)(e):

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c) Some other types of income deemed to be received are:

 Tax deducted at source (Section198)
 Incomes of other persons which are included in the income of the assessee under
Sections 60 to 64.
 The amount of unexplained or unrecorded investments (Section 69).
 The amount of unexplained or unrecorded moneys, etc. (Section 69A).
3. INCOME ACCRUE OR ARISE IN INDIA:
Strictly speaking, the word ‘accrue’ is not synonymous with ‘arise’, the former connoting the
idea of growth or accumulation and letter feasibility to receive as well. But throughout the Act,
they seems to denote the same idea or the ideas very similar and the difference only lies in this
that one is more appropriate when applied to a particular case [Justice Mukerji in Rojers
Plantshellac v/s Secretary of State and in CIT versus Ahmedbhai Umarbhai & Co.] For
example, the income accrues when right to receive comes into existence, and it is said to arise
when it is shown in the account book. Thus, the income accruing in the previous year may not
arise in the same previous years but later year.
But, the word “accrue and arises” are used in contradistinction to the word “receive”. Income
is said to accrue when it comes into existence for the first time or at the point of time when
the right to receive the income arises although the right may be exercised or exercisable at a
future date. When the right to receive the income becomes vested in the assessee, it is said to
accrue or arise. In this way, the word “accrue or arise” represents a state of ulterior to the point
of time when income become receivable and connote a character of the income which is more
or less inchoate. Income is said to be received when it reaches the assessee [CIT v/s Ashokbhai
Chimanbhai (SC)].
Some Important points with regards to accrual of income:

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1. Income accruing in India is chargeable to tax in all cases irrespective of the residential
status of the assessee.
2. Income earned and income accrues: Sometimes, the word ‘earned’ is used in the
context of accrual or arisal. A person may be said to have earned his income in the
sense that he has contributed to the production by rendering of goods or services. But
in order that the income may be said to have accrued to him, an additional element is
necessary, that is, he must have created a debt in his favour.
3. Income Accrue and income due: Income can be said to accrue when it is due.
Postponement of date of payment has no effect on the accrual of income. An income
accrues when it becomes due and must also be accompanied by a corresponding
liability of the other party to pay the amount. Only then it can be said that for the
purposes of taxability said income is not hypothetical and it has really accrued to the
assessee [SC in CIT v/s Excel industries Ltd.].
4. Accrual of Business Profit: If profit accrues to the assessee directly from business the
question whether they accrue day by day or at the close of the year of account is of
considerable significance. In partnership, where accounts are to be made at stated
intervals, right of a partner to demand his share of profit does not arise until the
contingency which gives rise to that right has arisen. [SC in CIT V/S Ashokbhai
Chimanbhai, 1965]. Similarly, where under a contract, income arises on rendering of a
year’s service and is linked to annual profit, no income can accrue before the year end
[Ed Sassoon & Co. v/s CIT, 1954]. Where the managing agency agreement provides
for payment of commission at the end of the year, commission will accure to managing
agents only thereafter [SC in Cotton Agents Ltd v/s CIT, 1960].
5. It is incorrect to state that profits do not accrue until actually computed. The accrual
of income does not depend upon its ascertainment or the accounts cast by the assessee.
. The account may be made up at a much later date. Thus, unless the right to profits
comes into existence, there is no accrual of profit. If, however there is right to receive
profit, the tax incidence cannot be suspended merely because profits are not actually
computed.
6. If income is taxable at the time of accrual, it cannot be taxed on receipt basis.
7. Place where property in goods passes decides accrual of profit in the case of sale of
goods. In case of sale of goods, profit arises at a place where he property in goods
passes to the purchaser.3 Where for instances, the seller retains his control over goods
sold by taking bill of lading in his name and property in goods passes only at destination
(i.e., outside India), the profits embedded in the transaction arise outside India.4
Similarly, where goods are sent by rail consigned to self, income accrues t place of

3
Seth Pushalal Mansinghka (p). Ltd v/s CIT (1967, 66 itr 159 (SC).
4
CIT V/S Mysore Chromite Ltd (1955) 27 ITR 128 (SC)

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delivery of goods.5 Again, where goods are sent by VPP, income accrues at the place
where goods are delivered on payment to postal authorities.
8. Selling agents’ commission accrues at a place where sales are affected.
9. Commission payable for other services accrues at the place where service is rendered.
10. Interest accrues where money is lent.
11. Profit does not accrue in transfer between head office and branch office. If a branch
office situated outside India sends goods to its head office in India at an invoice price
(which includes a margin of profit), the entire profit accrues at the head office where
goods are sole. In such a case profit does not accrue or arise at the branch office because
one man cannot trade with himself.
12. Dividend accrues at the place where the register of members is kept. Dividend declares
by a non-Indian company accrue or arise at the place where the register of members is
kept. On the other hand, dividend paid by the India company outside India is always
deemed to accrue or arise in India by virtue of section 9(1) (iv).
13. Damage accrues where the amount is decreed or admitted. Damage for breach of
contract accrues when the amount is decreed or admitted.
14. Mense profit is taxable in the year in which such profits are determined.6

4. INCOME DEEMED TO BE ACCRUE OR ARISE IN INDIA [SEC 9]:

According to section 9 of the Act, following income are deemed to accrue or arise in India:
i. Income through or from any business connection in India [Section 9(1)(i)]
ii. Income through or from any assets or property in India
iii. Income through the transfer of the capital assets situated in India
iv. Income under the head salary
v. Income by way of interest, royalty and technical fee
A. Income by virtue of business connection [Section 9(1)(i)](a):
Certain income is deemed to accrue or arise in India under section 9, even though it may actually
accrue or arise outsider India. The section applies to all assessees irrespective of their residential
status and place of business. However, where income is actually received or has accrued in India,
resort to the deeming provision under section 9 is not warranted. In such case section 5(2) is
sufficient to create a charge in respect of nonresident’s income.
Thus, for the applicability of section 9(1)(i), the following conditions should be satisfied:
I. The taxpayer has a “business connection” in India
5
CIT v/s Union Tile Exporters (1969) 71 ITR 453 (SC)
6
P Mariappa Gounder v/s CIT (1998) 232 ITR 2 (SC)

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II. By virtue of “business connection” in India, income actually arises outside India.
The term “Business Connection” has not been defined in this Act. Plainly speaking, it is a relation
between the business activity which is performed in India and income by virtue of such activities,
accrued or arises outside India. |The term “Business” is different from the term ‘business’ as
defined in section 2(13) and it include trade, commerce, and manufacture and adventure in nature
of trade, commerce and manufacture.|7
A business connection can arise between a non-resident and a resident if both of them carry on
business and if the non-resident earns income through such a connection.8 Business connection
may include carrying on a part of main business of the non-resident through an agent, or it may
merely be a relation between the business of the non-resident and the activity in India which
facilitates or assists the carrying on of that business.
Following are included in “Business connection”:
a) the maintenance of a branch office, factory, agency, receivership, management or other
establishment for the purchase or sale of goods or for transacting any other business;
b) the erection of a factory where the raw products purchased locally are processed or
converted into some form suitable for export outside India;
c) appointing an agent or agents in India for the systematic and regular purchase of raw
materials or other commodities or for the sale of the non-residents goods, or for any other
purpose;
d) the formation of a subsidiary company to sell or otherwise deal with the products of the
non-resident parent company;
e) the formation of a close financial association between a resident and a non-resident
company which may or may not be related to one another as a holding and subsidiary
company.
It should be noted that “business connection” shall not include cases where the non-resident
carries on business through a broker, general commission agent or any other agent of an
independent status, provided that such person is acting in the ordinary course of his business.
But where a broker, general commission agent or any other agent works (mainly or wholly) on
behalf of a non-resident or other non-resident under the same management, he shall not be
deemed to be a broker, general commission agent or an agent of an independent status.
Again, it should be noted that in cases where all the operations or activities of a business are
not carried on in India but a part of them arise by virtue of the business connection in India,
the income which is deemed to accrue or arise in India, should be taken to be only that part
which could reasonably by attributed to the operations carried on in India. Rule 10 of the

7
CIT v/s Karimbhai & Son Ltd.
8
CIT VERSUS Ashok Jain, 2002, Delhi

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Income-tax Rules contains the basis on which the income attributable to the operations carried
out in India could be deemed to accrue or arise in India.9
However, the following operations are not taken as “Business Connection”:
a) For the purpose of encouraging exports, a specific tax concession has been given by
providing that n income shall be deemed to accrue or arise in India to a non-resident
through or from his operations which are confined to the purchase of goods in India for
the purpose of export10. This exemption is available to a non- resident even though he
keeps an office agency for the purpose of buying and export. This exemption is,
however, not available to residents or not ordinarily residents.
In order to qualify for tax exemption, it is essential that the operations of the non-
residents, although arising from business connection, should be confined to the
purchase of goods for the purpose of export outside India. Consequently, the
exemption would not be available if the goods purchased in India are sold in India or
are not exported outside India.
Further, if the non-resident works up the raw-materials into finished or semi-finished
products, the exemption would be withdrawn and he would become chargeable on such
portion of the profits as is attributable to his manufacturing it in India.
b) Operations confined to collection of news and views for transmission outside India by
or on behalf of Non- Resident who is engaged in the business of running news agency
or of publishing newspapers, magazines or journals11.
c) Operations confined to shooting of cinematograph films in India if such Non-Resident
is:
 an Individual – he should not be a citizen of India; or
 a firm – the firm should not have any partner who is a citizen of India or who
is resident in India; or
 a company – the company does not have any shareholder who is a citizen of
India or who is resident in India12.
d) In the case of a foreign company engaged in the business of mining of diamonds, no
income shall be deemed to accrue or arise in India through or from the activities which
are confined to the display of uncut and unassorted diamond (without any sorting or
sale) in any special zone notified by the central government in the official Gazette in
this behalf13.

9
Explanation (a) to section 9(1)(i)
10
Explanation (b) to section 9(1)(i)
11
Explanation (c) to section 9(1)(i)
12
Explanation (d) to section 9(1)(i)
13
Explanation (e) to section 9(1)(i)[Applicable from AY-2016-17]

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I. Income arising from any asset or property in India[Section 9(1)(i)(b)]:

Income through or from any property, asset or source of income in India is deemed to accrue
or arise in India. The term property does not refer to house property alone but it refers to all
tangible properties whether movable or immovable. The term asset would, however, include
all intangible rights and, consequently, interests, dividends, patents and copyrights, royalties,
rents etc. will be an Income from assets.
Illustration: X Ltd. is a foreign company, owns a property in Mumbai. It is given on rent (rent
being 2000 US Dollar per month) to B Ltd. another foreign company. The two companies are
nonresident in India. The agreement is made outside India. Rent is payable in foreign currency
outside India. As per agreement rent is accrued outside India. As the property is situated in
India, rent of the property will deemed to be earned in India.
II. Income through the transfer of capital asset situated in India [Section 9(1)(i)(c)]:
Capital gains (within the meaning of section 45of the Act) arising to an assessee from the
transfer of a capital asset situated in India would be deemed to accrue or arise in India
irrespective of the fact whether the capital asset in question represents a movable or immovable
property or a tangible or intangible asset.
It is also immaterial whether the consideration for the transfer of the capital asset is actually
paid or payable in India or outside.
The place of registration of the document of transfer of property is equally immaterial.
Explanation 5 to section 9(1)(i) clarifies that an asset or capital asset, being any share or interest
in a company or entity registered or incorporated outside India shall be deemed to be situated
in India if the share or interest derives, directly or indirectly, its value substantially from the
assets located in India.
There are certain exemptions in case of transfer of capital assets situated in India. For details
see the Act.
III. Income under the head Salary[ Section 9(1)(ii)]:
Income chargeable to tax under the head “salaries” is deemed to accrue or arise in India if it is
earned in India. For this purpose income is said to be earned in India if the services are rendered
in India. Any salary payable for rest period or leave period which is preceded and succeeded
by service in India, will also be regarded as salary earned in India.
However, if service is rendered outside India, salary income is regarded as income earned
outside India. Likewise, if service is rendered on board of a ship which I outside shores of
India, salary will not be deemed to have accrued in India.
IV. Salary payable abroad by the Government to a Citizen of India [Section 9(1)(iii)]:
Income from salaries payable by the Government to a citizen of India outside India for his
services rendered outside India, is deemed to accrue or arise in India even though the income
is actually accruing outside India and is also received outside India. Thus, under this provision,
salary income of all Government servants, working outside India is deemed to accrue in India.

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In the absence of this provision they would not be chargeable to tax in respect of such income
as they would, after some time, become non-residents.
This provision to deem income as accruing in India applies only in respect of their income
from salary but not in respect of the allowances and perquisites to which they are entitled to
while serving in a foreign country. Section 10(7) of the Income-tax Act, 1961 contains a
specific provision to exempt Government servants from tax on their services in a foreign
country partly to meet the higher cost of living in that country.
Salaries paid by the Indian Government in a foreign country to citizens of the foreign country
should not, however, be deemed to accrue in India since this provision applies only to Indian
citizens employed by the Government who are rendering service outside India.
V. Dividend paid by an Indian Company [Section 9(1)(iv)]:
Any dividend paid by an Indian company outside India is deemed to accrue or arise in India
and the income is consequently chargeable to income-tax irrespective of the fact whether the
dividend is interim dividend or a final dividend and whether it is an actual dividend or a
notional dividend.
Normally, dividend income arises at the place where the source of income is situated, i.e.,
where the shares yielding the income are kept. Shares are said to be situated at the place where
the share register of the company is kept. While the share register of a company should
ordinarily be kept at the place where its registered office is located, even if the share register
is kept outside India and the dividends are declared outside India, the dividend would still be
deemed to accrue in India because the company is an Indian company. It is another matter that
dividend paid/payable by Indian companies has been exempted vide Section 10(34) with the
introduction of the system of distribution tax which has shifted the incidence of tax on dividend
to the company from the shareholder. We must note that dividend [not being dividend under
section 2(22) (e)] declared, distributed or paid by a domestic company during June 1, 1997 and
March 31, 2002 or after march 31, 2003 is not taxable in the hands of shareholders.14
Dividends declared by foreign companies outside India would not, however, be deemed to
accrue or arise in India even in cases where the foreign company is resident in India because
of the control and management of its affairs being situated wholly in India.
VI. Income By way of Interest [Section 9(1)(v)]:
Interest payable in following cases will be deemed to accrue or arise in India and will be taxable
in the hands of recipient irrespective of his residential status (i.e. ROR, RNOR or NR).
Interest payable by:

14
Dividend income from a domestic company is generally exempt in the hands of recipient shareholders.
However, this rule is subject to a few exceptions. Deemed dividend under section 2(22)(e) from a domestic
company is chargeable to tax in the hand of shareholders. Moreover, exemption pertaining to dividend
income from domestic companies is not available from the assessment year 2017-18, if aggregate dividend
9received from domestic company) exceeds Rs 10 lakh in the previous year. In Such a case, the aggregate
dividend (in excess of Rs 10 lakh) is taxable u/s 115BDA at the rate of 10 %.

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(i) Government (whether Central or State) or;

(ii) A Resident in India, except where interest is payable in respect of moneys borrowed and
used for the purpose of business or profession carried outside India or earning any income from
any source outside India;
(iii) A Non-Resident in India provided interest is payable in respect of moneys borrowed and
used for a business or profession carried on in India.
VII. Income by way of Royalty [Section 9(1)(vi)]:
Royalty15 payable in following cases will be deemed to accrue or arise in India and will be taxable
in the hands of recipient irrespective of his residential status (i.e. ROR, RNOR or NR).
Royalty payable by:
(i) Government; or
(ii) A Resident in India except where it is payable in respect of any right/information/property used
for the purpose of a business or profession carried on outside India or earning any income from
any source outside India;
(iii) A Non-Resident in India provided royalty is payable in respect of any
right/information/property used for the purpose of the business or profession carried on in India or
earning any income from any source in India.
VIII. Income by way of technical services [Section 9(1) (vii)]:
Fees for technical services payable in following cases will be deemed to accrue or arise in India
and will be taxable in the hands of recipient irrespective of his residential status (i.e. ROR, RNOR
or NR).

15
According to Explanation 2 to section 9 (1) (vi), ‘Royalty’ means consideration for:
a. The transfer of all or any rights (including the granting of a licence) in respect of a patent, invention,
model, design, secret formula or process or trade mark or similar property;
b. The imparting of any information concerning the working of, or the use of, patent, invention, etc. ;
c. The use of any patent, invention, etc.;
d. The imparting of any information concerning technical, industrial, commercial or scientific
knowledge, experience or skill;
e. The use or right to use, any industrial, commercial or scientific equipment but not being the amount
referred to in section 44BB;
f. The transfer of all or any rights (including the granting of a licence) in respect of any copyright,
literary, artistic, or scientific work including films or video tapes for use in connection with
television or tapes for use in connection with radio broadcasting, but not including consideration
for the sale, distribution or exhibition of cinematographic films, or;
g. The rendering of any services in connection with the aforesaid activities

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Fees for technical services payable by:

(i) Government; or
(ii) A Resident in India except where services are utilized for the purpose of a business or
profession carried on outside India or earning any income from any source outside India (i.e. Fees
for technical services payable by a Resident for services utilised for any purpose in India whether
business or profession or for earning other incomes);
(iii) A Non-Resident in India provided fee is payable in respect of services for the purpose of a
business or profession carried on in India or earning any income from any source in India (i.e. Fees
for technical services payable by a Resident for services utilised for any purpose in India whether
business or profession or for earning other incomes).

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CHAPTER 4
INCOMES WHICH DO NOT FORM PART OF TOTAL INCOME

LEARNING OBJECTIVE:
Tax is calculated on the income earned in the previous year. For providing relief to the tax payers
from payment of tax, income tax law provisions contain concept of exemption and deduction.
Exempted income means the incomes which are not charged to tax. Under Income Tax Act, section
10 provides for incomes which are exempted from levy of income tax for example Scholarship.
Further, deduction means the amount which needs to be included in the income first and then they
are allowed for deduction in full or in part on fulfillment of certain conditions. For example,
deduction for payment of donations under section 80G.

This lesson deals with incomes which do not form part of total income, covering sections 10,
10AA, 11, 12, 12A, 13, 13A and 13B. Section 10 provides for various categories of income that
are exempt from tax. Section 10AA, deals with exemption in respect of income of industrial units
in special economic zones. Section 11 provides exemption in respect of income derived from
property held under trust wholly for charitable or religious purposes, section 13A exempts income
derived by a political party and section 13B exempt voluntary contributors received by an electoral
trust.

GENERAL EXEMPTION

Under Section 10 of the Income-tax Act, various items of income are totally exempt from income-
tax. Therefore, these incomes are not included in the total income of an assessee.
Section 10 provides that in computing the total income of a previous year of any person, any
income falls in its ambit shall not be included in the total income, provided the assessee proves
that a particular item of income is exempt and falls within a particular clause. The onus is on the
assessee i.e. the assessee has to prove that his income falls under Section 10.
The items of ‘exemptions’ specified in Section 10, are explained as follows:
1. Agricultural Income:
Agricultural income as defined in Section 2(1A) is exempt from income-tax in the case of all
assesses. This exemption has been granted on account of the constitutional provisions relating to
the powers of the Central and the State Governments for levying tax on agricultural income.
Under the Constitution only the State Governments are empowered to levy tax on agricultural
income. Hence, the Central Government while imposing income-tax on incomes of various types
has specifically excluded agricultural income from the purview of Central income-tax. This

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exemption would, however, be available only in cases where the income in question constitutes
agricultural income within the meaning of Section 2(1A).
As per section 2(1A) of the Act, agricultural income is defined as follows:
Agricultural income means –
(a) Any rent16 or revenue17 derived from land 18(first condition) which is situated in India
19(second condition) and is used for agricultural purposes20(third condition);

16
The word rent denotes the payment of money either in cash or in kind by one person to another (owner
of the land) in respect of grant of right to use land. For this purpose, it is not necessary that the recipient of
rent or revenue should be the owner of the agricultural land. If rent is received by an original tenant from
sub-tenant under sub-lease or rent is received by a mortgagee in possession of agricultural land, the receipt
may be “agricultural income”, if the other conditions are satisfied.
17
The expression revenue is used in the broader sense of return, yield or income, and not in the sense of
land revenue. It is an income other than rent. Mutation fees extracted from tenants upon their succeeding to
occupancy holding are revenue derived from land. Similarly, fees extracted for the grant of a renewal of a
lease are also revenue derived from land. A surplus arising on transfer of agricultural land (in urban area)
is not revenue derived from land—See, Explanation to section 2(1A).
18
Income is said to be derived from land only if the land is the immediate and effective source of the income
and not the secondary and indirect source. Thus interest on arrears of rent payable in respect of agricultural
land is not agricultural income because the source of income (interest) is not from land but it is from rent
which is a secondary source of income and is taxable under the head Income from other sources. [CIT v.
Kamakshya Narain Singh [(1948) 16 ITR 325].
19
Rent or revenue would be “agriculture income” if land is situated in India. This condition is to be fulfilled
not only in sub-clause (a) but also in sub-clause (b) and (c) of section 2(1A). Income from foreign
agricultural land is outside the scope of exemption given by section 10(1) and consequently it may be
taxable in India depending upon residential status of the recipient.
20
The word “agriculture” and “agricultural purposes” not having been defined in the Act, one must
necessarily fall back upon the sense in which they are understood in common parlance. However, in CIT
versus Raja Benoy Kumar Sahas Roy [(1957) 32 ITR 466] Justice Bhagwati laid down the following
principles to serve as a guide in the determination of the scope of the terms “agriculture” and “agricultural
purposes”. He divided the whole operation of agriculture into two—(i) Basic operation; and (ii) Subsequent
operation.
The Basic operation, to him, involves tilling of the land, sowing of seeds, planting or an operation of a
similar kind (digging pits in the soil to plant a sapling). Whereas, subsequent operation include weeding,
digging the soil around the growth, nursing, pruning, cutting, Protection of Crops from insects and pets etc.
To him, mere performance of these subsequent operations on the products of the land (where such products
have not been raised on the land by the performance of the basic operations described above) would not be
enough to characterize then as agricultural operations. Where, however, the subsequent operations are
performed in conjunction with and in a continuation of the basic operations, the subsequent operations
would also constitute part of the integrated activity of agriculture.

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(b) Any income derived from such land by –

(i) agriculture; or
(ii) the performance by a cultivator or receiver of rent-in-kind of any process ordinarily
employed by a cultivator or receiver of rent-in-kind to render the produce raised or received
by him fit to be taken to market21; or
(iii) the sale by a cultivator or receiver of rent-in-kind of the produce raised or received by
him, in respect of which no process has been performed other than a process of the nature
described in paragraph (ii) of this sub-clause22 ;

Further, Agriculture does not merely imply raising of food and grains for the consumption of men and
animals; it includes all products from the performance of basic as well as subsequent operations on land.
Agriculture connotes all the products of vegetable kingdom (food for human beings and animals, fruits,
commercial crops, flowers, medicines, bamboo, timber, fuel material) but it does not include the products
of animal kingdom (dairy farming, butter and cheese making, poultry farming, breeding of livestock etc.).
21
Sometimes, it becomes difficult to find ready market of the crop as harvested. In order to make the
produce a commodity which is saleable, it becomes necessary to perform some kind of process on the
produce. The income, arising by way of enhancement of value of such produce, by performing such process
to make the raw produce fit for market, is also agricultural income, provided the following conditions must
be satisfied:
1. The process must be one which is ordinarily employed by a cultivator or receiver of rent-in-kind;
and
2. The process must be applied to render the produce fit to be taken to market;
The ordinary process employed to render the produce fit to be taken to market includes thrashing,
winnowing, cleaning, drying, crushing, boiling and decanting, etc., though the nature of process depends
upon quality of the produce and varies from time to time and place to place.
Moreover, if marketing process is performed on a produce which can be sold in the raw form (without
requiring any process to make it fit for marketing), income derived therefrom is partly agricultural and
partly non-agricultural.
For example, if sugar cane is generally sold in a given area without being subjected to any process, the
process of converting sugarcane into gur would not be agricultural process and income attributable to the
process of converting sugarcane into gur would not agricultural income [Brihan Maharasthra suger
syndicate Ltd versus CIT ,(1946) 14 ITR 611 (Bom)].
22
Any income from the sale of any product to cultivator or receiver of rent-in-kind is agricultural income,
provided the produce is not subjected to any process except process ordinarily employed to make it fit for
taking it to market. It is immaterial that he has sold the produce to the wholesaler in the market or through
his own
retail shop directly to the consumers. Where, however, the produce is subject to other process, income
arising on sale of such produce is partly agricultural income and partly non-agricultural income. Which
income is partly agricultural and which do not, the income tax rule make clear through rules:

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(c) Any income from farm building. Explanation is given below:

Bonafide annual value of a house property is taxable under section 22. However, income from a
house property which satisfies the following cumulative conditions would be treated as agricultural
income and, consequently, it would be exempt from tax by virtue of section 10(l):
1. The building is occupied by the cultivator or receiver of rent-in-kind;
2. It is on or in the immediate vicinity of the land situated in India and used for agricultural
purposes;
3. The cultivator or receiver of rent-in-kind, by reason of his connection with the agricultural
land, requires the building as a dwelling house or as a store house of other out-building;
and
4. The land is assessed to land revenue or local rate or alternatively the land (though not
assessed to land revenue or local rate) is situated in a rural area.

1. For growing and manufacturing tea, 40% of the income so arrived is treated as business income
and balance of 60% is treated as agricultural income—Rule 8;
2. For manufacturing of rubber, , 35% of the income so arrived is treated as business income and
balance of 65% is treated as agricultural income—Rule 7A;
3. For growing coffee in India, , 25% of the income so arrived is treated as business income and
balance of 75% is treated as agricultural income—Rule7B
4. For any other cases, for disintegrating a composite business income, the market value of any
agricultural produce, raised by the assssee or received by him as rent-in-kind and utilised as raw
material in his business, is deducted. No further deduction is permissible in respect of any
expenditure incurred by the assessee as cultivator or receiver of rent-in-kind—Rule 7. [However,
Salaries and traveling expenses of general staff, general charges, provident fund for agricultural
staff, legal expenses, postage and registration fee are not apportionable between the agricultural
and business activities and are, therefore, admissible as deduction in their entirety while computing
the total income. See, SC in Rajasthan State Warehousing Corp. versus CIT (2000) 242 ITR 450]]
Market value is determined, as per rule 7(2), is as follows:
1. Where agricultural produce is ordinarily sold in the market in its raw state, or after application
to it any process ordinarily employed by a cultivator or receiver of rent-in-kind to render it fit
to be taken to market, the value calculated according to the average price at which it has been
so sold during the relevant previous year;
2. Where agricultural produce is not ordinarily sold in the market in its raw state or after
application to it of any process aforesaid, the aggregate of—
a. The expenses of cultivation;
b. The land revenue or rent paid for the area in which it was grown; and
c. Such amount as the AO finds, having regard to all the circumstances in each case, to represent
a reasonable profit.

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Rural area for this purpose means an area which is outside the jurisdiction of a municipality or
cantonment board having a population of 10,000 or more and also which does not fall within
distance (to be measured aerially) given below—
2 kilometers from the local limits of If the population of the
municipality/cantonment board municipality/cantonment board is more
than 10,000 but not more than 1 lakh
6 kilometers from the local limits of If the population of the
municipality/cantonment board municipality/cantonment board is more
than 1 lakhs but not more than 10 lakhs
8 kilometer from the local limits of If the population of the
municipality/cantonment board municipality/cantonment board is more
than 10 lakhs
For the above purpose, “population” means the population according to the last preceding census
of which the relevant figures have been published before the first day of the previous year.
Note:- Income would be exempt from tax only if land or building is used for agricultural purposes.
In other word, if land or building is used for any other purposes, exemption is not available. For
instance, if a farmer gives his building on rent for residential purposes, income is chargeable to
tax.
Instances of agricultural Income:
1. Fees for grazing
2. Compensation received from an insurance company for damage caused by hailstorm to the
green leaf forming part of the assessees’s tea garden
3. Income from growing flowers and creepers
4. Share of profit of a partner from a firm engaged in agricultural operation(similarly received
by him for rendering services is agricultural income as salary is only a mode of adjustment
of the firm’s income)
5. Interest on capital received by a partner from the firm engaged in agricultural operation
6. Income derived from the sale of seeds
7. Income derived by growing special quality of grass required for creating golf course
8. Income derived from saplings or seedlings grown in a nursery.
Instances of non-agricultural income:
1. Annual annuity received by a person in consideration of transfer of agricultural and even
if it is charged on land

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2. Interest on arrears of rent payable in respect of agricultural land as it is neither rent nor
revenue derived from land
3. Income from sale of forest trees, fruits and flowers growing on land naturally and
spontaneously and without the intervention of human agency.
4. Income from preservation, storage and sale of potatoes and other vegetables.
5. Profit accruing from the purchase of a standing crop and resale of it after harvest by a
merchant having no interest in land except a mere licence to enter upon the land gather,
upon the produce, since land is not direct, immediate or effective source of income.
6. Remuneration received by a managing agent at a fixed percentage of net profit from a
company having agricultural income.
7. Interest received by a money lender in the form of agricultural produce.
8. Income from fisheries
9. Royalties’ income of mines, brick making, stone queries.
10. Poultry, Dairy, Butter and cheese making income.
11. Income from production of salt from sea water.
12. Income from supply of water by the assesse from a tank in its agricultural land
13. Income earned by an assessee by way of shooting hire charges by permitting the film
producers to shoot their films in his garden
14. Income from growing various kinds of hybrid seeds
15. Income from shooting in farm house.

2. RECEIPT BY A MEMBER FROM HUF

[SECTION 10(2)
Any sum received by an individual, as a member of a HUF, either out of income of the family or
out of income of estate belonging to the family, is exempt from tax. Such receipts are not
chargeable to tax in the hands of an individual member even if tax is not paid or payable by the
family on its total income. This exemption is based upon the principle of avoidance of double
taxation. Income of a HUF is taxable in its own hand.
However, this exemption is applicable to only those individual who are entitled to demand share
on partition or are entitled to maintenance under the Hindu Law.
Again, this exemption is subject to the provision of Section 64(2).
3. SHARE OF PROFIT FROM PARTNERSHIP FIRM
[SECTION 10(2A)]
Share in profit of firm received by a partner of that firm (including limited liability partnership
firm) if not taxable in the hands of the partner. This rule is applicable only in the case of share of

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profit received by a partner from his firm. Interest on capital (and/or salary or remuneration)
received by a partner from his firm are, however, chargeable to tax in the hands of partner.
4. INTEREST INCOME OF NON-RESIDENTS
[SECTION 10(4)]
(i) In the case of non-residents, any income from interest on such securities or bonds as the Central
Government may by notification in the Official Gazette specify in this behalf including income by
way of premium on the redemption of such bonds.
(ii) In the case of an individual [being a Non-Resident as per (FEMA)], any income by way of
interest on moneys standing to his credit in a Non-resident (External) Account in any bank in India
in accordance with the Foreign Exchange Management Act, 1999 and the Rules made thereunder.
5. INTEREST INCOME OF NON-RESIDENTS FROM SPECIFIED SAVINGS
CERTIFICATES [SECTION10(4B)]
In the case of an individual being a citizen of India or a person of Indian origin, who is a non-
resident, any income from interest on notified savings certificates issued before the 1st day of June,
2002 by the Central Government will be exempt provided he subscribes to such certificates in
foreign currency or other foreign exchange remitted from a country outside India in accordance
with the provisions of the Foreign Exchange Management Act, 1999 and any rules made
thereunder. It is important to note that the exemption will be available only to the original
subscribers to the savings certificates.
6. TRAVEL CONCESSION OR ASSISTANCE TO A CITIZEN OF INDIA
[SECTION 10(5)]
The value of any travel Concession or assistance provided by the employer or the former employer
to an assessee for himself and his family in connection with his proceeding to any place in India
on leave or after retirement from service or after termination of his service is exempt subject to
such conditions as may be prescribed having regard to travel concession or assistance granted to
the employees of the Central Government. Provided that the amount exempt under this clause shall
in no case exceed the amount of expenses actually incurred for the purpose of such travel.
7. EXEMPTIONS TO AN INDIVIDUAL WHO IS NOT A CITIZEN OF INDIA
[SECTION 10(6)]
Remuneration of Diplomats etc. [Section 10(6)(ii)]: The remuneration received by him as an
official, by whatever name called, of an embassy, high commission, legation, commission,
consulate or the trade representation of a foreign State, or as a member of the staff of any of these
officials, for service in such capacity.
___________________________________________________________________________
There are many other types of exemptions, but you need to learn for exam purpose. Better to
leave at this juncture.

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Assistant Professor, Guru Ghashidas Vishwavidyalaya, Bilaspur (C.G.)

CHAPTER 5
COMPUTATION OF TOTAL INCOME UNDER
VARIOUS HEADS:
PART I – INCOME UNDER THE HEAD SALARIES

As already discussed previously that there are only five heads of income in the Income tax Act
(see section 14), Salary is one of them. The sections dealing with salary are, 15(Basis of
Charges), 16(Deduction from Salaries), and 17(inclusive definition of Salaries).

1. BASIS OF CHARGE (Sec 15): The basis of charging “Salary” to income tax is section 15.
As per Section 15, the income chargeable to income tax under the head salaries would include:
a) Any salary due to an employee from an employer or a former employer during the
previous year irrespective of the fact whether it is paid or not.
b) Any salary paid or allowed to the employee during the previous year by or on behalf
of an employer, or former employer, would be taxable under this head even though
such amounts are not due to him during the accounting year
c) Arrears of salary paid or allowed to the employee during the previous year by or on
behalf of an employer or a former employer would be chargeable to tax during the
previous year in cases where such arrears were not charged to tax in any earlier year.
d) However it would not include:
 Any salary paid in advance and included in the total income of any person for
any previous year, shall not be included again in the total income of the person
when the salary becomes due.
 Any salary, bonus, commission or remuneration, by whatever name called, due
to, or received by, a partner of a firm from the firm shall not be regarded as
“salary” for the purposes of this section.
o Salary is chargeable to tax either on “due” basis or on “receipt” basis, whichever matures
earlier.
For removal of doubt, it has been clarified that where any salary, paid in advance, is
assessed in the year of payment, it cannot be subsequently charged to tax in the year in
which it becomes due [Explanation 1 to section 15].
Similarly, if salary paid in arrears has been assessed in the past on “due” basis, it cannot be
taxed again when it is paid [Explanation 2 to section 15].If however, salary paid in arrears
has not been passed on “due” basis, it is liable to assed in the year in which it is paid.
Illustration: Mr. X is an employee of Y Ltd. His salary is ` 25,000 per month. Salary
becomes due on last day of each month. In March, 2017, he received salary of April and
May in Advance. Compute taxable amount for AY 2017-18 and AY 2018-19.
Solution: Taxable Salary for AY 2017-18 (PY 2016-17):

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Salary for the months of April, 2016 to March, 2017 will be taxable on due basis. Salary
for the month of April, 2017 and May, 2017 will also be taxable on receipt basis. Therefore,
it will not be taxable in AY 2018-19 on receipt basis. Thus, taxable salary for AY 2017-
18= 25,000*12 + 25,000*2 = 3,50,000
Taxable Salary for AY 2018-19 (PY 2017-18): Salary for the month of June, 2017 to
March, 2018 will only be taxable on due basis. Salary for April and May 2017 will not be
taxable as that has already been taxed on receipt basis in the AY 2017-18. Thus, taxable
salary for AY 2018-19 = 25,000*10 = 2,50,000.
o Salary is not taxable on “accrual” basis u/s 15. What is taxable is either salary due or salary
received.
Place of accrual of salary income [section 9(1)]: The golden rule is that salary will be
deemed to accrue or arise at a place where services are rendered. If the services are rendered
in India and salaries on account of such services are received outside India, it will be treated
as an income which is deemed to accrue or arise in India. Similarly, if a person, who after
rendering services in India, retires and settles abroad, receives any pension on account of
the same, such pension shall be an income which is deemed to accrue or arise in India as
the services on account of which pension accrues, were rendered in India.
However, there is one exception to the above rule. In case of a citizen of India who is a
government employee and renders and service outside India, salary received by him would
be treated as Income deemed to accrue or arise in India although the services are rendered
outside India. But as per section 10(7) in case of such government employees, who are
citizens of India, any perquisite or allowance received outside India shall, however, be
exempt.
o Essential Norm of salary income:
a. Income under the head “salaries” covers all remuneration due/paid to a person in
respect of services rendered by him under an express or implied contract of
employment. Charge under this head of income presumes the relationships of an
employer and an employee between the payer and payee in contrast to that of a principal
and agent. The income earned by an agent is not charged under the head “Salary” but
under the head “Profit and gain from business and profession”. Thus, the basis of
liability under the head salaries is the employer-employee relationship. Therefore, the
amount received by an individual shall be treated as salary only if the relationship
between payer and payee is of an employer and employee or master and servant.
Employer may be an individual, firm, and association of persons, company,
corporation, Central Government, State Government, public body or a local authority.
Likewise, employer may be operating in India or abroad. The employee may be full
time employee or part-time employee. The question whether a particular person

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receives the income in his capacity as an employee or not has to be decided from the
facts of each case. For instances:
i. The professor of university would be receiving income by way of monthly
salary from the university which is chargeable to tax under this head. But
this does not mean that every item of income received by the employee
from his employer would be taxable under this head. Thus, income by
way of examinership fees received by a professor from the same
university in which he is employed would not be chargeable to tax under
this head but must be taxed as Income from other sources under Section
56. This is because of the fact that the essential condition that the income
in question must be received for services rendered in the ordinary course
of employment would not be fulfilled in the case of examinership fees.
ii. A director of a company may, in some cases, be an employee of a
company where there is a specific contract of employment between him
and the company. The fact that the same person has dual capacity in his
relationship with the company does not mean that he cannot be taxed
under this head. Thus, income by way of remuneration received by a
managing director would be taxable as his salary income whereas the
income received by him as director’s fees in his capacity as director for
attending the meetings of the Board would be assessable under the head
“Income from other sources”.
iii. Salary paid to a partner by a firm is nothing but appropriation of profits.
Any salary, bonus, commission, or remuneration by whatever name called
due to or received by partner of a firm shall not be regarded as salary but
has to be charged as income from business. It is because of the fact that
the relationship between the firm and its partner is not of employer and
employee.
iv. According to a circular of the Board dated 22-5-1967, the salary received
by a person as Member of Parliament will not be chargeable to income-
tax under the head “Salaries” but as “Income from other sources” because
a Member of Parliament is not an employee of the Government but only
an elected representative of the people.
v. Income derived by any person from carrying on a profession or vocation
must be taxed as business income and not as salary income because
employment is different from profession. But, if an employee receives any
money from his employer as part of the terms of employment for not
carrying on any profession, such income must be taxed as salary income.
For instance, the allowance given by employer to a doctor employed by

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him for not carrying on a profession in addition to the employment would

be income arising from employment in accordance with the terms and
conditions of such employment and must, therefore, be taxed as salary
income. If an employee gets money from persons other than his employer
and if such money is not in any way related to the contract of services
with the employer under whom he is working, the receipts, if taxable as
income, must be assessed under the head “Income from other sources”.
b. Conceptually, there is no difference between salary and wages. Both are
compensation for work done or services rendered, though ordinarily salary is paid in
connection with services of non-manual types of work, while wages are paid in
connection with manual services.23
c. If an individual receives salary from more than one employer during the same
previous year, salary from each source is taxable under the head “Salaries”.
d. Amount taxable under the head “Salaries” is real salary and not fictitious salary.
There should be an intention to pay and receives salary. Where, for example, there was
merely in order to comply with the requirement of the Board of Education Rules, an
agreement between assessee and the governing body of the school granting a certain
salary to the assessee and simultaneously there was another agreement by which an
identical sum was to be returned by the assessee to the governing body as donation, it
was held that there was in really no agreement to pay and receives salary.24
e. Any salary surrendered by the employee to the Central Government, under the
Voluntary Surrender of Salaries (Exemption from Taxation) Act 1961, will not be
included while computi8ng his taxable income, whether he is a private sector/public
sector or Government employee.
f. When the employee receives tax-free salary from his employer, it normally means that
employer himself pays the tax which is due on the salary of such employee. The amount
of tax, so paid by the employer, is also to be considered as the income of the employee
and will be added to his salary.
g. Once salary has been earned by an employee, it becomes taxable in his hands though
he may subsequently waive the right to receive the same from the employer. The
waiver of salary by the employee would be treated as application of the income and
salary though waived would be taxable in his hands.
h. Salary paid by foreign government/enterprises to its employee serving in India is
taxable under the head salary, unless it is specifically under section 10.
i. Remuneration received (or due) during the previous year is chargeable to tax under the

23
Gestetner Duplicators (p) Ltd. Versus CIT(1979)117 IITR1(SC)
24
Readev Versus Brearley (1933) 17 TC 687

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head “Salary” irrespective of whether it is received from a former, present or

prospective employer.
2. WHAT SALARY ACTUALLY MEANS? : Section 17 deals with this question. Clause (1)
defines ‘salary’ as including among other things, perquisites and profits in lieu of salary.
Clause (2) and (3) go on to give inclusive definition of ‘perquisite’ and ‘profits in lieu of
salary’.
Salary under section 17(1) is defined to include the following:
a. Wages
b. Any annuity or pension
c. Any gratuity
d. Any fees, commission, perquisite or profits in lieu of or in addition to any salary or
wages
e. Any advances of salary
f. Any payment received in respect of any period of leave not availed by him
g. Employer’s contribution to Recognized Provident Fund (RPF) in excess of 12% of
employee’s salary and interest credited to recognized provident fund in excess of 9.5%
p.a. [The same can be said in other word—the portion of the annual accretion in any
previous year to the balance at the credit of an employee participating in recognized
provident fund to the extent it is taxable].
h. The aggregate of all sums that are comprised in the transferred balance of an employee
participating in a recognized provident fund to the extent to which it is chargeable to
tax, [When an unrecognized provident fund is recognized for the first time, the balance
in the unrecognized provident fund is known as “Transferred balance”. The employer’s
share (contribution in unrecognized provident fund and interest on employer’s share)
is included in the salary income for income-tax purposes at the time of such transfer.];
and
i. The contribution made by the Central government in the previous year, to the account
of an employee under a notified pension scheme referred to in section 80 CCD.
In summary salary is defined as:
 Basic salary & wages
 Annuity & Pension
 Bonus & Commission
 Perquisites & Allowance
 Advance Salary & Profit in lieu of salary
 Section 80CCD

3. THE TREATMENT OF IDFFERENT FORMS OF SALARY INCOME:

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3.1.1: WAGES:
‘Salary’ is generally used in respect of payment for services of a higher class, whereas ‘wages’ is
confined to the earnings of labourers. However, for income-tax purposes there is no difference
between salary and wages. Therefore, wages are treated just like salary and taxable on the same
basis as salary.
3.1.2: ANNUITY OR PENSION:
Annuity is often confused with pension though there is a difference between the two. According
to the Oxford Shorter English dictionary, annuity means “a yearly allowance, or income; the grant
of an annual sum for a term of year, for life, or in perpetuity.” Annuity is a series of periodic
payments which are given out at regular intervals from a lump sum corpus. We can also say that
an annuity is a plan that helps you to get a regular payment after making a lump sum investment.
Thus, annuity pay-outs secure a source of regular income. Annuity may be of different kinds:
Immediate annuity: Under immediate annuity, you pay lump sum money to buy the annuity.
Thereafter, annuity pay-outs start immediately from the following month, quarter, half-year or
year. You have to choose the annuity frequency and annuity pay-outs would be paid on every
subsequent frequency till your lifetime or for limited tenure.
Deferred annuity: Under this type of annuity, you pay a lump sum amount and the annuity pay-
outs start after a specified duration. Thus, annuity payouts are postponed for a certain date and the
duration for which it is postponed is called the deferment period.
Other types of annuities are—1. Life annuity; 2; Life annuity with return of purchase price;
Annuity Certain; Increasing annuity; Joint life annuity; Joint life annuity with return of purchase
price, etc.
Tax treatments to different types of Annuities:
Annuity when made by a present employer falls under the head Salaries. It may be paid by the
employer voluntarily or on account of a contractual agreement. When annuity is payable by a
present employer, it is taxable as salary. If it is received from a former employer then it is taxed as
profits in lieu of salary. A deferred annuity will not be taxable until the right to receive the same
arises. Other forms of annuities, for example, those made under a will by settlor or granted by life
assurance Company, or accruing under a contract, come under the head “Income from other
sources” and they shall have to be assessed u/s 56.
A pension is a type of annuity which pays regular incomes till your lifetime. It is paid-out in the
form of annuity and qualifies as an example of annuity.
Tax treatment to different situations of pensions:
Different Situations Tax Treatment
Pension received from UNO by the Not chargeable to tax

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employee or his family member

Family pension received by family Exempted in some case u/s 10(19)
members of armed forces (after the death
of the employee)
Family pension received by family o Taxable in the hands of recipients
member in other cases (after the death of u/s 56 under the head “income
the employee) from other sources”
o Deduction is available under
section 57 which is 1/3 of such
pension or Rs 15000/- whichever
is lower.

Pension received by an employee (during o Contribution by the employer to

his lifetime, but after retirement) who has NPS is first included under the
joined the Central Government (on or after head “salaries” in the hands of the
employee.
Jan 1, 2004) or any other employer
o Employee’s contribution is
(popularly known as NPS25) deductible (to the extent of 10%
of the salary of the employee)
under section 80CCD(2)
o Employee’s contribution to NPS
(to the extent of 10% of the salary
of the employee) is also
deductible u/s 80CCD(1)
o When pension is received out of
the aforesaid amount it will be
chargeable to tax in the hands of
the recipient.
Pension received by an employee (after o When the pension is uncommuted
retirement but during the lifetime) in any pension26, no matter whether
other case employee is in government or
private services, it is chargeable
to tax.
o If the pension is commuted

25
NPS (National Pension System) is applicable to new entrants to Government service or any other
employer. As per the scheme, it is mandatory for persons entering the government service on or after
January 1, 2004, to contribute 10% of salary every month towards NPS. A matching contribution is required
to be made by the employer to the said account.
26
It is periodical payment of pension.

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pension27 and the employee

belongs to government services,
it is fully exempted from tax u/s
10(10A)(i), then it does not
matter whether he receives
gratuity or not.
o If the pension is commuted
pension and the employee
belongs to non-government
services, and if he receives
gratuity, 1/3rd of 100% commuted
pension is exempted from tax u/s
10(10A)(ii).
o If the pension is commuted
pension and the employee
belongs to non-government
services, and if he does not
receives gratuity, ½ of 100%
commuted pension is exempted
from tax u/s 10(10A)(ii).

Pension is chargeable to tax on “accrual” basis whether it is received voluntarily or under a

contract. Arrears of pension are also assessable on “due” basis whether paid or not. To be more
clear, we can understand the points in respect of Commuted pension:

27
It is lump sum amount in lieu of periodical payment. Illustration: After retirement, X gets Rs 20000/- as
monthly pension. As per service rules, he gets 25% of his pension commuted for Rs 60000 (after
commutation he will get the remaining 75%, i.e., Rs 15000 by way of monthly pension) In this case Rs
60000 is commuted pension which X has received in lieu of 25% of his monthly pension. [It should be
noted that Rs 60000 is only 25 % of commuted pension. If we have to calculate 100% of commuted pension,
it will amount to 60000×4, i.e., 240000].

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3.1.3: GRATUITY:
Gratuity is the payment made by the employer to an employee in appreciation of the past services
rendered by the employee. With the enactment of payment of Gratuity Act, 1972, gratuity payment
has become legally compulsory in most of the cases. Where the payment of Gratuity Act is
inapplicable, an employee can claim gratuity under the terms of contract of employment. Gratuity
can either be received by—a) the employee himself at the time of retirement, or; b) the legal heir
on the event of the death of the employee. Gratuity received by an employee on his retirement is
taxable under the head “Salary” whereas gratuity received by legal heir of the deceased employee
shall be taxable under the head “Income from other sources”. For the purpose of exemption of tax
on gratuity, section 10(10) divides employee into three categories. The incidence of tax on gratuity
is explained in the following table:
Tax Treatment of Gratuity:
Status of Employee Whether gratuity is taxable
1 Government Employee It is fully exempt from tax u/s 10(1)(i)28
2 Non-Government employee It is fully or partly exempt u/s 10(10)(ii)29
covered by the payment of
Gratuity Act, 1972

28
A professor/teacher of a University established under an Act of Parliament/State Legislature (as well as
college affiliated to such university or constituent college of such university) is treated as Government
Employee for this purpose. (Ram Kumar Rana v/s ITO (2016) 71 taxmann.com 54 (Delhi-Trib.)
29
What is exempt from the tax is the least of the following three:
1. Half months’ salary based on salary last drawn for each completed year of service (i.e., 15 days’
salary * length of service), or part thereof;
2. Rs 10,00,000
3. Gratuity actually received
Gratuity in excess of the aforesaid limits is taxable in the hands of the assessee.
Note: Salary for the purpose of the aforesaid limits means Basic salary last drawn by the employee and
includes dearness allowance but does not include any bonus, commission, house rent allowance, overtime
wages and any other allowance. Further, 15 days alary is calculated by dividing salary last drawn by 26 (as
there are four Sunday as off days) and then multiply the result by 15. Here it should be noted that DA in
this case means DA then no matter whether it is provided in terms of employment or not. Any DA which
is provided in terms of employment means that DA will be considered, normally, as part of salary when an
employee retires, i.e., it is retirement benefits. Normally it is expressed as percentage of basic salary. And
where DA is not provided in terms of employment, it means fix amount of DA, say Rs 5000/- etc.

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3 Non-Government employee It is fully or partly exempt from tax u/s 10 (10) (iii)30
not covered by the payment
of Gratuity Act, 1972
For more lucidly it can be understood by the diagram given below. But there are three more
important points:
Note:
1. If gratuity is received during the tenure of service then 100% of it is taxable, whether the
employee is government employee or not; [Section 10(10) is applicable only for gratuity
received after retirement. And it is not such a case]
2. If an employee is getting retired from more than one employer during the previous year, in that
case the maximum limit of Rs 1000000 would be restricted at Rs 10, 00000.
3. If employee has already availed the exemptions u/s this section in any previous year at the time
of retirement from previous employer and now again he is retiring from present employer, in
that case the maximum limit of Rs 10,00000/- will get reduce from that amount which he
already has got exemptions at the time of previous employment. And now the diagram:

30
What is exempt from tax is the least of the following three:
1. Rs. 10,00,000/-
2. Half month’s average salary for each completed year of service
3. Gratuity actually received.
Here, average salary means average of last 10 months salary. Salary here means, Basic Salary + DA +
Interest. Gratuity in excess of the aforesaid limits is taxable in the hands of the assessee. Salary includes
D.A (if) +%. Here half months is calculated by multiplying the basic salary by 1/2. DA (if) means only
such DA which is provided in terms of employment. Again the symbol % means % of commission on the
basis of terms over of sales achieved by employee.

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3.1.4: FEE & COMMISSION:

Any fee or commission paid/payable by the employer to the employee shall be fully taxable and
thus would be included in Gross Salary. Commission may be a fixed amount or a fixed percentage
of turnover or net profit etc. But it will be taxable under the ‘Salaries” only when it is paid/payable
by employer to employee.
3.1.5: BONUS:
Bonus is the part of salary within the meaning of “perquisites” according to Explanation (3) of
Clause (2) of section 17 of Income Tax Act, 1961. It is taxable on receipt basis. Therefore, it will
be included in the gross salary only in the year in which the bonus is received. If bonus is received
in arrears, the assessee can claim relief under section 89.
3.1.6: OVERTIME PAYMENTS:
Any payment made by employer to the employees for working beyond the office hours or for any
extra work done by employees is taxable and therefore, included in gross salary.
3.1.7: SALARY IN LIEU OF NOTICE PERIOD:
Normally, if any employer wants to terminate the services of an employee, he gives notice of his
intention to do so. For e.g., as per the contract of service, he may have to give three months’ notice
in advance to the employee. This is known as notice period. Sometimes employer instead of giving
him a notice gives him salary for the notice period and terminates him immediately. This amount
paid by the employer is known as salary in lieu of notice period and is fully taxable in the hands
of the employee on receipt basis.

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3.1.8: ADVANCE SALARY:

As a practice salary becomes due at the end of the month (or any other period as per employment
agreement). If a salary is paid before it becomes due it is considered as advance salary. Advance
salary is taxable on receipt basis in the previous year in which it is received. The recipient can,
however, claim relief under Section 89(1) read with Rule 21A.
Consider a situation. You joined a company on 1st March 2018. As part of your welcome package
the company paid you salary of March and April 2018 on 31st March. How much of that income
should be considered in your income tax for the financial year 2017-18?
If you consider due basis of income tax (taxable when due) the salary of the month of April 2018
should not be considered taxable in the financial year 2017-18. But, as per section 15 (b) of the
Income Tax Act, any salary “paid or allowed” in the previous year by or on behalf of an employer
or a former employer, though not due or before it became due to him” is taxable under the head of
salaries.
So, in the example case, both the salary for the month March and April will become taxable in the
financial year 2017-18..
3.1.9: ARREAR SALARY:
It is possible that the employer for some reason delayed the payment of salary. Unpaid salary after
it becomes due is considered an arrear. Normally speaking, salary arrears must be charged on due
basis. However, there are circumstances when it may not be possible to bring the same to charge
on due basis. For example if the pay commission is appointed by the center government and it
recommends revision of salaries of employees, the arrears received in that connection will be
charged on receipt basis. In this case also recipient can claim relief u/s 89.
3.1.10: LEAVE SALARY:
As per the service rule, an employee gets different leaves. An employee has to earn leave in the
first instance and only when he has leave to his credit, he can apply for leave. If a leave (standing
to his credit) is not taken within a year, as per the service rules it may lapse or it may be enchased
or it may be accumulated. The accumulated leaves standing to the credit of an employee may be
availed by the employee during his service time or; subject to service rules, such leaves may be
enchased at the time of retirement or leaving the job. Encashment of leave by surrounding leave
standing to one’s credit is known as “leave salary”
Tax treatment to leave salary:
Leave encashment during the Government/non-government Chargeable to tax on receipt
continuity of employment employee basis but subject to relieve u/s
89

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Leave encashment at the time Government employee (i) Fully exempt from tax
of retirement/leaving job u/s 10(10AA)(i)

Leave salary at the time of Non-government employee Minimum of the following

retirement/leaving job four limits:

(i) Leave encashment

actually received; or
(ii) 10 months average
salary; or
(iii)Cash equivalent of
unavailed leave
calculated on the basis
of maximum 30 days
leave for every year of
actual service rendered;
or
(iv) Rs 3,00,000/-
Meaning of salary:

1. Basic salary + DA to
the extent the terms of
employment so provide
plus commission, if fixed
percentage of turnover.
2. Average salary of last
10 months immediately
preceding the date of
retirement.

3.1.11: ALLOWANCE31:
Allowance is generally defined as fixed quantity of money or other substance given regularly in
addition to salary for the purpose of meeting some particular requirement connected with services

31
What are the difference between Allowance and Perquisites?
If an employer wants to give benefits to his employee, he can do so either by providing allowance or by
give perquisites. Allowance is monetary in nature but perquisites are, except in one case where money so
provided is deemed to be non-monetary benefits, non-monetary. Examples of allowances are HRA, medical
allowance, education fee. Correspondingly, examples of perquisites are rent free accommodation, medical
facilities, education facilities. More particularly, for example, if an employer gives to its employee Rs
2000/- per months in his salary so as to meet medical expenses, it is allowance; whereas, if employer pays
the medical expenses of employee, it is medical facilities in the nature of perquisites. .

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rendered by the employee or as compensation for unusual conditions of that service. 32 It if fixed,
pre-determined and given irrespective of actual expenditure. It is taxable u/s 15 on “due” or
“receipt” basis whichever comes earlier, irrespective of the fact that it is paid in addition to or in
lieu of salary. Under the Act, these are generally taxable and are to be included in gross salary
unless a specific exemption has been provided in respect of allowance provided under the
following sections:
(a) House Rent Allowances – Section 10(13A):
(b) Prescribed Special Allowance – Section 10(14)(i) & (ii):
The above two allowance, the descriptions of which are given below, shall be exempt either in full
or up to a certain limit and the balance, in any, shall be taxable and thus included in gross salary.
(a) House Rent Allowance:
It is given by the employer to the employee to meet he expenses in connection with rent of the
accommodation which the employee might have to take. HRA is taxable under the head “salaries”
to the extent it is not exempt u/s 10(13A). HRA is exempt u/s 10(13A) to the extent of the minimum
of the following three amounts:
a) Actual House rent allowance received by the employee in respect of the relevant period;
b) Excess of rent paid for the accommodation occupied by him over 10% of the salary for
the ‘relevant period’;
c) 50% of the salary where the residential house is situated at Mumbai, Kolkata, Delhi or
Chennai and 40% of the salary where the house is situated at any other place, for the
relevant period.
Note:
1. Salary for this purpose includes dearness allowance if the terms of employment so
provides but exclude all other allowance and perquisites. However, salary includes
commission if received as a fixed percentage of turnover achieved by employee.33
2. Salary is to be taken on ‘the due basis’ in respect of the period during which the rented
accommodation is occupied by the employee in the previous year.
3. Dearness allowance shall be considered only when it is part of salary for computing
‘all’ retirement benefits (like, pension, leave encasement, gratuity, etc.)
4. Where the employee has not actually incurred expenditure on payment of rent or stays
in his own accommodation, no exemption of HRA is available.

32
Mutual Acceptance Co. versus FCT (1944)69 CLR 389
33
Gestetner Duplication Pvt. Ltd versus CIT 117 ITE 1 (SC)

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In this way, on close scrutiny, we find that the exemption in respect of HRA is based on the
following factors:
1. Salary
2. Place of residence
3. Rent paid
4. HRA received
Illustration on HRA:
A is entitled to a basic salary of Rs 50000 p.m. and dearness allowance of Rs 10,000 per month,
40% of which forms part of retirement benefits. He is also entitled to HRA of Rs 20,000 p.m. as
rent for a house in Delhi. Compute the taxable HRA.
Solution:
i. Actual HRA received (20,000 *12) 2,40,000
ii. Rent paid in excess of 10% of salary (2,40,000 – 64,800) 1,75,200
iii. 50% of salary 3,24,000
Therefore Rs 175,200 shall be exempt and the balance Rs 64,800
shall be included in gross salary.
Salary for the above purpose is calculated as under:
Salary = (50,000 * 12) + DA (40% of 1,20,000), i.e., 6,48,000
Note: Only those part of DA is considered which is the part of the
salary for computing ‘all’ retirement benefit.

(b) Prescribed Special Allowance:

Prescribed allowances which are exempted to a certain extent u/s 14 are of the following two types:
i. Special allowance for performance of official duties:
These are the allowance granted to meet expenses wholly, necessarily and exclusively
incurred in the performance of duties of an office or employment of profit. These
allowances are exempt to the extent of actual amount received or the amount spent for
the performance of the duties of an office or employment of profit, whichever is less.
[Section 10(14)(i)]. Among them are:
– Travelling allowances
– Daily allowance
– Conveyance allowance
– Helper allowance

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– Academic allowance
– Uniform allowance
ii. Allowances to meet the personal expenses: Among this category fall two types of
allowances:
a) Allowances which are exempt to the extent of amount received or the limits
specified whichever is less. These allowances are Children education allowance,
Hostel Expenditure allowance, Tribal area, Schedule area/agency area allowance,
special compensatory hilly area allowance or high altitude allowance etc., Border
area, remote area allowance or disturbed area allowance etc., Compensatory,
modified field area allowance, Counter insurgency allowance granted to members
of armed forces, Transport allowance etc.
b) Allowance which is exempt to the extent of certain percentage of amount received.
These allowances are allowed to transport employees working in any transport
system to meet the personal expense. And exemption is allowed only when they are
not receiving daily allowance.
Besides, there are other types of allowances and tax upon which is exempt. They are:
i. Allowances to a citizen of India, who is a government employee, rendering services
outside India [Section 10(7)];
ii. Allowances to High Court Judges u/s 22A of the High Court Judges (Condition of
Services ) Act, 1954
iii. Allowance received by an employee of UNO from his employer.
iv. Sumptuary allowance given to High Court and the Supreme Court judges.
Sumptuary allowances are in the nature of entertainment allowance. But for the person other than
High Court/Supreme Court Judges but the person in the employment of government, rather than
to have an exemption on entertainment allowances he would be eligible for the deduction u/s 16(ii)
from gross salary. The minimum of the following shall be available as deduction in case of
Government employees:
(i) Actual amount of entertainment allowance received during the year
(ii) 20% of his salary exclusive of any allowance, benefit or other perquisites.
(iii) 5,000.
Non-government employee will not have any such benefit of deduction.
All other allowances except those which are discussed in preceding paras are fully taxable.
Some of them are enumerated below:
i. Dearness allowance (DA)

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ii. City compensatory allowance (CCA)

iii. Medical Allowance
iv. Lunch Allowance/tiffin allowance
v. Overtime allowance
vi. Non-practicing allowance
vii. Family allowance
viii. Warden allowance
ix. Servant allowances.

3.1.12 PERQUISITES [SECTION 17(2)]:

The term ‘perquisites” is defined in Webster’s New International Dictionary as “a gain or profit
incidentally made from employment in addition to regular salary or wages, especially one of a
kind expected or promised”. Similarly in Murray’s English Dictionary it is defined as “any casual
emolument or benefit attached to an office or position in addition to salary or wages.” Thus, in
simple words, perquisites are the benefits in addition to normal salary to which the employee has
a right by virtue of his employment.
In more details, it means benefits or amenities in cash or in kind, or in money or moneys worth
and also amenities which are not convertible into money, provided by the employer to the
employee whether free of cost or at a concessional rate. Their value, to the extent these go to reduce
the expenditure that the employee normally would have otherwise incurred in obtaining these
benefits and amenities, is regarded as part of taxable salary.
Section 17(2) of the Income tax Act, 1961 defines the term ‘perquisites’ in inclusive fashion. As
per this section it includes:
i. The value of rent-free accommodation provided to the assessee by his employer;
ii. The value of any concession in the matter of rent respecting any accommodation
provided to the assessee by the employer
iii. The value of any benefit or amenity granted or provided free of cost or at
concessional rate in any of the following cases:
i) By a company to an employee, who is a director thereof;
ii) By a company to an employee being a person who has a substantial interest
in the company
iii) By an employer (including a company) to an employee to whom the
provisions clause a and clause b do not apply and whose income under the
head salaries, exclusives of the value of all benefits or amenities not
provided for by way of monetary payment, exceeds Rs. 50,000.

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These employees are also known as “specified employees”.

iv. Any sum paid by the employer in respect of any obligation which, but for such
payment, would have been payable by the assessee;
v. Any sum payable by the employer whether directly or through a fund, other than a
recognized provided fund or an approved superannuation fund or deposit linked
insurance fund, to effect an assurance on the life of the assessee or to effect a contract
for an annuity;
vi. The value of any specified security or sweat equity shares allowed or transferred
directly or indirectly by the employer or former employer free of cost or at
concessional rate to the assessee;
vii. The amount of any contribution to an approved superannuation fund by the employer
in respect of the assessee to the extent it exceeds Rs 1,50,000; and
viii. The value of any other fringe benefit or amenity as may be prescribed.
Thus, in summary perquisites is defined as:
 Rent free accommodation by employer to employee
 Concessional rate accommodation
 Any obligation of the employee met by the employer.34
 Any value of benefit or amenity provided by employer to employee, either at free of cost
or at concessional rate only in case of specified employee.35
 Any sum paid by employer to get an assurance of life of employee
 Any other fringe benefit36 as prescribed under this Act.
 Shares allotted either free or at concession under Employee Stock Auction Plan or Sweat
equity Shares.
 Any sum paid by employer on account of super-annulation in excess of Rs 150000/-

LIST OF NON-TAXABLE PERQUISITES:

(i) Medical Facilities:

34
For example, the obligation to pay for LPC gas services in house, the salary of servants, payment of
electricity bill, is of employee, but employer takes obligations of employee.
35
For example, if the employer gives servants to employee, here although there is no obligation of employee
to pay the salary of servants, but because he is taking benefit of such employment of servants of whose cost
is bear by employer, it comes under this head “benefit or amenity” provided by employer to employee. It
is taxable when the employee is specified employee.
36
For example, Facility such as credit card, free lunch, gift, loan at concessional rate, membership of any
clubs, society, library, etc.

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a) The value of any Medical facility provided to an employee or his family member in any
hospitals, clinics, etc. maintained by the employer.
b) Reimbursement of expenditure actually incurred by the employee on medical treatment for
self or for his family members in a government hospital, approved hospital (if a few
conditions are satisfied) or a private hospital (if such private hospital is recommended by
the government for the medical treatment of government employees).
c) Medical insurance premium paid or reimbursed by the employer
d) Reimbursement of medical expenses actually incurred by the employee upto a maximum
of ` 15,000 in the aggregate in a year, in a private hospital for his and his family.
e) Any expenditure incurred or paid by the employer on the medical treatment of the
employee or any family member of the employee outside India, if few conditions are
satisfied.
f) if the employee is a non-specified employee37, the medical facility provided by employer
to employee
(ii) Housing/Accommodation Facilities:
a) The accommodation provided by the employer if the accommodation is provided to an
employee working at mining site or an onshore oil exploration site or a project execution
site, or a dam site or a power generation site or an offshore site which—
i) Being of a temporary nature and having plinth area not exceeding 800 square feet, is located
not less than eight kilometers away from the local limit of any municipality or a cantonment
board; or
ii) Is located in a remote area;
b) Hotel accommodation for 15 days (in aggregate in a previous year) immediately after
transfer at the new location;
c) If provided to a High Court Judge, Supreme Court judge, Union Minister, Leader of
Opposition in Parliament an official in Parliament and serving Chairman and members of
UPSC;
(iii) Conveyance Facilities:

37
Non-Specified Employee: An employee who is other than specified employees is non-specified employee.
Specified Employee are those employee who are:
1. A director of director in employer company at any time during the previous year, or
2. An employee who has substantial interest in the employer company at any time during the previous
year. A person has substantial interest in the employer company if he is a beneficial owner of equity
shares carrying 20% or more voting power in the employer company; or
3. An employee whose income chargeable under the head “salaries” (exclusive of the value of all
benefits or amenities not provided by way of monetary payments) exceed Rs 50,000/- per year.

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a) If the employee is a non-specified employee;

b) Conveyance facility between the office and residence;
c) Conveyance facility to High Court Judge, Supreme Court Judges and serving Chairman
and member of UPSC
(iv) Any recreational facility provided to a group of employees in a previous year;
(v) Any expenditure incurred by the employer, for providing training to the employees or by
way of payment of fee of refresher courses attended by the employee;
(vi) Use of health clubs, sports and similar facilities provided uniformly to all employees by
the employer;
(vii) Expenses on telephone, including a mobile phone, actually incurred on behalf of the
employee by the employer;
(viii) Service of a sweeper, gardener, watchman or personal attendant, if the employee is non-
specified employee;
(ix) Service of gas, electricity or water for household purposes if the employee is a non-
specified employee;
(x) Educational facility to employee’s family members if the employee is a non-specified
employee;
(xi) Education facility for children of the employee where educational institution itself is
maintained and owned by the employer and free educational facilities are provided to the
children of the employee or where such free educational facilities are provided in any
institution, a value not exceeding Rs 1000/- p.m. per child.
(xii) Providing use of computer/laptop in any case
(xiii) Food and non-alcoholic beverages provided in working hours in remote area or in an
offshore installation;
(xiv) a) Tea, and snacks in working hours; b) free food and non-alcoholic beverages at office or
business premises or through paid vouchers which are not transferable and usable only at
eating joints, provided the value of such meal is upto Rs. 50 per meal
(xv) Leave travel concession when provided twice in a block of 4 year
(xvi) Leave travel concession when provided to non-specified employee
(xvii) Gift or gift voucher not exceeding 5000/-;
(xviii) Employer contribution towards superannuation fund in not in excess of 1.5 lakhs per year;
(xix) The premium paid by the employer to an accident policy taken out by it in respect of the
employee;
(xx) Amount given by employer of assessee to assessee’s child as scholarship;

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(xxi) Loan to employee where the amount of loans are petty, not exceeding in aggregate Rs
20,000/-;
(xxii) Loan for medical treatment subject to rule 3A;
(xxiii) Tax on non-monetary perquisites paid by the employer;
(xxiv) Contribution to recognized provident fund.
LIST OF TAXABLE PERQUISITES
The value of the following perquisites is added to the salary income of the employee:
(i) Value of rent-free residential accommodation provided to the assessee (except to the Judge
of a High Court or Supreme Court; an Officer of Parliament, a Union Minister and a leader
of opposition in Parliament).
(ii) Value of any concession in the matter of rent in respect of residential accommodation
provided to the assessee.
(iii) Sum paid by the employer (directly or indirectly) for effecting an assurance on the life of
the employee or for providing an annuity. If the amount is paid to a recognized provident
fund or an approved Superannuation fund, or to a deposit linked insurance fund
established under the Coal Mines Provident Fund Act or Employees’ Provident Fund Act,
the sum so paid is not to be included in the salary income.
(iv) Sum paid by the employer in respect of any obligation of the assessee, which would
otherwise have been payable by the assessee. Some of the examples of such expenses are
as follows:
a. Value of Service of a sweeper, gardener, watchman or personal attendant provided by
employer to employee;
b. Supply of gas, electricity or water for household purpose;
c. Income-tax paid by the employer due from the employee;
d. Payment of club bills, club subscription or hotel bills of the employee;
e. Fees paid by the employer directly to the school or reimbursement of tuition fees of the
children of the employee;
f. Payment of any loan due to the employee;
g. Any legal charges incurred by the employer to save or defend the employee. For
instance, if an employee knocks down a pedestrian during the course of employment
or otherwise while driving the company’s car due to his negligence and, to defend his
case in the court, the employer incurs heavy expenses, the amount spent by him on this
account would represent a perquisite. It is likely that the actual expenditure incurred by
the employer might be much larger than what the employee himself would have done
if he were to take up the proceedings himself.

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(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.
a. “specified security” means the securities as defined in clause (h) of section 2 of the
Securities Contracts (Regulation) Act, 1956 and, where employees’ stock option has
been granted under any plan or scheme therefor, includes the securities offered under
such plan or scheme;
b. “sweat equity shares” means equity shares issued by a company to its employees or
directors at a discount or for consideration other than cash for providing know-how or
making available rights in the nature of intellectual property rights or value additions,
by whatever name called;
c. the value of any specified security or sweat equity shares shall be the fair market value
of the specified security or sweat equity shares, as the case may be, on the date on
which the option is exercised by the assessee as reduced by the amount actually paid
by, or recovered from the assessee in respect of such security or shares;
d. “fair market value” means the value determined in accordance with the method as may
be prescribed;
e. “option” means a right but not an obligation granted to an employee to apply for the
specified security or sweat equity shares at a predetermined price;
(vi) The amount of any contribution to an approved superannuation fund by the employer in
respect of the assessee, to the extent it exceeds one lakh and fifty thousand rupees;
(vii) Any reward awarded. For example, a professional jockey receives present from his
employer on winning the race;
(viii) The value of any other fringe benefit or amenity, such as:
a. Interest free or concessional loan;
b. The value of travelling, touring, accommodation and any other expenses paid for or
borne or reimbursed for any holiday availed of by employee or any member of his
household (other than the value LTC);
c. Value of free food and non-alcoholic beverages provided by employer during working
hours when the value of such proviso is exceed by Rs 50;
d. Expenses on credit cards;
e. Use of moveable assets other than laptops and computer
f. Transfer of any moveable assets

(ix) Any other benefit, amenities, etc. This is residual head. It covers any benefit or amenity,
service, right or privilege provided by any employer which does not cover in above
preceding paras.

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VALUATIUON OF PERQUISITES
The basic principles governing valuation of perquisites are as follows:
1. The valuation is done on the basis of their value to the employee and not the employer’s
cost for providing the same - Wilkins v. Rogerson (1963) 49 ITR 395 (CA).
2. The value of perquisite is included in the salary income only if the perquisite is actually
provided to the employee.
3. Perquisite which is not actually enjoyed by the employee (though the terms of employment
provide for the same) cannot be valued and taxed in the employee’s hands. Therefore,
where the employee waives his right of perquisite, he cannot be taxed thereon.

1. Value of Rent Free House Accommodation

2. Value of Hotel Accommodation

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Notes
1. Here in both cases salary means all monetary benefits receive by employee except—1. DA
(if not covered); 2. P.F.
2. Where on account of his transfer from one place to another, the employee is provided with
accommodation at the new place of posting while retaining the accommodation at the other
place, the value of perquisites shall be determined with reference to only one such
accommodation which has the lower value for a period of not exceeding 90 days and
thereafter the value of perquisite shall be charged for both such accommodation.

3. Value of benefit given to employee, either free or concessional, of which the obligation to
payment is on employer when the employee is specified employee; AND the value of benefit
given to employee of which the obligation of payment is on employee but payment is
actually made by employer:

The value of benefit to the employee or any member of his household resulting from the provision
of the employer of services or a sweeper, a gardener, a watchman or personal attendant, shall be
the actual cost to the employer. The actual cost in such a case shall be the total amount of salary
paid or payable by the employer or any other person on his behalf for such services as reduced by
any amount paid by the employee for such services.

Note: Specified employee means:

3. Director of company;

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4. An employee who holds substantial interest in the company. (i.e., either he has share of
20% ; or he has 20% voting rights);
5. His monetary annually benefits is Rs 50,000/- or more.
4. Value of benefit in the above case when the facility is in nature of gas, electricity, water,
etc:
The value of benefit to the employee resulting from the supply of gas, electric energy or water
for his household consumption shall be determined as the sum equal to the amount paid on that
account by the employer to the agency supplying the gas, electric energy or water. Where such
supply is made from the sources owned by the employer, without purchasing them from any
other outside agency, the value of perquisites would be the manufacturing cost per unit incurred
by the employer. Where the employee is paying any amount in respect of such services, the
amount so paid shall be deducted from the value so arrived at.

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5. Value of Free Education

The value of benefit to the employee resulting from the provision of free or concessional
educational facilities for any member of his household shall be determined as the sum equal to the
amount of expenditure incurred by the employer in that behalf of where the educational institution
is itself maintained and owned by the employer or where free educational facilities for such
member of employees’ household are allowed in any other educational institution by reason of his
being in employment of that employer, the value of the perquisite to the employee shall be
determined with reference to the cost of such education in similar institution in or near the locality.
Where any amount is paid or recovered from the employee on that account, the value of benefit
shall be reduced by the amount so paid or recovered.
Provided that where the educational institution itself is maintained and owned by the employer
and free educational facilities are provided to the children of the employee or where such free
educational facilities are provided in any institution by reason of his being in employment of that
employer, nothing contained in this sub-rule shall apply if the cost of such education or the value
of such benefit per child does not exceed Rs. 1,000 p.m.

6. Value of Fringe Benefits:

a. Use of movable assets (Excepts cars) [for computer and laptops it is nil and for other assets
it is 10% of actual cost)
The value of benefit to the employee resulting from the use by the employee or any member
of his household of any movable asset (other than assets already specified in this rule and
other than laptops and computers) belonging to the employer or hired by him shall be

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determined @ 10% p.a. of the actual cost of such asset or the amount of rent or charge paid
or payable by the employer, as the case may be, as reduced by the amount, if any, paid or
recovered from the employee for such use.
b. Transfer of movable assets;

The value of benefit to the employee arising from the transfer of any movable asset
belonging to the employer directly or indirectly to the employee or any member of his
household shall be determined to the amount representing the actual cost of such asset to
the employer as reduced by the cost of normal wear and tear calculated at the rate of 10%
of such cost for each completed year during which such asset was put to use by the
employer and as further reduced by the amount, if any, paid or recovered from the
employee being the consideration for such transfer.
Provided that in the case of computers and electronic items, the normal wear and tear would
be calculated at the rate of 50% and in the case of motor cars at the rate of 20% by the
reducing balance method (WDV).
c. Free meals not taxable upto Rs 50/-

When tea or snacks provided during working hours, it is nil;

When free food and non-alcoholic beverages during working hours provided in a remote
area or at an offshore installation, it is nil;

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Free food and non-alcoholic beverages provided by the employer during working hours,
it is nil if the value thereof in either case is upto Rs 50 per meal;
If free food and non-alcoholic beverages are provided at office or business premises; or
through paid vouchers which are not transferrable and usable only at eating joints, it is
amount in excess of Rs 50 per meal
In any other case, it is actual amount of expenditure incurred by the employer as reduced
by the amount if any paid or recovered from the employee for such benefit or amenity.
d. Gift (not taxable if in aggregate Rs 5000/-
e. Credit cards expenses (taxable if personal benefit is given)
Where expenses including membership fees and annual fees are incurred by the employee
or any member of his household, which is charged to a credit card (including any add-on-
card), provided by the employer or otherwise, are paid for or reimbursed by the employer,
the value is the amount paid for or reimbursed by the employer as reduced by the amount,
if any paid or recovered from the employee for such benefit or annuity.
But when such expenses are incurred wholly and exclusively for official purpose, the value
would be nil provided: 1. Complete details in respect of such expenditure is maintained by
the employer which may, inter alia, include the date of expenditure and the nature of
expenditure, and; 2. The employer gives a certificate for such expenditure to the effect that
the same was incurred wholly and exclusively for the performance of official duties.
f. Club expenses( taxable if personal; non- taxable if corporate membership/health club/
sports club)
g. Interest free or concessional rate loan
The value of the benefit to the assessee resulting from the provision of interest-free or
concessional loan made available to the employee or any member of his household during
the relevant previous year by the employer or any person on his behalf shall be determined
as the sum equal to the simple interest computed at the rate charged by the State Bank of
India in respect of loans for house and conveyance and at the rate charged by the State
Bank of India for other loans on the maximum outstanding monthly balance as reduced by
the interest, if any, actually paid by him or any such member of his household.
However, no value would be charged if such loans are made available for medical treatment
in respect of diseases specified in rule 3A of these rules or where the amount of loans are
petty not exceeding in the aggregate Rs. 20,000.
Provided that where the benefit relates to the loans made available for medical treatment
referred to above the exemption so provided shall not apply to so much of the loan as has
been reimbursed to the employee under any medical insurance scheme.

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Assistant Professor, Guru Ghashidas Vishwavidyalaya, Bilaspur (C.G.)

3.1.13: PROFIT IN LIEU OF SALARY [Section 17(3)]:

That is, profit in place of salary. Here in this case, it means payments received by the employee in
lieu of or in addition to salary. It includes:
a. Any compensation due to or receipt by any employee from its present or former employer
on account of termination or modification in terms of employment;38. The ‘termination of
employment’ means retirement, premature termination of employment, termination by
death or voluntary resignation. Generally, under the income tax Act, the income that is
chargeable to tax is only a receipt which is revenue in nature; receipts of a capital nature
are not chargeable to tax but his provision constitutes an exception to this rule because
compensation received by an employee for termination of is employment would be a
capital receipt since it is received in replacement of the source of income itself.
b. Any compensation due to or receipt by any employee from its present or former employer
on account of modification in terms of employment;
c. Any amount due to or received, whether in lump sum or otherwise, by any assessee from
any person—(A) before his joining any employment with that person; or (B) after cessation
of his employment with that person.39
d. Any sum due to or received by an assessee from an unrecognized provident fund or an
unrecognized superannuation fund to the extent to which such payment does not consist of
contribution by the employee or interest on such employee’s contribution. This is the sum
received by employee from employer’s contribution on unrecognized PF or on
unrecognized superannuation fund. And that is chargeable to income tax under the ‘profit
in lieu of salary’. The employee’s contribution to unrecognized PF when received back
would not be taxable because they do not contain the element of income. However, the

38
For example, there was an agreement between Mrs X and employee Y. In agreement it was mentioned
that if employer modify terms of employment during the employment he can do so but he has to pay Rs
200000/- to employee as a compensation. And it was also agreed that if the employer wants to terminate
the employee he can do so but he has to pay Rs 500000/- to employee, again as an compensation. The
compensation on modification in terms of employment or termination if it is received by employee, it comes
under this head as it is not a salary but a profit in lieu of salary.
39
The word ‘employer’ and ‘employee’ is not written. Instead, ‘a person’ and ‘other person’ is written. This
is so because there cannot be employer-employee relationship before jointing and after cession of
employment. Suppose, an advertisement is created by a government for vacancy of any post. Some person
in response gave interview and got selected. Before appointment letters were issued to them, government
is changed. And new government cancels the vacancy. In reaction some of the selected candidates went to
court. The court after some years decides the cases to their favour. And government was instructed to give
compensation to those candidates for the years they were litigating. Now if the government pays to these
candidates compensations it comes under this head, i.e., compensation to person and not to employee as
there was no employer-employee relationship.

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interest thereon would be chargeable to tax as income from other sources and not as income
from salary.

TREATMENT OF PROVIDENT FUND FOR INCOME TAX PURPOSE

Provident fund scheme is a welfare scheme for the benefit of the employee. Under this scheme,
certain sum is deducted by the employer from the employee’s salary as his contribution to the
provident fund every month. The employer also contributes a certain percentage of the salary of
the employee to the provident fund. These contributions are deposited. The interest earned on these
investments is also credited to the provident fund account of the employees. The balance thus
keeps accumulating year after year. At the time of retirement/resignation, the accumulated amount
is given to the employee, if certain conditions are satisfied. In this regard it is pertinent to note the
following facts:
a. The contribution made by the employee is out of their income and therefore, is not question
of taxing any contribution made by employees because the entire amount of the income
has already been taxed. In fact, in such cases, he is given deduction from his gross total
income on account of the amount contributed by him.
b. The contribution made by the employer is over and above the salary of the employee and
is therefore, an income deemed to be received by the employee though it is not immediately
made available to him. However, it is exempt upto certain limits.
c. The interest credited to the provident fund account of the employee is also an income of
the employee over and above his salary income. However, it is also exempt upto certain
limits.
There are four kind of provident funds:
1. Statutory Provident fund: This fund is set up under the provident fund Act, 1925. The
scheme, under this Act is mainly meant for government employees/semi-government
employees, university/educational institution affiliated to a university established by
statue or other specified institution. In case of Statutory Provident Fund, the entire
amount of employer’s contribution without any limit or restriction whatsoever and the
interest thereon received by the employee shall not be includible in the total income of
the employee both at the time when the contribution is made and at the time when the
money is received by or on behalf of the employee on his retirement, death or
otherwise.
2. Recognized provident fund: All Provident Funds recognized by the Commissioner of
Income-tax under Rule 3 of Part ‘A’ of the Fourth Schedule to the Income-tax Act,
1961 and also Provident Funds established under a scheme framed under the
Employees Provident Funds Act, 1952 are known under the Income-tax Act as
Recognized Provident. The moment the recognition is withdrawn by the

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Commissioner, the Fund ceases to be a recognized Provident Fund. The Provident

Funds of various Public Sector Undertakings, Semi-Government bodies and other
institutions and organizations including companies which are recognized by the
Commissioner for income-tax purposes, would be treated as Recognised Provident
Funds. In the case of a Recognised Provident Fund, the employer’s contribution to the
Provident Fund is not treated as the employee’s income so long as the contribution by
the employer does not exceed 12% of the salary of the employee. But if the contribution
of the employer exceeds 12% of the employee’s salary, the excess of the contribution
over 12% of the salary of the employee is to be treated as part of the taxable income
from salaries in the hands of the employee in respect of the financial year in which the
contributions were made by the employer. The fact that the employee concerned does
not receive the money in hand nor is he entitled to get the money immediately does not
in any way affect the taxability of the excess over 12% of the employee’s salary. The
employee’s own contribution qualifies for deduction under Section 80C of the Income-
tax Act. [Salary for this purpose, includes basic salary; dearness allowance/pay (if the
terms of employment so provide) and commission (if based on a fixed percentage of
turnover achieved by the employee)]. As regards interest on the contributions to the
Provident Fund, only an amount exceeding a sum calculated at 12% per annum on the
balance standing to the credit of the employee would be treated as part of the taxable
income of the employee.
3. Unrecognised provident Fund: The Provident Fund which is neither Statutory nor
Recognised by the Commissioner of Income-tax nor Public Provident Fund, would be
an Unrecognised Provident Fund for income-tax purposes. In the case of an
Unrecognised Provident Fund, the employee’s own contribution to the Fund would not
be allowed as a deduction. The employer’s contribution and the interest thereon would,
however, be exempt from tax as and when the contributions are being made. But when
the money in lump sum is received back by the employee, that part of the amount
attributable to the employer’s contribution would be taxable as income from salaries
and the interest on the employer’s contribution would also be taxable as salary income
in the hands of the employee. The employee’s own contributions when received back
would not be taxable because they do not contain an element of income. However, the
interest thereon would be chargeable to tax as income from other sources and not as
income from salaries.
4. Public Provident Fund: This is a scheme, which is covered under Public Provident
Fund Act, 1968. Any member of the public, whether in employment or not, may
contribute to this fund. Therefore, even self-employed persons may contribute to this
fund. The employee can deposit money under PPF account in addition to is contribution
to other provident fund schemes. In this scheme there is no employer’s contribution.

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The minimum contribution to this fund is Rs 500 and maximum is Rs 150,000, per
year. The contributions made to the scheme along with interest are repayable after 15
years, unless extended. The rate of interest at present is about 8% .

Particular SPF RPF URPF PPF

Employee’s/Assess Deduction u/s 80C Deduction u/s 80C No deduction Deduction

es’ contribution is available from is available from u/s 80c is u/s 80C is
gross total income gross total income available available
subject to the limit subject to the limit from gross
specified therein specified therein total
income
subject to
the limit
specified
therein

Employer’s Fully exempt Exempt upto 12% Not exempt Not

contribution of salary. Amount but also not applicable
in excess of 12% is taxable every as there is
included in gross year. only
salary Salary, for the assessee’s
purpose of PF own
includes DA, contributio
if the terms of n
employment
so provide,
but excludes
all other
allowance and
perquisites.
Interest on Fully exempt from Exempt u/s 10 upto Not exempt Fully
provident fund tax 9.5% p.a. Interest but also not exempt
credited in excess taxable every
of 9.5% is included year.
in gross salary Salary, for
the purpose of
PF includes

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DA, if the
terms of
employment
so provide,
but excludes
all other
allowance and
perquisites.
Repayment of lump Fully exempt u/s Exempt subject to Accumulated Fully
sum amount on 10(11) certain conditions: employer’s exempt u/s
retirement/resignati 1. if the employee contribution 10(11)
on/termination has rendered is not taxable.
continuous service Accumulated
with his employer employer’s
for a period of 5 contribution +
year, or interest on
2. if, the service has employer’s
been terminated by contribution
reason of such (till date) is
employee’s ill taxable as
health or by the profit in lieu
contraction or of salary.
discontinuance of Interest on
employer’s employees
business or other contribution
cause beyond the (till date) is
control of the taxable as
employee, or income from
3. if, on the other sources.
cessation of his
employment, the
employee obtains
employment with
any other
employer, to the
extent the
accumulated
balance due and

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becoming payable
to him is
transferred to his
individual account
in any recognized
fund maintained by
such other
employer.

e. Any sum received under Keyman40 insurance policy.

f. Any other payment (other than what is exempt under different clauses of section 10) due
to or received by an assessee from his employer (or former employer) is treated as “profit
in lieu of salary”. For instances, medical allowance is taxable as “profit in lieu of salary”.
However, following will not be treated as “profit in lieu of salary” to the extent they are exempt
under section 10:
1. Payment of house rent allowance exempted u/s 10(13A)
2. Payment of death cum retirement gratuity exempted u/s 10(10)
3. Payment of commuted pension exempted u/s 10(A)
4. Payment of retrenchment compensation exempted u/s 10(10B)
5. Payment from statutory provident fund u/s 10(11)
6. Payment from recognized provided fund to the extent it is exempt u/s 10(12)
7. Payment of an approved superannuation fund u/s 10(13)
Approved Superannuation Fund is also a scheme of retirement benefits for the employee.
These are funds, usually established under trusts by an undertaking, for the purpose of
providing annuities, etc., to the employees of the undertaking on their retirement at or after
a specified age, or on their becoming incapacitated prior to such retirement, or for the
widows, children or dependents of the employees in case of the any employee’s earlier
death. The trust invests the money contribute to the fund in the form and mode prescribed.
Income earned on these investments shall be exempt, if any such fund is an approved
superannuation fund.
Employee’s contribution: deduction is available u/s 80 C from gross total income;

40
Keyman is the person whose presence or non-presence lays impact in the business of a person. It is due
to the presence of that person that a customer went to the shop remote from his residence even when there
is nearby shop from where he can buy the same items. May be due to the trust on that person.

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Employer’s contribution: contribution by the employer to the approved superannuation

fund is exempt upto 1,50,000 per year per employee. If the contribution exceeds 1,50,000/-
the balance shall be taxable in the hands of the employee;
Interest on accumulated balance: it is exempt from tax;
Payment from the fund: Any payment from an approved superannuation shall be exempt if
it is made:
a. On the death of a beneficiary; or
b. To any employee in lieu of or in commutation of an annuity on his retirement at or
after a specified age or on his becoming incapacitated prior to such retirement ; or
c. By way of refund of contributions on the death of a beneficiary;
d. By way of refund of contributions to an employee on his leaving the service in
connection with which the fund is established otherwise than by retirement at or
after a specified age or on is becoming incapacitated prior to such retirement, to the
extent to which such payment does not exceed the contributions made prior to the
commencement to this Act and any interest thereon; or
e. By way of transfer to the account of the employee under a pension scheme referred
to in section 80CCD and notified by the central government.

In short, except for the terminal and other payments specifically exempted under clause (10) to
(13A) of section 10 all other payments received by an employee from an employer or former
employer are liable to tax under this head.

4. Deduction under section 80 from Gross Total Income:

While computing the total income of an individual/HUF a deduction is allowed under section 80C
from gross total income on account of certain savings and investments made by such assessee. The
deduction is limited to the maximum amount of Rs 150,000/-. Some of eligible saving and
investment for which deduction under 80C is allowed to an individual consist of the following:

1. Employee’s contribution to SPF

2. Employee’s contribution to RPF
3. Asessee’s contribution to PPF
4. Employee’s contribution to superannuation fund
5. Life Insurance Premium paid by the assessee for himself for himself/herself or
his/her spouse and his or her children
6. Contribution to Sukanya Samirddhi Account
7. Payment to Unit Linked Insurance Plan
8. Term deposit for a fixed period of not less than 5 years with a scheduled bank
9. Subscription to notified bonds issued by the NABARD

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Although deduction u/s 80 c is allowed from GTI which consists of income under other heads of
income also but it has been discussed in brief above as normally the salaried may have its gross
total income which consist of salary only and then such employee will be eligible deduction under
section 80C to the maximum extent of Rs 1,50,000/-.
5. Relief under section 89:
Where, by reason of any portion of an assessee’s salary being paid in arrears or in advance or by
reason of his having received in any one financial year salary for more than twelve months or a
payment which under the provisions of section 17(3) is a profit in lieu of salary, his income is
assessed at a rate higher than that at which it would otherwise assessed, the relief to be granted
under section 89 shall be as under:

A. Where any portion of the assessee’s salary is received in arrears or in advance:

The relief on salary received in arrears on in advance hereinafter to be referred as additional
salary) is computed in the manner laid down in Rule 21A (2) as under
1. Calculate the tax payable on the total income, including the additional alary, of the relevant
previous year in which the same is received
2. Calculate the tax payable on the total income, excluding the additional salary, of the
relevant previous year in which the additional salary is received
3. Find out the difference between the tax at 1 and 2
4. Compute the tax on the total income after including the additional salary in the previous
year to which such salary related
5. Compute the tax on the total income after excluding the additional salary in the previous
year to which such salary relates
6. Find out the difference between tax 4 and 5
7. The excess of tax computed at 3 over tax computed at 6 is the amount of relief admissible
under section 89. No relief is, however, admissible if tax computed at 3 is less than tax
computed at 6. In such a case, the assessee employee need not apply for relief.

Illustration: During the previous year ending March 31, 2017, X, a salaried employee (age: 40
years), received Rs 10,67,000/- as basic salary and Rs 20,000 as arrears of bonus of the
financial year 1992-93. During the previous year, 1992-93, X has received Rs 50,000/- as
salary. X deposits Rs 1500 (during 1992-93) and Rs 10,000/- (during 2016-17) in public
provident fund.

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Solution:

Taxable income and tax Taxable income and tax

liability on receipt basis liability on accrual basis

2017-18 1993-94 2017-18 1993-94

Salary 1067000 50000 1067000 50000

Arrears of salary 20000 - - 20000

Gross salary 1087000 50000 1067000 70000

Less: Standard deduction u/s Nil 12000 Nil 12000

16(i)

Gross total income 1087000 38000 1067000 58000

Less: Deduction u/s 80C 10000 Nil 10000 Nil

Net Income 1077000 38000 1057000 58000

Tax on Net Income 148100 2000 142100 6800

Rebate u/s 88 Nil 300 Nil 300

Tax 148100 1700 142100 6500

Add surcharge Nil - Nil -

Tax and Surcharge 148100 1700 142100 6500

Education cess 2962 - 2842 -

Secondary and Higher 1481 - 1421 -

Education cess

Tax liability 152543 1700 146363 6500

Tax liability of two assessment years on receipt basis= 154243

Tax liability of two assessment years on accrual basis= 152863

Tax relief under section 89 for the assessment year 2017-18 (i.e., Rs 152543-152863) = 1380

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Tax payable for the assessment year 2017-18 (i.e., ., Rs 152543—Rs 1380)= 151160

B. Where the payment is in the nature of gratuity other than exempt under section 10(10):
Under section 89, a relief can be claimed if gratuity is received in excess of the limits specified.
However, no relief is admissible if taxable gratuity is in respect of service rendered for less
than five years. Cases in which the relief is admissible may be divided into two categories,
namely, (a) where the gratuity payable in respect of past service of 15 years or more, and (b)
where such period is 5 years or more but less than 15 years. Relief in a case belonging to the
first category is worked out as under:
1. Compute the average rate of tax on the total income, including the gratuity in the year of
receipt;
2. Find out the tax on gratuity at the average rate of tax computed at 1 above
3. Compute the average rate of tax by adding one-third of the gratuity to the other income of
each of the three preceding years
4. Find out the average of the three average rates computed in the manner specified in 3 above
and compute the tax on gratuity at the rate
5. The difference between tax on the gratuity computed at 2 and that at 4 will be relief
admissible under section 89.

In cases covered under the second category, the relief is computed on the similar lines as above
with the only difference that instead of average of the averages rate of the preceding three
years, the average of the rates of the preceding two years is computed by adding one-half of
the gratuity to the other income of each of preceding two years.

C. Computation of relief in respect of compensation on termination of employment:

If compensation is received by the assessee from his employer of former employer at or in
connection with termination of his employment after rendering continuous service for not less
than 3 years and where the unexpired portion of his term of employment is also not less than
3 years, the relief is calculated in the same manner as if he gratuity was paid to the employee
in respect of service rendered for a period of 15 years or more.

D. Computation of relief in respect of payment in commutation of Pension:

A relief can be claimed in respect of payment in commutation of pension received in excess of
the limits mentioned in such case. Such relief is computed in the same manner as if he gratuity
was paid to the employee in respect of service rendered for a period of 15 years or more.
E. Computation of relief in respect of other payment:

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In respect of payment received by an employee other than those mentioned in above cases, the
relief under section 89 will be granted by the central board of direct taxes after examining the
circumstances of each individual case.

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CHAPTER 6
COMPUTATION OF TOTAL INCOME UNDER
VARIOUS HEADS:
PART II – INCOME UNDER HEAD OF PROFIT AND GAIN FROM
BUSINESS AND PROFESSION (PGBP)

1. CHARGEABILITY [SECTION 28]:

Under section 28, the following nine types of income are chargeable to tax under the head “profit
and gains of business or profession”:

a. Profit and gains of any business or profession,

b. Any compensation for loss of office or any cession of business,
c. Income derived by a trade, professional or similar association from specific service
performed for its member,
d. Profit on sale of import entitlement licenses, incentive by way of cash compensatory
support (or say in other word—Cash assistance against exports) and Custom or excise duty
repaid or repayable as drawback of duty to any person against exports,
e. Any profit on transfer of the Duty Entitlement pass book (DEPB) scheme,
f. Any profit on the transfer of the duty free replenishment certificate,
g. Any value of any benefit or perquisite, whether convertible into money or not, arising from
business or the exercise of a profession,
h. Any interest, salary, bonus, commission or remuneration received by a partner of firm from
such firm,
i. Any sum whether received or receivable, in cash or kind, under an agreement for not
carrying out any activity in relation to any business or not to share any know-how, patent,
copyright, trademark, licenses, franchise or any other business or commercial right of
similar nature or information or technique likely to assist in the manufacture or processing
of goods or provision for service,
Explanation: For the purposes of this clause –
(i) “agreement” includes any arrangement or understanding or action in concert:
a. whether or not such arrangement, understanding or action is formal or in writing;
or
b. whether or not such arrangement, understanding or action is intended to be
enforceable by legal proceedings;
(ii) “service” means service of any description which is made available to potential users
and includes the provision of services in connection with business of any industrial or

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commercial nature such as accounting, banking, communication, conveying of news or

information, advertising, entertainment, amusement, education, financing, insurance,
chit funds, real estate, construction, transport, storage, processing, supply of electrical
or other energy, boarding and lodging.
j. Any sum received under a keyman insurance policy (including bonus),
Explanation: For the purpose of this clause, the expression “Keyman Insurance Policy”
shall have the following meaning: “Life Insurance Policy taken by a person on the life of
another person who is or was the employee of the first mentioned person or is or was
connected in any manner whatsoever with the business of the first mentioned person.
k. Any sum received (or receivable) in cash or kind, on account of any capital asset (other
than land or goodwill or financial instrument) being demolished, destroyed, discarded or
transferred, if the whole of the expenditure on such capital asset has been allowed as a
deduction under section 35AD,
l. income from speculative transaction.

Given below are explanations of some of the items mentioned in section 28:

A. Profit and Gain from Business or Profession (PGBP): [Section 28(i)]:

A.1. Meaning of Business:
The word ‘business’ is a word of large and indefinite import; it is something which occupies the
attention and labour of a person for the purpose of profit; it is an activity carried on continuously
in an organized manner with a set purpose and with a view to earn profit. It covers every facet of
an occupation and thus has multiple connotations. For example, the business may relate to
rendering of services also. It may relates also to making arrangements for the production, sale etc.
of commodities. Thus, an agency which does not involve actual purchase or sale but acting as
intermediary would constitute the carrying on of a business. Business may include the activity of
taking a market place or godowns or a forest on lease, and sub-letting ships and stalls in the market
or reletting the godowns or the forest. Similarly, acting as commission agent in real estate
transaction amount to business. Acquiring race horses, training them and using them regularly for
racing also amounts to a business. However, rent of house property is taxable under section 22
under the head “Income from house property’, even if property constitutes stick-in-trade of
recipients of rent or the recipient of rent is engaged in the business of letting properties on rent.41
The word ‘business’ is defined in section 2(13) to include any trade, (i.e., exchange of goods for
goods or goods for money), commerce (when transaction involved in trade are done on a large
scale) or manufacture (making of articles or materials by physical labour or mechanical power) or
any adventure in nature of trade, commerce or manufacture.

41
Salisbury house Estate Ltd. Versus Fry, see [1930] AC 432 (HL)

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But what is ‘adventure in the nature of trade, commerce, or manufacture’? The word ‘business’
in its commercial sense implies an element of continuity. But the income tax law does not require
that there should be a series of transaction provided that such transaction can be termed to be an
adventure or concern in the nature of trade, commerce or manufacture. In order to be an adventure
in the nature of trade, commerce or manufacture, the transaction in question need not possesses all
the elements of trade or business but some of them must be present. An adventure in nature of
trade, etc. need not be business itself but it should be akin to business. Thus, a single transaction
of purchase outside the assessee’s line of business may constitute an adventure in the nature of
trade.42 In Indramani Bai Versus CIT (SC, 1993), the wives of two brothers, who were partners in
a firm which dealt in bullion, purchased land out of money allegedly raised by selling their silver.
The assessee then carved out the land into plots and sold them individually within few months.
Held that in such circumstances shortness of time gap between the two was indicative of the
transaction being an adventure in the nature of trade and not investment. Some more instances of
such adventures are: purchase of money decree and realization of money therefrom by a money
lender; selling by property owning company a foreign exchange, which he acquired in past without
taking delivery of it with the motive of profit, on profit.
Whether a transaction is in the nature of trade, etc. depends on the facts and circumstances of each
case. In Janki Ram Bahadur versus (SC, 1965), the assessee himself engaged in the business of
pressing jute, purchased a jute press and sold the same at a profit within a year of such purchase.
It was held that the transaction was not in the nature of trade.
A.2: Meaning of Profession:
The expression ‘Profession’ has been defined in Section 2(36) of the Act to include any vocation.
In the case of a profession, the definition given in the Act is very much inadequate since it does
not clearly specify what activities constitute profession and what activities do not.
According to the generally accepted principles, the meaning of the term ‘profession’ involves the
concept of an occupation requiring either intellectual skill or manual skill controlled and directed
by the intellectual skill of the operator, as distinguished from an operation which is substantially
the production or sale, or arrangements for the production or sale, of commodities. It implies
professed attainments in special knowledge as distinguished from mere skill. For instance, an
auditor carrying on his practice, the lawyer or a doctor, a painter, an actor, an architect or sculptor,
would be persons carrying on a profession and not a business.
‘Vocation’ means the work in which a person is more or less regularly employed usually, but not
necessarily, for earning livelihood and which requires some special fitness or sense of duty. It

42
CIT versus Sutlej Cotton Mills Supply Agency Ltd, SC, 1976

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refers to any activity on which a person spends a major part of his time. An example of a ‘vocation’
is writing books, articles, etc.
A.3 Difference between ‘Business’ and ‘Profession” how much significant?
The common feature in the case of both profession as well as business is that the object of carrying
them out is to derive income or to make profit. And if there lies any difference in between, it is
only in the process in that how the object of deriving income or making profit is attained. However,
the distinction between ‘business’, ‘profession’ or ‘vocation’ does not have any material
significance while computing taxable income. What does not amount to ‘profession’ may amount
to ‘business’ and what does not amount to ‘business’ may amount ‘vocation’. Income from all
these activities (business, profession or vocation) are chargeable to tax under the same head “Profit
and Gains of Business or Profession”.
A.4 Points for consideration while computing income under the head business or profession
 What is charged under Business or Profession?
What is charged under this head is profit and gain from business or profession. The point
to be considered is that the charge under this head is not on gross receipts from business or
profession but the profits and gains derived from there. The word ‘profit’ is to be
understood in its natural and proper sense which no commercial man would misunderstand.
The profit to be assessed must be real. Profit is said to be real must be understood in contrast
to anticipated or potential profit. Anticipated or potential profit is future profit which may
or may not occur in future, and which is not considered for the purpose of tax, and which
is subject to one exception, i.e., stock-in-trade may be valued on the basis of cost or market
value, whichever is lower.
Again, the profits, which are taxed under this head should not be notional profit. No person
can make profit by trading with himself in another capacity. If the owner of business
withdraw stock-in-trade for person use, profit does not arise.43
 Profit received: whether in cash or in kind?
The income that is chargeable to tax under this head may be realised by the assessee in
cash or kind. In cases where the profit is realised in any other form than cash, the market
value of the commodity received as income should be taken to be the quantum of income
chargeable to tax.
 Profit received when there is no obligation to pay
Even in cases where an assessee is in receipt of money from his clients or other persons
who are under no obligation to make such payment, the assessee would still be chargeable

43
Sir Kikabhai Premchand Versus CIT, sc, 1993

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to tax if these monies were received by him in the ordinary course of business or profession.
For instance, any amount paid to a Company Secretary by a person who has not been his
client but who has been benefitted by his professional service to another, would be
assessable as the Company Secretary’s income from profession.
 Motive of Profit, how much relevant?
The concept of business or profession presupposes the existence of the assessee’s intention
to make a profit out of his transactions. But there may be assessees who carry on business
without the primary object of making profits (e.g., a co-operative society which tries to
cater to the needs of its members without the object of making maximum profits). Even in
such cases, if profits arise from the business carried on by the assessee and such profits are
incidental to the business, the assessee would still be taxable. Therefore, profit motive is
not the only test of determining the taxability of income from any activity constituting
business or profession.
 Transaction yielding profit or loss:
The assessability of profits and gains from business or profession does not in any way
depend upon the transaction yielding income or loss. There may be cases where a tax payer
may acquire an asset not with the idea of selling it at a profit but to retain it as his own
investment. In such cases the profit or gain derived from the sale or other transfer of such
an investment would constitute a capital profit which cannot be charged to tax under the
head ‘income from business or profession’. However, if the same assessee who holds some
investments, decides at a later point of time to convert this investment into stock-in-trade
and deals with them as part of his business assets in the normal course of his business, the
profit or gain derived from the sale of the same asset in the ordinary course of the business
would constitute income assessable under this head. The fact that the asset concerned was
originally acquired without the idea of making profit on sale is immaterial for the purpose
of assessment. A loss incurred from business is as much assessable under this head as profit
which is chargeable to tax.
 To whom goes the benefit ultimately
The person carrying on the business or profession would be chargeable to tax under this
head regardless of the fact that the profits or gains made by him ultimately go to the benefit
of some other person or to the business community or public body as a whole.44 In other
words, the subsequent application of the money derived by way of income from business
is immaterial for the purpose of assessment of the businessman. Where a publishing house
produced certain publications to assist a charitable association, and there was an

44
Port of London Authority versus IR 12 TC 122 (CA); CIT versus Vyas 35 ITR 55 (SC)

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understanding that all the profits of the ventures were to be paid over to the association and
in fact, they were so paid over, the revenue was nevertheless held entitled to tax the profit.45
 Profit of Single business with branches or several businesses: How computation is done?
Where an assessee caries on one and the same business at a number of places, for the
purpose of this section there is only one business, and net profits of the business have to be
ascertained by pooling together the profits earned in all the branches and deduction
therefrom all the expenses The fact that some of the branches are in foreign territories will
make no difference if the assesse is resident and ordinarily resident in India.
If the assessee is doing several businesses, the profits of each distinct business must be
computed separately. But the tax is chargeable under this section, not on the separate
income of every distinct business, but on the aggregate of the profits of all the businesses
carried on by the assessee. Not only are profits of the separate and distinct businesses to be
lumped together, but such aggregate of business profits is to be added to professional
earning in order to arrive at the total income taxable under this head.
 Set off of the losses:
The loss arising from one business can be set off (i.e., adjusted) against income from
another business falling under the same head and the net result after such set off would
alone be assessable income under this head. The law regarding set off is given in section
70 of this Act.
 Carry forward of loss
Many times it may happen that after making intra-head and inter-head adjustments, still
the loss remains unadjusted and if it is not possible to set-off the losses during the same
assessment year in which these occurred, so much of the loss as has not been so set-off,
can be carried forward to the following assessment year and then adjusted from the income
of the that following years. The process of carry forward is repeated until the whole loss is
adjusted.
 Expenditure in many businesses
Again, if an assessee has incurred an item of expenditure for the purpose of many
businesses the expenditure in question will have to be apportioned against each business
for the purpose of allowance.
 Business or Profession, Whether Legal or Illegal:
In other words, the taxability of the income from business does not in any way depend
upon or is affected by the taint of illegality in the income or the sources. Income derived
from illegal activities is as much chargeable to tax as income from other operations. The

45
Hutchinson Versus Tuner 31 TC 495

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fact that the person who carried on the illegal activities is punishable under the appropriate
law, does not exclude him from the liability to income-tax. However, the loss arising
directly in the course of an illegal business is deductible as business expenditure in
computing the profits from that business.46
 Ownership of the Business or Profession, how much relevant?
In order to be taxable in respect of the income of a business it is not essential that the
business must be carried on by the same person who is the owner thereof. Even if the owner
authorises some other person to carry on the business on his behalf or the owner is deprived
by the court under certain circumstances of the right to carry on his own business, the
owner will still be taxable under this head.
Similarly, it is not only the legal ownership but also the beneficial ownership that has to be
considered. In this connection it has to be kept in view, as to who is the actual recipient of
the income which is going to be taxed. For example, where a business is acquired for the
benefit of a company which is going to be incorporated and the promoters carry on the
business and earn profits during the period prior to the incorporation, if the company
accepts the action of the promoters and receives from them the past profits made prior to
its incorporation, the company shall be assessable under this section in respect of such
profits although before the incorporation of the company the promoters were the legal
owners of this business yet as the company was the beneficial owner (as it has actually
received the profits) of the business, it will be assessable on these profits.47
In Benami transaction, the tax is leviable on the person to whom the profits accrue or by
whom the profits are received. No tax can be levied on a benamidar in whose name the
business transactions are effected and who is not really entitled to the profits.48 [Please note
that this is old position, we need to update to the current position]
 Length of activities for Business or Profession, how much relevant?
The definition of business or profession given in the Act does not make it essential for any
taxpayer to carry on his activities constituting business or profession for a considerable
length of time. The existence of continuity in the business or profession is not an essential
condition for making the assessee liable to tax under this head. Thus, receipts arising from
the exercise of a business or profession would still be chargeable to tax under this head
although they may be both casual and non-recurring in nature.

46
C.I.T. v. S.C. Kothari (1971) 82 I.T.R. p. 794 (S.C.) and C.I.T. v. Piara Singh (1980) 124 I.T.R. p. 40 (S.C.)

47
CIT v. Bijli Cotton Mills Ltd. (1953) 23 ITR p. 278
48
C.I.T. v. Thaver Bros. (1934) 2 ITR p. 230

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 Income from exploiting a commercial asset is business income:

If a commercial asset is not capable of being used as such, then its being let out to other
does not result in an income which is the income of the business, but it cannot be said that
an asset which was acquired and used for the purpose of the business ceased to be a
commercial asset of that business as soon as it is temporarily put out of use or let to another
person for use in his business or trade. The yield of income by a commercial asset is the
profit of the business irrespective of the manner in which that asset is exploited by the
owner of the business. He is entitled to exploit it to his best advantage and he may do so
either by suing it himself personally or by letting it out to somebody else.49
 How the profit of Business or Profession is computed? [Section 145 which is also
applicable to computation of Income from other sources]:
An assessee, for the purpose of his business or profession, may follow the cash system of
accounting (i.e., accounting on receipt basis) or the mercantile system of accounting (i.e.,
accounting on accrual basis) [Section 145(1)]. Both these methods are well recognised for
income-tax purposes and the tax authorities are bound by the method adopted by the
assessee. The tax authorities are not also empowered to reject the method of accounting
regularly followed by the assessee for the purpose of his business except, however, in cases
where the method is not correct, complete or scientific. As per Section 145(2), the Central
Government may notify in the Official Gazette from time to time income computation and
disclosure standards to be followed by any class of or in respect of any class of income.
Further, Assessing Officer may make an assessment in the manner provided in section 144
of the Act, if the income has not been computed in accordance with the standards notified
under section 145(2) of the Act.
 ………………..

B. Compensation or other payments due to or received by any person: [Section 28(ii)]:

Section 28(ii) provides that certain compensation receipts are also chargeable under the head
PGBP. The compensation receipts mentioned therein are those for the loss of office or
cessation of the business. It may be noted that such receipts (viz., compensation for loss of
management of a company, an agency, etc.) are ordinarily receipts of a capital nature. But
now by a fiction of law they have become ‘income’ chargeable to tax.
C. Income derived by a trade, professional or similar association from specific services:
[Section 28(iii)]:
The expression ‘Trade Association’ here means is an association formed by businessman for
protection or advancement of their common interest, like Chamber of Commerce. It is distinct

49
CEPT versus Silk Mills Ltd, 20 ITR 451, SC

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from social associations e.g. a sports club or cricket club etc. It is also distinct from religious
or charitable trust. The term ‘specific service’ means conferring on the members some tangible
benefit which would not be available to them unless they paid specific fees charged for such
benefit. Income not arising from specific services is not taxable like entrance fees or member’s
periodic contribution.
According to the general principles of mutuality in that no one can make a profit out of
himself, mutual associations or bodies are exempt from income-tax in respect of the net results
of the transactions with their own members. These exemptions generally apply to associations
like Chambers of Commerce, Seller’s Associations, Buyer’s Associations, Stock Broker’s
Associations, etc. But according to Clause (iii) of Section 28 which constitutes an exception
to the principle of mutuality, any income derived by a trade or professional association by
rendering specific services to any of its members would constitute income from business
chargeable to tax under this head. Thus a Chamber of Commerce providing lodging facilities
to its members would be chargeable to income-tax under this head in respect of the charges,
if any, by way of fees or other payment collected from the members for rendering such specific
services. The services, the income from which is chargeable to tax, may be those which are
rendered in the normal course of the activities of the association or may be outside the scope
of such normal activities. If, however, the income is derived as a part of usual contributions
or subscriptions and not for the purpose of rendering any specific services to the members
concerned, the trade or professional association would not attract liability to tax under this
head.
D. Value of any benefits or perquisites [Section 28(iv)]:
The value of any benefit or perquisites whether convertible into money or not, arising from
the business or he exercise of a profession, is taxable as income from business or
profession. This rule is applicable, irrespective of whether the benefits or perquisites are
contractual or gratuitous. For example, sum received by a lawyer from various liquor
dealers who are not his clients, but are benefited by his professional services in a case
against prohibition, is chargeable to tax under section 28(iv), as the benefit arises in the
exercise of profession. Similarly, the partner of a firm who is allowed to use of residential
premises, car and telephone, the value of such perquisites is includible in the income of
assessee under this section. And the same, when a gift is given to a doctor by a patient in
addition to the doctor’s fees for curing the patient, the value of such gift.
E. Income from Speculative Transactions: [Explanation 2, Section 28]:
Explanation 2 to section 28 provides that if an assessee carries on a speculative transaction
of such a nature as to constitute a business, such business should be deemed distinct and
separate from any other business. And the profit and gains of such business are also
assessed. But what is speculative transaction? As per section 43(5) it means a transaction

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in which a contract for the purchase or sale of any commodity, including stocks and shares,
is periodically or ultimately settled, otherwise than by the actual delivery or transfer of the
commodity or scrips. Thus, the key elements of speculative transactions are:
(i) The contract is for the purchase of sale of stocks, share or commodity;
(ii) That the contract for the purchase or sale of any stock, share or commodity is
periodically or ultimately settled; and
(iii)The settlement would be otherwise than by actual delivery or transfer of commodity or
scrips.
To this rule there are some exceptions: -
1. A transaction which involve hedging contracts, entered into by merchants in course of
business, to guard against future business losses through price fluctuations,
2. Any eligible transaction in respect of trading in derivative if:
a. Transaction is carried out in a recognized stock exchange
b. Transaction is in respect of trading in derivatives which include—a security derived
from a debt instrument, share, loan, whether secured or unsecured, risk instrument
or contract for differences or any other form of security, or which include a contract
which derives its value from the prices, or index of prices, of underlying securities.
c. The eligible transaction is carried out electronically on screen based systems
through a stock broker/sub-broker/other registered intermediary in accordance with
the authorizing law50.
3. Transaction in respect of trading in commodity derivatives carried out in a recognized
association and which is chargeable to commodities transact tax.
Thus, where a company (other than banking or financial company) deals in shares of other
companies, the income from such business is treated as income from speculative business.

2. COMPUTATION OF PROFIT FROM BUSINESS OR PROFESSION

Synopsis:
2.A. Introduction
2.B. Method of Accounting
2.C. Scheme of Deductions and allowance
2.D. Basic principles governing admissibility of deduction under section 30 to 44DB
2.E. Deduction expressly allowed in respect of expenses/allowance
2.F. Expenses which are not deductible
2.G. Deemed Profit

2.A. INTRODUCTION:

50
Authorising law means Securities contracts (Regulation) Act, 1956, SEBI Act, 1992 or Depositories Act, 1996, etc.

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The income from business to which a person is chargeable under this head represents not the gross
receipts from the business but the profits and gains derived from there. For instance, in the case of
a businessman, the gross sale proceeds would not be the basis for levying tax but it is net profit or
the profit or gain as determined in accordance with sections 28 to 44DB.

2.B. Method of Accounting:

The profits and gains of a business are to be computed in accordance with the method of accounting
regularly and consistently followed by the assessee or the method of accounting followed is such
that income, profits or gains cannot properly be ascertained therefrom, the income-tax authorities
are entitled to compute the income of the assessee on such basis and in such manner as they deem
fit.
An assessee, for the purpose of his business, may follow the cash system of accounting or the
mercantile system of accounting. Both these methods are well recognised for income-tax purposes
and the tax authorities are bound by the method adopted by the assessee. The tax authorities are
not also empowered to reject the method of accounting regularly followed by the assessee for the
purpose of his business except, however, in cases where the method is not correct, complete or
scientific.

2.C. Scheme of Deduction and Allowance:

Section 28 defines various incomes which are chargeable to tax under the head PGBP. Section 29
permits deductions and allowance laid down by section 30 to 37. Section 40, 40A and 43B give a
list of expenses which are not deductible.

2.D. Basic Principle governing admissibility of deduction under sections 30 to 44DB:

(1) Profits should be computed according to the method of accounting regularly employed by
the assessee, provided that actual profit can be ascertained by this method, whether on receipt
basis or accrual basis.
(2) Only those expenses and losses are allowed as deductions which were incurred or sustained
during the relevant previous year and related to business.
(3) These losses and expenses should be incidental to the operation of the business. For example,
embezzlement by an employee during the course of business is a loss incidental to the
business. Similarly, loss from dacoity in a bank is also a loss incidental to the business of a
bank.
(4) If a business has been discontinued before the commencement of the previous year, its
expenses cannot be allowed as deduction against the income of any other running business
of the assessee.
(5) There are some essential expenses, though neither expressly allowed nor disallowed, but are
deductible while computing the profits of business or profession on the basis of general

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commercial principles provided that these are not expenses or losses of a capital nature or
personal nature.
(6) Any expenditure incurred in consideration of commercial expediency is allowed as
deduction.
(7) Deduction can be made from the income of that business only for which the expenses were
incurred. The expenses of one business cannot be charged against the income of any other
business.
(8) No allowance in respect of non-assessable business
(9) No allowance in respect of a business set-up after the date of expenditure
(10) No deduction in respect of depreciation of investment
2.E. Deduction expressly allowed in respect of expenses/allowance
Section 30 to 37 contain the deductions which are expressly allowed. They are as follows:
1. Rent/Rates/Tae/repairs/insurance for buildings (Section 30)
If assessee has occupied the premises as a tenant, rent of the premises and if he has agreed
to bear cost of repairs, such cost is allowed as deduction, provided it is not of capital nature.
If assessee has occupied premises as the owner; repairs, land revenue, local taxes, insurance
premium etc. are allowed as deduction. However, no expenditure in form of capital
expenditure is allowed.
The expression ‘current repairs’ means expenditure on buildings, machinery, plant or
furniture which is not for the purpose of renewal or restoration but which is only for the
purpose of preserving or maintaining an already existing asset and which does not bring a
new asset into existence or does not give to the assessee a new or different advantage.
2. Repairs and insurance of machinery, plant and furniture: (Section 31)
Expenditure of revenue nature on plant, machinery and fixtures for current repairs and
insurance premium against any risk of damage or destruction in respect of machinery, plant
or furniture are allowed as deduction. Expenditure on plant, machinery and fixtures are
allowed only if these assets are used for the purpose of assessee’s own business and
profession. So far as rent and tax are concerned it can be allowed by application of section
37.

3. Depreciation (section 32)

Depreciation usually means loss or decline in value which occurs gradually over useful life
of a material thing, due to physical wear, tear and decay, and is generally limited to losses
or decline in value which cannot be restored by current repairs and maintenance. Under
Section 32 depreciation on assets is allowed as deduction while computing income from
business or profession. To claim this deduction following conditions should be satisfied: 1)

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Assessee should be owner of the asset. 2) Asset must be used for the business. 3) Such use
must be in the previous year.

Depreciation is allowed not on individual asset items, but on block of assets. Block of assets,
as per section 2(11), means groups of assets which falls under the same categories of assets
and on which same rate of depreciation is applicable. Categories of assets are five as follows:

1) Buildings; 2) Plant & Machinery; 3) Furniture; 4) Ships; and 5) Intangible Assets acquired
after March 31, 1998 such as know‐how, Patents, Trademarks, licenses, franchises or any
other business or commercial rights of similar nature.

The term plant includes ships, vehicles, books, scientific apparatus and surgical equipment
used for the business but excludes tea bushes or live stock.

If any asset falling in block of assets is acquired during the year and put to use during the
previous year for less than 180 days depreciation on such asset shall be restricted to 50% of
the normal depreciation.

4. Additional Depreciation:
Where any new machinery or plant, has been acquired and installed after the 31st March,
2002 by an assessee engaged in the business of manufacture or production of any article or
thing, a further sum to the extent of 20% of the actual cost of such machinery or plant shall
be allowed as deduction by way of depreciation. But no additional depreciation will be
allowed if: a) any old/used machinery or plant that was used either within or outside India
by any other person; or b) any machinery or plant installed in any office premises or any
residential accommodation, including accommodation in the nature of a guest house; or c)
any office appliances or road transport vehicles; or d) where 100% depreciation (whether by
way of depreciation or otherwise) is allowed in any one previous year. The expression
“Actual cost” means the actual cost of the assets to the assessee, reduced by that portion of
the cost thereof, if any, as has been met directly or indirectly by any other person or authority.

5. Expenditure on Scientific research (section 35)

The term ‘Scientific research” means “any activities for the extension of knowledge in the
field of natural or applied sciences including agriculture, animal husbandry or fisheries.”
Deductions are allowed in the following way:
 Revenue expenditure incurred for scientific research related to assessee’s business will
be fully allowed. This may be the payment of any salary to the persons engaged in
scientific research or purchase of materials for use in such scientific research.

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 Capital expenditure incurred on scientific research related to assessee’s business, will

be allowed in full, however purchase of land is not allowed. No depreciation is allowed
u/s 32 in respect of such asset during the previous year and subsequent year.
 Contribution made to approved scientific research association or college or university
or other approved institutions for scientific research and to approved university, college
or institution for the use of scientific research is allowed. Above may or may not be
related to assessee’s business & a weighted deduction of 1.75 times of amounts paid is
allowed as a deduction.
6. Deduction in respect of expenditure on Specified Business: (Section 35AD)
The expenditure incurred, wholly and exclusively, for the purposes of any specified business,
shall be allowed as deduction during the previous year in which the assessee commence of
his specified business.
The term “ specified business” means:- setting up and operating a cold chain facility; setting
up and operating a warehousing facility for storage of agricultural produce; lying and
operating a cross-country natural gas or crude or petroleum oil pipeline network for
distribution, etc.; building and operating, anywhere in India, new hotel of 2 star or above
category as classified by central government; building and operating anywhere in India, a
new Hospital with at least 100 beds for patients; developing and building housing project
under a scheme for slum re-development or re-habitation framed by central government or
state government as the case may be.
Conditions need to be fulfilled to avail deduction are: - a) The business is not set up by
splitting up, or the reconstruction, of a business already in existence; b) The business is not
set up by the transfer to the specified business of machinery or plant previously used for any
purpose; c) Such Business is owned by a company formed and registered in India; d) It has
been approved by the Petroleum and natural Gas Regulatory Board.
7. Amortization of Certain preliminary expenses (section 35D)
Where an assessee, being an indian company or a person (other than a company) who is
resident in India, incurs any specified expenditure, before the commencement of his
business, or after the commencement of his business, in connection with the extension of his
industrial undertaking or in connection with his setting up a new industrial units, the assessee
shall be allowed a deduction of an amount equal to 20% of such expenditure for each of the
five successive years from the business commencement. Expenditure covered are:
preparation of feasibility report; preparation of project report; conducting market survey;
engineering services relating to the business; legal charges for drafting any agreement,
MOU, etc.
8. Amortisation of Expenditure in the case of Amalgamation/Demerger (Section 35DD)

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If an Indian Company incurs any expenditure for the purpose of ambulation or demerger, it
is allowed as deduction in five successive years in five equal installments. No deduction
shall be allowed in respect of the above expenditure under any other provisions of the Act.
9. Amortisation of Expenditure in the case of Voluntary Retirement Scheme (Section
35DDA):
The whole expenditure incurred by the assessee in making payment to the employee in
connection with his voluntary retirement either in the year of retirement or in any subsequent
year, each part payment being entitled to deduction in five equal annual installments
beginning from the year in which such part payment is made to the employee, provided
benefit of this is available where the company or the undertaking is Indian company
amalgamated with another Indian company.
10. Other Deduction (section 36):
Besides, there are other allowed deductions. Among them are:
a. The mount of any premium paid in respect of insurance against risk of damage or
destruction of stocks or stores, used for the purpose of business or profession;
b. Insurance premium paid by a federal mil co-operative society on the lives of cattle,
owned by the members of a such society;
c. Any premium paid by any mode other than cash by the assessee as an employer to effect
or to keep in force an insurance on the health of his employees
d. Bonus and commission paid to an employee
e. Interest paid on capital borrowed for the purposes of business or profession;
f. Any discount given by the assessee as an employer by way of pro rata amount of
discount on a Zero coupon bond51;
g. Employer’s contribution to recognized provident fund and approved super annuation
fund;
h. Employer’s contribution to notified pension scheme;
i. Contribution towards approved gratuity fund;
j. Employee’s contribution towards staff welfare schemes;
k. The amount of any debt or part thereof which is written off as irrecoverable in the
accounts of the assessee for the previous year
l. Special reserve created by financial corporation engaged in providing long term finance
for industrial or agricultural development in India or development of infrastructure in
India or by a public company formed and registered in India with the main object of
carrying on the business of providing long term finance for construction or purchase of
houses in India for residential purposes;

51
It is a bond issued by any infrastructure capital company or infrastructure capital fund or public sector company
or scheduled bank in respect of which no payment/befit is received/receivables before maturity/redemption and is
specified by the Central government by notification.

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m. Any bona fide expenditure incurred by a company for the purpose of promoting family
planning among its employees;
n. Any expenditure which is not being in the nature of capital expenditure incurred by a
corporation or a body corporate, by whatever name called, constituted or established by
a Central, State or Provincial Act.
11. General (Residuary) Deduction: Section 37:
Section 37(1) of the Income-tax Act is the residuary head of allowance under business and
profession. It provides for allowance in respect of any other item of expenditure not covered
by any of the provisions contained in Sections 30 to 36 discussed above. This deduction is
subject to the following conditions: (i) The expenditure must have been laid out or expended
by the assessee wholly and exclusively for the purposes of his business or profession. (ii)
The expenditure should not be in the nature of a capital expenditure. (iii) The expenditure
should not represent any item of personal expenditure of the assessee. (iv) The deduction
claimed should not cover any of the items of the expenditure which is an offence or which
is prohibited by law, or it should not cover any item of the expenses which are specifically
disallowed under the Act.
Examples of such expenses allowable under this section are: 1. Embezzlement of cash. 2.
Expenses on local festival such as Diwali, Muhurta etc. 3. Cash shortage found in the
business at the end of the day. 4. Entertainment Expenses 5. Advertisement Expenses 6.
Travelling Expenses 7. Guest House Expenses. 8. Lawful expenses related to illegal
business. 9. Premium on redemption of debentures 10. Discount on issue of debentures (on
pro rata basis). 10. Loss by robbery or theft, etc.
Expenses Not Deductible Under Section 37 are: Donations 2. Charities 3. Gifts to relatives
4. Income tax 5. Wealth tax 6. Advance income tax 7. Fines and penalties for breach of any
laws. 8. Personal Drawings 9. Salary to owner 10. Interest on proprietor’s capital 11.
Capital expenditure. Purchase of an assets 13. Extension of building 14. Personal
expenditure 15. Household expenses. 16. Drawings 17. Education expenses of children 18.
Residential telephone bill 19. Residential electricity bill 20. Residential maintenance 21.
Amount transferred to reserve 22. Personal Hotel expenses 23. R.D.D. But deduction is
allowed for actual bad debts 24. Personal motor expenses 25. L.I.C. on own life. 26. Any
Investments 27. Any expenses related to let out house property. 28. Expenditure on
Advertisement (Section 37(2B): It is allowed as deduction. However, as per Section 37 (2B),
any expenditure incurred by an assessee on the advertisement in any souvenir, brochure,
pamphlet etc. published by a political party will not be allowed as deduction. 29.
Expenditure on Corporate Social Responsibility. (w.e.f. A.Y. 2016‐17)

2 F. Expenses Not Deductible: (Section 40)

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a. Any interest, royalty, fees for technical services or other sum chargeable under this Act,
payable: (i) outside India; or (ii) in India to a non-resident, not being a company or to a foreign
company.
b. Interest, commission, brokerage, rent, royalty, fees for professional services or fees for
technical services payable to a resident, or amounts payable to a resident
contractor/subcontractor for any work on which tax is deductible at source.
c. Rate or Tax Paid on Profits
d. Wealth Tax
e. Amount paid by way royalty, license fee, service fee, privilege fee, service charge by state
government undertaking to state government
f. Any payment which is chargeable under the head “salaries” if it is payable – (A) outside India;
or (B) to a non-resident
g. Payment to partners
h. Payment by AOPs/BOIs
i. Expenditure incurred in Cash-in excess of Rs 20,000/-[(section 40A(3)]

2G. DEEMED PROFIT:

The following receipts are chargeable to tax as business income:

(i) Recovery against any deduction;

(ii) Income from undisclosed sources
(iii) Unexplained Income
(iv) Unexplained money
(v) Amount of investments, etc., not fully disclosed in the books of account
(vi) Unexplained expenditure, etc.
(vii) Amount borrowed or repaid on hundi

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CHAPTER 7
COMPUTATION OF TOTAL INCOME UNDER
VARIOUS HEADS:
PART III – INCOME UNDER HEAD CAPITAL GAINS

SYNOPSIS:
(i) Introduction
(ii) Chargeability to Capital Gain
(iii) Capital Assets
(iv) Types of Capital Assets
(v) Transfer of Capital Assets
(vi) Transfer Not liable to Capital Tax
(vii) Computation of Capital Gain and Deduction
(viii) Exemption to tax on capital gain

I. INTRODUCTION:
Generally, it is the revenue receipt and not the capital receipt which is chargeable to income
tax. However, it may be noted that the ordinary accounting canons
of distinctions between a capital receipt and a revenue receipt are not always followed
under the Income-tax Act. Section 2(24) (vi) of the Income-tax Act specifically provides
that “Income” includes “any capital gains chargeable under Section 45(1)”. It may not be
out of place to mention here that in the absence of a specific provision in Section 2(24)
capital gains have no logic to be taxed as income. The constitutional validity of the
provisions of the Act relating to capital gains was challenged in Navin Chandra Mafatlal
v. C.I.T. (1955) 27 ITR 245. The Supreme Court while upholding the competence of
parliament in legislating with regard to capital gains as part of income, observed that the
term income should be given the widest connotation so as to include capital gains within
its scope. However, all capital profits do not necessarily constitute capital gains. For
instance, profits on re-issue of forfeited shares, profits on redemption of debentures,
premium on issue of shares, ‘pagri’ from tenants etc. are capital profits and not capital
gains, hence, not liable to tax.
II. CHARGEABILITY TO CAPITAL GAIN:
Section 45 of the Act, provides that any profits or gains arising from the transfer of a capital
asset effected in the previous year shall, save as otherwise provided in Sections 54, 54B,
54D, 54EC, 54EF, 54F, 54G, 54GA and 54GB be chargeable to income-tax under the head
“Capital Gains” and shall be deemed to be the income of the previous year in which the

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transfer took place. In other words, capital gains tax liability arises only when the following
conditions are satisfied:
a. there should be a capital asset
b. the capital asset is transferred by the assessee
c. such transfer takes place during the previous year
d. any profit or gain arises are as a result of transfer
e. such profit or gains is not exempt from tax under section 54, 54B, 54D, 54EC, 54EF,
54F, 54G, 54GA and 54GB.
III. CAPITAL ASSET:
Unless the gain is relatable to a capital asset there can be no charge to capital gains tax.
Section 2(14) of the Income-tax Act defines the term “capital asset” to mean:
Property of any kind held by an assessee whether or not connected with his business or
profession. It includes any rights in relations to an Indian company, including rights of
management or control of any other rights whatsoever. But it does not include:
(i) any stock-in-trade, consumable stores or raw-materials held for the purposes of
his business or profession;
(ii) personal effects that is to say, movable property (including wearing apparel and
furniture but excluding jewellery) held for personal use by the assessee or any
member of his family dependent on him. Jewellery includes ornaments made of
gold, silver, platinum or any other precious metal or any alloy containing one or
more of such precious metals, whether or not containing any precious or semi-
precious stone, and whether or not worked or sewn into any wearing apparel and
precious or semi-precious stones, whether or not set in any furniture, utensil or other
article or worked or sewn into any wearing apparel;
(iii) agricultural land in India, not being land situate (a) within the jurisdiction of a
municipality or a cantonment board and which has a population of not less than
10,000, or (b) in any area within the distance, measured aerially, –
i) not being more than two kilometres, from the local limits of any municipality
or cantonment board referred to in item (a) and which has a population of
more than ten thousand but not exceeding one lakh; or
ii) not being more than six kilometres, from the local limits of any municipality
or cantonment board referred to in item (a) and which has a population of
more than one lakh but not exceeding ten lakh; or
iii) not being more than eight kilometres, from the local limits of any municipality
or cantonment board referred to in item (a) and which has a population of
more than ten lakh.
(iv) Gold Bonds/Deposit certificates
(v) Special Bearer Bond 1991 issued by the Central Government

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(vi) Gold Deposit bonds issued under the Gold Deposit Scheme, 1999 notified by the
Central Government.
IV. TYPES OF CAPITAL ASSETS:
The nature of incidence of income tax on capital gain depends upon types of capital assets.
There are two types of capital assets—Long term capital asset and short term capital assets.
Section 2(29A) defines “Long Term Capital Asset” as a capital asset which is not short-
term capital asset. The expression “Short Term Capital Asset” has been defined in section
2(42A) to mean “a capital asset held by an assessee for not more than 36 months preceding
the date of transfer”. The holding period, which is generally 36 months for being an asset
as short term capital assets, has been statutorily reduced to 12 months with regards to
holding of shares, units, securities, or a zero coupon bond. This means that if such assets
is held for more than 12 months it become long term asset.
The purpose of dividing assets in short term and long term is that long term capital gain is
generally taxed at a lower rate in comparison to short term capital gain.
Determining the Period of Holding
The point of time at which the asset in question become the property of the assessee for the
first time is the point of time from which the period of holding has to be counted. Thus, if
a house was acquired on Jan 1, 2017 and it is transferred by the purchaser on March 30,
2020, the said house obviously did not constitute a “shorter term capital asset as it was held
by the purchaser for over 36 months. In case of a company share, however, it remains a
short term capital asset in the hands of the owner only for a period of 12 months since date
of purchase. It becomes a long term capital asset after the said period of 12 months is over.
A ‘bonus share’ or right share’ (financial asset) is to be considered as held from the date of
allotment.
Sometimes, the period of holding reckons an earlier period also (viz., the period of holding
by the last previous owner of the asset). For example, if an individual owned a house
property at the time of his death and he had been the owner thereof by purchase for 5 years,
in the hands of his son on whom the house property may devolve on the individual’s death
by testamentary or intestate succession, the said property becomes a long term capital asset.
Even if the son holds the property for one month only before he transfers it, it becomes a
long term capital asset for the purpose of capital gains. The second case is where a
shareholder in a scheme of amalgamation of a company with an Indian company (the
amalgamated company) receives shares therein in exchange for his earlier holding in the
amalgamating company.
V. TRANSFER OF ASSETS:

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The essential requirement for the incidence of tax on capital gains is the transfer of a
‘capital asset’. Transfer in relation to a capital asset has been defined in section 2(47) in an
inclusive manner. The expression includes—
(i) The sale, exchange or relinquishment of asset; or
(ii) The extinguishment of any right therein; or
(iii) The compulsory acquisition thereof under any law; or
(iv) In a case where the asset is converted by the owner thereof into, or is treated by
him, as stock-in-trade of a business carried on by him, such conversation or
treatment; or
(v) The maturity of redemption of a zero coupon bond; or
(vi) Any transaction involving the allowing of the possession of any immovable
property to be taken or retained in part performance of contract under section 53 A
of the T. P. Act, or
(vii) Any transaction (by way of becoming a member of, or acquiring shares in, a co-
operative society, company or other association of persons) which has the effect of
transferring, or enabling the enjoyment of any immovable property.

Thus, any transaction whereby the ownership of an assessee in a capital asset ceases, is
regarded as a ‘transfer’. Explanation 2 to section 2(47) has been inserted which defines
transfer as follows: ‘Transfer’ includes and shall be deemed to have always included
disposing of or parting with an asset or any interest therein, or creating any interest in any
asset in any manner whatsoever, directly or indirectly, absolutely or conditionally,
voluntarily or involuntarily by way of an agreement (whether entered into in India or
outside India) or otherwise, notwithstanding that such transfer of rights has been
characterized as being effected or dependent upon or flowing from the transfer of a share
or shares of a company registered or incorporated outside India.

Further, the transfer may be permanent or temporary, viz., lease of mine/land is a transfer
of right for a certain period only. It may be noted that salami and nazrana receives in
connection with a transfer of property will be regarded as ‘capital gain’. In
relinquishment, a right (which is a capital asset) is surrendered, thus there is a transfer.
Cancellation of licence is extinguishment and thus a transfer. Sales conducted by an
auctioneer, commissioner or receiver will also amount to transfer. Similar is a position
when reduction takes places in the share capital of a company as by reduction the face
value of company’s share results in ‘extinguishment’ of the right in the shares held by a
shareholder.

VI. TRANSFER NOT LIABLE TO CAPITAL GAIN TAX: (Section 47)

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Section 47 deals with transfers to which the provisions of section 45 have been made
inapplicable, i.e., no capital gains are to be charged in respect of such transfer. These items
are as follows:
i. Any distribution of capital assets on the total/partial partition of HUF;
ii. Any transfer of a capital asset under a gift or will or an irrecoverable trust, provided
that it is not a transfer under a gift or an irrevocable trust of a capital asset being
shares, debentures or warrants allotted by a company directly or indirectly to its
employees under any Employees’ Stock option plan/Scheme of the company offered
to such employees;
iii. Any transfer of a capital asset by a company to its wholly owned subsidiary Indian
company;
iv. Any transfer of a capital asset by a wholly owned subsidiary company to its parent
Indian company;
v. Any transfer in a scheme of amalgamation of a banking company with a banking
institution, of a capital asset by the banking company to the banking institution;
vi. Any transfer of a capital asset, being bonds or Global Depository Receipts, made
outside India by a non-resident to another non-resident;
vii. Any transfer of a capital asset 9work of art, archaeological, scientific art, collection,
book, manuscript drawing, painting, photograph or print) to Government or a
University or the National Museum, national art gallery, National archives or any
such other public museum or institution;
viii. Any transfer of a capital asset, being land of a sick industrial company, where such
sick industrial company is being managed by its worker’s co-operative;
ix. Where a sole proprietary concern is succeeded by a company to the business carried
on by it as a result of which the sole proprietary concern sells or transfers any capital
asset or intangible asset to the company;
x. Any transfer in a scheme for lending of any securities under the agreement or
arrangement which the assessee has entered into with the borrower of such securities.

VII. COMPUTATION OF CAPITAL GAIN AND DEDUCTION: (SECTION 48):

Computation of Short term capital gain:
It is excess of full value of consideration over expenses of transfer, cost of acquisition, and
cost of improvement.
Computation of Long term capital gain:
It is excess of full value of consideration over expenses of transfer, indexed cost of
acquisition, and indexed cost of improvement.

However, no deduction will be allowed in respect of payment of securities transaction tax

in computing income under the head “capital gain”.

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Meaning of Full Value of Consideration:

Full value of consideration means & includes the whole/complete sale price or exchange
value or compensation including enhanced compensation received in respect of capital
asset in transfer. The following are important to note in relation to full value of
consideration.

 The consideration may be in cash or kind

 The consideration received in kind is value at its fair market value
 It may be received or receivable
 The consideration may be actual irrespective of its adequacy.
Cost of Acquisition:
Cost of Acquisition means any capital expenses at the time of acquiring capital asset under
transfer, i.e., to include the purchase price, expenses incurred up to acquiring date in the
form of registration, storage, etc. expense incurred on completing transfer.
Indexation is a process by which the cost of acquisition is adjusted against inflationary
rise in the value of asset. For this purpose, Central Government has notified cost inflation
index. The benefit of indexation is available only to long-term capital assets. For
computation of indexed cost of acquisition following factors are to be considered:
Year of acquisition/improvement
Year of transfer
Cost inflation index of the year of acquisition/improvement
Cost inflation index of the year of transfer
Indexed cost of acquisition is computed with the help of following formula:
Cost of acquisition × Cost inflation index of the year of transfer of capital asset
----------------------------------------------------------------------
Cost inflation index of the year of acquisition

Indexed cost of improvement is computed with the help of following formula:

Cost of improvement × Cost inflation index of the year of transfer of capital asset
------------------------------------------------------------------------
Cost inflation index of the year of improvement

The Central Government has notified the following Cost Inflation Indexes:

S. No. Financial year Cost Inflation Index

1 2010-11 167
2 2011-12 184
3 2012-13 200
4 2013-14 220

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5 2014-15 240
6 2015-16 254
7 2019-17 264
8 2017-18 272
9 2018-19 280
10 2019-20 289

Illustration: Mr. Raja purchased a piece of land in May, 20014 for Rs. 84,000 and sold
the same in April, 2019 for Rs. 10,10,000 (brokerage Rs. 10,000). What will be the
taxable capital gain in the hands of Mr. Raja?

Computation of capital gain will be as follows:

Particular Rs.
Full Value of Consideration (i.e., Sales consideration of 10,10,000
asset)
Less: Expenditure incurred wholly and exclusively in 10,000
connection with transfer of capital asset (brokerage)
Net sale consideration 10,00,000
Less: Indexed cost of acquisition 84,000 × (289 ÷ 240)
=101150
Indexed cost of improvement, if any Nil
Long Term Capital Gain 898850

VIII. EXEMPTION FROM CAPITAL GAIN:

The Act grants total/partial exemption from capital gains tax in terms of section 54, 54B,
54D, 54EC, 54EE, 54F, 54GA, 54GB, 54H. However, the aggregate amount of exemption
cannot exceed the quantum of capital gain amount of capital gain.
(i) Capital gains arising from transfer of residential house (section 54):
 Available to Individual/HUF
 Exemption will be least of 1) capital gains or 2) cost of new house
 Conditions: 1) House property was transferred for residential purpose; 2) House
property was a long term capital asset; 3) the construction of new house
property should be completed within three years from the date of transfer of
residential house property, or it should be purchased within one year before, or
within 2 years after, the date of transfer of the residential house property; 4)
house property should be situated in India
(ii) Capital gains arising from the transfer of land used for agricultural purpose
(Section 54B)
 Available to Individual/HUF
 Exemption is equal to the amount of capital gain generated on transfer of
agricultural land; or the amount invested in purchasing new agricultural land,
whichever is lower.

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 Conditions: 1) Either long term or Short term capital asset; 2) the agricultural
land was used for agricultural purpose for a period of two years immediately
preceding the date of transfer; 3) the taxpayer has purchased another land for
agricultural purposes within a period of two years from the date of such transfer.
(iii) Capital gains on compulsory acquisition of land and buildings forming part of
Industrial Undertaking (Section 54D)
(iv) Capital Gain not be charged on investment in certain bonds (Section 54EC)
 Available to individual, firm, company or any other person
 The asset transferred should be a long term capital asset
 The assesse should invest the whole or any part of the capital gain in long term
specified assets within 6 months from the date of transfer of the assets. The long
term specified assets means any bond redeemable after 3 years issued—a) by
the National Highways Authority of India; or b) by the Rural Electrification
Corporation Ltd.; or c) by any other authority but bonds are notified by the
Central Government for this purpose
 The exemption will be the amount of capital gains generated on transfer of
capital asset; or the amount invested in specified asset as sate above, whichever
is lower.
(v) Capital gain not to be charged on investment in Units of a specified fund (Section
54EE)
(vi) Capital Gains on transfer of a long term capital asset other than a house property
(Section 54F)
(vii) Capital gains on transfer of assets in cases of shifting of Industrial undertaking
from urban area (Section 54G)
(viii) Exemption of capital gains on transfer of assets in cases of shifting of industrial
undertaking from urban area to any Specific Economic Zone (Section 54GA
(ix) Capital gain on transfer of residential property (Section 54GB)
(x) Extension of time limit for acquiring new asset (Section 54 H)

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CHAPTER 8
SET OFF AND CARRY FORWARD OF LOSSES
Learning Objectives: To briefly understand what is set off and carry forward of losses.

I. SET OFF OF LOSSES:

Income tax is a composite tax on the total income of a person earned during a period of one
previous year. There might be cases wherein an assesse has different sources of income under the
same head of income. Similarly, he may have income under different heads of income. It might
also happen that the net result from a particular source/head may be a loss. This loss can be set off
against other sources/head in a particular manner. For example, where a person carries on two
businesses and one business gives him a loss and the other a profit, then the income under the head
‘Profit and gains of business or profess’ will be the net income, i.e., after an adjustment of the loss.
Similarly, if there is a loss under one head of income, it should normally be adjusted against income
from another head of income while computing the ‘Gross Total Income’.

If the net result for any assessment year in respect of any source falling under any head of income
is a loss, the assessee is entitled to set off the amount of such loss against his income from any
other source under the same head. For this purpose, the Income-tax Act contains specific
provisions (Sections 70 to 80) for the set-off and carry-forward of losses.

However, the following are the exceptions to general rule:

(ii) Loss from Speculation Business: Income from speculation business is computed under
the head income from business or profession. But if there is any loss from speculation
business, it cannot be set off against the income from other business or profession. It can
be set-off only against the profit in a speculation business. However, the loss of non-
speculation business can be set-off against the income from speculation business.
(iii) Loss from the activity of owning and maintaining race horses: Loss incurred in the
business of owning and maintaining race horses cannot be set off against any income
except income from such business. However, loss from any activity other than the
business of owning and maintaining race horses can be set off against income from the
business of owning and maintaining race horses.
(iv) Short term capital loss can be set off from any capital gain (long-term or short-term). But
long-term capital loss can be set off only against long-term capital gain.

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II. CARRY-FORWARD AND SET-OFF OF LOSSES

If it is not possible to set-off the losses during the same assessment year in which these occurred,
so much of the loss as has not been so set-off out of the following losses, can be carried forward
to the following assessment year and so on to be set-off against the income of those years provided
the losses have been determined in pursuance of a return filed by the asessee and it is the same
assessee who sustained the loss.

(i) Loss in non-speculation business or profession.

(ii) Loss in speculation business.
(iii) Loss in transfer of capital assets [whether short-term or long-term].
(iv) Loss from activity of owning and maintaining of race horses.
(v) Loss under the head ‘Income from House Property’ so far as it relates to interest on
borrowed capital referred to in Section 24(1)(vi). It is applicable up to assessment year
1996-97 only.

However, losses suffered under the following heads are not allowed to be carried forward and set
off in the subsequent year:

a. House property;
b. Business loss
c. Speculation loss
d. Capital loss
e. Loss on account of owning and maintaining race horses

Summary of provisions regarding carry forward and set off of Losses (Section 70,71)

Loss Set-Off
Loss from house property In the following eight years, income from
house property
Loss from business or profession  In the following eight years, income
from business or profession
 Any other head of income except under
the head salary
Loss from Speculation Income from speculation
Short-term capital loss  Short term capital gain
 Long term capital gain
Long term capital loss Long term capital gain
Loss from activity of owning and maintaining Income from activity owing and maintaining
race horse race horse

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Carry Forward and Set off (Section 72)

Loss Set off

Loss from house property In the following eight years, income from
house property
Loss from business and profession In the following eight years, income from
business or profession
Loss from speculation In the following four years, income from
speculation
Short term Capital loss In the following eight years:
Short term capital gain
Long term capital gain
Long term capital loss In the following eight years, Long term capital
gain
Loss from activity of owning and maintain In the following four years, income from
race horse activity of owning and maintaining race horse

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CHAPTER 9

DEDUCTION FROM GROSS TOTAL INCOME

AND TAX LIABILITY
I. INTRODUCTION

The scheme of the Income-tax Act is to provide for various tax exemptions and concessions in
three forms, namely –

(i) Incomes which are wholly exempt from tax by virtue of their exclusion from the scope of
total income under Sections 10 to 13A;
(ii) Incomes which are includible in the total income for rate purposes but are entitled for rebate
under Section 86; and
(iii) Deductions from gross total income which are allowed for the purposes of computing total
income in respect of payments, investment and in respect of certain income.

At the outset, it must be noted that the deductions from gross total income are available only to the
assessees where the gross total income is a positive figure. If, however, the gross total income is
nil or is a loss, the question of any deduction from the gross total income does not arise. For this
purpose, the expression ‘gross total income’ means the total income of the assessee computed in
accordance with the provisions of the Income Tax Act before making any deduction under Chapter
VIA. The aggregate of income computed under each head, after giving effect to the provisions for
clubbing of income and set off of losses, is known as “Gross Total Income”. Sections 80A to 80U
of the Income-tax Act lay down the provisions relating to the deductions allowable to assessees
from their gross total income. However, the aggregate amount of the deductions shall not exceed
the gross total income of the assessee.

II. IMPORTANT DEDUCTIONS:

Some of the important deduction available under section 80 are as follows:

1) Deduction under section 80C:

Section 80C provides for a deduction from gross total income, of savings in specified modes of
investment. The deduction under this 80C is available only to an individual or HUF. The maximum
permissible deduction under 80C is Rs. 1.5 lakh rupees. The following are the
investments/contribution eligible for deduction:
a. Premium paid in life insurance;

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b. Payment in respect of non-commutable deferred annuity

c. Contribution to SPF/PPF/RPF
d. Contribution to approved superannuation fund
e. Any sum paid or deposited in Sukanya Samridhi Account
f. Subscription to National Saving Certificates
g. Contribution in Unit Linked Insurance Plan
h. Contribution in Unit Linked Insurance Plan of LIC Mutual Fund
i. Contribution to approved annuity plan of LIC
j. Subscription towards notified units of mutual fund or UTI
k. Contribution to notified pension fund set by mutual fund or UTI
l. Contribution to National Housing Bank (Tax Saving) term deposit scheme, 2008
m. Any sum paid as subscription to any scheme of (i) public sector company engaged in
providing long term finance for purchase/construction of residential houses in India; (ii)
housing board constituted in India for the purpose of planning, development or improvement
of cities/towns.
n. Any sum paid as tuition fees (not including any payment towards development
fees/donation/payment of similar nature) whether at the time of admission or otherwise to
any university/colleges/educational institution in India for full time education of any two
children of the individual
o. Repayment of housing loan including stamp duty, registration fee and other expenses
p. Subscription of certain equity shares or debentures in a public company engaged in
infrastructure including power sector
q. Subscription of certain units of mutual fund
r. Investment in five-year term deposit
s. Subscription to notified bonds, issued by NABARD
t. Investment in five-year post office time deposit
u. Deposits in senior citizens’ savings scheme.

2) Deduction in respect of Contribution to Certain Pension Funds (Section 80CCC)

Where an assessee, being an individual, has in the previous year paid or deposited any amount
out of his income chargeable to tax to effect or keep in force a contract for any annuity plan
of LIC of India or any other insurer for receiving pension from the fund set up by LIC or such
other insurer, he shall be allowed a deduction in the computation of total income.
The maximum permissible deduction is Rs 1.5 lakh. But points to keep in the mind are: 1) if
deduction is claimed under 80C, in respect of the same investment, deduction under this
section is not allowed; and 2) if deduction is claimed under section 80CCC and later on
pension is received by the assessee or by his nominees, such pension will b taxable in the
hands of recipient in the year of receipt.

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3) Deduction in respect of Contribution to pension scheme notified by the Central

Government (Section 80CCD)

As per the “Restructured Defined contribution pension system” applicable to new entrants to
Government service, it is mandatory for persons entering the service of the Central
Government on or after 1st Jan, 2004, to contribute 10% of their salary every month towards
their pension account. A matching contribution is required to be made by the government to
the said account. This section provides deduction in respect of contribution made to the pension
scheme notified by the Central government. Accordingly, in exercise of the powers conferred
by section 80CCD (1), the central government has notified the ‘Atal Pension Yojna (APY) as
a pension scheme, contribution to which would qualify for deduction in the hand of the
individual.

Section 80CCD (1) provides a deduction for the amount paid or deposited by an employee in
his pension account subject to a maximum of 10% of his salary. The deduction in the case of
a self-employed individual would be restricted to 20% of his gross total income in the previous
year.

Under section 80CCD (2), contribution made by the central government or any other employer
in the previous year to the said account of an employee, is allowed as a deduction in
computation of the total income of the assessee. The entire employer’s contribution would be
included in the salary of the employee. However, deduction under 80CCD (2) would be
restricted to 14%, in case of contribution made by the Central Government, and 10% of salary,
in case of contribution made by any other employer.

4) Deduction in respect of Medical Insurance Premium (Section 80D):

a) In case of Individual
A deduction to the extent of Rs. 25,000/- is allowed in respect of the following payments-
(i) premium paid to the effect or to keep in force an insurance on the health of self, spouse
and dependent children or (ii) any contribution made to the central government health
scheme or (iii) such other health scheme as may be notified by the central government. A
further deduction upto Rs 25,000/- is allowable to effect or to keep in force an insurance
on the health of parents of the assessee. Moreover, deduction to the extent of Rs 5000/-
shall be allowed in respect of payment made on account of preventive health check-up of
self, spouse, dependent children or parents during the previous year, provided it should be
within the overall limit of Rs. 25000/-. For claiming deduction, the payment mode— in
case of preventive health check-up, case or other mode; in all other case, by any mode other
than cash.

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b) In case of HUF
Deduction is allowable in respect of premium paid to insure the health of any member of
the family. The maximum deduction available to HUF would be Rs. 25,000/-, and in case
of any member is a senior citizen, Rs 50,000/-.
5) Deduction in respect of medical treatment, etc. (section 80DDB)
This section provides deduction to an assessee, who is resident in India, being an individual and
HUF. The deduction is available to an individual for medical expenditure incurred on himself
or a dependant. It is also available to HUF for such expenditure incurred on any of its member.
Any amount actually paid for the medical treatment of such disease or ailment as may be
specified in the rules made in this behalf by the board for himself or a dependant, in case of
assessee is an individual, or for any member of a HUF, in case the assessee is a HUF, will
qualify for deduction. The amount of deduction under this section shall be equal to the amount
actually paid or Rs. 40,000/- whichever is less, in respect of that previous year in which such
amount was actually paid. In case the amount is paid in respect of a senior citizen, then the
deduction would be the amount actually paid or Rs, 1 Lakh, whichever is less. However, the
deduction under this section shall be reduced by the amount received if any, under an insurance
from an insurer, or reimbursed by an employer, for the medical treatment of the assessee or the
dependant. Again, no deduction shall be allowed unless the assessee obtains the prescription
for such medical treatment from a neurologist, an oncologist, a urologist, a hamatologist, an
immunologist or such other specialist, as may be prescribed.
6) Deduction in respect of payment of interest on Loan taken for higher studies (Section
80E)
Conditions:
1) the assessee is an individual; 2) he had taken a loan from any bank, financial institution or
an approved charitable institution; 3) the loan was taken for the purpose of pursuing higher
education pursued after passing the senior secondary examination or its equivalent from any
school, board or university recognised by the central government or local authority or by any
other authority authorized by the central government or state government or local authority to
do so; 4) the loan was taken by the taxpayer for the purpose of pursing his own higher
education or for the purpose of higher education of his relatives, i.e., spouse/any child or any
child of which he is the legal guardian; 5) amount is paid by the individual during the previous
year by way of interest on such loan; 6) such amount is paid out of his income chargeable to
tax.
Amount deductible:
If the above conditions are satisfied, the entire amount paid by way of interest is deductible
under section 80E, However, the following points should be noted—1) the deduction is
allowed in computing the total income in respect of the initial assessment years (i.e., the

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assessment year relevant to the previous year, in which the assessee starts paying the interest
on the loan) and seven assessment years, immediately succeeding the initial assessment year
or until the interest is paid in fully by the assessee, whichever is earlier. 2) No deduction will
be available under this section in respect of repayment of principal amount.
7) Deduction for interest on loan borrowed for acquisition of house property by an
individual (Section 80EEA)
An individual who has taken a loan for acquisition of residential house property from any
financial institution belonging to India, interest payable on such loan would qualify for
deduction under this section. The conditions are: 1) the stamp duty value of house should be
equal or greater than Rs. 45 lakhs; 2) the individual should not own any residential house on
the date of sanction of loan; loan should be sanctioned by a financial institution during P.Y.
2019-2020; The individual should not be eligible to claim deduction under section 80EE. It
should be noted that section 80EE is the provision allowing similar deduction for the previous
year’s where the loan has been sanctioned between April 1, 2016 and March 31, 2017. The
benefit under section 80EEA would be available from AY 2020-21 and subsequent years till
the repayment of loan continues.
The maximum deduction allowable is Rs. 1.5 lakh. This deduction is over and above the
deduction available under section 24(b) in respect of interest payable on loan borrowed for
acquisition of a residential house property. In respect of self-occupied house property, interest
deduction under section 24(b) is restricted to Rs 2 Lakhs.
Further, the interest allowed as deduction under section 80EEA will not be allowed as
deduction under any other provision of the Act for the same or any other assessment years.

8) Deduction in respect of donations to certain funds, charitable institution, etc. (Section

80G)
An assessee who pay any sum, not in kind, as donation to eligible funds or institution, is
entitled to a deduction, subject to certain limitations, from the gross total income.
Deduction under section 80G is available to any taxpayer (may be individual, firm, HUF,
company; resident or non-resident). There are four categories of deductions.
(1) Donation qualifying for 100% deduction, without any qualifying limit:
 The national defence fund set up by the central government,
 Prime Minister’s national relief fund,
 The National Children’s Fund;
 Any state government fund set up to provide medical relief to the poor;
 The national sports fund set up by the central government;
 the national cultural fund set up by the central government;
 the fund for technology development and application set up by central government,
 The Swachh Bharat Kosh, set up by central government,
 The Clean Ganga Fund, set up by the Central government, etc.

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(2) Donation qualifying for 50% deduction, without any qualifying limit:
 The Jawaharlal Nehru Memorial Fund
 The prime Minister’s drought Relief Fund
 Indira Gandhi Memorial Trust
 Rajiv Gandhi Foundation

(3) Donation qualifying for 100%, subject to qualifying limit:

 The government or to any approved local authority, institution or association
for promotion of family planning
 Sum paid by a company as donation to the Indian Olympic Association or any
other association/institution established in India, as may be notified by the
government for the development of infrastructure for sports or game, etc.

(4) Donation qualifying for 50%, subject to qualifying limit:

 Any institution or fund established in India for charitable purposes fulfilling
prescribed conditions
 The government or any local authority for utilisation for any charitable purpose
other than the purpose for promoting family planning
 An authority constituted in India by or under any other law enacted wither for
dealing with and satisfying the need for housing accommodation or for purpose
of planning, development or improvement of cities, towns and villages, or both
 Any corporation established by the Central Government or State government
for promoting the interest of the members of a minority community
 For renovation or repair of notified temple, mosque, gurdwara, church or other
place of historic, archaeological or artistic importance or which is a place
worship of renown throughout any state or states.

The eligible donations referred to in (3) and (4) should be aggregated and the sum total
should be limited to 10% of the adjusted gross total income. This would be the maximum
permissible deduction.

The donations qualifying for 100% deduction would be first adjusted from the maximum
permissible deduction and thereafter 50% deduction of the balance would be allowed.

Some other points for considerations are:

 Where an assessee has claimed and has been allowed any deduction under this section
in respect of any amount of donations, the same amount will not qualify for deduction
under any other provision of the Act for the same or any other assessment years.

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 No deduction shall be allowed in respect of donations of any sum exceeding Rs. 2000/-
unless such sum is paid by any mode other than cash.
 The deduction under section 80G can be claimed whether it has any nexus with the
business of the assessee or not.
9) Deduction in respect of rent paid (Section 80GG)
Assessee, who is not in receipt of HRA qualifying for exemption under section 10(13A)
from employer and who pays rent for accommodation occupied by him for residential
purpose can claim such deduction under this section.
Conditions:
a. The expenditure incurred by him on rent of any furnished or unfurnished
accommodation should exceed 10% of his total income arrived at after all
deductions under section 80 except section 80GG.
b. The accommodation should be occupied by the assessee for the purposes of his own
residence.
c. The assessee should fulfil such other conditions or limitations as may be prescribed,
having regard to the area or place in which such accommodation is situated and
other relevant considerations.
d. The assessee or his spouse or his minor child or a HUF of which he is a member
should not own any accommodation at the place where he ordinarily resides or
perform duties of his office or employment or carries on his business or profession;
or
e. The assessee should file a declaration in the prescribed form, confirming the details
of rent paid and fulfilment of other conditions, with the return of income.

The deduction admissible will be the least of the following:

1) The excess of actual rent paid over 10% of total income
2) 25% of the total income
3) Rs. 5,000 p.m.

III. OTHER DEDUCTIONS:

1. Deduction in respect of donations for scientific research and rural development
(Section 80GGA)
2. Deduction in respect of contributions given by companies to political parties
(Section 80GGB)
3. Deduction in respect to contribution given by any persons to political parties
(Section 80GGC)
4. Deduction in respect of employment of new employees (Section 80JJAA)

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5. Deduction in respect of royalty income, etc., of authors of certain books other than
text books (Section 80QQB)
6. Deduction in respect of royalty on patents (Section 80RRB)
7. Deduction in respect of interest on deposits in savings account (Section 80TTA)
8. Deduction in respect of interest on deposits in case of Senior citizens (Section
80TTB)
9. Deduction in case of a person with disability (Section 80U)

***

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CHAPTER 10
TAX CALCULATION AND REBATE

How tax is calculated

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REBATE: (Section 87A)

A rebate under section 87A is one of the income tax provisions that help taxpayers reduce their
income tax liability. An individual who is resident in India and whose total income does not exceed
Rs. 5,00,000 is entitled to claim rebate under section 87A. Rebate under section 87A is available
in the form of deduction from the tax liability. Rebate under section 87A will be lower of 100% of
income-tax liability or Rs. 12,500. In other words, if the tax liability exceeds Rs. 12,500, rebate
will be available to the extent of Rs. 12,500 only and no rebate will be available if the total income
(i.e. taxable income) exceeds Rs. 5,00,000.

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CHAPTER 11
INCOME TAX AUTHORITIES
Before learning the procedure for assessment of Income, it is worth noting about Income tax
authorities who administer the law of Income Tax.

I. INCOME TAX AUTHORITIES:

The following are the income-tax authorities who are statutorily empowered to administer the
law of Income-tax: (i) The Central Board of Direct Taxes, constituted under the Central Boards
of Revenue Act, 1963; (ii) Directors-General of Income-tax or Chief Commissioners of
Income-tax; (iii) Directors of Income-tax or Commissioners of Income-tax or Commissioners
of Income-tax (Appeals); (iv) Additional Directors of Income-tax or Additional
Commissioners of Income-tax or Additional Commissioners of Income-tax (Appeals); (v)
Joint Directors of Income tax or Joint Commissioners of Income-tax. (vi) Deputy Directors of
Income-tax or Deputy Commissioners of Income-tax or Deputy Commissioners of Income-tax
(Appeals); (vii) Assistant Directors of Income-tax or Assistant Commissioners of Income-tax;
(viii) Income-tax (Assessing) Officers; (ix) Tax Recovery Officers; (x) Inspectors of Income-
tax.
The provisions of the Income-tax Act contained in Sections 117 to 136 specify the procedure
relating to the appointment of the various income-tax authorities, their powers, functions,
jurisdiction and control. In addition to the various provisions contained in these sections, the
Income-tax Department follows the system of functional allocation and distribution of work
with a view to specializing and concentrating in the various areas of income tax assessment,
procedure, collection, recovery, refund, appeals, etc.
For all purposes of the Income-tax Act, the Income Tax authorities are vested with the various
powers which are vested in a Court of Law under the Code of Civil Procedure while trying a
suit in respect of any case. More particularly, the provisions of the Code of Civil Procedure
and the powers granted to the tax authorities under the code would in respect of: (a) discovery
and inspection; (b) enforcing the attendance, including any officer of a bank and examining
him on oath; (c) compelling the production of books of accounts and the documents; (d)
collecting certain information [Section 133B - inserted by the Finance Act, 1986]; (e) issuing
commissions and summons.
The Finance Act, 1985 has added that w.e.f. 1.4.1973 every income-tax authority shall be
deemed to be a Civil Court for the purposes of Section 195 and Chapter XXVI of the Code of
Criminal Procedure, 1973. The powers granted are generally quasi-judicial. In particular, the
powers of income-tax authorities relate to discovery, production of evidence etc., searches and

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seizures, application of retained assets, power to call for information from various parties,
authorities and bodies, powers of survey, powers relating to the inspection of the registers of
companies etc. Further, all proceedings under the Income-tax Act before any income-tax
authority must be deemed to be judicial proceedings within the meaning of Sections 193 and
228 and for purposes of Section 196 of the Indian Penal Code.
II. POWER OF INCOME TAX AUTHORITIES:
As mentioned above there are various authorities who has their important role in administration
of income tax law, the brief description of power of some of authorities are as given below:
(v) Central Board of Direct Tax (CBDT):
 Power to make Rules
 To issue instructions
 Power to relax mandatory provisions
 Power to admit belated refund application
 Power to decide jurisdiction
 Power to disclose information
(vi) Director General or Director of Income Tax
 To appoint an income-tax authority below the rank of an Assistant Commissioner
(Section 117)
 To delegate the powers of Assessing Officer to Joint Commissioner (Section 120)
 To transfer cases (Section 127)
 Enquiry into concealment [Section 131(1A]
 Search and seizure [Section 132(1)]
 To requisition books of account/Assets etc. (Section 132A):
 To make any enquiry (Section 135)
(vii) Chief Commissioner or Commissioner of Income-tax
 To appoint an income-tax authority below the rank of Assistant Commissioner
(Section 117)
 To delegate the powers of Assessing Officer to Deputy Commissioner (Section 120)
 To transfer case (Section 127)
 Power regarding discovery, production of evidence etc. (Section 131)
 Search and seizure (Section 132)
 To requisition books of accounts etc. (Section 132A)
 Power of survey (Section 133A)
 To make any enquiry (Section 135)
 Disclosure of information respecting assessees (Section 138)

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 To sanction reopening of the assessment after the expiry of four years [Section
151(2)]
 To approve withholding of refund in certain cases (Section 241)
 Set-off of refund against arrears of tax (Section 245)
 To direct the Assessing Officer to prefer appeal to the Tribunal against A.A.C.’s order
[Section 253(2)]
 To revise any order passed by the Assessing Officer which is prejudicial to revenue
(Section 263)
 Revision of any order passed by a subordinate authority on application by the
assessee or suo motu (Section 264)
(viii) Commissioner of Income-tax (Appeals)
 Power regarding discovery, production of evidence (Section 131)
 Power to call for information (Section 133)
 Power to inspect register of companies (Section 134)
 Set-off of refund against arrears of tax (Section 245)
 Disposal of appeal (Section 251)
 Imposition of penalty (Section 271)

III. JURISDICTION OF INCOME TAX AUTHORITIES: (SECTION 120)

Income-tax authorities are required to exercise or perform such powers or functions as are
assigned to them by the Board [Section 120(1)]. The Board may authorise any other income-
tax authority to issue orders in writing for the exercise of the powers and performance of the
functions by all or any of the income-tax authority who are subordinate to it [Section 120(2)].
While issuing such directions, the Board or any other income-tax authority authorised by it may
take into account (i) territorial area, (ii) persons or classes of persons, (iii) incomes or classes
of income, and (iv) cases or classes of cases [Section 120(3)].

***

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CHAPTER 12
RETURN OF INCOME TAX & ASSESSMENT
PROCEDURE

I. RETRUN OF INCOME (Section 139)

The procedure under the Income-tax Act for making an assessment of income begins with the
filing of a return of income. Section 139(1) of the Act contains the relevant provisions relating to
the furnishing of a return of income.

According to that section, it is statutorily obligatory for every person—

f. being a company or a firm, regardless of quantum or income or
g. being a person (other than an individual/HUF/Company/Firm), if income exceeds
exemption limit, or
h. being HUF/individual, if income [without claiming deduction under section 10A, 10B,
10BA, 80C to 80U, and 10(38)] exceeds the amount of exemption limit
i. being a person in receipt of income derived from property held under a trust for charitable
or religious purposes if its income (without giving exemption) exceeds exemption limit

to furnish, on or before the due date, a return of his total income or the income of such other person
during the previous year. The return of income must be furnished by the assessee in the prescribed
manner by the Board from time to time.

From assessment year 2012-13, it is mandatory to file a return of income where a person, being a
resident other than not ordinarily resident in India and who during the previous year has any asset
(including any financial interest in any entity) located outside India, or where such person is a
beneficiary in any asset located outside India. In such a case, it is immaterial that the taxable
income is less than the maximum amount not chargeable to tax.

Again, the assessee is obliged to voluntarily file the return of income without waiting for the notice
of the Assessing Officer calling for the filing of the return. The time limit for filing of the return
by an assessee if his total income of any other person in respect of which he is assessable exceeds
the maximum amount not chargeable to tax, shall be as follows:
a) where the assesse is—
(iv) a company,
(v) a person, other than a company whose accounts are required to be audited under
Income Tax Act or any other law, for time being in force,

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(vi) a working partner of a firm whose accounts are required to be audited under this
Act or under any law for time being force, 30th day of September of the
Assessment year.
b) In the case of assesse being a company, which is required to furnish a report referred to in
section 92E, the 30th day of November
c) In the case of assesse being a company not having international or specified domestic
transaction, 30th of September.
d) In any other cases, 31st of July.

Further, the department of income tax has introduced on line facility in addition to conventional
method of file return of income. The process of electronically filing of income tax return
through the mode of Internet access is called e-filing. The only obligation for the user of this
facility is to have PAN Number. There are eight form ITR 1 to ITR-8 for e-filing as follows:

ITR-1 For individual(total income doses not exceed Rs 50 lakh) having income from
salary/one house property (not being brought forward loss from previous
years)/income from other source (not being loss and not being winning from
lottery/income from race horse

ITR-2 For individual/HUF where he total income does not include income derived
from a proprietary business or profession

ITR-3 For an individual/HUF having income from a proprietary business or profession

ITR-4 For an individual/HUF/firm (other than LL.P.) deriving business income and
such income is computed in accordance with special provisions referred in the
Act

ITR-5 For firms, AOPs and BOIs or any other person (not being individual or HUF or
company or to whom ITR-7 is applicable

ITR-6 For companies other than companies claiming exemption under section 11

ITR-7 For persons including companies required to furnish return under section 139
(4a)/(4b)/(4C)/(4D)

ITR-V Where the data of the return of income in above form transmitted electronically
without digital signature.

Moreover, the requirements of Income-tax Act making it obligatory for the assesse to file a return
of his total income even in cases where the assesse has incurred a loss under the head ‘profits and

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gains from business or profession’ or loss from maintenance of race horses or under the head
‘Capital gains’. Unless the assesse files a return of loss in the manner and within the same time
limits as required for a return of income, the assesse would not be entitled to carry forward the loss
for being set off against income in the subsequent year.

Belated Return, Revised Return, and Defective or Incomplete Return

Belated Return: [Section 139(4)]
Any person who has not filed the return within the time allowed under section 139(1) or within
the time allowed under a notice issued by the Assessing Officer under section 142(1) may file a
belated return – at any time before the expiry of one year from the end of the relevant assessment
year or – before the completion of the assessment whichever is earlier. Such return is called Belated
Return. Such belated return may be submitted within one year from the end of assessment year.
The assessee, in case of belated return, will be liable for penal interest.

Revised Return [Section 139(5)]

If any person has furnished a return under section 139(1) or section 142(1) and he discovers any
omission or wrong statement, not made knowingly or deliberately, he may furnish a revised return
at any time before the assessment is made or before the expiry of one year from the end of relevant
assessment year, whichever is earlier. Where omission or wring statement in original return is
discovered by department as a result of enquiry and thereafter a revised return is furnished making
amendment, what would not amount to a revised return as contemplated.

Defective or incomplete return: [section 139(9)]

If the Assessing Officer considers that the return of income furnished by the assessee is defective,
he may intimate the defect to the assessee and give him an opportunity to rectify the defect within
15 days from the date of such intimation or within such further period as may be allowed by the
Assessing Officer on the request of the assessee. If the assessee fails to rectify the defect within
the aforesaid period, the return shall be deemed to be invalid and further it shall be deemed that
the assessee had failed to furnish the return. However, where the assessee rectifies the defect after
the expiry of the aforesaid period but before the assessment is made, the Assessing Officer may
condone the delay and treat the return as a valid return.

II. TYPES OF NOTICES UNDER INCOME TAX ACT, 1961

Under the Income Tax, 1961 there are different sort of notices which are served on assessees each
has its specific purposes. Among them are:
10. Notice under Section 142(1) – Inquiry before assessment
The basic purpose is to inquire the details of the assessee before making assessment under
the Act. It can be related to ‘Preliminary Investigation’ before starting the assessment.

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By serving a notice u/s 142(1) the assessing officer, may call upon the assessee: -
 To furnish a return of income in respect of which he is assessable, where he has not
filed his return of income within the normal time allowed. It may include return in
respect of his own income or income of other person for which he is liable to be
assessable. Example- In case of legal guardian/ deceased person.
 To produce accounts or documents which the AO may require for the purpose of
making an assessment.
 To furnish in writing any information on matters including statement of the assessee.
For Example- statement of assets and liabilities of the assessee on a particular date.
Compliance with this notice u/s 142(1) is mandatory even if the tax payer is of the opinion
that the accounts/documents requested are irrelevant.
If assessee do not comply with the provisions of this section:
– It may result in Best Judgement Assessment u/s 144, or
– Penalised under Sec 271(1)(b) i.e. Rs 10,000 for each failure, or
– Prosecution under Sec 276D which may extend upto 1 year and with fine.

11. Notice under Section 143(2) – Scrutiny Notice

This notice is basically sent after notice u/s 142(1) has already been sent. It means AO was
not satisfied with the produced documents or may be AO has not received any documents.
If you get Notice under Section 143(2) it means your return has been selected for detailed
scrutiny by your Assessing Officer. The notice might ask you to produce documents in
support of deductions, exemptions, allowances, reliefs other claim of loss you have made
and provide proof of all sources of income. If assessee do not comply with the provisions of
this section:
– It may result in Best Judgement Assessment u/s 144, or
– Penalize under Sec 271(1)(b) i.e. Rs10,000 for each failure, or
– Prosecution under Sec 276D which may extend upto 1 year and with fine.
12. Notice under Section 143(1) – Letter of Intimation
Three types of notices can be sent under section 143(1):
i. Intimation where the notice is to be simply considered as final assessment of your
returns since the AO has found the return filed by you to be matching with his
computation under section 143(1).
ii. A refund notice, where the officer’s computation shows amount excessively paid by
the assessee.
iii. Demand Notice where the officer’s computation shows shortfall in your tax payment.
The notice will ask you to pay up the tax due within 30days.

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No intimation under this sub-section shall be sent after the expiry of one year from the end
of the financial year in which the return is made.

13. Notice under Section 148 – Income escaping assessment

6. Notice under Section 156- Notice of Demand
7. Notice under Section 139(9) – Defective Return
8. Notice under Section 245 – Set off of refunds against tax remaining payable

III. ASSESSMENTAND ITS FORMS:

The term “Assessment” is used in various senses under the Income Tax Act. It implies computation
of the income, or the determination of the amount of tax payable or the procedure laid down in the
act for imposing liability upon the tax payer.

The various forms of assessments are as follows:

(i) SELF-ASSESSMENT [SECTION 140A]

Self-assessment is the first step in the process of assessments. Self-Assessment is simply a process
where a person himself assesses his tax liability on the income earned during the particular
previous year and submits Income Tax Return to the department. Every person, before furnishing
return under sections 139(return of income), 142(1), 148 (issue of notice where income has
escaped assessment) and 153A (Assessment in case of search or requisition) shall make self-
assessment of his income and pay the tax, if due on the basis of such assessment. The assessee
consolidates his income from various sources and adjusts the same against losses or deductions or
various exemptions if any, available to him during the year. The total income of the assessee is
then arrived at. He then finds out income tax, surcharge and education cess as per return of income.
Such determined value of tax then added with interest payable under any provision of this Act for
late submissions of return of income or for non-payment or short payment of advance tax or its
installments. It is then added with fee for late submission of return of income. The amount so
computed is then reduced with any advance tax, tax deducted at source, tax collected at source, as
well as with any relief under the provision of Income tax (section 90, 90A, 91A). Tax, if still
payable by him, is called self-assessment tax and must be paid by him before he files his return of
income. This process is known as Self-Assessment.

(ii) SUMMARY ASSESSMENT [SECTION 143(1)]

It is a type of assessment carried out without any human intervention. In this type of assessment,
the information submitted by the assessee in his return of income is cross-checked against the
information that the income tax department has access to. In the process, the reasonableness and
correctness of the return are verified by the department. The return gets processed online, and
adjustment for arithmetical errors, incorrect claims, and disallowances are automatically done.

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After making the aforementioned adjustments, if the assessee is required to pay tax, he will be sent
an intimation under Section 143(1). The assessee must respond to this intimation accordingly. No
intimation for tax or interest due under section 143(1) shall be sent after the expiry of 1 year from
the end of financial year in which return of income is made.
(iii) SCRUTINY (REGULAR)ASSESSMENT [SECTION 143(2) & (3)]
Where a return has been made under Section 139, or in response to a notice under Sub-section (1)
of Section 142, the Assessing Officer shall, if he considers necessary or expedient to ensure that
the assessee has not understated the income or has not computed excessive loss or has not
underpaid the tax in any manner, serve on the assessee a notice requiring him, on a date to be
specified therein, either to attend his office or to produce, or cause to be produced there, any
evidence on which the assessee may rely in support of the return:
Provided that no notice under this sub-section shall be served on the assessee after the expiry of
six months from the end of the Financial year in which the return is furnished. On the day specified
in the notice issued under Sub-section (2), or as soon afterwards as may be, after hearing such
evidence as the assessee may produce and such other evidence as the Assessing Officer may
require on specified points, and after taking into account all relevant material which he has
gathered, the Assessing Officer shall, by an order in writing, make an assessment of the total
income or loss of the assessee, and determine the sum payable by him or refund of any amount
due to him on the basis of such assessment.
(iv) BEST JUDGEMENTASSESSMENT U/S 144
The best judgment assessment means evaluation or estimation in the context income tax law of
income of the assessee by the assessing officer. In the case of best judgment assessment, the
assessing officer will make the assessment based on best reasoning i.e. they will not act
dishonestly. The assessee will neither be dishonest in assessment nor have a bitter attitude towards
the officer. This is a type of income tax assessment which involves the input of both the assessee
and the officer equally.
There are two types of best judgment assessment: (i) Compulsory Assessment and
Discretionary/optional assessment. In the former case, assessing officer finds that there is non-
cooperation by the assessee or found to be a defaulter in supplying information to the department;
in the later, assessing Officer is dissatisfied with the authenticity/validity of the accounts given by
the assessee or where no regular method of accounting has been followed by the assessee.
This best judgment assessment gets invoked in the following scenarios:
v. If any person fails to make a return required under section 139(1) and has not made a return
or a revised return;

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w. If any person fails to comply with all the terms of a notice under section 142(1) or fails to
comply with the direction required him to get his accounts audited in terms of section
142(2A);
x. If any person, after having filed a return, fails to comply with the terms of a notice under
section 143(2), requiring his presence or production of evidence and documents;
y. If the Assessing office is not satisfied about the correctness or the completeness of the
accounts of the assessee or if not method of accounting has been regularly employed the
assessee.
After providing an opportunity to hear the assessee’s argument, the assessing officer passes an
order based on all the relevant materials and evidence available to him. This is known as Best
Judgement Assessment.
(v) INCOME ESCAPINGASSESSMENT OR RE-ASSESSMENT (SECTION 147)
When the assessing officer has sufficient reasons to believe that any taxable income has escaped
assessment, he has the authority to assess or reassess the assessee’s income and also other income
chargeable to tax which has escaped assessment and which comes to his notice subsequently in
the course of proceeding under this section. He is also empowered to re-compute the loss or the
depreciation allowance or any other allowance, as the case may be, for the assessment year
concerned.
As per section 153 (2), assessment u/s 147 shall be made within 9 months from the end of the
financial year in which notice u/s 148 was served.
Some scenarios where reassessment gets triggered are given below.
a. The assessee has taxable income but has not yet filed his return.
b. The assessee, after filing the income tax return, is found to have either understated his
income or claimed excess allowances or deductions.
c. The assessee has failed to furnish reports on international transactions, where he is required
to do so.
d. Where a person is found to have any asset located outside India.

(vi) ASSESSMENT IN CASE OF SEARCH OR REQUISITION (SECTION 153A)

Notwithstanding anything contained in sections 139, 147, 148, 149, 151 and 153 in case of a person
where search is initiated under section 132 or books of accounts, other documents or any assets
are requisitioned under section 132A the Assessing Officer shall assesses or reassesses the total
income of six assessment years immediately preceding the assessment years relevant to the
previous year in which such search is conducted or requisition is made.

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