Your complete guide to calculating your taxable income

What is taxable income? How can you calculate taxable income? All your questions answered

How is taxable income calculated?

With the Income Tax Return (ITR) filing season just having gone by, many of you must have wondered about your taxable income. While your chartered accountants, tax planners, and even online ITR filing platforms may calculate your taxable income for you, it is important to know the nitty-gritty yourself too!

Key highlights:

  • Taxable income is the portion of your total income that is subject to taxation by the Government of India
  • Different components of salary, tax exemptions, and allowances can impact taxable income
  • Tax-saving investment options under sections 80C, 80D, and 80TTA can reduce your tax liability effectively

Related: Is tax planning getting too taxing for you? Hack your way out with insightful reads here.

What is taxable income?

Most income is taxable, and must be reported in your tax returns. It is however important to note that some income is only taxable in part. In certain cases, income is not taxable at all. This article will help you determine your income tax on salary, the income tax slab and income tax rate applicable to you basis your salary components, and more.

Here’s how to calculate income tax on salary with an example:

How to calculate taxable amount from gross amount? 

First, tally your income from salary and various sources. For example, let’s say you are an employee of a domestic company in Bangalore, earning a monthly salary. You own a residential property, from which you earn rent. You also earn from the sale of assets, equities. This comes under income from capital gains. So, your total income is the sum of your salary, rental income, and capital gains.

Next, subtract the tax-free earnings from the total income. These would be, for example, interest income from savings account or bank deposits under Rs 10,000, income from PPF or EPF, etc.

You should also check your salary structure for taxable and non-taxable components.

The following components are included in your salary:

1)    Basic Salary

2)    Bonuses and commissions

3)    Allowances (these can be taxed fully, partially or totally exempt from tax)

Fully taxable allowances include Dearness Allowance (DA), Overtime Allowance (OA) and city compensatory allowance (for those who move to metros like Mumbai, Delhi, Kolkata, and Chennai).

Partly taxable allowances include House Rent Allowance (HRA), entertainment allowance, and other special allowances.

Fully exempt allowances include foreign allowance (for employees who are posted in other countries), allowance of high court and supreme court judges, etc.

Standard Deductions: In lieu of claiming expenses on transport or medical costs, a salaried person or pensioner can claim a tax deduction of Rs 50,000 for FY 2021-22.

Related: Professional Tax: Everything you must know about it

 

Here’s an example of a salary structure:

Taxable annual salary

Salary Income

Tax exemption

Taxable income

Basic pay

8,00,000

-

8,00,000

HRA

3,00,000

1,72,000*

1,28,000

Special Allowances

60,000

-

60,000

Leave Travel Allowance

20,000

12,000

8,000

Standard Deduction

-

40,000

-

Gross Total

12,91,000

2,24,000

10,67,000

 - 40% of the Basic pay- Actual HRA*HRA is calculated as the lower of the following three:

- Actual rent paid minus 10% of basic pay

In this case:

- Actual HRA is Rs 3 lakhs

- 40% of basic pay is Rs 3.2 lakhs

- The actual rent paid is Rs 21,000 per month. This amounts to a yearly rent of Rs 2.52 lakhs. So, Rs 2.52 lakh minus 10% of basic pay comes to Rs 1.72 lakh. This is the lowest amount, and hence is used for tax exemption.

What are the steps to determine slab of your taxable income for income tax payment in India?

Calculate your gross salary by adding Dearness Allowance, House Rent Allowance, Transport Allowance, Special Allowance to your basic pay.  

  1. Then deduct the exemptions of HRA, professional tax and standard deduction from the gross salary.

  2. To the arrived amount, add the extra income of interest, fees, commission and bonus, if any.

  3. Add other incomes such as capital gains and income received from renting of properties.

  4. Then subtract the basic deductions available under Section 80C, Section 80D and other deductions under Chapter VI A.

  5. The income arrived is net taxable income.

  6. The income tax slab should be decided based on this final income.

  7. The income tax slab should be decided based of this taxable income.

When you calculate tax on taxable income, you must also deduct the money you invest in various tax-saving options under sections of the Income Tax Act like 80C, 80D, 80TTA, 80CCC, etc. Under these tax-saving rules, you can invest up to Rs 1.5 lakhs in investments such as life insurance plans, Public Provident Funds (PPF), National Pension System (NPS), Retirement mutual funds, equities, ULIPs and so on.

Section 80D allows you to claim a deduction of up to Rs 25,000 on medical insurance premium you have paid during the year for self, spouse & children. This includes a tax exemption of Rs 5,000 that you can avail on preventive health check-up.

Under section 80TTA, you can claim an exemption of Rs 10,000 on interest received from saving account deposits. This is applicable only to individual taxpayers and Hindu Undivided Family (HUFs).

A simple formula for how to calculate taxable income gives you the final result:

Taxable income = Gross income – (deductions + exemptions)

Now, you can calculate the taxable income under Indian IT laws using the current, applicable tax rates.

Related: How much do you know about taxes?

Here’s another example of how to calculate income tax on salary: 

Manish is a software employee. He earns Rs 9.5 lakhs per year.

During the year, his income from a savings account is Rs 10,000. He has a fixed deposit (FD) that gives him an annual interest income of Rs 12,000. He also invested Rs 50,000 in Public Provident Fund (PPF) and Rs 20,000 in tax-saving mutual funds.

Over the last year, he paid a premium of Rs 80,000 for a life insurance policy, and paid Rs 10,000 for medical insurance.

From the above data, Manish’s gross total income calculations (in Rs) are:

Nature of income

Amount

Salary

9,50,000

Other sources

22,000 (Savings Account + FD)

Gross total income

9,72,000

Deductions

Amount

80C

1,50,000 (PPF+ELSS funds+ LIC policy)

80D

10,000 (medical insurance)

80TTA

10,000 (savings account)

Total

170,000

Manish is a software employee. He earns Rs 9.5 lakhs per year.

*Resident individuals whose annual income does not exceed Rs 5 lakh in a financial year can claim a complete tax rebate under section 87A. The maximum rebate available is Rs 12,500 for AY 2022-23.

In this case Manish’s income is spread over three tax slabs.

Manish’s Gross Taxable Income = Rs 9,72,000–1,70,000 = Rs 8,02,000.

The total tax liability for AY 2022-23 is -

  • Rs. 72,900 under the old tax regime 
  • Rs. 70,800 under the new tax regime before 31st March 2023 
  • Rs. 55,800 under the new tax regime from 1st April 2023

Knowing all this will help you understand exactly what is taxable income, how your income is taxed, and with careful planning, you can even help you save on your taxable income. Manish is a salaried individual. Had he been a professional or business owner, he would have to file his income taxes in a different way. For example, professionals can deduct expenses directed towards their work, like car expenses. This can be deducted from the taxable income. Business-owners, meanwhile, should conduct a tax audit first by a qualified chartered accountant. Only then should they file their income tax returns.

Choosing between the new tax regime and the old tax regime is dependent on your financial status and annual earnings. Both the new and old income tax slabs have perks and downsides. It all depends on whether you want to claim deductions and exemptions under the new tax slab, which has a variety of income buckets and matching rates, or the old tax slab. Before filing your taxes, it is advised that you conduct a comparative study and review under both tax regimes.

Read this premium article about the old and new tax regimes and make an informed decision.

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