Indian Income Tax Fundamentals and Essential Terminology
What is Income Tax?
Income tax is a tax on the income earned by individuals and businesses in a financial year. Governed by the Income Tax Act, 1961 in India, it requires taxpayers to file returns online, detailing their income and eligible deductions.
Let’s dive in and make taxes a little less overwhelming! Here are some simple tax terms you should know:
1. Income Tax Return (ITR)
An Income Tax Return (ITR) is a form or document that people and businesses in India fill out to tell the government how much money they made and to pay taxes accordingly. It helps the government figure out how much tax you need to pay based on your earnings and deductions.
2. Gross Total Income
Gross Total Income is the total amount of money you earn before any deductions or exemptions. It includes your salary, business income, rent, and any other taxable income you receive. It’s the total sum of all the money you make before any taxes are deducted.
3. Net Taxable Income
Net taxable income is the amount of money you have left after deducting certain expenses and exemptions, like investments made to save tax, from your total income. It is the income that is actually considered for calculating taxes. In simpler terms, it’s the income on which you have to pay taxes after taking out certain deductions and expenses.
4. Assessment Year (AY)
The Assessment Year (AY) is the year when the government evaluates or checks your income to calculate how much tax you need to pay. It comes after the year in which you earned the income. For example, if you earned income in the year 2022, the Assessment Year would be 2023–2024. It’s the year when the government looks at your income and decides how much tax you owe.
Defining the ‘Previous Year’
The previous year, the financial year, or your tax year is the 12-month period that begins on the 1st of April and ends on the 31st of March of the next year.
- It is measured on par with the financial year. It is the period/duration in which you earn your income.
- No matter when you start your job, your tax year closes on 31st March and a new tax year starts on 1st April. So, it is important to plan your taxes for each financial year.
5. Tax Deduction at Source (TDS)
Tax Deduction at Source (TDS) is when the government collects a portion of tax directly from the income you receive. For example, if you earn a salary, your employer deducts a certain amount of tax from your salary and sends it to the government on your behalf. This ensures that tax is paid regularly throughout the year.
Deductions and Tax Liability
Deductions reduce your Gross Income. These are the amounts the Income Tax Department allows you to reduce from your income, bringing down your tax liability.
- Sum of all heads of income = Gross Income
- Gross Income – Deductions = Taxable Income
The more you make use of the deductions allowed, the lower your tax shall be. Deductions are allowed under Section 80 of the Income Tax Act (Sections 80C to 80U).
Tax Regimes in India
There are two tax regimes in India: the old and the new. The percentage of income tax that you pay on your total income differs under the old and the new tax regimes.
Under the old tax regime, all deductions are allowed under Sections 80C to 80U, subject to conditions. However, under the new tax regime, only the deduction on let-out property under Section 24B and the deduction on the employer’s contribution to NPS are allowed.
8. Tax Slab
The income tax slab refers to the range of income that determines an individual’s applicable tax rate. The slabs may be revised annually and are declared by the Finance Minister in the Union Budget.
Individuals need to pay taxes ranging from 5% to 30% based on their annual income.