Definition & Meaning – ‘Income under the head Salary’ [Section 15 to 17]

1. Computation of ” Salary ” Income [Section 15-17]

Salary income of an employee is to be computed in accordance with the provisions laid down in sections 15, 16 and 17. Section 15, as discussed earlier gives the scope of this head and tells us that which incomes shall form part of this head. Section 16 gives deductions to be allowed out of incomes taxable under this head. Section 17(1) defines the word ‘salary’ as mentioned in section 15. Section 17(2) and 17(3) further define the terms ‘Perquisites’ and “profits in lieu of salary”. These can be depicted in the form of chart given below :

Computation of " Salary " Income
Computation of ” Salary ” Income

How to Compute Salary Income

How to Compute Salary Income

Different Forms of Salary Income – How Taxed

Tax treatment of different receipts is given below :

Different receipts

Tax treatment

Basic salary

Taxable.

Dearness allowance/pay

Taxable.

Advance salary

Taxable in the year of receipt.

Arrears of salary

Taxable in the year of receipt, if not taxed on due basis earlier.

Leave encashment while in service

Taxable

Leave encashment at the time of retirement or at the time of leaving job.

Exempt in the hands of a Government employee In the case of a non- Government employee’, it is exempt in some cases

Salary in lieu of notice

Taxable

Salary to partner

Not chargeable under the head “Salaries? but taxable under the head ‘Profits and gains of business or profession.

Fees and commission

Taxable.

Bonus

Taxable on receipt basis if not taxed earlier on due basis.

Gratuity

Exempt in the hands of a Government employee’. In the case of a non- Government employee’, it is exempt in some cases

Monthly pension (i.e., uncommuted pension)

Taxable

Lump sum payment of pension (i.e., commuted pension)

Exempt in the hands of a Government employee’. In the case of a non- Government employee’, it is exempt in some cases

Pension under National Pension Scheme 
(NPS)

At the time of receipt of pension it is chargeable to tax.

Annuity from employer

Taxable as salary.

Annual accretion to the credit balance in recognized provident fund

1 Excess of employer’s contribution over 12% of salary is taxable. 
2. Excess of interest over notified interest is taxable (notified rate of interest 
is 9.5 %).

Retrenchment compensation

Exempt from tax to the extent of least of the following: 
a. Amount calculated” under section 25F(b) of the industrial Disputes Act; or 
b. An amount specified by the Government (i.e, Rs. 5,00,000).

Remuneration for extra duties

Fully taxable.

Compensation received under voluntary retirement scheme (VRS)

Exempt in some cases

Profits in lieu of salary

Taxable

Salary from UNO

Not chargeable to tax.


2. Definition of Word ‘Salary’ or Income by way of Salary [Section 17(1)]

According to Section 17(1) salary includes the following amounts received by an employee from his employer, during the previous year :

  1. Wages;
  2. any annuity or pension; (Family pension received by heirs of an employee is taxable under income from other sources);
  3. any gratuity;
  4. any fees, commission, perquisites or profits in lieu of or in addition to any salary or wages;
  5. any advance of salary;
  6. any payment received by an employee in respect of any period of leave not availed of by him; (Leave encashment or salary in lieu of leave);
  7. the annual accretion to the balance at the credit of an employee participating in a recognised provident fund, to the extent to which it is chargeable to tax under Rule 6 of part A of the Fourth Schedule; and
  8. the aggregate of all sums that are comprised in the transferred balance as referred to in sub-rule (2) of Rule 1] of Part A of the Fourth Schedule, of an employee participating in a recognised provident fund, to the extent to which it is chargeable to tax, under sub-rule (4) there, i.e., taxable portion of transferred balance from unrecognised provident fund to recognised provident fund.
  9. the contribution made by the Central Government or any other employer in the previous year, to the account of an employee under a pension scheme referred to in Section 8OCCD.

The above definition of word ‘salary’ U/s 17(1) includes the above mentioned items. These can be explained in following manner :

  1. Wages—any amount received by a person for work done or job rendered is called wages. It may be received under the name of ‘Pay’, ‘Basic Pay’, ‘Salary’, ‘Basic salary’ or ‘Remuneration’. It may be for actual work or leave salary or actually received or due during the relevant previous year. Salary in lieu of Notice. It is fully taxable uls 15 if received during the relevent previous year.
  2. Any Annuity or Pension—Any amount received by employee from past employer after attaining the age of retirement or superannuation is fully taxable. It may be received direct as pension or out of a superannuation fund created by employer; in both cases it is taxable.
  3. Any Gratuity—Any sum received by employee from his past employer as a token of gratitude for services rendered in past is called gratuity. This amount is exempted upto certain limits given u/s 10(10) and it is dealt with in this very chapter at a later stage.
  4.  
    1. any Fee—any amount received from employer under the name of fee is also fully taxable.
    2. any Commission—any commissions given by employer to employee is fully taxable. Any commission received by a director for standing guarantee for repayment of loan, and if he is not employee of the company, shall be taxable under “Income from other sources”. In case commission is given to an employee and it is paid as a fixed percentage of turnover achieved by such employee, such commission shall also be treated as part of the salary for all practical purposes. [Gestener Duplicators (P) Ltd. vs. C.I. T. (1979) SC).
    3. any Bonus—Bonus is fully taxable under the head ‘Salaries’ on receipt basis. In case arrears of bonus are received in a previous year, these are fully taxable. Bonus can be of two types :Statutory Bonus—It is received under some legal or contractual obligation and is fully taxable. 
      Gratuitous Bonus—It is a casual benefit and is taxable as a receipt from employer and having no other implication.
    4. any Perquisite—Any benefit or amenity allowed by employer to employee. These are explained in detail later in this chapter u/s 17(2).
    5. any Profit in lieu of or in addition to salary—any cash payment received by employee from employer is called profit in lieu of salary and these are explained later in this chapter u/s 17(3).
  5. any salary in lieu of leave received during service is fully taxable.
  6. any advance salary—In case an assessee receives some salary in advance in a previous year and which was actually not due in that year shall be taxable in the year of receipt. It does not include any loan or advance taken from employer.

3. Section-15 : Basis of Charge of Salary Income

Under Section 15, the following incomes are chargeable to Income-tax under the head ‘Salaries’;

  1. any salary due from an employer or a former employer to an assessee in the previous year whether paid or not;
  2. any salary paid or allowed to him in the previous year by or on behalf of an employer or a former employer though not due or before it becomes due to him;
  3. any arrears of salary paid or allowed to him in the previous year by or on behalf of an employer or a former employer if not charged to income-tax for any earlier previous year.

The same is explained in the table given below—

Nature of Salary Is it Taxable as income of the Previous Year 2018-19

Salary becomes due during the previous year 2018-19 (whether paid during the same year or not)

Yes

Salary is received during the previous year 2018-19 (whether it becomes due in a subsequent year)

Yes

Arrears of salary received during the previous year 2018-19 although it pertains to one of the earlier years and the same were not taxed earlier on due basis

Yes

Arrears of salary received during the previous year 2018-19 although it pertains to one of the earlier years but the same were taxed earlier on due basis

Yes

Any salary, bonus, commission or remuneration, by whatever name called due to or received by a partner of a firm from firm shall not be regarded as salary for the purposes of this section.

 Salary is taxable on “due” or “receipt” basis whichever is earlier –

Basis of charge in respect of salary income is fixed by section 15. Salary is chargeable to tax either on “due” basis or on “receipt” basis, whichever matures earlier.

For Example :

if salary of 2019-20 is received in advance in 2018-19, it is included in the total income of the previous year 2018-19 on “receipt” basis (as tax incidence matures earlier on “receipt” basis, “due” basis is not relevant in this case; therefore, salary will not be included in total income of the previous year 2019-20).

On the other hand, if salary which has become due in 2017-18 and received in 2018-19, is included in total income of the previous year 2017-18 on “due” basis (as incidence of tax matures earlier on “due” basis, “receipt” basis is inapplicable; salary will, therefore, not be included in total income of the previous year 2018-19).

 Accounting method of the employee not relevant –

It is worthwhile to mention that salary is chargeable to tax on “due” or “receipt” basis (whichever matures earlier) regardless of the fact whether books of account, in respect of salary income, are maintained by the assessee on mercantile basis or cash basis. Method of accounting cannot, therefore, vary the basis of charge fixed by section 15.

4. Important Points / Characteristics for Computing Salary Income

For any payment to be made taxable under the head ‘Salaries’ it must fulfill the following characteristics. In case any receipt is not covered under any of these features it will not come under this head.

A. Relationship of Employer and Employee

For a payment to fall under the head ‘Salaries’ the relationship of employer and emplqyee must exist between payee and the receiver of the salary. The employer may be a Government,\. a Local authority, a company or any other public body or an Association or H.U.F. or even an individual. Every kind of payment to every kind of servant, public or private, however high or low placed he may be, is covered under the provisions of this Act. Even the remuneration payable to an employee of a foreign Govt. falls within this section. Even servant is an employee, but an agent may or may not be employee. A detailing agent of a selling concern is its employee whereas the person holding an agency to sell the goods of such a concern will not be employee. The relationship of master and servant is the only test to establish the relationship of employer and employee. A director of a company, though holding an office, is not an. employee unless it is so provided in the independent contract, or the Articles of Association of the company provide for such a relationship. 
[Ram Prashad v. C.I. T. (86 1. T.R. 122, 127 (S. C.)]

B. Salary from more than one Employer

Any amount of salary received or due from one or more than one employer/source shall be taxable under this head. Such situation may arise when an employee is working with two employers simultaneously or has worked with one employer and later on serves with another employer after leaving service with, first employer, salary from both the employers shall be taxable under this head.

C. Salary from Present, Past or Prospective Employer

Salary received or due from present, past or future employer is also taxable under this head.

D. Tax Free Salary

Sometimes, the employer allows an employee to draw tax-free salary, e.g., the employer pays full salary to the employee and also pays tax on this directly to the department. The employee’s assessment is to be made not on the amount of salary he is drawing but on gross amount i.e., salary drawn plus the tax paid by the employer.

E. Salary Received as Member of Parliament

Salary received by a member of Parliament is not taxable under the head ‘Salaries’. It is taxable as income from other sources’. Any allowance received by them is fully exempted from tax.

F. Receipts from Persons other than Employer

Perquisites or benefits or any other remuneration received from persons other than the employer, would be taxable not under the head ‘Salaries’ but under the head ‘income from other sources’ even if they accrue to the employee by reason of his employment or while he was discharging his normal duties, e.g., amount received by a professor of a college for acting as an examiner in a university. 
For example, Dr. Dhir is an employee of a leading physician of Delhi. In one case, the patient’s life was saved because of the hard work and intelligence of Dr. Dhir. The patient, therefore, gives 5,000 to Dr. Dhir in appreciation of his services. The amount in this case is not chargeable as ‘salary’ but constitutes income from other sources.

G. Place of Accrual of Salary Income

Salary accrues at that place where the services are rendered. If the services are rendered in India, the salary accrues in India and if the services are rendered outside India, the salary accrues outside India. Thus, if a person employed in India goes on leave to England and gets his leave salary there, the salary is said to accrue in India and not in England, because it is paid for services rendered in India. Pension paid in a foreign country for services rendered in India, will be Indian income, as it is paid for the services rendered in India although in the past. On the other hand, if any person is employed in India and transferred to its branch in England, the salary received by him in England is not Indian income, but it is income arising in England as the service is rendered in England. Followings are the two exceptions to this rule

A pension payable outside India to a person who has gone to foreign country for permanent settlement is not deemed to arise in India, if pension is payable to a person appointed by the Secretary of State or to a person who was appointed before 15th August 1947, as a judge of the Federal Court or of a High Court and who continued to serve on or after the commencement of the Constitution as a judge in India. This is a special concession granted to certain officials of Government, who were employees before independence but continued to serve after this. 
The Govt. of India employs Indian citizens for services to be rendered in foreign countries and salary paid outside India is deemed to accrue or arise in India. This provision helps in taxing the salaries received by Government servants posted abroad. But under Section 10(7) the allowances and perquisites paid or allowed by the Government outside India are to be excluded from total income.

H. Deductions made by the Employer

If, an employer makes certain deductions out of the salary payable to an employee, amount so deducted is deemed to be received by the employee and the amount so deducted is also taken as application of income by the employee. Some important types of deductions made by the employer are as follows :

1. Deductions made to recover the loan advanced by the employer.

2. Employee’s contribution towards the provident fund, income-tax and profession tax.

3. Deduction made to pay the premium on life insurance policy of the employee.

4. Any other deduction for which the employee has authorised the employer.

In case an employee receives his salary after certain deductions made by employer on account of profession tax, contribution to provident fund, tax deducted at source, the ‘salary’ will not be the net amount received, rather it will be the gross salary due to the employee.

I. Salary or Pension received by UNO Employees

It is fully exempted as per circular No. 293 Dt. 10-2-81.

J. Salary received by a teacher / researcher from a SAARC member State

Exempted upto 2 years.

K. Salary as Partner

Any salary, commission or remuneration received by a working partner from a firm assessed as firm shall not be taxable under the head ‘Salaries’. It is taxable under the head Profits & Gains.

L. Payments received by Legal Heirs of a Deceased Employee

Any ex-gratia payment or compensation given to widow or legal heirs of an employee who dies during service is not taxable as salary income but family pension received is taxable under ‘other sources’.

M. Payment made after Cessation of Employment

Payment made by an employer to his employee after the cessation of his employment is also taxable under the head ‘Salaries’. It is taxable under this head because it represents remuneration for services rendered in the past.

N. Voluntary foregoing : Application of Salary

Voluntary foregoing of salary by an employee is simply an application of income by him and, therefore, any voluntary foregoing of salary is taxable when it is due, whether paid or not (Section 15). The salary which is voluntarily foregone must be actually due in the name of the employee. Voluntary foregoing is different from voluntary surrender of salaries which is exempted from tax.

O. Previous year for Salaries

The previous year for the income under the head ‘Salaries’ shall always be financial year of the Government of India (i.e., April to March).

P. Taxability of salary on due or receipt, whichever is earlier basis

U/s 15(a) salary is taxable on due basis whether received or not. Salary becomes due after doing work and in India it is due on monthly basis. Every employee gets salary on completion of a month. As per our financial system the year starts on 1St April and ends on 31st March. As such first salary for the month of April becomes due on 1st day of next month. But in some cases salary becomes due on the last day of the month and salary for the month of April shall be due on 30th April. This results into following two situations :

If salary is due on 1 st. day of the month, during the financial year 2013-14 first salary shall be due on 1st April 2013 and it shall be for the month of March 2013 and last salary shall be due on 1st March 2014 for the month of February 2014.

If salary is due on the last day of the month, during the financial year 2013-14 first salary shall be due on 30th April 2013 and it shall be for the month of April 2013 and last salary shall be due on 31st March 2014 for the month of March 2014.

Q. Salary Grade / Pay Scale

In some organisations like Government offices, Banks, Post Offices, Railways, Universities, Colleges etc. salary to employees is paid as per pay scales or salary grades. The pay sc,les fixes the starting salary of an employee and also the annual increment in future years of employment. 
The annual increment is granted to employee after completion of one full year of service e.g. if an employee joins his service/job on 1st September 2010, he will be granted 1st annual increment w.e.f. 1st September 2011. 
Example of Grade/Pay Scale 
8,000-300-11,000 
12,000-500-20,000 
The amount mentioned in between two big amounts is known as annual increment i.e. the salary of employee will increase by this amount on the completion of every 12 month of his job.
Example. Mr. A joined his job on 1st September 2009 in the grade of 12,000-500-20,000. Find out his salary for the previous year 2013-14.

R. Advance salary received

In case an assessee receives some salary in advance in a previous year which was actually not due in that year, it shall be taxable in the year of receipt. In case, any loan or advance is taken it is not treated as advance salary.

S. Arrears of salary received

Any amount of salary received from present or past employer during relevant previous year and which relates to some earlier previous years, is treated as arrears of salary. It is taxable in the year in which received and not the year to which it belongs. [C.I.T. v. Gajapathy Naidu (1964) 58 I.T.R., 114 (S.C.)]. In case assessee has to pay tax at a rate higher than that at which he would have paid, had these arrears been received in the year to which they belong, assessee can apply to Income-tax Officer for relief u/s 89(1) (Refer to Chapter 2 of part III of this book).

T. Salary in Lieu of notice

To terminate the services of an employee it is essential to serve a notice as per service agreement. In case it is desired to relieve the employee immediately, he is given salary in lieu of such notice period. Such amount is fully taxable under the head ‘salaries’ on receipt basis.

5. List of Different Forms of Salary for Computation of Income under the head ‘Salary’

Basic Salary

Taxable.

Dearness allowance / Pay

Taxable.

Advance Salary

Taxable in the year of receipt.

Arrears of Salary

Taxable in the year of receipt, if not taxed on due basis earlier.

Leave Encashment while in Service

Taxable.

Leave encashment at the time of retirement or at the time of leaving the job

  1. In case of Government employees. it is fully exempt from tax.

  2. in case of non-Government employees, it is exempt from tax to the extent of the least of the following:

    1. Cash equivalent of leave salary in respect of the period of earned leave at the credit of employee at the time of retirement (which cannot exceed 30 days’ “average salary” for every completed year of service); or

    2. 10 months “average salary; or

    3. Amount specified by the Government, i.e., Rs. 3,00,000; or

    4. Leave encashment actually received at the time of retirement.

Notes.

  1. Government employee for this purpose is a Central Government employee or a State Government employee.

  2. “Average salary” for this purpose is to be calculated on the basis of average salary drawn during the period of 10 months immediately preceding the retirement.

Salary in lieu of notice

Taxable

Salary to Partner

Not chargeable under the head “Salaries” but taxable under the head “Profits and gains of business or profession”.

Fees and Commission

Taxable.

Bonus

Taxable on receipt basis if not taxed earlier on due basis.

Gratuity

  1. In case of Government employee it is fully exempt from tax.

  2. In case of non-Government employee covered by the Payment of Gratuity Act, 1972 it is exempt from tax to the extent of the least of the following:

    1. 15 days’ salary for each year of service (or part thereof exceeding 6 months);

    2. Rs. 10,00,000; or

    3. Gratuity actually received.

  3. In case of non-Government employee (not covered by the Payment of Graft liv Act) it is exempt from tax to the extent of the least of the following:

    1. Rs. 10,00,000;

    2. Half month’s salary for each completed year of service; or

    3. Gratuity actually received.

Note – “Average salary” for this purpose is to be calculated on the basis of average salary drawn during the period of 10 months immediately preceding the month in which the employee has retired

Pension

Uncommuted pension is taxable in all cases. Commuted pension is fully exempt from tax in the case of a Government employee (i.e.. an employee of the Central Government, State Government, local authority and statutory corporation).

In the case of non-Government employee, commuted pension is exempt to the extent given below —

  1. 1/3 of normal pension is exempt if the employee receives gratuity; or

  2. 1/2 of normal pension is exempt from tax if the employee does not receive gratuity.

Pension under new pension scheme in the case of a Government employee or any other employee joining on or after January 1, 2004 .

  1. Employer’s contribution is first included in salary and then a deduction is available (to the extent of 10 % of salary) under section 80CCD.

  2. Employee’s contribution is deductible under section 80CCD to the extent of 10 % of salary.

  3. When pension is received out of the aforesaid amount, it will be taxable in the year of receipt.

Annuity from employer

Taxable as salary.

Annual accretion to the credit balance in recognized provident fund

  1. Excess of employer’s contribution over 12% of salary is taxable.

  2. Excess of interest over notified interest is taxable (notified rate of interest is 9.5 % ).

Retrenchment compensation

Exempt from tax to the extent of least of the following:

  1. Amount calculated under section 25F(b) of the Industrial Disputes Act; or

  2. An amount specified by the Government (i.e., Rs. 5,00,000).

When compensation is paid under any scheme approved by the Central Government, these limits are not applicable and the entire amount is exempt.

Remuneration for extra duties

Fully taxable under section 15.

Compensation received under Voluntary Retirement Scheme (VRS)

Exempt up to Rs. 5 lakh, if a few conditions are satisfied.

One of the conditions is the amount payable on account of voluntary retirement or voluntary separation of the employees does not exceed

  1. the amount equivalent to 3 months’ salary for each completed year of service, or
  2. salary at the time of retirement multiplied by the balance months of service left before the date of his retirement on superannuation. (Relief under Section 89 is not available. )

Salary from UNO

Not chargeable to tax.

Salary received by a Teacher / Researcher from a SAARC member State

Not Taxable up to 2 years