Process Of Calculating Income Tax and Surcharge
Income Tax is calculated on the total income of a person during a financial year as per the provisions contained in the Income Tax Act, 1961. Thus, following are the steps involved in the computation of the income and surcharge.
1. Identifying the Residential Status
In order to calculate the total income of the person, it is necessary to identify his residential status. Thus, the time duration for which the person is present in India decides the residential status in case of an individual. Accordingly, he may either be:
- Resident and Ordinarily Resident
- Resident but not Ordinarily Resident
Thus, the residential status of a person helps in determining the income to be taxed by the government.
2. Categorizing Income Under Various Heads
Income Tax Act, 1961 identifies five different heads under which income of a person can be categorized. These include:
- Income from the house property
- Profits and gains from business or profession
- Capital Gains
- Income from other sources
Thus, the taxpayer is required to categorize income earned by him or her during the financial year under the relevant heads mentioned above.
3. Calculating Income Under Various Heads
The taxpayer is required to determine income under each head as per the rules and the provisions of the specific income head mentioned in the Act. Furthermore, there are certain types of income that do not form part of the total income of the person.
Therefore, such income must be excluded from each income head in order to calculate the total income of the person. Such incomes are as follows:
There are certain types of income that are completely exempt from the income tax. These incomes are called as ‘exemptions’.
For example agricultural income is exempted from the levy of income tax. Therefore, these incomes should not be factored while calculating the gross total income of the individual.
Deductions are nothing but the reductions in your total income chargeable to tax. In other words, these deductions reduce your total income chargeable to tax thereby reducing your overall tax liability and thus advocating tax savings.
These deductions are available as a result of the expenses incurred or investments made by an individual taxpayer.Furthermore, there are various types of deductions available under various heads of income.
Hence, such deductions or allowances must be excluded for calculating the total income chargeable to tax.
4. Including Income of Spouse, Minor Child Etc
When it comes to individuals, income tax is charged on the basis of the income tax slab rates prescribed by the income tax department. Since the Indian Tax system is progressive in nature, lower income groups have lesser tax rates whereas higher income groups have a higher tax rates.
In other words, tax rates increase with increase in income of the taxpayer.
Now, in order to reduce the tax liability, taxpayers in the high income bracket redirect a part of their income to their spouse, minor child, etc. Such practices of tax avoidance are prohibited by certain provisions of the government.
Thus, these provisions make it necessary for the taxpayer to include the income of their spouse, minor child, etc. in their own income while calculating their tax liability.
5. Setting Off or Carry Forward of Losses
There are certain losses that can be set off against the profits made both under the same head as well as different heads of income. Therefore, the Income Tax Act allows for same income head as well as inter-head setting off losses in specific cases.
Furthermore, it also allows for carry forward of losses, that could not be set off in the previous year, to the current year. Thus, adjustments regarding these also need to be made to calculate the total income of a person that is chargeable to tax.
6. Calculating Gross Total Income
Thus, to determine the gross total income of a person, income under each head is calculated. This is done after providing for the following provisions:
- Any other adjustments
- Combining income of spouse, minor child, etc.
- Setting off or carry forward of losses
7. Deductions From The Gross Total Income
There are certain deductions that need to be made from the gross total income of a person. These deductions basically include deductions with regards to:
- Certain payments such as rent paid etc.
- Incomes including royalty
- Other income such as interest on deposits in savings account
- Other deductions like the ones available in the case of disabled person
8. Total Income
The total income is the income left after deducting the deductions from gross total income.
9. Application of Income Tax Rate On Total Income
Total income is the income on which income tax rate is charged. Further, the current exemption limit for the income tax is Rs 2.50 Lakhs in case of an individual. This means that the individuals having total income below Rs 2.50 Lakhs are not required to pay any tax on their income.
Further, persons earning income between Rs 2.50 Lakhs and Rs 5.00 Lakhs are required to pay tax at the rate of 5%. Hence, to check the income tax slab rates for various persons you can read the article Income Tax Slabs: Rates For Financial Years 2018 – 19 and 2019 – 20.
Therefore, in order to calculate the income tax liability of an individual, the relevant tax rate is applicable on the total income of a person.
10. Calculation of Surcharge
Once the income tax liability of an individual is calculated, the specific surcharge rate applicable to the individual is levied on the income tax amount so calculated. Thus, where the total income of an individual/HUF/AOP/BOI exceeds Rs 50 Lakhs but does not exceed Rs 1 Crore, surcharge at the rate of 10% is applicable on the tax liability of the person.
Likewise, where the total income of a person exceeds Rs 1 Crore, surcharge at the rate of 15% is applicable on the income tax amount of the person.
11. Surcharge Is Subject To Marginal Relief
Marginal Relief, as the name suggests, is a provision given to the wealthy individuals liable to pay surcharge on the income tax liability, that increases their tax burden. By giving such a provision, the government ensures that the increase in the income tax as a result of the surcharge is not more than the actual increase in the income.
Thus, the difference between the amount of tax payable, including surcharge on the total taxable income and income tax payable on the threshold limit for surcharge should not exceed the actual increase in the total income beyond the threshold limit for surcharge.
In case such a difference is more than the actual increase in the total income beyond the threshold limit for the surcharge, marginal relief is made available to such a taxpayer. This marginal relief is to the extent of the increase in the total income beyond the threshold limit for the surcharge.