How To Optimise Your Salary Structure To Save Tax…   Dec 14, 2016

It's that time of the year again and Rohan is scrambling to find different ways to save on tax. As a senior consultant with a multi-national company, he earns a pay package of Rs 12 lakh per annum. His net taxable salary after all deductions, adds up to around Rs 6.70 lakh p.a – this is after exhausting the limit of Rs 1.50 lakh available under Section 80C.

He feels helpless and perceives there are no other options left amid a time when he has to file an investment declaration with the HR department of the organisation he serves. As result, his current direct tax outgo works out to Rs 64,746.

Like Rohan, many salaried individuals, fail to look beyond Section 80C. The income declaratnion form covers certain sections of the Income-tax Act, 1961, but is not the only route to save tax. It would be prudent to avail the benefits of the other Sections as well, so as to ultimately reduce the tax outgo. It's important to optimally restructure you salary!

But, before we explain how to restructure your salary to save on tax, let's first look at Rohan's current salary structure to understand how the components thereto influence the taxable income.

Rohan's employer offers him allowances: house rent allowance, leave travel allowance, conveyance allowance, and medical reimbursements. The total exemption limit available under these heads works out to Rs 3.58 lakh. However, he is able claim only Rs 2.38 ,lakh. This, along with the investments of Rs 1.50 lakh under Section 80C, reduces his net taxable income to Rs 8.09 lakh. On this income, he has to pay tax of Rs 89,466 or Rs 7,455 per month. Here's the calculation…

Tax Computation (in Rs)
Gross Salary 1,200,000
Salary Structure  
Basic Pay 600,000
EPF Contribution @12% 72,000
House Rent Allowance 300,000
Leave Travel Allowance 24,000
Conveyance Allowance 19,200
Medical Reimbursement 15,000
Other Allowance 169,800
Exemptions Allowed  
House Rent Allowance (Section 10 (13A)) 180,000
Leave Travel Allowance (Section 10 (5)) 24,000
Conveyance Allowance (Section 10(14)) 19,200
Medical Reimbursement (Section 17(2)) 15,000
Total Exemptions under Section 10 & 17 238,200
   
Profession Tax 2,500
   
Income chargeable under the head Salary 959,300
   
Deductions under sec 80C 150,000
   
Net taxable income* 809,300

Tax Slabs Tax rate  Applicable Amount  Balance  Tax
0- 250000 0% 250,000 559,300 -  
250001 - 500000 10% 250,000 309,300 25,000
500001 - 1000000 20% 309,300 -   61,860
> 1000000 30% -     -  
Tax on Income 86,860
Education Cess @3% on Income tax payable 2,606
Total Tax Liability 89,466
Tax per Month 7,455
Note: *Assuming income from salary is the only source of income

 The reason Rohan wasn’t able to avail complete exemption for the allowances was because the different components in his salary were not optimally structured. To understand the different components of the salary structure, read on …

Basic Salary: The basic pay forms the base component for other benefits such as provident fund, House Rent Allowance (HRA), etc. While a higher basic means higher benefits, on the flip side, it is fully taxable. Therefore, it is necessary to have an ‘optimal’ basic salary. A very high basic salary may result in a higher tax outgo. Therefore, you need to maintain the right balance.

HRA: If you live in a rented house / accommodation and your organisation provides you HRA benefits, you can use it for lowering your tax liability. Likewise, if you stay with your parents in an accommodation owned by them, you could pay them rent.

The maximum amount that can claimed as an exemption under HRA is the least of –

  1. Actual HRA; or
  2. Rent paid in excess of 10% of basic salary + Dearness Allowance (DA) if in terms of service; or
  3. 50% of basic salary + DA in case of Chennai, Delhi, Kolkata, Mumbai (40% of salary + DA in case of other cities)

Therefore for Rohan to claim full HRA of Rs 3.00 lakh, he needs to pay a minimum rent of Rs 30,000 p.m. or Rs 3.6 lakh p.a. (Total rent paid:Rs 3.6 lakh; 10% of basic: Rs 60,000; Rent paid in excess of basic=Rs 3.6 lakh-Rs60,000 = Rs3 lakh). If Rohan stayed in a self-occupied house, he is not entitled to any HRA deduction and the entire HRA amount is taxable. Had he taken a loan to own this property, he could have claimed tax deductions on the home loan.

Unfortunately, Rohan pays Rs 20,000 p.m. as rent and though he is eligible for HRA, he is unable to claim the full amount. Therefore, it would make sense for Rohan to reduce his basic and HRA. He and his employer can explore other allowances to balance out the gross salary.

Leave Travel Allowance (LTA): As a salaried individual, you can claim LTA for any journey made either alone or with dependent family members in India. The maximum amount you can claim is the least of:
  1. The amount actually incurred; or
  2. The amount of LTA allowed

The exemption extended is for two journeys performed in a block of four calendar years. The current block is 2014-2017. It is vital to note that the exempted amount is restricted only to expense incurred on travelling to the destination and does not include expenses such as hotel bills, food, etc.

Transport allowance: Expenses incurred to commute between your home and work place is also exempt from tax. The maximum amount that is exempt is Rs 1,600 per month.

Medical reimbursement: Expenses incurred by you or your family for medical purposes can also help in reducing the tax liability. A maximum of Rs 15,000 can be claimed every financial year on account of medical expenses. But to claim this, you are required to submit, to your employer, the medical bills for the financial year stating the total amount you intend to claim.

Rohan has claimed all the exemptions that are allowed. So, what else can his employer include through which he can save tax? Well, here’s a list of it in the table below:

Exempt Salary Allowances
Allowance Exemption Maximum limit
Children Education Allowance Rs 100 per month per child up to a maximum of two children Rs 2,400 p.a. for two children
Children Hostel Expenditure Rs 300 per month per child up to a maximum of two children Rs 7,200 p.a. for two children
Conveyance Allowance Allowance granted to meet the expenditure on conveyance in performance of duties of an office Exempt to the extent of expenditure incurred
Research Allowance Expenditure incurred for encouraging the academic research and other professional pursuits Exempt to the extent of expenditure incurred
Meal Vouchers Food in office premises or through non-transferable paid vouchers usable only at eating joints provided by an employer is not taxable, if cost to the employer is Rs 50 (or less) per meal Depends on the number of working days. If a company works 25 days a month, the amount will work out to Rs 2,500 p.m. (Rs 50*2 meals *25 days) or Rs 25,000 p.a.
Gift Voucher Gifts in cash or convertible into money are fully taxable
b) Gift in kind or vouchers up to Rs.5,000 in aggregate per annum would be exempt, beyond which it would be taxable.
Rs 5,000 p.a.
Mobile/telephone reimbursement Expenses on telephones including a mobile phone incurred by the employer on behalf of employee shall not be treated as taxable perquisite. Exempt to the extent of expenditure incurred
Newspaper and periodicals Subscription or purchase of newspapers, books and periodicals relating to your profession are fully exempt against actual bills Exempt to the extent of expenditure incurred
Motor Car Allowance The maintenance and running expenses are fully exempt under certain conditions for a car owned by the employer or employee. Out of the total expenses, only a very small portion may get taxed subject to certain conditions
(Source: incometaxindia.gov.in, PersonalFN Research)

Here's how Rohan can restructure his salary to reduce his tax outflow…

First, reduce the basic pay to Rs 4.8 lakh. Thus, his HRA will fall to Rs 2.4 lakh and can be claimed to the full extent. The only concern is that his contribution to EPF will fall as well, reducing the amount eligible under Section 80C. However, he's not worried as he contributes Rs1 lakh to tax-saving equity mutual funds.

Rohan can get  his employer to include other allowances in his salary structure, through which he can claim exemption. By doing this, he can claim an additional of Rs 36,000 as exempt income through meal vouchers and other allowances. With a higher amount claimed under HRA, his total taxable income falls by as much as Rs 56,000.

Thus, Rohan's tax outgo will be reduced by nearly Rs 12,000 to Rs 77,930 or Rs 6,494 p.m. A lower PF contribution, thanks to a lower basic pay, can take his net in hand salary up by Rs 35,536 p.a. Take a look at the table below…

Tax Computation Current (Rs) Restructured (Rs)
Gross Salary 1,200,000 1,200,000
Salary Structure    
Basic Pay 600,000 400,000
EPF Contribution @12% 72,000 48,000
House Rent Allowance 300,000 200,000
Leave Travel Allowance 24,000 24,000
Conveyance Allowance 19,200 19,200
Medical Reimbursement  15,000 15,000
Other Allowance  169,800 493,800
Exemptions Allowed    
   House Rent Allowance (Section 10 (13A)) 180,000 200,000
   Leave Travel Allowance (Section 10(5)) 24,000 24,000
   Conveyance Allowance (Section10(14)) 19,200 19,200
   Medical Reimbursement (Section 17(2)) 15,000 15,000
   Other exempt allowance   36,000
Total Exemptions under Section 10 & 17 238,200 294,200
     
Profession Tax 2,500 2,500
     
Income chargeable under head 'Salary' 959,300 903,300
     
Deductions under sec 80C 150,000 150,000
     
Net taxable income* 809,300 753,300
     
Tax on Income 86,860 75,660
Education Cess @3% on Income tax payable 2,606 2,270
     
Total Tax Liability 89,466 77,930
Tax per Month 7,455 6,494
Note: *Assuming income from salary is the only source of income

So, Rohan can effectively reduce his taxable income just by restructuring his salary.

But this restructuring is specific to his profile. You need to restructure your salary to suit your needs and expenses. For example, if your job requires you to travel a lot, you can ask them to include a higher conveyance allowance. There's a whole list of other allowances you can consider exploring here.

Apart from exempt allowances, Section 80C; you need to look at under deductions under chapter VIA of the Income-tax Act, 1961. Under Section 80CCD, you can save an additional Rs 50,000 through the National Pension System (NPS). Similarly, under Section 80D, you can claim a deduction of up to Rs 25,000 p.a. for health insurance premiums paid. Your donations to specified funds and charitable trusts too, are exempt (fully or up to 50%) under Section 80G.

Last minute tax planning can lead to lower savings and inefficient investments. PersonalFN is of the view that you need to plan your taxes at the start of the year, to see where you stand and make adjustments accordingly. It is important for you to know the various routes to save tax on your income the legal way. To get started, download our latest tax planning guide here. It will help you cross check whether you are on the right track towards saving on taxes and to take timely action in case you have missed any benefits.



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