Basics of Income Tax

Taxes are fee charged by a government on a product, income, or activity. If tax is levied directly on personal or corporate income, then it is a direct tax. If tax is levied on the price of a good or service, then it is called an indirect tax. The purpose of taxation is to finance government expenditure.

Income taxes were in existence since ancient times. References of well built taxation system are available in all ancient civilizations, Greek, Roman, or Indus Valley. Both Manu Smiriti and Arthshaastra provide details of variety of taxes levied in ancient India.

A personal or individual income tax is levied on the total income of the individual (with some deductions permitted). It is often collected on a pay-as-you-earn basis, with small corrections made soon after the end of the tax year, which in India ends on 31 March.

These corrections take one of two forms: payments to the government, for taxpayers who have not paid enough during the tax year; and tax refunds from the government for those who have overpaid.

Income tax systems will often have deductions available that lessen the total tax liability by reducing total taxable income. We will discuss these tax saving provisions in other articles, for now let us understand the meaning of “income” as defined in Income Tax Act, 1961.

Income is categorized into and computed under five distinct “heads of income” :

1. Salaries.
2. Income from house property.
3. Profits and gains of business or profession.
4. Capital gains.
5. Income from other sources.

Salaries

Income under heads of salary is defined as remuneration received by an individual for services rendered by him to undertake a contract whether it is expressed or implied. If you are an employee and earn remuneration for the services you render, the remuneration is chargeable under the head ‘salaries’.

Income from house property

It is defined as income earned by a person through his house or land. Please note that, annual value of building or land (i.e the potential of property to generate income) owned by you is chargeable under Income from house property, not on the actual rent received. However, if property is used for making profit in business then it will be taxable not under this head, but will be taxable under head of profit in business/ profession.

Profits and gains of business or profession

The net profit from your business, be it as a manufacturer, a retailer or a commission agent or the net income from your profession, be it as a chartered accountant, a doctor, a lawyer, a management consultant, etc. is computed under this head.

Capital Gains

Heads of capital gain is defined as gains derived on transfer of capital asset. Capital Gain is the profit or gain arising from sale proceeds received or reciviable on the transfer of a capital asset over its cost of acquisition and other costs. A capital asset is property of any kind, a house, a plot, a land, shares, jewellery, etc. Many of us are not aware about capital gains tax, we will discus details in some other articles.

Income from other sources

Income from other sources is a residuary head. Incomes that does not fall under any of the above mentioned heads is charged under this head. It would include interest on fixed deposits, interest on National Savings Certificates (NSC) and Kisan Vikas Patra (KVP), etc and also income coming from winning in lottery, crossword puzzles, races, card games, gambling or other such sports.

The aggeregate of income computed under these heads is called the “Gross Total Income“.

Now that we know what Income means from Tax point of view. In our next article we will discuss some provisions available in Income Tax Act that allows deductions from Gross Total Income. You feeling happy already, 🙂