How do Deductions Under Section 16 of The Income Tax Act Work?
Section 16 of the Income Tax Act mentions allowances and deductions under your taxable salary. When computing payable taxes from gross income, taxpayers can utilise various allowances and deductions to reduce their tax outgo. Section 16 is applied before your net taxable income. The key benefit of this provision is that it provides tax relief to salaried tax payers.
Read on to know about this section.
Section 16 of the Income Tax Act – Tax Deduction on Salary Income
The following deductions are applicable under this section:
- Standard deduction under section 16
- Entertainment allowance
- Tax on employment/professional tax
The following sections will show the various deductions under section 16 independently so that you can compute your tax savings.
Standard Deduction Under Section 16 (i a)
Standard deduction comes under Section 16 (i a) and is a flat tax deduction allowed on salary income. The primary intent of this deduction was to replace allowances on transport and medical reimbursement of up to Rs. 19,200 and Rs. 15,000, respectively.
In 2018’s budget, India’s finance minister allowed a standard tax deduction of Rs. 40,000 on gross salary. However, this was amended in the Interim Budget 2019. So, taxpayers can now claim the lower of the following amount for a tax deduction on their total salary:
- Total salary amount
- Rs. 50,000
Furthermore, you can claim this tax deduction regardless of your existing spending.
Let us understand how this section works with an example:
Suppose Rahul earns a total salary of Rs. 50,000 in a financial year. In this situation, he will get a standard deduction on his entire salary. On the other hand, Vikas earns Rs. 5.5 lakh in a financial year. Here, he will be eligible to claim a standard deduction of Rs. 50,000. As a result, his taxable income will become Rs. 5 lakh.
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The Benefit of Standard Deduction for Salaried Individuals
The Government of India introduced standard deduction on tax, intending to provide tax relief to salaried people. As mentioned earlier, the limit, which was previously set at Rs. 40,000 was raised to Rs. 50,000 in 2019.
But does this amendment benefit salaried taxpayers more?
Previously, Section 16 of the Income Tax Act allowed reimbursements for medical expenses and conveyance. However, the deductions had a limit of:
- Medical allowance – Rs. 15,000 per year
- Transport expenses – Rs. 1,600 per month (i.e., Rs. 19,200 a year)
Therefore, the total amount that one could claim from their gross salary through such allowances was Rs. 34,200 (Rs. 15,000 + Rs. 19,200).
With this amendment, you get an extra tax benefit of Rs. 15,800 (i.e., Rs. 50,000 – Rs. 34,200).
Mentioned below is an example that will help you understand the process in detail.
Suppose your yearly salary is:
| Basic pay | Rs. 6,00,000 |
| Dearness Allowance | Rs. 2,00,000 |
| EPF contributions | Rs. 25,000 |
| PPF deposits | Rs. 50,000 |
| Transport allowance | Rs. 19,200 |
| Medical allowance | Rs. 15,000 |
| Total Income | Rs. 8,00,000 (Rs. 6,00,000 + Rs. 2,00,000) |
| Gross Income | Rs. 7,25,000 – (Rs. 25,000 + Rs. 50,000) |
Now, taking the previous standard deduction limit in mind, here is how your tax outgo will look:
Taxable income = Gross salary – transport and medical allowance (Rs. 7,25,000 – Rs. 34,200) = Rs. 6,90,800.
Tax outgo as per old tax regime:
Tax on income of up to Rs. 2,50,000 = Nothing.
Tax on income of between Rs. 2,50,000 and Rs. 5,00,000 at 5% rate = Rs. 12,500.
Tax on the remaining income at 20% rate = Rs. 38,160 (20% of Rs. 6,90,800 – Rs. 5,00,000).
Now, after the amendment in the standard deduction limit, your tax outgo will be:
Taxable income = Rs. 7,25,000 – Rs. 50,000 = Rs. 6,75,000.
Tax liability on income up to Rs. 2,50,000 = Nil.
Tax on income between Rs. Rs. 2,50,000 and Rs. 5,00,000 = Rs. 12,500.
Tax on the remaining income at 20% rate = Rs. 35,000 (20% of Rs. 6,75,000 – Rs. 5,00,000).
It is evident that under the new standard deduction limit, you can save substantial taxes. However, note that you will be able to obtain this deduction if you opt for the old tax regime.
Entertainment Allowances Under Section 16 (ii)
If your employer pays you an entertainment allowance, then it is first added to your salary income, and after that, a deduction is provided considering a few criteria. The amount of deduction you can claim entirely depends on your employment nature.
If you are employed with the Central or State Government, deduction on entertainment allowances under Section 16 of the Income Tax Act will be allowed to the lowest amount of:
- Rs. 5,000
- 20% of your basic salary
- Amount of entertainment allowance that you receive
Moreover, your salary must not include any other allowance or benefit to claim this deduction under section 16. Note that the authority calculates this deduction under section 16 based on how much allowance you receive, rather than considering how much you spend on entertainment.
For example,
| Basic salary | Rs. 50,000 a month (Rs. 6,00,000 a year) |
| Amount of entertainment allowance you get | Rs. 1,500 a month (Rs.18,000 a year) |
| Amount of entertainment allowance you use | Rs. 1,000 a month (Rs. 12,000 a year) |
As per this example, here is your available deduction according to this section’s provisions:
- Flat deduction amount – Rs. 5,000
- 20% of basic salary – Rs. 1,20,000 (20% of Rs. 6,00,000)
- Allowance your receive – Rs. 18,000
Clearly, the lowest amount here is Rs. 5,000. So, you will be eligible for a tax deduction of Rs. 5,000.
Note: Even though you did not use the entire entertainment allowance, the amount that your employer paid will be considered for the final calculation of deductions.
Non Government Employee’s Entertainment Allowance Under Section 16
Non-government employees are not eligible for claiming deductions against entertainment allowance under Section 16 of the Income Tax Act. Even members and employees of local authorities or statutory bodies cannot claim entertainment allowance as a deduction.
The facility of claiming deduction against entertainment allowance is solely reserved for employees of state and Central Government.
Tax on Employment/Professional Tax Under Section 16 (iii)
You can claim this deduction on tax on employment as per Section 16(iii) of the Income Tax Act. Here, the amount you pay as a tax on employment is allowed for a tax deduction. However, before proceeding, keep these pointers in mind:
- You have to claim the deduction during the FY in which you paid professional tax to the government.
- The tax that an employer pays for an employee is also eligible for deductions. Here, the said amount will be added to the total salary first. Later this amount will become applicable for deduction under Section 16 of the Income Tax Act.
- There is no upper or lower deduction limit. The deduction entirely depends upon the amount of professional tax that one pays. However, you must know that the State Government cannot levy an annual professional tax of more than Rs. 2,500.
- The interest on professional tax and late fees are not applicable for deduction under section 16.
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How to Calculate Standard Deduction If You Work Under Multiple Employers?
Taxpayers can claim a standard deduction of up to Rs. 50,000 on their total annual income. This is a flat deduction of Rs. 50,000 which does not depend on the number of jobs changed by the employee or the number of employers one is associated with. The standard deduction is available against the cumulative salary an individual has earned from all the employers.
For example, Mrs Singh worked for one employer from April to September 2021. Her total income from this employer was Rs. 3,60,000. After this, she took up a job at another company for 5 months where she earned Rs. 3,50,000. Towards the end of the financial year, she joined a new company in which her salary was Rs. 60,000.
Therefore, her total salary income for that particular financial year was Rs. 7,70,000. This made her eligible for a flat standard deduction of Rs. 50,000 against her cumulative salary.
Steps to Claim Deductions Under Section 16
Section 16 of the Income Tax Act, 1961 allows three types of deductions for salaried employees:
- Standard deduction
- Deduction on entertainment allowance
- Deduction on professional tax charged on the salary
Taxpayers can claim these deductions while filing their income tax returns. Here are steps you can follow to claim deductions:
Step 1: Visit the e-filing portal of the Income Tax Department.
Step 2: Select the ITR as per your eligibility.
Step 3: Fill in the details of your salary under the head “Income from Salary”.
Step 4: Under the same head, you will see the option of three deductions. Fill in the deduction amount under the respective section.
After you claim the deductions from your gross income, your taxable income will get computed automatically.
Impact of Standard Deduction on Pensioners
As per the Income Tax Act, a pension received from past employers or companies is considered as “income from salary”. Hence, a pensioner is also liable to claim deductions on the total pension amount just like a working salaried employee claims deductions on his/her salary.
The maximum limit for deduction is Rs. 50,000 for pensioners as well. This facility provides a big relief to pensioners by helping them reduce their tax liability.
Limit on Standard Deduction Amount
The upper limit in case of standard deductions is Rs. 50,000, irrespective of how high an individual’s salary is. However, if one’s net salary is lower than Rs. 50,000, the amount of deduction one can claim will be equal to his/her salary amount.
Differences between Standard Deductions Under Section 16 and Deductions under Chapter VI (A) of the Income Tax Act
Here are some differences between the deductions under section 16 and Chapter (VI) A:
| Parameter | Standard deduction | Deductions under Chapter VI A |
| Application | These are applied as a flat deduction amount irrespective of one’s salary. | Deductions under chapter VIA depend on the investment value or expenses that one incurs. |
| Maximum amount | One can claim standard deductions of up to Rs. 50,000. | Deduction under chapter VIA of the IT Act is different for every section. For section 80C it is Rs. 1,50,000, and for section 80D it is Rs. 25,000. |
| Who can claim | Only salaried employees and pensioners are eligible to claim standard deductions. | Any taxpayer can claim deductions under chapter VI A. It is applicable to the total gross income of the taxpayer. |
Documents Required to Claim Standard Deduction Under Section 16
Individuals are not required to submit any documents to claim standard deduction u/s 16 of the Income Tax Act. It is a basic deduction that salaried individuals can avail from their salary income.
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Final Word
If you are a salaried individual, a proper understanding of Section 16 of the Income Tax Act is crucial. Go through the above sections to lower your taxable income and, thus, your tax liability.
FAQs
Ans: No, if you are a non-government employee, you are not eligible to claim a deduction for entertainment allowances. This deduction is only applicable for government employees under certain criteria. Even employees of statutory corporations and local authorities are not eligible to claim this deduction.
Ans: As per the previous provisions, taxpayers had to provide medical bills and travel expenses proof to claim a standard deduction. However, since the amendment to this section, you need not submit any bills to claim the standard deduction.
Ans: While filing ITR, you can either choose the ‘Prepare and Submit Online’ option or the ‘Download Utility’ option. In the first option, you will see that all details are already filled-in. You just need to double-check the details and then file ITR. In the latter option, you need to enter the relevant details and then file ITR.
Ans: The amount of professional tax entirely depends on the Indian state in which you work. Different state governments apply different professional tax rates on salary income. However, note that the government cannot levy a professional tax of more than Rs. 2,500 annually.
Ans: No, as per the provisions under Section 16 of the Income Tax Act, you cannot claim a standard deduction on salary taken from two employers at the same time. So, if you change your employer, the IT department will consider the aggregate salary you earned during this particular FY.
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