What is Exempt Income?
Exempt income refers to specific types of income that are not taxable under the provisions of the Income Tax Act. In India, Section 10 of the Income Tax Act of 1961 governs exempt income, which qualifies for non-taxability if it adheres to specific guidelines and conditions.
Exempt income differs from income tax deductions:
- Exempt Income: Fully non-taxable and not included in the taxable income.
- Income Tax Deductions: Amounts deducted from total income to reduce taxable income (e.g., under Section 80C).
Examples of Exempt Income
- Agricultural Income: Income derived directly from agricultural activities.
- Income from Family Settlement: Amounts received as part of family income distribution.
- Interest from PPF: Interest earned through the Public Provident Fund (PPF) is tax-free.
- Leave Travel Concession (LTC): Expenses reimbursed for travel during leave as per company policies.
- Gratuity: Lump-sum payments received on retirement as per Gratuity Act limits.
- Leave Encashment: Compensation for unused leave, subject to exemptions based on retirement or resignation.
- House Rent Allowance (HRA): Tax-free allowance to cover rental expenses (subject to conditions).
- Scholarship Income: Amount received for educational purposes.
- Life Insurance Policy: Maturity or claim amounts from life insurance policies (specific conditions apply).
Eligibility for Exempt Income
- Any taxpayer earning from qualified exempt income sources can avail of the exemption.
- Exempt income must be declared while filing income tax returns, even if no tax liability exists for such income.
Steps for Filing Exempt Income
1. For Salaried Individuals
- Report exempt income such as HRA, LTC, and Leave Encashment under Schedule S of the ITR form.
- Common items to disclose:
- House Rent Allowance (HRA)
- Leave Travel Allowance (LTA)
- Leave Encashment
- Pension Amount
- Gratuity
- Voluntary Retirement Scheme (VRS) Payments
2. For Non-Salaried Individuals
- Report other forms of exempt income, such as dividends and agricultural income, under Schedule EI (Exempt Income).
Key Takeaways
- Disclosure is Mandatory: Even if exempt income does not attract tax, it must be disclosed in the income tax return for transparency.
- Maintain Documentation: Keep proof of income and relevant documentation for audit purposes (e.g., PPF passbook, HRA receipts).
- ITR Form Selection: Choose the correct ITR form based on the type of income earned. For instance:
- ITR-1 (Sahaj): Salaried individuals with exempt income up to ₹5,000.
- ITR-2: If exempt income exceeds ₹5,000 or includes agricultural income above ₹5,000.
By understanding and adequately disclosing exempt income, taxpayers can ensure compliance with the Income Tax Act while optimising their financial benefits.
