How to Calculate Income Tax on Salary

When you start earning a salary, one of the most important things to understand is how income tax works. Income tax is a mandatory payment to the government based on your earnings, and knowing how to calculate it accurately is crucial for effective financial planning. Whether you are preparing to file your tax return or planning for future salary hikes using a hike calculator, understanding the calculation of income tax on your salary helps you avoid any surprises.

This article will guide you through the steps to calculate income tax on your salary, provide examples, and explore the key components that affect your taxable income.

Understanding the Income Tax Structure

In India, income tax is calculated based on income tax slabs defined by the government. These slabs represent different ranges of income, and each range is taxed at a different rate. The government revises these slabs from time to time, generally during the Union Budget announcement.

There are currently two regimes for income tax calculation:

1. Old Tax Regime (with deductions and exemptions).
2. New Tax Regime (lower tax rates but without most exemptions and deductions).

When calculating your income tax, you can choose either regime depending on what benefits you most.

Income Tax Slabs for FY 2023-24 (AY 2024-25)

Old Tax Regime (with deductions and exemptions):

• Income up to ₹2,50,000: No tax
• Income between ₹2,50,001 and ₹5,00,000: 5%
• Income between ₹5,00,001 and ₹10,00,000: 20%
• Income above ₹10,00,000: 30%

New Tax Regime (without most exemptions and deductions):

• Income up to ₹2,50,000: No tax
• Income between ₹2,50,001 and ₹5,00,000: 5%
• Income between ₹5,00,001 and ₹7,50,000: 10%
• Income between ₹7,50,001 and ₹10,00,000: 15%
• Income between ₹10,00,001 and ₹12,50,000: 20%
• Income between ₹12,50,001 and ₹15,00,000: 25%
• Income above ₹15,00,000: 30%

Before calculating income tax on your salary, it’s important to understand how taxable income is calculated.

Steps to Calculate Income Tax on Salary

1. Calculate Gross Salary: Your gross salary includes all the components of your salary package, such as:
   • Basic salaryHouse Rent Allowance (HRA)Special allowancesBonuses
   However, not all of these components are fully taxable, and some can be partially or fully exempt.
2. Consider Exemptions: Some parts of your salary are exempt from tax under specific sections of the Income Tax Act:
   • HRA Exemption: If you live in rented accommodation, you can claim an HRA exemption.
   • Leave Travel Allowance (LTA): You can claim LTA exemption for travel within India.
   • Standard Deduction: A standard deduction of ₹50,000 is available to all salaried employees.
   The exempt portions are deducted from your gross salary to calculate the net salary.
3. Deduct Eligible Deductions: You are eligible to claim deductions under various sections of the Income Tax Act. These deductions reduce your taxable income.
   • Section 80C: You can claim a deduction of up to ₹1,50,000 for investments in instruments like Public Provident Fund (PPF), Employee Provident Fund (EPF), National Savings Certificates (NSC), etc.
   • Section 80D: Deduction for medical insurance premiums paid, up to ₹25,000.
   • Section 24: Deduction on home loan interest up to ₹2,00,000.
   The total deductions reduce your taxable income further.
4. Calculate Taxable Income: Once you’ve considered the deductions and exemptions, the remaining salary is your taxable income. This is the amount on which you will apply the income tax slabs.
5. Apply Income Tax Slabs: Now that you know your taxable income, apply the relevant income tax slab to calculate your tax liability.
6. Add Cess: A 4% Health and Education Cess is levied on the total tax amount.

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Example of Income Tax Calculation (Old Tax Regime)

Let’s assume your gross annual salary is ₹9,00,000.

1. Gross Salary: ₹9,00,000
2. HRA Exemption: Assume HRA exemption is ₹1,00,000
3. Standard Deduction: ₹50,000
4. Total Exemptions: ₹1,00,000 (HRA) + ₹50,000 (Standard Deduction) = ₹1,50,000
5. Net Salary: ₹9,00,000 – ₹1,50,000 = ₹7,50,000

Now, let’s calculate the tax based on the old tax regime slabs.

Income Tax Slabs:

• Income between ₹2,50,001 and ₹5,00,000: 5% of ₹2,50,000 = ₹12,500
• Income between ₹5,00,001 and ₹7,50,000: 20% of ₹2,50,000 = ₹50,000

Total Tax: ₹12,500 + ₹50,000 = ₹62,500

Now, add the 4% cess:

• Cess: 4% of ₹62,500 = ₹2,500
• Total Tax Payable: ₹62,500 + ₹2,500 = ₹65,000

Thus, the total income tax liability for a salary of ₹9,00,000 under the old tax regime is ₹65,000.

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Example of Income Tax Calculation (New Tax Regime)

Now, let’s calculate the income tax for the same salary of ₹9,00,000 under the new tax regime, which has lower tax rates but no exemptions.

1. Gross Salary: ₹9,00,000
2. Deductions and Exemptions: ₹0 (since no exemptions are allowed under the new regime).
3. Taxable Income: ₹9,00,000

Income Tax Slabs (New Regime):

• Income between ₹2,50,001 and ₹5,00,000: 5% of ₹2,50,000 = ₹12,500
• Income between ₹5,00,001 and ₹7,50,000: 10% of ₹2,50,000 = ₹25,000
• Income between ₹7,50,001 and ₹9,00,000: 15% of ₹1,50,000 = ₹22,500

Total Tax: ₹12,500 + ₹25,000 + ₹22,500 = ₹60,000

Now, add the 4% cess:

• Cess: 4% of ₹60,000 = ₹2,400
• Total Tax Payable: ₹60,000 + ₹2,400 = ₹62,400

Thus, the total income tax liability for a salary of ₹9,00,000 under the new tax regime is ₹62,400.

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Old vs New Tax Regime: Which One to Choose?

As you can see from the above example, the tax liability is slightly lower under the new tax regime (₹62,400) compared to the old regime (₹65,000). However, under the old regime, you can claim exemptions like HRA, deductions under Section 80C, and home loan interest, which can significantly reduce your taxable income. The choice between the old and new tax regimes depends on your individual financial situation and the availability of deductions.

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Using a Hike Calculator to Plan Your Taxes

If you’re expecting a salary hike, you can use a hike calculator to understand how the increased salary will affect your tax liabilities. By calculating your new taxable income after a hike, you can plan for higher tax payments or make use of additional tax-saving investments to lower your tax liability.

For example, if your salary increases from ₹9,00,000 to ₹10,00,000 after a 10% hike, you can use the hike calculator to find your new salary and adjust your tax planning accordingly.

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Conclusion

Understanding how to calculate income tax on salary is essential for effective financial planning. By considering the income tax slabs, applying deductions and exemptions, and using tools like a Salary hike calculator, you can accurately estimate your tax liabilities and plan your finances better. Both the old and new tax regimes have their pros and cons, and the choice between them should be based on your financial situation and potential tax-saving opportunities.