Taxation is an interdisciplinary subject that includes accountancy, economics and law. This interdisciplinary nature of taxation and makes it a complex subject to practice. Tax laws are prepared after considering the interests of the taxpayers and the government in addition to considering the international relationships between two and more nations that are subjected to tax rules.
Table of Content
According to Albert Bushnell Hart, Taxation is the price which civilized communities pay for the opportunity of remaining civilized.
Taxes have two attributes namely proportional and progressive. Taxes are said to be progressive as the tax is charged at an increasing rate in accordance with an increase in the income and revenue of a person. Taxes are said to be proportional as the rate of tax levied is in proportion to the amount of income or revenue it is being levied upon.
Tax rates, tax slabs and tax brackets can be changed only by the Government after a relevant Finance Act has been passed by the Parliament.
The major sources of Income-Tax law in India are as follows:
- Income-tax Act, 1961: The Income-tax Act 1961 contains all the major provisions related to Income tax in India.
- Finance Act: Each year, the current Finance Minister presents the budget in the Parliament. The Finance Bill is a part of budget which must be introduced in the Lok Sabha where on the recommendation of the President. The Finance Bill must be passed in the Lok Sabha by a simple majority after which the bill may be sent to the Rajya Sabha for recommendations. The Lok Sabha has the right to reject these recommendations.
If the Rajya Sabha does not give its recommendations within 14 days, the Finance Bill is considered to be passed by Parliament. After this, the Bill is sent to the President of India for his assent. Post President’s assent, the Finance Bill becomes the Finance Act.
- Income Tax Rules, 1962: The highest and the major body which looks after the administration of direct tax is called Central Board of Direct taxes (CBDT). The CBDT is empowered to make all the rules for carrying out the purpose of this act.
- Circulars and notifications: Sometimes, the provisions of an act also need clarification and CBDT is the authority which issues clarification in the form of circulars and notifications from time to time. It also clarifies doubts regarding the meaning and scope of the tax provisions.
Some of the important definitions related to taxation are as follow:
- Person: According to Section 2(31) of the Income-tax Act, 1961, a person includes an individual, a Hindu Undivided Family (HUF), a firm, a company, a local authority, an association of persons or a body of individuals whether incorporated or not and every Artificial Judicial Person not falling within any of the preceding sub-classes as well as Association of Persons or Body of Individuals or a local authority. All these shall be considered as a person whether or not such persons are formed or incorporated or established with the object of deriving income, gains or profits.
- Assessee: As per Section 2(7) of the Income-tax Act, 1961, assessee means a person by whom any tax or any other sum of money is payable under this Act, and includes:
- (a) every person in respect of whom any proceeding under this Act has been taken for the assessment of his income or assessment of fringe benefits or of the income of any other person in respect of which he is assessable, or of the loss sustained by him or by such other person, or of the amount of refund due to him or to such other person;
- every person who is deemed to be an assessee under any provision of this Act;
- every person who is deemed to be an assessee in default under any provision of this Act;
In other words, a person is termed as assessee by the Income Tax Department in the following cases:
– When he has to pay tax, penalty or interest to the Income Tax Department
– If any proceeding has been initiated or done by the Income Tax Department against your income or loss or refund or in respect of any person for whom you are assessable – If you are deemed to be an assessee under the Income-tax Act, 1961 If a person is at default under any of sections of the Income-tax Act, 1961
– If an assessee is entitled to any tax refund
- (a) every person in respect of whom any proceeding under this Act has been taken for the assessment of his income or assessment of fringe benefits or of the income of any other person in respect of which he is assessable, or of the loss sustained by him or by such other person, or of the amount of refund due to him or to such other person;
- Income: Income is the money that a business or a person receives in return for providing a service or product or investing capital. According to Section 2(24) of Income-tax Act, 1961, income includes the following:
(i) profits and gains
(ii) dividend
(iia) voluntary contributions received by a trust created wholly or partly for charitable or religious purposes
(iii) the value of any perquisite or profit in lieu of salary taxable under clauses (2) and (3) of section 17;
(iiib) any allowance granted to the assessee either to meet his personal expenses at the place where the duties of his office or employment of profit are ordinarily performed by him or at a place where he ordinarily resides or to compensate him for the increased cost of living
(iv) the value of any benefit or perquisite, whether convertible into money or not, obtained from a company either by a director or by a person who has a substantial interest in the company, or by a relative of the director or such person, and any sum paid by any such company in respect of any obligation which, but for such payment, would have been payable by the director or other person aforesaid;
(iva) the value of any benefit or perquisite, whether convertible into money or not, obtained by any representative assessee mentioned in clause (iii) or clause (vi) any capital gains chargeable under section 45;
(ix) any winnings from lotteries, crossword puzzles, races including horse races, card games and other games of any sort or from gambling or betting of any form or nature whatsoever.
(x) any sum received by the assessee from his employees as contributions to any provident fund or superannuation fund or any fund set up under the provisions of the Employees’ State Insurance Act, 1948 (34 of 1948), or any other fund for the welfare of such employees;
(xi) any sum received under a Keyman insurance policy including the sum allocated by way of bonus on such policy.
(xiia) the fair market value of inventory
(xviii) assistance in the form of a subsidy or grant or cash incentive or duty drawback or waiver or concession or reimbursement (by whatever name called) by the Central Government or a State Government or any authority or body or agency in cash or kind to the assessee other than,—
(a) the subsidy or grant or reimbursement which is taken into account for determination of the actual cost of the asset in accordance with the provisions of Explanation 10 to clause (1) of section 43; or
(b) the subsidy or grant by the Central Government for the purpose of the corpus of a trust or institution established by the Central Government or a State Government, as the case may be; - Assessment: In case of income tax, assessment refers to the pro- cess of collecting and reviewing the information filed by the assessee regarding their income tax returns. At the end of each financial year, all the business entities and persons must file an income tax return after computing their amount of income earned and the amount of tax due. As per Section 2(8), assessment includes reassessment.
- Assessment year: As per Section 2(9) of the Income-tax Act, 1961, assessment year refers to the period of twelve months commencing on the 1st day of April every year. Assessment year is said to be that financial year where the tax liability of the income of the person is assessed.
- Previous year: Previous year refers to that financial year where the assessee has earned income. Financial year is also called the previous year.
As per Section 3 of the Income-tax Act, 1961, previous year means the financial year immediately preceding the assessment year.
Provided that, in the case of a business or profession newly set up, or a source of income newly coming into existence, in the said financial year, the previous year shall be the period beginning with the date of setting up of the business or profession or, as the case may be, the date on which the source of income newly comes into existence and ending with the said financial year.
Sources of Income
An individual can earn money from multiple sources. However, each source can be allocated to one of the five categories or sources of income namely salary, house property, profit/loss of business, investments or capital assets, and other sources.
Heads of Income
According to Section 14 Income-tax Act, 1961; for charge of income- tax and for computing total income, all the income of an individual can be classified under the following five heads of income: i. Income from house property ii. Income from salary iii. Income from profits and gains of business or profession
iv. Income from capital gains v. Income from other sources
The nature of the income of the first four heads of income is quite evident from their names. However, income from other sources includes all incomes that a person gets from residual sources. Some of the common types of income that are categorised under the head of Income from other sources include: gifts, dividends, lottery and betting, pension income, interest income, etc.
A brief description of the five heads of income is as follows:
- Salaries (Sections 15 to 17): Salary and pension earned by the assessee is taxable under this head.
- Income from house property (Sections 22 to 27): Rental income derived by the assessee is taxable under this head. 3. Profits and gains of business or profession (Sections 28 to 44DB): Income earned from carrying on of business or profession by the assessee is taxable under this head.
- Capital gains (Sections 45 to 55A): Profits arising to an assessee from the sale of capital assets is taxable under this head.
- Income from other sources (Sections 56 to 59): Incomes which are not taxable under the above four heads are to be made taxable under this head. This head is also known as the residuary head of income.
Total Income
While carrying out tax assessment for a person, only a single rate of tax is applicable on the total sum of incomes calculated under various heads of income. However, income under each head of income is calculated differently using different rules. For levy of income tax, it is essential to calculate total income and tax payable. Please note that computation of total income and tax payable has been discussed in detail in later chapters of this book. However, let us briefly study about the founding concepts of total income.
The sum of all incomes computed under the five heads of income (i.e., salary, house property, business or profession, capital gain and other sources) after applying clubbing provisions and making adjustments of set off and carry forward of losses is called as Gross Total Income (GTI).
After calculating the GTI, total income must be calculated. The total income is calculated by subtracting all the allowable deductions under chapter VI from GTI.
Gross Total Income is the sum of all of the income a person receives during a year, whereas Total income is the amount of income that is subject to taxation, after all allowable deductions or exemptions have been subtracted from the Gross Total Income. The deductions have been discussed in Sections 80C to 80U of the Income-tax Act, 1961.
Charge of Income Tax
Section 4 of the Income-tax Act 1961, deals with the charge of income tax. This section provides that:
- Income tax shall be charged in accordance with the rates mentioned in the Annual Finance Act or the Income-tax Act, 1961 or both.
- Tax is charged on every ‘person’ as defined under section 2(31) of the Income-tax Act, 1961
- Tax is charged on the total income earned by a person in the ‘pre- vious year’ as defined under section 3 of the Income-tax Act, 1961
- Income tax is levied and charged in accordance with the provi- sions of the Income-tax Act, 1961
Section 4 is also called as the backbone of the Income-tax Act, 1961 and the tax liability of a person is calculated in accordance with this Section.
Tax Rates and Basis of Charges
Basis of charge refers to the grounds or basis on which the income of a person is chargeable to tax. In particular, the basis of charge defines whether the income of a person is chargeable to tax at accrual basis or receipt/actual basis. The basis of charge for all the five heads of income is different. For example, income from salary is chargeable to tax on due or receipt basis whichever is earlier.
In India, income tax is charged at rates specified in the Annual Finance Act. For AY 2020-21, Finance Act, 2020 is applicable. For different ‘persons’, the rates of income tax have been specified in Section 2 (Rates of Income Tax) and the Part 1 of the First Schedule of Finance Act, 2020. Here, the person may be an individual, Hindu Undivided Family (HUF), Association of Person (AOP), Body of Individual (BOI) or Artificial Juridical Person (AJP), a company (domestic/foreign) or a local authority.