Basics of Income Tax for Beginners

The government collects a portion of your annual income as income tax to finance development projects. Paying income tax for the first time is a milestone in the taxpayer’s life. Hence, understanding income tax fundamentals is crucial for individuals navigating the complex world of income tax. If you are a first-time income taxpayer, this article is for you. Here we explain the basics of income tax, including key concepts.

Let’s start with the basics: what is income tax?

The income tax is a type of direct tax levied on individuals and entities based on the income or profit generated by them. The earning individuals of the country pay income tax in exchange for certain benefits, such as law and order, healthcare, education, infrastructure, etc. 

The income tax is calculated in slabs based on an individual’s income. With proper planning, your tax burden can be reduced or optimised significantly, leaving you with a greater share of your income in hand.

What Are ‘Financial Year’ and ‘Assessment Year’?

Understanding the financial year and assessment year is critical for IT returns filing. 

Financial year: Also called the previous year, the financial year is a cycle of 12 months starting in April of the current year and ending in March of the next year. For instance, the current financial year started in April 2023 and will end in March 2024. For the purpose of calculating income tax, the tax is fixed from April to March, irrespective of your employment start date.

Let’s understand with an example.

Suppose you joined a company in August 2022. Hence, your first income tax year will be calculated from April 2022 to March 2023. You’ll be taxed for the months of August 2022 to March 2023.

So, the financial year denotes the period for which the tax is paid.

Assessment year: It is the financial year following the previous year in which you will assess and file your Income Tax Return for the previous year. So, for the financial year 2022–23, the assessment year is 2023–24.

Based on the example above, your previous year is 2022–23, and your assessment year is 2023–24.

Income on Which Tax Needs to Be Paid

Following are the types of income taxed under the Income Tax Act, 1961.

1. Salary income: It includes your salary, allowances, leave encashments, bonuses, and other cash components that you may receive from your employer for rendering your services to the organisation.
2. Income from a house or property: If you are earning income from your house through renting a self-owned property, it is included in your income from the property/house.
3. Income from capital gain: Profit or loss on selling capital assets/investments such as stocks, mutual funds, etc.
4. Income from a business or profession: It includes the income you earn, if any, from a business or profession along with your job.
5. Income from other sources: It includes income earned on your savings account, interest on bank deposits, gifts, etc.

Tax Deductions

Understanding the concept of deductions is critical to calculate income tax. Deductions help reduce your tax liabilities, so you have more money in your pocket. The total taxable income is calculated after subtracting all deductions from gross income.

Total taxable income = gross income – total deductions 

The higher the deductions, the lower your taxable income. 

Tax Exemptions

Tax exemptions are monetary exclusions that can help reduce your taxable income. The exemptions allow you to exclude some or all of your income from being taxed. These give you some tax relief and also ensure that only a portion of your income is calculated for tax.

Standard Deduction:

The standard deduction is a flat deduction from your total salary earned by all the employers you have worked with in a particular financial year. In other words, it is a flat deduction on the cumulative salary you earned from all your employers.

A standard deduction of ₹50,000 is given to the income taxable under the heading ‘salaries’ for FY 2023–24.

Relief Under 80C

Under Section 80C, you can deduct ₹1,50,000 yearly from your gross income by investing in 80C qualified investments:

• Public Provident Fund (PPF)
• Employee Provident Fund 
• Tax-saving Fixed Deposit 
• Equity-linked Savings Schemes 
• Insurance Premium

Tax Slabs

Once you have calculated your taxable income, you can estimate the tax you must pay. 

Taxpayers can select either the old or the new tax regime, introduced in Budget 2020, depending on their income and deductions. Here are the tax slabs for both tax structures.

Old Tax Regime

New Tax Slab

Additionally, a 4% Health and Education Cess is levied on the calculated income tax amount computed on the taxable income.

Final Words

Grasping the basics of income tax will help you navigate your financial obligations confidently and calculate your income tax obligations. Understanding key concepts and obligations ensures compliance and enables informed financial decision-making.

FAQs

What is income tax?

Income tax is levied by the government on the income earned by individuals, businesses, and other entities and collected by the Income Tax Department. It is calculated based on the taxable income after deducting allowable deductions and exemptions.

How is income tax calculated in India?

The income tax is calculated after deducting applicable deductions and exemptions. The taxable income is taxed as per the brackets mentioned in the old and new tax regimes.

What are deductions and exemptions?

Deductions and exemptions are provisions that reduce taxable income, thereby lowering the overall tax liability.

Why should I file my income tax return?

IT returns filing helps you meet your tax obligations and also receive returns for TDS deducted from your income.