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Considering TDS on Other Income while calculating tax on salary – Part II
In the previous post, we said TDS on Other Income poses a problem to the employer from the point of view of issuing Form 16 and filing Form 24Q.
What is the problem?
In both Form 16 and the annexure in Form 24Q for the last quarter, the details of Other Income can be displayed, but there is no provision to display details of TDS on Other Income. As a result, in both Form 16 and Form 24Q, it would look as though there is a shortfall in tax deducted by the employer while in reality it is not the case. Let us take a look at an example to examine this.
A male employee receives an annual taxable salary of Rs 900,000 after all deductions. The employee has Other Income of Rs 100,000 and the TDS deducted on Other Income is Rs 10,000 (10% on Rs 100,000).
The total income including salary and Other Income is Rs 10,00,000 (Rs 900,000 plus Rs 100,000) for the year and the total tax on Rs 10,00,000 is Rs 158,620 for the year.
If the employer considers TDS on Other Income and deducts tax on salary accurately, the Form 16 issued by the employer will have the following amounts.
| 11. Total Income (8 – 10) | Rs. 10,00,000 |
| 12. Tax on Total Income | Rs. 154,000 |
| 13. Add Surcharge | Rs. 0 |
| 14. Add Education Cess | Rs. 4,620 |
| 15. Tax Payable (12+13+14) | Rs. 158,620 |
| 16. Relief under section 89 (attach details) | Rs. 0 |
| 17. Tax payable (15-16) | Rs. 158,620 |
| 18. Less | |
| (a) Tax deducted at source u/s 192(1) | Rs. 148,620 |
| (b) Tax paid by the employer on behalf of the | |
| perquisites u/s 17(2) | |
| 19. Tax Payable/(Refundable) (17 – 18) | Rs. 10,000 |
In the Form 16 excerpt presented above, the total income (No. 11) comprises both salary and Other Income while tax deducted (No. 18) contains only the amount deducted by the employer. There is no provision in Form 16 and Form 24Q to present TDS on Other income. As a result, No 19. above shows a Tax Payable amount of Rs 10,000. This, of course, is the TDS on Other Income and not the tax payable.
By taking a look at just Form 24Q — in its current format — the income tax department will not be able to figure out whether the Tax Payable figure is as a result of a genuine under deduction of tax by the employer, or due to TDS on Other Income.
If the tax department raises a query on the Tax Payable figure, the employer can always explain the same by submitting information on TDS on Other Income submitted by the employee. Instead of the tax department and the employer wasting time on raising and answering the query, why can’t the tax department simply modify the format of Form 16 and Form 24Q to include TDS on Other Income?
That way, the Tax Payable amount in Form 16 and Form 24Q will become zero and there will be no room for any doubt.
Considering TDS on Other Income while calculating tax on salary – Part I
Section 192 of the Income Tax Act allows employers to consider employees’ Other Income and TDS on Other Income while calculating tax on employee salary. The relevant excerpt from Section 192 is presented as follows. Click here to see the source.
[(2B) Where an assessee who receives any income chargeable under the head “Salaries” has, in addition, any income chargeable under any other head of income (not being a loss under any such head other than the loss under the head “Income from house property”) for the same financial year, he may send to the person responsible for making the payment referred to in sub-section (1) the particulars of—(a) such other income and of any tax deducted thereon under any other provision of this Chapter;
(b) the loss, if any, under the head “Income from house property”,
in such form and verified in such manner as may be prescribed69, and thereupon the person responsible as aforesaid shall take—
(i) such other income and tax, if any, deducted thereon; and
(ii) the loss, if any, under the head “Income from house property”,
also into account for the purposes of making the deduction under sub- section (1) :
Provided that this sub-section shall not in any case have the effect of reducing the tax deductible except where the loss under the head “Income from house property” has been taken into account, from income under the head “Salaries” below the amount that would be so deductible if the other income and the tax deducted thereon had not been taken into account.]
Payroll managers have to keep in mind the following conditions imposed by Section 192 while considering Other Income and TDS on Other Income.
| 1. | The employee should submit a declaration under Rule 26B with details of Other Income and TDS on Other Income, to the employer. |
| 2. | The employee cannot declare a loss under any “Other Income” other than “Income from House Property.” |
| 3. | The addition of TDS on Other Income should not reduce the tax deductible on salary. |
The first two conditions are easy to understand. Let us take a look at the third condition by way of an example.
A male employee receives an annual taxable salary of Rs 200,000 after all deductions. As per the income tax rates prevailing for the financial year 2010-11, the total annual tax on salary, including Education Cess, is Rs 4,120. The employee has Other Income of Rs 200,000 and the TDS deducted on Other Income is Rs 40,000 (20% on Rs 200,000).
The total income including salary and Other Income is Rs 400,000 (Rs 200,000 plus Rs 200,000) for the year and the total tax on Rs 400,000 is Rs 24,720 for the year. Please note that the total tax including Education Cess (Rs 24,720) for the year is less than the TDS of Rs 40,000 deducted on Other Income. Just because the TDS on Other Income is higher than the total annual tax, the employer cannot ignore deducting the tax on salary.
According to Section 192, the TDS on Other Income should not have the effect of reducing the tax deductible under the head “Salaries” except where the loss under the head “Income from house property” has been taken into account, and hence the employer will have to deduct Rs 4,120 as TDS on salary.
Payroll managers can consider TDS on Other Income for the sake of calculating tax on salary. However, from the point of view of issuing Form 16 and filing Form 24Q, TDS on Other Income poses a problem to the employer. We will discuss that in the next post.
Definition of pay period: Let “month” mean “calendar month”
In India, the most frequently used pay period (the length of time for which salary is calculated) is monthly.
How does one define “monthly?”
Some organizations define monthly as calendar month, while other organizations specify their own dates to define month – for example, from 21st of a month to the 20th of next month. In addition, in some organizations, some heads of pay may be calculated for a calendar month, while some other heads may be calculated for a different monthly period, i.e. 21st t0 20th. Whatever the month definition, salary payments typically happen on the same day, for example, the last working day of the calendar month.
Why do organizations specify their own dates while defining month for salary computation? Here are the reasons we have come across.
1. “Greater hold” over employees
A business process outsourcing company, known to us, defined 21st to 20th as its salary month, while the salary payment happened on the last working day of the month. When we asked them why they adopted 21st to 20th as the period for salary computation, the company said they wished to “retain” 10 days’ (from 21st till the day salary is paid) salary and this would discourage employees from leaving the company without any notice since their 10 days’ salary was with the company.
Whatever happened to values such as employee friendliness and trust!
2. Administrative convenience
Payroll managers typically process payroll by the 26th or 27th of a month and by specifying 20th as the last day of the month, they can receive all the inputs on time for payroll processing. In case the month is defined as calendar month, payroll managers, when they process payroll, may not know, for example, if there will be loss of pay for an employee after the 26th, the date of payroll processing. The payroll in such cases may be processed with the assumption that there will be no loss of pay for the month after the date of payroll processing.
We believe defining the month as anything other than calendar month leads to problems in salary processing and statutory compliance. It is best if month is defined as calendar month whenever salary is paid monthly.
Let us take a look at the problems faced by payroll managers when they do not follow calendar month but define their own month for salary computation.
1. Difficulty in salary computation
When the pay period is spread across 2 calendar months, what should be the base number days for pay computation? We described the different bases of pay computation here and here. The calendar day logic will not work if the salary month is different from calendar month, while adopting a standard number of base days — such as 30 or 25 — for salary computation could lead to flawed salary calculation as described here.
Of course, one can always write a formula in a payroll software, input the exact number of worked days for employees and the total number of pay days and calculate pay, if the salary month is defined as 21st to 20th or 26th to 25th for that matter. However, in such cases, implementing an automated arrear calculation, by way of formula, in the payroll software may not be possible and the payroll manager adopting 21st to 20th as the salary month may have to compute arrear salary manually. In addition, non-calendar salary months may lead to incorrect computation of loss of pay amounts and loss of pay reversals.
2. Issues with income tax calculation
The tax year is April 1 to March 31 as per the tax law. If a company defines its pay period as, say, 25th to 24th, compliance with the tax law may be difficult. In the month of March, the company’s salary month would end on March 24 (for the month February 25 to March 24). If salary for the period March 25 to March 31 accrues in the books of accounts of the company for the March month, the company will have to calculate income tax on salary for that period as per the rates prevailing for the year ending March 31. If for the salary paid for the period March 25 to April 24, tax rates are applied as per the rates prevailing in the new tax year starting April 1, the company may be calculating tax in contravention to Section 15 of the Income Tax Act. As a consequence, the Form 16 may present incorrect data regarding salary paid and income tax deducted.
3. Issues with provident fund/ESI calculation
Month, as specified by the laws governing Provident Fund (PF)/ESI, is the calendar month. If a company follows 21st to 20th as salary month, the amount remitted to the PF/ESI department may be different from the PF/ESI amount which should be accrued in the books of accounts since the PF/ESI amount for a calendar month could be different from the PF/ESI amount payable for the month, from 21st to 20th.
If new PF or ESI deduction rates are mandated by the respective departments from a certain month, computation of PF/ESI deductions may be incorrect if a company follows non-calendar month for pay computation. For example, let us assume that a new PF deduction rate, say, 15% of Basic pay comes into effect from March 1 of a PF year. If a company follows January 21 to Feb 20 as the salary month, the PF amount for salary paid for Feb 21 to Feb 28 may be calculated at 15% (the new rate) in March payroll run while the new PF rate comes into existence only from March 1 (and not February 21).
Using the calendar month is fine, but what if the payroll inputs are not available by the time payroll is run?
This is a valid issue. The only way to tackle this is to make certain assumptions while running the payroll and make adjustments, if required, in the next month’s payroll run or final settlement. For example, payroll is run on the 26th of a month for the entire calendar month and the salary is credited on the last day of the month with the assumption that there is no loss of pay for an employee. If in the first week of next month, an input that there is a one day loss of pay for an employee for the previous month is received, then the one day loss of pay could be deducted in the next month’s payroll run.
Despite the administrative inconvenience, it is best to use calendar month for the sake of computing monthly pay.
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