First, a small summary. HRA is one of the components of salary that an employee receives for work done. Now salary is taxable under the Income Tax Act of India, under the Head “Income from salaries”, certain portions of salary are exempted from tax (you don’t pay tax on that portion).
This article is part of a two part series on HRA. This article specifically talks about how the amount of tax exemption of HRA, claimable by the employee, is calculated.
The exempt portion of HRA will be the least of
- Actual HRA received by assessee, when under employment
- Actual Rent paid (minus) 10% of Basic Salary (if Dearness allowance is included in terms of employment, then add that to Basic salary, otherwise not) when under employment
- If the employee resides in Mumbai, Kolkata, Delhi or Chennai, then 50% of Basic Salary (if Dearness allowance is included in terms of employment, then add that to Basic salary, otherwise not), else 40% of the same, when under employment.
So you will notice that at lower rent levels (ie. when rent is a smaller portion of total salary), the second clause is a major limiting factor to the tax exemption. This essentially means that the intent of the law is to provide a certain degree of leeway or compensation to the employee to pay their rent, and not end up being taxed for it. However, 10% of Basic Salary + DA, is actually considered not a burden for the employee, and there will be no tax benefit to employee if the rent paid doesn’t exceed 10% of basic + da.
Additionally, the third clause doesn’t say Metropolitan cities, even if many articles and authored books do so. So until the Rules are changed due to it, unless you live in the limits of Mumbai, Delhi, Kolkata or Chennai, you will get exemption of 40% of Basic+DA, not 50%, no matter how expensive your city has now become.
Thirdly, you will notice that rent has to be actually paid, and you cannot pay rent to yourself (no opportunity cost logic will be allowed here). Thus:
- You cannot take benefit of HRA exemption, without actual payment of rent
- You cannot take benefit of HRA exemption, if you partially or completely own the flat.
- You have to actually reside in the residential accommodation for which you’re taking HRA exemption. Thus you can’t stay elsewhere, and claim HRA on the accommodation where say your family resides, which is a higher rent apartment.
Note: HRA is where a lot of fraud happens, and a lot of judgements are passed regularly. This article is limited to review of the law as it stands on 17 Sep 2020, and is not legal advice for assessees.
Actual Provisions in Law:
Section 10(13A) of the Income Tax Act:
In computing the total income of a previous year of any person, any income falling within any of the following clauses shall not be included— any special allowance specifically granted to an assessee by his employer to meet expenditure actually incurred on payment of rent (by whatever name called) in respect of residential accommodation occupied by the assessee, to such extent as may be prescribed having regard to the area or place in which such accommodation is situate and other relevant considerations.
Explanation.—For the removal of doubts, it is hereby declared that nothing contained in this clause shall apply in a case where—
(a) the residential accommodation occupied by the assessee is owned by him ; or
(b) the assessee has not actually incurred expenditure on payment of rent (by whatever name called) in respect of the residential accommodation occupied by him ;
Rule 2A – [Limits for the purposes of section 10(13A)
The amount which is not to be included in the total income of an assessee in respect of the special allowance referred to in clause (13A) of section 10 shall be-
- the actual amount of such allowance received by the assessee in respect of the relevant period; or
- the amount by which the expenditure actually incurred by the assessee in payment of rent in respect of residential accommodation occupied by him exceeds one-tenth of the amount of salary due to the assessee in respect of the relevant period; or
- an amount equal to—
- where such accommodation is situate at Bombay, Calcutta, Delhi or Madras, one-half of the amount of salary due to the assessee in respect of the relevant period; and
- where such accommodation is situate at any other place, two-fifth of the amount of salary due to the assessee in respect of the relevant period,]
whichever is least.
Explanation : In this rule—
- “salary” shall have the meaning assigned to it in clause (h) of rule 2 of Part A of the Fourth Schedule;
- “relevant period” means the period during which the said accommodation was occupied by the assessee during the previous year.]
Rule 2(h) of Part A of the Fourth Schedule
In this Part, unless the context otherwise requires,—“salary” includes dearness allowance, if the terms of employment so provide, but excludes all other allowances and perquisites.
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