How to claim Tax Relief on Arrears while filing income Tax Returns?
As per the provisions of the Income Tax Act, 1961 the salary earned in a particular financial year is to be taxed as per the tax rates applicable for that financial year. But in many a cases, individuals may receive income in a particular financial year, which may relate to the earlier financial years, i.e. arrears of salary or in advance for future financial years. How to claim tax relief on such arrears while filing income tax returns?
What is arrear payment of previous financial year?
The arrears may be in the form of pensions or pay hikes in the case of government employees. This may pertain to the previous financial year, however received in the current financial year. This could shoot up their tax liability to a large extent. The individual might move up in the tax slab also but they should not be penalized with higher taxes because they received their income later. There are a few escape routes to this problem of which most of them are not aware of.
How to claim tax relief on such arrears?
Many a people do not know how to calculate tax on these arrears as the process is a bit complicated. As per the rules of Income Tax Act, if you have received any portion of your salary or pension in arrears or advance, you are allowed tax relief under Section 89 (1). The purpose of this section is to provide relief to the receiver and save him from any additional tax burden which was created due to the delay or advancement in receiving your earnings.
While claiming relief under Section 89 (1), it is mandatory for an individual to fill the form 10E to make a claim. Taxpayers who have claimed relief under section 89 (1) in the previous years but had not filed form 10E have received notices from the income tax department stating that the relief could not be allowed as form 10E has not been furnished. The best part is that this form can be submitted online easily under e-filing.
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The said relief is to be claimed in the financial year in which the arrears or advances have been received. The following are the steps to calculate the tax relief correctly:
Step-by-Step Process on computing tax relief on such arrears
Let’s assume one case. An individual receives Rs. 30,000 as arrear income (10,000 for each year) for three years along with Rs. 40,000 as his current year income.
Step 1: Calculate total tax payable for the total income, including the arrears for the year in which the income is actually received. Here, calculate tax on Rs. 70,000 for the current year.
Step 2: calculate tax payable on the total income, excluding the arrears in which it is received. Continuing above example, calculate the total tax payable on Rs. 40,000 for the current year.
Step 3: calculate the difference between the step 1 and step 2.
Step 4: Calculate tax payable on the total income, including arrears for the year of which the arrears relate. Here, calculate tax on that particular year's income for which the arrears have been received, including the arrears. (10,000 to be added to the concerned year income)
We have to repeat this step for all the years for which the arrear income has been received.
Step 5: calculate tax liability for the total income, excluding the arrears for the year of which the arrears relate. (This figure would have been determined previously while filing income tax return for that concerned year. If not, arrive at that figure excluding the income that has been received as arrears).
Step 6: Calculate the difference between the step 4 and step 5.
Step 7: now subtract the tax difference you arrived at step 6 from step 3. This excess amount is the tax relief that you can claim on your income tax return.
The point to be noted here is that if the tax liability at step 6 is more than step 3, no relief shall be allowed.
Conclusion: This is a highly beneficial provision, especially in cases where the employee receives payments from his employer and his tax bracket moves upwards due to these arrears or advancements or when there is a variation in tax rates in different financial years.
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How to claim Tax Relief on Arrears while filing income Tax Returns