BASIC CONCEPTS OF INCOME TAX

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Introduction

In a Welfare State, the Government takes primary responsibility for the welfare of its citizens, as in
matters of health care, education, employment, infrastructure, social security and other development
needs. To facilitate these, Government needs revenue. The taxation is the primary source of revenue to
the Government for incurring such public welfare expenditure. In other words, Government is taking
taxes from public through its one hand and through another hand; it incurs welfare expenditure for
public at large. However, no one enjoys handing over his hard-earned money to the government to pay
taxes. Thus, taxes are compulsory or enforced contribution to the Government revenue by public.
Government may levy taxes on income, business profits or wealth or add it to the cost of some goods,
services, and transactions.

Direct tax & indirect tax – (There are two types of taxes: Direct Tax and Indirect Tax)

Tax, of which incidence and impact fall on the same person, is known as Direct Tax, such as Income
Tax. On the other hand, tax, of which incidence and impact fall on two different persons, is known as
Indirect Tax, such as GST, etc. It means, in the case of Direct Tax, tax is recovered directly from the
assessee, who ultimately bears such taxes, whereas in the case of Indirect Tax, tax is recovered from
the assessee, who passes such burden to another person & is ultimately borne by consumers of such
goods or services.

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Basic principles for charging income tax [sec. 4]

1. Income of the previous year of a person is charged to tax in the immediately following assessment
year.
2. Rate of tax is applicable as specified by the Annual Finance Act of that year. Further, though the
Finance
Act prescribes the rates of tax, in respect of certain income, the Income Tax Act itself has prescribed
specific rates, e.g. Lottery income is to be taxed @ 30% (Sec.115BB), Long term capital gain is to be
taxed @ 20%
(Sec.112), short term capital gain on listed shares u/s 111A is to be taxed @ 15%, etc.
3. In respect of income chargeable to tax, tax shall be deducted at source, or paid in advance
(wherever applicable).

Sec. 4 is a charging section and it is the backbone of the Income Tax Act. The tax liability arises by
virtue of this section and it arises at the close of a previous year. However, the finalization of amount
of tax liability is postponed to the assessment year. It follows the rule that the liability to tax is not
dependent upon assessment.

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INCOME [SEC. 2(24)]

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By virtue of sec. 2(1A), agricultural income means -

1. Any rent or revenue derived from a land, which is situated in India & is used for agricultural
purposes;
Tax point:
 Rent may be in cash or in kind.
 Assessee may be the owner or tenant of such land.
2. Any income derived from such land by agriculture
3. Any income derived from such land by the performance by –
a) a cultivator;
b) receiver of rent in kind;
- of any process ordinarily employed by a them to render the produce raised or received by him fit to
be taken to market.
4. Any income derived from such land by the sale by
a) a cultivator of the produce raised by him; or
b) receiver of rent-in-kind of the produce received by him;
- in respect of which no process has been performed other than a process required to render it fit for
the market.
Taxpoint:
The process must be employed only to convert ‘the produce or rent in kind’ in marketable
form. If marketing process is performed on the ‘produce or rent in kind’, which can be sold in its raw
form in market, then income derived from such product is partly agricultural & partly non-agricultural
income.
5. Any income derived from a building subject to fulfillment of the following conditions -
a) The building should be occupied by the cultivator or receiver of rent in kind.
b) The building should be on or in the immediate vicinity of the land, being situated in India and used
for agricultural purposes.
c) The building should be used as dwelling house or store-house or other out
building. d) The land is either situated in –
i) Rural area; or
ii) Urban area and assessed to land revenue / local rates.

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 Taxpoint:
 Where such land or building is used for non-agricultural purpose then any income derived from such
land or building shall not be treated as agricultural income.
 Income derived from land being let out for storing crop shall not be agricultural income.
 Building should be owned and occupied by the land-holder if he receives rent or revenue from
the land. On the other hand, in case of cultivator or receiver of rent in kind, it is enough that the
building is occupied by him.

Instances of agricultural (agro) income

1. Income from growing trade or commercial products like jute, cotton, etc. is an agro income.
2. Income from growing flowers and creepers is an agro income.
3. Plants sold in pots are an agro income provided basic operations are performed.
4. Remuneration and interest to partner: Any remuneration (salary, commission, etc.) received by a
partner from a firm engaged in agricultural operation is an agro income. Interest on capital received by
a partner from a firm, engaged in agricultural operation is an agro income.
5. Income arising by sale of trees grown on denuded parts of the forest after replanting and by carrying
on subsequent operations, is an agro income.
6. Compensation received from insurance company for damage caused by hail-storm to the green leaf
of the assessee’s tea garden is agricultural income. Further, no part of such compensation consists of
manufacturing income; as such compensation cannot be apportioned under Rule 8 between
nufacturing income and agricultural income.
7. Any fee derived from land used for grazing of cattle, being used for agricultural operation, is an
agro income.
8. Any income derived from saplings or seedlings grown in a nursery shall be deemed to be
agricultural income

Instances of non-agricultural (non-agro) income

Instances of Non-agricultural (Non-agro) Income
1. Salary received by an employee from any business (having agricultural income) is non-agro income.
2. Dividend received from a company engaged in agricultural operation is non-agro income.
3. Income from salt produced by flooding the land with sea-water is non-agro income.
4. Income from fisheries, poultry farming, dairy farming, butter & cheese making, etc. is non-agro
income.
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 5. Breeding & rearing of livestock is non-agro income.
6. Interest received by a moneylender in the form of agricultural produce is non-agro income.
7. Profit on sale of standing crops after harvest, where such crops were acquired through purchase is
non-agro income.
8. Royalty income from mines is non-agro income.
9. Remuneration to a Director or Managing Director from a company engaged in agricultural business
is nonagro income. The provision holds good even when such remuneration is on the basis of certain
percentage of net profit.
10. Income earned by a cultivator from conversion of sugarcane (raised on own land) to jaggery is
non-agro income to the extent to which income is related to such conversion only. This is because
sugarcane itself is marketable.
11. Interest on arrears of rent receivable in respect of agricultural land is non-agro income.
12. Income from a land situated outside India is non-agro income.
13. Annuity received by a person in consideration of transfer of agricultural land, is non-agro income.
14. Income on supply of water for agricultural operation is non-agro income. The provision holds
good even when such income is received in the form of agro-produce.
15. Income from sale of trees and grasses grown spontaneously (without any human effort), is non-
agro income.
Treatment of partly agricultural & partly non-agricultural income [rule 7]
Treatment of Partly Agricultural & Partly Non-Agricultural Income
In case assessee is engaged in an integrated activity, comprising of agricultural activity as well as non-
agricultural activity, then profit of such integrated activity shall be segregated into agricultural income
and non-agricultural income in the following manner –

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 Impact of agricultural income on tax computation
Sec. 10(1) of the Act exempts agricultural income from tax as our Constitution does not provide power
to the Parliament to levy tax on agro-income. However, since 1973 an indirect method has been found,
to levy tax on agro-income. According to this method, agricultural income is included in the total
income of the assessee for deciding the tax slab of the assessee.
The way to apply higher rate of tax-slab on non-agricultural income by including agricultural income
in the total income of the assessee are as under:
Conditions for including agricultural income in the total income of the assessee
1. The assessee is an individual, a Hindu-undivided family, a body of individual, an association of
person or an artificial juridical person.
2. The assessee has non-agricultural income exceeding the maximum amount of exemption (i.e. in
case of
Senior citizen Rs. 3,00,000, Super Senior citizen Rs. 5,00,000 and in case of other individual/
HUF/AOP / BOI /artificial juridical person Rs. 2,50,000)
3. The agricultural income of the assessee exceeds Rs. 5,000.
Treatment
Step 1: Compute income tax on total income of assessee including Agro-income.
Step 2: Compute income tax on (Agro-income + Maximum exempted limit)
Step 3: Tax liability before cess = (Tax as per step 1) - (Tax as per step 2)

Example
Mr. X aged 42 years has non-agro income of Rs. 3,25,000 and agro income of Rs. 2,55,000.
Compute his tax liability for the current A.Y.
Solution:
Computation of tax liability of Mr. X for the current A.Y.

Casual income: winning from lotteries, crossword puzzles, etc. 56(2)(ib)]

Winnings from -
1. Lotteries;
2. Crossword puzzles;
3. Races including horse races;
4. Gambling and betting of any nature or form; or
5. Card games, game show or entertainment program on television or electronic mode and any
other game ofany sort,
- are taxable under this head.
Lottery includes winnings from prizes awarded to any person by draw of lots or by chance or in any
other manner whatsoever, under any scheme or arrangement by whatever name called.
Card game and other game of any sort includes any game show, an entertainment programme on
television or electronic mode, in which people compete to win prizes or any other similar game.

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  Exemption/deduction [Sec. 58(4)]: Such income shall be fully taxable & no deduction shall be allowed.
Tax rate [Sec. 115BB]:
 Tax is charged at a flat rate of 30%.

(a) Income of jockey: Income of jockey from such profession is not treated as winning from horse
races.
(b) Winning from a motor car rally: Winning from a motor car rally is a return for skill and effort
and cannot be treated as casual income but taxable as normal income
(c) Lottery held as stock in trade: Winning from lottery to an agent or trader out of its unsold stock
(tickets) shall be treated as incidental to business and taxed under the head “Profits & gains of business
or profession”
(d) Expenditure to be deducted: No deduction can be claimed from such income even if such
expenditure is incurred exclusively and wholly for earning such income.
(e) Deduction: Deduction u/s 80C to 80U is not available from such income

Assessment year (a.y.) [sec. 2(9)]

Assessment year means the period of 12 months commencing on the 1st day of April every
year. It is the year (just after the previous year) in which income earned in the previous year is charged
to tax. E.g., A.Y.2021-22 is a year, which commences on April 1, 2021 and ends on March 31, 2022.
Income of an assessee earned in the previous year 2020-2021 is assessed in the A.Y. 2021-22.
Taxpoint:
 Duration: Period of 12 months starting from 1st April.
 Relation with Previous Year: It falls immediately after the Previous Year.
 Purpose: Income of a previous year is assessed and taxable in the immediately following
Assessment Year.

Previous year or uniform previous year [sec. 3]

Previous Year means the financial year immediately preceding the Assessment Year. Income earned in
a year is assessed in the next year. The year in which income is earned is known as Previous Year and
the next year in which income is assessed is known as Assessment Year. It is mandatory for all
st
assessee to follow financial year (from 1 April to 31st March) as previous year for Income-Tax
purpose.
Exceptions to the general rule that income of a Previous Year is taxed in its Assessment Year
This is the general rule that income of the previous year of an assessee is charged to tax in the
immediately following assessment year. However, in the following cases, income of the previous year
is assessed in the same year in order to ensure smooth collection of income tax from the taxpayer who
may not be traceable, if assessment is postponed till the commencement of the Assessment Year:
1. Income of a non-resident assessee from shipping business (Sec. 172)
2. Income of a person who is leaving India either permanently or for a long period (Sec. 174)
3. Income of bodies, formed for a short duration (Sec. 174A)
4. Income of a person who is likely to transfer property to avoid tax (Sec. 175)
5. Income of a discontinued business (Sec. 176). In this case, the Assessing Officer has the
discretionary power i.e. he may assess the income in the same previous year or may wait till the
Assessment year.
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Heads of income [sec. 14]

According to Sec.14 of the Act, all income of a person shall be classified under the following five heads:

For computation of income, all taxable income should fall under any of the five heads of
income as mentioned above. If any type of income does not become part of any one of the above
mentioned first four heads, it should be part of the fifth head, i.e. Income from other sources, which
may be termed as the residual head.
Gross total income (GTI) [sec. 80b(5)]
Gross total income is the aggregate of income under all the five heads of income after adjusting the
set-off & carry forward of losses. Deductions under chapter VIA are provided from GTI, to arrive at
Total income or taxable income.

Assessee [sec. 2(7)]

“Assessee” means,
 A person by whom any tax or any other sum of money (i.e., penalty or interest) is payable
under this Act (irrespective of the fact whether any proceeding under the Act has been taken
against him or not);
 Every person in respect of whom any proceeding under this Act has been taken (whether or not
he is liable for any tax, interest or penalty) for the assessment of his income or loss or the
amount of refund due to him;
 A person who is assessable in respect of income or loss of another person;
 Every person who is deemed to be an assessee under any provision of this Act; and
 A person who is deemed to be an ‘assessee in default’ under any provision of this Act. E.g. A
person, who was liable to deduct tax but has failed to do so, shall be treated as an ‘assessee in
default’.

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 Person [sec. 2(31)]

Tax planning, tax evasion and tax avoidance

Tax planning is a way to reduce tax liability by taking full advantages provided by the Act through
various exemptions, deductions, rebates & relief. In other words, it is a way to reduce tax liability by
applying script & moral of law. It is the scientific planning so as to attract minimum tax liability or
postponement of tax liability for the subsequent period by availing various incentives, concessions,
allowance, rebates and relief provided in the Act.
Tax evasion is the illegal way to reduce tax liability by deliberately suppressing income or sale or by
increasing expenses, etc., which results in reduction of total income of the assessee. Tax evasion is
illegal, both in script & moral. It is the cancer of modern society and work as a clog in the
development of the nation.
Tax avoidance is an exercise by which the assessee legally takes advantages of loopholes in the Act.
Tax avoidance is a practice of bending the law without breaking it. It is a way to reduce tax liability by
applying script of law only. Most of the amendments are aimed to curb such loopholes.

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