After India gained Independence, the Government of India appointed as many as 7 pay commissions for reviewing and revising the salaries and allowances of the Central Government employees from time to time. The Central government has been appointing pay commissions once in every ten years. The latest commission is the 7th Pay Commission. When the Pay Commission recommendations are implemented, the government employees are paid the arrears of salaries and allowances with retrospective effect.
During the Financial Year 2017-18, lakhs of employees have received arrears of salary on implementation of recommendation made by the Seventh Pay Commission. On September 25, 2013, the government had approved the constitution of the Seventh Pay Commission and its recommendations were implemented with effect from 01-01-2016. The Seventh Pay Commission has recommended an average of 23.55% increase in their salary, allowances and pension.
The government employees would naturally be concerned about the taxability of such arrears of salary. As per the Income-Tax Act, the income under the head ‘Salary’ is taxable on paid, due or arrears basis, whichever happens earlier. Thus, the arrears shall be taxable in the year in which they are paid to the employees. The total tax liability of the employees in the year in which arrears are paid could have been different had these arrears been paid in the respective years itself to which they belonged. As these arrears belonged to the earlier years, they should have been taxed in those years itself. However, due to provisions of Section 15, the arrears shall be taxable in the year in which they are paid to the employees.
This means that an employee receiving arrears of salary/pension has to pay higher tax during the financial year in which these are received. Therefore, the Income-Tax Act provides a relief under Section 89 to taxpayers who are in receipt of arrears of salary which belongs to previous years.
Section 89 of the Income-Tax Act, 1961 states that if an individual receives any portion of his salary in arrears or in advance, then he can claim relief in respect of such salary received. The relief on arrears of salary is calculated in the manner laid down under Rule 21A of the Income-Tax Rules, 1962.
As per the said rule, tax relief is determined by recalculating the income tax liability of two financial years, i.e., year in which arrear is received and year to which these arrears pertain to. If the outcome of calculations confirms that excess tax is being paid by the taxpayers on arrears, the relief shall be allowed for such excess tax. Let’s understand this concept with an example:
Mr A received Rs 50,000 as arrears of salary during the Financial Year 2017-18. Arrears belong to FY 2015-16. Due to these arrears, the income tax liability of Mr A for Financial Year 2017-18 has increased by Rs 10,000. Had the arrears been received in the Financial Year 2015-16 itself, Mr A would have paid tax of Rs 8,000 in that Financial Year. Since Mr A would be paying Rs 2,000 more tax to the government due to receipt of arrears of salary, he is entitled to take the benefit of Section 89 relief to the extent of Rs 2,000 at the time of filing return.
How to claim Section 89 relief in income tax return?
In order to claim the Section 89 relief, an employee needs to file Form 10E online through the e-Filing website of the Income Tax Department (https://www.incometaxindiaefiling.gov.in).
Form 10E is an income tax form which calculates Section 89 relief allowable to taxpayers. It is to be filed online by taxpayers as the Income Tax Department doesn’t provide excel or java utility to file Form 10E through the offline mode. In order to file Form 10E, the taxpayer needs to go to the ‘e-File’ option in the menu and select ‘Income Tax Forms’. Click on ‘Continue’ after selecting Form name, Assessment Year and Submission Mode.
Form 10E contains 5 Annexures applicable to different types of arrears of Income:
# Annexure I is for salary received in advance or in arrears.
# Annexure II is for gratuity received for past services for the period of 5 years to 15 years.
# Annexure IIA is for gratuity received for past services for 15 years or more.
# Annexure III is for compensation received for termination of employment.
# Annexure IV is for commuted pension received.
A taxpayer needs to fill up details under ‘Annexure I’ to claim relief on account of receipt of arrears or advance salary. Form 10E will automatically calculate the relief available to taxpayer under section 89 if all the required information is entered in ‘Annexure I’.
After filing of Form 10E, the next step is to claim such relief in the ITR. The amount of relief calculated by Form 10E is to be mentioned under ‘Tax Relief’ column of the ITR. It must be noted that Form 10E is to be filed up before filing of ITR. If you have filed up Form 10E after filing of ITR, then the Income Tax Department might not allow the Section 89 relief claimed in the ITR.
(By CA Naveen Wadhwa, DGM, and CA Rahul Singh, Manager, Taxmann.com)