Heads of Income: What Are 5 Heads of Income Tax?
Updated: 10 hours ago
As per the Income Tax Act, there are 5 heads of income under which a taxpayer's income can be classified: Income from Salaries, Income from House Property, Income from Profits and Gains from Business and Profession, Income from Capital Gains, and Income from Other Sources. Correct tax calculation is important, and earnings have to be correctly classified under these heads. It becomes important to understand which earnings belong to which heads of income. This article gives a clear overview of the heads of income.
Filing your Income Tax Return (ITR) is essential, and the last date for ITR filing for FY 2023-2024 is July 31, 2024.
Table of Content
What are the 5 Heads of Income?
As per Section 14 of ‘Heads of Income’ of the Income Tax Act, 1961, all income for the purpose of charging it under the Income Tax and for computing the total income, should be classified under the following 5 heads:
Income from Salaries
Income from Profits and Gains from Business and Profession
Income from Capital Gains
Income from Other Sources
Income from Salaries
Amongst the 5 heads of income, the first head is 'Income from Salaries'. Where an income is received by the employee from the employer, it is categorized under the head ‘Income from Salaries’. Section 15 to Section 17 of the Income Tax Act, 1961, deals with the provisions of computing income under the head salaries. The components of salaries include compensation, wages, allowances, and annual bonus received by the employee while on employment. Moreover, perquisites, gratuity, profit in lieu of salary, allowances, commissions, and other benefits also form a part of the salary. The deductions from salaries usually include professional tax, TDS, and contribution to the Public Provident Fund (PPF).
Few important exemptions allowed under the head salaries include:
House Rent Allowance (HRA): Employees can claim exemption from HRA after meeting the conditions related to: rent paid, salary, and the location of the residence whether metro or non-metro cities.
Standard Deduction: A flat deduction of INR 50,000 is allowed from gross salary.
Leave Travel Allowance (LTA): Employees can claim exemption from travel expenses incurred while on leave. The maximum deduction can be allowed for two trips within a four-year period.
Conveyance Allowance: An exemption can be claimed towards the conveyance allowance up to INR 19,200 per annum or INR 1,600 per month.
Education Allowance: Employees can claim exemption from education allowance subject to limits specified per child for a maximum of two children.
Income from House Property
Section 22 to Section 27 of the Income Tax Act, 1961, deals with the Income from House Property. The income derived from renting out properties whether for residential or commercial purposes are categorized under the head ‘Income from House Property’. The property should be owned by the individual other than for business purposes. The tax on such income is determined based on components such as: standard rent, municipal valuation, and actual rent received.
In case an individual has more than one self-occupied house, only one house will be treated as self-occupied for computing ‘Income from House Property’. The remaining houses will be treated as deemed to be let out and accordingly deemed rent will be determined on the same.
Income from Profits and Gains from Business and Profession
The ‘Income from Profits and Gains from Business and Profession’ includes income from trade, commerce, business, profession or vocation conducted by individuals, partnerships, or corporations. Section 28 to Section 44DB of the Income Tax deals with the computation of profits and gains from business and profession. Moreover, income from manufacturing, trading, self-employment, freelancing, consultancy, and professional services, are considered under the head income from business and profession. The profits and gains from business and profession is determined by subtracting business expenses, depreciation, and other allowable deductions from gross income.
The following types of income are chargeable under the head ‘Income from Profits and Gains from Business and Profession’:
Profits from operating a business or trade.
Income from the sale of goods or provision of services.
Profits on sale of import license or duty entitlement.
Cash assistance received under the Scheme of the Government of India by an exporter.
Benefits or bonuses received in the course of business.
Interest, salary, bonus, commission, or remuneration received by the partners from the partnership firm or LLP will be taxed in the hands of the partners under this head.
Gains from speculative business activities or transactions.
Any amount received under the Keyman Insurance Policy including the bonus on such policy.
Income from Capital Gains
The ‘Income from Capital Gains’ represents the gains from sale or transfer of capital assets like property, shares, mutual funds, bonds, and so on. Section 45 to Section 55A of the Income Tax deals with the determination of ‘Income from Capital Gains’. The types of capital gains depend on the period of holding of capital assets. Thereby, the tax treatment of each type of gain differs.
A long-term capital gain occurs when a capital asset is sold after 36 months from the date of purchase and is taxed at the rate of 20%. If the capital assets are held for less than 36 months, the gains are said to be short-term and are taxed at 15%. However, in case of securities, the holding period is 12 months for classifying the same under short-term and long-term. Thus, if securities are held for less than 12 months, the capital gains will be treated as short-term while those held for more than 12 months are considered as long-term.
Income from Other Sources
Section 56 to Section 59 of the Income Tax deals with the determination of ‘Income from Other Sources’. Incomes that do not fall under any of the above types, are included under the head ‘incomes from other sources’. The examples of incomes from other sources include: interest income from fixed deposits or savings accounts, gifts, dividends, royalty income, dividends, winning from lotteries and gambling, and so on. These incomes are added to the total income of the assessee and taxed at the applicable rates of taxes.
Difference between Heads of Income and Sources of Income
What is the difference between 5 Heads of Income and Sources of Income?
What are the Five Features of Tax?
Following are the 5 features of tax:
Various Types of Taxes: Taxes come in a variety of forms in different countries to cover a wide range of financial activities. There are two types of taxes in general: direct (Income Tax) and indirect taxes (Goods and Services Tax). Other types of taxes include: Business Tax, Property Tax, and Sales Tax, each with their own purpose and set of rules.
Mandatory Payment: Tax payments are not optional. It is required to be paid by all citizens and organizations. This compulsory payment ensures regular receipt of funds by the government which is needed for rendering public services.
Periodic and Regular Payment: Taxes are not paid at one time. They are due to be paid at regular intervals: annually, quarterly, or as determined by the tax authorities. These regular payments ensure that the government has a consistent source of revenue to plan and run the public projects during the year.
Purpose of Levying Taxes: The main purpose of levying taxes is to fund the government expenses. These include projects such as: infrastructure development, education, healthcare, defense, and welfare. Taxes allow the government to meet the goals of public expenditure, which contributes to the overall development of the country and welfare.
No Quid-Pro-Quo: When the taxes are paid by the citizens, the government does not provide that one citizen with a direct, tangible benefit, or service in return. The idea here is to provide the benefit to everyone rather than one person. Taxes paid for public goods and services will benefit all citizens such as parks, roads, and security.
FAQ
Q1. What is the meaning of Income?
Income is defined as the money earned by the individual or entity in exchange of services offered or sale of product. There are various alternatives of income: salary, business, investments, property, and other sources.
Q2. What is the meaning of Taxable Income?
Taxable income refers to the income portion which will be subject to the Income Tax. It is computed by subtracting the deductions, allowable expenses, and exemptions, from the gross income.
Q3. What are the 5 heads of Income?
The 5 heads of income as per Section 14 of the Income Tax Act, 1961 are: Income from Salaries, Income from House Property, Income from Capital Gains, Income from Profits and Gains from Business and Profession, and Income from Other Sources.
Q4. Which income falls under the head ‘Income from Salaries’?
Income earned by individuals in the capacity of an employee by engaging in the employment service is referred to as ‘Income from Salaries’. Moreover, allowances, bonuses, perquisites, and other monetary and non-monetary benefits received by the employee are also included in the ‘Income from Salaries’.
Q5. Which incomes are considered as ‘Income from House Property’?
Income earned in the form of rent from letting out properties whether for commercial or residential purposes are considered under the heading ‘Income from House Property’.
Q6. Which incomes are covered under the head ‘Income from Capital Gains’?
Income earned from the sale of capital assets falls under the head ‘Income from Capital Gains’. There can be a short term or a long term capital gain depending upon the period of holding the capital asset.
Q7. What are the incomes covered under the head ‘Income from Profits and Gains from Business and Profession’?
Income derived from a business activity, trade, or commerce, or through the professional activities, is chargeable under the head ‘Income from Profits and Gains from Business and Profession’. The expenses incurred in earning the business or professional income is allowed as a deduction while determining the profits and gains from the business or profession, subject to the statutory provisions of the Income Tax Act.
Q8. Which incomes are covered under the head ‘Income from Other Sources’?
Incomes that are not classified or are apart from those mentioned in the other four sources of income, are classified as ‘Income from Other Sources’. Examples include: Interest income from savings accounts or fixed deposits, dividends, and so on.
Q9. Is an assessee allowed to claim deductions under heads of income?
Yes. An assessee can claim the deductions in respect of expenses incurred for earning the income, subject to the satisfaction of conditions specified in the provisions of law.
Q10. What if an assessee earns income from multiple sources, that is, the income of the assessee falls under multiple heads of income?
In such a case, assessee will have to include all the sources of income while determining the gross total income. The income under each head will be determined separately and then a gross total income will be computed.
Q11. What is Tax under the Income Tax Act?
Under the Income Tax Act, tax means a charge or levy by the government on assessee entities, whether individuals or business concerns, on their income or profits. It is a compulsive contribution for financing a number of activities undertaken by the government and delivering services to the public.
Q12. Who is liable to pay income tax?
Everybody including Hindu Undivided Family, Company, Firm, Association of Persons, Body of Individuals, Local Authority and Any other artificial juridical person whose income is above the minimum exemption limit, has to pay income tax.
Q13. How to compute the tax amount?
Computing the tax amount involves the following steps:
Calculate your total income from all sources.
Subtract eligible exemptions and deductions under sections like 80C, 80D, and so on, if following the Old Tax Regime. Under the New Tax Regime, the prominent deductions under Section 80 are not available.
Now, taxable income shall be considered for computing liability by applying relevant income tax slabs and rates in a step-by-step process.
Less therefrom any tax credits or advance taxes paid to get the net payable or refundable amount.
Q14. Is agricultural income taxable?
Agricultural income is exempt under Section 10(1) of the Act. However, if the agricultural income exceeds INR 5,000 and the total income excluding agricultural income is more than the basic exemption limit, then agricultural income is considered for determining the tax rate on non-agricultural income.
Q15. How does the government collect income tax?
The government collects income tax through:
TDS: This is the tax deducted at source by employers or other deductors while making any payment.
Advance Tax: This involves the payment of taxes in advance during a financial year in four installments by the taxpayer.
Self-Assessment Tax: This amount is paid by taxpayers prior to filing their income tax return if there is any additional liability for tax.
Regular Assessment: This is the demand raised on account of tax when an assessment of income tax returns is made under this.
Q16. Is the income from animal husbandry considered to be agricultural income?
Income from animal husbandry does not come within the ambit of agricultural income. Agricultural income means income derived from land by agriculture, which includes farming and cultivation of crops. Income from animal husbandry is assessed as business income and is chargeable to tax under the head "Profits and Gains from Business or Profession."
Q17. How is dividend income taxable?
Dividend income is taxable in the hands of the shareholder. From the financial year 2020-21, dividends are taxed at applicable rates of income tax in the hands of the shareholder, and no Dividend Distribution Tax (DDT) needs to be paid by companies. Shareholders have to add the dividend income to their total income and pay tax on the same.
Q18. Can income be taxed under more than one head?
No, the same income cannot be taxed under more than one head of income. The Act classifies income into certain heads such as Salaries, Income from House Property, Profits and Gains from Business or Profession, Capital Gains and Income from Other Sources.
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