Income Tax Exemption vs Rebate vs Deductions: Budget 2024 May Exempt Income Up to Rs 5 Lakh

As the Budget for the financial year 2024-25 approaches, there are reports that the government might raise the income tax exemption limit to Rs 5 lakh, as against the current Rs 2.5 lakh. This potential change has brought renewed interest in understanding the distinctions between income tax exemption, rebate, and deductions. Here’s a detailed breakdown of these terms and their implications.

Tax Exemption

Income tax exemption refers to the portion of income on which no tax is levied. Currently, the income tax exemption is applicable up to a total annual income of Rs 2.5 lakh. This means that if an individual earns Rs 2.5 lakh or less in a year, he or she does not need to pay any income tax. For incomes above this threshold, only the amount exceeding Rs 2.5 lakh is subject to tax.

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Tax exemptions provide complete relief from taxes for specific parts of income rather than the gross total income. Examples include House Rent Allowance (HRA) and Leave Travel Allowance (LTA) under the Income Tax Act, 1961. These exemptions are typically applicable to income under the head of salary or capital gains, provided certain criteria are met.

Tax Deductions

Income tax deductions pertain to reductions in taxable income based on specific investments or expenses. These are primarily available to taxpayers opting for the old tax regime. Notable sections under which deductions can be claimed include:

Section 80C: Deductions for investments in life insurance premiums, public provident fund (PPF), and tuition fees, among others.

Section 80D: Deductions for medical insurance premiums.

Section 80E: Deductions for interest on education loans.

Unlike exemptions, which provide relief on specific income parts, deductions reduce the overall taxable income, thereby lowering the tax liability.

Tax Rebate

Tax rebate refers to a reduction in the total tax payable, applicable after the total tax is calculated. Under Section 87A of the Income Tax Act, 1961, a rebate is provided for incomes up to a certain limit, currently set at Rs 7 lakh for FY 2023-24. This means if an individual’s total income does not exceed Rs 7 lakh, they are eligible for a tax rebate, making their effective tax liability zero.

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However, if the income surpasses this threshold, tax is payable on the entire income, excluding the exempted portion. For example, if an individual earns Rs 5.1 lakh, they must pay tax on Rs 2.6 lakh (considering the current exemption limit of Rs 2.5 lakh).

The rebate is essentially a tax refund from the gross tax liability, aimed at reducing the tax burden for individuals in the lower-income category.

Potential Changes and Implications

An income tax expert, who did not want to be named, said that with the upcoming Budget, there are speculations that the government might increase the income tax exemption limit to Rs 5 lakh. If implemented, this would mean:

Increased Exemption: Total annual income up to Rs 5 lakh would be completely tax-free.

Impact on Rebate: The current rebate under Section 87A might be adjusted or restructured to align with the new exemption limits.

Deductions: Taxpayers might need to reassess their tax-saving investments and expenses under the old regime, considering the increased exemption.