Difference between a tax rebate and tax exemption

As a responsible citizen of the country, you must pay your income tax every year against the money that you have earned in a given year. To ascertain your tax liabilities (if any), you need to file an income tax return as per the specified timelines.

While you are preparing your income tax return, you would notice that there are different sections under which you need to declare your various sources of income, your investments, and expenses. It is only after taking into consideration all these figures that your actual tax liability can be ascertained.

Being an honest taxpayer does not mean that you cannot reduce your tax liability. There are specific provisions under the Income Tax Act that help you legitimately reduce your income tax liabilities. The government classifies certain investments and expenses as eligible for income tax exemptions and deduction. Then certain rebates are also available. Once all these provisions are considered, you can ascertain your income tax liabilities.

You might think that as income tax exemption and income tax rebates help reduce your tax liabilities, they have a similar concept. But as a matter of fact, both these provisions are entirely different from one another.

Let’s understand the difference between an income tax rebate and an income tax exemption.

What is an Income Tax Exemption?

You can earn money through various sources. Out of the many available sources of income, specific sources of income have been exempted from income tax. This means that you needn’t pay any tax on the income arising out of such source(s). When your income tax liability is being calculated, the exempted sources are the first ones to be deducted from your total income.

For instance, your salary is made up of various components, and out of them, certain components are exempt from taxation, such as House Rent Allowance (HRA), company accommodation, Leave Travel Allowance (LTA), etc. If any salaried employee needs to claim an income tax exemption against any of the allowed income heads, they need to inform their employer before the tax filing season. This would ensure that the TDS is deducted on the balance income only.

Also Read: Key Changes to ITR-1 & ITR-2 for FY 2018-19

According to Sec 10 (1) of the Income Tax Act, agricultural income is also exempt from taxation.  

Additionally, long-term capital gains from the sale of residential property are exempt from income tax if the said money is re-invested in another residential property or bonds within a specified period.

It should be noted that there are certain limits up to which the exemption can be claimed under specific heads. So, the individual limits will govern the maximum exemption allowed and not the total gross income.

What is an Income Tax Rebate?

After all the exemptions and deductions have been taken into account, your tax liability is calculated from the remaining income. Once, your income tax is calculated as per the applicable tax bracket; you can claim a rebate against your income tax as per the specified guidelines. Tax rebate signifies the amount of the income tax that you are not liable to pay.

The primary difference between income tax exemption and income tax rebate is that while income tax exemption and deductions are reduced from your gross income, income tax rebates are to be claimed from the total income tax that you have to pay.

As per the latest provisions made in the interim budget of 2019, income tax rebates are available to individual taxpayers who have a taxable income up to Rs. 5 Lakhs (after taking into account applicable deductions). Earlier the benefit was provided to the individuals having a taxable income up to Rs. 3.5 lacs.

For instance, Sec 87A now allows an individual taxpayer with a taxable income of up to Rs. 5 Lakhs to claim a rebate of up to Rs. 12,500/- against their income tax liability. This effectively reduces the tax payable amount to nil.

Once you file your income tax return and the TDS deposited in your account is more than your income tax payable, then the balance amount will be refunded to your account after your return has been processed.

Having in-depth knowledge of the available deductions and rebates can help you reduce your income tax liability effectively and save money for your future. These provisions offer you a legal way of reducing your tax liabilities, and you should take full advantage of this.

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