The ABC of Taxation in India: A Beginner’s Guide to Taxes, Deductions & Compliance

Do your payslips often confuse you? Wondering why a part of your hard-earned income disappears every month or how some people seem to “save taxes” legally?

Welcome to the world of taxation—an essential but often misunderstood part of adulting in India. Whether you're a salaried employee, a freelancer, or running a small business, understanding how taxation works can save you from penalties, unlock eligible deductions, and help you plan your finances better.

But let’s face it: the Indian tax system can feel like an alphabet soup of sections, slabs, and exemptions.

That’s why this guide breaks it down simply—starting from A (Assessment & Applicability) to B (Benefits & Breaks) to C (Compliance & Credits). Let’s dive in!

What is Taxation and Why Does It Matter?

Taxation is how the government collects money from individuals and businesses to fund infrastructure, public welfare, healthcare, defence, education, and more. In India, taxes are imposed by both the Central Government and State Governments, and they fall into two major buckets: Direct Taxes and Indirect Taxes.

Types of Taxes in India

Direct vs Indirect Taxes Comparison

• Direct Tax: Paid directly to the government by the taxpayer. Example: You pay income tax on your salary or capital gains from property/shares.
• Indirect Tax: Embedded in the price of goods and services. Example: When you buy a smartphone, GST is part of the final price.

Who Has to Pay Income Tax in India?

The following groups are required to pay Income Tax if their income crosses the basic exemption limits:

• Individuals (salaried, freelancers, professionals)
• Hindu Undivided Families (HUFs)
• Firms and LLPs
• Companies
• Trusts & Associations of Persons (AOPs)
• NRIs (based on income earned or received in India)

Your residential status determines how your global income is taxed:

• Resident Indian: Taxed on global income
• Non-Resident Indian (NRI): Taxed only on income earned or received in India

Tip: Even if your income is below the taxable limit, filing an ITR helps in getting loans, applying for visas, or claiming refunds.

Understanding Income Tax Slabs (FY2025-26)

India offers two tax regimes:

• The Old Regime (with exemptions and deductions)
• The New Regime (lower rates, no major deductions)

Old Regime vs New Regime (For Individuals Below 60 Years)

Disclaimer: Kindly consult a Chartered Accountant (CA) for tax advisory. For FY 2024-25, under the new regime, the tax rebate is ₹25,000 for income within ₹7 lakh.

Understanding tax-saving opportunities is one of the smartest things you can do—especially if you're under the old tax regime, which allows multiple deductions and exemptions. These can significantly reduce your taxable income.

Popular Tax Deductions under the Old Regime

Tip: Combine 80C and 24(b) on a home loan to maximize benefits if you’ve taken one and also invest in tax-saving instruments.

Disclaimer: Kindly consult a Chartered Accountant (CA) for tax advisory.

Common Exemptions for Salaried Employees

Even outside deductions, there are allowances and exemptions that help reduce your taxable salary:

• HRA (House Rent Allowance) The exempt portion is calculated based on salary, rent paid, and city of residence.
  This exemption is available only under the Old Tax Regime.
• LTA (Leave Travel Allowance) Covers domestic travel fare for self and family (claimable twice in 4 years). This exemption is available only under the Old Tax Regime.
• Standard Deduction Flat ₹50,000 for all salaried individuals—no proof required (we’re talking about old tax regime). Under the new tax regime, the standard deduction is capped at ₹75,000.
• Professional Tax Allowed as a deduction if deducted from salary.

Example: HRA Calculation

Let’s say:

• Basic salary = ₹40,000/month
• Rent paid = ₹18,000/month
• HRA received = ₹20,000/month
• City = Metro

Exempt HRA = Least of the following:

   1. Actual HRA received = ₹2,40,000/year

   2. Rent paid – 10% of basic = (2,16,000 – 48,000) = ₹1,68,000

   3. 50% of basic salary = ₹2,40,000

Exempt HRA = ₹1,68,000

Balance HRA is taxable.

Capital Gains – What You Need to Know

When you sell an asset (house, shares, mutual funds), any profit you make is taxed as Capital Gains.

1. Short-Term Capital Gains (STCG)

• Equity Shares / ELSS / Mutual Funds (where STT is paid):

   - Holding period: ≤ 12 months

   - Tax Rate: 20% (revised from 15% as per Budget 2024)

• Property (Immovable assets):

   - Holding period: ≤ 24 months

   - Tax Rate: As per income slab

• Debt Funds / Other Assets:

   - Holding period: ≤ 36 months

   - Tax Rate: As per income slab

Long-Term Capital Gains (LTCG)

• Equity Shares / ELSS / Mutual Funds: - Holding period: > 12 months - Tax Rate: 12.5% on gains exceeding ₹1.25 lakh per year (updated from 10% on ₹1 lakh)
  - Indexation: Not allowed
• Property (Land, Building, Flat, etc.): - Holding period: > 24 months - Tax Rate: 20%
• Debt Funds / Gold / Bonds / Other Capital Assets: - Holding period: > 36 months - Tax Rate: 20%

Pro Tip: Use Section 54 to save tax on LTCG from property by reinvesting in another property.

What Income is Tax-Free?

Not all income is taxable. Here are common sources of exempt income:

• Agricultural income (subject to specific rules)
• Gifts up to ₹50,000 per year (from non-relatives)
• Maturity of PPF and life insurance (if conditions met)
• Scholarship grants (fully exempt)
• Tax-free bonds and certain allowances for government employees

Note: Gifts from relatives (parents, spouse, siblings, etc.) are fully tax-free. But gifts from friends, colleagues, or others are taxable if value exceeds ₹50,000.

Section Recap:

• The old regime allows a variety of deductions that can lower your taxable income.
• Common exemptions like HRA, LTA, and Standard Deduction provide relief to salaried employees.
• Understanding capital gains is crucial if you sell property or stocks.
• Some incomes are tax-exempt—if you meet the right criteria.

C – Compliance, Credits & Consequences

Knowing how much tax you owe is only half the battle. Complying with timelines, submitting the right forms, and understanding tax credits is what ensures you're on the right side of the law—and might even earn you a refund.

1. PAN, Aadhaar & KYC Compliance 

PAN (Permanent Account Number)

• Mandatory for all taxable individuals and entities.
• Required for high-value transactions like buying property, mutual funds, etc.

Aadhaar Linking

• Aadhaar must be linked to PAN for ITR filing.
• Failure to do so may render PAN inoperative, affecting refunds and other services.

Tip Box:
You can check and link PAN-Aadhaar at https://www.incometax.gov.in

2. How to File Income Tax Returns (ITR)

Who Should File?

• Anyone with taxable income above ₹2.5 lakh (₹3 lakh for senior citizens).
• Those with foreign income, foreign assets, or TDS deducted—even if below the threshold.
• To claim tax refunds.

TDS (Tax Deducted at Source) & Advance Tax

1. What is TDS?

• Tax deducted at source by the payer if your interest income crosses a certain threshold (employer, bank, tenant, etc.)
• You can check your TDS via Form 26AS or Annual Information Statement (AIS)

2. When is TDS Applicable?

•  Salary, FD interest, rent received, professional fees, property sale

3. Advance Tax

• If your estimated tax liability exceeds ₹10,000/year (after TDS), you must pay in four instalments (June, Sept, Dec, March).
• Applicable to freelancers, business owners, property investors.

Refunds and Tax Credits

• If TDS > Tax Liability, you’re eligible for a refund.
• Refunds are processed within 7–30 days (if ITR is verified on time).
• You can track your refund on the Income Tax portal

Note: As of FY 2024–25, ₹4.35 lakh crore worth of refunds have been issued, a record high, showing the system is becoming more responsive.

Penalties & Legal Consequences for Not Filing ITR 

Other risks include interest on unpaid taxes, scrutiny or IT notices and prosecution in extreme cases of evasion

Reminder: As per CBDT Circular No. 06/2025 dated 27th May 2025, the due date for filing ITR for AY 2025–26 has been extended from 31st July to 15th September 2025.

Common Tax Myths Debunked

Despite growing awareness, several outdated beliefs still prevent individuals from making informed tax decisions. Let’s bust some of the most common myths.

Myth #1: “If I don’t earn ₹5 lakh, I don’t need to file taxes.”

Fact: While it’s true that you may not owe tax if your income is under the exemption limit, you should still file your ITR:

• To claim refunds (e.g., on TDS deducted)
• For smoother loan approvals, visa processing, or financial credibility
• If you’ve earned capital gains, foreign income, or want to carry forward losses

Myth #2: “I can’t claim tax benefits under the new regime.

Fact: Though the new regime removes most deductions, some benefits still apply:

• Employer’s NPS contribution under Section 80CCD(2)
• Standard deduction of ₹50,000 (reintroduced in Budget 2023)
• EPF and Gratuity exemptions still apply

Tip: Always compare both regimes before filing.

Myth #3: “Only salaried people need to worry about TDS.”

Fact: TDS applies to interest income (FDs), rent, professional fees, property sales, and even payments to freelancers or consultants. It’s not just a salary deduction—it’s a tax compliance mechanism across income types.

Myth #4: “Gifts are never taxed.”

Fact: Only gifts received from specified relatives (parents, spouse, siblings, etc.) are tax-free. Gifts from non-relatives exceeding ₹50,000 per year are fully taxable under “Income from Other Sources.” Exemptions apply for marriage gifts or inheritance through a will.