Personal Finance

Know the difference between exemption and deduction

Keerthi Sanagasetti BL Research Bureau | Updated on August 28, 2021

Even though both the terms do ultimately mean a lower tax outgo for you, they are different

A coffee time conversation between two colleagues leads to an interesting explainer on tax jargon.

Tina: Problems with the new IT website seem to be never ending. Have you filed your tax returns?

Vina: No Tina. I seem to have missed the receipt for my insurance premium payment. That could help me with some exemption in income.

Tina: Er.. exemption? You mean deduction?

Vina: Yeah potato, po-tah-toh! Aren’t they the same thing said differently?

Tina: No. Even though both the terms do ultimately mean a lower tax outgo for you, they are different.

Vina: Why? What is the difference?

Tina: Exemptions deal with incomes or rather sources of incomes that are not required to be considered while calculating your taxable income. These excluded incomes may be exempt either entirely or partially depending upon the provisions in the Income Tax Act.

For instance, agricultural income and sums received under a life insurance policy (subject to some conditions) are examples of incomes that are completely exempt from income tax. On the other hand, exemption of long-term capital gains on listed equity shares for an amount of up to ₹1 lakh a year is an example of partially exempt income. Section 10 of the Income Tax Act specifies many other exempt incomes.

Vina: What are deductions then?

Tina: Deductions, as the name suggests, are amounts that are allowed to be deducted or reduced from your gross taxable income. Well-known examples of these are the deductions laid out in Chapter VI A of the Income Tax Act. These deductions generally aim to promote the habit of saving and investment in people. Take for instance, deductions under Section 80 C of up to ₹1.5 lakh a year. One can claim them on making investments in various instruments such as Equity Linked Savings Schemes (ELSS), Public Provident Fund and NPS, or through expenses such as repayment of home loan principal. Also, deduction is allowed for health insurance premium payment under Section 80D.

There are certain other deductions too. Take, for instance, the 30 per cent deduction on income from house property, or the standard deduction of ₹50,000 a year from your salary income. Donations to certain specified funds, interest on home and education loans etc. can also be claimed as deductions from your taxable income.

Vina: Okay, I get it now. So, the difference between exemptions and deductions is that the Income tax Act exempts certain incomes- either entirely or partially - from the calculation of total income to be considered for taxation. Hence, one need not include them in the gross taxable income. On the other hand, deductions must be claimed against (or deducted from) your total taxable income.

Tina: Yes. That’s simply put!

Published on August 28, 2021

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