Tax Relief Under Section 89(1) Read with Rule 21A, for Salary Received in Arrears or In Advance

Here’s a detailed explanation of tax relief under Section 89(1) read with Rule 21A of the Income Tax Act, 1961, for salary received in arrears or in advance:

1. Purpose of Relief Under Section 89(1)

• Objective: To mitigate the tax burden when salary/pension is received in arrears or advance, which might otherwise push the taxpayer into a higher tax bracket due to clubbing in a single year.
• Applicability: Covers:
  • Arrears of salary
  • Advance salary
  • Family pension in arrears
  • Gratuity (for non-government employees)
  • Commuted pension
  • Compensation on termination of employment .

2. Calculation Method (Rule 21A)

The relief is computed as:

Relief Amount = (Tax on Total Income including arrears) – (Tax on Total Income excluding arrears + Tax on arrears in the year they were due)

Step-by-Step Calculation:

1. Compute tax for the current year(AY 2025-26) by including arrears.
2. Compute tax for the current yearexcluding arrears.
3. Calculate tax for the year(s) to which arrears pertain(as if received in that year).
4. Relief= (Step 1 result) – (Step 2 result + Step 3 result) .

Example:

• Arrears received in FY 2024-25: ₹5 lakh (pertaining to FY 2020-21).
• Tax on FY 2024-25 income (including arrears): ₹2 lakh.
• Tax on FY 2024-25 income (excluding arrears): ₹1.2 lakh.
• Tax on ₹5 lakh in FY 2020-21: ₹50,000.
• Relief= ₹2 lakh – (₹1.2 lakh + ₹50,000) = ₹30,000 .

3. Mandatory Filing of Form 10E

• Requirement: Form 10E must be filed onlinebefore submitting the ITR to claim relief .
• Penalty: Failure to file Form 10E will result in disallowance of relief, even if claimed in ITR .

Steps to File Form 10E:

1. Log in to the Income Tax e-filing portal.
2. Navigate to e-File → Income Tax Forms → File Income Tax Forms.
3. Select Form 10Eunder “Persons without Business Income”.
4. Fill in arrears details (Annexure I for salary arrears) and submit .

4. Key Conditions

• Arrears must be taxable: Only applicable if the amount was taxable in the year it was due.
• No double benefit: Relief cannot be claimed if exemption was already availed (e.g., VRS compensation under Section 10(10C)) .
• Applicable to both tax regimes: Relief can be claimed under old or new tax regimes.

5. Exclusions

• Voluntary Retirement Scheme (VRS): No relief if exemption was claimed under Section 10(10C) .
• Non-taxable components: Arrears already exempt (e.g., leave encashment for government employees) do not qualify.

Summary Table

ASPECT	DETAILS
Eligible Income	Salary/pension arrears, advance salary, gratuity, termination compensation
Form Required	Form 10E (mandatory online filing)
Relief Calculation	Differential tax between current year and year arrears were due
Due Date	Before filing ITR (e.g., July 31 for AY 2025-26)
Penalty for Non-Filing	Relief disallowed + possible notice under Section 143(1)

Note: Relief under Section 89(1) is not automatic—it must be claimed proactively via Form 10E.

(A) Tax Relief on Salary Received in Arrears or Advance (Section 89(1) with Rule 21A)

When an assessee receives salary in arrears or in advance, it may push them into a higher tax slab in the year of receipt. Section 89(1) provides tax relief to mitigate this burden by recalculating tax liability as if the arrears/advance were received in the year they were due.

1. Applicability of Relief

✅ Applies to:

• Arrears of salary(past due salary received in current year)
• Advance salary(salary for future years received now)
• Family pension in arrears
• Gratuity(for non-government employees)
• Commuted pension
• Retrenchment/termination compensation

❌   Does NOT apply to:

• Exempt income(e.g., leave encashment for government employees)
• Voluntary Retirement Scheme (VRS) compensation(if already claimed exemption under Section 10(10C))

2. How Relief is Calculated (Rule 21A)

The relief ensures that the additional tax due to arrears/advance is adjusted by comparing:

1. Tax on total income (including arrears) in the current year
2. Tax on total income (excluding arrears) in the current year
3. Tax on arrears if they were taxed in the year they were due

Formula:

Relief= (Tax with arrears) − (Tax without arrears + Tax if arrears were taxed in the correct year)

Example:

SCENARIO	AMOUNT (₹)	TAX (₹)
Current year income (including arrears of ₹5L)	15,00,000	2,50,000
Current year income (excluding arrears)	10,00,000	1,20,000
Tax if arrears (₹5L) were taxed in the correct year (FY 2020-21)	5,00,000	50,000
Relief = ₹2,50,000 – (₹1,20,000 + ₹50,000) = ₹80,000		₹80,000

3. Mandatory Filing of Form 10E

• Must be filed onlinebefore submitting ITR.
• If not filed, relief under Section 89(1) will be denied, even if claimed in ITR.

Steps to File Form 10E:

1. Login to Income Tax e-Filing Portal
2. Go to e-File → Income Tax Forms → File Income Tax Forms
3. Select Form 10E(under “Persons without Business Income”)
4. Fill Annexure Ifor salary arrears/advance details
5. Submit & download acknowledgment

4. Key Points to Remember

✔ Applies to both Old & New Tax Regimes

✔ No relief for exempt components (e.g., tax-free gratuity)

✔ Must be claimed manually (not automatic)

❌ No relief if Form 10E is not filed before ITR submission

Summary Table

ASPECT	DETAILS
Who can claim?	Salaried employees, pensioners
Form Required	Form 10E (mandatory)
Relief Calculation	Difference in tax liability due to arrears/advance
Due Date	Before filing ITR (e.g., July 31 for AY 2025-26)
Penalty for Non-Filing	Relief denied + possible notice under Section 143(1)

(B)  Tax Treatment of Non-Exempt Gratuity (Under Section 89(1) with Rule 21A (3))

When gratuity received is not fully exempt under Section 10(10), the taxable portion qualifies for tax relief under Section 89(1). Rule 21A(3) provides the method for calculating this relief to reduce the tax burden arising from lump-sum receipt.

1. When Gratuity is Partially Taxable?

Gratuity is fully exempt for government employees. For private employees, exemption is limited to the least of:

1. ₹20 lakh(increased from ₹10 lakh in Budget 2023)
2. 15 days’ salary(based on last drawn salary) × years of service
3. Actual gratuity received

Any amount exceeding this limit is taxable and eligible for relief under Section 89(1).

2. Relief Calculation (Rule 21A(3))

The relief ensures that the tax on the taxable gratuity is computed as if it was spread over the years of service, rather than taxed entirely in the year of receipt.

Step-by-Step Calculation:

1. Compute tax for the current year(including taxable gratuity).
2. Compute tax for the current year(excluding taxable gratuity).
3. Calculate tax on gratuity as if it was received in installments over the years of service.
4. Relief = (Tax with gratuity) – (Tax without gratuity + Average tax on gratuity over service years).

Example:

SCENARIO	AMOUNT (₹)	TAX (₹)
Total income (including ₹5L taxable gratuity)	15,00,000	2,50,000
Total income (excluding gratuity)	10,00,000	1,20,000
Tax on ₹5L gratuity spread over 10 years (₹50k/year)	5,00,000	30,000
Relief = ₹2,50,000 – (₹1,20,000 + ₹30,000) = ₹1,00,000	₹1,00,000

3. Mandatory Filing of Form 10E

• Must be filed onlinebefore ITR submission.
• If not filed, relief will be denied(even if claimed in ITR).
• Steps to file:

1. Log in to Income Tax e-Filing Portal
2. Go to e-File → Income Tax Forms → Form 10E
3. Fill Annexure II(for gratuity details)
4. Submit & download acknowledgment

4. Key Points to Remember

✔ Applies only to taxable gratuity (exempt portion under Section 10(10) gets no relief).

✔ Relief is available under both old & new tax regimes.

✔ No relief if Form 10E is not filed before ITR.

❌ Does not apply to VRS compensation (if exempt under Section 10(10C)).

Summary Table

ASPECT	DETAILS
Applicability	Private sector employees (where gratuity exceeds exemption limit)
Exemption Limit	Least of: (i) ₹20L, (ii) 15 days’ salary × service years, (iii) Actual received
Form Required	Form 10E (Annexure II for gratuity)
Relief Method	Tax spread over years of service
Due Date	Before filing ITR (e.g., July 31 for AY 2025-26)

(C)  Tax Relief on Taxable Termination Compensation [Rule 21A (4)]

When an employee receives taxable termination compensation (e.g., severance pay, golden handshake, or non-exempt retrenchment benefits), Section 89(1) with Rule 21A(4) provides relief to reduce the tax burden caused by lump-sum taxation.

1. When is Termination Compensation Taxable?

Termination payments are taxable under Section 17(3) as “profits in lieu of salary” unless:

• Exempt under Section 10(10C)(for VRS up to ₹5 lakh)
• Covered under other exemptions (e.g., statutory retrenchment compensation under Industrial Disputes Act)

Taxable termination compensation includes:
✔ Severance pay

✔ Ex-gratia termination payments

✔ Golden handshake payments (beyond exempt limits)

✔ Non-exempt retrenchment compensation

2. Relief Calculation Method (Rule 21A(4))

The relief ensures that the tax on termination compensation is computed as if it was spread over the years of service rather than taxed entirely in one year.

Step-by-Step Calculation:

1. Compute tax for the current year(including termination compensation).
2. Compute tax for the current year(excluding termination compensation).
3. Calculate tax on compensation as if received in installments over the years of service.
4. Relief = (Tax with compensation) – (Tax without compensation + Average tax if spread over service period).

Example:

SCENARIO	AMOUNT (₹)	TAX (₹)
Total income (including ₹8L termination comp.)	18,00,000	3,00,000
Total income (excluding compensation)	10,00,000	1,20,000
Tax on ₹8L spread over 8 years (₹1L/year)	8,00,000	80,000
Relief = ₹3,00,000 – (₹1,20,000 + ₹80,000) = ₹1,00,000	₹1,00,000

3. Key Points to Remember

✔ Applies only to taxable termination compensation (exempt amounts under Section 10(10C) do not qualify).

✔ Available under both old & new tax regimes.

✔ No relief if Form 10E is not filed before ITR.

❌ Does not apply to VRS compensation if exempt under Section 10(10C).

Summary Table

ASPECT	DETAILS
Applicability	Employees receiving taxable termination payments
Exemptions	VRS (up to ₹5L under Section 10(10C)), statutory retrenchment compensation
Form Required	Form 10E (Annexure III for termination compensation)
Relief Method	Tax spread over years of service
Due Date	Before filing ITR (e.g., July 31 for AY 2025-26)

(D)  Tax Relief on Commuted Pension Under Rule 21A(5)

When an employee receives a commuted pension (lump-sum payment in lieu of periodic pension), the taxable portion may qualify for tax relief under Section 89(1) read with Rule 21A (5). This relief prevents higher tax liability due to the lump-sum nature of the payment.

1. Applicability of Relief

✅ Applies to:

• Non-government employees(government employees enjoy full exemption on commuted pension).
• Cases where the commuted pension exceeds the exempt limitunder Section 10(10A).

❌ Does NOT apply to:

• Fully exempt commuted pensions (e.g., for government employees).
• Amounts already covered under Section 10(10A)

2. Exempt vs. Taxable Portion of Commuted Pension

Exemption Rules (Section 10(10A))

EMPLOYEE TYPE	EXEMPTION LIMIT	TAXABLE PORTION
Government employees	Fully exempt	Nil
Non-govt employees (receiving gratuity)	1/3rd of commuted value	2/3rd
Non-govt employees (no gratuity)	1/2 of commuted value	1/2

Example:

• Commuted pension received:₹12 lakh (40% of total pension).
• Full commuted value:₹12 lakh × (100/40) = ₹30 lakh.
  • If gratuity received:Exempt = ₹10 lakh (1/3rd of ₹30 lakh). Taxable = ₹2 lakh (₹12L – ₹10L).
  • If no gratuity:Exempt = ₹15 lakh (1/2 of ₹30 lakh). Taxable = ₹0 (since ₹12L < ₹15L).

3. Relief Calculation Under Rule 21A(5)

If the taxable portion of commuted pension increases tax liability, relief is computed as:

Relief = (Tax on total income including commuted pension) – (Tax on income excluding commuted pension + Tax if commuted pension was spread over past years).

Steps to Compute Relief

1. Calculate tax for the current year(including taxable commuted pension).
2. Calculate tax for the current year(excluding commuted pension).
3. Determine tax if commuted pension was taxed in the year(s) it accrued(based on past tax slabs).
4. Apply the formula aboveto compute relief.

Example:

SCENARIO	AMOUNT (₹)	TAX (₹)
Current year income (including ₹2L taxable commuted pension)	15,00,000	2,50,000
Current year income (excluding commuted pension)	13,00,000	1,80,000
Tax on ₹2L if spread over past 5 years (₹40k/year)	40,000/year	5,000 (total ₹25k)
Relief = ₹2,50,000 – (₹1,80,000 + ₹25,000) = ₹45,000	₹45,000 relief

4. Mandatory Filing of Form 10E

• Must be filed onlinebefore submitting ITR to claim relief.
• Annexure I(for salary arrears/advance) or Annexure II (for gratuity/commuted pension) must be filled.
• Penalty:Relief denied if Form 10E is not filed.

5. Key Takeaways

✔ Relief ensures fair taxation by preventing higher tax due to lump-sum receipts.

✔ Only applicable if commuted pension exceeds exempt limits.

✔ Government employees need not file (fully exempt).

✔ Must be claimed manually via Form 10E (not automatic).

(E)  Tax Relief Under Rule 21A (6) for Other Payments Not Covered Under Rule 21A (2)-(5)

Purpose:
Rule 21A(6) provides a residual relief mechanism for any taxable payment received in lump sum that:

• Is not covered under Rule 21A(2)-(5)(arrears/advance salary, gratuity, termination compensation, commuted pension), but
• Still causes higher tax liability due to clubbing in one year.

1. Applicability of Rule 21A(6)

✅ Applies to:

• Ex-gratia payments(not covered under VRS exemption)
• Bonus payments(if taxed as salary)
• Leave encashment exceeding exemption limits
• Other deferred salary components(e.g., withheld bonuses, performance incentives)
• Any lump-sum payment taxed as “profits in lieu of salary” (Section 17(3))

❌ Does NOT apply to:

• Payments already covered under Rule 21A(2)-(5)
• Exempt income(e.g., PF withdrawals after 5 years, LTCG on equity)

2. Relief Calculation Method

The relief ensures that the tax on the lump-sum payment is computed as if it was received in the year(s) it was earned, rather than taxed entirely in the current year.

Formula:

Relief= (Tax with lump-sum payment) − (Tax without lump sum payment + Tax if spread over earning period)

Example:

SCENARIO	AMOUNT (₹)	TAX (₹)
Current year income (including ₹6L lump-sum bonus)	20,00,000	4,00,000
Current year income (excluding bonus)	14,00,000	2,20,000
Tax on ₹6L if spread over 3 years (₹2L/year)	2,00,000/year	30,000 (total ₹90k)
Relief = ₹4,00,000 – (₹2,20,000 + ₹90,000) = ₹90,000	₹90,000 relief

3. Mandatory Filing of Form 10E

• Must be filed onlinebefore ITR submission.
• Annexure I(for salary arrears/advance) is typically used, with a note explaining the nature of payment.
• Penalty:Relief denied if Form 10E is not filed.

4. Key Points to Remember

✔ Residual provision – applies only if no other sub-rule (21A(2)-(5)) covers the payment.

✔ Available under both old & new tax regimes.

✔ No standard format – taxpayer must justify the earning period for spreading income.

✔ CBDT clarification needed for ambiguous cases (e.g., retrospective salary hikes).

Comparison with Other Rules

RULE	PAYMENT TYPE	FORM 10E ANNEXURE
21A(2)	Arrears/advance salary	I
21A(3)	Non-exempt gratuity	II
21A(4)	Termination compensation	III
21A(5)	Commuted pension	II
21A(6)	Other lump-sum payments	I (with explanation)