When you get the offer letter for your job, you’ll encounter different new terminologies. Right? This article will help you understand them.
Can you explain from the basics?
Yeah sure! The company pays you with money in exchange of your time, knowledge, and energy. The total cost the company spends on you is called CTC(cost-to-company).
The total cost the company spends on you is called CTC.
Do i get all that money in cash?
No! The CTC is used in 4 ways: (1)To pay you monthly (2)To provide you benefits like insurance (3)To save some money for your retirement (4) To pay the income tax dept on your behalf.
Each component of your salary can be split into above 4 uses. The sum of all components in your salary is your CTC. In your case it is ~20L.
Hmm. Why are (3) and (4) necessary ?
You can’t skip (3) and (4). There is a rule that the company should set aside some money for your retirement, so that you don’t need to work till you die. Income taxes help the govt to carry out their duties for your benefit. For example you can’t live peacefully without the soldiers in the nation’s border.
Can you explain each component of the salary?
Yes sure! I’ll skip the tax calculations for now and just give the final picture. (In this example it turns out around 19% effectively)
The amount which you get monthly includes basic salary & allowances. You may also get a bonus.
Basic : This determines several other components of salary and taxes, that’s why the name basic. 12% of your basic salary is deducted and put into your PF account by your employer. Remaining 88% is for taxes and you.
Allowances : HRA, LTA, Special Allowance are some examples. This is an amount payed to you for specific purposes like rent, travel,etc.(which u most likely will spend your money on). Allowances may be partly/fully exempted from tax. Some examples are HRA (House Rent Allowance).
Bonus : The company may give a bonus. It may be based on company’s financial performance or based on your performance. This is fully taxable.
The non-monetary benefits you get like insurance, stocks, etc. are called perquisites.
Perquisites: insurance,stocks,etc. Medical insurance paid by employer is not taxable. Other insurance,stocks other perquisites are usually taxable.
You get some amount during retirement/while leaving the job. PF, Pension, and Gratuity are some examples
PF(employer contribution) : PF means Provident Fund, a savings scheme to save for your retirement. The employer has to contribute a minimum amount from his side(equal to 12% of basic). A part of this amount goes into Pension account, which gives you monthly pension when you retire. The other part of this amount will go into your PF account which has a high interest rate. No tax needs to be payed for this amount(T & C apply!). This PF can be withdrawn under other emergencies also like medical, unemployment, etc.
Gratuity : The company has to give you a lump-sum when you retire as a token of gratitude. This lump-sum will depend on how many years you worked, and your monthly salary. Tax rules later... In your case, if you work for 10 years your gratuity will be ~3.5L.
Usually you get your salary only after the taxes are deducted. This is called TDS.
Taxes : A part of all these above salary components will go to taxes(as TDS), and the remaining only you get from the company (Tax Deduction at Source). It’s like paying the expected tax for that year in monthly installments( TotalTax/12). A couple of things are exceptions, for example the 12% of basic which went into PF account, the employers contribution to PF and pension, medical insurance, etc. are tax free. There are possibilities to reduce your TDS like claiming your HRA for rent, loans, investments, donations, etc. for which you need to tell your plans to your employer through a form.
Summary
(1)A part of basic, HRA, LTA, Special Allowance,etc. you get for monthly use. You may also get bonus or performance based
(2)You get benefits like Medical Insurance, Life Insurance, stock incentives,etc.
(3)A part(12%) of basic salary is saved in your PF account for your retirement. The employer also puts the same amount which will be used for your retirement and pension. Some employer provide other things like gratuity
(4) TDS is deducted from your salary every month.
This article has given a basic idea of some common jargons related to salary. We’ll try to understand about some tax terminologies and calculations sometime in the future.