Special Allowance in Salary: Definition, Taxation and Exemptions

A special allowance in salary refers to an additional fixed sum provided by an organisation to its employees for specific purposes. This extra payment is predetermined and commonly found across various business entities.

Special allowances are typically calculated based on an employee’s basic salary and may include tax-exempt or taxable components, depending on the nature of the allowance. Understanding these allowances is crucial for both employers and employees to ensure compliance with tax regulations and optimise salary structures.

Read on to explore the details of special allowances in India.

Definition of Special Allowance

Special allowances depend on the employee performance, employee’s position and overall financial health of an organisation. Some organisations might add special allowance in salary simply as a bonus to appreciate the work quality of an employee.

Other entities may also provide such allowances based on the principles of "employment of profit," as outlined in the Income Tax Act of 1962. However, when an allowance is granted as a reward for exceptional performance, it may qualify for tax exemption under the provisions of the IT Act.

How do Companies Mention a Special Allowance in Salary Slips?

Companies might feature special allowances on employee salary slips by excluding existing overheads. The overheads can include convenience, Dearness Allowance (DA), HRA and LTA.

The remaining amount is categorised as a unique allowance. For instance, after calculating an employee's CTC by accounting for all components and overheads, the leftover amount is designated as special allowances.

How Special Allowance in Salary is Different From Prerequisites?

Below are the parameters differentiating special allowance from prerequisites:

Special Allowance in Salary in India and Tax Exemptions

Special allowances may be subject to taxation depending on their purpose and nature. Below are key factors that determine their taxability:

• Job-Related Allowances: Allowances paid only for job-related expenses are eligible for tax exemptions while personal allowances are taxable. 
• HRA and LTA: Allowances like House Rent Allowance (HRA) and Leave Travel Allowance (LTA) have specific exemptions under the Income Tax Act.
• Taxable Components: When allowances provided for personal causes exceed the exemption limits, they become taxable. 
• Exempt vs Taxable: Special allowances might become taxable but transport or education allowances become tax-exempt if they meet certain criteria. 

Tax Exemption on Special Allowances Under Old and New Tax Regime

Here are the different special allowance in salary and respective tax exemptions under old and new tax regimes:

1. Exemptions on Personal Allowances

If you are wondering whether the special allowance in salary is taxable or not, take a look at the table below:

1. Exemptions on Official Allowance

Find the tax exemptions on the official allowances under new and old tax regimes in the table below:

Calculating Special Allowance in Salary

Special allowances for employees usually vary from organisation to organisation and are based on their gross salary. 

For example, Suppose an employee has a basic salary of ₹50,000 per month. They receive a transport allowance of ₹1,600, which is fully tax-exempt under the prescribed limit.

In this case, tax is applied only to the basic salary of ₹50,000, while the transport allowance remains non-taxable.

Steps to Calculate Special Allowances

The calculation process for special allowances might vary between organisations but here is how it typically works:

Step 1: Locate your basic salary and other included components in your salary structure.

Step 2: Calculate any added and fixed allowances like medical allowances, transport or education. 

Step 3: Deduct any tax-exempt allowances such as transport allowances up to ₹1600 or allowance for children's education.

Step 4: Add the unique or special allowance in salary after calculating other allowances and deductions.

Step 5: Ensure the special allowance is included in the total Cost to Company (CTC) and determine its tax implications.

Final Word

Employers in India pay special allowance in salary to their employees for job-related or personal expenses. Employees can determine their special allowance by deducting specific components like HRA, DA, and LTA, from their salary structure.

With the introduction of the new tax regime, certain allowances that were previously tax-exempt under the old regime are now taxable. Understanding these changes can help employees make informed financial decisions.

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