Hi Dhruv,
In my opinion, only the net salary—remaining after the deduction of notice pay—would be taxable in the hands of the employee. Had it been the other way around i.e. the employee had been fired instead of resigning on his own, the employer would have paid him a month's (or whatever the period of notice) salary. That amount would've been taxable in his hands, wouldn't it? Now that the employee has foregone a month's salary for leaving all of a sudden, shouldn't he be entitled to have that amount knocked off his gross salary? But there's no scope of any deduction from salary---the list of items that can be deducted out of salary as mentioned in Section 16 is exhaustive, the purists might argue. My contention is: the employee was made to forego that salary as part of the terms of employment he had with the employer. I don't think it's an application of income, like say a manager working in a charitable organization foregoing his salary. The manager would still be liable to get taxed on that amount because he's done it voluntarily. But the salaried guy who decides to say goodbye to his employer after finding greener pastures elsewhere isn't foregoing his pay voluntarily—the terms of the employment leave him no choice but to part with a certain period's salary. He gets taxed for the salary he gets in pursuance of the terms of the employment. So how can we tax him for the salary he has had to give up in pursuance of the terms of employment?We do have a case law on this. The facts aren't exactly the same, but the principles of salary taxation have been discussed beautifully. In the case of CIT v. Bachubhai Nagindas Shah [1976] 104 ITR 551 (Guj.), the assessee was appointed as a director of the company on a remuneration of Rs. 400 per month. As the company incurred heavy losses, the board of directors of the company resolved that the directors should waive their rights of remuneration in the previous year. Consequent to this resolution the assessee waived his right of remuneration of the sum of Rs. 4,800, which had become due to him in the relevant previous year for the assessment year 1963-64. The ITO assessed the remuneration of Rs. 4,800 as part of the income of the assessee in spite of the waiver of remuneration by the directors.The matter came up before the Gujarat High Court. The court ruled that income tax is a levy on income. Though the Act takes into account two points of time at which the liability to tax is attracted, viz., the accrual of the income or its receipt, the substance of the matter is the income. If income does not result at all, there cannot be a tax, even though in book-keeping, an entry is made about a `hypothetical income', which does not materialise. Where income has, in fact, been received and is subsequently given up in such circumstances that it remains the income of the recipient, even though given up, tax may be payable. Where, however, the income can be said to have not resulted at all, there is obviously neither accrual nor receipt of income, even though an entry to that effect might, in certain circumstances, have been made in the books of account. The Court suggested that appropriate relief must be afforded in the year of waiver out of deduction from salary income even though the Act does not contain any specific provision in this regard.The court citing the SC decision in the case of CIT v. Shoorji Vallabhdas & Co. [1962] 46 ITR 144 (SC) and the Bombay HC decision in H.M. Kashiparekh & Co. Ltd. v. CIT [1960] 39 ITR 706 (Bom.) went on to elaborate the concept of Salary and its taxation in the following words:[Before we part with this case we may point out that the Legislature has provided that salary becomes taxable when it becomes due, that is, on the accrual basis and whether you call it `accrual basis' or to use the language of the relevant section of the Income-tax Act, 1961, say `when the amount of salary becomes due', the principle is the same. It is because of these special provisions of the Income-tax Act, 1961, section 15, that we have come to the conclusion in the instant case that the assessee is liable to pay tax on the amount of salary that became due to him even though subsequently he waived his right to receive the remuneration. However, it appears to us that it is the very basis of the principle of a particular amount being considered as income on the basis of accrual that if at any subsequent point of time it is found that that amount is not deemed to have been received on the basis of accrual or has not in fact been received and the right to receive that amount has been given up because of circumstances of the particular case, then in the year in which the right to receive the money has been waived or given up or agreed to be given up is the period during which an appropriate relief must be given by way of deduction to the assessee concerned because if that were not to be done, the very basic principle of accrual is violated. That principle is that though not received on the basis of accrual, it is due to be received and the tax is payable and has to be paid on that basis. If subsequently it becomes clear that that amount is not to be received though accrued earlier and is not going to be received at all, it is in the fitness of things that corresponding deduction for the amount waived or written off should be given to the assessee in the year of account in which such amount is written off or waived or debited. It is on this basis that in the system of mercantile account keeping, bad debts are written off and deductions are allowed on the basis of bad debts being written off in the year in which the debt is written off by the assessee concerned. It is true that so far as `salaries' are concerned, the income chargeable under the head `Salaries' shall be computed after making the deductions set out in section 16 and the deduction of the type that we are pointing out is not contemplated by the actual words of section 16. But what we are pointing out goes to the very root of the notion of `income' and before anything can be considered `income', this principle which follows from the basic approach of `income accrued' being considered on the same footing as income received must be accepted. It is for the authorities concerned to consider whether in the year in which the assessee agreed to waive his right to receive the amount of Rs. 4,800, he would be entitled to the deduction of this amount on the ground that that which had accrued was in fact not received by him. We are conscious that we cannot issue any directions to the income-tax authorities in this connection but we thought it our duty to explain the legal position as we see it."]In the light of the above discussion, in my view, only net salary (after adjustment of notice pay) need be reported in Form 16. An appropriate footnote may be appended explaining the adjustment. These days the new employer also undertakes to bear the loss arising to the employee on account of his suddenly leaving the previous employer. This reimbursement of notice pay by the new employer is taxable under the head Salary as Profits in lieu of salary u/s 17(3)(iii)(A). So even from a commonsensical point of view, the poor Naukriwala can't be made to pay tax on the same amount twice. Thanks,CA Sanjeev Bedi--- In
http://us.mc508.mail.yahoo.com/mc/compose?to=ICAI_CIRC_MEERUT_CA%40yahoogroups.com, "Dhruv Arora"
wrote:>> Dear Members> > As a usual practice, most companies require their employees to inform them> in advance (a prescribed period), in case they want to leave the job.> It is mandatory for the employee to serve such prescribed period, before he> or she can be relieved.> If the employee fails to serve the notice period he or she is liable to> monetary penalty.> > Now, my question is that can employee claim such penalty against the Salary> Income?> Form No. 16 issued by the company, states the Gross Salary only.> However, the full an final settlement sheet, issued by the company on his> letterhead, mentions such deduction.> > Kindly advise, it would be of great help if a supportive provision/case law> can be provided with.> > Regards> CA Dhruv Arora> Meerut
