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Chapter 4 Exemptions under Section 10 of the Income Tax Act

Section 10 of the Income Tax Act specifies certain specific allowances or exemptions, as they are referred to, on income for taxpayers. All incomes other than those explicitly mentioned in this section are taxable in the hands of the recipient.

There are two such lists that are issued under the Income Tax Act and modified from time to time.

Firstly, there is the list in which incomes and allowances are fully exempt in the hands of the assesse, i.e. no tax is payable on such income. However, in most cases, you are still required to disclose the details of the exempted income in your annual tax returns.

Secondly, there is a list in which some expenses are partially tax exempt. Any source of income that is not mentioned in these two lists is, by definition, fully taxable in the hands of the assesse.

All incomes that do not figure in these lists of fully exempt or partially exempt income are, by default, fully taxable in the hands of the recipient.

To simplify things, we have divided this chapter into three modules:

  • Module 1: It deals with the comprehensive list of all exemptions under Section 10 of the Income Tax Act.
  • Module 2: It explains, in detail, the selected heads of income relevant to investors that are fully exempt from tax in the hands of the recipient.
  • Module 3: It explains, in detail, the selected heads of income relevant to investors that are partially exempt from tax in the hands of the recipient

Let us first look at the comprehensive list of incomes that are exempt under section 10 of the Income Tax Act (this is a consolidated list of fully and partially exempt incomes).

Module 1: Income Exempt Under Section 10 of the Income Tax Act

Under the Income Tax Act, there is a list of 89 specified heads of income that are either fully or partially exempt from tax. They have been enumerated as under:

1. Agriculture income [Section 10(1)]

2. Any sum received by a coparcener from Hindu Undivided Family (HUF) [Section 10(2)]

3. Share of income from the firm [Section 10(2A)]

4. Interest paid to non-resident [Section 10(4)(i)]

5. Interest to non-resident on non-resident (external) account [Section 10(4)(ii)]

6. Interest paid to a person of Indian origin (PIO) who is non-resident [Section 10(4 B)]

7. Travel concession to an Indian citizen employee [Section 10(5)]

8. Remuneration received by an individual who is not a citizen of India [Section 10(6)]

9. Tax paid by the government or Indian concern on income of a foreign company [Section 10(6A), (6B), (6BB) and (6C)]

10. Perquisites and allowances paid by the government to its employees serving outside India [Section 10(7)]

11. Employees of foreign countries working in India under cooperative technical assistance programme [Section 10(8)]

12. Income of a consultant [Section 10(8A)]

13. Income of employees of consultant [Section 10(8B)]

14. Income of any member of the family of individuals working in India under co-operative technical assistance programmes [Section 10(9)]

15. Gratuity [Section 10(10)]

16. Commuted value of pension received [Section 10(I0A)]

17. Amount received as leave encashment on retirement [Section 10(10AA)]

18. Retrenchment compensation paid to workmen [Section 10(10B)]

19. Payment received under Bhopal Gas Leak Disaster (Processing of Claims) Act, 1985 [Section 10 (10BB)]/ compensation received in case of any disaster [Section 10(10BC)]

20. Retirement compensation from a public sector company or any other company [Section 10 (10C)]

21. Income by way of tax on perks [Section 10(10CC)]

22. Any sum received under a life insurance policy [Section 10(10D)]

23. Payment from statutory provident fund [Section 10(11)]

24. Payment from recognised fund [Section 10(12)]

25. Payment from superannuation fund [Section 10(13)]

26. House rent allowance (HRA) [Section 10(13A) Read with Rule 2A]

27. Any allowance given for meeting business expenditure [Section 10(14)]

28. Interest incomes [Section 10(15)]

29. Lease rental income of a foreign government or foreign enterprise from leasing of aircraft/aircraft engine to an Indian company [Section 10(15A)]

30. Scholarship [Section 10(16)]

31. Allowance of MP/MLA/MLC [Section 10(17)]

32. Awards instituted by government [Section 10(17A)]

33. Pension received by certain winners of gallantry awards [Section 10(18)]

34. Family pension received by family members of armed forces including paramilitary forces [Section 10(19)]

35. Income from one palace of a former ruler [Section 10(19A)]

36. Income of a local authority [Section 10(20)]

37. Income of scientific research association [Section 10(21)]

38. Income of a news agency [Section 10(22B)]

39. Income of some professional institutions [Section 10(23A)]

40. Exemption of income received by regimental fund [Section 23AA]

41. Income of a fund set-up for the welfare of employees or their dependents [Section 10(23AAA)]

42. Income of a pension fund set up by LIC or other insurer [Section 10(23MB)]

43. Income of institutions established for development of Khadi and village industries [Section 10(23B)]

44. Income of state-level Khadi and Village Industries Board [Section 10(23BB)]

45. Income of certain authorities set up to manage religious and charitable institutions [Section 10(23BBA)]

46. Income of European Economic Community [Section 10(23BBB)]

47. Income of a SAARC fund for regional projects [Section 10(23BBC)]

48. Any income of Insurance Regulatory and Development Authority [Section 10(23BBE)]

49. Income of Prasar Bharti [Section 10(23BBH)] [Inserted by the Finance Act 2012, w.e.f. 2013-14]

50. Any income received by a person on behalf of following funds [Section 10(23C)]

51. Income of mutual fund [Section 10(23D)]

52. Exemption of income of a securitisation trust [Section 10(23DA) [w.e.f. AY2014-15]

53. Income of investor protection fund [Section 10(23EA)]

54. Income of the Credit Guarantee Trust for Small Industries [Section 10(23EB)]

55. Exemption of income of investor protection fund of depository [Section 10(23ED)] [w.e.f. AY2014-15]

56. Exemption for certain incomes of a venture capital company or venture capital fund from certain specified business or industries [Section 10 (23FB)]

57. Income of registered trade unions [Section 10(24)]

58. Income of provident and superannuation funds [Section 10(25)]

59. Income of Employee’s State Insurance Fund [Section 10 (25A)]

60. Income of Schedule Tribe Members [Section 10(26) and 10(26A)]

61. Income of Sikkimese individual [Section 10(26AAN] (With retrospective effect from April 01, 1990)

62. Regulating the marketing of agricultural produce [Section 10[26AAB]

63. Income of a corporation set-up for promoting the interests of scheduled castes, scheduled tribes, or backward classes [Section 1 0(26B)]

64. Income of a corporation set-up to protect the interests of minorities [Section 10(26BB)]

65. Any income of a corporation for ex-servicemen [Section 10(26BBB)]

66. Income of cooperative society looking after the interests of scheduled castes or scheduled tribes or both [Section 10(27)]

67. Any income accruing or arising to commodity boards, etc. [Section 10(29A)]

68. Amount received as subsidy from or through the tea board [Section 10(30)]

69. Amount received as subsidy from or through the concerned board [Section 10(31)]

70. Income of child clubbed uls 64 (IA) [Section 10(32)]

71. Income from transfer of capital assets of UTI [Section 10(33)]

72. Income by way of dividend from Indian company [Section 10(34)]

73. Exemption of income to a shareholder on buyback of shares of unlisted company [Section 10 (34A) [w.e.f. AY2014-15]

74. Income from units of UTI and other mutual funds [Section 10(35)]

75. Exemption of income from securitisation trust [Section 10(35A)] [w;e.f A.Y. 2014-15]

76. Income from sale of shares in certain cases [Section 10(36)]

77. Capital gain on compulsory acquisition of urban agricultural land [Section 10(37)]

78. Long term capital gain on transfer of shares and securities covered under securities transaction tax (STT) [Section 10(38)]

79. Income from international sporting event [Section 10(39)]

80. Income received as grant by a subsidiary company [Section 10(40)]

81. Income from transfer of asset of an undertaking engaged in the business of generation, transmission, or distribution of power [Section 10(41)]

82. Income of a body or authority set up by two countries [Section 10(42)]

83. Reverse mortgage [Sec. 10(43)]

84. New Pension System Trust [Sec. 10(44)]

85. Exemption of allowance or perquisite to chairman/member of UPSC [Section 10 (45)]

86. Exemption of ‘specified income’ of certain bodies or authorities [Section 10(46)]

87. Exemption of income of notified ‘infrastructure debt fund’ [Section 10(47)]

88. Exemption of income of a foreign company from sale of crude oil in India [Section 10 (48)]

89. Exemption of income of National Financial Holdings Company [Section 10(49)] [w.e.f. AY2014-15]

Module 2: Fully Exempt Income under Section 10 of the Income Tax Act

There are certain types of incomes that are fully exempt from income tax as per Section 10. Key exemptions from an financial and investment point of view have been explained in greater detail in this module. The focus is on the heads of income that are relevant to individual assessees.

Agriculture Income Exemption

  • Agricultural income in India is exempt from tax. This includes any rent or revenue derived from land used for agricultural purposes or agricultural produce sold in the market.
  • Any income from farm house, subject to certain satisfactory conditions specified in section 2(1A), would be exempt.

HUF/Estate Income Exemption

Any amount received out of family (HUF) income; or in the case of indivisible estates, income of any member from the family estate of such HUF is exempt from tax.

For example: Depending on their level of income, some HUFs are liable to pay tax while other HUFs are not. Either way, if an HUF pays out a share of its profits to any coparcener, then that amount will be tax-free in the hands of the coparcener. In this case, it does not matter if the HUF is paying taxes or is exempt.

Share of Profit from Partnership Firm

  • As per section 10(2A), share of profit received from a firm by a partner is exempt from tax in his/her hands.
  • Further, share of profit received from a limited liability partnership (LLP) by a partner will be exempt from tax in his/her hands.
  • In the case of both partnership firms and LLPs, it is only the share of profits that will be tax-free. Other incomes like interest on capital will be taxed as income in the hands of the partner.

Certain Interest to Non-Residents Indians (NRIs)

Any income earned by way of interest on certain notified securities, bonds (income by way of premium on the redemption of such bonds), or an NRE* account is exempt from tax in the hands of individual taxpayer.

*Any income by way of interest in an NRE Account in any bank in India shall be exempt from tax in case of an individual. An NRI account is a foreign currency account which is freely repatriable and thus not taxable in India.

Leave Travel Concession (LTC) Offered by the Employer

  • Under section 10(5), an employee can claim exemption in respect of LTC paid by the employer as part of the salary package.
  • This facility is available to all employees (i.e. Indian as well as foreign citizens)
  • There are some basic conditions to availing LTC. It is only exempt twice in a block of four years and is payable from the place of work to the farthest point as per eligible travel method. Also, it is only exempt against actual original bills submitted and does not include stay and food expenses. It is important that the employee is marked as absent during the period of the LTC claimed.

Remuneration Received by a Non-Citizen

  • Such individuals include ambassadors or other officials of the Embassy, High Commission, or Legation of a foreign State in India, Consulate Officer of a foreign State in India, and trade commissioner or other official representatives of a foreign State in India.
  • Remuneration received an employee of a foreign enterprise for services rendered in India, provided:
    (a) the foreign enterprise is not engaged in any trade or business in India;
    (b) the official’s stay in India does not exceed 90 days in the financial year; and
    (c) Such remuneration is not liable to be deducted from the income of the employer chargeable under this Act

Tax Exemption for Life Insurance Corporation (LIC) of India

Life insurance is taken by individuals as a protection against the uncertainty of death which may result in the loss of family income and resources. Thus, this particular earning from the policy qualifies for some special concessions. Any sum received under a life insurance policy is fully exempt in the following cases:

  • If any sum received from the insurer on insurance of a dependent handicapped member [under subsection (3) of section 80DD].
  • If any sum received from insurer when a dependent, or a member of family is suffering from a notified disease [under subsection (3) of section 80DDA].
  • Any sum received under a key man insurance policy. A key man insurance policy is taken by a company on the life of its key employees or senior directors, where loss of life has larger implications for the future of the company in question.
  • Any other policy (not being the case when sum received on the death of a person):
    - Policy issued before April 1, 2003 – Exemption available, i.e. no tax liability.
    - Policy issued on or after April 1, 2003, but before April 1, 2012 – Exemption available only when annual premium payable exceeds 20% of sum assured.
    - Policy issued on or after April 1, 2012 – Exemption available only when annual premium payable exceeds 10% of sum assured.
    - Policy issued on or after April 1, 2013, for a disabled person referred to in section 80U or a person with disease or ailment specified in section 80DDB – Exemption available only when annual premium payable exceeds 15% of sum assured.
  • Any other policy (sum received on the death of a person) – Exemption available, i.e. no tax liability.

Payment from Statutory Provident Fund (when they are exempt)

Any payment received on statutory provident fund related to employer’s contribution, interest, or amount received on termination is fully exempted from tax. However, it needs to be remembered that India still follows the EEE (Exempt, Exempt, Exempt) approach to taxing provident funds. Several committees have recommended shifting to the EET model where the contribution gets exemption and the interest is tax-free in all years except the year of redemption.

Specific Interest Incomes Exempt From Tax

Any interest income, by default, is treated as other income in the hands of the recipient and is taxed at the peak rate applicable to the assessee. However, there are certain specific cases where the Income Tax Act has made certain classes of interest income exempt in the hands of the assessee.

Here are some forms of interest earnings that are fully tax-exempt in the hands of the recipient:

  • Interest/premium on select notified bonds, certificates, and deposits
  • Interest on notified capital investment bonds
  • Interest on notified relief bonds
  • Interest on specifically notified bonds/debentures of public sector undertakings (PSUs)
  • Interest on gold deposit bonds under the Gold Deposit Scheme (GDS), 1999, or deposit certificates issued under the gold monetization scheme of 2015

Stipend Scholarship Received Under Section 10(16)

  • Scholarship is free (or subsidized) education awarded to exemplary students. It covers the cost of education like tuition fees and other related expenses.
  • The scholarship could be from the government or a university, board, or trust, etc., and is exempt to the fullest amount.

Pension Received by Certain Winners of Gallantry Awards

Individuals who have received any of the gallantry awards mentioned below are exempted from paying taxes on their pension.

  • Service to Central or State Government
  • Awarded ‘Param Vir Chakra’, or ‘Mahavir Chakra’, or ‘Vir Chakra’, or such other notified gallantry awards

Also, any amount received as family pension by a family member of such individuals will also qualify for exemption.

Exemption to a Shareholder on Buyback of Shares of Unlisted Company(ies)

Any income that a shareholder accrues from the buyback of shares by an unlisted company, as referred to in section 115QA, will be fully exempt from tax.

Income From Units of UTI and Other Mutual Funds (Section 10-35 of the IT Act)

All the below following are exempt:

  • Dividend income covered under section 115-O
  • Income in respect of units of a mutual fund
  • Income received by unit holder of UTI
  • Income earned by other such specified units

However, there was a small amendment to this clause in the Union Budget 2018.

According to this amendment, dividends received from an equity fund will be tax-free in the hands of the investor but will attract a dividend distribution tax of ‘10%+surcharge+cess’ and the investor will only receive the net dividend.

Secondly, in case of profits made from sale of mutual funds held over one year (long-term), all capital gains above the cap of Rs1 lakh earned in equity funds after April 01, 2018, will be taxed at a flat rate of 10%. For short-term holdings, i.e. funds held for less than 1 year,

Income earned by Mutual Funds will be tax-free under Section 10 (23D) of the IT Act

Any income of following mutual funds (subject to provisions of sections 115R to 115T) is fully exempt from tax. This is to facilitate a ‘pass-through’ status to mutual funds to reduce their cost of transacting.

  • A mutual fund registered under the Securities and Exchange Board of India (SEBI) Act or regulation made thereunder.
  • A mutual fund set-up by a public sector bank, or a public financial institution, or authorised by the Reserve Bank of India (RBI) (subject to conditions notified by the central government).

Exemption of Income From Securitization Trust

This is an extension of the mutual fund argument where the trust status of a mutual fund is extended to such securitization trust. This was amended recently to make the pass-through status possible so that it could result in the development of a market for real estate investment trusts (REITs) and infrastructure investment trusts (InvITs) in India. Any person who is an investor in a securitization trust and receives any earning by way of distributed income from said trust shall be exempt from paying tax.

Income From Sale of Shares in Certain Cases

Any income arising from the transfer of long-term capital assets that are eligible equity shares that were held for a period of 12 months or more shall be exempt. This is subject to modifications from time to time.

Capital Gain on Compulsory Acquisition of Urban Agricultural Land

Any income chargeable under the head “capital gain” that has arisen from the transfer of agriculture land shall be exempt. However, such incomes need to be disclosed explicitly in the income tax returns.

Long-Term Capital Gain on Transfer of Shares and Securities Covered Under Securities Transaction Tax (STT)

For long-term capital gains from equities to qualify for preferential tax treatment status, the following conditions should be satisfied:

  • At the time of asset transfer, transactions must be liable to STT
  • The assets include equity shares, or a unit of a business trust, or units of an equity-oriented mutual fund
  • It must be a long-term capital asset, i.e. held beyond 12 months
  • Transfer must have taken place on or after October 1, 2004

Effective April 01 2018, there has been a slight modification to this exemption. Long-term capital gains (LTCG) over Rs1 lakh in a financial year will attract a flat tax rate of 10%. This flat tax would have to be paid without the benefit of indexation and even if the STT was paid at the time of the transaction.

Reverse Mortgage under Section 10(43) of the Income Tax Act

Any amount received by an individual as a loan, either lump sum or in instalments, in a transaction of reverse mortgage referred in clause (xvi) of Section 47 shall be exempt. A reverse mortgage is where the owner of the property reverse lends to an aggregator to earn regular rental income on the same.

Section 10(44): New Pension System Trust

Any income received by any person for or on behalf of the New Pension System Trust established on February 27, 2008, shall be exempt.

Section 10(47): Exemption of Income of Notified ‘Infrastructure Debt Fund’

It shall be exempt from income tax when the fund is set up as per the prescribed guidelines and notifications issued by the government in this regard.

Section 10(49): Exemption of Income of National Financial Holdings Company

Any income of the National Financial Holdings Company, being a company set up by the central government, shall be exempt.

SECTION 3 - Incomes Partially Exempt under Section 10 of the IT Act

This category includes allowances that are exempt up to certain limits specified in the Income Tax Act. For certain allowances, exemption depends on the amount of allowance spent for the purpose for which it was received; for other allowances, there is a fixed cap on exemption. These are as follows:

House Rent Allowance (HRA) Exemption

An allowance granted to a person by his employer to meet expenditure incurred on payment of rent in respect of residential accommodation occupied by the former is exempt from tax to the extent of least of the following:

  • House Rent Allowance (HRA) actually received by the assessee
  • Excess of rent paid less 10% of salary* due to him
  • An amount equal to 50% of salary due to assessee

Let us understand this with an illustration. Rakesh Sinha receives HRA of Rs.1.5 lakh per annum and his total Basic + DA is Rs.6 lakh per annum. He is currently paying rent of Rs1.6 lakh per annum for an apartment in Mulund, Mumbai.

In the case of Rakesh, the exemption amount will be the least of the three, i.e.:

Actual HRA: Rs.1,50,000
Rent paid – 10% of (Basic + DA) = (Rs.1,60,000 – Rs.60,000) = Rs.1,00,000
50% of salary = Rs.3,00,000

In the above example, the minimum amount exempt will be Rs.1 lakh out of HRA. So, out of an HRA of Rs.1.5 lakh, Rs.1 lakh will be exempt and Rakesh will have to pay tax on the balance HRA of Rs.50,000 per annum.

Entertainment Allowance

This allowance is first included in gross salary under allowances and then deduction is allowed. In the case of government employees, the least of the following is exempt:

1. Rs.5,000

2. 20% of salary

3. Entertainment allowance actually received

Leave Encashment for Government Employees [Section 10(5)]

For government employees, leave encashment upon retirement or leaving the job is tax free under Section 10. For non-government employees, it is exempt up to the least of the following:

  • Earned leave (no. of months) multiplied by the average monthly salary
  • 10 multiplied by average monthly salary
  • Rs.3,00,000
  • Actual leave encashment received

Superannuation Fund Taxability

A pension fund created by a company for its employees’ benefit paid after retirement or withdrawal with approval of the commissioner of income tax is exempt up to Rs.1,50,000. Moreover, the entire interest accumulated on such fund is also exempt.

Prescribed Allowances or Benefits

As per Section 10(14), certain allowances like Children Education Allowance, Children Hostel Allowance, Underground Allowance, Field Area Allowance, Travel Allowance to meet the cost of official tours, Helper Allowance, Uniform Allowance, Research Allowance, Hill Area Allowance, Remote Area Allowance are all exempt up to prescribed limits.

Recognised Provident Fund Receipts

The IT Act prescribes clear exemptions for PF contribution, interest income, and redemption as under. Any amount received against recognized provident fund by way of will entail exemptions up to limits specified hereunder:

  • Employer’s contribution: Exempt up to 12%
  • Interest: Exempt up to 9.5%
  • Amount received on termination: Fully exempt

Gratuity Exemption under Section 10(10)

There are separate rules for gratuity exemption in the case of government employees and non-government employees covered under the Payment of Gratuity Act, 1972.

The amount received by government employees (i.e. central, state, or local) for death-cum-retirement is fully exempt.

Gratuity income received by employees covered under the Payment of Gratuity Act, 1972, is exempt from income tax to the extent of the least of the following:

a) 15 day’s salary multiplied by years of services
b) Maximum amount: Rs.20 lakh
c) Amount actually received

The exemption limit of gratuity was recently enhanced to Rs.20 lakh from Rs.5 lakh earlier.

Section 10(10a): Commuted Pension Taxability

  • The full amount of commuted value of pension received is exempt if it is received from the government, a local authority, or a statutory corporation.
  • Any payment in commutation of pension received under any scheme from any other employer to the extent it does not exceed:
    (a) In cases where the employee receives any gratuity, the commuted value of 1/3rd of pension which he is normally entitled to receive
    (b) In any other case, the commuted value of 1/2 of such pension

Leave Encashment Exemption in Specific Cases

  • Central & state government employees: Any payment received as the cash equivalent of the leave salary in respect of the earned leave at his credit at the time of his retirement shall be fully exempt.
  • Other employees: Any payment received as the cash equivalent of the leave salary at his credit at the time of superannuation shall be exempt up to least of the following:
    (a) Actual amount received
    (b) (Average salary means average of salary drawn by the employee in the 10 months immediately preceding his retirement)
    (c) Cash equivalent of leave salary due at the time of retirement
    (d) Notified limit: Rs.3 lakh

Amount received in excess of the least of the above shall be taxable at rates applicable to individual assesses.

Retrenchment Compensation Paid to Workmen

As per Section 10(10B), compensation received at the time of retrenchment is exempt from tax to the extent of the least of the following:

  • An amount calculated in accordance with the provisions of Section 25F(b) of the Industrial Dispute Act, 1947
  • Maximum amount specified by the Central Government (Rs.5 lakh)
  • Actual amount received

Section 10 of the Income Tax Act forms one of its key bases by defining the negative list of incomes that are either fully exempt or partially exempt. This is the basis of determining tax liability as any head of income that does not fall under the Section 10 category is automatically fully taxable in the hands of individual assesse.

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