Taxability in India is dependent upon tax residency of an individual during a tax year (tax year in India runs from April 1 to March 31), which is based on the number of stay days of such individual in a tax year. Tax Residency can be categorised as Ordinarily Resident (ROR), Not Ordinarily Resident (NOR) and Non Resident (NR). While NOR and NR are generally taxed on India sourced income, ROR is taxed on global income in India. Typically, an expatriate shall qualify as ROR from third/fourth year onwards and be liable to tax on global income in India from such year only. However, relief could be explored under the relevant tax treaty.

India adopts a Pay As You Earn (PAYE) basis of taxation, with obligation being cast on the employer to withhold appropriate taxes at the time of payment of salary. Specific compliances have been prescribed for both employer and employees. Employer compliances include obtaining withholding tax registration, regular withholding and deposit of taxes, quarterly filing of withholding tax returns, etc. Similarly, an employee is required to obtain tax registration, file annual tax return, etc.

The highest tax rate (more popularly known as the maximum marginal rate) for individuals has been pegged at 33.66 percent over the last two years (India follows a slab basis of taxation for individuals). Currently, an income over 250,000 INR (USD 5,500 approx) attracts a tax rate of 30.6 percent on amount in excess of 250,000 INR. A surcharge of 10 percent is leviable in case income of an individual exceeds one million INR (USD 22,000 approx), thereby attracting a tax rate of 33.66 percent. There are concessional slab rates for taxation of women and senior citizens.

Generally, salary in India comprises base salary, allowances (fixed sum paid to an employee for a specific purpose), perquisites (benefits in cash or kind) and retirals.

While base salary is fully taxable in the hands of employees, certain allowances and perquisites are taxed concessionally. These include House Rent Allowance, Children Education Allowance, Leave Travel Assistance, Rent Free Accommodation (in lieu of housing allowance), etc. Provisions in relation to allowances have not been substantially amended for the past few years. With the introduction of FBT, incidence of tax for certain perquisites such as car and driver, medical, domestic servants, telephone, etc has been shifted from employees to the employer.

Retirement benefits provided to employees generally are in the form of contribution to provident fund, superannuation fund and gratuity. Specific rules are provided in the law for taxability/ exemption of retirement benefits. Though in 2005, it was proposed to move towards the Exempt-Exempt-Tax (EET) regime for long term savings, the timing and specific steps to move to an EET regime are yet to unfold.

With fewer avenues for tax planning, the corporates are constantly exploring new elements of compensation, which can reduce the tax burden for employees and at the same time minimise the FBT liability for an employer. Employee Stock Options are gaining importance, primarily due to the fact that it does not attract FBT and results in a lower taxability if the Stock Option Plan qualifies as a Compliant Plan.