A Mumbai resident with a high salary was recently hit with a tax notice after claiming a large House Rent Allowance (HRA) in their Income Tax Return. Their employer accepted the HRA claim without verifying the supporting documents submitted for TDS. However, the individual lacked valid evidence for the claim and faced penalties, forcing them to file an updated return and pay back taxes.
This scenario serves as a critical reminder that the responsibility for tax compliance lies squarely with the assessee, not the employer. The Income Tax Department has a rigorous process for verifying claims, and unsubstantiated declarations, even if made in good faith, can lead to serious legal and financial consequences.
The Indian Income Tax Act is a complex but meticulously designed system, and every exemption comes with a set of rules and required documentation. You can’t just declare an exemption and hope no one notices. As this person found out, the tax authorities have a knack for sniffing out discrepancies. They don’t just take your word for it—they want to see the proof. So, let’s break down what she got wrong and how you can avoid making the same costly mistakes.
HRA Exemption: The “Show Me the Money” Rule
House Rent Allowance (HRA) is one of the most common and significant tax-saving components of a salary. However, it’s not a free pass to reduce your taxable income. The exemption is governed by Section 10(13A) of the Income Tax Act, and it’s based on a “least of the following” formula. The least of these three amounts is your actual HRA exemption:
1. The actual HRA received from your employer.
2. The actual rent paid, minus 10% of your basic salary.
3. 50% of your basic salary, since you’re in a metro city like Mumbai, Delhi, Chennai, or Kolkata. For non-metro cities, it’s 40%.
Let’s apply this to the case of a person with a ₹75 lakh salary. For a salaried individual, the basic salary is typically a portion of the total CTC. Let’s assume a basic salary of ₹30 lakhs and a HRA of ₹15 lakhs for the year. And let’s assume they paid a monthly rent of ₹1.2 lakhs, or ₹14.4 lakhs annually.
Here’s how the calculation would pan out:
1. Actual HRA received: ₹15,00,000
2. Rent paid minus 10% of basic salary: ₹14,40,000 – (10% of ₹30,00,000) = ₹14,40,000 – ₹3,00,000 = ₹11,40,000
3. 50% of basic salary: 50% of ₹30,00,000 = ₹15,00,000
The least of these three amounts is ₹11,40,000. So, despite receiving a HRA of ₹15 lakhs, the person is only eligible for an exemption of ₹11.4 lakhs. The remaining ₹3.6 lakhs would be added to their taxable income. This simple calculation shows that you can’t just declare any amount; the exemption is always tied to the reality of your rent and salary.
The Unforgiving Proofs And TDS Rule
Here’s where our protagonist fell short. The Income Tax Department doesn’t care about your declaration; it cares about your documents. To stay compliant, you must: 1) Obtain a valid rent agreement, 2) Collect and keep rent receipts, 3) Use traceable payment methods such as bank transfer or UPI, 4) Collect the landlord’s PAN or a declaration if PAN is unavailable, and 5) For rent above ₹50,000/month, deduct and deposit TDS as required.
A valid rent agreement: This isn’t just a friendly handshake. It needs to be a legal document that clearly states the names of the tenant and landlord, the address of the property, the monthly rent, the duration of the agreement, and the signatures of both parties.
Rent receipts: These are non-negotiable. You need a record of every rent payment. These can be physical receipts with revenue stamps or, even better, digital records of bank transfers. For annual rent exceeding ₹1 lakh, a landlord’s PAN is mandatory. If your landlord doesn’t have one, they have to provide a declaration stating so.
Proof of payment: Paying rent in cash is a risky business. The Income Tax Department can easily flag large cash transactions. Using bank transfers, UPI, or checks provides a clear and traceable trail of payments, making it easy to substantiate your claims.
And what about TDS? The Mumbai resident in our story had to pay a steep penalty for a high rent. Under Section 194-IB of the Income Tax Act, any individual (or HUF) who pays a monthly rent of more than ₹50,000 is required to deduct TDS at a rate of 2% on the total rent for the year. This is a responsibility of the tenant, not the employer.
This is a critical, and often missed, point. You, as the tenant, become a “deductor.” You’re required to:
1. Calculate the total rent paid for the year.
2. Deduct 2% of that amount. For our example of ₹1.2 lakhs monthly, the total annual rent is ₹14.4 lakhs. The TDS would be 2% of ₹14.4 lakhs, which is ₹28,800.
3. Deposit this TDS with the government using Form 26QC.
4. Issue a TDS certificate (Form 16C) to your landlord.
Failing to do this can lead to you being labeled an “assessee in default,” attracting hefty penalties and interest. So, if your landlord tells you they don’t have a PAN or that “we can do it in cash,” walk away. It’s not their problem; it’s yours.
The Moral of the Story: Stay Compliant
The bottom line: follow these steps to avoid penalties—gather and keep proper rent documentation, verify landlord PAN if needed, make all payments traceable, calculate and deduct TDS if paying rent over ₹50,000/month, and deposit it to the government. Always keep evidence organized and never rely just on the employer’s allowance. You are responsible for compliance.
The Income Tax Department has sophisticated tools to cross-reference data. Your employer’s Form 16, your bank statements, and the landlord’s tax filings can all be compared for accuracy. A mismatch is a red flag, and it will lead to an enquiry.
Don’t let a moment of carelessness lead to a stressful and expensive ordeal. Be meticulous, keep your documents organized, and follow the rules. Because when it comes to your money, the only “liberty” you should be taking is the one to save it legally and without a single worry.
