How you can design an employee CTC?
HR personnel may find it difficult to create a tax-friendly CTC for employees.
The CTC is divided into three categories: basic, allowances, and perquisites. The tax advantage and the employee’s tax burden will differ for each component.
Employees have complete control over their base compensation. Before the extras are added or removed, it is the fixed and base amount an employee receives. Bonuses and allowances are not included in the base salary component. Many benefits, such as HRA and PF, are linked to and proportional to the basic salary.
CTC or Cost to Company is the total amount that a company spends (directly or indirectly) on an employee. It refers to the total salary package of the employee. CTC is inclusive of monthly components such as basic pay, various allowances, reimbursements, etc. and annual components such as gratuity, annual variable pay, annual bonus, etc.
CTC is never equal to the amount of take-home salary of the employee. There are many components in the CTC that one does not receive as part of take-home salary.
CTC = Gross Salary + PF + Gratuity
Let us now discuss common salary components:
Basic salary is the base income of an individual. It is a fixed part of one’s compensation package.
A basic salary depends on the employee’s designation and also the industry in which the employee works.
Gross salary is the amount calculated by adding up one’s basic salary and allowances, before deduction of taxes and other deductions. It includes bonuses, over-time pay, holiday pay, and other differentials.
Gross Salary = Basic Salary + HRA + Other Allowances
Net salary or take-home salary
Net salary or take-home salary is obtained after deducting income tax at source (TDS) and other deductions as per the relevant company policy.
Net Salary = Basic Salary + HRA + Allowances – Income Tax – Employer’s Provident Fund – Professional Tax
An allowance is an amount received by the employee for meeting service requirements. Allowances are provided in addition to the basic salary and vary from company to company. Some common types of allowances are discussed below:
- HRA or House Rent Allowance: It is an amount paid out to employees by companies for expenses related to rented accommodation.
- Leave Travel Allowance (LTA): LTA is the amount provided by the company to cover domestic travel expenses of an employee. It does not include the expenses for food, accommodation, etc. during the travel.
- Conveyance Allowance: This allowance is provided to employees to meet travel expenses from residence to work.
- Dearness Allowance: DA is a living allowance paid to employees to tackle the effects of inflation. It is applicable to government employees, public sector employees, and pensioners only.
- Other such allowances are the special allowance, medical allowance, incentives, etc.
Occasionally, employees are entitled to several reimbursements like medical treatments, phone bills, newspaper bills, etc. The amount is not received in the salary, but on submission of the bills, reimbursement is given. Generally, there is an upper limit for every category of reimbursement.
Employer Provident fund/EPF or Provident Fund
Provident fund is an investment both by the employer and the employee each month, the lump sum amount of which acts as an employee’s retirement benefits scheme.
Provident fund contribution is mandatorily either of the following:
Case 1: Basic salary < 15000 (per month)
12% of the basic salary
Case2: Basic salary > 15000 (per month)
In this case the company has an option to either contribute 12% of 15,000 (i.e. 1800) or 12% of Basic salary.
It is directly deposited in the employee’s PF account. You can check your balance here.
Hence, 12% of the basic salary gets contributed by the employee and another 12% by the employer. Usually, the contribution from the employer can only be seen in your offer letter and not in the payslip. Contribution from your salary is called EPF and it can be seen in the payslip. Contribution to the provident fund is mandatory for Indian companies.
Public provident fund or PPF
PPF is a voluntary contribution by the employee and is completely controlled by him/her. The employer has nothing to do with a PPF account.
This amount is not mentioned in CTC or pay slips, however, if an employee presents it as an investment for tax saving purpose, it will be shown on Form 16.
People open PPF account for two main reasons – one is for tax saving purpose and second for long-term investment. PPF provides 7.6% per annum (compounded annually) and more importantly, both the contribution and maturity amount is tax-free.
Do not confuse this with Employer’s PF contribution.
The company issues a Form 16 which contains the details about the salary earned by the employee and the amount of tax deducted.
The taxpayer is required to submit Form 16 to file the Income Tax returns every financial year. It acts as the proof of his/her income and tax paid to the government.
Gratuity is the part of the salary that is received by an employee from the employer for the services offered by the employee upon him or her leaving the job.