In today’s times, employers are ready to go that extra mile to hire the right talent, whether from another city or another country. It is not uncommon for the employer to provide various incentives to attract the right talent and encourage them to relocate to another city. One such incentive could be free housing for the employee and her family. Often, the employee identifies the house of her choice and the employer agrees to pick up the cost of the house rent.
At this point, the employee may have a choice—to lease the house herself and receive a house rent allowance (HRA) from the employer to cover the rent (the HRA route) or to have the employer enter into the lease and pay the rent directly to the landlord (i.e, opt for company leased accommodation).
At this juncture, a company-leased accommodation may look more attractive than the HRA route, as it does not involve signing agreements and dealing with brokers. If the company has already identified an accommodation ready for the employee to move in, the proposition would be most convenient. However, one key consideration that could be taken into account, before arriving at a decision, is the income tax outflow that each route entails. Company-leased accommodation is considered a perquisite in the hands of the employee, and its value is determined as per the income tax rules. On the other hand, in the HRA route, rent paid by the employee makes her eligible to claim tax exemption in respect of the HRA she receives: the HRA is tax-free up to the prescribed limits.
The employer enters into the lease agreement with the landlord, pays the rental deposit and pays the monthly rent directly to the landlord. The house may be a ‘ready to move in’ accommodation, pre-identified by the company or it could be a house of the employee’s choice. Opting for company-leased accommodation helps the employee settle down faster in a new city and the company is also at an advantage because the employee can concentrate on the new job without the added stress of arranging accommodation. For tax purposes, the accommodation provided by the company is treated as a ‘perquisite’ in the hands of employee and is considered to be a part of her taxable salary. The value of such accommodation is calculated as 15% of the salary or actual rent paid by the employer, whichever is lower.
‘Salary’ here includes the total salary, but excludes the allowances exempted from tax, employer’s contribution to the provident fund, any medical benefits paid by the employer and value of other perquisites like electricity bills, and car or club expenses provided by the employer. If the rent paid by the employer is more than 15% of the salary, the employee stands to gain because a part of the rent paid by the employer goes tax free.
House rent allowance
The employer usually offers HRA as a part of the salary package of the employee. This allowance is used by the employee to meet the actual rental expenses for her accommodation. The allowance is determined on the basis of the employer’s policies and the cost-to-company (CTC) structure. As per the income tax regulations, an employee staying in rented accommodation and paying rent, is eligible for an exemption of the HRA to the extent of the least of the following:
i. Actual amount of HRA received; or
ii. 50% (for Chennai, Mumbai, Kolkata and Delhi) or 40% (for other places) of the salary for the relevant period; or
iii. Rent paid in excess of 10% of salary for the relevant period.
‘Salary’ here means basic salary plus dearness allowance, if the terms of employment so provide.
Thus, the entire rent paid by the employee is not deductible from her taxable HRA—so the HRA exemption will always be slightly lower than the actual rent paid. The entire HRA will be exempt from tax only if the rent paid is at least 60% of the salary. To avail an exemption, the employee needs to submit rent receipts and details of the landlord. While an employee may opt for HRA and save on taxes, she may have to incur additional costs in terms of registration fees, broker’s fees and also pay the initial security deposit. If the security deposit is paid by the employer, this is treated as a loan given by the employer to the employee and a notional interest thereon is taxable in his hands.
Given that both the options have their pros and cons, taxability may be the deciding factor.
Let us assume that an employee has a salary of Rs16 lakh after paying rent of Rs4 lakh. However, the tax she pays under the HRA option will be Rs49,440 lower than what she would have paid under the company-lease accommodation route.
Which route will prove beneficial from a tax perspective depends on the rent paid and the salary structure. In most cases, the HRA route is beneficial and helps save some taxes. But before deciding if it is worthwhile, take out some time to calculate the tax effect. The decision may also be influenced by various other factors.
Homi Mistry is partner, Deloitte Haskins & Sells LLP.