Difference Between Allowances and Perquisites

Understanding the intricacies of compensation packages is crucial for both employers and employees alike. Two components of these packages that often garner attention are allowances and perquisites. Allowances and perquisites serve different purposes and have distinct tax implications, yet they are both essential elements of an employee's total compensation. In this discussion, we will explore the key differences between allowances and perquisites, shedding light on their respective meanings, forms, purposes, and impacts on taxation and overall compensation. By gaining clarity on these distinctions, employers can structure compensation packages more effectively, while employees can better comprehend their total remuneration and potential tax liabilities.

Allowance

Allowance refers to a fixed sum provided to employees periodically to cover specific job-related expenses. Essentially, it serves as compensation for these incurred costs. Such allowances are also considered part of the overall salary and are factored into taxation calculations. From a tax perspective, allowances can be categorized into three main types:

1. Fully Taxable Allowances

• Dearness Allowance: This adjustment allowance is granted to salaried individuals to offset the impact of inflation on living costs.
• Entertainment Allowance: Reimburses expenses incurred for hosting customers. Government employees can deduct the lowest of 1/5th of their basic salary, the actual amount received, or ₹ 5000.
• Overtime Allowance: Compensation for hours worked beyond regular working hours.
• City Compensatory Allowance: Provided to employees in urban areas with high living costs.
• Project Allowance: Granted to cover project-related expenses.
• Meal Allowance: For meal expenses.
• Cash Allowance: Various allowances like marriage, bereavement, or holiday allowances provided in cash.
• Servant Allowance: Provided to employees to hire the services of a servant.
• Medical Allowance: Fixed-rate allowance for medical expenses incurred by employees.

2. Partially Taxable Allowances

• House Rent Allowance: Paid to cover employee accommodation costs.
• Children Education Allowance: Exempt up to a certain amount per child per month, with a maximum of two children. Hostel subsidies are also included.

3. Non-Taxable Allowances

Certain allowances form part of an individual's salary but are fully exempt from taxation, meaning they are deducted from the total taxable income. Here are some commonly known fully exempted allowances:

• Uniform Allowance: Provided to cover the expenses of purchasing or maintaining uniforms worn during official duties. Exempt up to the actual amount spent on such expenses.
• Allowances for Government Employees Abroad: Allowances or perquisites paid by the Government outside India to Indian citizens for services rendered abroad are exempt from tax.
• Allowances for UNO Employees: Allowances paid by the United Nations to its employees are not taxable under the United Nations (Privileges and Immunities) Act.
• Allowances for Judges of High Courts and Supreme Court: Any allowances paid to Judges of High Courts and the Supreme Court are not taxable.
• Compensatory Allowances: Compensation received by judges under Article 222(2) of the Constitution is not taxable as it is neither considered salary nor wages.
• Sumptuary Allowance: Sumptuary allowance provided to High Court Judges under the High Court Judges Act, 1954, is not subject to tax.

Perquisites

Perquisites, often referred to as perks, are additional benefits or amenities provided by an employer beyond the salary, either for free or at reduced rates. These benefits, such as a company car or housing, are connected to the position or office held by the employee. It's important to note that if an employee doesn't utilize these amenities, they don't receive any monetary compensation.

Perquisites should not be confused with reimbursements for official expenses. In modern employment packages, alongside basic pay, perquisites like housing or a servant may be included. From a taxation standpoint, perquisites can be categorized into three types:

1. Taxable Perquisites for All Employees

• Rent-Free Accommodation: Accommodation provided by the employer without rent, except for certain exemptions for high court and supreme court judges.
• Rent Concession: Reduced rent for employer-provided accommodation.
• Employer Payments for Employee Obligations: Employer payments for obligations that would otherwise be the employee's responsibility.
• Life Assurance Contributions: Payments by the employer towards the employee's life assurance.
• Specified Securities or Shares: Provision of specified securities or sweat equity shares by the employer.
• Other Fringe Benefits: Value of additional fringe benefits prescribed by tax authorities.

2. Exempt Perquisites

• Telephone Facility: Employer-provided telephone facilities at the employee's residence.
• Transport Facility: Free or reduced-cost transport provided to employees engaged in business transportation.
• Privilege Passes: Railway privilege passes for employees.
• Foreign Perquisites: Perquisites provided by the Indian government for services rendered abroad.
• Staff Group Insurance Contributions: Contributions to staff group insurance schemes by the employer.
• Personal Accident Policy Premiums: Employer payments for personal accident policy premiums.
• Refreshments: Office-provided refreshments during working hours.
• Recreational Facilities: Club facilities or other recreational amenities for employees.
• Employee Training Expenses: Training expenses, including boarding and lodging costs, incurred by the employer.

3. Taxable Perquisites for Specified Employees:

These apply to directors, employees with significant company interests, or those earning above a certain threshold.

Key Differences

The distinction between allowance and perquisites is outlined in the following points:

• Allowance pertains to the additional amount paid by an employer to an employee to cover specific expenses related to official duties. Conversely, perquisites refer to supplementary benefits provided beyond the legally due amount, as per the terms of employment for services rendered.
• Allowances are typically disbursed in cash, whereas perquisites are often granted in forms other than cash. However, if provided in cash, it usually serves as a reimbursement for expenses already incurred by the employee.
• If allowances are designated for official purposes, they may be exempt from taxation. However, if they are meant for personal use, they are subject to taxation. Conversely, perquisites provided in forms other than cash are evaluated based on the employer's cost and are thus taxable.
• While allowances contribute to increasing the take-home salary of an employee, perquisites generally do not impact the take-home salary directly.
• Allowances tend to elevate the tax liability of the employee, whereas perquisites often result in a reduction of tax liability.

Types of Perquisites

Monetary vs Non-Monetary Perquisites

1. Non-Monetary Perquisites: Non-monetary perquisites are in the form of free facilities that the employees have access to either free of cost or at concessional rates. It must be noted that these prerequisites are taxable in the hands of specified employees. These are:

• Free domestic servant at employees home-like gardener, sweeper, watchman, etc.
• Free water, gas, and electricity at the home of the employee
• Free educational facility for the children of the employee
• Use of company's motor car for free.
• The private journey is offered for the free or concessional rate to the employee or family of the employee.

2. Monetary Perquisites: Monetary perquisites are the perquisites that can be claimed as reimbursement. These are taxable for all employees. It includes

• Reimbursement of certain bills like gas, water, and electricity.
• Reimbursement of school fees of the children.
• Reimbursement of motor car expenses like petrol or diesel expenses etc.

How to Utilize Allowances for Tax Savings?

Upon joining an organization, individuals typically receive a breakdown of their fixed salary and allowances. However, many employees may overlook the tax implications associated with these allowances. Yet, allowances can be strategically utilized to help employees save taxes if they are structured wisely within the salary package.

While not all organizations permit salary restructuring, if feasible, employees should consider including allowances that are either non-taxable or partially taxable. This approach can help in reducing the overall tax liability to some extent. Therefore, it's important to recognize that with thoughtful planning, allowances can be leveraged to minimize tax obligations and mitigate the overall tax burden.

Difference Table

Conclusion

Allowances and perquisites both serve as additional benefits provided to employees, supplementing their regular salary. While allowances are typically monetary payments made to cover specific expenses or duties, perquisites encompass a broader range of benefits, including both financial and non-financial perks, provided to employees based on their job role or position.