Difference between Deduction and Exemption

Every industry comes with its technicalities, and the income tax institution also has its own set of jargon. Some expressions may have more than one implication considering its usage, while some phrases may have analogous significances but diverse applications. For instance, the difference between exemption and deduction is not clear to all, even though both are useful in minimizing the amount of taxable income. However, the difference between exemption and deduction in income tax are applied to different fields of your taxes.
 
If you are earning an income, then sooner or later, you are bound to hear the words ‘Income tax’. However, there is a difference between exemption and deduction. The quantum of tax you may have to pay every fiscal year is usually based on how much you earn, your tax-filing status and so on. Luckily, the Income Tax Act has offered various provisions that allow you to reduce the amount you pay as tax. But before you take advantage of your tax benefits, you need to understand the jargons thoroughly.
 
For example, take the two terms: Tax deduction and tax exemption. A lot of people can be confused between exemption vs deduction and may use the two words interchangeably. However, the differences between exemption and deduction are plenty
 

What is Tax deduction?

Tax deduction refers to the amount of money that is reduced from your total taxable income. The final tax payable is calculated depending on the balance ‘taxable income’. Tax deductions aim to promote the culture of savings and investments among the general public.
 
However, it is good to know that tax deduction is only allowed on specific investments or expenses incurred by the taxpayer. This includes medical fees, transportation charges, donations made to charities, investments made in specific avenues such as Equity Linked Saving Scheme funds (ELSS), Public Provident Fund (PPF) and National Pension Scheme (NPS).
 
The Income Tax Act sections between 80C and 80U deal with all the deductions available to taxpayers.
 

What is Tax Exemption?

In the world of taxation, the word ‘exemption’ means exclusion. So, if a particular income is exempt from tax, it will not be included in the total revenue for tax purposes. This reduces the total taxable income of a taxpayer. All exemptions are dealt with under Section 10 of the Income Tax Act.
 
While certain incomes such as agricultural income are completely exempt from taxation, there are other incomes that are partially exempted from tax. This means only the portion of income that exceeds the exemption is subject to tax. This includes:
 
a) House Rent Allowance (HRA)
b) Leave Travel Allowance (LTA)
c) Entertainment Allowance
d) Special allowances to meet personal expenses
e) Long-term capital gains on equity funds
 

What is the difference between Tax deduction and tax exemption?

Tax exemption applies to all taxpayers in the country. For instance, the amount paid to a salaried employee as HRA is not taxable. However, tax deduction applies only to those who qualify for the specific criteria. For instance, Section 80D of the Income Tax Act can be used to claim deductions on premiums paid for medical insurance policies.
 
Even though Income Tax is a mandatory responsibility to be paid by every citizen, based on his or her paying capacity, age, and gender, taxpayers can obtain relief through the various provisions to reduce their overall tax financial obligation.
 
Understanding the difference between exemption and deduction in income tax can help in making smarter decisions before the annual tax planning process commences.