Designing an effective salary structure is indispensable for every HR and payroll professional. It is important not only for the fair compensation of the employees but also for compliance with the statutory requirements, following industry standards, and leading to employee satisfaction. This is why it is important to know the answer to the question, “What is salary breakup?”

This article will take you through the salary structure in India, breaking it down and explaining its components. Understanding all these basics will help you create a fair salary breakup structure as per the company policy and the expectations of employees. This helps employers pay transparently and tax efficiently according to tax laws.

What is the Salary Structure in India?

A salary structure is a systematic representation of the components of an employee’s salary, which include basic salary, allowances, bonuses, and other benefits. It helps to ascertain the employer’s commitment to his/her employee, understand the employee’s in-hand salary, and determine the respective deductions that are to be made, like tax, provident fund contribution, etc.

A salary structure in India is made to meet all the requirements of labor laws, tax regulations, and industry standards. An effective salary structure will ensure that an employee’s gross salary and net salary are balanced while also making the most of all deductions against taxes.

Components of Salary Structure in India

The salary structure in India comprises a number of elements, which have their specific tax implications and compliance requirements. Major elements are discussed below:

1. Basic Salary

The basic salary forms the major part of the salary and usually accounts for 40-50% of the total Cost-to-Company (CTC). It is a fixed amount and gets taxed according to the income slab applicable to the employee. The basic salary is also the base for calculating other salary components such as Provident Fund (PF), Dearness Allowance (DA), and Gratuity.

2. Allowances

Allowances are supplementary remuneration that workers have to pay to cover a set of specific expenses. It can be fully taxable, partially taxable or fully exempt from tax. Popular allowances in the package for Indian salaries include

• House Rent Allowance (HRA): Any salary package provides an HRA to help employees living in a rental house. The HRA is also subject to partial tax, subject to the city where such rent is being paid, and depending on the size of the rent, it has to pay the landlord.
• Dearness Allowance (DA): This allowance is offered to government employees to nullify the impact of inflation; it is entirely taxable and generally comes in the form of a percentage of the basic salary.
• Conveyance Allowance: It is an arrangement to meet the traveling expenditures. Conveyance allowance comes partially under the purview of the old tax regime.
• Medical Allowance:  It is a totally taxable scheme and is provided to the employees for looking after various medical expenses.
• Leave Travel Allowance (LTA): LTA is an exemption provided for traveling expenses during holidays by the employee under certain guidelines.

3. Gratuity

Gratuity is a lump sum paid to employees who have completed at least five years of continuous service. Gratuity is a statutory benefit under the Payment of Gratuity Act 1972. Gratuity is taxable under “Income from Salary” upon retirement but is exempt if paid to the legal heir or nominee upon the employee’s death.

4. Bonuses

Bonuses that cover the Statutory Bonus and Performance Bonus are add-ons given by the employer to the employees for their performance. It is also fully taxable and is calculated based on the percentage of the basic salary.

5. Deductions

There are some statutory deductions from an employee’s remuneration, namely

• Employee Provident Fund (EPF): It is an employer-sponsored retirement benefit plan in which the employer and the employee contribute a percentage of the employee’s basic salary.
• Employees State Insurance (ESI): This is payable to employees who earn less than or equal to ₹21,000 per month. This contribution has been made compulsory for providing health and social security benefits to employees.
• Professional Tax: This is payable in some states but not in all, and the limit is up to ₹2,500 a year. 
• Tax Deducted at Source (TDS): TDS is deducted from the salaries based on the applicable tax slab.

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What is a Salary Breakup?

A salary breakup is also called a CTC  (Cost-to-Company) breakup. It is a method in which the entire salary package, known as the CTC, is broken down into different components. This enables an employee to know what his gross salary, net salary, or take-home pay is and the various deductions and allowances applied.

CTC includes direct and indirect expenses such as bonuses, contributions towards provident fund, and other allowances. However, CTC is never equal to the take-home salary since a number of deductions, such as taxes, PF, etc., reduce the amount an employee receives.

What Are the Methods for Defining Salary Components?

Once the various components of salary are decided, the HR professionals and payroll managers have to ensure legal compliance and meet the compensation strategy of the company. Some common practices for defining salary components include

1. Fixed Salary Method: Under this method, components of basic salary, HRA, and conveyance that are fixed and similar throughout the salary structure constitute a large part of it. It assists the company in maintaining predictable expenses on payroll.
2. Performance-Based Method: Under this method, entitlements such as bonuses or commissions will be determined in line with the performance of the employee. Sales, marketing, or key business employees often have a vast fraction of their salary tied to performance metrics such as sales results or business growth targets.
3. Cost of Living Adjustments (COLA): Under this method, salary elements may vary depending on the cost of living in a city or area. For example, HRA or city compensatory allowances vary between a metro and a non-metro worker.
4. Flexible Benefits Method: Under this method, organizations enable employees to have the flexibility of their own choice about certain elements of salary components that might include HRA, meal coupons, or transport allowance, based on individual needs. In this way, the compensation package could be tailored and may enhance the satisfaction of employees.
5. Industry Benchmarks: Salaries are often defined according to industry standards or benchmarks. This way, a company remains competitive regarding the compensation plans offered. Often, compensations for key roles or technical positions are determined by what comparative industries offer.

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What Are the Types of Salary Structures?

There are two basic approaches that companies and HR professionals usually consider in salary structures: Top-Down Salary Structure and Bottom-Up Salary Structure. They differ in the manner of computation and application of various elements.

1. Top-Down Salary Structure

In a top-down structure, the gross salary is calculated by simply adding all the different individual components of the salary. It begins with assigning a certain value to specific salary components, such as basic salary, allowances, and bonuses, and then all these have to be added to determine the total or gross salary.

For example, if the basic salary is fixed at ₹30,000 and allowances include HRA, conveyance, and medical allowance at ₹15,000, the gross salary would be ₹45,000.

This approach allows for more flexibility in adjusting individual components according to specific policies or negotiations to better fit the roles and experience requirements. This aids HR professionals in designing salaries.

2. Bottom-Up Salary Structure

The bottom-up structure deals first with the gross salary. From the gross salary, one obtains the breakdown into basic salary and allowances. Other components are either percentages or outright fractions of the gross salary, whereas the total is predefined.

For instance, assume the gross salary is ₹50,000. The organization, in its policy, has mentioned that the basic salary must be 50% of the gross salary and the allowance must be 25%. The basic salary would be ₹25,000 (50% of ₹50,000), while allowances would be ₹12,500 (25% of ₹50,000).

This structure is aptly used when organizations feel more comfortable providing a single figure of gross salary and breaking this total into individual components by rules.

Taxability of Salary Components

Every employee and employer needs to be aware of the tax liability on every single pay component. The most common components under salary in India are explained as follows:

Fully Taxable Components

• Basic Salary: Fully taxable based on the employee’s income slab.
• Dearness Allowance (DA): Fully taxable, though applicable only to central government employees.
• Medical Allowance: Fully taxable, irrespective of the amount of medical expense incurred.
• Overtime and Project Allowances: Fully taxable based on the extra hours worked or the project’s duration.

Partially Taxable Components

• House Rent Allowance (HRA): Only partially exempt under Section 10(13A), based on the amount paid for rent, city, and the basic salary of the employee.
• Leave Travel Allowance (LTA): Exempt within India but subject to conditions, such as frequency and persons who are eligible to avail of it.
• Children’s Education Allowance: This is exempt up to ₹100 per month for up to two children.

Non-Taxable Components

• Reimbursement for phone and internet bills: These are exempt under reasonable limits based on actual bills.
• Books, Journals, and Gadgets: These are tax-free if used for work-related purposes and backed by bills.

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How is Salary Structure Determined?

In India, the determination of salary structure is subject to many variables and varies with the type of industry and jobs. Some of the most important variables considered while determining the structure are as follows:

1. Education and Experience: Higher-level education with experience generally attracts much remuneration. For instance, a postgraduate with more than five years of experience will attract a higher, more competitive salary than an entry-level graduate.
2. Location: Salary-wise, jobs in the bigger cities such as Mumbai or Delhi attract more salary due to a higher cost of living compared to villages. Remote work has also subtly altered this aspect to some extent, as this focuses on role-based pay rather than location-related differences.
3. Industry: The workers in particular industries such as IT or financial services will be paid at a higher scale than the workers in industries of lower demand levels in the markets. Industry trends are among the factors that define the salary range for jobs of similar tasks and responsibilities.
4. Skillset: It has also been seen that employees possessing AI, machine learning, or blockchain technology skills mostly get paid more because employers value those skills. This can attract a higher salary package and additional benefits.

How to Calculate Salary Structure

The minimum requirements for structuring a salary comprise industry standards, the position held by the employee within the company, and statutory requirements. The net salary formula is as given below:

Net Salary = Basic Salary + Allowances – (Provident Fund + TDS + Professional Tax + ESI)

The employer adds the provident fund and gratuity contributions to the gross salary to calculate the CTC. Here is a simple example of the calculation so that it can be well understood:

Example Calculation:

If an employee’s CTC is ₹7,00,000 per year, then his salary breakup could be something like this:

• Basic Salary: ₹4,20,000
• HRA: ₹1,20,000
• Conveyance Allowance: ₹60,000
• Other Allowances: ₹47,100
• Provident Fund: ₹50,400 (12% of basic salary)
• Professional Tax: ₹2,500

Step 1: Calculate Gross Salary 

Gross Salary = ₹4,20,000 + ₹1,20,000 + ₹60,000 + ₹47,100 = ₹6,47,100

Step 2: Calculate Deductions 

Total Deductions = ₹50,400 (PF) + ₹44,200 (TDS) + ₹2,500 (Professional Tax) = ₹97,100

Step 3: Calculate Net Salary 

Net Salary = Gross Salary – Deductions = ₹6,47,100 – ₹97,100 = ₹5,50,000

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Salary Structure Format

A structured salary format always promotes transparency and compliance with norms. Below is an example of the general salary structure format in India.

Conclusion

Thus, a compliant and fair salary structure in India is created with an understanding of various components, tax treatments, and statutory obligations. Modern payroll tools can help ensure transparency and employee satisfaction on a clear salary breakup structure. A well-defined salary structure not only helps attract and retain talent but also ensures compliance with the legal and financial regulations put in place. Following the steps outlined in this guide, HR professionals and payroll managers can create a sound salary structure that benefits the company and its employees.

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FAQs

What is the difference between performance-based pay and skill-based pay?

Performance-based pay is linked to the employee’s performance measurements, like meeting sales numbers or project objectives, and very often includes bonuses or commissions. Skill-based pay, on the other hand, is based on what the employee brings to work in terms of skill and expertise, and compensation is adjusted up or down based on value to the organization.

What is a basic salary?

The basic salary would be the core part of an employee’s compensation and generally forms 40-50% of the total salary. It is that amount which does not include any kind of bonus, or allowance and is fully taxable.

What is the difference between gross salary and net salary?

Gross salary includes the total salary without considering any deductions, including allowance, bonus, and any other benefits. Net salary is what an employee takes home in a month after all the possible deductions.

What is CTC (Cost to Company)?

CTC is the total spending of a company on an employee in a year, and it includes the basic salary, allowances, and also contributions to benefits like provident fund, insurance, and gratuity. CTC cannot be equated with net salary because it encompasses both direct and indirect benefits.

How is House Rent Allowance (HRA) calculated?

HRA is calculated as a percentage of the basic salary and can be partially tax-exempt depending on the rent paid by the employee and whether they reside in a metro or non-metro city. The exemption is determined by the lowest of three conditions: actual HRA received, 50% of the basic salary (for metro cities), or actual rent paid minus 10% of the basic salary.

What are flexible salary components?

Flexible salary components include how employees can choose what fraction of their salary and which portions they could devote to meal vouchers, transportation allowances, leave travel allowances, or something entirely different. This design also gives employees flexibility and customized compensation according to his/her preferences and tax-saving considerations.

How are bonuses taxed in India?

Bonuses are completely taxable in India under the Income Tax Acts. They shall be added to the income of the employee and assessed at the rates applicable to income tax for the financial year during which the bonus is earned.

What is a Project Allowance in the salary structure?

A project allowance is a temporary compensation given to employees when they are assigned to specific projects. It is usually used to compensate for extra expenses incurred during the project, like travel or overtime working hours. The amount and eligibility vary from company to company and according to the nature of the project. This allowance is fully taxable.