Must to know about designing CTC-Cost to Company of an employee

CTC -Cost to Company

CTC- This term is confusing for many people and my post will help them to understand this better. Definition of Cost to Company differ from company to company and every company has its own structure and salary components which company wants to make part of CTC.  For simple understanding, let me define CTC which includes cost which company incurs on an employee in form of statutory contributions, reimbursement, benefits and sometimes administrative costs other than the Gross salary of the employee.

We will understand all the possible components which company can put in CTC and what is the impact of these components on your in hand and tax liability.

CTC includes various components like:

Fixed Salary: It includes Basic, DA, HRA, Conveyance,  City compensatory Allowance, Special Allowances etc

Variable Salary: It includes a Performance based incentive, Sale based incentive and Profit based bonus.

Reimbursements: It includes reimbursement of conveyance, medical, telephone, Books, and Periodicals, Leaves Travel Allowance.

Contributions: It includes the benefits offered by the company like Provident Fund, ESI, Superannuation, Gratuity, Statutory Bonus, Medical Insurance, Accident Insurance, Leave encashment etc.

Stock Options: Stock Options

Fixed Salary:

As the name implies it is fixed salary of the employee and generally linked with attendance or number of payable days of the employee. This is a major portion of an employee in hand salary. 

Basic :

Generally, it is 40% to 50% of CTC (Cost to Company). Basic salary is fully taxable. Many statutory components such as Provident Fund, Bonus and Gratuity etc and other benefits as per company policy such as Leave Travel Allowance etc. are related to Basic salary hence increase and decrease in Basic may impact CTC of the employee.

DA- Dearness Allowance:

Very few private companies use it as salary component. It is mostly given to government employees. In Private companies, in case DA is missing from salary component then consider Basic as Basic + DA. Dearness Allowance is paid to lower the impact of inflation.

HRA- House Rent Allowance:

HRA is paid to the employee to meet expenses against paying rent of a home. Normally companies keep it 40% to 50% of Basic salary depending upon where you live. In case you stay in metro cities then HRA will be kept 50% of Basic salary and in case you stay in non-metro cities then HRA will be 40% of Basic salary. It is due to the fact that HRA is non-taxable salary components and its taxability depends on where you live.

HRA is exempted from taxable income. 

Least of following is exempted:

• Actual HRA received
• 50% of salary (basic + DA) if residing in a metropolitan city, or else 40%
• The amount by which rent exceeds 1/10th of salary (basic + DA). In simple words (Rent Paid – 10% of Basic)

Example :  Lets take example of an employee with following figures.

Basic salary                   :               10,000/- per month lives in Delhi (Metro city)

HRA                               :               5000 (50% of Basic)

Rent Paid                        :               4000

To calculate his HRA tax exemption, let find out all three criteria:

Actual HRA received                      :               5000

50% of Basic                                   :               5000

Rent paid-10% of Basic                  :               3000 ( 4000 i.e. Rent Paid minus 1000 i.e. 10% of Basic)

(Minimum of above three is Rs 3000/- hence employee will get tax exemption on Rs 3500 per month.)

From above example, it is evident that HR should keep HRA as 50% (40% in case of non-metro) so that employee can get the maximum benefit of HRA for tax exemption.

Let’s understand what I am trying to say here. For example, if HR structures above employee HRA wrongly and keep it Rs 2000/- which means new structure will look like as below:

Basic salary                                         :               10,000/- per month lives in Delhi (Metro city)

HRA                                                   :               2000

Rent Paid                                             :               4000

To calculate his HRA tax exemption, let find out all three criteria:

Actual HRA received                      :               2000

50% of Basic                                   :               5000

Rent paid-10% of Basic                  :               3000 ( 4000-Rent Paid minus 1000-10% of Basic)

Minimum of above three is Rs 2000/- hence employee will get tax exemption on Rs 2000 per month. Hence it is clear that this is not a tax friendly salary structure.

Conveyance Allowance:

Conveyance allowance is paid to an employee against expense to commute between Office to Home. Conveyance allowance is non-taxable up to Rs 1600/- per month. If an employee gets Rs 1800/- per month, as conveyance allowance, then Rs 200 per month will be taxable. Hence normally you will find maximum Rs 1600 under Conveyance allowance head. The employee need not submit any bill for the same.

CCA- City Compensatory Allowance:

This is paid to the employee to compensate the cost of living of a particular city. This is basically a fully taxable component. In standard form, CCA varies from city to city and grade to grade. CCA depends upon company policy.

Example: Below is an example of CCA for Delhi and Jaipur for Grade 1 and 2.

Location	Grade	CCA
Delhi	Grade 1	3000
Delhi	Grade 2	2500
Jaipur	Grade 1	2000
Jaipur	Grade 2	1500

Whenever an employee gets transferred from one location to another CCA also gets changed accordingly. This is also as per company policy.

Special Allowance:

This allowance component is mainly used to adjust rest of the amount which is to be given to an employee. For example, the company wants to give Rs 20000 as gross to an employee and company has allocated Rs 18000 as Basic, HRA, Conveyance allowance and CCA then Rs 2000 will be put under Special allowance. It is fully taxable allowance.

Any other type of allowance:

The company as per company policy can also make some other allowances which can be paid to employees. For example Uniform Washing Allowance, Attendance Allowance etc. All these components are taxable.

Variable Salary:

As the name implies variable salary is not fixed and depends upon the performance of an employee. Nowadays, many companies are keeping this as part of their employee CTC. Earlier, only employees related to sales or profit making department use to have a variable component in their salary but now even employee related support functions like HR, admin, QA, Training etc also have variable components in their salary. Companies are not willing to pay more fixed but open to pay higher variable pay as a variable is related to sale and profitability of organization and company has no problem in paying money to employees if the company is making a profit. This is the reason that fixed salary is decreasing and variable pay percentage is increasing day by day. Even some of the companies make Fixed and Variable pay as 50-50 for sale profile.

Performance Based Incentive:

Performance based incentive, if made part of CTC, normally known as variable pay. Every company has a different policy to give performance-based incentive or variable pay. Some companies may consider your monthly performance rating to give this variable amount. Please refer link “How to Build mature performance management system without any automation software?” to know more about performance rating system.

Example: Below is one of the sample sheets which shows variable pay % given to an employee basis his rating.

Rating	Variable pay %
5	150%
4	125%
3	100%
2	70%
1	0%

Some companies link it with major key deliverable of an employee.

Example: In the case of a Recruitment Executive profile, variable pay can be paid if recruitment executive achieves some key deliverable. One of the example as below:

• If 100% positions are closed within 30 days TAT    :               150% of variable pay
• If 90% positions are closed within 30 days TAT      :               100% of variable pay
• If 80% positions are closed within 30 days TAT      :               70% of variable pay and so on

Sale Based Incentive:

Sale based incentive is normally over and above CTC but some company makes it part of CTC. In any case, sales based incentive is given to employees who are in sales profile.

Profit-linked Bonus:

In most of the cases, it is paid annually. Company link “profit-linked bonus” with the profitability of company or project or department. This also works as a retention tool and motivates the employee to ensure higher profitability at the same time.

The design of performance incentive scheme is very important and many factors should be kept in mind while framing one. Policymaker should give due importance to historical data, person’s capability, product and service saleability  market trend etc so that incentive plan framed should not look unrealistic otherwise employee will feel that he will never be able to achieve variable pay which is made part of his CTC and in this case performance based incentive will loose its positives.

Reimbursement:

Reimbursement is paid to an employee against some expenses and employee need to submit bills for the same. Every reimbursement should be seen differently in the context of tax.

Medical Reimbursement:

Medical reimbursement is paid to the employee to meet expenses on medical. It is nontaxable up to 15000 per annum. It is up to the company whether the company wants to pay it monthly, quarterly, half-yearly or annually. Amount paid above 15000 in a year will become taxable. The employee needs to submit medical bills in support of medical expenses. In absence of medical bills, it will become taxable income. An employee can submit bills of medical expenses made on spouse, child and dependent parents.

Many things related to medical reimbursement payout depend upon company policy. For example, whether an employee can start claiming medical reimbursement from the first month or after completion of the certain period of time, whether the employee will get medical reimbursement in case of nonsubmission of medical bill even if it is taxable, whether medical reimbursement is linked with employee attendance by anyway etc.

LTA - Leave Travel Allowance:

Leave Travel Allowance is also known as Leave Travel Concession (LTC) which is paid for travel cost incurred by the employee in travel. Every company has its own rule to decide on the amount of LTA to be given to an employee. A company may prefer to keep it equal to the monthly basic salary of the employee or make it fixed depending upon grade and native place of the employee. There is no, as such, guidelines from the government on LTA amount. It can be any amount which employer wants to keep as LTA.

It is a nontaxable income but there are some rules which should be kept in mind while taking benefit of LTA for tax.

• The employee needs to take leave especially Privilege leave.
• Only travel cost will be reimbursed which includes travel cost of spouse, child and depended on parents.
• The only amount paid against travel cost will be nontaxable. For example, if my LTA eligibility is Rs 10000/- and employee spends Rs 5000 in travel and submits bills of same then only Rs 5000/- will be nontaxable. Rest Rs 5000/- will be taxable income.
• LTA is exempted for two journeys in a block of four years. The current block is 2014-2017 and next block will be 2018-2021.
• The journey should be made through the shortest path between two destinations.

Refer the post How to design Leave Travel Assistance- LTA policy of your company?

Training Reimbursement:

It is provided to the employee for the expense incurred on professional training. It is nontaxable up to Rs 14000/- per annum and employee needs to provide bills of same.

Mobile/ Telephone Reimbursement:

Mobile reimbursement is paid to an employee against expense incurred for use of mobile/telephone for official purpose. The employee needs to submit a bill for same. An employer can fix an amount for such reimbursement. Such amount should be logical and linked with employee's profile

Books and Periodicals:

This is paid to the employee to reimburse expense made on the purchase of Books and periodicals. It is nontaxable if bills are submitted.

Children Education Allowance:

It is exempted from tax up to Rs 100 per month per child for two children.

Children Hostel Allowance:

It is paid to meet expenses for Children hostel allowance. It is exempted from tax up to Rs 300 per month per child for two children.

Food coupons or Meal Pass

It is given to the employee to get a meal during working hours. Rs 50/- per meal is tax-free. Please read my blog post 5 facts regarding Food coupons/meal pass and its tax implications to know more.

Contributions:

Contribution means a contribution made by the employer for employee’s long-term saving schemes or social benefits scheme as per statutory compliance.

Employee Provident Fund:

It is a contribution made by the employer (12% of Basic salary) against EPF. It is statutory obligation on the part of the employer. The employee gets the benefit of PF deduction (12% of basic) at his part under Section 80C of income tax. There are many other facts related to Provident fund. 

To know visit following two posts:

PF Fundamentals everyone should know!!

17 interesting Facts about PF (Provident Fund) Act in India!!

The employer also keeps PF Admin (1.61% of Basic) as part of CTC which employer needs to pay to RPFC other than 12% of Basic salary.

ESIC (Employee State Insurance Corporation)

The employer needs to deposit 4.75% of the gross salary of an employee in case employee’s gross salary is less than 15000. Hence employer keeps it as part of Employee CTC.

1.75% of gross get deducted from employee’s Gross salary which decreases his in hand salary by that amount. There is no tax benefit associated with ESI contribution or deduction.

Gratuity:

Gratuity is paid to the employee once employee completes 5 years of continuous services or in the case of employee death irrespective of the completion of 5 years. It is the statutory liability of employer hence many employers keep it in employee CTC. It is one of the most debated topics whether the employer should keep gratuity amount as part of CTC or not? You can refer my post which can help you get many other questions related to gratuity i.e. 13 facts one should know about Gratuity!!

The employee gets 15 days salary for a number of years completed as a gratuity. Hence gratuity taken in CTC is @ 4.81% of Basic.

Gratuity paid to an employee is exempted from tax. Least of following is exempted.

• Actual gratuity amount paid
• 15 days salary for each year of completion or 4.81% of Basic multiplied with a number of months completed.
• Rs 10 Lacs

Statutory Bonus:

It is a statutory bonus which is paid to employees whose basic is less than or equal to Rs 21,000/-. Minimum bonus payable is 8.33% of basic capped at Rs 7,000/- or minimum wage of the state whichever is maximum and maximum 20% of Basic capped at Rs 7,000/ or minimum wage of the state whichever is higher-. Employer keeps it as part of CTC.

Download notification of an amendment to Payment of Bonus Act 2015: Ceiling from 10,000 Rs to 21,000.

You can also refer following blogs to know more about Bonus Act in India.

Frequently asked questions on Payment of Bonus Act, 1965, in India

Group Medical Insurance and Accident Insurance:

The employer takes medical and accidental insurance for employee welfare hence employer keep premium paid against such insurances in employee CTC. Learn How to reduce medical insurance premium cost by controlling claim ratio.

Stock Options:

Nowadays, many companies provide stock options to employees. This option is mainly given to top management employees. This helps the company to keep their employee engaged towards company growth. It is beneficial for an employee in case company is growing. Their stock value can increase in that case.

Conclusion:

If you know about these components and how these components will impact you as a person or your employees as HR then you will be able to make your compensation package in such a way that suits to employee’s need.

For example, 

• If an employee whose CTC is less and do not fall in tax range then HR can structure the CTC in such a way that gives more in hand to the employee.
• If an employee whose CTC is higher and falls under tax range then HR need to prepare best possible tax friendly structure so that employee can get maximum in hand at end of financial year.

Current Tax slabs are as below:

India Income tax slabs 2014-2015 for General tax payers and Women

Income tax Slab (In Rs) in a FY	Tax
0 to 2,50,000/-	Zero
2,50,001/- to 5,00,000/-	10%
5,00,001 to 10,00,000/-	20%
Above 10,00,000/-	30%

India Income tax slabs 2014-2015 for Senior Citizen ( 60 to 79 years) tax payers and Women

Income tax Slab (In Rs) in a FY	Tax
0 to 3,00,000/-	Zero
3,00,001/- to 5,00,000/-	10%
5,00,001 to 10,00,000/-	20%
Above 10,00,000/-	30%

India Income tax slabs 2014-2015 for Very Senior Citizen (Aged 80 and above) tax payers and Women

Income tax Slab (In Rs) in a FY	Tax
0 to 5,00,000/-	Zero
5,00,001 to 10,00,000/-	20%
Above 10,00,000/-	30%

If you are really serious about learning HR and want to grow then visit our web page LEARN HR THROUGH PRACTICAL IMPLEMENTATION

In case you have any queries please share your query on HR SUCCESS FORUM

Also, you can join us on Facebook.