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Free gifts may have a tax tag
November, 13th 2007

Visit a mall this festive season and you are likely to see some huge hoardings announcing bumper draws with prizes of food hampers, gift coupons, diamonds and so on. If you are lucky enough, even a fancy car could be yours. You cannot fail to spot this, as the car revolves seductively at the malls entrance enticing everyone who visits the mall.

Namita is not a shopaholic, but last Saturday is a day she will never forget. She stepped in at a local mall and was immediately found surrounded by a bevy of models. Before she could react, she was crowned and an announcement was made that as she was the millionth customer during the season and she had just won herself a brand new car. But then followed the tax googly.

She found out to her dismay that she has to cough up income tax of 33.99% or Rs 17 lakh approximately against the cars value of Rs 50 lakh. Unfortunately, this is what is specified in the Income tax Act, 1961.

The person who pays winnings of lotteries, which is the technical nomenclature, is obliged to deduct income tax at a flat rate of 33.99% (inclusive of surcharge and education cess) from any such payments in excess of Rs 5,000, and deposit it with the government within the given timeframe, stipulated as per the provisions of the Act.

Taxes are to be withheld even against winnings in kind. The value of winnings in kind shall be the actual cost to the payer.

Thus in this case, in all practical reality, the shopping mall, which is obliged to deduct tax at source, would request Namita to pay up Rs 17 lakh before letting her drive off in her brand new car. Had it been a cash award, the shopping mall would have deducted the tax from the cash prize and handed the balance amount to Namita.

Now, what constitutes income from winnings of lotteries, which carries with it the obligation to withhold tax at source? Recent changes in the Act have amended the meaning of the term lottery by including winnings from prizes awarded to any person by draw of lots or by chance or in any other manner whatsoever, under any scheme or arrangement by whatever name called.

In the hands of Namita, the gross amount of winnings is taxable as Income from other sources and the tax is calculated at a flat rate of 33.99%, irrespective of the quantum. The basic exemption limit of Rs 1 lakh is not available for such income and no deduction, whatsoever, is allowed in respect of any expenditure that may have been incurred in earning such income.

Further, losses incurred under any other head of income cannot be set-off against such winnings. Of course, Namita can take a credit in respect of taxes deducted at source by the payer while determining the net taxes payable by her for that particular financial year. So, the next time you earn a windfall gain like Namita, you know what to expect and what not to.
(Ernst & Young)

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