Income Tax Basics: How the System Works

The transition between the 1961 Act and the 2025 Act can affect specific situations differently. This article is for general information and does not constitute tax advice.

Which Act Applies, and When

The Income Tax Act, 2025 (new Section 3 onward) has replaced the Income Tax Act, 1961, effective 1 April 2026 — reorganising roughly 800 sections and 5,500-plus sub-sections into about 536 sections across 23 chapters, mainly for clarity rather than a change in substance. The change is prospective: it governs income earned from 1 April 2026 onward. The return being filed for FY 2025-26 runs entirely on the old Act; the new Act’s numbering only shows up on the return for Tax Year 2026-27, in the 2027 filing cycle. One structural change worth knowing early: old Section 10 (the general home for exempt income — HRA, gratuity, leave encashment) has moved into Schedule II of the new Act. Throughout this site, a specific provision is cited as new section with the old section in brackets, e.g. new Section 123 (old Section 80C).

Tax Year, and Who Is Liable

The old system used two year labels for the same income — “Previous Year” (when earned) and “Assessment Year” (when taxed). “Tax Year,” under new Section 3, collapses this into one twelve-month reference period. Any “person” — individuals, HUFs, firms, companies, and a few other categories — is liable to tax on income above the exemption threshold; for individuals and HUFs, liability also depends on residential status, which decides how much of global income falls within India’s tax net.

The Five Heads of Income, and the Computation Sequence

Every source of income falls under Salary, House Property, Profits and Gains of Business or Profession, Capital Gains, or Other Sources — a structure that carries over unchanged, just with renumbered provisions. Computation runs in sequence: the five heads add up to Gross Total Income; eligible deductions (the new Act’s equivalent of old Chapter VI-A, e.g. new Section 123, old Section 80C) subtract down to Total Income; tax is computed at slab rates; a rebate may apply; and TDS/advance tax already paid is credited against the final figure.

Old Regime vs New Regime

Taxpayers can still choose between the old regime (full deductions and exemptions) and the new regime (lower rates, far fewer deductions). The new regime remains the default unless the old one is specifically opted into, now formalised under new Section 202.