SAP India Payroll: Employee Income Tax Calculation for Off-Cycle and Arrears Payments

Introduction: Employees may receive off-cycle or arrears payments for a variety of reasons, such as bonuses, commissions, or back pay. These payments can have a significant impact on an employee’s annual income tax liability. Employers need to calculate income tax on off-cycle and arrears payments accurately as per the India Income Tax Act for employees.

Problem Statement/Client’s Requirement

• Off-Cycle Payment: When deducting tax at source for an off-cycle payment, the system should deduct the tax at an applicable rate for the employee’s respective slab. But in case of a change in slab due to the amount paid in the off-cycle run, the tax for the amount in the previous slab should be deducted at the older rate, and the tax for the amount in the new slab should be deducted at the newer rate.

• Regular cycle arrears payment: When deducting tax for arrears paid for any month, the tax should be deducted at the source for the arrears payment and not be projected for the rest of the months.

SAP Standard Solution

The SAP standard solution for TDS calculation on off-cycle and arrears payments is not able to handle the above requirements. For off-cycle payments, the SAP standard solution will calculate the tax on the entire off-cycle payment amount at the marginal rate of tax. This may not be the correct tax calculation if the off-cycle payment pushes the employee into a higher tax slab.

The SAP standard solution for tax calculation for off-cycle and regular-cycle arrears payments is to use the payroll function INBTD. This function has the following parameters, which determine the method of tax calculation:

• BON1: Tax at a standard constant rate

• BON2: Tax before off-cycle payment and at the marginal rate of tax for individual employees. It is exclusive of a surcharge.

• BON3: Tax before off-cycle payment and at the marginal rate of tax for individual employees It is inclusive of a surcharge.

• BON4: Tax after off-cycle payment and at the marginal rate of tax for individual employees It is exclusive of a surcharge.

• BON5: Tax after off-cycle payment and at the marginal rate of tax for individual employees It is inclusive of a surcharge.

Alternative Solution Proposed

• SAP has tax adjustment functionality in both off-cycle and arrears payments, and it can be activated as and when required.

• So, the end-user can maintain the desired tax amount in IT0015 (Additional Payment/Deduction), and the system will take that amount as a tax for that month and will adjust the tax amount in the yearly computation.

Reasons for customization:

• Regular-cycle arrears payment:

Recalculate tax for previous months by applying the new gross when arrears payments are made in a particular month. SAP cannot recompute the tax for the previous periods as it always adds the income into annual income on a “when paid” basis for arrears payments and projects the amount from that for yearly computation.

Scenarios where the SAP Standard solution is not feasible:

1. Employees exceeding the 5 lakhs income slab due to this payment.

2. Employees change their slab due to this payment from 5 lakhs to 10 lakhs and 10 lakhs to 20 lakhs.

• OFF-CYCLE payment:

Recalculate tax for previous months by applying the new gross when off-cycle payments are made in a particular month. SAP cannot recompute the tax for the previous periods as OFF-CYCLE payments are one-time payments, so it will only deduct the marginal rate based on the options selected in the standard function (INBTD), like (BON1 to BON5).

 

Solution designed:

The solution designed is a custom function to calculate TDS for all the scenarios provided by the client. The function takes as input a parameter to decide whether it is to be processed for an off-cycle run or a regular arrears run. The function then performs the following steps:

1. taxable income and tax on total income from the previous period.

2. taxable income from the current period (input table).

3. Calculate income tax manually for the current period of taxable income using slab rates maintained in the custom table.

4. Calculate the surcharge using rates maintained in the custom table.

5. Calculate the old and new average rates by dividing tax by income for each period.

6. Calculate previous taxable income by multiplying old income by the number of months processed before this payroll.

7. calculates current taxable income by multiplying the off-cycle payment amount by 12 and subtracting previous taxable income.

8. Calculate the total taxable income by adding previous and current taxable income.

9. Calculate TDS on new income by multiplying total taxable income by the new rate.

10. calculates TDS on old income by multiplying previous taxable income by the old rate.

11. calculates the final TDS by subtracting TDS on old income from TDS on new income.

The solution also includes formulas for calculating TDS for the following specific scenarios:

• Off-cycle TDS: an employee has zero taxable salary before an off-cycle payment and falls under the taxable slab after payment.

• Off-cycle TDS is where the employee changes the tax slab after payment.

• TDS on arrears (regular cycle) formula in the below Excel 
• The solution is designed to be flexible and scalable, as the slab rates and surcharge rates can be easily updated in the custom tables.

  Technical Details of the Solution

  1. I created a custom payroll function called “_CTDS,” which is used to compute both off-cycle and regular-cycle TDS. formula in the below Excel:

  2. Code for _CTDS:

  The logic for _CTDS:  

  3. Created tables ZHR_ITAX_RATES to store slabs for income tax and ZHR_ITAX_SURC to store surcharge percentage. (Formats attached in logic for _CTDS)

  4. The function is then placed in schema INN1 under function INBTD. Parameter O is passed, which denotes off-cycle payment.

             

  5. For the arrears scenario, it is again placed in INN1 under INTAX with client-specific conditions. The parameter passed is now R.

  6. A master flag is placed to disable this functionality for any employee using PCR ZCT1.

  

  7. If the value of wage type 9CTF is maintained as 1, then custom calculation can be skipped, and we get SAP standard calculated income tax.

  8. There is also a provision to overwrite the income tax by using the voluntary tax functionality of SAP.

  Benefits of the Custom Solution

  The custom solution provides the following benefits:

  • It accurately calculates TDS on off-cycle and arrears payments, even if the payment pushes the employee into a higher tax slab.

  • It is flexible and can be customized to meet the specific requirements of the client.

  • It is integrated with the SAP payroll system, so it is easy to implement and maintain.

  Conclusion

  • The custom solution described above addresses the limitations of the SAP standard solution for tax calculation for off-cycle and regular-cycle arrears payments. The custom solution allows for the precomputation of tax for the previous periods when arrears payments are made in a particular month, and it also allows for taking into account the change in tax slab due to the off-cycle payment.