Blog
Business and Professional Income in India: How It Is Taxed Under the Income Tax Act 2025
Under the Income Tax Act 2025, income from any business or profession — freelance work, a shop, consulting, or trading — is taxed under Profits and Gains from Business or Profession (PGBP). This guide covers how PGBP income is computed, which deductions the Act allows and disallows, and the presumptive taxation options for small businesses.
What counts as business or professional income?
Section 28 of the Income Tax Act 2025 defines the following as business or professional income:
- Profits from any business — trading, manufacturing, retail, wholesale, services, or any commercial activity
- Professional income — fees from doctors, lawyers, chartered accountants, architects, consultants, freelancers, and any person practising a profession listed in the Act
- Commission or brokerage earned from agency relationships
- Income from a speculation business — contracts bought and sold within the same settlement period
- Insurance business income — for insurers and agents
- Recoveries from previously deducted expenses — if you claimed a deduction for a bad debt and later recovered that amount, it becomes taxable (Section 41)
Not business income: a salaried person’s freelance work where TDS is deducted under Section 194M is still business income — the TDS is a withholding tax, not the final tax.
How to compute business income (Section 29)
Business income is computed as:
Gross receipts − Allowable deductions = Taxable business income
Section 29 of the Income Tax Act 2025 states that the profits of any business or profession are computed as the gross receipts minus expenditure incurred for the purpose of that business, as per the provisions of the Act.
This is different from accounting profit. Tax law adds back certain expenses, disallows others, and allows specific deductions that may differ from your books.
Allowable deductions (Sections 30–37)
The Act allows these deductions against business income:
Rent, rates, and repairs (Section 30)
Rent paid for business premises, property taxes, and repairs (not capital expenditure) are deductible. If you run your business from a property you own, no rent deduction applies — but you can claim property taxes as a deduction under the house property head.
Salaries and employee costs (Section 36)
Salaries paid to employees, bonuses, leave encashment contributions to recognised provident funds, and employer’s contribution to pension schemes (NPS under Section 80CCD) are deductible. Salary must be genuinely paid — the recipient’s PAN must be obtained and TDS rules followed.
Interest on borrowed capital (Section 36)
Interest on money borrowed to run the business is deductible. This includes interest on business loans, overdraft facilities used for business, and partner drawings on capital accounts.
Bad debts (Section 36)
If you wrote off a debt as irrecoverable in your books and it was previously included in your taxable income, you can claim a deduction for that bad debt.
Insurance of business assets (Section 36)
Premiums paid to insure your business stock, plant, machinery, or furniture against fire, theft, or other damage are deductible.
Depreciation on business assets (Section 36, Schedule II)
Depreciation is the biggest deduction for asset-heavy businesses. The Income Tax Rules 2026 prescribe fixed percentages for each asset class:
| Asset type | Depreciation rate (straight-line) |
|---|---|
| Computers and software | 40% |
| Motor cars | 15% |
| Furniture and fixtures | 10% |
| Plant and machinery (general) | 15% |
| Buildings | 5–10% |
| Mobile phones | 40% |
Key rule: Depreciation is calculated on the actual cost of the asset. If you bought a laptop for ₹80,000, the depreciation deduction is 40% × ₹80,000 = ₹32,000 in year one. Unabsorbed depreciation can be carried forward indefinitely until used.
General deductions (Section 37)
Any expense laid out wholly and exclusively for the purpose of the business is deductible under Section 37. This is a broad catch-all that covers advertising, travel, professional fees, software subscriptions, and office supplies. The test is simple: was the expense incurred solely to run the business?
Disallowed expenses (Section 40)
Certain expenses are explicitly disallowed when computing taxable business income:
| Expense type | Why it is disallowed |
|---|---|
| Income tax paid by the business | Tax is paid from after-tax income, not before it |
| Personal or household expenses | Not incurred for the business |
| Interest on your own capital | Not a real interest expense |
| Payments to a partner (for a firm) | Profits are shared, not paid as expense |
| Fine or penalty for breaking law | Penalty is a disallowable expense |
| Charitable donations | Claim under Section 80G instead |
| Gifts over ₹10,000 per recipient | Deductible only under advertising rules |
Payments over ₹10,000 must go through banking (Section 40A)
Section 40A of the Income Tax Act 2025 is one of the most commonly violated rules for small businesses and freelancers.
The rule: If you make any payment exceeding ₹10,000 in a single transaction to a single person or entity, you must pay via a banking channel — bank transfer, cheque, demand draft, or any electronic mode. Cash payments above ₹10,000 are disallowed as a deduction.
Example:
You hire a contractor and pay ₹25,000 in cash. The entire ₹25,000 is added back to your taxable income — you lose the entire deduction. The same ₹25,000 paid by bank transfer is fully deductible.
Exceptions:
- Payments to the government (taxes, fees, duties)
- Payments to businesses with a turnover below ₹10,000 in the previous year (agriculturalists, small merchants)
- Payments made outside India where tax has already been deducted
Why this rule exists: The banking channel creates an audit trail that reduces tax evasion. The Income Tax Department matches your expense claims against the recipient’s income disclosures.
Book-keeping and audit rules
Books of accounts (Section 44AA)
If your turnover crosses these thresholds, you must maintain formal books of accounts:
| Business type | Threshold |
|---|---|
| Business (general) | Gross turnover or receipts > ₹60 lakh |
| Business (cash receipts < 5%) | Gross turnover or receipts > ₹120 lakh |
| Profession | Gross receipts > ₹30 lakh |
| Profession (cash receipts < 5%) | Gross receipts > ₹60 lakh |
Books of accounts include cash books, ledgers, journals, and stock records. They must be preserved for 8 years from the end of the relevant assessment year.
Tax audit (Section 44AB)
If your turnover or gross receipts cross these limits, a chartered accountant must audit your books before you file your ITR:
| Business type | Threshold |
|---|---|
| Business (presumptive taxation, Section 44AD) | Turnover > ₹3 crore |
| Business (not opting out of presumptive) | Turnover ≤ ₹3 crore — no audit required |
| Business (opting out of presumptive) | Turnover ≤ ₹2 crore — no audit required |
| Profession | Gross receipts > ₹75 lakh |
Note: If your cash receipts exceed 5% of total receipts, the presumptive taxation option may not be available and audit thresholds drop to ₹2 crore (business) or ₹75 lakh (profession).
Presumptive taxation (Sections 44AD and 44ADA)
Presumptive taxation lets small businesses and professionals declare income at a prescribed rate without maintaining detailed books. This is the simplest compliance route for many freelancers and small traders.
Section 44AD — for businesses
If your business turnover is ₹3 crore or less (₹2 crore or less if you opted out of presumptive in a previous year), you can declare profits at:
- 8% of gross receipts for digital transactions (receipts via banking channels / digital modes)
- 6% of gross receipts for cash transactions
This rate covers all allowable deductions — you do not need to claim each expense separately.
Key condition: To use the 8% rate, your cash receipts must be less than 5% of total receipts. If you handle significant cash, the 6% rate applies.
Section 44ADA — for professionals
If you are a doctor, lawyer, chartered accountant, architect, interior designer, or any professional listed under the Act, and your gross receipts are ₹75 lakh or less, you can declare profits at 50% of gross receipts.
Like Section 44AD, this covers all deductions — no need to maintain expense records.
Presumptive vs regular books — when to choose which
| Factor | Presumptive (44AD/44ADA) | Regular books |
|---|---|---|
| Paperwork | Minimal | Full books required |
| Audit threshold | ₹3 crore (44AD) | ₹2 crore |
| Flexibility | Fixed rate — good if margin > prescribed rate | Claim actual expenses — good if margin < prescribed rate |
| Deduction claim | All expenses included in the rate | Claim each expense separately |
Example: If you run a consultancy with ₹20 lakh in fees and actual expenses of ₹8 lakh, your regular-book profit is ₹12 lakh. The 50% presumptive rate gives you a declared profit of ₹10 lakh — which is lower, so regular books are better here. But if your expenses are only ₹2 lakh, regular books give ₹18 lakh profit — presumptive at ₹10 lakh saves you tax.
Worked examples
Worked example — freelance graphic designer
Amit is a freelance graphic designer in Bangalore. His FY 2026-27 figures:
- Gross freelance fees: ₹15,00,000
- Business expenses: ₹4,00,000 (office rent, software, travel)
- He accepts digital payments only
Step 1 — regular books computation:
- Gross receipts: ₹15,00,000
- Less: Expenses: ₹4,00,000
- Net business income: ₹11,00,000
Step 2 — tax under new regime:
Amit has no other income. Under the new regime (Section 202, Income Tax Act 2025):
| Slab | Rate |
|---|---|
| First ₹4,00,000 | nil |
| ₹4,00,001 – ₹8,00,000 | 5% |
| ₹8,00,001 – ₹12,00,000 | 10% |
| Tax | ₹10,000 + ₹30,000 = ₹40,000 |
| Add: cess 4% | ₹1,600 |
| Total tax | ₹41,600 |
Step 3 — Amit claims Section 44ADA presumptive:
- Deemed profit: 50% × ₹15,00,000 = ₹7,50,000
- Tax on ₹7,50,000 under new regime = nil (within ₹4 lakh nil slab)
Result: Amit saves ₹41,600 in tax by using presumptive taxation. This is because his actual margin (73%) far exceeds the 50% deemed rate.
Worked example — small retail shop
Ravi runs a grocery shop in Pune. His FY 2026-27:
- Total turnover: ₹28,00,000
- Cash sales: ₹8,00,000 (29% cash — exceeds 5% limit)
- Digital sales: ₹20,00,000
Section 44AD computation:
Since cash receipts exceed 5%, the 8% rate does not apply. Ravi uses the 6% rate:
- Deemed profit: 6% × ₹28,00,000 = ₹1,68,000
Regular books computation (if Ravi keeps books):
Ravi estimates:
- Gross profit margin: 15%
- Gross profit: 15% × ₹28,00,000 = ₹4,20,000
- Business expenses (rent, salary, electricity): ₹1,80,000
- Net profit: ₹2,40,000
Result: Regular books give ₹2,40,000 profit vs ₹1,68,000 under 44AD. Ravi should opt for regular books and file ITR-3 — his actual profit is higher than the presumptive rate.
Worked example — Section 40A cash disallowance
Priya runs a tailoring business. In FY 2026-27 she pays:
- Fabric supplier A: ₹9,000 cash (deductible)
- Fabric supplier B: ₹14,000 cash (disallowed — must be via banking)
- Fabric supplier C: ₹14,000 via bank transfer (deductible)
Her total expenses: ₹37,000 Allowed deduction: ₹9,000 + ₹14,000 = ₹23,000 Disallowed (added back): ₹14,000
The ₹14,000 cash payment to supplier B is added back to Priya’s taxable income, increasing her tax liability.
Common mistakes to avoid
Mistake 1 — Paying business expenses in cash above ₹10,000
The ₹10,000 limit in Section 40A applies to each payment to each person in a single day. Splitting a ₹15,000 payment into two cash payments of ₹8,000 each to avoid the limit is a known trick — but the Income Tax Department treats it as a single transaction and can disallow it if it finds the splitting was artificial.
Mistake 2 — Claiming personal expenses as business deductions
Expenses must pass the “wholly and exclusively” test — not partly, not mostly. A mobile phone used 40% for business and 60% for personal calls: only 40% of the bill is deductible. The remaining 60% is disallowed and added back.
Mistake 3 — Not claiming depreciation on owned assets
Many small business owners forget that assets they own (laptops, furniture, cars used for business) qualify for depreciation even if they were bought from personal funds. Depreciation is a non-cash deduction — it reduces taxable income without any actual outflow. Claim it every year.
Mistake 4 — Mixing personal and business finances
When personal and business money flow through the same bank account, it becomes impossible to separate allowable expenses from personal ones. The Income Tax Department can disallow all claimed expenses if the books are unclear. Open a separate business bank account from day one.
Mistake 5 — Missing the tax audit deadline
If your turnover exceeds the Section 44AB threshold and you must get a tax audit done, the due date is 30th September of the assessment year (one month earlier than the normal ITR filing deadline). Failing to get a tax audit done is a penalty-worthy offence — the penalty is 0.5% of turnover up to ₹1.5 lakh.
Frequently asked questions
Do I need to file ITR if my business makes a loss?
Yes, if your turnover exceeds the presumptive taxation thresholds (₹60 lakh for business, ₹30 lakh for profession) or if you are maintaining regular books. Even with a loss, filing an ITR preserves your right to carry forward that loss to offset future profits. File by the due date — losses not disclosed in the original return cannot be carried forward.
Can I claim my home office as a business expense?
Yes, if you use part of your home exclusively for business. You can claim a proportion of rent, electricity bills, and internet costs based on the area used. The deduction is calculated as: (area used for business ÷ total area) × total expenses. Keep photographs and utility bills as evidence.
Is the home office deduction available under the new tax regime?
Yes, the new regime allows business deductions under the PGBP head including home office expenses, subject to the same conditions. However, the new regime does not allow most common-law deductions (80C, 80D, HRA, 24(b) home loan interest) — so if you have a home loan and want to claim Section 24(b), the old regime may work better for you.
What happens if my cash receipts exceed 5% but I claim the 8% presumptive rate?
The Income Tax Department will recalculate your profit at 6% (or at your actual profit if you maintain books) and raise a demand for the extra tax plus interest. Keep digital payment records and ensure cash receipts genuinely stay below 5% if you want to claim the 8% rate.
Can I switch from presumptive to regular books in a later year?
Yes. If in a previous year you opted out of presumptive taxation (for businesses with turnover up to ₹2 crore), you can re-avail it in a later year. However, once you claim the presumptive rate, you must continue claiming it for 5 consecutive years — if you exit before 5 years, the benefit of lower thresholds is withdrawn and you cannot re-opt for presumptive for 5 years.
How do I show my business income in my ITR?
File ITR-3 (for regular books) or ITR-4 (for presumptive taxation under Sections 44AD, 44ADA, 44AE). Fill in Schedule BP for regular books or the presumptive income schedule for ITR-4. Include all income, deductions, and depreciation claimed.
Data verified on 2026-10-08 against the Income Tax Act 2025 (Section 28, 29, 30–37, 40, 40A, 44AA, 44AB, 44AD, 44ADA) and the Income-tax Rules 2026. Tax law changes frequently; confirm with a qualified CA or the Income Tax Department before filing.
Sources: Income Tax Act 2025 (Income-tax India), Income Tax Department - e-filing portal, Presumptive taxation - Income Tax Department