HRA Exemption Calculation: 50% vs 40% Salary Base with ₹12 Lakh CTC Example

The HRA exemption is the LEAST of three amounts under Rule 2A IT Rules 1962: actual HRA received, rent paid minus 10% of salary, and 50% or 40% of salary. The salary base is basic + DA that forms part of retirement benefits — never your CTC. On a ₹12,00,000 CTC with ₹6,00,000 basic in Mumbai, Priya's exemption works out to ₹2,04,000, because the "rent minus 10%" limb binds. This is the single most-miscalculated figure in salaried tax, and the error usually comes from using CTC instead of the Rule 2A salary base.

The three-limb formula

Section 10(13A) ITA 1961 delegates the computation to Rule 2A IT Rules 1962. Exemption = the least of:

What "salary" means here is the trap. Rule 2A uses basic salary plus dearness allowance that enters retirement benefits. It excludes every other CTC component — special allowance, performance bonus, LTA, medical, employer PF, gratuity provision. For most private-sector employees with no DA, the salary base is simply basic pay.

Worked example: Priya, ₹12 lakh CTC, Mumbai

Priya works in Mumbai (metro city, 50% limb). Her CTC and the components that matter:

Step 1 — Actual HRA received: ₹2,40,000

Step 2 — Rent paid minus 10% of salary: ₹2,64,000 − (10% × ₹6,00,000) = ₹2,64,000 − ₹60,000 = ₹2,04,000

Step 3 — 50% of salary (Mumbai is a metro): 50% × ₹6,00,000 = ₹3,00,000

Exemption = the least of the three = ₹2,04,000.

Why this surprises people: Priya's CTC is ₹12,00,000 and her rent is ₹2,64,000, yet her exemption is only ₹2,04,000 — because 10% of her basic (₹60,000) is deducted from rent before comparison. If her employer had wrongly used CTC in limb (ii), it would have deducted ₹1,20,000 and produced only ₹1,44,000 — actually an under-exemption: the employer would over-withhold TDS, and Priya would reclaim the excess when she files her ITR (running the correct salary base). Using CTC in limb (iii) is the opposite mistake — it inflates 40%/50% of "salary" and can over-exempt, which is what an AO reverses. Get the base right in both limbs.

When the 50% vs 40% split actually changes the answer

In Priya's case the metro/non-metro split does not matter, because limb (ii) at ₹2,04,000 is already the lowest. The 50/40 limb only binds when rent is high enough. Compare:

In the second row, the metro 50% limb saves an extra ₹60,000 of exemption compared with a non-metro 40% cap. This is why the city label matters — but only when limb (iii) binds. Run both variants in the HRA exemption calculator.

FY 2025-26: the 50%/40% split is unchanged — Rule 2A has read this way for decades. Rule 2A still names only Bombay/Calcutta/Delhi/Madras. Some private/firm configs project a metro expansion to 7 cities from FY 2026-27 (adding Bengaluru/Hyderabad/Pune), but as of Aug 2026 no notification amending Rule 2A has been traced. For your FY 2025-26 return, the 4-city list applies.

Five errors that inflate — or sink — the HRA claim

• Using CTC as the salary base. Under the Explanation to Rule 2A, "salary" = basic + DA forming part of retirement benefits + fixed-percentage commission on turnover (if any) — never CTC. Using CTC deflates limb (ii) (10% of a bigger base makes the ceiling smaller) and inflates limb (iii) (40%/50% of a bigger base); either mistake distorts the exemption in a direction the AO would query.
• Forgetting DA. If your DA forms part of retirement benefits, it belongs in the base. If it does not, it stays out.
• The 10% haircut. Many people forget that limb (ii) deducts 10% of salary from rent. Rent of ₹2,40,000 with salary ₹6,00,000 gives ₹1,80,000, not ₹2,40,000.
• Claiming HRA without paying rent. The exemption is against rent actually paid. A parent or spouse "arrangement" with no transfer trail is a denial risk (see our rent to parents checklist article).
• Old regime only. HRA under s.10(13A) is surrendered in the new regime (s.115BAC ITA 1961). Compute the exemption only if you file under the old regime.

HRA received is not fully exempt

A common myth: "HRA allowance is tax-free." It is not. Only the least-of-three amount is exempt; the balance of HRA received is taxed as salary. In Priya's case, ₹2,40,000 received minus ₹2,04,000 exempt leaves ₹36,000 of HRA that is fully taxable. The exemption is a computation, not a label on the allowance.

That is also why reading Form 16 Part B matters before you file. The employer computes the exemption using the same three limbs, but it may use a different salary base or city label than you would. If your Form 16 shows an exemption lower than your own Rule 2A computation, the difference is yours to reclaim in the ITR — and if it shows a higher exemption, expect the AO to recompute. Do the arithmetic yourself, then reconcile the two numbers.

FAQ

1. What is the correct salary base for HRA exemption?

Basic + DA that forms part of retirement benefits, under Rule 2A. Not CTC, not gross, not take-home. For private-sector employees without DA, it is basic pay alone.

2. Why do I subtract 10% of salary from rent?

Because limb (ii) is "rent actually paid minus 10% of salary" — the law assumes 10% of salary is your baseline housing cost before rent relief begins. That 10% is computed on the Rule 2A salary base, not CTC.

3. When does the 50% vs 40% difference matter?

Only when the 50/40 limb is the lowest of the three. If rent-minus-10% or actual HRA is lower, the city label changes nothing. It binds mainly when rent is high relative to salary.

4. Is Mumbai a 50% metro city for HRA in FY 2025-26?

Yes. Mumbai is one of the 4 metros under Rule 2A for FY 2025-26, so limb (iii) is 50% of salary. Delhi, Kolkata and Chennai are the other three.

5. What if my employer exempts HRA using CTC?

The exemption may be overstated. It is not binding on the department — at scrutiny, the AO recomputes under Rule 2A and issues a demand with interest. Ask payroll to recompute on basic + DA.

6. I receive HRA but pay no rent. Can I still claim?

No. If you pay no rent, limb (ii) is effectively negative or nil, and the exemption collapses. Claiming HRA without paying rent is the fastest way to invite a disallowance.

Sources

• s.10(13A) ITA 1961 (HRA exemption; ITA 2025: Schedule III(11)) — on the ITA 2025 mapping.
• Rule 2A IT Rules 1962 (three-limb test; 50% metro / 40% non-metro; salary = basic + qualifying DA).
• s.115BAC ITA 1961 (new regime excludes HRA exemption; ITA 2025: s.202).
• Metro-list expansion to 7 cities effective 1 April 2026; notification number pending.

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