Dearness allowance is a cost of living adjustment that the Government pays to public sector employees and pensioners. It is calculated as a percentage of basic salary to curb the effect of inflation. As per the provisions of the Income Tax Act 1961, it is compulsory to declare the tax liability concerning DA when filing an ITR. This salary component is offered to employees of both India and Bangladesh.  

Changes in DA Rates

Since DA is based on the cost of living, this salary component is not fixed. It varies from one public sector employee to another based on his/her location. Hence, DA allowance is different for employees in the rural, urban, and semi-urban sectors.

DA rates are subject to change twice every year. This allowance is increased by the Government every six months. Usually, the change is introduced on January 1st for the timeframe between January up to the month of June, and on July 1st for the period ranging from July to the month of December. In October 2019, the Government announced that DA would increase by 4% w.e.f. January 2020. The current DA rate stands at 21% as part of pension and salary.  

Given the current situation, the DA hike for the year 2020 has been put on hold for about 50 lakh Central Government employees. Thus, the DA amount due from January 1st 2020 has not been paid out to requisite individuals. 

Different Types of Dearness Allowance

These are the different types of dearness allowances that are offered by the Indian Government:

  • Variable Dearness Allowance (VAD)

VAD is a type of DA that is paid to Central Government employees. It undergoes revision every six months based on the changes in the Consumer Price Index (CPI) to mitigate inflation. VAD mainly comprises three elements- variable DA that remains fixed, base index and CPI. 

The first component of VAD stays fixed until the government increases or decreases the basic minimum wages. Likewise, the base index also remains fixed for a specific timeframe. However, the CPI changes every month and thus has an effect on the value of VAD.

  • Industrial Dearness Allowance (IDA)

This is the allowance that is offered to public sector employees by the Government. IDA is revised every quarter based on the changes in CPI.

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Calculation of DA 

Previously referred to as “Dear Food Allowance”, dearness allowance was introduced after the Second World War. However, after 2006, changes were made in its calculation. It is presently calculated as a particular percentage of basic salary. DA is added to the basic salary along with other components such as House Rent Allowance (HRA), Conveyance Allowance and more to form the total salary.

This how DA in salary is calculated for public sector employees and pensioners:

  • Central Government employees

DA% = [(Average of AICPI (Base Year 2001 = 100) for the last 12 months – 115.76)/115.76] x 100 

  • Public sector employees

DA% = [(Average of AICPI (Base Year 2001 = 100) for the last 3 months – 126.33)/126.33] x 100

Here, AICPI means All-India Consumer Price Index.

  • Pensioners

Whenever a pay commission introduces a new salary structure, the pension for retired public sector employees is revised. When DA increases, the corresponding surge is reflected in the retired public sector employees’ pension. This applies to both family and regular pension.

When pensioners are re-employed, they cannot get DA if it is granted on a fixed pay or time scale. However, in some other cases, re-employed pensioners may get DA which is limited to their last drawn pay. 

Dearness allowance is not paid to pensioners if they are residing in a foreign country during re-employment. Nevertheless, pensioners who reside abroad without being re-employed are eligible for DA on their pension.

How is DA Treated Under Income Tax? 

As per the provisions of Income Tax Act 1961, there is a full incidence of tax on salaried employees. Suppose a salaried employee gets rent-free accommodation from his or her employer where all the previously mentioned conditions are met. In that case, DA becomes a part of the salary up to which it becomes a retirement benefit salary component. 

The Income Tax Act has made it compulsory for individuals to declare their tax liabilities concerning DA while filing their tax returns.

Difference between DA and HRA

DA and HRA must not be confused with each other as both are separate components of an employee’s salary structure. Given below is a tabular representation pointing out the dissimilarities between the two. 

Basis of Comparison  Dearness Allowance House Rent Allowance
Applicability  Only public sector employees are eligible for DA. Both public and private sector employees are eligible for House Rent Allowance.
Tax exemptions  No tax exemptions are available in case of DA. Certain exemptions apply to House Rent Allowance. 
Calculation DA is calculated as a percentage of the basic salary of a public sector employee. House Rent Allowance (HRA) is not calculated as a percentage of the basic salary.
Meaning It is a cost-of-living adjustment which is offered to public sector employees by the Government.  It is a component of an employee’s salary that helps to fulfil the requirements for renting accommodation. 

Role of Pay Commissions in DA Calculation

The Indian Government set up the pay commission to assess and revise the salaries of public sector employees. Various salary components, such as dearness allowance that form an employee’s total salary, are taken into account to bring in changes. 

The pay commission takes full responsibility to consider each component involved in the calculation of an employee’s salary. They even evaluate the multiplication factor for DA calculation from time to time.

DA has been pivotal in assisting more than 50 lakh government employees and above 60 lakh pensioners. An increase in DA leads to a substantial surge in the monthly income of a public sector employee. Since the Government doesn’t control the dynamic forces altering the price of commodities, dearness allowance is paid to employees as a precaution against inflation.