NISM-Series-X-B: Investment Adviser (Level 2) · Concepts in Taxation

Basics of Income Tax and Tax Structure in India

Updated 11 October 2026 · Fact-checked

Tax is a compulsory payment to the government, not linked to any direct service in return. Direct taxes, like income tax, fall on the person who bears them. Indirect taxes, like GST, are collected from one person but borne by another. Canons of taxation are the principles of a good tax system.

Understand Basics of Income Tax and Tax Structure

A tax is a compulsory payment you make to the government. The government uses it for public needs such as defence, roads and welfare. You do not get a specific, matching service in return for the tax you pay. This is what separates a tax from a fee or a fine.

Taxes are grouped as direct or indirect. In a direct tax, the person who is legally charged also bears the burden. The burden cannot be shifted to someone else. Income tax is the main example. In an indirect tax, the person who pays it to the government can pass the burden on to the buyer through the price. GST and customs duty are examples.

A good tax system follows canons of taxation. Adam Smith gave four classic canons: equity, certainty, convenience and economy. Equity means people pay according to their ability. Certainty means the amount, time and manner of payment are clear. Convenience means tax is collected at a time and in a way that suits the payer. Economy means the cost of collecting tax is low compared with the tax collected.

In India, the Constitution splits the power to tax between the Union and the States. Income tax on non-agricultural income is levied by the Union under the Income-tax Act. The Central Board of Direct Taxes (CBDT) administers direct taxes. Income tax is charged on the total income of a person for a previous year, and it is assessed in the following assessment year.

Income tax is generally progressive. A higher income is taxed at a higher rate through slabs. Surcharge and cess are added on top of the tax. As an adviser, you need this base to work out how a product's returns are taxed in a client's hands.

Key formulas to remember

Direct tax: Impact (legal liability) and incidence (burden) fall on the same person; Examples: income tax, corporate tax. Burden cannot be shifted.
Indirect tax: Impact on the seller or importer; incidence on the final consumer; Examples: GST, customs duty. Burden can be shifted through price.
Canons of taxation (Adam Smith): Equity, Certainty, Convenience, Economy; Remember the order as ECCE or make your own memory cue. All four are tested.
Progressive tax: Rate rises as income rises; Income tax slabs are progressive. A proportional tax uses one flat rate. A regressive tax takes a larger share from lower incomes.
Charge of income tax: Income of previous year is taxed in the assessment year; The previous year is the financial year before the assessment year. Exceptions exist, so check the question.

How to solve Basics of Income Tax and Tax Structure questions

Use this method for any question on tax basics, tax types or canons of taxation.

1Read the question and mark what it asks: a definition, a classification, a canon or a structure point.
2If it asks about type, ask who bears the burden. If the burden cannot be shifted, it is direct. If it can be passed on, it is indirect.
3If it names a tax, recall its category: income tax and corporate tax are direct; GST and customs duty are indirect.
4If it describes a feature of a tax system, match it to a canon: ability to pay is equity; clear rules are certainty; easy payment is convenience; low cost of collection is economy.
5For structure questions, recall that the Union levies income tax under the Income-tax Act and CBDT administers it.
6Eliminate options that use absolute words such as always or never, unless the rule is truly absolute.
7Choose the option that fits the exact wording and check it once against the question.

Quickest way: Burden test and canon keyword match

When to use it: Use this for one-line MCQs on direct versus indirect tax or on canons of taxation.

Ask: can the payer pass the tax on? Yes means indirect. No means direct.
Match keywords: ability to pay = equity; clear amount and date = certainty; suitable time and manner = convenience; low collection cost = economy.
Spot the trap option that swaps two canons or two tax types, and reject it.

Common mistakes in Basics of Income Tax and Tax Structure

Calling a tax direct because it is paid directly to the government.
The word direct sounds like the payment route.
Fix: Judge by who bears the burden. GST is paid to the government by the seller but is still indirect, as the buyer bears it.
Mixing up certainty and convenience.
Both sound like they make life easier for the taxpayer.
Fix: Certainty is about clear rules, amount and date. Convenience is about timing and manner of payment.
Treating a tax as a fee for a service.
People link payment with benefit.
Fix: A tax gives no specific return benefit to the payer. A fee is charged for a specific service.
Confusing previous year and assessment year.
The names suggest the opposite order.
Fix: Income is earned in the previous year and assessed in the next year, the assessment year.
Calling income tax regressive or proportional.
Students confuse the tax rate with the share of income paid.
Fix: Income tax uses rising slab rates, so it is progressive.

Worked examples

Example 1

Which of the following is an indirect tax? (A) Income tax on salary (B) Tax on profits of a company (C) Goods and Services Tax on a product sold (D) Tax on a person's total income

Show the solution

Apply the burden test to each option.
Options A, B and D are charged on income. The person charged bears the burden, so they are direct taxes.
GST is charged on the supply of goods and services. The seller collects it in the price and the buyer bears it.

Answer: (C) Goods and Services Tax on a product sold.

Example 2

A tax system sets out clearly when, how and how much each person must pay, so that no one is left guessing. Which canon of taxation is this? (A) Equity (B) Certainty (C) Convenience (D) Economy

Show the solution

Identify the key feature: clear time, manner and amount of payment.
Equity concerns ability to pay. Convenience concerns ease of timing. Economy concerns collection cost.
Clear and known liability is the meaning of certainty.

Answer: (B) Certainty.

Exam tips

Learn the four canons in order and attach one keyword to each.
Always decide direct or indirect by who bears the burden, not by who pays the government.
Expect simple classification MCQs, so list three direct and three indirect taxes from memory.
Watch for options that swap previous year and assessment year.
Negative marking applies, so answer only when you can eliminate at least two options.

Practice questions from Concepts in Taxation

Basics of Income Tax and Tax Structure: frequently asked questions

What is the difference between direct and indirect tax?

In a direct tax, the person charged also bears the burden, as with income tax. In an indirect tax, the burden can be passed to the buyer through the price, as with GST. The test is whether the burden can be shifted.

What are the canons of taxation?

They are the principles of a good tax system as set out by Adam Smith: equity, certainty, convenience and economy. Each describes one quality the system should have.

Who administers income tax in India?

Income tax is levied by the Union Government under the Income-tax Act. The Central Board of Direct Taxes administers it.

Is income tax progressive?

Yes. Income is taxed through slabs, and higher slices of income face higher rates. Surcharge and cess are added on top of the tax.