Top News

Many taxpayers have recently begun receiving pending income tax refunds, and for some, the refunded amount includes an additional interest component. While getting extra money may feel like a bonus, experts warn that this interest is not tax-free. According to rules under the updated tax framework, the interest portion must be reported in your Income Tax Return (ITR) and is subject to taxation based on your applicable slab rate. Failing to disclose it correctly could result in notices or penalties.

Refund Interest Is Fully Taxable

As per the provisions administered by the Income Tax Department of India, any interest paid along with an income tax refund is treated as “Income from Other Sources.” This means it is added to your total income for the financial year in which you actually receive the interest—not the year for which the refund was originally due.

For example, if you received refund interest during FY 2025–26 for taxes related to FY 2024–25, the interest must be declared in the FY 2025–26 return. Your tax liability will then be calculated according to your slab rate for that year.

Why Accurate Reporting Matters

Tax professionals emphasize that taxpayers often overlook refund interest because it is automatically credited along with the refund amount. However, the tax department already records this payment in its database. If you fail to include it in your return, discrepancies may arise during assessment, potentially triggering a notice.

To avoid complications:

• Check refund details carefully in your tax portal statement.

• Identify the exact interest amount credited.

• Report it separately under “Income from Other Sources” while filing your ITR.

Maintaining proper records ensures transparency and reduces the risk of scrutiny.

Interest Rate on Refunds

The refund interest paid by authorities is calculated as simple interest at 6% per annum, which translates to 0.5% per month. The calculation period generally runs from the date specified under tax rules until the refund is issued.

However, the start date for interest calculation may change if the return was filed late. In such cases, the interest period is counted from the actual filing date rather than the due date. Additionally, if any delay in processing the refund is attributable to the taxpayer—such as incomplete information—the interest for that duration may not be granted.

Situations Where No Interest Is Paid

Not all refunds qualify for interest. Under prevailing provisions:

• If the refund amount is less than 10% of your total tax liability, no interest is payable.

• If processing delays occur due to taxpayer-related issues, interest for that specific period may be excluded.

Understanding these conditions can help taxpayers estimate expected refunds more accurately.

Legal Provisions Behind the Rule

The framework for refund interest and its taxation comes from provisions in the Income Tax Act, 2025, introduced by the Government of India.

• Section 437 specifies the rules for granting interest on tax refunds.

• Section 92 clarifies that such interest must be treated as taxable income under the “Other Sources” category.

In simple terms, while the principal refund represents your own excess tax payment being returned, the interest is considered an additional earning—and therefore taxable.

Opportunity to Correct or Improve Filings

If you have already received a refund with interest and haven’t yet filed your return, ensure the interest component is included. If you have filed but missed reporting it, you may still be able to submit a revised return within the allowed timeframe.

Tax advisors recommend reviewing Form 26AS or the Annual Information Statement before filing. These documents usually list the exact interest credited, making it easier to report accurately.

Key Takeaway

Receiving interest on an income tax refund can be beneficial, but it also brings a tax obligation. Since the amount is treated as income, it must be declared in the financial year it is received. Proper reporting not only keeps you compliant with tax laws but also prevents unnecessary notices or penalties later.

Staying informed about these rules ensures that a pleasant refund surprise doesn’t turn into a tax filing headache.