Employees generally receive a house rent allowance (HRA) from their employers. HRA is an allowance and is subject to income tax. An employee can claim exemption on his HRA under the Income Tax Act if he stays in a rented house and is in receipt of HRA from his/her employer.
In order to claim the deduction, an employee must actually pay rent for the house which he occupies. The rented premises must not be owned by him. In case one stays in an own house, nothing is deductible and the entire amount of HRA received is subject to tax. As long as the rented house is not owned by the assessee, the exemption of HRA will be available up to the the minimum of the following three options:

* The actual amount of HRA received

* 40% of salary. This increases to 50% if you are renting out the house in major metros in India

* Rent paid minus 10% of salary (basic component + dearness allowance)

Salary here means basic salary which includes dearness allowance if the terms of employment provide for it, and commission based on a fixed percentage of turnover achieved by the employee.

The deduction will be available only for the period during which the rented house is occupied by the employee and not for any period after that.

Example for Calculation of HRA Exemption
HRA per month = Rs 15,000
Basic monthly salary = Rs 30,000
Dearness Allowance = Nil
Monthly rent = Rs 12,000
Rental accommodation is in Mumbai.

Exemption
Actual amount of HRA = Rs 15,000
50% of salary = 50% x (30,000 + 0) = Rs 15,000
Actual rent paid – 10% of salary = Rs 12,000 – [10% of (30,000 + 0)] = 12,000 – 3,000 = Rs 9,000

Rs 9,000 being the least of the three amounts will be the exemption from HRA. The balance

HRA of Rs 6,000 (15,000-Rs 9,000) is taxable.

Courtesy:-http://www.sensystechnologies.com/blog