Taxing No More

The long-awaited Direct Taxes Code 2009 is finally here. Finance [INSERT_1]Minister Pranab Mukherjee released the draft of the Direct Taxes Code 2009 (DTC 2009) for discussion and debate after which the final Code will replace the IT Act, 1961 with effect from April 1, 2011.

The draft proposes drastic changes in personal taxation and tax administration. It seeks to simplify the tax structure by doing away with plethora of tax exemptions, ushering in moderate levels of taxation, improving the efficiency and equity of the tax system by eliminating distortions and expanding the tax base. It begins the simplification process by removing the confusion about ‘assessment year’ and ‘previous year’ (which confused the taxpayers about the year for which the returns were being filed) by replacing them with the unified concept of ‘financial year’. Now, to under-stand how the DTC 2009 proposes to simplify it further, let’s first look at the changes proposed in the tax structure.

Huge Relief for Taxpayers
The massive increase in income tax slabs was totally unexpected and created a huge buzz among individual taxpayers. Although the basic exemption limit has been retained at Rs 1.60 lakh (Rs 1.90 for women and Rs 2.40 lakh for senior citizens), the 10 per cent tax slab upper limit has been hiked from Rs 2.50 lakh to Rs 10 lakh, 20 per cent tax slab has been hiked from Rs 2.50 lakh-5.00 lakh to Rs 10 lakh-25 lakh, while the 30 per cent tax slab has been hiked from Rs 5 lakh to Rs Rs 25 lakh (See Table-I). Now, that’s a massive hike in tax slabs and, no wonder, the DTC 2009 has warmed the hearts of all taxpayers, especially salaried taxpayers.

The reason is simple. An individual taxpayer drawing an annual salary of Rs 6 lakh is presently liable to pay Rs 84,000 as tax, while his tax liability under the new tax code would be just Rs 44,000! That’s straightaway reduction in tax liability to the tune of Rs 40,000 and that too without availing any tax exemptions!

Similarly, a person drawing a salary of Rs 10 lakh is presently liable to pay a total tax of Rs 2.04 lakh (excl. cess), whereas under the new tax code, he will be liable to pay only Rs 84,000. Again, a person drawing a salary of Rs 25 lakh would be paying just Rs 3.84 lakh when the tax code comes into effect, whereas he now pays about Rs 7.19 lakh (incl. surcharge) as income tax under the present tax structure.[PAGE BREAK]

Hike in Exemption Limit
DTC 2009 proposes to raise the exemption limit for savings and [INSERT_2]investment from the present Rs 1 lakh available under Section 80C of the Income Tax Act, 1961, to Rs 3 lakh under the proposed Section 66 of DTC 2009. The tripling of the exemption limit would provide more relief to taxpayers who invest in approved provident and superannuation funds, life insurance schemes and New Pension System. This is aimed at encouraging long-term savings and investments. Hence, if a person draws a salary of Rs 6 lakh per annum and fully avails of the exemptions of Rs 3 lakh under Section 66, he would be liable to pay tax of only Rs 14,000 under the DTC 2009 as against his tax liability of Rs 54,000 under the IT Act, 1961.

Tution Fees & Interest On Education Loan
Actual tution fees paid to school, college or university in India for the purpose of full-time education of two children during the financial year would be eligible for deduction under Section 67 of the DTC 2009. Such full-time education would also include play schooling and pre-schooling. However, it would not include any payment made toward development fees, donation or payment of similar nature.

Apart from tution fees, the interest paid on education loan taken from bank or financial institution for higher education would also qualify for deduction under Section 68 of the DTC 2009. Such deduction would be allowed in respect of the initial financial year and seven financial years immediately succeeding the initial financial year or earlier.

Health Insurance Premium & Medical Treatment
The health insurance premium paid by an individual for insuring his own health would be eligible for deduction under Section 69 of DTC 2009, subject to a maximum of Rs 15,000 per annum (Rs 20,000 for senior citizens). A further deduction of Rs 15,000 would be eligible for insuring the health of the individual’s parents (Rs 20,000, if the parents are senior citizens). In the case of medical treatment, the actual amount paid for treatment of specified diseases during the financial year would be eligible for deduction under Section 70 of DTC 2009, subject to a maximum of Rs 40,000 (Rs 60,000 for senior citizens). However, the deduction would be reduced by the amount received from an insurer for the medical treatment.[PAGE BREAK]

Wealth Tax

Apart from hike in income tax slabs, the DTC 2009 proposes to raise the [INSERT_3]wealth tax threshold limit from a miniscule Rs 30 lakh to a huge Rs 50 crore. To top it all, the tax rate would also be slashed from 1 per cent to just 0.25 per cent. This effectively means that only the super rich having wealth in excess of Rs 50 crore would have to pay wealth tax, while others having wealth less than Rs 50 crore would be spared the burden.

The Minuses
Of course, not everything is goody-goody about DTC 2009. It proposes to do away with quite a few exemptions and deductions which are currently available under IT Act, 1961. Currently, interest paid on housing loan is deductible upto a maximum of Rs 1.50 lakh, while principal repayment of housing loan qualifies for deduction upto a maximum of Rs 1 lakh. Hence, the maximum consolidated benefit for both principal and interest is to the tune of Rs 2.50 lakh. This would be no longer available under the DTC 2009, which is a major setback for those who are repaying home loans.

Another major setback for the taxpayers is the withdrawal of tax benefits for investing in various tax saving schemes such as equity-linked savings schemes (ELSS) and unit-linked investment plans (ULIPs) offered by mutual funds, National Savings Certificate, National Savings Scheme and Monthly Income Scheme offered by post offices, 5-year fixed deposits by banks, etc. These were very popular tax savings instruments, but withdrawal of tax benefits to these instruments would be disadvantageous for the investors. However, the tripling of savings limit from Rs 1 lakh to Rs 3 lakh mitigates the disadvantage to some extent.  “Present section of 80C has too many schemes and limited amount of deduction. As a result Rs 1 lakh was spread thinly. Now even with the increased limit, there are enough avenues to save. The Code gives Centre enough discretion to bring other savings instruments into limit of Rs 3 lakh,” says Chartered Accountant Shruti Shah, adding further[PAGE BREAK]

that “The nature of savings of individual for lowering tax liability will have to undergo drastic change as tax incentive under proposed EET regime may be restricted to retirement benefit plans such as PF, LIC, pension plans rather than encouraging investment-led savings.”

Yet another unpalatable feature of the DTC 2009 is that the perquisites paid by the companies to their employees would now be taxed. Hence, the value of house rent  allowance paid, leave travel reimbursement or concession, medical reimbursement, leave encashment and other perks would be treated as part of salary and taxed. “The draft Direct Taxes Code signals an end to aggressive tax planning for individuals, in particular for salaried class. Employers may have to shift to a system where consolidated amount is offered as compensation on package or salary with very few perks,” opines Shah.

Also, capital gains would be taxable at normal rates of taxation under DTC 2009 which takes away the benefits of lower taxes which are currently available for capital gains. This negates the advantage of the proposed abolition of securities transaction tax.

Lastly, the exempt-exempt-tax (EET) regime the DTC 2009 proposes to usher in would tax investments in all provident and superannuation funds, life insurance and New Pension System upon withdrawal. This would be harsh on retired people who would be required to pay tax on with-drawing the accumulated amount.

A Good Beginning
All in all, despite the minuses, the Finance Minister has made a good beginning. The advantages offered by DTC 2009 would far outweigh its disadvantages. After the FM incorporates various suggestions offered by the people and institutions, one can hope that final DTC 2009 would offer a much better deal to the taxpayers than it does in its current avatar.