New tax code skewed in favor of higher income groups

[FINVESTguru]

The Direct Tax Code (Code) recognises the importance of broadening of tax base to improve its horizontal equity, i.e., equity across different classes of taxpayers. The Code reflects this strategy by substantially liberalising tax rate slabs while, reducing tax deductions and incentives to a large extent. However, as the threshold has not been raised, which remains at Rs 1,60,000, the tax benefit resulting from widening of the slabs is skewed in favor of the higher income groups.

The tax base will likely increase across a wide spectrum of employees on account of withdrawal of exemption to certain components of salary like leave encashment, house rent allowance, special allowances, leave travel concession and medical facilities including reimbursements. At the same time, the Code proposes to bring in parity between the Government and private sector employees in the tax treatment of commuted pension, gratuity, entertainment allowance, valuation of residential accommodation, etc. Ushering of the Exempt-Exempt-Tax (EET) system of taxation is a major change which is likely to impact cash flows at the time of actual receipt of pension, gratuity, voluntary retirement compensation, provident fund balance, etc. Individuals would have to suitably adjust their current contribution and savings to allow for a tax payout at a later date. The Code requires more clarity on the tax treatment of employer's contribution to recognised provident fund and interest in such account, employer's contribution to superannuation fund and to the new pension scheme, so as to conform to the EET principle.

For employees, a potential minefield could be the valuation of perquisites, the authority for which has been delegated to the CBDT. Valuation of housing, car and so on is a key component of tax effectiveness of the present taxation structure. Any severity in these provisions will have a corresponding negative impact on the employees, especially at the lower income levels.

House property owners are likely to be adversely affected by the proposals on account of fixation of a higher basis for taxation based on a presumptive value, reduction of standard deduction by 10%, disallowance of any interest on capital borrowed in case of self-occupied property and interest for the pre-construction/acquisition period. Denial of interest deduction on self-occupied property may be a breeding ground for sham transactions which would be an undesirable consequence.

A paradigm shift is proposed in the taxation of capital gain under which all capital gains will now be taxed at the normal rates. Widening of the scope of indexation and shifting of the base date for indexation to 1 April 2000 will be beneficial to the taxpayers, especially those holding assets acquired prior to this date. There is some ambiguity on taxation of listed shares on which STT has been paid and it is hoped that clarity will emerge over time.

The avenues for deduction on account of investments, currently available under section 80C, have been restricted to a small group of four, along with tuition fees, the thrust being on long-term investments. However, the limit for deduction has been enhanced from Rs. 1 lakh to Rs. 3 lakh which is more likely to benefit higher income groups.

RATES OF TAX

Though the threshold and rates will be retained, the slabs will be substantially liberalised, which would result in tax savings and increase in disposable income.

Income slab	Existing rate	Proposed rate
Upto Rs. 1,60,000	Nil	Nil
1,60,000 to 3,00,000	10%	10%
3,00,000 to 5,00,000	20%	10%
5,00,000 to 10,00,000	30%	10%
10,00,000 to 25,00,000	30%	20%
Above 25,00,000	30%	30%

For resident women (not being senior citizen) and senior citizen, the threshold of Rs. 1,90,000 and Rs. 2,40,000, respectively, will be retained.

Surcharge & Cess	Existing	Proposed
Surcharge	Nil	Nil
Cess	3%	Nil

Tax savings at a glance

Income	Current tax*	Proposed tax	Savings (Rs.)	Savings (%)
1,50,000	Nil	Nil	-	-
3,00,000	14,420	14,000	420	3
5,00,000	55,620	34,000	21,620	39
7,50,000	1,32,870	59,000	73,870	56
10,00,000	2,10,120	84,000	1,26,120	60
20,00,000	5,19,120	1,04,000	4,15,120	80

*Inclusive of 3% cess

FINANCIAL YEAR TO BE THE BASIS

As a simplification measure, the concept of previous year and assessment year will be replaced by financial year which would be the year to which the income relates.

RESIDENTIAL STATUS

* There will be no change in the test for being a resident or non-resident.

* The concept of 'not ordinary resident' will be done away with. Instead, exemption from taxing global income will be provided to an individual who was a non-resident in 9 immediately preceding years. Exemption will be provided for the year in which he becomes a resident and the succeeding year. The test of 730 days will be done away with. This will restrict the benefit of exemption from taxation of global income to two years.

Example	Existing	Proposed
Z is in India for 200 days each during 2011-12, 2012-13, 2013-14 and 2014-15	Z will not be taxed on global income for all these years as he is in India for less than 730 days in the preceding 7 years.	Z will be taxed on global income from 2013-14 onwards.

INCOME FROM EMPLOYMENT

Salary payments	Existing	Proposed	Impact
Basic salary	Taxable	Taxable	No impact
Wages	Taxable	Taxable	No impact
Annuity	Taxable	Taxable	No impact
Bonus	Taxable	Taxable	No impact
Commission	Taxable	Taxable	No impact
Leave encashment	Exempt	Taxable	Will increase taxable salary
Commuted pension and gratuity	Fully exempt for Government employees. Partially exempt for other employees.	Partially exempt for all employees provided amount is deposited in a ‘Retirement Benefit Account’ (RBA). Withdrawals from RBA will be taxed.	Will provide parity of treatment between Government and non-Government employees
Voluntary Retirement Compensation	Exempt upto Rs. 5 lakh, subject to specified conditions.	Exempt (subject to conditions to be specified) provided amount is deposited in RBA. Withdrawals from RBA will be taxed.	Conforms to EET principle

Recognised PF	Existing	Proposed	Impact
Employer contribution	Exempt upto 12% of salary	Likely to be exempt under EET principal.	Requires more clarity in the Code.
Employee contribution	Deductible from income (max Rs. 1 lakh)	Deductible from income (max Rs. 3 lakh)	Increase in deductible limit.
Interest	Exempt upto 9.5%	Likely to be exempt under EET principal.	Requires more clarity in the Code.
Withdrawals	Generally exempt, except in certain situations.	Withdrawals taxable under EET principal except balance as on 31.3.2011 and interest thereon.	Conformity to EET principle. Relief will be available, as prescribed.

Allowances	Existing	Proposed	Impact
DA	Taxable	Taxable	No impact
HRA	Exempt	Taxable	Will increase taxable salary
Entertainment allowance	Exempt for Government employees upto specified limit. Taxable for others.	Taxable for all	Will provide parity of treatment between Government and non-Government employees
Transport allowance for commuting between office and residence	Exempt upto 800 p.m.	Exempt upto limit to be prescribed.
Special allowances granted to meet personal expenses at place of work or to compensate for increased cost of living (e.g. compensatory allowances, etc.)	Exempt as prescribed	Taxable	Will increase taxable salary
Perquisites	Existing	Proposed	Impact
Accommodation	Valued as per Rules. Preferential treatment for Government employees.	Value will be determined similarly for private and Government employees.	Will provide parity of treatment between Government and non-Government employees
Motor car; domestic servant, gas/electricity/water; educational facilities; transport facility	Valued as per Rules.	Valuation will be prescribed.
Other benefits and amenities, e.g., subsidized loan, holiday expenses, free meals, credit card/club expenses, etc.	Valued as per Rules.	Valuation will be prescribed.
Stock options/sweat equity	Taxable on allotment or transfer of shares as per prescribed valuation rules.	Taxable on allotment or transfer of shares as per valuation rules to be prescribed.	No change
Employer contribution to approved superannuation fund	Taxable to the extent it exceeds Rs. 1 lakh. Withdrawals are exempt in certain situations.	Likely to be exempt under EET principal.	Requires more clarity in the Code.
LTC	Exempt	Taxable	Will increase taxable salary
Medical facilities and reimbursements	Exempt upto specified limits.	Prima facie taxable unless beneficial valuation rules are prescribed.
New pension scheme	Existing	Proposed	Impact
Employer contribution	Deductible from income upto 10% of salary.	Likely to be exempt under EET principal.	Requires more clarity in the Code.
Employee contribution	Deductible upto 10% of salary.	Deductible from income	No limit specified.
Withdrawals	Taxable	Taxable. However, withdrawal used to purchase annuity will not be taxed. Also, rollover to a different account will neither be deductible nor taxable.	Rollover will promote portability. Uncommuted pension will be taxed.

INCOME FROM HOUSE PROPERTY

General	Existing	Proposed	Impact
Basis of computation	Annual value as computed under the Act.	Gross rent, i.e., higher of rent receivable or 6% of value of property.	Tax base may get enhanced.
One self occupied property	Value is Nil.	Value will be Nil.	No impact
Deductions	Existing	Proposed	Impact
Municipal taxes and service taxes	Deductible	Deductible	No impact
Standard deduction	30%	20%	Will increase taxable income
Interest on capital borrowed - on rented property - on self occupied property	- Allowed without limit - Allowed upto Rs. 30,000 or Rs. 1.5 lakh	- Allowed without limit - Not allowed.	Discriminatory in favor of taxpayers having houses let out.
Pre acquisition or construction period interest	Allowable in 5 instalments	Not allowed	Such interest will be sunk cost

CAPITAL GAINS

General	Existing	Proposed	Impact
Distinction between short-term and long-term capital asset	Distinct tax treatment and rate	No distinction	All capital gains will be taxed at normal rates
Base date for indexation and substitution of FMV to determine cost	1 April 1981	1 April 2000	Appreciation upto 1 April 2000 will not get taxed.
Capital assets eligible for indexation	Long-term capital asset	Any capital asset held for more than 12 months.	Scope of indexation widened.
Deductions	Existing	Proposed	Impact
On transfer of residential house	Available on purchase of residential house u/s 54	Not available	Residual deduction can, instead, be claimed on making deposit.
On transfer of agricultural land	Available on purchase of agricultural land u/s 54B	Available on purchase of agricultural land	Proposed exemption applies with certain modifications.
On transfer of any long-term asset not being residential house	Available on purchase of residential house u/s 54F	Available on purchase of residential house	Proposed exemption applies with certain modifications.
On transfer of any long-term asset (residual provision)	Available on purchase of NHAI or RECL bonds u/s 54EC	Available on deposit in Capital Gains Savings Scheme A/c. Withdrawals will be taxed.	Taxation will be deferred.
Rate of tax	Existing	Proposed	Impact
On transfer of shares or units of Equity Oriented Fund where STT has been paid.	Long-term gain is exempt. Short-term gain is taxable at 10%.	All gains will be taxable at normal rates. STT will be abolished.	Tax impact may go up.

LOSSES

Provision	Existing	Proposed	Impact
Short-term v. Long-term capital gain/loss	Long-term loss cannot be set-off against short-term gain.	No restriction for set-off.	Restriction not required in view of same rate across all capital gains.
Carry-forward and set-off	Specific provisions for losses under each head of income	Loss from all heads of income will be aggregated and carried forward. However, capital loss will be treated separately.	Loss from lottery, puzzles, races and games shall also be treated separately.
Carry-forward time limit	As specified for different types of losses.	No time limit.	Losses will not lapse.

DEDUCTIONS

Deduction	Existing	Proposed	Impact
Savings, pension fund, pension scheme	Multiple avenues for savings u/s 80C. Deduction limited to Rs. 1 lakh.	Only payment to the following will qualify: • Approved provident fund; • Approved superannuation fund; • Life insurer; • Pension System Trust; • Tuition fees Limit will be enhanced to Rs. 3 lakh. Roll over to another account will neither be entitled to deduction nor be taxed.	Deduction for NSC, ELSS, repayment of home loan, units of mutual fund, bank FD’s, etc., will be eliminated. EET principal will be applied.
Health insurance premia	Available upto Rs. 15,000 (Rs. 20,000 for senior citizen)	Will be available upto the existing limits.	No impact
Medical treatment of self or dependant	Available upto Rs. 40,000 (Rs. 60,000 for senior citizen)	Will be available upto the existing limits. Non-resident will also be eligible. Independent spouse will be covered but brother and sister will be excluded.
Medical treatment of disabled	Available upto Rs. 50,000 (Rs. 75,000 for person with severe disability)	Limit of Rs. 75,000 will be increased to Rs. 1 lakh, while limit of Rs. 50,000 will be retained. Non-resident will also be eligible. Brother and sister will be excluded. Dependant should have annual income of less than Rs. 24,000.	Will benefit taxpayers providing medical treatment of person with severe disability
Higher education	Available	Available	No impact
Donations	Deduction allowed of 100% or 50% of donation depending on nature of donee.	Deduction will be allowed of 125%, 100% or 50% of the donation depending on nature of donee.	Another slab of 125% for specified donees have been added.
Disabled person	Available upto Rs. 50,000 (Rs. 75,000 for person with severe disability)	Limit for severe disability will be enhanced to Rs. 1 lakh, while limit of Rs. 50,000 will be retained.	Will benefit taxpayers with severe disability

CERTAIN EXEMPT INCOMES

Income	Existing	Proposed	Impact
Life insurance policy receipt	Exempt provided annual premium does not exceed 20% of sum assured. Exempt without condition, on death.	Exempt provided annual premium does not exceed 5% of sum assured and sum is received on completion of contract or on death.	Objective appears to limit benefit to pure life insurance policies.
Dividend	Exempt	Exempt	No impact
Income from units	Exempt	Exempt	No impact

WEALTH TAX

Provision	Existing	Proposed	Impact
Wealth	Includes non-productive assets	Will include all assets, including financial assets. Financial assets will be valued at lower of cost or market price.	Pre-1993 position reverted to.
Exemption of house or plot	One house or part of house or plot of land	One house or part of house or plot land acquired or constructed before 1.4.2000.	New acquisitions or constructions will be taxable.
Rate	1% of net wealth exceeding Rs. 30 lakh	0.25% of net wealth exceeding Rs. 50 crore.	Will mitigate the hardship on account of increase in scope of wealth.

PROCEDURAL CHANGES

Return	Existing	Proposed	Impact
Due date for filing return	31 July	30 June
TDS from salary	Existing	Proposed	Impact
Salary from other employers can be considered	Yes	No	Each employer will have to deduct taxes separately.
Loss from house property can be adjusted	Yes	No	May increase TDS outgo resulting in refund claim

ILLUSTRATION

Medium range income - Approx. Rs 3 lakh

Income	Amount	Taxable
		Current	Proposed
Basic salary	1,20,000	1,20,000	1,20,000
Dearness allowance	12,000	12,000	12,000
HRA	12,000	1 4,000	12,000
LTC	5,000	1 1,000	5,000
Bonus	20,000	20,000	20,000
Transport allowance	9,600	Nil	2 Nil
Employer contribution to PF @12%	15,840	Nil	Nil
Interest on PF @9.5%	12,000	Nil	Nil
Concessional loan provided by employer	3 10,000	3 10,000	2 10,000
Interest on home loan for self-occupied property	60,000	(-) 60,000	Nil
Gain from sale of shares liable to STT and held for more than a year.	20,000	Nil	20,000
Interest on bank deposits	14,000	14,000	14,000
Dividend on mutual fund units	4,000	Nil	Nil
Gross income	3,14,440	1,21,000	2,13,000
Tax incentives
• Life insurance premium	10,000	(-) 10,000	(-) 10,000
• Self contribution to PF	15,840	(-) 15,840	(-) 15,840
• Repayment of home loan	10,000	(-) 10,000	(-) Nil
Taxable income		85,160	1,87,160
Tax on income		Nil	2,716

All figures in Rs
1Assumed figure after providing for exemption. 2Exempt amount/valuation rules will be prescribed. Assumed to the same as currently applicable. 3Value as per perquisite rules.

Impact

Taxpayers having taxable base upto Rs. 3 lakh may face higher tax outgo on account of reduce tax concessions and no change in tax rate slab.

Higher range income - Approx. Rs 18 lakh

Income	Amount	Taxable
		Current	Proposed
Basic salary	7,20,000	7,20,000	7,20,000
Dearness allowance	2,40,000	2,40,000	2,40,000
HRA	1,20,000	1 60,000	1,20,000
LTC	30,000	1 10,000	30,000
Bonus	1,00,000	1,00,000	1,00,000
Transport allowance	60,000	1 50,400	2 50,400
Employer contribution to PF @12%	80,000	Nil	Nil
Interest on PF @9.5%	30,000	Nil	Nil
Stock options	3 60,000	3 60,000	2 60,000
Interest on home loan for self-occupied property	2,40,000	(-) 1,50,000	Nil
Gain from sale of shares liable to STT and held for more than a year.	1,00,000	Nil	1,00,000
Dividend on shares	20,000	Nil	Nil
Dividend from mutual fund units	60,000	Nil	Nil
Gross income	18,60,000	10,90,400	14,20,400
Tax incentives
• Life insurance premium	1,00,000	(-) 1,00,000	(-) 1,00,000
• Repayment of home loan	20,000	4 Nil	Nil
• Self contribution to PF	80,000	4 Nil	(-) 80,000
Taxable income		9,90,400	12,40,400
Tax on income		5 2,07,154	1,32,080

All figures in Rs.
1Assumed figure after providing for exemption. 2Exempt amount/valuation rules will be prescribed. Assumed to the same as currently applicable. 3Value as per perquisite rules. 4Tax incentives, though available, are limited to Rs. 1 lakh. 5Inclusive of 3% cess.

Impact

Taxpayers having taxable base exceeding Rs. 3 lakh may benefit from lower tax outgo on.

 

(The author is Tax Partner with Ernst & Young)
Source: http://economictimes.indiatimes.com/articleshow/4944797.cms?flstry=1

 

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