Income Tax Systems: Tricky Choices

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The introduction of a new tax regime has given an option to taxpayers. But it has also led to confusion about which system is most advantageous to their financial position

By Shivanand Pandit

The admirable words of LH Anderson, an American writer—“Be careful what you wish for, there’s always a catch”—apply to taxpayers of India. Keeping the demand of taxpayers in mind, the finance minister not long ago announced a new tax system with a superfluity of tax slabs.

However, plenty of exemptions and deductions are absent in the new tax system. The new system is applicable from financial year 2020-2021 onwards. The finance minister also gave taxpayers a choice between the new regime and the existing one, leaving it to them to decide which one to select. This has led to much confusion in the minds of taxpayers. All these factors have made tax laws more complex.

As the provisions of determining tax liability and tax deducted at source would be different in the existing and new income tax systems, selecting the right regime is vital to avoid excessive tax outlay. The selection would depend on gross income and the amount of tax-saving investments or deductions. As taxpayers are incapable of reaching out to tax specialists for help due to the lock­down, they are clueless about which tax system to select.

The new scheme has seven slabs compared to the four slabs in the old scheme. Taxpayers need not pay tax on incomes up to Rs 2.5 lakh. They have to shell out 5 percent on an income above Rs 2.5 lakh-Rs 5 lakh, 10 percent on an income above Rs 5 lakh-Rs 7.5 lakh, 15 percent when it is above Rs 7.5 lakh-Rs 10 lakh, 20 percent when it is above Rs 10 lakh-Rs 12.5 lakh, 25 percent above Rs 12.5 lakh-Rs 15 lakh and 30 percent on an income above Rs 15 lakh.

As per the old regime, taxpayers need not pay tax on an income up to Rs 2.5 lakh. They have to shell out 5 percent on an income above Rs 2.5 lakh-Rs 5 lakh, 20 percent on an income above Rs 5 lakh-Rs 10 lakh and 30 percent on an income over Rs 10 lakh.

Tax slab rates of the new tax system are not distinguished based on age groups like the old system where the basic income threshold exempt from tax for a senior citizen (aged 60-80 years) and super senior citizen (over 80 years) is Rs 3 lakh and Rs 5 lakh, respectively.

Individuals not having a business income can select between the old or new system each year. They may exercise the more useful option after evaluating each financial year. Individuals having a business income can exercise the option only once and that shall be conclusive. Salaried individuals have to choose between the old and new schemes at the time of making their tax declaration to the employer for the purpose of deducting tax at source. However, he can alter that option and choose another at the time of filing his income tax return.

Mixed Bag

The new system offers concessional tax rates compared to the existing regime. Maintenance of a plethora of documents is not required as most of the exemptions and deductions are not available to the taxpayers. The new system treats all taxpayers equally and the benefit of deduction or allowances would not be available. This is beneficial to those taxpayers who do not want to invest in options which have lock-in period criteria and want to invest in open-ended mutual funds or instruments or deposits, which deliver handsome returns along with the flexibility of withdrawal. The reduced tax rates of the new system would provide more disposable income to the taxpayer. In addition, they can customise their investment decisions under the new system. The existing system restricts investment choices for the taxpayer as he has to make investments only in the instruments specified.

However, the major exemptions and deductions are plenty. These are: leave travel concession or assistance, house rent allowance, allowances or benefits specifically granted to meet expenses incurred in the performance of duties of office or employment, allowances or benefits granted to meet personal expenses in the performance of duties of office or employment or to compensate for increased cost of living, standard deduction, entertainment allowance, professional tax, interest on home loan on self-occupied properties, deduction on family pension, daily allowance to MPs and MLAs, exemption of minor’s income up to Rs 1,500 per child, life insurance premium, deferred annuity, contributions to provident fund, subscription to certain equity shares or debentures, tuition fee of children, home loan principal repayment, contribution to certain pension funds, contribution to pension scheme of central government, voluntary contribution to pension scheme of central government, investment made under an equity savings scheme, health insurance premium, maintenance including medical treatment of a dependant who is a person with disability, medical treatment of specified diseases, interest on loan taken for higher education, interest on loan taken for residential house property, donations to certain funds, charitable institutions, rents paid, donations for scientific research or rural development, contributions given by any person to political parties, interest on deposits in savings account, interest on deposits in case of senior citizens and deduction in case of a person with disability.

So what is the right choice? Unluckily, there is no single answer to the above query. And the biggest culprit again is the convolution and complexity of the Indian tax structure. Apparently, the reduced tax rates of the new scheme should result in lower taxes. But the removal of exemptions and deductions has proven that the advantage of lower tax rates is insignificant and worthless.

People who have invested in various instruments to claim tax relief will not find the new regime enticing. The old scheme is advantageous for taxpayers claiming total deductions or exemptions above Rs 2.5 lakh. In case of an annual income of more than Rs 15 lakh and Rs 2.5 lakh annual tax-saving investments or deductions, the new scheme won’t have any advantage over the existing system. Therefore, if a substantial amount of tax breaks are being availed of by a taxpayer, it would be safer to be part of the old scheme.

For taxpayers eyeing to satisfy various financial compulsions, such as wealth creation through investments in tax-saving instruments, paying premiums to take care of insurance needs, children’s tuition fees, equated monthly instalments of an education loan, buying a house with a home loan, etc., the older regime works in their interest. Tax­payers having no home loan, staying in rent-free accommodation and desiring to make small or no investments may find the new scheme advantageous.

All the changes introduced do not categorically make things calmer and cooler for Indian taxpayers. Although the finance minister mentioned that the new tax system will boost consumer demand, it could come at a heavy cost in the form of poorer household savings. The discretionary tax structure endangers a prominent concept that goaded taxpayers of India to save money for the future. Moreover, taxpayers have to do a comparative assessment of both schemes before taking a final decision. As the system is new and has many tricky provisions, taxpayers have to consult a proficient tax expert who can recommend the ideal route.

—The writer is a tax specialist and financial adviser based in Goa

The post Income Tax Systems: Tricky Choices appeared first on India Legal.

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