Business Today

What the tax code means to you

The draft direct tax code, if implemented in its current form, promises to be a game changer for individual taxpayers as well as for personal finance. We show how.

Manu Kaushik & Rishi Joshi | Print Edition: September 20, 2009

Person A (names withheld on request), a young software professional based in Noida, was all set to buy his first house. He had already paid the builder Rs 2 lakh as advance and was awaiting approval for his Rs 20-lakh housing loan. But he isn’t sure of buying a house anymore, and has requested the bank to put his loan application on hold.

Person B, a Bangalore-based sales executive, has painstakingly created what financial planners would call a balanced insurance portfolio, with term policies making up one half and ULIPs, money-back and children’s growth plans the other. But B is now seriously thinking of closing all but the term policies before 2011 and starting afresh.

Indeed, 2011 is weighing on the minds of these individuals. Twenty-eleven is when the direct tax code, a draft of which has been put out in the public domain for comments, will come into force, replacing the Income Tax Act, 1961, that has governed individual taxpayers in the country and shaped their personal finance philosophies. Similar concerns are likely to preoccupy the minds of most salaried individuals, who may be called sooner than later to relook at their personal finance strategies and recast them in accordance with the tenets of the new tax code. But what is it about the new tax code that’s forcing individuals such as A and B to rethink their financial plans? What does it mean to individual taxpayers? Business Today answers these questions as it demystifies the new code for the salaried person in terms of benefits and liabilities to them and how it impacts their investment and tax planning.

To begin with, the draft code proposes to widen the taxpayers’ base by simplifying the provisions for the common man and increasing the tax slabs substantially to encourage compliance. Also, applying the concept of give and take, while the new code lowers tax rates, it seeks to do away with current exemptions. So, how does all this impact a salaried person? The bad news is that tax will now be calculated on a person’s net pay. Explains Amitabh Singh, Partner (Tax & Regulatory Services), Ernst & Young: “Typically, for a person earning a gross salary of Rs 10 lakh a year today, cash and perks is in the ratio of 60:40. At present, he is taxed on the entire 60 per cent cash part, while the remaining 40 per cent is either tax-free or partially taxed. The new code would tax both cash and perks.”

But the good news is that an individual’s tax burden would reduce substantially with the new code expanding the tax slabs, thereby putting more money in his hands. Another major plus is expansion of the exemption limit on savings to Rs 3 lakh from Rs 1 lakh earlier (see case studies). However, people with annual incomes between Rs 10 lakh and Rs 25 lakh, i.e., mid- and senior-level executives, stand to benefit more from the expanded slabs than those earning less. A back-of-the-envelope calculation shows that while the tax liability of a man earning Rs 7.5 lakh a year would go down by 56 per cent under the new code, it would reduce by a whopping 80 per cent for an individual with an annual income of Rs 20 lakh. “Besides the expanded tax slabs, individuals in the higher bracket will benefit hugely from the removal of surcharge and education cess as well” says Surya Bhatia, Principal Consultant, Asset Managers.

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