While presenting the Finance Bill along with Budget 2015, the then Finance Minister Arun Jaitley highlighted an interesting statistic in his Budget Speech. It was pointed out that though the corporate tax rates prevailing in the country at that time was 30%, on account of various exemptions and deductions which were available to corporates, the effective tax rate came out to be 23%. The Minister committed to the House that over the years, the deductions/exemptions available to the corporates will be phased out and as a consequence, the corporate tax rates will be reduced to 25%.
Jump to September 2019, and the current government came out with a new scheme wherein the corporates were given an option to opt-out of certain tax benefits in return for a lower corporate tax rate of 25%. The new simplified scheme received a red-carpet welcome from the corporate world. Considering the success of the simplified regime for the corporates, a similar optional regime was introduced for individuals/HUF vide Finance Act, 2020 in terms of which the individuals/HUF can opt-out of certain tax benefits in exchange for concessional slab rates. Eligible taxpayers can choose to avail the benefit of the simplified scheme with effect from Financial Year 2020-21.
Now, with the financial year coming to an end, individuals, especially those employed, are having a hard time choosing between the old regime and the new regime. In the subsequent paragraphs, the two regimes have been juxtaposed to assist the individuals in making an informed choice while making declarations to their employers.
“The new regime provides for concessional slab rates as compared to the rates provided in the old regime,” Pitam Goel, founder partner, VPTP & Co, said.
A comparative analysis of the progressive tax rates applicable under both the regimes has been highlighted as under:
Since the total income of individuals/HUF is taxed on a progressive basis, it is obvious that if the total income remains the same in both the old and new regimes, a person opting for a new regime will suffer a lower tax. The Finance Minister while explaining the benefit of the new regime in her Budget Speech for the year 2020-21 stated that a person having an income of Rs 15 Lakhs and not availing any tax deduction will potentially save Rs. 78,000/- in the form of reduction of income-tax. It is evident that in the stated example when the total income remains the same under both the regime, there will be a tax benefit in the new regime. Thus, in the case of individuals who are not eligible to claim any deduction/exemption, the new regime will result in a lower tax.
However, life and tax laws aren’t as simple as the example stated above. Normally, an employee will be claiming various types of deductions/exemptions such as HRA, LTC, 80C, interest on the self-occupied house etc. Just like all good things don’t come free, the concessional tax rate come at a cost too.
An individual opting for the new regime will not be entitled to claim a series of deduction/exemption, a few of which have been highlighted as under:
- Standard deduction of Rs. 50,000
- House Rent Allowance (HRA)
- Leave Travel Allowance (LTA)
- Children education allowance
- Interest on housing loan on the self-occupied property or vacant property
- Other Chapter VI-A deduction including the deduction of Rs. 1,50,000 as provided under section 80C and deduction for medical insurance under Section 80D
The new regime, therefore, substantially alters how total income is computed and may result in a higher income being offered to tax. For example, a person receiving a salary of Rs. 20,00,000/-, entitled to claim exemption of Rs. 5,00,000/- on account of HRA and deduction of Rs. 1,50,000/- on account under section 80C may end up paying Rs. 1,24,800/- in the new regime when compared to the old regime. Therefore, the choice between the old and new regime has to be made by exercising due caution.
The major factor that will go into making the choice is the quantum of income earned by the person. If a major part of the income earned by an individual is taxable at a 30% slab rate and such person is also entitled to avail benefits such as HRA, LTA etc, such person is better off staying in the old regime. This is because such individuals will end up saving 30% of the entire deductions and such savings may far exceed the tax benefit in the new regime. However, in case a person has a deduction under section 80C and has income under Rs. 15,00,000/-, the individual may end up saving tax in the new regime. In such a case, a consequential benefit that may arise on account of opting for the new regime may be that the individual need not invest Rs. 1,50,000/- in PF, Insurance etc only to save tax and said the money can be freely used by the individuals.
The option for exercising the new regime has to be made at the time of filing return of income. However, practically, the employees will be required to take a call during the financial year and communicate the same to their employer. The decision will have an impact on the tax withheld by the employer and the way salary payable to the employee is structured.
As stated in the beginning, the new regime is a give and take. Individuals have to decide for opting for the new regime based on the income earned, potential exemption/deduction, and the sums available for making investments (to claim the deduction). Although, the government has dubbed the new structure as a ‘simplified’ taxation regime, the new regime and the decision to opt for it complicates the already complex taxation provisions.