Most readers must be aware that over the past few years there has been a proposal in the works to replace the current Income Tax Act, 1961 by the Direct Tax Code (DTC). Actually, it was way back in August 2009 that the first draft of the DTC was released. Thereafter, after considering inputs from various stakeholders, a revised DTC was introduced in the Lok Sabha on 30th August, 2010. Subsequently it was referred to the Standing Committee on Finance (SCF) which presented its report on the DTC to the Speaker in March 2012. A number of suggestions made by the SCF were accepted while some were rejected and a fresh DTC Bill was drafted. The following is what we could reasonably expect to be our new tax rules as and when the DTC Bill is passed into an Act.

SCF Recommendations that are proposed to be accepted

Some of the recommendations of the SCF which are proposed to be accepted are as under:-

(1) Tax rates to be moderated for individual taxpayers to encourage voluntary compliance.

(2) Tax deductions to be oriented more towards long term needs like social security.

(3) The age for senior citizens to be lowered from 65 years to 60 years (this has already been done).

(4) The law to be framed such that a smooth transition to investment linked incentives takes place.

(5) ‘Grandfathering’ provisions to be instituted so that the existing tax benefits are phased out in a uniform and non-discriminatory manner ensuring smooth transition to DTC provisions.

(6) A distinction to be made between commercial and non-commercial renting of properties while taxing Income from House Property.

(7) Currently, interest on loan given by employer is not an allowable deduction in respect of self occupied house property. This anomaly to be corrected in the DTC.

(8) Where compensation is received on compulsory acquisition of an investment asset, the period for acquiring the new asset for the purpose of relief from capital gains should be reckoned from the date of receipt of such compensation.

Currently, the dividend distribution tax is to be levied at the rate of 15%. This creates a tax arbitrage and benefits those high net worth taxpayers whose primary income is through dividend from shares

And those that are not to be accepted:

Only those recommendations of the SCF which were not in broad harmony with the taxation and fiscal policy of the government have not been accepted. The key provisions not to be accepted are:

(1) The SCF has recommended revised tax slabs as (a) 0-3 lakhs – Nil; (b) 3-10 lakh – 10%; (c) 10-20 lakh – 20%; (d) beyond 20 lakh – 30%: This suggestion would have resulted in approximate revenue losses of Rs. 60,000 crore. Hence it was decided to keep this proposal in abeyance for the time being.

(2) The SCF had also proposed to link the basic exemption limit for income tax to the consumer price index: However, this suggestion was not accepted as complications could arise if the base of the index or the commodity basket changes. Second, it would lead to changes which are not multiples of whole numbers. Third, indexing the slabs to inflation index is not a comprehensive approach as the slab structure is dependent on a number of factors including other reliefs given to a taxpayer, potential revenue loss to the Government, number of taxpayers who would go out of the tax net etc.

Abolition of Securities Transaction Tax (STT): STT is required to regulate day trading. Further, the rate of STT has already been reduced significantly – hence the proposal was not accepted.

Levy of Dividend Distribution Tax (DDT) on insurance policies: This suggestion was made with a view to provide parity in treatment of equity based insurance and mutual fund products., As this would negatively impact the insurance industry, this proposal was not accepted.

Some other amendments brought in through the Code

Wealth-tax: The current Income Tax Act so also the earlier DTC Bill sought to tax only unproductive assets for levy of wealth-tax. This substantially reduced the base for wealth-tax. The revised Bill captures all assets for wealth-tax, whether physical or financial, thereby removing the distinction between physical and financial assets. Wealth-tax is proposed to be levied on individuals, HUFs and private discretionary trusts at the rate of 0.25%. The threshold for levy of wealth-tax in the case of individual and HUF is currently proposed to be Rs.50 crores unless changed later.

Additional Dividend Distribution Tax @10 per cent on recipient of dividend exceeding one crore rupees: Currently, the dividend distribution tax is to be levied at the rate of 15%. This creates a tax arbitrage and benefits those high net worth taxpayers whose primary income is through dividend from shares. These investors while being high networth would end up paying only 15% as tax whereas a normal taxpayer would pay around 20% to 30% as per his or her tax slab. Therefore, the DTC seeks to levy an additional 10% distribution tax if the total dividend in received exceeds Rs.1 crore.

35 per cent tax rate for income exceeding Rs. 10 crore: On similar lines, the rich should bear more of the tax burden than the not so rich. Hence the revised Code provides that for individuals, HUFs and artificial juridical persons earning more than Rs.10 crore pay tax @35%. In short, a fourth slab is being created for such high net worth taxpayers.

To Sum

The rationale behind this initiative of replacing the ITA with the DTC, is that the existing Act passed way back in 1961 had undergone numerous amendments over the years.

This in turn has rendered the legislation extremely complex and incomprehensible to the average tax payer. Besides, there had been frequent policy changes due to changing economic environment, complexity in the market, increasing sophistication of commerce, development of information technology and attempts to minimize tax avoidance. The problem has been further compounded by a multitude of judgments (very often, conflicting) rendered by the courts at different levels. The new DTC is a solution expected to result in a higher tax-GDP ratio, reduce compliance costs, lower administrative burdens, discourage corruption and most importantly improve equity (both horizontal and vertical). However, it is still not operational. Watch this space for updates.