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Direct Tax Code not Bharat friendly
August, 25th 2009

Is the UPA government's well-advertised bias towards the common man mere lip service? It does seem so after the announcement of the new direct tax More Pictures code (DTC), which is loaded against the middle class. With the removal of a whole set of exemptions, the new DTC aims to squeeze more tax revenue from an overwhelming majority of taxpayers.

The new tax code is regressive in nature as it punishes the people in the lower income bracket while those in higher income bracket will enjoy a higher post-tax income. Going by the calculations, people falling in the Rs 5-6 lakh category that forms a large chunk of taxpayers would be affected most. For the benefit of our readers, we at ET Intelligence Group undertook the exercise to calculate the code's impact on their disposable income.

Decoding the directive: There has been a major rejig in the slab rate for determining taxable income. The basic exemption limit continues to be Rs 1.6 lakh. The highest tax rate of 30% that was earlier applicable for individuals earning above Rs 5 lakh has now shot up to Rs 25 lakh.

This measure has been the most talked about. In fact, surcharge and cess are also proposed to be abolished. But the carrot comes with its stick.

The most popular exemptions - interest deduction on home loan, house rent allowance, leave travel allowance, medical reimbursements are either removed completely or will now form part of the taxable income. For other proposals refer to story titled Robbing from Paul to pay Peter on page 1.

The calculations: Here we are analyzing for three salary levels. For all levels we have assumed that the exemptions will not be more than 10% of the salary. Basic salary has been taken as 40% of the total salary (as it is widely seen) and for HRA calculation we take 50% of the basic salary for four metros as prescribed by the Income tax Act.

For home loan and basic exemption, full claim of Rs 1.5 lakh and Rs 1.6 lakh, respectively, is made. The maximum deduction under Sec 80C of Rs 1 lakh has been considered and in the proposed case we have taken it as Rs 3 lakh. In the new scheme of things, an individual with an annual salary of Rs 5 lakh will witness a significant drop in disposable income if he utilises full Rs 3 lakh deduction, hence we have taken a hypothetical number of Rs 1.5 lakh for investments.

The calculations show that taxpayers with falling in the Rs 5-6 lakh slab would be affected negatively as it will increase in their tax liability. For individuals with salary levels upwards of Rs 10 lakh, the total tax outflow will come down. For details see table given below.

The effects: At the macro level the new DTC induces consumption as it reduces the effective tax rate for individuals by 5-7%. However, people in the highest income bracket will capture maximum gains. This may prove beneficial for companies in sectors that serve the needs of upper middle class households such as FMCG, entertainment, retail, financial services and other life style products. On the other hand investment demand led stocks like realty, non-banking finance companies' would tend to lose.

Nonetheless, one must bear in mind that the new direct tax code will be effective from April 1, 2011 subject to its approval by Parliament and also that over next two years; the code itself may see lot of changes.

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