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Economy

Budget Wish: Increase "no-tax" slab to Rs. 500,000, remove all 80C exemptions

Income-Tax.png

As the budget rolls in, there are a few things we think would be cool if they came through. Not all of the following are likely or even part of the government thinking, but it’s what we would like for the future.

Increase “no-tax” slab to Rs. 500,000, remove all 80C exemptions

In the economic survey we have a very interesting graphic. 72% of taxpayers make less than 5L

What can we see here:

  • There are 286 lakh (2.8 crore) taxpayers in the country (2014 data)
  • Only 25 lakh (2.5 million) taxpayers make more than 10 lakh rupees per year.
  • Most taxpayers (207 lakh) make less than 5 lakh rupees per year. That’s 72% of all taxpayers that make less than 500,000 rupees a year.

Lowest Slab Taxes are Irrelevant – Remove Them Completely

At the lowest slab, the taxation is as follows:

  • Upto 250,000 is tax free
  • From 250K to 500K (2.5 lakh to 5 lakh) you pay 10% tax only.
  • The 250K limit increases to 300K if you’re 60+, and goes to 500K if you’re 80+

Since the majority of taxpayers are in this bracket – 72% of them – and there is a cost to filing/collecting taxes, the government can do something radical: Completely eliminate income tax below Rs. 500,000

What’s the Impact?

Remember, there are 2.07 crore people that make less than 5 lakh rupees per annum.

Since the average income of taxpayers making less than 5 lakh rupees is Rs. 2.9 lakh (from the graphic above), let’s also assume that half these people are making more than the average, and half are making less. That would mean about 1 crore people making more, and about 1 crore people making less.

If you’re making less than 2.9 lakh per year, your income tax is negligible, since the first 2.5 lakh is non-taxable. Even at Rs. 2.9 lakh rupees, you would be paying only Rs. 4,000 in tax. (10% of whatever is above Rs. 2.5 lakh) Since you have to account for a spread, assume Rs. 2000 per person, for 1 crore people = Rs. 2000 cr. for the tax collection of the “under average” people earning below 5 lakh.

Assume the remaining 1 crore people are earning Rs. 500,000 per year, the max that can be earned in this slab. The tax on that would be Rs. 25,000. (10% of whatever is above 250,000).  Again, assume an even distribution, and you might find that the average tax paid will be between Rs. 4000 (lower end, at 2.9 lakh) and Rs. 25,000 (upper end at Rs. 5 lakh). The average is Rs. 15,000 tax paid per person.

For 1 crore such people, tax collections are a maximum of  Rs. 15,000 crore, as the tax collected from “over average” people earning less than 5 lakh.

Add them both: the below-5-lakh-income tax collections are a total of Rs. 17,000 cr. 

This is however simplistic: we will also find that removing the first 500K will impact all taxpayers having an income of MORE than Rs. 500,000 also.

There are 79 lakh people with income more than 5 lakh. Each such person pays Rs. 25,000 for the “lowest” slab as part of his or her tax. The government will lose that income also – and that adds up to about Rs. 20,000 cr.

Add them all up – if the government removed all taxpayers paying less than Rs. 500,000 from paying any tax, the government would lose Rs. 37,000 cr. in tax collections.

Let’s Make It Up: Remove all 80C exemptions

Section 80C allows you to “deduct” certain kinds of expenses or investments from your taxable income. This currently includes a lot of things – your children’s education fees, your housing loan principal, investments in insurance policies or in equity taxsaver funds, PPF etc. All of them, put together, are limited to Rs. 150,000 per year.

Since the government will have increased the lowest slab from 250K to 500K, essentially another 250,000 of income is totally exempt,

If the government completely eliminated 80C exemptions (which are limited to 150K anyhow) this is still a big positive for every tax payer.

Under section 80C the government sees potential exemptions of Rs. 29,237 crore in 2014-15. (Link)

That means the government will not see that loss if 80C is totally removed!

The net tax impact is: Rs. 37,000 crore income lost minus Rs. 29, 237 cr. income gained = around Rs. 7,000 crore loss.

Update: Thanks to what reader Pras said, even this can be removed. Consider that taxpayers making more than 10 lakh rupees now suffer – they pay Rs. 25K less tax (due to no 10% slab between 250K to 500K) but they lose all the 150K benefit of the 80C, which would have saved them 50K of tax. So they net pay Rs. 25K more in taxes!

There are 24 lakh such people with 10 lakh or more as income. Assuming all of them pay Rs. 25,000 more in tax due to the above, we have Rs. 6000 cr. extra collected in taxes.

The total income tax impact then is Rs. 1,000 crore only. (Rs. 7,000 cr. above minus the extra Rs. 6,000 cr. collected). And I haven’t even mentioned the savings in tax collection costs yet!

And There Are Other Gains

80C only applies to individuals, as does the Rs. 500,000 slab, so there is no corporate tax impact.

There are huge gains made by lower collection costs:

  • 72% of taxpayers don’t have to pay tax. That’s a significantly lower tax collection burden on the tax department
  • No 80C means significantly lower tax filing issues – everything is straightforward – and therefore tax scrutiny of such tax exemptions etc is no longer required as is none of the associated paperwork

These two alone can result in lesser costs that will reduce that net impact by half. And then you have that many happy taxpayers for whom the net impact is positive!

Some of us will hate it

Of course removal of exemptions is hated by people. How will we encourage equity investments? Why tax insurance investments? etc.

My principle is that if you have lower exemptions and a lower tax rate – which is what I propose – we will significantly reduce the bullshit around tax that we have to be doing. It will hurt CAs and accountants but will in effect allow them to serve more people rather than dealing with the complexities of a few.

The Summary: What Are We Saying?

Make the income tax slabs:

  • Below Rs. 500,000: no tax. (Can give some higher limit for >80)
  • From 5L to 10L : 20% tax
  • Above 10L: 30% tax
  • Remove all 80C exemptions completely

This will probably have a very low impact on tax collections (less than 7,000 cr. ) and save tremendous costs in collection and scrutiny.

Note: Please do comment. I will only delete personal attacks, no other comment will be censored. 

  • Srinivas says:

    Seems sensible and doable.
    One downside I was seeing is lesser contribution towards retirement corpus. Now due to 80 C, people are forced to invest in 80C instruments (long term savings) there by saving by force. IF that is not there, people wil tend to save less for retirement. This happens more in sub 5 lakhs bracket, as mostly 9my assumption) they are financially not very savvy.
    Not that this cannot be handled through different means.
    Thanks.

    • I think we definitely need to let people be free, a forced saving may be desirable for some, but it’s not useful for others. The PF saving is forced and that also I don’t really like; but in the end that can remain a forced saving, just that it’s not required to be given a tax exemption on the way in. (It’s exempt anyhow on the way out)

  • Shan says:

    A drastic simplification is indeed required. I think we should even go a step further and let the taxpayer choose where he or she wants the money to go to. This can’t be strictly guaranteed by the govt but some transparency here would tremendously help the vicious circle of distrust between taxpayer and the govt. today most (all?) taxpayers believe that their money is going to waste. The govt needs to change this attitude

  • Monaal says:

    It might be doable but the ‘forced saving’ helps inculcate a habit within the individual right from when he starts earning that it is a good idea to save a portion of your total earnings – no matter how less you earn. For the ‘rainy’ day so to say. That is why time and again India has generally found a way to get out of recession – the 80C savings + gold has helped when the entire global economy is in doldrums.

    • India saves a lot, we are programmed to do that. We don’t need incentives. This forced saving is of little use really, it forms less than 10% of our real savings most of the time, esp when we need it.
      I think people should not be forced to save.

  • Pras says:

    But for people earning more than 10 lakhs, this will result in additional tax of 25 K.
    They would save 25 K in the 10% bracket of 2.5 L to 5L, but then lose the 50 K tax savings (30%) from the 1.5 L (if the invest the max in 80C )

    • Yes, and that’s fine no. It’s 25K extra tax for the higher taxpayer who no one really gives a damn about. WE have to tax the rich more anyhow.
      But good point here.
      The 25K extra tax for the 24 lakh taxpayers whose salaries are > 10 L will mean that another Rs. 6000 cr. will flow into govt coffers, and the impact is fully negated!

      • Chaitanya says:

        Sorry but most individual earners like Doctors, CA, Lawyers who earns quite a large amount, do they really pay income tax? Do business guys honestly pay income tax? Does one show all his/her income?

  • Pinak Kapadia says:

    There will be one issue. Professionals like me will divide the income in multiple heads – say 20k salary to family members, etc. In the end, we will come to suddenly a large number of people having 4.5 lakh income. And because of no filing of returns, they will show a large number of cash on their books, income which isn’t actually there. We might just encourage black money by this.

    • You cna do that anyhow today with paying 4 lakh to family members, and putting 1.5lakh from each member into PPF or NSC or such.
      Instead of doing such a roundabout thing, might as well make the 5L so you do things right.
      Black money will be less if people find the taxation structure less cumbersome…

  • Abhijeet Roy says:

    I wouldn’t really advise the government to do away with 80C deductions – which essentially encourage saving for retirement. The economy, with its young population, and companies would be better off if a sizeable part of the workforce retires early, as a higher workforce turnover means lower unemployment, and a more productive workforce. And sufficient savings mean taxpayers can afford to retire early.
    The fact that a bulk of taxpayers are in the 2.5-5 lakh bracket makes it more important to “force them” to save so they are prepared for retirement.
    This Wall Street Journal article reinforces the point:
    http://www.wsj.com/articles/companies-to-workers-start-saving-moreor-well-do-it-for-you-1444901580

    • I disagree with the entire article and the premise that we should be forced to save. Indians save enough, as it is, even without theforced savings, and in fact the forced savings tend to be a small part of our total savings when we do retire. I would much rather see us reduce exemptions and spend more, while saving in our own way.

      • Abhijeet Roy says:

        If we should be forced to save is debatable, but the premise that indians save enough is not likely to hold forever. The next generation of Indians doesn’t save as much as their parents. Blame it on changing lifestyles, aspirations, lower interest rates, or the lack of the joint family structure. By the time millennials retire, it is likely that the share of forced savings (if it continues) would form a larger portion of their total savings than it did for their parents.
        Quoting another report by Willis towers Watson:
        http://www.dnaindia.com/money/report-indian-employees-inadequately-prepared-for-retirement-says-survey-2179550

        • All surveys are manipulated to say whatever it is the surveyor wants to say 🙂
          But I don’t agree one bit – I think if the current generation saves less, it’s still a lot more than they should. We should have an India that spends a lot mroe than today, and saves a lot less. If we spend, we will be able to generate much more employment and transactions compared to if we only save. The spending drives future earning, and the earning will ensure our retirements, not our savings. Given how much we save now, we will do well to save a lot lesser and increase spending. this is opposite of the US where they speand way too much and save way too little.
          Do you know that Indian savings rates have gone up from 12% of GDP in 1970s to 23.5% in 2011? The expected savings rate now is 24.5%. We have increasing savings rates now! We should not be encouraging this at all.

        • Abhijeet Roy says:

          By comparing the savings rate of 1970 vs 2011, you are discounting the Big impact of financial sector liberalization in the 1980s (interest rate liberalization, reduction in reserve requirements, pro competitive measures, securities market development, etc.). So, not really a fair comparison to make. And 24.5% is much lower than the pre-recession peak of 37% (2007).
          And more spending is anyway on the cards with inflation targeting of the repo rate.

        • Household savings were never at 37%. Overall savings were at 37% (includes corporations). Households are at the highest they have ever been AFAIK

        • Abhijeet Roy says:

          You are right. Household savings rates are at the highest now.. and are set to increase because of favorable demographics.
          At the same time, household spending, driven by interest rate cuts, is also set to go up.
          Let’s see how it plays out.

  • Kedar says:

    Start at zero.. Allow all credit card expenses and expenses through cheques as deductions and cash withdrawal of max of 2.5 lakh as expense..

    • Abhijeet Roy says:

      The government plans to incentivize the use of credit and debit cards. That’s the first step toward your plan.
      But a couple of challenges:
      1. Not all taxpayers are salaried, and small business-owners make profits in cash, which would remain unaccounted.
      2. It’s difficult to ascertain the number of dependants for each taxpayer. So, taxing based on expenditure will put additional burden on taxpayers with a larger number of dependants (one who pays for parents, wife and kids would be taxed the same as a bachelor for equal expenses)

    • sai aravindh says:

      It s a radical idea, it is revenue-neutral but I am not convinced about the underlying objective of this move. The argument is that significantly reduces tax collection burden – but administrative effort expended on the small taxpayers is anyway marginal at present – only a very small sample of the <10L taxpayers get scrutinized. And with e-filing made compulsory, lot of the scrutiny is cleared by the computerized system. Second, you argue it makes the tax filing process simpler – but it is already quite simple; for someone who has only salary income, it does take more than 1 hour – yea, one hour in a year! – to fill it up. The only substantive point is whether 80C, which encourages long term savings, itself is desirable. I see the author has made arguments as to why it is a good thing but in a country where where non-financial savings is so deeply entrenched, I see 80C as a great way to promote financial savings. Especially for people in the lower slabs – who are likely to be less financially literate – 80C results in a significant portion of their savings going towards financial instruments, which would otherwise have gone towards gold and real estate.

      • This is not only about admin effort of the govt. It’s also the TDS for employees, the filing of TDS returns for each of them, marginal at best, the refunds since many will go through a process of investing in 80C only after tax is paid, the process of managing returns etc.
        I dont think it’s desirable that we should bother telling Indians where they should save or invest, and this concept of “driving” one thing or the other through tax incentives is what I despise. It distorts things needlessly and all theoretical arguments I will dismiss by saying the practical reality is that 80C doesn’t do diddly squat for most people in terms of savings, other than some govt employees, and they didn’t save it because of tax incentives (they save because they have to, and there also it’s not a huge part of overall savings)

        • sai aravindh says:

          The “forced” savings argument is a good though I dont agree with it. Given the current stage of financial literacy of our people, I think, on balance, it is a good thing. Second, I dont understand why you say 80C does “diddly squat” – how much is household savings in India? We are a $2TN economy with ~30% savings rate or ~$600BN or roughly over 40L crores. 80C savings would be 1.5L crores (30K crores tax foregone – apply average 20% tax rate). That is not bad at all – it is 4% of total savings and this number will only get better as the tax net expands to cover a wider section of people. Again, I dunno why you are saying its not a huge part of overall savings. Take a typical IT professional wwith 4-5 years experience earning close to 5L. He would be savings max of 1.5L per year net of all expenses? For him, 80C savings would be easily be 30-50% of his total savings. As you analysis points out, there are 2 crore people earning under 5L – and for these people, 80C savings will be a huge part of their overall savings. And very likely these would otherwise have been diverted to non-financial savings.

        • 4% of savings isn’t great – we would actually do better to remove it, and they will save enough anyways. 4% is diddly squat territory 🙂
          My point is simple – remove 80C and people will save anyways. they will find better and bigger ways to save – they anyhow save 24x more every year by your own calculations, and they didn’t need an 80C for that. 80C can easily be removed, and it’s not going to hurt anyone, even in the longer run.

        • sai aravindh says:

          I think you have got my argument wrong. My support for 80C is not because it encourages people to save, but that it channelizes these savings to financial ones. In that context, 80C definitely does a great job -4% of total savings translates into roughly 15% of all financial savings by Indian Households. And 80C achieves this despite having just 2% of the population under the tax net. Imagine the impact it will have as the tax net steadily widens (hopefully) and over the next few decades, that number moves up to say 10%.

  • Rajeev Gupta says:

    what will happen to annual 1lac crore premium that is generated by insurance companies selling new policies?what will happen to service tax and stamp duty revenue that is monstrous ?where will thousands of LIC employees go if no one buys insurance?who will support market when mayhem is there?what will hppen to lcs of agents who gets business only because tax savig is there?7

    • They can find something else to sell…the Indian tax code is not there to provide employment for LIC agents or for CAs.
      They will easily find other things to sell, or to do. So what if the premium doesn’t come! Good for people, these products are useless for the most part.

  • Praveen Kalra says:

    Govt does not provide any social security here. So 80c in a sense provides social security for long term corpus build up. I think for all private sector employees and self employed it is necessary.

    • There is no need to create tax exemptions for this. People should do this anyhow. Tax exemptions are vile and distort the economy. 80C provides no social security. I have explained this. Given the data, it’s better to scrap 80C.

  • Ashok says:

    Another gem from you. But a piece of advice – please publish these a month before budget. It just might influence the people up there a bit, while they are still working on the budget . Publishing it on the day before budget does, to quote you, “diddly squat” :-).

  • Kunal says:

    Agree totally. And while we’re at it, let’s remove the exemptions for housing loans as well.
    I prefer a simple 9-18-27% slabs for individuals and flat 30% for corporates structure. Individuals have a lower marginal tax rate as they have no expenses they can set off against salaries. Corporates can, and therefore should have a higher tax rate.
    And I’m not shedding no tears for the lakhs of CAs insurance agents and MF agents around. Who cares! These exist to subtract value from someone else’s earnings!

  • lohit says:

    Some more changes that would be good to have
    1. If deduction on home loan interest is to be removed, level the playing field by removing HRA too. Dont incentivize one over the other. Let the market determine it.
    2. Equal short and long term gains taxes for debt, equity, gold and housing. Same here. Let people choose what they think is good for them.
    3. Allow people to choose whether PF/PPF should go to debt/equity/precious-metal ETFs . (Maybe REITs in the future).

  • RN says:

    This proposal is not applicable to self employed people or small business owners or unorganized sectors with plenty of opportunities to underreport their income.
    In India. dividends are taxed at source and not at the hands of the individual. Other components of income are taxed together along with filing the tax returns.
    There are 3 main components to the taxable individual income – salary, interest and capital gains (real estate or financial assets such as stocks or mutual funds).
    Why not tax , at source, these three components separately, (just like dividends) ?
    This proposal will eliminate the need for most people to file tax returns. There can be some reasonable upper and lower limits for tax slabs for these three independent taxes. (Just like any other proposal, this also will create different set of winners and losers.)
    This proposal will relieve the tax officials from spending time on verifying the returns filed by normal honest taxpayers and almost the entire tax dept will be able to concentrate on tax evaders in stead.

  • Ram says:

    While this proposal makes sense from a mathematical point of view, one would want an opposite policy from a sociological point of view! Already, the number of tax paying individuals in India is one of the lowest among democratic countries in the world. Our aim should be to increase the tax paying base so that most of the voters are also tax payers. My alternative would be to the reduce the lowest tax rate to 2% and reduce the lowest slab to 1lakh so that more people (including drivers, maids, etc.) are more involved in the “democratic” process — this will also empower them to demand more services from the government!