Impact of Income Tax on Middle-Class Families in India: A Critical Study

Abstract: The middle-class household is the most visible taxpayer in India. It is salaried, its tax is deducted at source before the pay reaches the bank account, and it has very little room to arrange its affairs differently. This paper examines how the income tax law, from the Income-tax Act, 1961 to the Income-tax Act, 2025, has treated such households. The study is doctrinal. It relies on the Constitution, statutes, Finance Acts, budget documents, committee reports and decided cases, and it does not use survey or field data. The paper argues that the law has moved from an “incentive-based” model, in which saving was rewarded through deductions, to a “rebate-based” model, in which most middle-income earners simply fall outside the tax net. While this is a real relief, the paper finds that the change leaves several problems unaddressed: the absence of inflation indexation, the cess that sits on top of the tax, the weakening of long-term savings incentives, and the uneven treatment of salaried and non-salaried earners.¹⁵ Some suggestions for reform are given at the end.

Key Words: Income tax, Middle class, New tax regime, Section 87A, Income-tax Act 2025, Tax incidence, India.

1. Introduction

Anyone who has worked in a salaried job in India knows the sequence. The employer asks for investment proofs in January, the payslip shows a deduction under “TDS”, and in July the return has to be filed. For the salaried middle class this is routine, and it is also why this group carries a share of income tax that is larger than its political voice might suggest.

India’s direct tax base is narrow. For a long time only a small portion of the population filed returns, and within that portion salaried individuals have been the most dependable contributors because the law places the collection duty on the employer rather than on the employee.¹ The middle class is therefore, in a practical sense, the “captive” taxpayer of the system.

The subject has become more relevant in the last two years. Budget 202511 made income up to ₹12 lakh effectively tax-free under the new regime, and the Income-tax Act, 2025 came into force on 1 April 2026, replacing a statute that had been in operation for over sixty years.² These are major changes, and a critical look at what they actually do for middle-class families, and what they leave out, is timely.

2. Research Methodology

2.1 Statement of the Problem

Income tax is meant to be levied according to the ability to pay. The question is whether the present law actually achieves that for middle-class families, or whether it burdens them in ways that are hidden behind rebates, deductions and rate cuts.

2.2 Objectives

The study has the following objectives.

1. To understand who the “middle class” is for the purposes of tax law and policy.

2. To study the constitutional and statutory framework within which income tax is imposed on individuals.

3. To trace how the 1961 Act, the Finance Acts and the 2025 Act have changed the position of middle-class taxpayers.

4. To examine the judicial approach to tax classification and tax planning.

5. To identify gaps and propose reforms.

2.3 Research Questions

The paper seeks to answer two questions. The first is whether the shift to the new regime has actually reduced the burden on middle-class families, or has only changed the form of the burden. The second is whether the present structure treats families with the same income equally, regardless of how they earn and spend.

2.4 Hypothesis

The recent reforms have reduced the nominal tax liability of the lower-middle and middle-income groups, but the structure still lacks inflation protection and family-sensitive relief, and therefore falls short of the equity principle.

2.5 Method of Study

The paper follows the doctrinal (black-letter) method. Primary sources are the Constitution of India, the Income-tax Act, 1961, the Income-tax Act, 2025, annual Finance Acts and decisions of the Supreme Court. Secondary sources include reports of expert committees, budget speeches, textbooks and journal articles. No empirical data has been collected. Where numerical illustrations appear, they are calculated by the author from the statutory slab rates and are meant only to show how the law operates.

2.6 Limitations

Because the study is doctrinal, it cannot measure how households actually behave or feel about the tax. Also, the 2025 Act is very new and there is almost no reported case law on it yet, so some observations about it are necessarily provisional.

3. Conceptual Framework

3.1 Who is the “Middle Class”?

The Income-tax Act does not define the middle class. The idea is sociological and economic, and it is usually described through income, occupation, education and consumption patterns rather than a statutory test.³ For the purposes of this paper, a middle-class family is taken to be a household with a regular, mostly salaried income, which spends a major part of it on housing, children’s education and healthcare, and which does not have significant capital assets or access to sophisticated tax planning.

This working definition is deliberately practical. The tax law reaches such households through slab rates, deductions and rebates, so the legal analysis can proceed without fixing a precise income band.

3.2 Theoretical Basis of Taxation

Adam Smith’s four canons of taxation, namely equality, certainty, convenience and economy, are still the starting point of most discussions on tax design.⁴ The first canon says that subjects should contribute in proportion to their respective abilities. Modern writing refines this into “horizontal equity” (equals should be taxed equally) and “vertical equity” (those with greater capacity should pay more). Both are relevant here. A family with a single earner and four dependants and a household with two earners and no dependants may have the same gross income but very different capacity to pay, and a tax that ignores this difference arguably fails the test of horizontal equity.

The benefit principle and the ability-to-pay principle also pull in different directions. The middle class often argues, with some justification, that it pays tax but receives little in return, since it buys private education, private healthcare and private security. This argument is more political than legal, but it explains much of the public discussion around tax relief for this group.

4. Constitutional and Legislative Framework

4.1 Constitutional Basis

The power to tax is found in the Constitution itself. Article 265 provides that no tax shall be levied or collected except by authority of law.⁵ Entry 82 of the Union List in the Seventh Schedule gives Parliament the power to tax income other than agricultural income.⁶ Agricultural income is a State subject, which is why the Union cannot reach it, although it is taken into account in some computations for rate purposes.

Two other constitutional provisions matter for the present study. Article 14 guarantees equality before the law, and it has been the main route through which taxpayers have challenged classification in tax statutes. Article 300A protects property from deprivation except by authority of law, and tax is generally treated as a lawful deprivation so long as it is validly enacted.

4.2 The Income-tax Act, 1961

Under the 1961 Act, tax was levied on the “total income” of a “person” in an “assessment year” on income of the “previous year”. An individual’s income was classified under five heads: salary, income from house property, profits and gains of business or profession, capital gains, and income from other sources. A salaried person ordinarily fell under the first head, with the employer deducting tax at source under Section 192.

The Act also carried a long list of deductions in Chapter VI-A. Those most relevant to a middle-class household were Section 80C (life insurance premium, provident fund, tuition fees, principal repayment of housing loan and similar outlays), Section 80D (health insurance premium) and Section 24(b) (interest on housing loan). Section 87A allowed a small rebate to low-income resident individuals.

4.3 The Dual Regime

Section 115BAC, which began to operate from assessment year 2021-22, gave individuals a choice. They could stay with the old regime, with higher slab rates but many deductions, or opt for the new regime, with lower rates and almost no deductions.⁷ Over the following years the new regime was made the default and its benefits were gradually improved. The effect was that the legislature began, quietly, to steer taxpayers away from deduction-based planning.

4.4 The Income-tax Act, 2025

The Income-tax Act, 2025 received Presidential assent in August 2025 and applies from 1 April 20268. It is a shorter statute than the 1961 Act. It replaces the twin concepts of “previous year” and “assessment year” with a single “tax year”.⁹ According to published commentaries, the new regime provision that earlier sat in Section 115BAC now appears as Section 202, and the rebate formerly under Section 87A is found in Section 15610.

It is important to be accurate about what the new Act does and does not do. Budget 2026-27 made no change to the personal income tax slabs, and the 2025 Act is essentially a re-codification, which means that the economic burden on a middle-class family in the tax year 2026-27 is determined by the slabs and rebates introduced through Budget 2025. The reform is one of language and structure more than of rates.

5. The Present Slab Structure and Its Effect on Families

5.1 The New Regime

Under the default regime, income up to ₹4 lakh is not taxed. The next band, ₹4 lakh to ₹8 lakh, is taxed at 5 per cent, and ₹8 lakh to ₹12 lakh at 10 per cent. Thereafter the rates are 15 per cent up to ₹16 lakh and 20 per cent up to ₹20 lakh, rising further in the higher brackets.¹² A salaried person is entitled to a standard deduction of ₹75,00013. A resident individual whose taxable income does not exceed ₹12 lakh receives a rebate of up to ₹60,000, which brings the tax to nil.¹⁴

The result is that a salaried employee with a gross salary of ₹12.75 lakh pays no income tax under the new regime. This has been widely reported as the effective zero-tax threshold for salaried earners.

5.2 The Old Regime

The old regime retains the earlier basic exemption of ₹2.5 lakh, with a rebate that eliminates tax only where taxable income is up to ₹5 lakh.¹⁶ Its attraction is the availability of deductions.

5.3 An Illustration

Consider a household in which one member earns a gross salary of ₹10 lakh a year. Under the new regime, after the standard deduction of ₹75,000 the taxable income is ₹9.25 lakh. Since this is below ₹12 lakh, the rebate applies and the tax is nil.

Under the old regime, suppose the same person claims the standard deduction of ₹50,000, a ₹1.5 lakh deduction under Section 80C and a ₹25,000 deduction for health insurance. Taxable income becomes ₹7.75 lakh. Tax on this is ₹12,500 on the slab from ₹2.5 lakh to ₹5 lakh, plus ₹55,000 at 20 per cent on the remaining ₹2.75 lakh, so ₹67,500 in all, and with 4 per cent cess the liability is about ₹70,200. The household would therefore pay roughly seventy thousand rupees under the old regime for choosing to invest and insure, against nothing under the new one.

Now take a household with a gross salary of ₹16.75 lakh. The taxable income after the standard deduction is ₹16 lakh. Under the new regime the tax is ₹20,000 on the second slab, ₹40,000 on the third and ₹60,000 on the fourth, so ₹1,20,000 before cess, or about ₹1,24,800 with cess. This family receives no rebate at all, even though its income is only slightly above the threshold at which others pay nothing. Marginal relief exists immediately above ₹12 lakh, but beyond that the rate climbs quickly. These figures are illustrations computed from the slab rates and not a statement of any actual taxpayer’s liability.

6. Judicial Approach

Courts in India have generally been slow to interfere with tax policy. In R.K. Garg v. Union of India, the Supreme Court said that laws relating to economic activities must be viewed with greater latitude than laws touching civil rights, and that the legislature needs room for experimentation in fiscal matters.¹⁷ A challenge by a middle-class group to the structure of slabs or to the denial of deductions under the new regime would face this high threshold. The earlier decision in Kunnathat Thathunni Moopil Nair v. State of Kerala is often cited for the proposition that a tax law can be struck down if it is plainly arbitrary or discriminatory.¹⁸

On tax planning, the Supreme Court in McDowell & Co. Ltd. v. Commercial Tax Officer took a strict view of colourable devices, but in Union of India v. Azadi Bachao Andolan it clarified that a taxpayer may legitimately arrange affairs to reduce tax so long as the arrangement is genuine.¹⁹ This matters for the middle class in a specific way. Using Section 80C or 80D is lawful tax planning that the Parliament itself invites. If those provisions are no longer available under the default regime, the room for such planning narrows, and the argument shifts from legality to policy.

It may be noted that most reported tax litigation concerns corporate and high-value disputes. Middle-class taxpayers rarely litigate, since the amounts involved do not justify the cost. This is itself an observation about access to justice in tax matters, and it means the judicial record says very little about the everyday grievances of this group.

7. Critical Analysis of the Impact

7.1 Genuine Relief at the Lower-Middle End

It would be unfair not to acknowledge the benefit. For a household earning up to about ₹12.75 lakh from salary, the effective income tax is nil under the new regime. A decade ago, a family at that level would have paid a substantial amount. Official commentary on the 2025 changes described the measure as a relief for the middle class and a stimulus to consumption.²⁰ To the extent that the aim was to leave more disposable income with ordinary households, the measure succeeds for those who fall below the line.

7.2 The Cliff and the Compressed Middle

The benefit, however, stops sharply. As the illustration above shows, a family that is only a little above the threshold faces a rate of 15 per cent on the next slab and 20 per cent beyond ₹16 lakh. Many urban families with two earners, each of them in a moderate job, will cross these lines. These are the households with the greatest burden of rent or home loans, school fees and elder care. The relief therefore reaches the lower middle class fully, but the upper middle class only in part, and the paper submits that this part of the population is the one most in need of an examination.

7.3 No Indexation of Slabs

The slabs are fixed in rupee terms and are changed only when the Finance Minister decides in a Budget. With rising prices, a salary that grows only to keep pace with inflation will still push the earner into higher brackets. This is the familiar problem of “bracket creep”. Some countries index their slabs automatically to the consumer price index, and the Indian law does not. The effect is that relief given in one Budget is slowly eroded without any legislative act.

7.4 The Family is Invisible

The Indian income tax treats the individual as the unit of taxation, not the household. The law does not give additional relief for the number of dependants, for a non-earning spouse or for care of elderly parents beyond a few specific deductions that are, moreover, not available under the new regime.²¹ Two families with the same total income can have very different living costs, yet they pay the same tax. From the point of view of horizontal equity this is a real gap, and it is felt most by single-earner middle-class families.

7.5 Loss of Savings Incentives

The move to a deduction-free default regime has weakened an incentive that used to support three things at once: household savings, long-term insurance cover and home ownership. Section 80C and the housing loan interest deduction were, in practice, a crude form of social policy. Their removal under the new regime means that a taxpayer who is already below the rebate limit has no reason at all to invest for tax purposes, and a taxpayer above it must compare the two regimes every year.²² There is a possibility that retirement saving and health insurance cover among middle-income families may suffer in the long run, though this is a prediction that can only be tested with data and is outside the scope of a doctrinal study.

7.6 Cess and Indirect Burden

The 4 per cent Health and Education Cess is charged on the income tax payable and is not shared with the States, nor is it deductible.²³ For middle-class families that pay tax, the cess raises the effective rate slightly. The larger point, however, concerns the indirect tax. A family that pays no income tax still pays GST on purchases, and the burden of such indirect taxes falls proportionally more on households that spend most of what they earn. A study confined to income tax cannot capture this, but any claim that the middle class has been “relieved” must be read with this in mind.

7.7 Salaried and Non-Salaried Taxpayers

The salaried employee cannot avoid tax because the employer deducts it at source and reports it, and the information is also reconciled through the annual information statement. A self-employed professional or small trader has a wider range of options for computing income. This does not mean the latter group evades tax, but it does mean that the practical incidence of the law is not identical for people of the same income. This unevenness is a long-standing criticism of the Indian system and has not been resolved by the change of Act.²⁴

7.8 Complexity and the Need to Choose

One of the stated aims of the 2025 Act was simplicity, and the reduction in the number of sections is real. Even so, the dual regime remains. Every year a taxpayer must work out which regime is better, and the employer must be told in advance, though the choice can be revisited at the time of filing. A salaried person with a home loan, school-going children and a health policy needs to perform a calculation of the kind shown in Part 5 to know the answer. The ordinary taxpayer is not a tax lawyer and often relies on a paid preparer or a website, which is a cost in itself and goes against the canon of certainty and convenience.

8. Comparative Observations

A brief comparison helps to place the Indian position in context. Many developed jurisdictions use a combination of a personal allowance, a family-based credit and automatic indexation. In the United Kingdom, for instance, the personal allowance is a fixed amount to which every individual is entitled, although in recent years its freeze has caused much debate about “fiscal drag”. The Indian approach of using a rebate to take out a whole group from the tax net is closer in effect to a very high exemption limit than to a family-centred allowance. The comparison is offered only to show that alternatives exist, and a deeper comparative study would be a separate project.

9. Findings

The doctrinal analysis leads to the following findings.

The 2025 Act is largely a re-codification. The real change in the burden of tax on middle-class families came through Budget 2025 and the rebate under the new regime, not through the new statute as such.Households with salary income up to roughly ₹12.75 lakh enjoy a nil liability under the default regime. This is a significant and genuine relief.

The relief is not smooth. A family slightly above the threshold meets steep marginal rates, and the structure favours the lower-middle class over the upper-middle class.The slabs are not indexed to inflation, so the relief erodes over time unless a Budget renews it.The individual is the unit of taxation, and the law remains largely insensitive to the size and needs of the family. The default regime removes the deductions that earlier encouraged savings, insurance and home ownership, while the continued existence of two regimes keeps compliance complicated. Courts have given the legislature wide freedom in tax classification, so reform is likely to come from Parliament and not from litigation.

The hypothesis stated in Part 2 is, on this basis, substantially borne out.

10. Suggestions

To make the law fairer and more durable for the middle class, six changes are suggested. The slabs and rebate should be indexed to inflation so relief doesn’t depend on each Budget, and the rebate should phase out gradually to soften the cliff for families just above the threshold. Family-sensitive relief, such as allowances for dependants and elderly parents or joint assessment of spouses, should be introduced, and targeted incentives for health insurance and retirement saving restored in the default regime. The dual regime should end on a clear timetable, and the government should publish tax data by income band and occupation so future studies can test these claims.

11. Conclusion

Indian income tax law has become kinder to the middle class in the last few years, and it would be wrong to say otherwise. For a large number of households the tax on salary has all but disappeared. At the same time, the relief is a product of annual policy choices more than of a settled principle. It is not inflation-proof, it does not look at the family as a unit, it has removed the older encouragement for savings, and it leaves the households just above the threshold to bear a heavy marginal rate.

The Income-tax Act, 2025 has given India a cleaner and shorter statute, but it has not yet given the middle-class family a tax system that is predictable and fair across the whole range of its circumstances. Reform in that direction would be consistent with the canons of equity and certainty that have guided tax policy since Adam Smith.

Bibliography

Statutes

• Constitution of India, 1950.
• Finance Act, 2020; Finance Act, 2024; Finance Act, 2025.
• Income-tax Act, 1961 (Act 43 of 1961).
• Income-tax Act, 2025 (Act 30 of 2025).

Cases

• Kunnathat Thathunni Moopil Nair v. State of Kerala AIR 1961 SC 552.
• McDowell & Co. Ltd. v. Commercial Tax Officer (1985) 154 ITR 148 (SC).
• R.K. Garg v. Union of India (1981) 4 SCC 675.
• Union of India v. Azadi Bachao Andolan (2003) 263 ITR 706 (SC).

Books and Reports

• Government of India, Report of the Task Force on Direct Taxes(Kelkar Committee), December 2002.
• Jain, M.P., Indian Constitutional Law(LexisNexis, latest edition).
• Ministry of Finance, Government of India, Budget Speech 2025-26(1 February 2025).
• Ministry of Finance, Government of India, Budget Speech 2026-27(1 February 2026).
• Press Information Bureau, Government of India, Union Budget 2025-26 release on income tax (1 February 2025).
• Singhania, Vinod K. and Singhania, Kapil, Direct Taxes: Law and Practice(Taxmann, latest edition).
• Smith, Adam, An Inquiry into the Nature and Causes of the Wealth of Nations(1776).

Online Sources

• Bhatt & Joshi Associates, “Indian Union Budget 2026-27: Key Income Tax Changes and Their Impact on Salaried Individuals”, https://bhattandjoshiassociates.com.
• Jainam, “Understanding the New Income Tax Bill: A Roadmap to the Budget”, https://www.jainam.in.
• Outlook Money, “Check Income Tax Slabs and Rates Under the New Tax Law Coming Into Effect From April 1”, https://www.outlookmoney.com.
• TaxGuru, articles on slabs and new regime under the Income-tax Act, 2025, https://taxguru.in.

Notes:
¹ See Income-tax Act, 1961, s. 192 (deduction of tax at source from salaries); the corresponding provision continues in the Income-tax Act, 2025.

↩² Income-tax Act, 2025 (Act 30 of 2025), which came into force on 1 April 2026 and replaced the Income-tax Act, 1961; see also Ministry of Finance, Budget Speech 2025-26 (1 February 2025). ↩

↩³ On the difficulty of defining the Indian middle class, see Surinder S. Jodhka and Aditya Nigam, eds., on class and social structure in contemporary India; the point made here is a general one and not attributed to a single author. Verify and add exact citation before submission.

↩⁴ Adam Smith, ↩An Inquiry into the Nature and Causes of the Wealth of Nations, Book V, Chapter II, Part II.

⁵ Constitution of India, art. 265.

↩⁶ Constitution of India, Seventh Schedule, List I, Entry 82 (tax on income other than agricultural income).

↩⁷ Income-tax Act, 1961, s. 115BAC, as inserted by the Finance Act, 2020 and amended subsequently.

↩⁸ Income-tax Act, 2025, assent dated 21 August 2025, as reported in Bhatt & Joshi Associates, “Indian Union Budget 2026-27: Key Income Tax Changes and Their Impact on Salaried Individuals” (2026).

↩⁹ Ibid. (the 2025 Act replaces “previous year” and “assessment year” with “tax year”).

↩¹⁰ TaxGuru, summary of the new tax regime under the Income-tax Act, 2025 (new regime in s. 202; rebate in s. 156). Section numbers should be checked against the official text of the Act before submission.

↩¹¹ Union Budget 2026-27, presented on 1 February 2026, which made no change to personal income tax slabs.

↩¹² Finance Act, 2025, Part on income tax rates for the new regime; slab summary also in TaxGuru, “Income Tax Slabs under the Income Tax Act 2025”.

↩¹³ Standard deduction of ₹75,000 for salaried individuals and pensioners under the new regime, as introduced through the Finance Act, 2024.

↩¹⁴ Income-tax Act, 1961, s. 87A, as amended by the Finance Act, 2025 (rebate up to ₹60,000 where income does not exceed ₹12 lakh); now s. 156 of the 2025 Act as reported above.

↩¹⁵ See Outlook Money, “Check Income Tax Slabs and Rates Under the New Tax Law Coming Into Effect From April 1” (2026).

↩¹⁶ Income-tax Act, 1961, s. 87A (original rebate of ₹12,500 for income up to ₹5 lakh, retained under the old regime).

↩¹⁷ R.K. Garg v. Union of India (1981) 4 SCC 675.

↩¹⁸ Kunnathat Thathunni Moopil Nair v. State of Kerala AIR 1961 SC 552.

↩¹⁹ McDowell & Co. Ltd. v. Commercial Tax Officer (1985) 154 ITR 148 (SC); Union of India v. Azadi Bachao Andolan (2003) 263 ITR 706 (SC).

↩²⁰ Press Information Bureau, Government of India, release on Union Budget 2025-26 income tax proposals (1 February 2025).

↩²¹ Income-tax Act, 1961, ss. 80D, 80DD and 80U, not available under s. 115BAC.

↩²² Income-tax Act, 1961, s. 80C and s. 24(b); see Jainam, “Understanding the New Income Tax Bill: A Roadmap to the Budget” (2026) for a comparison of the regimes.

↩²³ Health and Education Cess at 4 per cent, levied through the annual Finance Act on the amount of income tax and surcharge.

↩²⁴ Task Force on Direct Taxes, ↩Report of the Task Force on Direct Taxes (Chairman: Vijay Kelkar), Ministry of Finance, Government of India (December 2002); the Task Force discussed the issues of narrow base and unequal treatment.

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Author : Balasubraminiyan.S | Co-Author : Rajesh Kannan.A | [VINAYAKA MISSIONS LAW SCHOOL]