Impact of New Regime in Direct Taxes on Savings & Investments

Ishika Sharma & Riya

INTRODUCTION

The transformation of India’s tax regime, ushered in by the Income Tax Act of 1961, marked a significant departure from the complex and oppressive tax system that had long hindered the country’s savings and investments. Before this modern tax legislation, the colonial-era tax regime offered few incentives for individuals seeking to secure their financial future. The transition from the old tax system to the new one brought about a multitude of advantages and disadvantages, which we will explore in this article. We’ll delve into how the Income Tax Act of 1961 addressed the shortcomings of the past, creating a more streamlined, equitable, and business-friendly tax system that actively encouraged savings and investments. By examining the provisions, deductions, exemptions, and tax benefits under the new regime, we will illuminate how it facilitated capital formation, promoted economic growth, and aligned with international tax standards.

Moreover, we’ll consider the impact of the new tax regime on long-term savings versus short-term savings, dissecting its consequences on financial asset accumulation and the overall savings landscape. We will also examine the drawbacks and advantages of the new tax system, particularly in the context of equity-linked saving schemes and investment choices.

Taking a historical perspective, we will journey back to the background and history of taxation in India during the old regime, examining the British colonial administration’s introduction of various tax measures and their impact on the Indian population. The oppressive tax system of the past was a primary driver of agrarian distress and played a pivotal role in shaping social and political movements, including the Indian independence struggle.

Ultimately, this article will explore the necessity for the new tax regime and the advantages it offers in terms of modernization, transparency, efficiency, and equity. It will discuss how the new tax regime aimed to encourage compliance, attract investments, and create a more equitable and business-friendly environment while promoting economic growth and development. The transition from the old to the new tax regime was a seminal moment in India’s tax history, addressing the challenges of the past and setting the stage for a more prosperous economic future.

BACKGROUND AND HISTORY OF TAXATION IN INDIA [1]

During the Old Regime in India, which primarily refers to the period under British colonial rule, there were various tax-related policies, treatments, and provisions in place. The British colonial administration introduced several tax measures to extract revenue from India. Here are some of the key aspects of taxation during this period:

1. Land Revenue:

• The British introduced a system of land revenue collection, which was often oppressive. The most notable was the Permanent Settlement Act of 1793 in Bengal, where land revenue was fixed in perpetuity. This system imposed a fixed amount on landowners, regardless of crop yields. It had several negative consequences, including the impoverishment of landowners and the exploitation of tenants.

2. Ryotwari and Mahalwari Systems:

• In different regions of India, the British introduced the Ryotwari and Mahalwari systems as alternatives to the Permanent Settlement.
• Under the Ryotwari system, individual peasants (ryots) were made direct revenue payers to the colonial government. The land revenue was based on the assessment of land and agricultural productivity.
• The Mahalwari system, on the other hand, involved revenue collection from entire villages or mahals. Revenue assessments were often based on the collective output of the village.

3. Taxes on Trade and Commerce:

• The British levied taxes on various aspects of trade and commerce. Customs duties were imposed on imports and exports.
• Salt tax was introduced, which affected all sections of society, including the poorest, as salt was an essential commodity.
• Taxation on trade often impeded economic growth and was a source of discontent among Indian merchants and businesses.

4. Other Taxes:

• The British administration imposed taxes on various commodities, including land revenue cesses, excise taxes, and stamp duties.
• Taxes on professions, trades, and callings were also introduced, which required individuals to pay a tax based on their occupation.

5. Taxation and Agrarian Distress:

• The tax policies of the British colonial administration were a major cause of agrarian distress in India. The land revenue system, in particular, often led to overtaxation and landlessness.
• This distress played a significant role in various social and political movements, including the Indian independence struggle.

6. Administrative Structure:

• The British established a comprehensive tax collection administrative structure, including tax collectors, revenue officers, and local intermediaries.

7. Colonial Control over Taxation:[2]

• The British maintained strict control over taxation and fiscal policies, with the power centralized in colonial authorities.

The oppressive tax system, along with other factors, played a role in shaping the struggle for independence from British colonial rule. After India gained independence in 1947, it embarked on a process of tax reform to create a more equitable and modern tax system that better served the interests of its citizens.

PROVISIONS PROVIDED BY THE INCOME TAX ACT, OF 1961 FOR SAVING AND INVESTMENTS[3]

After gaining independence from British colonial rule in 1947, India introduced various tax reforms, including the enactment of the Income Tax Act, of 1961, which is the primary legislation governing income tax in the country. Overall, the Income Tax Act, 1961, provides various provisions to encourage individuals to save and invest, while also generating revenue for the government to support public programs and infrastructure development. The Act outlines provisions related to taxation on income, savings, and investments

Overview of some provisions related to savings and investments under the Income Tax Act, of 1961, in post-independence India:[4]

1. Tax Deductions and Exemptions:

• The Income Tax Act, of 1961, allows for various deductions and exemptions to encourage savings and investments. Section 80C of the Act is one of the most well-known sections for these purposes.
• Under Section 80C, individuals can claim deductions for investments in various specified instruments, including life insurance premiums, Public Provident Fund (PPF), Employee Provident Fund (EPF), National Savings Certificates (NSC), tax-saving fixed deposits, and equity-linked savings schemes (ELSS).
• The maximum deduction allowed under Section 80C is subject to annual limits, and the specific limits may vary over time.

2. Exemptions for Interest Income:

• Section 10 of the Income Tax Act provides exemptions on interest income earned from certain investments. For example, interest income from a PPF account is tax-exempt.

3. Capital Gains Provisions:

• The Act outlines provisions related to the taxation of capital gains from the sale of various assets, including real estate and securities.
• Certain investments, such as long-term investments in equity shares and equity-oriented mutual funds, may be eligible for lower tax rates on capital gains if they meet specific criteria.

4. Tax-Deferred Savings Schemes:

• India has various tax-deferred savings schemes to encourage long-term investments, such as the Employee Provident Fund (EPF) and the Public Provident Fund (PPF). Contributions to these schemes may be eligible for deductions, and the interest earned is typically tax-free.

5. Taxation of Dividends and Interest:

• Dividends and interest income may be subject to taxation, depending on the type of investment and the specific provisions of the Act. For instance, dividends from equity shares are tax-exempt in the hands of the recipient.

6. Tax-Saving Fixed Deposits:[5]

• Many banks offer tax-saving fixed deposit schemes that offer deductions under Section 80C, similar to regular fixed deposits.

It’s important to note that the specific provisions related to tax on savings and investments may change from year to year due to amendments in the Income Tax Act. Therefore, individuals should consult the most recent version of the Act and seek advice from tax professionals to understand the latest rules and regulations regarding income tax on savings and investments.

DRAWBACKS IN THE ACT RELATED TO SAVINGS AND INVESTMENTS[6]

The Income Tax Act of 1961 in India introduced several provisions that aimed to encourage savings and investments through tax incentives. However, during the Old Regime, before the introduction of these provisions, there were several disadvantages that negatively impacted savings and investments. Here are some of the key disadvantages of the old regime in India:

1. High Taxation on Income:

• Before the Income Tax Act of 1961, India had a high taxation regime that imposed significant taxes on income. This discouraged individuals from saving and investing because a substantial portion of their earnings went towards taxes.

2. Limited Tax Benefits for Savings:

• The old regime had limited or no specific tax benefits for savings and investments. There were no provisions for deductions or exemptions for various investment instruments, such as life insurance, PPF, and tax-saving fixed deposits.

3. Lack of Investment Incentives:

• The old regime did not provide incentives for investments in specific financial instruments or assets. This absence of incentives made it less attractive for individuals to put their money into long-term investments, as they would not receive any tax benefits.

4. No Tax-Deferred Savings Schemes:

• Tax-deferred savings schemes like the Public Provident Fund (PPF) and Employee Provident Fund (EPF) were not available in the old regime. Without these schemes, individuals had fewer options for saving in a tax-efficient manner.

5. Limited Access to Formal Financial Systems:

• In the old regime, many individuals, especially in rural areas, did not have easy access to formal financial systems. This made it challenging for them to participate in savings and investment opportunities.

6. Absence of Capital Gains Provisions:

• The old regime did not have clear provisions for the taxation of capital gains, which could discourage investment in assets like stocks, real estate, and mutual funds.

7. Lack of Clarity in Taxation:

• The old regime lacked clarity in taxation, and there was no standardized, modern tax code like the Income Tax Act of 1961. This led to uncertainty and confusion regarding the taxation of income and investments.

8. Absence of Tax-Exempt Income Sources:

• In the old regime, there were few opportunities for earning tax-exempt income, such as interest from a PPF account. This meant that any interest or returns earned on investments were subject to tax.

The introduction of the Income Tax Act of 1961 addressed many of these disadvantages by providing clear rules and provisions for tax incentives and exemptions related to savings and investments. This modern tax legislation aimed to encourage individuals to save and invest more by reducing their tax burden and providing benefits for specific types of financial instruments and investments.

NECESSITY FOR THE NEW TAX REGIME

The introduction of the new tax regime in India through the Income Tax Act of 1961 was necessitated by several factors. It aimed to address various shortcomings and challenges that the old regime, which was prevalent before independence, had failed to manage effectively. Here are some key reasons for introducing the new tax regime and the advantages it offered:[7]

1. Simplification and Modernization:

• The old tax regime lacked a modern and comprehensive tax code. The Income Tax Act of 1961 was introduced to provide a unified and structured system for income taxation. It simplified the tax process by consolidating various tax laws and regulations into a single, coherent statute.

2. Encouraging Compliance:

• The old regime often faced challenges in enforcing tax compliance. The new regime introduced modern procedures and systems to facilitate tax collection and ensure greater compliance. It provided a legal framework for assessing and collecting taxes efficiently.

3. Attracting Investment:

• To promote economic development and attract investments, India needed a tax system that offered incentives for savings and investments. The Income Tax Act of 1961 included provisions for deductions and exemptions, encouraging individuals and businesses to save, invest, and participate in economic growth.

4. Clarity and Transparency:

• The old regime was marked by ambiguity and a lack of transparency in tax laws. The new regime aimed to provide clear and well-defined provisions, reducing disputes and litigation related to tax matters.

5. Addressing Inequities:

• The old regime had inequities, with some segments of society bearing a disproportionate tax burden while others enjoyed various exemptions. The new regime sought to create a more equitable tax structure by introducing progressive tax rates.

6. Promoting Economic Growth:[8]

• The new tax regime recognized the need to promote economic growth by encouraging savings and investments. It introduced tax incentives for specific financial instruments, such as tax-saving fixed deposits, PPF, and life insurance policies.

7. Facilitating Capital Formation:

• To drive capital formation and infrastructure development, the new tax regime included provisions for tax-deferred savings schemes like the Employee Provident Fund (EPF) and the Public Provident Fund (PPF).

8. Encouraging Compliance with International Standards:

• The old regime did not align with international tax standards and best practices. The new regime aimed to make India’s tax system more consistent with global norms and foster economic relations with other countries.

9. Rationalizing Taxation of Capital Gains:

• The new regime introduced clear provisions for the taxation of capital gains, making it more transparent and predictable for investors.

10. Promoting Efficiency and Ease of Doing Business:

• The new regime introduced changes to streamline and simplify the tax process, making it more efficient and business-friendly. Simplified income tax procedures in India, through reduced forms and filings, digitalization, clear tax laws, rationalized tax rates, efficient refunds, reduced corruption, and foreign investment promotion, enhanced compliance, reduced administrative burden, and boosted government revenue, fostering a more business-friendly environment.

The introduction of the Income Tax Act of 1961 in India was a response to the limitations of the old regime. It modernized the tax system, promoted economic growth, encouraged savings and investments, and aimed to create a more equitable and transparent tax structure. The new regime addressed many of the challenges that were not effectively managed by the old regime, ultimately contributing to India’s economic development and growth. 

NEW TAX REGIME

As per the circular no 04 of 2023 dated 5^th April 2023 , the government of India, Ministry of finance, department of Revenue, CBDT { Central board of Direct taxes } [9]

Vide the finance act 2023 CBDT has inserted sub-section 1A to the section 115 BAC of the income tax act, 1961. This was inserted to provide for a new Tax to have an effect from the assessment year beginning from the first day of April 2024. It will be considered to be the default Tax regime. Although the taxpayer is given an option to opt for either a new Tax regime, or the old tax regime. This regime applies to an individual, HUF( Hindu undivided family) , association of person( other than cooperative society) , body of individual, artificial juridical person. Under this Tax regime the income tax shall be computed in respect to the total income of the assesse at the rate that are mentioned under subsection 1A of section 115BAC which are subject to certain condition that is the condition that the person does not avail certain exemption and the deduction that are available in the old regime. As mentioned above, as per subsection 6 of section 115 BAC a person will have option to opt for the Tax regime.

A tax rebate under section 87A of Rs. 7 lakhs has been introduced under the new tax regime, which was earlier Rs 5 Lakhs. Hence is a person is having a total income of less than 7 Lakhs Rs then, as per new regime he will not have to pay tax and his total income will not be taxable.

There is change in the slab Rate under new tax regime. The tax slab and tax rates under New regime is given below for the financial year 2023-24[10]

TAX SLAB	TAX  RATES
Up to Rs.3 lakh	Nil
Rs.3 lakh-Rs.6 lakh	5%
Rs.6 lakh-Rs.9 lakh	10%
Rs.9 lakh-Rs.12 lakh	15%
Rs.12 lakh-Rs.15 lakh	20%
Above Rs.15 lakh	30%

Under new tax regime the assesse cannot claim certain exemption and deduction that were previously available in the old Tax regime, these exemption and deduction are as follows

• Standard deduction available under section 80TTA in which the assesse can claim deduction of maximum amount of Rs 10000, in the financial year on the interest earned from the saving bank account. And other is deduction under section 80TTB in which the senior citizen to claim tax deduction benefit of upto Rs 50000annually on the interest earned from the bank, post office, co-operative bank and term deposite. [11]
• Professional tax and entertainment allowances mentioned under section 16 of the Income tax act.
• Exemption that is available for the Leave Travel allowances under section 10{5} of the Income tax act.
• Exemption available for the House rent allowances under section 10[13A] of the Income tax act.
• Minor child income allowance
• Helper allowance
• Children education allowance
• Other special allowances [Section 10(14)] of the Income tax act.
• Interest on housing loan on the self-occupied property or vacant property (Section 24) of the Income tax act.
• Chapter VI-A deduction (Section 80C, 80D, 80E and so on, except Section 80CCD(2) and Section 80JJAA)
• Exemption or deduction for any other perquisites or allowances
• Deduction available to the Employee’s (own) contribution to NPS which is 10% of the salary received or receivable by the employee. As per Section 80CCD[1] of the Income tax act.
• Donation to Political party/trust, etc
• Deduction available to the family pension under section 57 of the income tax act which is upto Rs 15000 or 1/3 of the pension which ever is lower. This is not allowed for the FY 2022-23. From the FY 2023-24 it is allowed as deduction.[12]

 The Exemption and Deduction available to the assesse under the new regime are as follows.

• Transportation allowances available to specially abled person
• Exemption available on the voluntary retirement under section 10[10C], Gratuity available under section 10[10] and leave encashment or leave salary under section 10[10AA]
• As per explanation under section 24 of the Income tax act deduction available for the Interest on home loan on let out property.
• Gift upto rs 50, 000
• Deduction that is available for the employer’s contribution to NPS Account that is 10% & 14% of the pension received the employee [non government and government respectively]
• Deduction availabler fo the additional employee cost under section 80JJA
• Budget of 2023 has provided a further deduction for the amount paid and deposited in the agniveer corpus Fund under section 80CCH[2]

ADVANTAGE AVAILABLE FOR THE OLD TAX SYSTEM [13]

As per the record, India’s gross saving rates was approximately 30% in the march 2019 and domestic saving are the major contributor to the overall saving rates. The reason behind it was old tax regime, that encourages the saving for future events like marriages, education, life insurance etc. Old tax regime helps in promotion of saving by enforcing investment in a specified tax saving instruments that is ULIPs which are known as unit linked insurance plan, provide dual benefit of investment and life insurance it helps in fulfilling the goal of long term wealth creation and life coverage. it is considered to be the best investment to meet the financial goals. Because of ULIPs the saving culture was inculcated in the individuals over a period of time[14]. Hence if more people started Opting for new regime, the saving rate in India are going to get affected because new tax regime does not provide deductions.

ADVANTAGES OF NEW TAX REGIME

New Tax regime has reduced tax rates as compare to old regime. And addition to that most of the exemptions and deductions are not being available to the Tax payer which makes it very much easier and simpler for an assessee in tax filing because less documents will be required. New tax regime will provide more disposal of income in the hands of the individual who are not able able to invest in a specified instrument due to certain reasons. Hence, it will be offering liquidity in the hands of the Tax payer. it also provide flexibility to the assessee, in customizing their investment choice. [15]

IMPACT OF NEW TAX REGIME ON THE SAVING  [16]

The government with the implementation of new tax regime as a default tax has encourages digitize and simplify the tax process for individuals. Which means that there will be a significant change in the payroll procedure of the employer in case of salaried taxpayer.

There are two types of saving, first long term saving which is more than five years of saving and other is short or medium term saving which is up to 5 years of saving.

The deduction, exemptions and the tax rebate are three kind of financial instruments under the income tax act.

The tax benefit with short and medium term saving helps in re- channeling saving on a particular instrument for the tax avoidance. Whereas the tax incentive in the long term saving helps in channeling the saving towards the anticipated fallen income that is retirement or the increase in consumption due to marriage education any event etc. And because of this, there is an increase in the financial asset and general level of saving in the economy. New tax regime favors, long-term saving rather than short-term saving.

For example in the Sukanya Samridhi Yojana where the individual made a investment for her girl child will receive the interest and the maturity amount received from the Sukanya Samriddhi account will be exempted from tax. Whereas the investment under the Sukanya Samriddhi Yojana will not be available for the Tax benefit or the deduction under section 80 C in case of new Tax regime. In this case, the long term saving will continue to be encouraged.

New Tax system solve the problem of short term investment which imposes a huge cost on the economy. New tax regime will be acting to save the economy from allocation of financial resources.

In the old Tax system favors the upper bracket Tax payer disproportionately. The provision related to rollover of capital gain tax are regressive in nature. The discriminate between a taxpayer and a non-taxpayer as the rate of return is a significantly low for a non-taxpayer. The role over scheme is biased in nature by eliminating the deduction available under chapter 4 helps in maintaining the vertical equity of the Tax structure.

As per the expert, the new tax regime will lead to the gradual obsolescence of the Tax system because the exemptions and the deductions mostly under 80 C are removed which will lead to the higher total taxable amount as compare to the taxes on the similar income under the old regime.

IMPACT OF NEW TAX REGIME ON THE INVESTMENT.[17]

The new scheme is likely to affect the equity linked saving scheme ELSS or Tax saving mutual funds which were considered to be a smart choice to save Tax under section 80 C of the income tax act. However, the deduction under 80 C was removed under new tax regime. The assesse investing under ELSS fund can claim deduction up to 150000 in the financial year under under old Tax regime. [18]

ELSS  that is equity linked saving scheme at the Tax saving mutual fund in India. These funds in the stock of listed companies and provide maximum capital appreciation over a long run.[19]

These funds have faced challenges in two ways first in the new tax scheme, the deductions were removed which takes away the charm of he fund. As mentioned above, a person can claim a deduction of 1.5 lakhs under section 80 C for the investment in such once in an financial year, which will not be the case in the new tax system.

Secondly, new tax regime is considered to be very less and easy to understand for Tax. Hence investment under ELSS will not be the first option of the investor or the assessee

CONCLUSION

From this article, we can conclude that the person who is using deduction and exemption in the tax planning will still be beneficial in the existing old regime. Foreign salary individual. So a salaried employee should opt for the old already as it is more investment friendly. And old regime encourages more saving and investment as compare to new regime. an individual who is not having any Tax planning or is neither concerned with the exemption and deduction can opt for new Tax  as the slab rate have been decreased as well as new regime is more and easier to understand. An individual will have lesser computation as compare to old regime without taking any benefit of exemption and deduction. New Tax regime is not very open for saving and Investment. It will have a negative impact on the saving and Investment because exemptions and deduction were being removed from this scheme. This is highly going to effect the individual was engaged in the Tax planning and tax avoidance. As Discussed above this scheme favors only Long term Saving and not Short term Saving.

[1] “History of Taxation in India.” Jagran Josh, 2023: https://www.jagranjosh.com/general-knowledge/history-of-taxation-in-india-1481028305-1.

[2] Leigh A. Gardner.An Introduction to the Problem of Colonial Taxation,Oxford University Press,2012: https://academic.oup.com/book/1435/chapter-abstract/140802535?redirectedFrom=fulltext.

[3] “Section 80C Tax Saving Options Under Section 80C – Franklin Templeton India.” Franklin Templeton India: https://www.franklintempletonindia.com/investor-education/smart-tax-planning/article/section-80c-tax-saving-options-under-section-80c-franklin-templeton-india/.

[4] Income Tax Act, 1961.

[5] “15 Tax-Saving Options Other Than Section 80C.” Future Generali: https://life.futuregenerali.in/life-insurance-made-simple/tax-hacks/blogs/15-tax-saving-options-other-than-section-80c/.

[6] “Income Taxpayers in India: The Pros and Cons of New and Old Income Tax Regime.” LiveMint,14 FEB 2022: https://www.livemint.com/money/income-taxpayers-in-india-the-pros-and-cons-of-new-and-old-income-tax-regime-11644803657193.html.

[7] “New vs. Old Income Tax Regime: Why You Need to Choose Your Tax Regime in April.” The Economic Times,JUNE 14 2023: https://economictimes.indiatimes.com/wealth/tax/new-vs-old-income-tax-regime-why-you-need-to-choose-your-tax-regime-in-april/articleshow/99428247.cms..

[8]  “Why New Tax Regime Encourages Long-Term Savings and Increase in Consumption.” The Times of India: https://timesofindia.indiatimes.com/business/budget/why-new-tax-regime-encourages-long-term-savings-and-increase-in-consumption/articleshow/97637829.cms?from=mdr.

[9] [Circular No. 04 of 2023], [ Dated, 5^th April, 2023] , CBDT

[10]  Clear Tax https://cleartax.in/s/section-115bac-features-new-tax-regime-benefits , 13^th Oct 2023

[11] Max Life , https://www.maxlifeinsurance.com/blog/tax-savings/section-80TTA-and-section-80TTB , 14^th Oct 2023: https://www.maxlifeinsurance.com/blog/tax-savings/section-80TTA-and-section-80TTB.

[12]  [Charushree Chundawat] ,[ How to save tax under the new tax regime – claim these deductions to optimise savings] , [ Zee Business] [13^th Oct 2023]: https://www.zeebiz.com/personal-finance/news-new-tax-regime-deductions-claim-these-deductions-to-optimise-tax-savings-itr-230308.

[13] [Canara & HSBC Bank] Old vs New Income Tax Regime – Things You Need to Know (canarahsbclife.com) [ 15^TH OCT 2023]: https://www.canarahsbclife.com/blog/tax-saving/old-vs-new-income-tax-regime-things-you-need-to-know.

[14] [Canara & HSBC Bank], ULIP: Buy Best Unit Linked Insurance Plans in India 2023 (canarahsbclife.com), [15^th Oct 2023]: https://www.canarahsbclife.com/ulips.

[15] [Canara & HSBC Bank],Old vs New Income Tax Regime – Things You Need to Know (canarahsbclife.com),[15^th Oct 2023]: https://www.canarahsbclife.com/blog/tax-saving/old-vs-new-income-tax-regime-things-you-need-to-know.

[16] [TOI ( Times of India ) ] Why new tax regime encourages long-term savings and increase in consumption – Times of India (indiatimes.com) [13^th Oct 2023]: https://timesofindia.indiatimes.com/business/budget/why-new-tax-regime-encourages-long-term-savings-and-increase-in-consumption/articleshow/97637829.cms?from=mdr.

[17][IDFC Bank] https://www.idfcfirstbank.com/finfirst-blogs/savings-account/how-new-tax-regime-impacts-investmentplans.  [16^th Oct 2023]

[18] [The Economics Times] https://economictimes.indiatimes.com/mf/analysis/new-income-tax-regime-will-elss-mutual-funds-lose-their-charm/articleshow/97543885.cms [15TH OCT 2023]

[19] [Sridhar Sahu ], [Why to Invest in ELSS Funds?], [ET MONEY],[12^th Oct 2023] https://www.etmoney.com/learn/mutual-funds/elss-mutual-funds/.

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Authors. Ishika Sharma and Riya