Tax Bites: Here's why the new taxation rules on transactions can be a game changer

The Union Budget 2023-24 has been widely hailed as a positive and progressive Budget, and rightly so. The key pre-Budget expectations were that there would be a thrust on capital spending, particularly in the infrastructure sector, and that there should be consistency in the tax regime with not too many changes. Finance Minister Nirmala Sitharaman has obliged on both counts. Moreover, she has avoided populist proposals that are common in pre-election Budgets.

There is a massive thrust in the Budget on capital spends, up by more than a third over the preceding fiscal. This should help continued creation of jobs and expansion of the economy. There are no changes on the corporate tax front and the widely rumoured changes to the capital gains tax regime were not on the table.

The proposal to set up a settlement scheme for arbitration matters of the government and public sector undertakings is interesting and we eagerly await details. The commitment to reduce forms and decriminalise offences is also welcome.

On taxation of individuals, there was a reluctance by taxpayers to move to the new tax regime. To remedy this, the Budget proposes to increase the threshold level of taxation to `3 lakh (from `2.5 lakh earlier), reduce the number of slabs and reduce the overall tax, increase the tax rebate and reduce the maximum marginal rate of tax from 43 per cent to 39 per cent—all benefits only for those who opt for the new tax regime. This will clearly help make the new tax regime, which does away with deductions and exemptions, a default tax regime. Every individual will need to analyse the deductions foregone, particularly the interest on housing finance loans, before making an informed choice. Interestingly, the tax-free limit for leave encashment for salaried employees has been increased from `3 lakh to `25 lakh.

The capital gains tax exemption limit to invest in a residential house has been capped at `10 crore. This will ensure that citizens buy a house for genuine residential needs and not as a tax-planning avenue. While this is understandable in the context of proceeds of other assets invested in a house, the proposal needs reconsideration where proceeds of one house are invested into another. The current regime continues for capital gains made up to March 31, 2023, and we may witness taxpayers realising gains to avail the current regime.

Proceeds received from life insurance policies (other than on death), where the annual premium exceeds `5 lakh, will be taxable. This will make insurance policies a genuine life insurance product rather than a savings one.

Another proposed amendment is taxation of gains on market-linked debentures; these will now be taxed at full rates as short-term capital gains rather than as listed securities that are taxed as long-term capital gains. Clearly, the gains on these debentures are in the nature of interest and ought to be fully taxable. Debentures issued earlier, whose proceeds are realised after April 1, 2023, will also be hit by the new provisions.

One proposal that has the potential of derailing REIT and InvIT issues—and therefore needs serious reconsideration—is a new tax. According to the proposal, the repayment of the principal amount of a loan in the instrument will be constituted as “other income”. While it is understandable that not taxing these amounts could result in double non-taxation, taxing these amounts as other income could have a very serious impact on the industry. It would be in the fitness of things if these amounts were taxed as capital gains.

With a view to easing the cash crunch being faced by the MSME sector, it has been proposed that the expenditure incurred by clients of MSMEs be tax-deductible when the amounts are actually paid. While this proposal is welcome, we need to be cognizant of the fact that all transactions with MSMEs will now need to be tracked to determine tax deductibility.

There are two overarching themes that emerge from the tax proposals in this year’s Budget. First, the government would like to do away with smart tax-planning avenues such as those to escape capital gains tax or arguing that taxability of perquisites of a business or profession has to be only of non-cash items. Second, the government would like to tax transactions for their true character and not the ostensible form, such as taxing interest on market-linked debentures or taxing high-premium insurance policies that are essentially savings instruments. We should not lose sight of these two emerging trends.

All in all, this is a very welcome Budget that should continue to spur growth and help us realise the GDP growth projections.

The writer is CEO of Dhruva Advisors LLP. Views are personal