New Direct Taxes Code – Great Indian Media Circus takes people on a ride

By Vijay Kumar

THE Indian Ignorant TV Channels had a field Day with one channel trying to score over the other to cover the launch of the proposed Direct Taxes Code. Most of the channels thought that it was something like a budget and even the great Prannoy Roy of NDTV ran a programme “Better than Budget”. They all thought that the code is effective from tomorrow. And every channel and every newspaper is concentrating on the proposed rates of taxes in the new code. Nobody understands that the proposed code is not about tax rates; it's about tax laws – and they are all talking about tax rates! If I can make an analogy in Central Excise, what is proposed is not an amendment in the Central Excise Tariff, but the Central Excise Act.

All the great commentators who had given you pearls of wisdom have not realised that the tax rates decided every year by Finance Acts are now proposed to be part of the Code and the rates shown in the draft code are only examples and need not necessarily become part of the Code.

In a rare exemplary show of political sagacity, Finance Minister Pranab Da invited his illustrious predecessor P. Chidambaram for the launch and allowed him to take some of the thunder.

Here is a quick summary of the new Code:

The Code is not an attempt to amend the Income Tax Act, 1961; nor is it an attempt to "improve" upon the present Act. However, it will replace the existing Income Tax Act, 1961 and the Wealth Tax Act, 1957 and consolidate all direct tax laws into a uniform direct tax code. In drafting the Code, the Central Board of Direct Taxes has, to the extent possible, started on a clean drafting slate.

Single Code for direct taxes : All the direct taxes have been brought under a single Code and compliance procedures unified. It will come into effect from April 1, 2011. [if everything goes well]

Use of simple language : using simple language in drafting so as to convey, with clarity, the intent, scope and amplitude of the provision of law.

Reducing the scope for litigation : An attempt has been made to avoid ambiguity in the provisions that invariably give rise to rival interpretations.

To ensure that the law can be reflected in a Form : For most taxpayers, particularly the small and marginal category, the tax law is what is reflected in the Form. Therefore, the structure of the tax law has been designed so that it is capable of being logically reproduced in a Form.

Consolidation of provisions : In order to enable a better understanding of tax legislation, provisions relating to definitions, incentives, procedure and rates of taxes have been consolidated.

Elimination of regulatory functions : Traditionally, the taxing statute has also been used as a regulatory tool. However, with regulatory authorities being established in various sectors of the economy, the regulatory function of the taxing statute has been withdrawn.

Concept of financial year – Previous year no more relevant: Under the 1961 Act, the income earned in a year is taxed in the next year. The year in which income is earned is termed as 'previous year' and the following year in which it discharged to tax is termed as 'assessment year'. The use of the two expressions has caused confusion in both compliance and administration. In order to simplify the provisions, the separate concepts of 'previous year' and 'assessment year' will be replaced by a unified concept of 'financial year'.

Certain expenditure not to be allowed: Under the Code, the following expenditure will not be allowed as a deduction in the computation of total income :-

(a) any expenditure attributable to income which does not form part of the total income under this Code and determined in accordance with the method as may be prescribed;

(b) any expenditure incurred for any purpose which is an offence or which is prohibited by law;

(c) any provision made by a person for any liability if the liability remains unascertained by the end of the financial year; and

(d) any expenditure where the source of funds for such expenditure is unexplained;

(e) any expenditure incurred by a non-resident in respect of,-

(i) royalty;

(ii) fees for technical services; or

(iii) any income which is liable to tax at the special rate of income-tax specified in Part II of the First Schedule.

COMPUTATION OF INCOME FROM EMPLOYMENT – also known as salary: "Income from employment" will be the gross salary as reduced by the aggregate amount of permissible deductions. The permissible deductions will be the following:-

(a) amount of professional tax paid;

(b) transport allowance to the extent prescribed;

(c) prescribed special allowance or benefit to meet expenses wholly and exclusively incurred in the performance of duties, to the extent actually incurred;

(d) compensation under voluntary retirement scheme;

(e) amount of gratuity received on retirement or death;

(f) amount received on commutation of pension; and

(g) pension received by gallantry awardees.

COMPUTATION OF CAPITAL GAINS: The present distinction between short-term investment asset and long-term investment asset on the basis of the length of holding of the asset will be eliminated.

The Securities Transaction Tax will be abolished : all capital gains (loss) arising from the transfer of equity shares in a company or units of an equity oriented fund will form part of the computation process.

Incentive for savings – EET – GPF withdrawal to be taxed: Tax incentives for savings have been rationalized so as to encourage net savings. Accordingly, in line with the best international practice in this regard, the Code proposes to introduce the ‘Exempt-Exempt-Taxation' (EET) method of taxation of savings. Under this method, the contributions are exempt from tax (this represents the first 'E' under the EET method), the accumulation/accretions are exempt (free from any tax incidence) till such time as they remain invested (this represents the second ‘E' under the EET method) and all withdrawals at any time are subject to tax at the applicable personal marginal rate of tax (this represents the ‘T' under the EET method). Based on the EET principle, the Code provides for deduction in respect of contributions (both by the employee and the employer) to any account maintained with any permitted savings intermediary, during the financial year. Any withdrawal made, or amount received, under whatever circumstances, from this account will be included in the income of the assessee under the head 'income from residuary sources', in the year in which the withdrawal is made or the amount is received. Accordingly, it will be subject to tax at the appropriate personal marginal rate.

Deduction for rent paid: Deduction will be allowed to an individual, who is self-employed, for rent actually paid for his residence, in excess of ten per cent of his gross total income from ordinary sources. However, there will be a ceiling of rupees two thousand per month on the amount allowed as deduction.

Area based exemptions grandfathered: The Code does not allow area-based exemptions. Area-based exemptions that are available under the Income Tax Act, 1961 will be grandfathered.

Deduction for royalty income of authors: Deduction will be allowed to a resident individual, being an author, in respect of royalty received for the assignment or grant of any of his interest in the copyright of any book of literary, artistic or scientific nature and in respect of any textbook certified by the prescribed authority for an amount upto a maximum of Rs.300,000. I have written a book on Excise – will I get this exemption?

Minimum Alternate Tax (MAT): The Code provides for Minimum Alternate Tax calculated with reference to the "value of the gross assets". The shift in the MAT base from book profits to gross assets will encourage optimal utilization of the assets and thereby increase efficiency.

TAXATION OF NON-PROFIT ORGANISATIONS AND OTHER TRUSTS – charity is now welfare : The Code replaces the phrase "charitable purpose" by the phrase "permitted welfare activities". Permitted welfare activities has been defined to mean any activity involving relief of the poor, advancement of education, provision of medical relief, preservation of environment, preservation of monuments or places or objects of artistic or historic interest and the advancement of any other object of general public utility. Advancement of any other object of general public utility will not include any activity in the nature of trade, commerce or business, or any activity of rendering any service in relation to any trade, commerce or business, for a fee or for any other consideration, irrespective of the nature of use, application or retention of the income from such activity.

RATES OF INCOME TAX: Tax rates are determined by the size of the tax base; if the tax base is higher, the tax rates can be lower. For the purposes of this Discussion Paper, the tax rates provided are such rates which are expected to yield the existing level of revenues with the revised comprehensive tax base proposed in this Code. The rates of taxes are provided in the First Schedule to provide stability to the income tax regime. The new tax rate for individual taxpayers can be substantially liberalised to levels indicated below:-

WEALTH TAX: The Code proposes to tax net wealth in the following manner:-

++ Wealth-tax will be payable by an individual, HUF and private discretionary trusts.

++ Wealth tax will be levied on net wealth on the valuation date i.e. the last day of the financial year.

++ Assets chargeable to wealth-tax will mean all assets, including financial assets and deemed assets, as reduced by exempted assets.

++ The valuation of financial assets will be at cost or market price, whichever is lower.

++ The net wealth of an individual or HUF in excess of Rupees fifty crore will be chargeable to wealth-tax at the rate of 0.25 per cent.

++ The threshold limit of Rupees fifty crore will not apply to a private discretionary trust.

This is only at a loud thinking stage and is not really likely to become LAW in the near future. Let's all discuss it in the meantime and try not to confuse the people.