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Selling a stock in the share market after one year will attract no capital gains tax. On the other hand, selling it to the company during a buyback will mean a tax, according to your income tax bracket. So, to save just 0.1 per cent (on Rs 1,000) of securities transaction tax (STT), you will end up paying 10, 20 or 30 per cent. There are several such anomalies in our tax laws.
No wonder, KPMG CEO Richard Rekhy told Business Standard recently, “Some of our personal tax laws are from a different era.” For instance, the tax-free limit of medical reimbursement is just Rs 15,000. The limit was set in 2001. Since then, medical costs have increased manifold. Even if one takes only the wholesale price index into account, the average annual rate of inflation since 2001 has been a good six per cent.
It is not just about archaic tax limits, there are a number of gaping holes which, if tackled, would make our lives much better.
Lower tax benefits for delay in property construction
While the builder is most likely to be responsible for delays in property construction, the buyer bears the brunt. When you take a home loan for a self-occupied property under construction, the deduction allowed is Rs 1.5 lakh annually.
However, if the construction is not completed within the next three years, the interest deduction gets reduced to Rs 30,000, says Sonu Iyer, tax partner and national leader (human capital services), Ernst & Young.
So, in effect, you will not get possession on time and get less tax benefits for the loan taken. It is another matter that the limit of Rs 1.5 lakh itself is too small, as property prices have shot up substantially. If you have taken a 20-year loan of Rs 50 lakh, your monthly interest payout in the initial years is as high as Rs 44,792.
Unlimited interest payment can be deducted for second property
In repaying home loan, the interest is deducted from taxable income up to Rs 1.5 lakh if a self-occupied property. According to tax laws, only one property per individual is allowed to be categorised as self-occupied property. So, if you own more than one house, the second one is deemed to be let out and a notional rental income is taxed in the hands of the owner. If the house is not rented out, the rent in the particular locality is deemed as rental income and taxed.
“Since there is an income offered to tax in both cases, a deduction for the interest is allowed to the extent of interest paid without any restrictions. Thus, in the case of second properties, since an income is being offered, there is no limit to the deductions. However, for the first property, the deduction is made available without any income and, hence, the restriction. Although there is no anomaly between the two provisions, the limit of Rs 1.5 lakh deduction for the interest paid was prescribed some years ago and the wish list includes that the Budget increase the threshold for the deduction this year,” says Arvind Rao, a certified financial planner.
Equity fund-of-funds treated like debt
In the case of mutual funds, if you invest in a fund-of-funds (FoF), the tax treatment is the same as of a debt fund, though it invests in equity mutual funds. In other words, there is a long-term capital gains tax (after one year) of 10 per cent without indexation and 20 per cent with indexation.
The definition for equity mutual funds as given in the Income Tax Act is a fund which invests at least 65 per cent of its corpus in domestic equities. In an FoF, since it does not invest in equities but in other mutual funds, the tax treatment is similar to debt funds. This anomaly can be corrected by amending the definition of equity mutual funds to include equity funds along with domestic equities in the asset allocation pattern, says Rao.
Retirement planning
Planning your retirement through a superannuation fund? Well, the employer’s tax-free contribution can be only Rs 1 lakh. On the other hand, if you are an employee under the New Pension Scheme (NPS), the employer’s contribution will be tax-free to the limit of 10 per cent of the basic salary. Under Section 80CCD, the total limit allowed for deduction under this section is Rs 1 lakh, which includes public provident fund (PPF), employees’ provident fund (EPF), life insurance premium, principal of home loan repayment and so on.
So, for people with a high salary, if the contribution exceeds Rs 1 lakh, it will not be eligible for exemption under this rule. That means if the contribution is Rs 1.2 lakh, only Rs 1 lakh will be eligible for exemption and not the additional Rs 20,000. But the amount over and above Rs 1 lakh will not be taxed. However, in the case of a superannuation fund, if the employer's contribution exceeds the limit of Rs 1 lakh, then it is considered a perquisite and taxed; this tax is ultimately paid by the employee.
“Both the schemes are long-term retirement vehicles and appeal to the employee class. The coming Budget should at least remove the tax for contribution to a superannuation fund if it exceeds Rs 1 lakh and bring it at par with NPS,” says Rao.
Not just that, if the amount paid to the employee from the fund does not satisfy the conditions as specified under Section 10(13) of the Act, the entire amount received is taxable in the hands of the employee, including the employer’s contribution in excess of Rs 1 lakh, which might have already been taxed as perquisite in the previous years. Under Section 10 (13), contribution to a superannuation fund is exempt from tax only at the time of retirement or death of the employee. But if the payout happens before that, the entire amount is taxed. This amounts to double taxation, says Iyer.
Cash versus physical gifts to employees
Many companies give gifts to employees on occasions such as a marriage or as a reward for good performance. There is no tax on a gift given to an employee by the employer, if it is in kind and if the value is less than Rs 5,000. But if given by cash or cheque, it will be taxed in the hands of the employee even if it is less than Rs 5,000.
Tax on income from property on transfer to a close relative
Want to gift a property to your daughter-in-law? Don’t. The income from the property will be taxed in your hands. In comparison, if you gift it to your son, it will be taxed in your son’s hands.
So, if you transfer a house to your daughter-in-law, any rental income from that is taxed in your hands. But if you transfer it to your son, it will be taxed in your son's hands. Earlier, say tax experts, many women were not working and people used to transfer property to their daughters-in-law to avoid paying tax on income.
Selling shares on stock exchange
One of the main reasons why buybacks struggle in India is the taxation issue. When you sell shares held for over a year on the stock exchange and pay securities transaction tax (STT), the amount will be tax-free in your hands.
If you sell the same shares to the company directly, through a buyback or open offer, you will save on STT (0.1 per cent on Rs 1,000). But there will be a tax on the capital gains. So, just to save on STT, you will have to pay 10, 20 or 30 per cent, depending on your tax bracket. No wonder, then, that when there are buybacks or open offers, analysts recommend selling in the secondary market.
Donations to charity
Donations to government charities are wholly exempt from tax under Section 80G. But donations to approved trusts (these could be charitable, educational or religious trusts); are exempt only up to 50 per cent of the amount donated. Although the purpose is charity in both cases, the tax exemption is different.
