Tax planning: Arun Jaitleys Budget prescription

Written by Saikat Neogi | Updated: Jul 15 2014, 19:01pm hrs
Arun JaitleyFrom now, you cannot sell one house and invest the money in two smaller houses to claim long-term capital gains tax exemption.
While the increase in basic tax exemption, hike in the deduction limit under Section 80C and the increase in interest deduction limit on home loans could lead to substantial tax savings, there are various other proposals in Budget 2014-15 that would impact individual taxpayers and retail investors. A look at the fine print.

Section 54: Capital gains exemption for investment in a residential house

From now, you cannot sell one house and invest the money in two smaller houses to claim long-term capital gains tax exemption. The explanatory memorandum to the Finance Bill states that the benefit of long-term capital gains tax exemption can be availed only for re-investment in one residential house, and that too has to be purchased in the country. Under Section 54 of the Income Tax Act, 1961, a taxpayer can get long-term capital gains tax exemption after selling his house property, which is held for more than three years, and purchase another residential house or construct a house within three years of the sale.

Section 54 EC: Capital gains tax saving bonds

The I-T Act provides a deduction from long-term capital gains if the amount of gains from selling capital assets is invested in certain bonds issued by the National Highway Authority of India (NHAI) and the Rural Electrification Corporation (REC) within six months from the day of the sale. Investment in such bonds cannot be more than R50 lakh in a financial year. Analysts say there was a lot of confusion on the amount of tax deduction on reinvestment in capital gains tax saving bonds in cases where the asset was sold in the second half of a financial year. As a result, some taxpayers claimed a deduction of R1 crore by splitting the investment in two financial years. However, the latest Budget has clarified that such splitting will not be permitted and the total deduction in a financial year cannot exceed R50 lakh.

Long-term capital gains on debt mutual fund

The finance minister has proposed to double the rate of long-term capital gains tax on debt mutual fund to 20% from 10% and also the period of long-term definition from 12 months to 36. The increase in the tenure of the lock-in period will affect those investors who put money in liquid-mutual fund for certain goal-specific investment. The proposed move will bring debt MFs almost at par with bank deposits as the tax arbitrage was being used by high net-worth individuals and was having a negative impact on deposit mobilisation by banks.

While the explanatory memorandum to the Finance Bill had mentioned that the effective date of the increase in long-term capital gains tax on debt fund will be April 1, 2015, and apply to assessment year 2015-16 and subsequent years, it was clarified by ministry officials that the new tax rate would apply to income arising out of this source in 2014-15, for which the assessment year will be 2015-16. Debt funds account for 75% of mutual fund industry's asset under management. Analysts say fixed maturity plans, with over R1.77 lakh crore of asset under management, which benefited the most from indexation on long-term capital gains, will bear the brunt of the change as there could be little appetite for maturities over three years. Actively managed products, such as income and gilt funds, are also likely to see erosion of interest.

Also, the dividend distribution tax is now proposed to be calculated on the gross amount of distributable income and not the dividend received by the investor. Liquid funds, which have around R2.84 lakh crore of asset under management, have significant investments in dividend plans. The proposal will affect fund flows as tax arbitrage available to mutual fund investors over fixed deposits will now be negated.

Gains arising on transfer of debt mutual units before three years from the date of purchase will be treated as short-term capital gains and subject to normal rate of taxation.

Rajiv Bajaj, vice-chairman & managing director of Bajaj Capital, says investors looking for regular income from debt mutual fund schemes should start a Systematic Withdrawal Plan (SWP) in which a fixed sum is withdrawn at regular intervals. This is much better than a bank deposit. The effective tax rate in SWP is much lower than in bank deposits. Over a five year period, the effective tax rate in a SWP strategy can be lower by 9% compared to a bank deposit carrying the same yield, he says.

Mode of acceptance or repayment of loans, deposits

At present, no individual is allowed to accept or repay any loan or deposit other than by an account payee cheque or account payee bank draft, if the amount of such loan or deposit is more than R20,000. The Budget has, however, proposed to permit acceptance or repayment of any loan or deposit by use of electronic clearing system through a bank account. The amendment will be effective from the current financial year itself.

TDS on taxable payments under life insurance policy

Income received by a resident under a life insurance policy, including bonus, will be subject to deduction of tax at source at 2% unless such income is exempt under Section 10(10D) of the Income Tax Act or if the aggregate sum paid to an assessee in a financial year is less than R1 lakh. This amendment will take into effect from October 1, 2014.

Decoding the budget

* From now, you cannot sell one house and invest the money in two smaller houses to claim long-term capital gains tax exemption

* Rate of long-term capital gains tax on debt mutual fund increased to 20% from 10%. The period of long-term definition changed from 12 months to 36. This will bring debt MFs almost at par with bank deposits

* The Budget proposesd to permit acceptance or repayment of any loan or deposit by use of electronic clearing system through a bank account. Earlier, no individual was allowed to accept or repay any loan or deposit other than by an account payee cheque or account payee bank draft, if the amount of such loan or deposit was more than R20,000

* Income received by a resident under a life insurance policy, including bonus, will be subject to deduction of tax at source at 2% unless such income is exempt under Section 10(10D) of the Income Tax Act or if the aggregate sum paid to an assessee in a financial year is less than R1 lakh. This amendment will take into effect from October 1, 2014