Indexation, a tool to rationalise tax exemptions

The basic income tax exemption limit is fixed keeping in mind the bare minimum expenses for running a family, so that the common people are not burdened with the income tax. This limit needs to be kept at an appropriate level until a basic social security system is put in place in the country.

The basic exemption limit was R50,000 for financial years ’98-99 to 2004-05. Then it was raised to R1,00,000 in ’05-06. This limit was revised again in ’07-08, ’08-09, ’09-10 and ’10-11 by R10,000, R40,000, R10,000 and R20,000 respectively. This clearly demonstrates that there is no system in place for fixing the exemption limit.

An alternative to such ad hoc revision would be indexation of the basic exemption limit, so that it takes care of the effect of inflation. Indexation is already recognised in the Income Tax Act, e.g., in the calculation of long-term capital gains.

Indexation has many in built advantages. Firstly, it is logical because the indexed pattern would avoid an overburden of tax on income enhanced only on account of inflation. The non-indexed pattern reduces the real income in the hands of the assessee.

Secondly, it is simple. The assessee can calculate his future tax liability accurately to a large extent. Thirdly, the public outcry for higher exemption limits in every budget would be minimised.

Fourthly, it will save time for the government and foster an

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