One of the key amendments which the government proposed in the Finance Bill 2023 (now Finance Act 2023) is with respect to taxation of Long-Term Capital Gains (LTCG) on sale of units of debt mutual funds. Any investments made in the units of debt mutual funds, (where equity investment is up to 35%) on or after 01 April 2023, will not get the benefit of indexation or treated as LTCG even if held for more than three years and would be taxed at the normal tax slabs applicable to an individual. This brings the tax rates in line with interest on bank deposits. Going forward, these gains from sale of such units would be classified as Short-Term Capital Gains irrespective of the period for which such assets are held by the taxpayer.

As per erstwhile tax laws, the same investments enjoyed the indexation benefit as well as taxation at a lower rate of 20% for LTCG, which now is applicable only to investments made until 31 March 2023.

Despite the above amendment, some of the reasons why taxpayers may continue to invest in debt funds is the higher returns and liquidity they offer, a diversified investment portfolio for managing risk, and flexibility in investments. One can increase/decrease the quantum of investments frequently, optimize taxes since losses from sale of other capital assets such as shares, mutual funds etc can be set off against the capital gains on debt mutual funds. While there is parity in taxation with bank deposits to some extent, the above considerations and factors will also need to be considered.

Why it is vital to decide on right tax regime to hop onto

The Finance Act 2023 has made the new tax regime to be the default regime, with an opportunity to opt in for the regular tax regime. With the onset of the new financial year, it is important that employees declare their intended tax regime for FY 2023-24, to their employers. In the event that employees fail to opt for the regular/old regime, the employers will process their payroll under the new regime. This means employers will by default, apply tax rates, provide deductions/exemptions under the new tax regime (though these are limited) while processing monthly payroll of employees. In addition, should an individual wish to exercise the option for the regular or old regime, they would need to select the option while filing their tax returns within the due date. Else, the default new regime would apply.

Also Read: How to save income tax efficiently in the new financial year

The Finance Act 2023 has introduced a few amendments to the new regime to make it more attractive. The new regime now offers significantly lower tax rates, the surcharge applicable for income exceeding INR 50 million has been slashed from 37% to 25%, bringing down the maximum marginal rate to 39%, from 42.74%, the benefit of standard deduction of INR 50,000 has been extended to this regime as well; Income threshold for tax rebate available for resident individuals has been increased to INR 0.7 million, as against INR 0.5 million in the old regime.

To optimise tax, one needs to evaluate whether one has to opt for the old regime or the new one. Although the decision would entirely depend on individual facts and circumstances, some important considerations could be:

  • reduced tax rates
  • liquidity – Investment decisions not driven by tax benefits, hence lock-in periods not relevant
  • whether individuals are beginning their career/senior employees – this determines the quantum of income/investments made
  • administrative burden of maintaining documentation
  • flexibility in investment choices wherein focus of the taxpayer is not only on investments driven by tax rebates
  • quantum of savings/investments etc

While tax rebate can act as an incentive to save/invest, it is pertinent to also consider the above factors while deciding on the regime.

Individuals who categorically would like to opt for old regime would have to watch out for the window of declaration to their employer. In case they miss to declare their choice, they will be covered under new tax regime for payroll purposes but this can be corrected subsequently while filing the tax returns. It is also important to note that if the Income tax returns are not filed within the due dates prescribed under the tax laws, they would not be able to opt for the old tax regime in the ITR.

(By Tapati Ghose, Partner and Sangeetha BM, Manager, Deloitte Touche Tohmatsu India LLP)