The new tax regime has increasingly become the popular option for salaried taxpayers, primarily because of its concessional tax rates and simplified structure compared to the old tax regime.
However, a lower tax rate does not necessarily translate into a lower tax liability. The real advantage of either regime depends on an individual’s salary composition, tax-saving investments, eligible exemptions and financial commitments.
Every tax year, many employees decide to switch to the default tax regime (new) after comparing only the tax slabs. What is often overlooked is that salary is not merely a fixed amount credited to a bank account; it comprises several components, each of which has a distinct tax treatment under the Income-tax Act.
The withdrawal of certain exemptions and deductions under the new regime could significantly alter the overall tax outgo.
Before exercising the option to switch tax regimes, employees should undertake a detailed review of the salary components such as:
House Rent Allowance (HRA)
For employees residing in rented accommodation, House Rent Allowance is often the largest tax-saving component. Under the old tax regime, an exemption is available based on salary, rent paid, place of residence, and other prescribed conditions.
“Since this exemption is generally unavailable under the new tax regime, employees paying significant monthly rent should carefully quantify the tax benefit they currently enjoy before opting for the new regime,” said Sarthak Prashar, Director at Grant Thornton Bharat.
Leave Travel Allowance (LTA)
Leave Travel Allowance provides tax exemption for eligible domestic travel expenses incurred by an employee and family, subject to a block of four calendar years and other specified conditions.
“While the exemption is available only when travel is undertaken, employees who regularly utilise this benefit may lose a valuable tax concession after shifting to the new regime. Therefore, the comparison should be based on long-term utilisation rather than only the current tax year,” stated Sarthak Prashar.
Tax-saving investments linked to salary
Many salaried individuals routinely invest in recognised tax-saving instruments such as employee provident fund contributions, Public Provident Fund, ELSS, life insurance premiums, tax-saving fixed deposits, Sukanya Samriddhi Yojana, children’s tuition fees and principal repayment of a housing loan.
These investments generally qualify for deduction under Section 80C under the old regime.
Although these investments continue to remain financially relevant, the corresponding tax deduction is largely unavailable under the new regime. Consequently, taxpayers should evaluate whether the benefit of lower tax rates adequately compensates for the loss of these deductions.
National Pension System (NPS)
The tax treatment of NPS requires careful distinction. While the employee’s own contribution eligible under Sections 124(2) & Section 124(3) of the Income-tax Act, 2025 (erstwhile Section 80CCD(1) & 80CCD(1B)) generally does not provide an additional deduction under the new regime, the deduction in respect of the employer’s contribution under Section 124(1) (erstwhile Section 80CCD(2)) continues to be available, subject to prescribed limits. Employees whose organisations contribute towards NPS should therefore factor this continuing tax benefit into their overall comparison.
Employer contributions to retirement funds
Employer contributions towards recognised provident funds, National Pension System and approved superannuation funds continue to receive favourable tax treatment only up to the statutory threshold prescribed under the Income-tax Act.
“Where the aggregate employer contribution exceeds the prescribed monetary limit, the excess contribution together with the annual accretion thereon becomes taxable irrespective of the tax regime chosen. This aspect assumes greater significance for senior management and high-income employees receiving substantial retirement benefits,” said Sarthak Prashar.
Salary allowances
Several allowances traditionally included within salary packages such as children education allowance, hostel expenditure allowance and certain transport-related allowances derive their tax efficiency from exemptions available under the old regime.
Since these exemptions are generally not available under the new regime, employees should not evaluate these allowances in isolation. Even though each allowance may appear relatively small, its combined tax impact could materially influence the final tax liability.
Flexible Benefit Plans (FBPs) and perquisites
Many employers structure compensation through flexible benefit plans comprising meal benefits, telephone and internet reimbursements, books and periodicals, uniforms, professional subscriptions and other employment-related reimbursements.
“The taxability of each component depends upon the valuation provisions, documentary requirements and the nature of expenditure incurred. Employees should therefore review each benefit individually rather than assuming that every reimbursement either becomes taxable or remains exempt merely because of the selected tax regime,” said Sarthak Prashar.
Professional tax
Professional tax paid in some states qualifies as a deduction while computing income under the old tax regime.
Since this deduction is generally unavailable under the new regime, employees working in States where professional tax is levied should incorporate this factor into their comparative tax analysis.
Housing loan benefits
For many salaried taxpayers, housing loan deductions constitute a substantial portion of annual tax savings. Under the old regime, deductions are generally available in respect of principal repayment under section 123 (erstwhile section 80C) and interest on self-occupied residential property under section 22 (erstwhile 24(b)), subject to prescribed conditions and limits. These benefits are generally unavailable under the new regime, making the overall tax cost significantly higher for taxpayers servicing home loans.
Other employer-provided tax-efficient benefits
Apart from regular salary, employees may receive employer-sponsored medical insurance, retirement benefits, gratuity, leave encashment, relocation support and various other perquisites.
“While certain benefits continue to enjoy favourable tax treatment irrespective of the chosen regime, others derive their tax efficiency from exemptions available only under the old regime. A comprehensive review of the salary structure helps employees identify hidden tax costs that may otherwise be overlooked during routine tax planning,” commented Sarthak Prashar.
Which taxpayers should continue with the old tax regime, and why?
The old tax regime may continue to be more beneficial for taxpayers whose financial profile is driven by eligible exemptions and deductions rather than merely salary income.
Employees paying substantial house rent and claiming HRA exemption, servicing a housing loan on a self-occupied property, making significant investments eligible under section 123 (erstwhile section 80C), contributing towards the National Pension System, paying medical insurance premiums, or regularly availing Leave Travel Allowance may continue to achieve a lower overall tax liability under the old regime despite comparatively higher slab rates.
Similarly, individuals receiving structured compensation packages comprising multiple exempt allowances or tax-efficient salary components should undertake a detailed comparative computation before migrating to the new regime.
On the other hand, taxpayers with relatively straightforward salary structures, minimal tax-saving investments, no housing loan, no HRA claim and limited deductions may generally find the new tax regime more advantageous because of its lower tax rates and simplified compliance framework.
Conclusion
The choice between the old and the new tax regime should never be viewed as a comparison of tax slabs alone. Instead, it should be based on a holistic evaluation of an employee’s compensation structure, exempt salary components, retirement benefits, investments and financial obligations. A regime that appears attractive on paper may not necessarily produce the lowest tax liability once the impact of forgone exemptions and deductions is considered.
As employers begin seeking tax regime declarations for payroll withholding purposes, employees should use this opportunity to undertake a comprehensive review of their salary structure and perform a detailed year-specific comparison. An informed decision, supported by accurate computation rather than assumptions, remains the most effective way to optimise tax efficiency.
Disclaimer: This article is for informational purposes only and does not constitute professional tax advice. Tax laws and regimes are subject to frequent changes by the government. Readers should verify details with official Income Tax Department notifications or consult a Chartered Accountant before making any financial decisions.