Budget 2025: Can FM Sitharaman create a third unified tax regime merging old and new tax regimes? Check details

Budget expectations: As the Union Budget for 2025 nears, taxpayers and investors are eagerly awaiting potential measures to alleviate financial burdens and promote savings. There is speculation among experts that FM Nirmala Sitharaman may introduce additional provisions to the New Tax Regime, which currently serves as the default tax regime.

India's current tax system for individual taxpayers includes two personal tax regimes - the old tax regime and the new tax regime. The new tax regime is automatically applied, with taxpayers having the choice to opt for the old tax regime if they wish. While the old regime allows for various exemptions and deductions, the new regime offers reduced tax rates with limitations on claiming most exemptions or deductions. Despite offering flexibility, these two tax regimes have led to complexity for taxpayers, necessitating in-depth comparisons to determine the more advantageous option. 

The Old Tax Regime refers to the tax system in place before the introduction of the new regime. It included over 70 exemptions and deductions, such as HRA and LTA, that could reduce taxable income and lower tax payments. Among these deductions, Section 80C was the most popular and generous, allowing for a reduction of taxable income by up to Rs.1.5 lakh.

Under the Old Tax Regime, the income tax slabs are as follows:

Up to Rs 2,50,000    Nil
Rs 2,50,001 to Rs 5,00,000    5%
Rs 5,00,001 to Rs 10,00,000    20%
Above Rs 10,00,000    30%

For Senior Citizens (Only Resident Individuals aged 60 or above)

Up to Rs 3,00,000:    Nil
Rs 3,00,001 to Rs 5,00,000:    5%
Rs 5,00,001 to Rs 10,00,000:    20%
Above Rs 10,00,000:    30%

The New Tax Regime, implemented in the Budget of 2020, aimed to simplify the taxation process by reducing tax rates and eliminating most exemptions and deductions. This revised tax structure featured six taxable slabs, offering lower tax rates to individuals willing to forego traditional tax benefits.

The new income tax slabs announced in the Budget 2024 are as follows:

Up to Rs 3 lakh - 0%
Rs 3 lakh to Rs 7 lakh - 5%
Rs 7 lakh to Rs 10 lakh - 10%
Rs 10 to Rs 12 lakh - 15%
Rs 12 to Rs 15 lakh - 20%
Above Rs 15 lakh - 30%

In the Budget 2024, FM Sitharaman made adjustments to the tax system, with a focus on benefiting salaried employees and pensioners. The standard deduction was increased to Rs. 75,000, and private-sector employees became eligible for a deduction of up to 14% of their basic salary for investments in the National Pension System (NPS).

Merging old and new tax regimes

CA Dr Suresh Surana in an article in the Economic Times noted challenges faced by taxpayers in filing ITRs.

1. Challenges in having dual tax regimes

Many individual taxpayers, particularly salaried individuals excluding High Net Worth Individuals and those earning income from Profit/Gains from Business/Profession, typically calculate their tax obligation and submit their Income Tax Returns (ITR) independently, without hiring professional assistance. This can sometimes make it challenging for them to accurately determine and select the most advantageous tax regime that minimizes their tax liability and aligns with their financial requirements.

2. Salaried taxpayers may select either the old or new tax regime annually, as long as they do not have business income. Individuals with business or professional income who have opted out of the new tax regime can only switch back to it once.

3. Limitations of New Tax Regime

The new tax regime has not gained widespread acceptance amongst certain taxpayers due to the restrictions imposed on the claiming the deductions as well as exemptions. Particularly, the exclusion of certain deductions, such as common deductions (for instance, House Rent Allowances, Leave Travel Allowance, etc.) for salaried individuals and health insurance premiums, ideally makes the old tax regime favourable to taxpayers with net taxable income above Rs. 15 lakh. This is despite 72% tax filers opting for new tax regime while 28% opting for old tax regime as per CBDT press release dated August 2, 2024.

Simplification of the tax system with unified regime

Tax Slabs

Dr Surana said an income tax structure that combines features from both the old and new tax systems or a unified regime can streamline compliance and offer taxpayers the opportunity for tax savings.

Possible tax slabs

Up to Rs. 5,00,000 Nil
Rs. 5,00,001 to Rs. 10,00,000 5%
Rs. 10,00,001 to Rs. 15,00,000 10%
Rs. 15,00,001 to Rs. 20,00,000 15%
Rs. 20,00,001 to Rs. 25,00,000 20%
Rs. 25,00,001 to Rs. 30,00,00025%
Above Rs. 30,00,00030%

Deductions allowed

The New Tax Regime currently allows deductions, such as Standard Deduction u/s 16(ia), Family Pension u/s 57(iia), Deduction for contributions to the Agniveer Corpus Fund under section 80CCH(2), and Section 80CCD(2).

Deductions that can be added to Unified tax regime

Section 80C (Life insurance premium and other investments): The inclusion of deductions for contributions towards social security, such as life insurance premiums, investments in National Savings Certificates, and Public Provident Fund, serves to offer taxpayers financial security benefits while also encouraging investment in government-backed instruments.

Section 80D (Medical insurance premiums): Allowing for deduction of medical insurance premiums from gross total income under the new tax regime would address concerns related to medical costs and enhance the appeal of the regime.

Section 80EEB (Electric vehicle loan interest): In the older tax regime, taxpayers could receive a deduction of up to Rs 1,50,000 on interest paid for loans taken to purchase electric vehicles under Section 80EEB. Including this deduction in the new tax regime would incentivize eco-friendly investments and appeal to a wider range of taxpayers.

Home loan: Currently, individuals under the new tax regime are unable to claim deductions for interest paid on housing loans and cannot offset house property losses against other income sources. Allowing for these deductions and losses to be set off under the new tax regime would provide relief to taxpayers and enhance its attractiveness.