Budget 2025: Will Centre wrap up Old Tax Regime by bringing exemptions under new regime? Here's what we know

As we count down to the presentation of Budget 2025 in the Lok Sabha on February 1, 2025, it is important to note the significant changes introduced in Budget 2024. The government embarked on a comprehensive review of the Income Tax Act, 1961, intending to simplify and modernise the tax system. These reforms aim to remove ambiguities, enhance compliance processes, and establish a more transparent framework to create a fairer and more efficient tax regime.

There have been increasing calls from economists and taxpayers for a higher tax exemption limit, improved tax slabs, and an enhanced standard deduction under the New Tax Regime. These changes would greatly benefit a large number of taxpayers. In the previous Budget, the standard deduction was raised to Rs 75,000 from Rs 50,000, while the exemption limit currently stands at Rs 3 lakh under the new regime.

In its pre-Budget recommendations, the State Bank of India has proposed that the Centre eliminate all exemptions under the Old Tax Regime and transition everyone to the New Tax Regime to streamline the tax structure. The SBI suggests that all 8.2 crore taxpayers be moved to the simplified system.

Additionally, the SBI recommends that the Finance Minister increase the National Pension System (NPS) limit from Rs 50,000 to Rs 1 lakh and raise the medical insurance exemption under section 80D from Rs 25,000 to Rs 50,000.

What if all taxpayers are shifted to New Tax Regime

The State Bank of India proposes that the Centre can improve tax compliance and stimulate consumption by increasing disposable income by transitioning all individuals and entities to the New Tax regime. This transition may result in a minimal loss in tax collection through certain exemptions, as outlined in cases 1, 2, and 3.

SBI assumes that:

The elimination of all exemptions previously available under the Old Tax Regime, except for Health and NPS for approximately 1.5 crore taxpayers.

These exemptions have been adjusted upwards in two scenarios, from Rs 25,000 to Rs 50,000 for Health and from Rs 50,000 to Rs 75,000 and Rs 1 lakh for NPS.

Anticipated Impact on Government of India: Potential revenue loss for the Government of India due to various tax adjustments being considered.

Three scenarios

Giving three cases in such a situation, SBI evaluates:

In Case 1: The peak income tax rate is reduced to 25% for income exceeding 15L, with all exemptions eliminated except for healthcare and NPS, which are maintained at Rs 25,000 and Rs 50,000, respectively. These amounts are increased to Rs 50,000 and Rs 75,000 in scenario 1, and Rs 50,000 and Rs 1 lakh in scenario 2.

This results in an estimated revenue loss for the Government ranging from Rs 74,000 crores to Rs 1.08 lakh crores. Additionally, a flat 15% tax is levied on bank deposits, which is considered as part of other income and not linked to the highest income bracket. The tax exemption for savings bank deposits (SA) is raised to Rs 20,000.

In Case 2: The peak income tax rate remains at 30% for income exceeding 15 lakhs. However, tax rates are decreased to 15% for income between Rs 10 lakhs and Rs 15 lakhs, and all exemptions are eliminated except for healthcare and National Pension Scheme (NPS) which are maintained at Rs 25k and Rs 50k respectively. This amount increases to Rs 50k and Rs 75k in Scenario 1 and Rs 50k and Rs 1 lakh in Scenario 2.

The Government is projected to incur revenue losses ranging from Rs 16,000 crores to Rs 50,000 crores. Furthermore, a flat 15% tax is proposed to be levied on bank deposits, which will be added to other income and will not be linked to the highest income bracket. The tax exemption limit for Savings Account (SA) deposits will be raised to Rs 20,000.

This option is put forth for consideration by both the Government and Consumers, with expected revenue losses of Rs 50,000 crores, equivalent to 0.14% of GDP.

In Case 3: The peak income tax rate has been lowered to 25% for incomes exceeding 15 lakhs. Tax rates for incomes between Rs 10 lakhs and Rs 15 lakhs have been decreased to 15%, with all exemptions removed except for healthcare and NPS, which remain at Rs 25k and Rs 50k respectively. In scenario 12, these limits have been increased to Rs 50k and Rs 75k, while in scenario 2, they have been increased to Rs 50k and Rs 1 lakh.

The Government is facing revenue losses ranging from Rs 85,000 crores to Rs 1.19 lakh crores. Furthermore, a flat 15% tax has been implemented on bank deposits, which is now considered as part of other income and no longer linked to the highest income bracket. The tax exemption for SA deposits has been raised to Rs 20,000.

Govt's loss vs taxpayers' gain

The SBI report suggests:

In Case 1, reducing the peak tax rate to 25% would result in a loss of Rs 74,000 Cr–Rs 1.08 Lakh Cr.

Case 2 involves maintaining a 30% peak rate and reducing the Rs 10-15 lakh rate to 15%, leading to a potential loss of Rs 16,000 Cr–Rs 50,000 Cr.

The hybrid approach in Case 3 could result in a loss between Rs 85,000 Cr–Rs 1.19 Lakh Cr.

According to the SBI report, Case 2 strikes a balance between fiscal responsibility and benefits for consumers. By keeping the top rate at 30%, the revenue loss is limited to 0.14% of GDP, while providing middle-income earners with annual savings ranging from Rs 34,500–Rs 1.15 lakh.

After experiencing sustained inflation and expensive food costs, urban Indians are witnessing a reduction in disposable income. Private consumption in urban areas appears to be declining, as salaried and middle-class professionals believe they bear the brunt of personal income taxes.

Furthermore, they contend that consumers already face high rates of goods and services tax (GST). The middle class of the country expects that Budget 2025 will introduce various initiatives to encourage savings and tackle the challenges of increasing costs, particularly in light of the GDP downturn.