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Share"Boss, I have a small problem." It was just getting to be evening when Mansukh, as usual, had barged into my office without any priorappointment.
Moreover, he expected me to leave everything at hand and attend to him and his problem, regardless of whether it was convenient for me or not. For the simple reason that he knew only too well his expectation would never be belied. He had the right to take me for granted, our friendship dates back from college times. Endless hours spent in the canteen, smoking cigarettes, sipping chai and discussing movies, films and girls form a strange but solid bond.
"Yes, what is it this time?" I put on an irritated expression which Mansukh ignored. "See, listen, the Budget is approaching and since long, I wanted to discuss with you this EET thing... What exactly is EET?" I realised that the evening wasn't going to go the way I had planned, and resigned myself to my fate.
"Mansukh", I explained, "Budget 2005 had made two critical changes. It replaced Section 88 by Section 80C and simultaneously announced that the EET system of taxation is on the anvil. EET stands for exempt-exempt-taxed and is nothing but a fancy name for a tax system where an investment in a savings plan is deductible from income. The interest earned is also deductible. However, the maturity amount is taxable.
Mansukh looked thoughtful. "Isn't this in contrast to the current EEE system where investment, interest and the maturity amount remained tax-free like in the case of PPF?"
"That's correct!" I beamed. Mansukh was a good student.
"See", I continued, sharpening by pencil. I was warming up to this now. "The earlier Section 88 offered a rebate (deduction) from the tax payable. Section 80C, on the other hand, offers a deduction from the income chargeable to tax. It is this difference that is very important..." Before I could finish, Mansukh interrupted, "That's all fine, but can you show me using some numbers?"
The pencil was already sharpened and I made some quick feverish calculations. The following is what I came up with:
"Mansukh, on an income of Rs 5 lakh, as per the old rules (FY05), one would typically have invested Rs 70,000 in PPF and Rs 30,000 in infrastructure bonds for a 15% Section 88 rebate. The tax liability would be worked out in this way:
ParticularsRs
Income5,00,000
Tax thereon1,24,000
Less: Rebate u/s 88 @ 15%15,000
Final tax liability1,09,000*
* FY05 tax rates
Now, in this year (for FY09), one can invest the entire Rs 1 lakh in any of the avenues under Section 80C. Let's say, you invest the money in an ELSS fund. On a similar income level, the tax liability would be:
ParticularsRs
Income5,00,000
Less: Deduction u/s 80C1,00,000
Net taxable income4,00,000
Tax thereon35,000*
* FY09 tax rates
I gave Mansukh some time to study the calculations before continuing. "Earlier, when one invested under the Section 88 window, the tax-saving effected was permanent in nature. This meant that once the tax was saved for that particular year, it was saved, per se. When the invested amount matured, it was tax-free."
Mansukh, hitherto quietly studying the tables, suddenly exploded, "Hey! Hey! Hey! Now, I get it. Once this EET thing gets operational, permanent tax saving won't be possible.
This is because, by making an investment, you will reduce the same
from your income thereby lowering the tax liability. However, when the amount matures, it would be taxable in that year!"
"So, so, so," he animatedly continued, "This is a deferment of tax and not a saving of tax. In other words, under EET, you can at the most, postpone the payment of tax depending upon the lock-in of your tax-saving investment. However, at some point in time or the other, the investment will mature. At that time, tax will be levied. So, the long and the short of it is that permanent tax saving is denied to the investor under EET."
That was correct. "However, Mansukh", I said, "There is a silver lining. As of now, this tax system has not yet been introduced. In order to work out the roadmap for smoothly moving towards the EET system, the government was to set up a committee of experts. This committee would examine the mix of savings instruments that would qualify under the new system and propose suitable tax incidence. However, so far this hasn't happened."
Nevertheless, my friend didn't look too happy "Boss, don't look so worried," I comforted him. "It's not as if they would bring in EET on an 'as is where is' basis. There have been some media whispers that long-term investments -- say in any tax-saving instrument for a period of 10 years or more, may attract a concessional tax rate of 10% at maturity. Those tax saving investments which are for a duration shorter than 10 years could be taxed at a higher rate of maybe, say, 20%. But once again, let me warn you, these are media whispers, we will only know when it is formally announced."
Mansukh looked perplexed. "What about my existing investments in life insurance, PPF, provident fund etc? These have been made before this law was even talked about. I hope those won't are not taxed."
"In all likelihood, only prospective investments would be taxed and not those already made." I ventured.
Mansukh looked glum, "Boss, when you use words like 'likelihood' I really get worried. You know, every taxpayer has a constitutional right to arrange his financial affairs as per his or her life situation. Is it ethical on the part of our government to change the tax laws at its whim and fancy?"
Obviously it was a rhetorical question to which he didn't expect an answer.
"So, basically what the government is telling us is this," he said bitterly "'So far, your tax-saving investments such as insurance, PPF, NSC, ELSS etc were tax-free. However, now these are going to be taxed. But we can't tell you when. We won't tell you to what extent each instrument will be taxed. We can't even say for sure whether investments made prior to this announcement will be taxed or not. If you have invested in any of these instruments but not claimed the tax deduction, will the proceeds still be taxed? We are silent on the matter."
Hopefully, this golden silence will be broken on July 6. Watch this space.
Communication breakdown
The EET model taxes the amount that matures from the different schemes, while in the earlier EEE model schemes, there was no tax to pay
What the government is telling us is this: We won't tell you to what extent each instrument will be taxed
We can't even say for sure whether investments made prior to this announcement will be taxed or not
The writer is director, Wonderland Consultants, a tax and financial planning firm.
