Code ends tax-saving schemes

I’m proud of paying taxes, but I could be just as proud for half the money.
— Arthur Godfrey

The devil is always in the detail.

If the provisions of the new direct tax code  put out on Wednesday were to be implemented, the number of tax-saving instruments that a taxpayer has access to will come down dramatically.

Section 66 of the new direct tax code, which will replace the current Section 80C of the Income Tax Act, points out, “The sums referred to…shall be any sum paid to, or deposited in, any account maintained with any permitted savings intermediary, during the financial year.”

The phrase to mark here is permitted savings intermediary, which the code defines an approved provident or superannuation fund, life insurance and new pension scheme.

Simply put, deductions against income will be available for investments made only in any of these four instruments i.e., provident fund, superannuation fund, life insurance and new pension scheme.

This in turn means, many other deductions available under the current Section 80C will no longer hold.

These include deductions allowed for investing into tax saving mutual funds (technically referred to as equity linked savings schemes), tax saving fixed deposits and the very popular senior citizens savings scheme (SCSS), post office monthly income scheme (Pomis) and National Savings Certificate (NSC) VIII

Post office savings schemes (SCSS, Pomis and NSC VIII) are an extremely popular form of investment and tax saving, as can be seen from the amount of money (See table) that gets invested in these schemes.

Take the case of NSC VIII which has been a very popular tax saving instrument over the years.

As on March 31, 2009, Rs 55,455 crore had been invested in NSC VIII.

Given that the code is up for discussion over the next 45 days, the mutual fund industry is planning to raise this issue of non-representation with the ministry.

“We will put forward our representation to the ministry on how it will affect the industry. But given that dividends from MFs continue to be tax free, that attraction for investing in tax saving MFs continues,” says the National Sales Head of one of the bigger MFs.

“The association of mutual funds in India (Amfi) will write to the government on how unit linked insurance plans could have an upper edge against mutual funds,” he adds. 
A P Kurian, chairman of Amfi says he will fight. “We will certainly send our comments and also consult tax experts if need be.”

The assets under management of tax saving mutual funds currently stand at Rs 19,800 crore.

“It is going to affect the industry as tax-saving mutual funds bring in Rs 20,000-odd crore of assets. Every month people invest seriously in these schemes,” said Kurian.

“It will be an issue as tax-savings funds brought in relatively long-term money for the mutual funds. But it is not a significant portion of the assets. It will be a change, but is unlikely to destabilise the industry,” said Dhirendra Kumar, CEO of Value Research, a mutual fund rating agency.

The other instrument which was just picking up as a tax saving instrument and will be hit if the code is implemented in its current form, is the tax saving fixed deposit.

“The volumes for the product per se (tax-saving FDs) have been in the range of 5-10% of overall deposits, for us. We shouldn’t see a big impact,” says K V Manian, group head - retail liabilities of Kotak Mahindra Bank.

He is hopeful that things might change by 2011. “Having said that by 2011 we may see inclusion of other products in the category,” he adds. 

Yogesh Agarwal, chairman of IDBI Bank says the bank has no plans to make a representation as of now.

“The new tax code is only in a draft format. What will emerge is yet to be seen.”
With these changes being proposed, tax experts are amazed at the logic behind these changes.

“I am unable to understand the logic behind taking away the choice from the taxpayer regarding the instrument best suitable for his or her long term savings. If someone feels that a mutual fund instead of a life insurance policy or a bank deposit instead of NPS suits his needs better, he should have the option of investing in the same and still avail of tax benefits,” says Shanbhag of Wonderland Consutlants.

So what does a taxpayer who does not want to invest in high commission paying and high cost Ulips do? “The new pension scheme is nothing but a mutual fund,” says Kumar of Value Research, suggesting NPS as a mode of investment. He is also hopeful that mutual funds in the future may be allowed to launch superannuation funds, for which the direct tax code allows a deduction. UTI Mutual Fund and Franklin Templeton Mutual Fund already offer such a product. 

On the positive side, Section 66 permits a maximum deduction of Rs 3 lakh, which is Rs 2 lakh more than the Rs 1 lakh deduction allowed under the current Section 80C.