Budget 2025: Will Govt wrap up Old Tax Regime by introducing exemptions under New Tax Regime?

As we approach the presentation of Budget 2025 in the Lok Sabha on February 1, 2025, it is important to take note of the significant changes implemented in Budget 2024. The government began a comprehensive study of the Income Tax Act of 1961, with the goal of simplifying and modernizing the tax system.

These reforms seek to eliminate uncertainties, improve compliance processes, and develop a more transparent framework in order to produce a more equitable and efficient tax system.

Economists and taxpayers are increasingly calling for a bigger tax exemption limit, improved tax slabs, and an increased basic deduction under the New Tax Regime. These changes would significantly help a huge number of taxpayers. In the previous Budget, the standard deduction was increased from Rs.50,000 to Rs.75,000, while the exemption limit under the new regime is now Rs.3 lakh.

In its pre-Budget recommendations, the State Bank of India advised that the Centre eliminate all exemptions under the Old Tax Regime and migrate everyone to the New Tax Regime in order to streamline the tax structure. The SBI advises moving all 8.2 crore taxpayers to the simpler system.

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

What if all Taxpayers are moved to the New Tax Regime?

The State Bank of India suggests that the Centre can increase tax compliance and promote demand by raising disposable income through the transition of individuals and business entities to the New Tax regime. This shift may result in a modest loss of tax collection due to specific exemptions, as described in examples 1, 2, and 3 given below.

All exemptions previously available under the Old Tax Regime have been eliminated, with the exception of health and NPS for around 1.5 crore taxpayers.

These exemptions have been increased 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. The Government of India may lose revenue as a result of different tax revisions under consideration.

3 Scenarios

SBI reviews three such cases:

Case 1: The maximum income tax rate is decreased to 25% for incomes surpassing Rs.15 lakh, with all exemptions gone except for healthcare and NPS, which remain at Rs.25,000 and Rs.50,000, respectively. In scenario 1, these sums are increased to Rs.50,000 and Rs.75,000, respectively, whilst in scenario 2, they are increased to Rs.50,000 and Rs.1 lakh.

This leads in an estimated revenue loss for the government ranging between Rs.74,000 crores and Rs.1.08 lakh crores. Furthermore, a flat 15% tax is charged on bank deposits, which are considered part of other income and are not subject to the highest income category. The tax exemption for savings bank deposits (SA) is increased to Rs.20,000.

Case 2: The maximum income tax rate remains at 30% for income above 15 lakhs. However, tax rates are reduced to 15% for incomes between Rs.10 lakhs and Rs.15 lakhs, and all exemptions are removed except for healthcare and the National Pension Scheme (NPS), which remain at Rs.25,000 and Rs.50,000, respectively. This amount rises to Rs.50,000 and Rs.75,000 in Scenario 1, and Rs.50,000 and Rs.1 lakh in Scenario 2.

The government is expected to face income losses ranging from Rs.16,000 crore to Rs.50,000 crore. Furthermore, a flat 15% tax on bank deposits is proposed, which will be applied to other income but not connected to the top income band.

The limit of tax-exemption for Savings Account (SA) deposits would be increased to Rs.20,000.

This option is proposed for consideration by both the government and consumers, with estimated revenue losses of Rs.50,000 crores, or 0.14% of GDP.

Case 3: The highest income tax rate has been reduced to 25% for incomes over 15 lakhs. The tax rate on incomes between Rs.10 lakhs and Rs.15 lakhs has been reduced to 15%, with all exemptions abolished except for healthcare and NPS, which remain at Rs.25,000 and Rs.50,000, respectively. In scenario 12, these restrictions are increased to Rs.50,000 and Rs.75,000, but in scenario 2, they are extended to Rs.50,000 and Rs.1 lakh.

The government’s income losses range from Rs.85,000 crore to Rs.1.19 lakh crore. Furthermore, a flat 15% tax has been imposed on bank deposits, which are now considered part of other income and no longer subject to the highest income category.

Loss of Government vs. Taxpayers’ Gain

The SBI report suggests:

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

Case 2 entails retaining a 30% peak rate while lowering the Rs.10-15 lakh rate to 15%, resulting in a potential loss of Rs.16,000 Crore – Rs.50,000 Crore.

The hybrid approach in Case 3 could result in a loss of Rs.85,000 crore to Rs.1.19 lakh crore.

SBI report states, Case 2 finds a balance between fiscal responsibility and customer benefits. By retaining the highest rate at 30%, the revenue loss is minimized to 0.14% of GDP, while middle-income taxpayers receive yearly savings ranging from Rs.34,500 to Rs.1.15 lakh.

After years of sustained inflation and high food costs, urban Indians are seeing a decrease in disposable income. Private consumption in metropolitan areas looks to be dropping, with salaried and middle-class professionals believing they suffer the brunt of personal income taxes.

Furthermore, they argue that customers already pay high rates of goods and services tax (GST). The country’s middle class anticipates Budget 2025 to include a variety of efforts to boost savings and address the issues of rising costs, especially in light of the GDP decline.