MARCH 24, 2023

By Alok Agrawal, Darshil Shah, Manish Shah & Sangeeta Mehta

OVER the last few years, the government has been curbing tax planning avenues used by high net-worth individuals (HNIs).

The government has tightened rules to negate beneficial tax treatment for some investment avenues for this category. For example, in 2014, the government had increased holding period for debt-oriented mutual funds from 12 to 36 months (for gains from sale of debt-oriented mutual funds held for more than 12 months were eligible to be taxed at concessional rate of 10% plus applicable surcharge and cess, without indexation). They also introduced a cap of Rs. 2,00,000 in year 2017 which restricted the offset of loss from house property (arising from claim of interest deduction on loan payment on let out property/ deemed to be let out property) against other income. More recently, the government had introduced tax on employer's contributions to Provident Fund (PF), Superannuation Fund (SAF) and NPS, in excess of Rs. 7,50,000 per annum, taxation of interest on employee contribution to PF over Rs. 2,50,000, and removed the exemption for new ULIP-linked policies with aggregate premium exceeding Rs. 2,50,000 per annum, etc.

Some similar key 2023 Budget proposals impacting HNIs are described below:

1. Reduction in surcharge tax for income exceeding INR 5 crore under New Tax Regime (NTR):

The Finance Minister acknowledged that the top tax rate for individuals in India (42.744% for income over INR 5 crores) is among highest in the world.

To give relief to this income group, Budget 2023 was proposed that the surcharge applicable on tax for this income category will be reduced from 37% to 25% from FY 2023-24. In other words, from next year, the marginal tax rate for individuals having income over INR 5 crores, will reduce from 42.744% to 39%. However, this benefit of reduced tax rate can be availed only if the individual accepts the NTR.

NTR is a regime providing certain non-corporate taxpayers (including individual and HUFs) with attractive slabs with lower tax rates, if such taxpayers forego certain specified tax deductions, such as House Rent Allowance, Public Provident Fund/ life insurance premium, Mediclaim insurance premium, donations, etc. Given that the tax savings from a marginal rate lowered by 3.744% at such high-income levels will exceed the tax impact from loss of tax deductions/exemptions, it is likely that the NTR would now be beneficial for such taxpayers.

While the above proposal should bring cheer to many HNIs, there have been various other proposals which will increase their tax outflow in certain situations.

2. Gains on market-Linked debentures to be taxed as short-term capital gains

By way of background, debt securities typically provide returns by way of a fixed coupon rate and the capital gains on listed bonds held for more than 12 months are also taxed at 10% without indexation.

While the underlying capital in the form of the principal amount of market-linked debentures (MLDs) may be protected, the difference is that the return on this instrument is pegged to market conditions.

MLDs are presently taxed at par with any other listed security and the tax rate applicable is 10%, without indexation benefit, where they are held for more than 12 months.

To rationalise the same, in this Budget, it has been proposed that from FY 2023-24, any gains arising from transfer, redemption, or maturity of MLDs will be considered as short-term capital gains, irrespective of the period for which it is held. As a result, the gains being short term in nature will be taxed at marginal tax rate applicable to the individual (39% under NTR for annual taxable income above 2 crores), leading to higher tax incidence on such income from next year.

The cost of acquiring MLD and expenses related to sale of MLD can be considered as a deduction while computing gains.

3. Tax treatment of life insurance policy proceeds for premium above Rs 5 Lakh

To promote welfare by enabling taxpayers to secure a life insurance cover, exemption was allowed on receipt on maturity or surrender of policy subject to certain conditions.

Currently, the proceeds received from life insurance policies (LIP) are exempt (subject to annual premium not exceeding 10% of the sum assured) for policies issued after 01 April 2012. The condition relating to proportion of premium to sum assured, varies depending on the date of which policy was obtained.

In line with the intent of restricting investment-oriented insurance products from getting the tax exemption, the 2021 Budget withdrew the exemption on Unit Linked Policy (ULIP) proceeds where the aggregate annual premium exceeded Rs 2,50,000. However, this change did not impact other (non-ULIP) policies where the insured gets a payout on maturity of the policy.

Government proposes to further tighten the rules and therefore it is proposed that even for other LIPs issued on or after 01 April 2023 (other than ULIPs) where annual aggregate premium exceeds Rs. 5 lakhs, proceeds received on maturity/surrender of such policies (except in event of death) will not be eligible for tax exemption.

While the proceeds from above ULIPs are taxed as capital gains, the proceeds from such policies will now be taxed as "Income from other sources" at the applicable marginal tax rate applicable to individuals. Assuming no deduction is claimed at the premium payment stage, the proceeds will be taxable net of premium paid. Detailed computation mechanism for such calculation will be prescribed in due course.

4. Deduction from capital gains for purchase of house capped to Rs 10 crore

As per the existing tax rules, long term capital gains can be exempted from tax without any limits, if there is investment in a residential house property (within the prescribed period and as per specified formula). Such capital gains could have arisen on sale of residential house property held for more than 24 months or any other long-term capital assets.

From FY 2023-24, it is proposed to cap the limit of such deduction to INR 10 crores for investment in residential house property. As a result, even if the investment in the new asset is made of a value exceeding Rs. 10 crores, Rs.10 crores will be deemed to be the cost of investment made and thereby restrict the exemption from capital gains.

5. Tax Collection at Source (TCS) on remittance under Liberalized Remittance Scheme (LRS) for overseas tour packages, etc .

There is no change in TCS rate for foreign remittances made for educational purposes - funded via self or via loans through financial institutions.

However, TCS rate is proposed to be increased from 5% and to 20% for foreign remittances for overseas tour package and for any other purposes under LRS from 1 July 2023. This TCS amount can be claimed as a credit not only against any self-assessment tax payable after the year-end/ while filing the Income tax return, but can also be set-off against any advance tax payable during the year. This increase to 20% would pose cash flow challenges for many Indians who buy overseas tour packages from overseas travel agents.

Conclusion:

In summary, the Union Budget 2023 proposals continue the trend of plugging tax planning avenues used by high income taxpayers. However, with reduction of maximum tax rates for individuals to below 40%, India will now no longer appear as an outlier under the individual tax regime as compared to many emerging markets and developing economies.

[The authors are Alok Agrawal, Partner, Deloitte India, Darshil Shah, Deputy Manager, Manish Shah, Director and Sangeeta Mehta, Manager, Deloitte Haskins and Sells LLP. The views expressed are strictly personal.]