Sanjana will buy the first thing that reads tax benefits/savings. She will not really look at the instruments or whether they are in line with her long-term investments.
Often, Sanjana would invest her money in debt instruments like the National Savings Certificate or buy infrastructure bonds. There are some obvious flaws with this system. Sanjana is messing up her asset-allocation mix by including so much debt when, being so young, she should really focus more on equities, which have more opportunities for growth.
The tax landscape in the country has gone through a sea-change in recent years. The government of India announced the new income tax regime in Budget 2020, which transitioned into an option for taxpayers from FY 2021.
Despite its attractiveness, the adoption remained low. In Budget 2023-24, Union Finance Minister Nirmala Sitharaman declared a reimagined tax regime, a move seen by financial experts as geared to boost its fast-paced adoption. These tweaks will come into effect for the financial year that falls between April 2023 and March 2024 (FY 2023-24).
So, which tax regime should Sanjana choose? It depends upon several factors.
Which tax bracket does Sanjana belong to? What exceptions does she plan to make? The new tax regime has made changes to many of the claims and exceptions that Sanjana could have made in the old tax regime. For example, Sanjana can no longer make any claims relating to house rent allowance (HRA) or leave travel allowance (LTA).Many other exceptions have also been ruled out, for example, deductions under section 80TTA, which dealt with the income you got from the interest on your savings account, are no longer applicable in the new regime.
Other claims, which could be made under the old regime, include deductions under other sections like section 80D, which covers deductions when you make payments towards medical insurance premium and medical expenditure in a financial year. There are also other deductions which have been discontinued in the new regime.
To sum up, the old tax regime promoted a savings mentality and encouraged investments in specific tax-saving instruments like unit linked insurance plans (ULIP) to help you save money for the big milestones in life like marriage, child’s education or even for an emergency.
The new tax regime, on the other hand, aims to promote a consumption mentality. By doing away with several claims and deductions, the compliance burden on the taxpayer has been reduced as with much lesser claims and deductions to file one would invariably end up with less paperwork. The new tax regime aims to increase the disposable income that people have in their hands.
Apart from providing an upward thrust to consumption, the new tax regime also aims to simplify the entire tax landscape and make it easier for young salaried professionals like Sanjana to file their taxes.
So, which tax regime is better for Sanjana? Sanjana belongs to the 30% tax bracket with her annual salary exceeding Rs 15,00,000, so for her arguably the new tax regime is better as it offers a lower tax rate, however, this is under the assumption that Sanjana has no claims or exceptions to make under any of the provisions like HRA and LTA. Again, it is very important that Sanjana decides which regime to use based on the specific financial goals that she has. If Sanjana has made investments in instruments that help in wealth creation and which also has tax-saving implications, then Sanjana should opt for the old tax regime.
Now that we have a general idea about the various incentives that the old and the new tax regime provide, it is time to look at some of the popular investment options that have substantial tax-saving benefits that millennials like Sanjana can opt for and how they will be treated in the new regime.
Equity Linked Savings Schemes (ELSS): As we saw earlier, the new tax regime does away with tax deductions, instead it opts for a substantial increase in the tax rebate that the old tax regime offered—from Rs 5 lakhs to Rs 7 lakhs. A financial service provider like StockHolding offers a host of mutual funds such as ELSS, through which you can invest in equities which, in essence, is your garden variety equity MF scheme. However, they have a lock-in period of 3 years and receive favourable tax treatment under the old regime.
Under the old tax regime, investments up to Rs 1.5 lakhs are tax deductible and this was the main reason why ELSS was so popular. With tax deductions gone, the new tax regime prioritises a much simpler tax structure which is both easy to file and implement. Millennials like Sanjana need to stop seeing ELSS schemes as a last-minute tax saving option and start considering it as a wealth creation route which also builds financial discipline.
National Pension System (NPS): Regulated by the Pension Fund Regulatory and Development Authority (PFRDA), NPS is a pension scheme for Indian citizens from 18 years of age to 70 years of age. It serves the dual structure of investment and tax savings. StockHolding as a Point of Presence (POP) enables you to seamlessly open your NPS account through them. Millennials like Sanjana can invest in both equity and debt (both corporate and treasury bonds) and avail of tax benefits.
To sum up, the overarching theme is that the old tax regime incentivizes a savings-centric culture through a focus on investment to be eligible for deductions and secure your future through wealth creation. Basically, while the old tax regime would reduce your taxable income through products like ELSS, NPS, health insurance etc., the new tax regime is focussed on increasing the rebate in favour of a consumption-focussed tax structure.
Whatever your choice, it is essential to understand the basic differences between the two regimes and how each suits your case.