The top line of Union Budget 2010-11 looks great from a savings and investment perspective. This is amply clear from the reaction of most salary earners, as well as the stock market. However, whether the fine print of the Budget holds the kind of unpleasant surprises that some earlier ones have had remains to be seen. On day zero, the huge reduction in income tax outgo is what is holding the attention of most of us on a personal level. This upward move of the tax slab is welcome, and so is the re-articulation of the time-table on the Direct Tax Code (DTC). Indeed, less tax will be one clear outcome of the DTC and in that sense the current move is in the right direction.
However, I’ve always felt that the very concept of fixed tax slabs is unfair. The increase of tax slabs should be linked to some sort of a cost-inflation index. If so many other numbers in the tax system can be percentages that go up automatically as the underlying value increases (including the amount you pay as income tax), then why shouldn’t the exemption limit and the slabs go up automatically with inflation?
The reduction of the effective tax rate through broadening of the slabs is not the only route through which people will save on taxes. There is also a new, Rs 20,000 deduction from taxable income that has been added to the existing Rs 1 lakh deduction under Section 80C. To use this new tax-break, tax-payers will have to invest the money in infrastructure bonds. This is good in that it saves money, but I don’t quite like the fact that the government has again started specifying where one should invest money to get tax-breaks. Earlier, the government used to divide the Rs 1 lakh of tax-saving investment into separate slabs, each meant for a different type of asset. Effectively, the tax system specified how much you could put into equity and how much in what kind of debt regardless of your financial profile. In the 2005 Budget, the law was changed so that each investor could decide his own allocation. Also, I’m not sure whether the primary problem for infrastructure today is so much a lack of debt financing or something else. Anyhow, the fact remains that come April 1, all of us will face tax deductions that will be smaller by a pleasing margin, leaving aside more money to buy more expensive petrol and diesel. And of course, the government should also change this Rs 1 lakh limit to one that automatically adjusts upward with inflation.
One of the more interesting moves in the Budget is the one to kickstart the New Pension System (NPS). The NPS is the best way for small savers to build up some financial security for retirement. However, the scheme has proven difficult to market. In the absence of commission-earning agents, there’s no one to sell the NPS. Now, the finance minister has unveiled a truly innovative way of attracting lower-income unorganized workers into the NPS. Instead of spending money on something like an ad campaign that will not reach the intended audience, the government has decided to give what amounts to a joining gift to this category of potential saver.
In what must be a first of its kind, the government will basically give a gift of Rs 1,000 per year for three years. This scheme is open only to those who deposit less than Rs 12,000 per year and start their account in 2010-11. This is a brilliant instance of paying direct subsidy in a way that is designed to encourage people to save. Since this is a pension system, the money is not available till it’s usable as a pension on attaining retirement age. For a young person, this Rs 3,000 welcoming gift from the NPS would grow manifold till the time retirement comes. This scheme could well be the impetus that the NPS needs to do its job.
The stock market has given a huge thumbs-up to the Budget, although by the end of the day, the markets’ enthusiasm had become a lot more tempered than it was at the time when the speech ended. At a macro level, this enthusiasm seems to stem almost entirely from the promise of controlling fiscal deficit to 5.5 per cent, with expenditure control playing a major role. But let’s not forget that this 5.5 per cent is a Budget estimate, nothing more than a projection of what the government is saying will happen. Whether this is actually achieved will be another story.
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