From whatever one had read or heard so far, the Union Budget might bring in some significant, progressive changes to the savings and investment-related aspects of income tax. Of course, it's possible that none of these may actually happen. January is traditionally the time when the finance ministry paints rosy visions of the future, most of which are dashed to the ground by the end of February. However, if there's one year when one has some reason to hope for the best, it is 2013. Last year, with the terrible fiscal situation and the prevailing back-to-the-seventies attitude in the government, there was little expectation of anything positive on this front and the budget definitely didn't belie the low expectations.
This year, the atmosphere is quite different and one can genuinely hope for something more meaningful. From the indications so far, here's superset of the changes one can expect. 1) Increase in the section 80C investment limit from Rs 1 lakh, perhaps to Rs 1.5 lakh. 2) Inclusion of the Rajiv Gandhi Equity Savings Scheme in the investments permitted under 80C. 3) An exemption aimed at pension products from mutual funds, either as part of the 80C limit or separately. 4) Removal of long-term capital gains for returns earned from infrastructure bonds.
Unlike some earlier years, the changes seem sharply focussed on encouraging tax-payers to invest more, rather than just on tax-relief, which is welcome. If one discounts gold and property and counts only financial instruments, most Indians are under-invested. We invest only to the extent that will get us tax relief. In fact, if the government were worried about balancing tax revenue foregone with encouraging investments, then it would be best to create another tier of 80C that is larger but with a correspondingly lower tax relief.
Here's an example. Currently, investments made under 80C are deducted from one's taxable income. If the limit is raised from Rs 1 lakh to 1.5 lakh then the revenue foregone would go up by 50 per cent. However, the FM should instead raise the limit to Rs 2 lakh but allow only 50 per cent deduction above the Rs 1 lakh limit. This would mean the same revenue foregone but encourage double the investment. It would also lead to double the long-term benefit that the investor would derive from returns on the investments—a win-win situation for the saver as well as the government.
Of course, it is another matter that keeping the 80C limit frozen for years on end is fundamentally unfair. Compared to when this limit was fixed, the value of Rs 1 lakh is now down to less than half. Back in the late nineties, Rs 1 lakh was a lot of money and many middle-class taxpayers were unable to exhaust the limit. The 80C limit should ideally be linked to the cost-inflation index and thus be automatically revised upwards every year.
The idea of pension-linked exemption is also a great one, provided these investments flow into equity-linked products and stay locked-in till retirement age. However, it would be best if the pension investments are tracked through a pension account, rather than a fixed investments that stays locked into a specific fund. This 'retirement account' idea was actually mooted in the first draft of the DTC but was subsequently dropped because it was thought to be too complex to implement. Surely, that's not actually true.
The move to include the Rajiv Gandhi Scheme in 80C would be interesting and would in fact rescue it from irrelevance, provided savers could use it every year instead of only once in a lifetime.
All in all, savers and personal finance advisors have a lot of reasons to look forward to what Mr Chidambaram will reveal. Certainly, if these measures are taken, there will be a boost to investments flowing in to long-term investments. And who knows, perhaps some reduction in the amount flowing into gold.