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Minus Social Security : EET=Inequity

Hard Hit Small Salaried Deserve Lower Starting Tax Rates!

Both Employment & Retirement Made More Taxing!

  • Allowances & Perks – no longer exempt: House rent allowance (HRA), leave travel concession (LTC), medical reimbursement, value of free or concessional medical treatment and children’s education & hostel allowance.
  • Puny deductions that will still continue: Professional tax paid, transport allowance to the extent prescribed and prescribed special allowances to meet expenses incurred for official duties.
  • Retirement may not be as relaxing: Leave encashment on retirement, to be fully taxable.
  • VRS compensation, death or retirement gratuity and commutation of pension to be exempt, only if deposited in a Retirement Benefit Account (RBA).
  • However, any amount drawn from RBA (including PF contributions and accretions after 1st April, 2011) under any circumstances to be treated as taxable in the year withdrawal.

After going through the proposed provisions of the Direct Tax Code, an employee due for retirement after 1st April, 2011 may well pray that he can bid farewell to his employment by 31st March, 2011. This is because he can currently pack up with a big bunch of exemptions; leave encashment upto Rs.3,00,000, gratuity upto Rs.3,50,000, one third commutation of pension and if receiving a golden handshake, upto Rs.5,00,000 by way of VRS.

Conditional Exemption for Retirement Dues

While the Code has proposed to fully tax leave encashment, the exemption for VRS, gratuity and pension commutation has been made conditional, subject to all these balances being deposited in the Retirement Benefit Account (RBA). The accretions in RBA will also remain untaxed until accumulated therein.

However, the bad news is that any amount received or withdrawn from RBA (including PF contributions and accretions after 1st April, 2011), under any circumstances (including death of the account holder) will be treated as taxable in the year of receipt or withdrawal and taxed as regular income of the taxpayer at his applicable marginal rate. This change in taxation is keeping in view the new model of EET (as explained in this column on August 24) for taxing the retirement savings of a salaried employee.

EET how far justified in the Indian scenario?

It needs to be borne in mind that the EET model of taxing long term savings is prevalent in several western countries, which also offer to their taxpayers the simultaneous safety cover of the social security net and medical attention. The extent of equity in the system of EET in a country like India, where taxpayers post retirement do not enjoy any benefit of social security or even the shelter of free or concessional medical treatment from the State, is a highly debatable issue.

A small salaried Indian taxpayer today plans his post-retirement life style, depending on his anticipated earnings from the package of exempt terminal benefits such as PF, gratuity etc. With no back up of any social security coverage, how can he afford to lock up his life’s hard earned savings and earnings in RBA as proposed, and take a tax knock every time he needs to draw any fund for his exigency. And what about a situation where on his sudden death, his widow too is required to bear this tax brunt?

With his short term life insurance proceeds also not fully tax secure (as explained in this column on August 20) after the commencement of the Code, the poor retiree is far more vulnerable to the grave tax risks under the EET model as proposed.

Salaried robbed of their exemptions

For those in employment, the Code has proposed to strip off a big bunch of their current exemptions, including house rent allowance (HRA) upto 40% or 50% of their salary, biannual leave travel concession (LTC) for family holiday travel in India, medical reimbursement of upto Rs.15,000, unlimited value of free or concessional medical treatment for the family and children’s education of Rs.1,200 per child and hostel allowance of Rs.3,600 per child.

Infact, the Code now proposes to allow only a few small deductions in respect of professional tax paid, transport allowance to the extent as may be prescribed and some special allowances as may be notified, to meet expenses incurred for official duties.

Small Salaried Worst Hit!

With the vanishing of the above referred exemptions for perks and allowances and the abolition for the incentives for housing (as explained in this column on August 20), a small salaried drawing annual salary upto Rs.3,00,000, will be hit most hard by the Code. This is because, on one hand, he will lose so much on account of the host of exemptions and deductions proposed to be abolished, but on the other hand gain nothing, since there is no tax relief proposed in the initial 10% income-tax slab as applicable in his case. Even the taxpayers in the current 20% bracket, drawing annual salary of Rs.3 to 5 lakhs, may not have much reason to smile, in view of their loss not being in a position to offset their gain.

Plea for start with lower tax rates

To maintain the balance of equity in favour of the smaller taxpayers drawing annual salary of upto Rs.5 lakhs, it must be strongly pleaded that the tax rates as proposed under the Code should be restructured to start with a 3% tax rate on taxable income upto Rs.3,00,000, 5% tax rate for income between Rs.3 to 5 lakhs and then scale up to 10% for the taxable income range of Rs.5 to Rs.10 lakhs.


1. Is the EET model of taxing savings equitable in the Indian context, where taxpayers do not enjoy any shelter of social security or medical attention?

2. Small salaried having been deprived of a host of exemptions and deductions under the Code, would you support the plea for restructuring of tax rates starting with 3% and 5% for taxable incomes uptoRs.5 lakhs?

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