D M Deshpande
The Union Budget for FY26 has indeed come as a boon to the entire class of middle class income earners in India. Accordingly, no tax needs to be paid in respect of incomes up to Rs 12 lakh per year earned by salaried class and small business owners.
However, there appears to be some confusion regarding the terms used, such as exemption limit, rebate and marginal relief. Even as the finance minister has announced tax free incomes of Rs 12 lakh, the revised tax slabs show tax to be paid on incomes from Rs 4 to Rs 8 lakh at the rate of 5 per cent, and incomes between Rs 8 to Rs 12 lakh attracts 10 per cent. This is due to a provision of the Income Tax Act u/s 87A which offers a rebate for tax payers. As a result, incomes up to Rs 12 lakh become tax free.
The income tax exemption limit refers to the threshold up to which there is no tax liability nor is there an obligation to file tax return. This is the basic exemption limit which for the current year is Rs 3 lakhs; it has now been hiked to Rs 4 lakh in the budget for FY 26.
Both these limits relate to new tax regime which is the default choice for those filing returns. In the current financial year, those who are earning incomes up to Rs 7 lakh per year need not have to pay any tax. Rebate takes care of those earning above Rs 3 lakh but below Rs 7 lakh, which makes their tax liability nil.
The upper limit of income has been hiked to Rs 12 lakh per year for the next financial year 2025-26. Again the rebate will ensure that there will be no tax liability. For example, income of Rs 12 lakh show a total tax liability of Rs 60,000 which will be fully covered by the rebate. There is a saving in tax to the tune of Rs 80,000 compared to the last fiscal on the same income.
Why a separate rebate? Instead the basic exemption limit could have been increased to say Rs 12 lakhs. By this too, the tax liability could have been zero. However, a rebate is a via media; it still keeps those earning above Rs 4 lakhs in the tax net. This is important since the government is always keen on expanding the tax payers net. Moreover, the revenue foregone is higher when basic exemption limit is hiked. Now, it gets some tax income from two slabs for those earning above the Rs 12 lakh threshold.
Another issue that has engaged the minds of several readers is with regard to income earned in excess of Rs 12 lakh and the impact it has on the total tax liability. The salaried class have a further cushion of Rs75,000, which is allowed as standard deduction. This category of persons may, subject to certain conditions, claim further deduction in respect of NPS contribution made by the employer up to a maximum of Rs 1 lakh.
It is interesting to calculate the tax liability of a person whose net taxable income (after deducting standard deduction and NPS, if applicable) is Rs 12.1 lakh annually. He/she will not be eligible for rebate as the income exceeds Rs 12 lakh.
As per the proposed slabs, tax liability comes to Rs 61,500. This is highly illogical as just 10,000 income ought not to attract more than six times tax liability. Hence, there is a provision under section 115 BAC (1A), referred to as marginal relief. The application of this will bring down the tax liability to Rs 10,000.
The objective of this provision is to protect tax payers from huge payouts as a result of marginal increase in income earned. That the tax liability shall not be greater than the income exceeding the Rs 12 lakh threshold. Accordingly marginal relief is worked out as 61,500-10,000, that is, Rs. 51,500.
Similarly, on Rs.12,50,000 taxable income, the tax payable comes to Rs.50, 000 after marginal relief; without such relief the liability works out to Rs.67,500. At what level of income does the application of marginal relief stop?
Let us take the example of taxable income of Rs. 12,75,000; while the income has gone up by Rs 75,000, the tax liability works out a lesser Rs.71,250. Marginal relief in this case cannot give any benefit to the tax payer. So, at this level of income, marginal relief becomes counter productive and is not applied. To be more precise the breakeven level is reached at a taxable income of Rs 12,70,588 where the tax liability and the income in excess of Rs 12 lakh are the same.
Finally, these provisions of rebate and marginal relief are applicable in respect of income earners who are charged with normal rates. In other words, capital gains, income from lotteries etc attract special rates and are not covered under rebate and marginal relief.
Both of these provisions were there last year too, that is to say, they are not new provisions. For example, since income up to Rs7 lakh was announced as tax free, rebate for the current financial year covers this amount. However, for the next fiscal, there will be no need to pay tax on income up to Rs 12 lakhs and hence rebate too has been increased accordingly. Similarly marginal relief too was in operation last year.
Rebate under section 87A is an innovation that balances the interests of both the tax payers and the government (in terms of tax revenues) and is welcome. Marginal relief is an enabling section that is pragmatic and logical.
The author has four decades of experience in higher education teaching and research. He is the former first vice-chancellor of ISBM University, Chhattisgarh.
