Direct Tax

 

Direct Tax refers to taxes that are levied directly on an individual or organization's income or wealth and are paid directly to the government by the taxpayer. The most common forms of direct tax include Income Tax, Corporate Tax, Wealth Tax, and Capital Gains Tax. Unlike indirect taxes, such as GST or sales tax, direct taxes are paid directly to the government by the individual or entity upon whom the tax is imposed, without any intermediary.

Key Types of Direct Taxes in India:

1. Income Tax:

   • Levied on: The income earned by individuals, Hindu Undivided Families (HUFs), firms, and other entities.
   • Eligibility: Individuals, companies, and organizations earning income above a certain threshold are liable to pay income tax.
   • Tax Slabs: In the case of individuals, income tax is applied based on tax slabs, which differ based on income levels, age, and the type of taxpayer (e.g., individuals, HUF, firms).
   • Filing of Returns: Taxpayers are required to file an Income Tax Return (ITR) annually, declaring their total income, exemptions, deductions, and tax liabilities.

   Example of Tax Slabs for Individual Taxpayers (for the financial year 2023-2024):

   • Up to ₹2.5 lakh: Nil
   • ₹2.5 lakh to ₹5 lakh: 5%
   • ₹5 lakh to ₹10 lakh: 20%
   • Above ₹10 lakh: 30%

   Additional Surcharges: High-income earners may be subject to surcharges and a 4% health and education cess on the total income tax liability.

2. Corporate Tax:

   • Levied on: The net income or profit of companies.
   • Domestic Companies: In India, domestic companies are taxed at a flat rate of 22% without any exemptions, with certain lower rates for specific sectors or small companies. If a company opts for exemptions and deductions, the rate can be 25% or higher, depending on turnover and income.
   • Foreign Companies: Foreign companies are taxed at a rate of 40%.

   Special rates may apply to startup companies or companies in specific sectors like manufacturing or production, which are subject to lower tax rates under certain government initiatives.

3. Capital Gains Tax:

   • Levied on: The profit earned from the sale of a capital asset such as property, stocks, or bonds.
   • Types:
     • Short-Term Capital Gains (STCG): If the asset is sold within a short period (less than 3 years for property and less than 1 year for stocks), the gain is considered short-term and taxed at a higher rate.
     • Long-Term Capital Gains (LTCG): If the asset is held for a longer period, the gain is considered long-term and taxed at a lower rate (typically 10% for certain assets such as stocks above ₹1 lakh in gains).

   Exemptions: Certain investments or exemptions under Section 54 (for residential property) can reduce or eliminate capital gains tax liability.

4. Wealth Tax (Now Abolished):

   • Levied on: Previously, wealth tax was imposed on the net wealth (including real estate, jewelry, etc.) held by individuals and HUFs exceeding a certain threshold.
   • Abolished: It was abolished in 2015 and replaced by a surcharge on high-income individuals.

5. Gift Tax:

   • Levied on: Gifts received above a certain value. Gifts exceeding ₹50,000 in a financial year are taxable in the hands of the recipient.
   • Exemptions: Gifts received from relatives, during weddings, or through inheritance are generally exempt from gift tax.

6. Dividend Distribution Tax (DDT):

   • Levied on: Earlier, companies distributing dividends to shareholders were required to pay Dividend Distribution Tax. However, DDT has been abolished from April 2020, and now the dividends are taxed in the hands of the recipient at applicable slab rates.

Characteristics of Direct Taxes:

1. Paid Directly by the Taxpayer:

   • The burden of direct taxes is borne directly by the individual or entity paying the tax. There is no intermediary or transfer of the tax burden to others.

2. Progressive in Nature:

   • Direct taxes, particularly income taxes, are progressive in structure. This means higher income earners pay a larger proportion of their income as tax compared to lower income earners.

3. Based on the Ability to Pay:

   • Direct taxes are based on the principle of ability to pay, meaning those who earn more are required to pay a higher rate of tax.

4. Imposed on Wealth and Income:

   • Direct taxes are levied on both the income of individuals and organizations as well as wealth in certain cases.

Advantages of Direct Tax:

1. Equitable: Direct taxes promote fairness and equity as individuals and corporations pay tax based on their income and financial capability.
2. Discourages Unnecessary Spending: Since the tax rates increase with higher income, taxpayers might be inclined to save and invest wisely to reduce their taxable income.
3. Revenue Stability for Government: Direct taxes provide a reliable source of revenue for the government to fund infrastructure, social programs, and public services.
4. Prevents Income Inequality: Progressive tax rates help reduce income inequality, as higher-income individuals contribute more to the nation's resources.

Disadvantages of Direct Tax:

1. Complexity: The tax system, including various tax slabs, exemptions, and deductions, can be complex for taxpayers to navigate.
2. High Evasion: Direct taxes can encourage tax evasion, especially when taxpayers seek to underreport income or manipulate expenses to avoid paying higher taxes.
3. Administrative Burden: Direct tax collection requires substantial administrative effort, including tax assessments, audits, and compliance monitoring.

Recent Changes in Direct Tax (India):

• New Tax Regime (Optional): From FY 2020-21, a new optional tax regime with lower tax rates was introduced, but it eliminates most of the exemptions and deductions (such as Section 80C, 80D). Taxpayers can choose between the old and new regimes depending on their financial situation.

  • New Regime Tax Slabs:
    • Up to ₹2.5 lakh: Nil
    • ₹2.5 lakh to ₹5 lakh: 5%
    • ₹5 lakh to ₹7.5 lakh: 10%
    • ₹7.5 lakh to ₹10 lakh: 15%
    • ₹10 lakh to ₹12.5 lakh: 20%
    • ₹12.5 lakh to ₹15 lakh: 25%
    • Above ₹15 lakh: 30%

• Faceless Assessment: To reduce harassment of taxpayers and to ensure greater transparency, the Indian government has introduced faceless assessment and faceless appeal mechanisms for direct tax collection. This initiative aims to minimize human interaction between taxpayers and tax authorities.

Filing Direct Taxes:

• Income Tax Filing:
  • Individuals and companies must file income tax returns annually. The filing process can be done online through the Income Tax Department’s official portal.
• Corporate Tax Filing:
  • Corporate tax returns are filed by companies, typically after calculating their profit for the financial year, deducting allowable expenses, and applying any applicable tax credits.

Conclusion:

Direct taxes are a crucial component of the tax system in any country, particularly in India. They ensure that individuals and corporations contribute fairly to the government’s revenue, which is used for national development, welfare schemes, and public services. While direct taxes can sometimes be complex and burdensome, they are essential for ensuring fiscal responsibility and promoting social equity through progressive taxation.