Capital gains tax, STT, education cess may be hiked

The past three years can be considered as "Dream Years" for stock market investors. Apart from the rise in indices, they have also been blessed with extremely positive changes on the taxation front. As the Union Budget approaches once again, there is hope and fear in the hearts of investors. Here is a lowdown on some of the expectations:

1. Capital gains tax

Expectation: Increase in short term capital gains tax from 10 per cent to 15 per cent

There is a belief that pressure from the Left will compel the government to do this. This, however, seems unlikely as revenues from doing so, will not be substantial. Also, it may adversely impact market sentiment.

There is also a hope that shares purchased through buybacks will be eligible for the same preferential long- and short-term capital gains tax structure (subject to the companies involved paying the Securities Transaction Tax) even though the transaction is not conducted on stock exchanges. I think that such a provision should not be difficult to implement, and so should be seriously considered.

2. Securities Transaction Tax and Education Cess

Expectations: There is a likelihood of a small increase here.

Taxpayers may not grudge this, as long as there is no tinkering with the capital gains tax rates. April 2006-January 2007 has seen 90 per cent rise in STT collections. Despite this, there has been no feedback that the rates are crippling and need to be reduced.

Although the percentage of education cess may not be increased amid reports that the existing amount has still not been fully utilised, a hike may occur in the next Budget.

3. Service Tax

Expectations: More services in the net with a hike in rates While there is a fear that rates may be raised from 12 per cent to 14 per cent, the likelihood of an increase has reduced recently.

The government, plagued as it is with rising inflation, does not want inflict additional indirect tax burdens, which may boost inflationary pressures. More sectors may have to pay this tax from next year onwards.

Dividend Taxation No changes are envisaged on this front.

4. A few personal finance-related expectations

There are demands that the Section 80C exemption limit should be doubled to Rs 200,000 coupled with an increase in the basic exemption limit to Rs 200,000.

While exemption limits may not be increased, we may see a small rise in the 80C limit (to around Rs 120,000). The best way to curb such speculation would be to increase the limit each year in an inflation-adjusted manner.

5. Administered rate increases
 
Expectations: Increase in administered rates for small savings such as public provident fund.

While senior citizens may be nursing hopes of a further increase, the government is doing its utmost to discourage further accretions into such schemes. However, first steps towards a market-determined rate for such schemes may be taken.

There may, however, be the removal of the TDS provision on Senior Citizens Bonds, considering the hue and cry against it recently.

6. Extension of the EET regime

The extension of the EET (Exempt-Exempt-Taxed) regime to Equity Linked Savings Schemes is likely, in order to bring them on an equal footing with other schemes eligible for 80C benefit. However, the government may not yet bite the bullet and extend it to PPF.

There is a demand from banks that bank deposits eligible for 80C benefit should see reduced lock-in of three years instead of five years so that that they can compete with tax saving mutual funds such as ELSS. The government may not accede to this, as banks are now finding it easier to attract deposits, given the rising rate environment.

Let me end by saying that most of the major changes have already taken place in earlier Budgets. Hence, do not expect anything other than tinkering around with some provisions.

Let us just hope that there are no unpleasant surprises on February 28.

Expectations

• The government may not increase the capital gains tax as it may adversely impact market sentiment and it would not be able to garner revenues
• Even though the securities transaction tax has been seeing a steady increase, there has been no feedback that the rates are crippling and need to be reduced
• Even if more services are brought into the net of service tax, the government would hesitate to increase it from 12 per cent to 14 per cent as it may boost inflationary pressures

The writer is vice-president at Parag Parikh Financial Advisory Services .