Direct Tax

List the Direct Taxes in India:

1.
2.
3.
4.
5.

Income tax Act,1961

Wealth Tax ,1957
Expenditure Act,1957
Gift Tax Act
Estate Duty
List the Indirect Taxes in India:
1. Excise Duty
2. Sales tax
3. Customs Duty
4. Octroi
5. Service tax

1.
2.
3.
4.

General qs on taxation
Which are the two systems of Indian direct taxes.
What is progressive system of taxation.
What is meant by integrated system of taxation
Who suggested that india should adopt integrated system of taxation

ANSWERS to q 1,2,3,4.
The two systems of Indian direct taxes are broadly classified into:
1. Progressive System of Taxation
2. Integrated System of Taxation.
1. Progressive System of Taxation:
Progressive system of direct taxation is a system in which proportion of tax increases more than
proportionately of the amount which attracts the tax.
i.e it is a system of taxation in which the tax rate increases as the taxable base amount increases.
The term Progressive refers to the way the tax rate progresses from low to high.
The term is frequently applied in reference to personal Income tax.
Example: Slabs
(i) GENERAL:
TAX
First Income of Rs.2,00,000
NIL
On Income of Rs2,00,000 to 5,00,000
10%
On Income of Rs.5,00,000 to 10,00,000
20%
On Income over Rs.10,00,000
30%
(ii) SENIOR CITIZENS (60 years)
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Income upto Rs.2,50,000

(ii)

NIL

Very senior citizen (80 yrs)

Income upto 5,00,000

NIL

Therefore,
On
On
On
On
On

Rs.2,00,000
Rs.3,00,000
Rs.5,00,000
Rs.8,00,000
Rs. 10,00,000

NIL
No Tax
Rs. 10,000
10%
Rs. 30,000
20%
Rs. 90,000
(30,000+60,000)
Rs. 1,30,000
(30,000+1,00,000)

In Statistics, we have Progression .Hence the World Progressive.

2. Integrated System of Taxation:

We have had the following Direct Taxes from time to time :

The Income Tax Act, 1961 (1922 Act)

The Expenditure Tax Act, 1957
The Gift Tax Act, 1958
The Wealth Tax Act, 1957
The Estate Duty Act, 1953

Highest marginal Income Tax rate in the financial year 1973-74 was 97.75% + 3% Wealth tax which
together exceeded 100% of a tax payers income. Not thru error but by design. Socialistic Pattern of
Society of P. Nehru.
Professor Nicolas Kaldor, an eminent English Economist from UK at the invitation of Pandit Nehru,
our first Prime Minister, came to India in 1956 and studied our Indian Tax system and submitted his
Report titled Indias Tax Reform.
He noticed that we in India in our wisdom had imposed income tax on income by virtue of Indian
Income Tax Act, 1922 and also imposed Estate Duty by the Act of 1953, modeled on English Death
Duty Act on property passing on death.
In order to plug a loophole in the Estate Duty Act through GIFTS prior to the death of the person, he
suggested levy of Gift Tax on Gifts during the life time of the tax payer.
Similary, to plug loophole in our Income Tax Act, he suggested levy of Wealth Tax on our Wealth.
Wealth is Income saved after payment of tax and spending it on our needs.
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Wealth put to productive use generates income e.g. FD with a Bank Rs.2,00,000 @ 10% =
Rs.20,000 income per year.
There is a direct relationship between Income and Wealth and hence a check through a tax on
Wealth serves automatically as a check over the Income.
On the same principle, a persons expenditure is a good guide of a persons income. Hence, the
expenditure tax on expenditure incurred.
Rationale was that if a person filed his Return of Income, Return of Wealth, Return of Gifts and Return
of Expenditure, Income Tax Officer would be in a better position to make a meaningful assessment of
his Income and collect proper and full income tax on his true income.
These taxes could be summarized as follows:

If we earn income, we pay Income Tax;

If we spend that income, we pay Expenditure Tax;
If we gifted that income, we pay Gift Tax;
If we retained that income, we pay Wealth tax; &
If we died leaving behind that wealth, there was Estate Duty to be paid on it.

However,
1. Expenditure tax was abolished
2. Estate Duty w.e.f.
3. Gift Tax w.e.f.
4. Wealth Tax diluted w.e.f.

01.04.1960
15.03.1985
01.10.1998
01.04.1992

Expenditure tax was removed because cost of collection of tax exceeded the tax itself. Same for Estate
Duty.

However, real reason for deleting Estate Duty was that it prevented NRIs to keep deposits in India and
invest in India because estate duty was payable on such funds even if NRI died outside India. (Indian in
Dubai moved by Mrs. Indira Gandhis appeal).

As of today in Feb, 2014 we have now the Income Tax Act, 1961 and Wealth Tax Act, 1957

Qs on Income tax Act

5. What is the rationale for granting basic exemption from income tax
6. Why income tax on Rs. 3,00,000 is Rs.10,500 and on Rs. 6,00,000 it is Rs.51,500 and not Rs. 21,000/(10,500*2)
Progressive System of Taxation (See the answer above).

7. What is surcharge and why is surcharge imposed?

Sur Charge is a portion of tax. Tax is portion of Income. It is always a percent of Tax while tax is per cent
of Income.
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Only for a special specific purpose, hence technically temporary. It does not disturb the basic rates of
10,20 & 30%.
Now Payable by only companies at 5% if income exceeds Rs. 1 crore
It is imposed for raising funds for calamities like say Bangladesh War, Kargil War, Super Cyclone of
Orissa, Gujarat Earthquake of 26 Jan 2000 and Tsunami of 26 Dec 2004
Surcharge collection not shared with the States and remain only with the Central Government
Northcote Parkinson in the Laws, Outlaws & Inlaws: All levies, when imposed, temporary and on a
modest scale! Become Permanent and increase

8. Gift Tax act was imposed to plug a loophole in Estate Duty Act of 1953. What was the loophole and
how Gift Tax Act Plugged it?
Estate Duty is charged on the day of inheritance of the estate.
Loophole: Suppose, if A after paying his wealth tax, has gifted his property to his son B. Now if A
dies, B has to pay only wealth tax and not estate duty. Therefore to fix this loophole gift tax was
introduced.
9. Explain the relationship between income and wealth and how wealth tax act works.
Wealth is Income saved after payment of tax and spending it on our needs.
Wealth put to productive use generates income e.g. FD with a Bank Rs.2,00,000 @ 10% = Rs.20,000
income per year.
There is a direct relationship between Income and Wealth and hence a check through a tax on Wealth
serves automatically as a check over the Income.

10. Which are the 5 items on which wealth tax is payable.

11. What is the basic Exemption under the wealth tax act and what is the rate of tax?
Answers to 10 & 11:

Wealth Tax is levied on market value of the following assets owned by the Tax Payer (Individuals,
HUFs(Hindu Undivided Family), Companies).
Wealth could be something gift to me or my money saved on income. Basically you need to sum up all the
wealth you have and the Wealth tax is charged on that value.
Wealth tax was abolished on all items of productive wealth (Example: Investment of Stocks or Equity shares,
All F.Ds etc).
On all Unproductive Wealth, Wealth tax is chargeable.
The 5 items on which wealth tax is payable are as follows:
1. Vacant land (Not being agricultural)
2. Jewellery (Gold, Diamonds, Silver, Precious Stones) (Sarabhais)
3. House Property (ONE house is Exempted. Say if you have 3 houses and you have to pay taxes on the
remaining 2 houses.)
4. Motor Car (Infosys) ,aircraft, boat. (Not being for hire or leasing)
5. Cash over Rs.50,000(if you have 60,000 then only 10,000 is chargable)
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Wealth Tax is @1% of the market value of Wealth exceeding Rs.30 Lacs every year .i.e Intial 30 lacs of
wealth is exempted and above 30 lacs wealth tax is charged @1%.
Example: suppose you have 1 Crore wealth, 1st 30 lacs 0 wealth tax and above 30 lacs you would be
charged tax.

12. What is donor based Gift tax and what is donee based gift tax?
The Act was brought into force to impose tax on the act of giving or receiving gifts under certain circumstances as specified
by the Act.

In Gift Tax System, earlier it was the donor who paid taxes because he has saved on the other 4
taxes.
Income saved becomes Wealth. Wealth made to use for productive use generates income.
Gift tax which was donor based was abolished w.e.f. 1-4-1998.
However, Gift Tax came back through back door w.e.f. 1.9.2004 as Income Tax on gift of sum of
money over Rs.25,000 per year from non close relatives.
W.e.f 1/9/2004 gift tax has been levied on the receiver (donee) as his additional income and the
recipient pays the gift tax through the medium of income tax.
The limit on gift tax has been increased to 50,000. So suppose you get 60,000 worth of gifts then
out of this 10,000 would be taxable.
Also, all gifts from non-relatives are taxable.

13. How are gifts from non-relatives taxed?

14. Why gifts from relatives are exempt?
Answers to 13 & 14:
5 points to understand rules about income taxes on gifts:1. Upto Rs 50,000/year is not taxable:

The first major rule which every person should know is that there is no tax to be paid on
gifts received (cash or kind), if the amount of the gift is upto Rs 50,000 in a year. However if the total
amount crosses Rs 50,000 . Then you will have to pay the tax on the total amount recieved (not
additional). For example If a friend of yours gifts you Rs 30,000 in a given year, you dont have to
pay any tax on that amount, as its below the limit of Rs 50,000 .

Now suppose you also get Rs 20,000 after that, still you dont have to pay the tax as the total worth of
the gift you got in the year was Rs 50,000 till now (less than the limit of Rs 50,000) . But now, if
someone gifts you another Rs 10,000 . Your total gifts in a year is Rs 60,000, so you will have to pay
tax on the total amount of Rs 60,000 , not just on additional Rs 10,000 . This Rs 60,000 will be
included in your income and you will have to pay tax on this Rs 60,000, as per your tax slab. Note that
this is exactly how the written law is.

Since 1/10/2009, Section 56(2) has been amended and the scope of gifts will include even
immovable properties or any other property besides sums of money under its ambit.
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2. Any amount received by relatives is not taxable at all:

Another rule for income tax on gifts, is that any amount received from specified relatives is totally
tax free in the hands of recipient. So if a relative gives you gift in form of cash/cheque or in
consideration, you will not have to pay any tax on the amount received.
Following is the list of relations which are considered as relatives for this
Your spouse
Your brother or sister
Brother or sister of your spouse
Brother or sister of either of your parents
Any of your lineal ascendants or descendants
Any lineal ascendant or descendant of your spouse
Spouse of the persons referred in above points

Example So if you want to buy a house and your father/mother/sister/brother etc transfer Rs 20 lacs to
your bank account. You dont need to worry about the taxation part, because its a gift from your relatives
and you will not have to pay any tax on this amount. However its a good practice to do the documentation
for this, if the amount if pretty big like in this example. All you need to do is document this transaction on a
paper which clearly states that who transferred the money and the reason for it, along with the signatures of
both parties. In future, if there is any income tax scrutiny, this small piece of proof will be handy and will
help you a lot.
Important Note that, there is no income tax to be paid on the money received from relatives, however at
times income clubbing provisions may apply, for example, if a husband gifts Rs 10,00,000 to wife, there is
no tax to be paid by wife on Rs 10 lacs received, however when she invests that money and if any interest
income is generated, it will be clubbed with husband income.

3. Gifts received from Non relatives are taxable:

Here non-relatives means anyone who doesnt come under the above mentioned relation for you. In
this case you are tax exempt up to maximum of Rs.50000 for a financial year. If you receive the gift
worth more than Rs.50000, you are liable to pay the tax whatever you received excess of the limit.
This rule applies when the gift is a sum of money, whether in cash, by way of cheque, bank draft or
any articles which is value more than the Rs.50000.

For example you are receiving a gift of Company Shares from one of your team mate in your
company or when you are receiving a gift of Rs.100000 (cheque) for the best performing in your
company (not a bonus), Rs.50000 is liable to pay tax

4. Any amount received as Wedding Gift is not taxable:

One of the few advantages of getting married is that any amount you get, as wedding gift is not
taxable in your hands, either from relative or non-relative . So even if you get Rs 1 crore as
wedding gift from someone in your wedding, its not taxable in your hands.

Lets see some examples

Suppose if your spouse parents give you some gift worth Rs 10 lacs on marriage, it will be treated as a
wedding gift and will not be taxed. However, it is not clear by provision, whether the gifts should have
been on the exact date of marriage, or a few days before or later. Normally, it should be sufficient if
the gift is given just on the occasion of the marriage, means either on the day of the marriage itself or
a day or two before or after. Practical common sense view would prevail in such cases.

5. Gift Tax on Movable/ Immovable properties:

There is a valuation aspect involved in gifting of immovable properties
If the property is gifted without any consideration then if the stamp duty value exceeds Rs. 50000/-,
stamp duty value will be taken

If the property is gifted for a consideration, then the actual value of the property will be taken

In case of other properties:

If gifted without consideration and fair market value exceeds 50,000, then the fair market value will be
taken as the final value
If gifted for a consideration and the Fair Market Value (FMV) less consideration is greater than 50000,
then the FMV less consideration amount will be taken as the value of the gift.
5. No tax on the amount received through WILL or Inheritance
When any sum of money or any property is received under a will or by way of inheritance, it is totally
exempt from Gift Tax. So if you get a real estate worth Rs 50,00,000 and some other things worth Rs
30,00,000 through inheritance , you will not have to pay any tax on that amount received.

15. Explain the reasons for exempting capital gains on silver utensils.
While any gain on sale of any silver ornaments would attract capital gains tax for sure, would the position
be any different in case of silver utensils? It has been held by a number of Courts and Tribunals that
where silver utensils transferred by a taxpayer are ordinarily intended for personal or household use, such
silver utensils constitute personal effects and therefore, the profit or gain arising therefrom is not taxable
as capital gains.

In the definition of jewellery, only ornaments made of precious metal are included. Thus, items
other than ornaments, made of precious metals can be treated as personal effects provided they
are commonly and ordinarily used or intended to be used for personal or household use.
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Silver utensils of the type which were used in the kitchen or in the dining room of the assessee
were held to be personal effects and not capital assets.

But silver bars, sovereign, bullion and silver coins were held not to be effects meant for personal
use even if they are placed before Goddess Lakshmi at the timeof Puja. Items of silverware
including dinner plates of different sizes, finger bowls, jugs were held to be personal effects.

But at the same time, a large number of the same type of silver articles cannot be treated as
having been held for personal use and the assessing authority has to find out as to what are the
articles which should reasonably be held by the assessee for personal use.

Gold caskets, gold tray, gold cups, saucers, spoons and photo frames were not regarded as
personal effects intended for personal or household use.

The expression intended for personal or household use did not mean capable of being intended for
personal use or household use. It meant normally commonly and ordinarily intended for personal
or household use. It was further observed that merely because the gold caskets were kept in the
showcase, they could not be treated as part of furniture. In order to be a personal effect, it is not
essential that the person himself should use it every day, it is enough if it is used on ceremonial
occasions or as and when desired by the assessee.

Three Types of Ammendments:

(I) Prospective:
These come into effect from a future date e.g. on 28th Feb ,2014 FM amends section 37 to provide that
salary paid after July 1 2014 to any employee employed after 1.3.2014 over Rs 10 lacs per month will not
be allowed to be tax deductible
(II)Retrospective:
Those which come into effect from past date and completed assessments are redone.
eg. On 28.2.2014 FM says salaries paid from 1st April 2002 over Rs 10 lacs per month will not be allowed
to be tax deductible
(III) Retroactive:
Transactions/Contracts done in the past also affected but from the future date.
Eg on 28.2.2014, FM states that appointments made after 1.4.2002 and employees paid over Rs 10 lacs
p.m, will be disallowed after 1.7.2014.
Capital Gains: Capital gains arise when an in
dividual sells at a profit certain assets like property or shares or mutual funds or bonds etc The treatment of
such income is not the same as income from other sources.
There are two types of capital gains, viz Short Term Capital Gains or Long Term Capital Gains.
(a) Short Term Capital Gains: Capital gain is considered as Short Term Capital Gain, if immovable property is
sold / transferred within three years of acquiring the same. Similarly, if shares or other financial securities
such as mutual funds are sold within one year of purchase, the profit earned is treated as Short Term Capital
Gain.
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Short term capital gain is included in the gross taxable income and normal tax rates are applicable. However,
w.e.f. 1st October, 2004, the short term capital gains from sale of equity shares or units of equity oriented
mutual fund schemes are taxed only at a flat rate of 10%, irrespective of the tax slab on other sources of
income, provided securities transaction tax is paid on such sale.
(b) Long Term Capital Gains: Capital gain is considered as the Long Term, if the immovable property is
sold after three years from purchse, or financial securties such as shares, deep discount bonds, units of
open ended or close ended schemes of mutaula funds are disposed (i.e. sold / redeemed / transferred)
after holding the same for more than twelve months, then the gain is considered to be long term capital
gain.
Long term capital gains on transfer of listed shares / units of equity oriented mutual funds schemes has been
exempted from tax w.e.f. 1st October, 2004, provided securities transaction tax has been paid on such sale.
For assets other than the listed shares / units of mutual funds schemes, tax is payable in respect of long term
capital gains at a flat rate of 20% and the amount of gain has to be adjusted for inflation through indexation
benefit.
Long term capital gains tax in respect of bonds and debt securities or debt oriented mutual fund schemes listed
on stock exchanges is payable at a flat rate of 10% of the capital gains amount. In case an individual wishes
to avail the benefits of indexation, then tax has to be paid at normal long term capital gains tax rate of 20%.