There are two aspects to any set of budget expectations. There is the set of reforms that investors and tax payers ideally prefer. Then there is the more pragmatic angle concerning government revenues and the leeway it has to give sops to people. Budget 2021 presents a unique opportunity.
The fiscal position of the government is constrained due to the likely revenue shortfall of Rs700,000cr this year. Finance minister has a golden opportunity to introduce big-bang changes that can give a boost to consumption and spending. We look at 6 such expectations for equity markets in Budget 2021.
Give aggressive tax breaks to individuals
Nirmala Sitharaman has already indicated that there could be a number of positive surprises in Budget 2021. With incomes severely hit in 2020 due to the COVID pandemic and an urgent need to boost spending and consumption, the government may have to literally drive people to spend with apparent tax breaks.
A number of measures like raising the tax slab and enhancement of standard deduction are on the cards. While pragmatism will eventually rule, Budget 2021 could have a number of positive surprises in the form of tax breaks and higher exemption limits to boost spending power; boosting equity markets.
Time to rationalize tax on long-term capital gains on equity
Long-term gains on equity were tax-free for almost 15 years before the rules were changed in the 2018 budget. Currently, long term capital gains on equity are classified as holding period beyond 1 year. However, long term capital gains will only be exempt up to Rs.100,000 per fiscal year. Beyond that, capital gains are taxed at a flat rate of 10% without indexation benefits. While abolishing LTCG tax may not be practical when the fiscal situation is tight, here are some options.
One option is to increase the limit of exemption per year from Rs100,000 to Rs300,000. This would be a morale booster and investors will not be forced to book profits regularly just to save on tax. The other option is to allow equity investors to carry forward the unused exemption limit to future years up to a period of 5 years. The third option is to abolish LTCG tax altogether and raise the definition of long term in equity to 2 years.
Securities transaction tax is distorting trading costs
At micro and macro levels, India may be losing a lot of Nifty business to markets like the SGX just because of STT. Global investors have often complained that trading costs in India are too high and one reason is STT. Each year, STT generates more than $1.2 billion as revenues for the government. That is a substantial amount to forego. Also, collection of STT is a lot simpler as it is turnover-based. Here is what the budget could do.
One way is to reduce the rates of STT drastically so that the impact is not too hard on investors. The second way is to allow STT as an admissible expense to be written off against capital gains. Today, this benefit is only available if the individual is filing returns as business income not as capital gains.
How to give some relief on dividend taxation?
Effective Budget 2020, dividends are added to other income and taxed at peak rates. In short, while the dividend distribution tax (DDT) has been abolished, the dividend tax poses an added burden to investors. DDT was unfair so reverting to that method is not advisable. What the budget can do is to give a blanket exemption up to a certain threshold like standard deduction for salary or Section 80TT for interest on bank deposits. This will reduce the tax burden and also the administrative hassles.
Extend Section 80C benefits to equity investments
This has been attempted before. Formerly, infrastructure stocks were eligible for exemption under Section 80C. There was also the RGESS scheme for first time equity investors. All these were half-hearted. What the government can do in this budget is to extend Section 80C to select equities; perhaps start with PSUs. The government can get a ready market for its PSU divestments, investors get higher post-tax yields and the 3-year lock-in does away with unnecessary volatility.
Keep the flow of divestments and IPOs coming
A major advantage of the disinvestment program is that it infuses quality paper into the market. This fresh paper ensures that existing stocks don’t get re-rated and inflated. The government needs to desperately enhance revenues in the coming year and attractive pricing will ensure that the flow keeps coming. Investors will have a wider choice and risk of asset inflation is mitigated.
In the last one year, there has been an 80% growth in demat accounts as gen-next appears to be taking to equities in a big way. The budget should be used to make the best of this opportunity.