Impact of the New Tax Regime on Allowance Exemptions: Comprehensive Guide

The new tax regime under Section 115BAC, introduced in FY 2020–21, has brought significant changes to how taxpayers can claim allowance exemptions. While the older regime allowed salaried individuals to benefit from various allowances and deductions, the new regime simplifies the tax process but at the cost of foregoing most exemptions.

This blog explains the impact of the new tax regime on allowance exemptions, helping you understand its implications and make informed financial decisions.

What Is the New Tax Regime?

The new tax regime, introduced by the Government of India, offers reduced tax rates across multiple slabs but requires taxpayers to give up most deductions and exemptions, including those related to allowances such as:

House Rent Allowance (HRA)
Leave Travel Allowance (LTA)
Standard Deduction
Other Special Allowances

Under this regime, taxpayers have the flexibility to choose between the old and new tax systems when filing their returns.

Allowance Exemptions: Old vs. New Tax Regime

Under the Old Tax Regime

The old tax regime allowed salaried individuals to claim exemptions on a wide range of allowances, which reduced their taxable income. Key exemptions included:

House Rent Allowance (HRA): Exempt under Section 10(13A) if the taxpayer pays rent.
Leave Travel Allowance (LTA): Exemption allowed for travel expenses for self and family within India, subject to conditions.
Children’s Education Allowance: ₹100 per child per month for up to two children.
Transport Allowance: Exempt up to ₹1,600 per month for employees (higher for disabled employees).

Under the New Tax Regime

The new tax regime disallows these exemptions entirely. Taxpayers opting for this regime must pay taxes on their entire salary, including allowances, without claiming exemptions. However, some employer contributions, like those to the National Pension Scheme (NPS) under Section 80CCD(2), remain exempt.

Key Allowances Affected by the New Tax Regime

1. House Rent Allowance (HRA)

Old Regime: HRA exemption could be claimed based on actual rent paid, basic salary, and city of residence.
New Regime: HRA is fully taxable.

2. Leave Travel Allowance (LTA)

Old Regime: Allowed exemption for travel expenses incurred for self and family, subject to specific conditions.
New Regime: No exemption available.

3. Standard Deduction

Old Regime: A fixed deduction of ₹50,000 was allowed for salaried individuals.
New Regime: This deduction is not available.

4. Other Special Allowances

Transport, education, and other compensatory allowances are also fully taxable under the new regime.

Impact on Taxpayers

Reduced Complexity: The new tax regime eliminates the need to maintain records or submit proofs for allowance exemptions, simplifying tax filing.
Higher Taxable Income: Since allowances are fully taxable, individuals with high allowances may end up paying more tax under the new regime.
Flexibility: Taxpayers can choose the regime that minimizes their tax liability.

Examples

Example 1: Employee With HRA and LTA

Annual Salary: ₹8,00,000
HRA Exemption (Old Regime): ₹1,20,000
LTA Exemption (Old Regime): ₹20,000
Taxable Income (Old Regime): ₹6,60,000
Taxable Income (New Regime): ₹8,00,000

Tax Comparison

Old Regime Tax Payable: ₹54,600
New Regime Tax Payable: ₹52,500

In this case, the new regime offers lower taxes but at the expense of losing exemptions.

Frequently Asked Questions

1. Can I claim HRA exemption under the new tax regime?

No, HRA exemption under Section 10(13A) is not allowed under the new tax regime.

2. Is the new tax regime mandatory?

No, taxpayers can choose between the old and new tax regimes when filing their income tax returns.

3. Are any exemptions allowed under the new tax regime?

Employer contributions to the NPS under Section 80CCD(2) are still exempt. Other exemptions, like HRA or LTA, are disallowed.

Conclusion

The new tax regime under Section 115BAC simplifies taxation but significantly impacts allowance exemptions, making allowances like HRA, LTA, and transport fully taxable. While it offers lower tax rates, taxpayers need to carefully evaluate their financial situation to decide whether the new regime or the old regime is more beneficial. Use a tax calculator to compare both regimes before making your choice.

Impact of the New Tax Regime on Allowance Exemptions: A Comprehensive Guide