India’s taxes nipping at your earnings? It could be worse.

Indian taxpayers, particularly those in the highest 30% tax bracket, have been crying hoarse that the country’s tax rates are among the highest in the world. However, that may not be true if one were to compare tax rates as per income slabs adjusted for purchase price parity, or PPP.

Austria and Finland levythe world’s highestmarginal income tax rate at 55%. In India, the highest marginal rate for taxpayers in the highest income slab is 39% under the new tax regime and 42.7% in the old regime.

These rates include surcharge and 4% education and health cess and are applicable on incomes above ₹5 crore. Surcharges only kick in post an annual income of ₹50 lakh. Between ₹10 lakh and ₹50 lakh, the top marginal rate charged is 31.2% (including cess).

A better way to compare tax rates on personal incomes between two countries is by adjusting earnings for purchase price parity, which compares the cost of goods between countries and equalizes purchasing power by accounting for differences in price levels.

For instance, a $100,000 income in the US is equal to about ₹86.42 lakh in India under current exchange rates. When adjusted for PPP, the $100,000 equivalent in India is ₹20.2 lakh. While the marginal tax rate for a ₹86 lakh annual income in India is 33.1%, it is 31% for a ₹20.2 lakh income.

Also, in the US, one would need a salary of $2.4 million to afford a similar quality of life as someone earning an annual income of ₹5 crore in India, which attracts highest tax rate of 39%.

Also, in the US, one would need a salary of $2.4 million to afford a similar quality of life as someone earning an annual income of ₹5 crore in India. Such individuals in the US would not only be subject to a 35% federal tax but also state taxes, which would considerably push their net tax liability to about a 40% marginal tax rate.

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How global taxes compare

All major economies have a progressive tax system, wherein an incrementally higher tax rate is charged on increasing income. Like India, most countries follow a slab structure in which instead of calculating tax as per a flat rate in a particular income range, incremental tax is charged on different slabs.

India has six slabs in the new tax regime with tax rates of 0%, 5%, 10%, 15%, 20%, and 30%.

Let’s consider a ₹50 lakh annual income as the benchmark for comparing tax rates across countries, as surcharges apply to higher earning taxpayers in India.

Mint’s research shows that in major economies, the marginal tax rate applicable to similar income slabs is much higher than in India.

In the UK and Australia, the comparative income is GBP 0.16 million and AUD 0.34 million, which are in the 45% tax bracket. In Germany, which has the highest Indian diaspora among European countries, the comparable income is Euro 0.17 million, which falls in the 42% tax bracket. In the US and Canada, taxpayers with a similar income will pay 35-40% in federal and state taxes combined.

However, when compared with Asian countries, Indian tax rates are higher.

In Singapore, the PPP-adjusted income of ₹50 lakh is SGD 0.19 million, which attracts a marginal tax rate of 18%. In Japan, the tax rate is even lower at 10%. In China, though, a developing economy like India, the tax rate on a comparable income is higher, in the 35% tax bracket.

But while marginal tax rates in India seem high, the effective tax rate across income groups remains relatively low.

“The average tax rate paid by ultra-high-net-worth individuals is not too high if you compare it to the marginal tax rate of 39% in the new regime,” said Neeraj Agarwala, partner, Nangia & Co. Llp, a tax advisory. “For AY 2022–23, the average total tax liability to gross income ratio for these individuals was just 18.17%.”

The real pain point is that the middle income group in India has not gotten much relief in recent years as the basic exemption limit and the highest income slab on which the top marginal rate is levied has not been increased.

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Out of sync with inflation

The Indian government has offered no tax relief under the old tax regime after it introduced the new tax regime in 2020. This has made the tax rates, deduction and exemptions offered on the old regime lag behind inflation.

For instance, the top marginal rate of 30% under the old regime is taxed on incomes above ₹10 lakh, which was last revised over a decade ago. The inflation-adjusted highest income slab would be ₹15.12 lakh currently. So, while inflation has pushed many individuals into higher income brackets, without periodic adjustments in the income slabs and basic exemption limit, such people may not see a corresponding increase in real income.

Even important deductions on children’s school fee and employee provident fund under Section 80C have been stagnant at ₹1.5 lakh since 2014. Standard deduction of ₹50,000 allowed for salaried individuals was last changed in 2019.

India’s tax system is quite different from other countries in this aspect.

“Many advanced economies, including the United States, Canada, and the Netherlands, adjust their tax regimes to account for inflation,” said Hariharan Gangadharan, partner at audit firm PwC India. “This practice has gained increased attention in recent years due to rising inflation in various parts of the world. However, the methods employed differ from country to country. Some implement automatic adjustments to tax brackets, credits, and benefits based on inflation indices, while others prefer to make periodic adjustments on a discretionary basis.”

One major reason for India not re-adjusting the old tax system is that the government is focused on making the new tax regime more lucrative to get more taxpayers to switch to it. One example of this is introducing standard deduction for the salaried and rebate in the new tax regime over the last two years.

The new regime was launched in 2020 sans any tax deductions and exemptions but with relatively lower tax rates and a higher maximum slab limit of ₹15 lakh (which is ₹10 lakh in old regime).

Over the next four years, the government introduced additional deductions, the rebate on incomes up to ₹7 lakh, and increased the basic exemption limit to ₹3 lakh. These changes, though implemented to lower the effective tax outgo in comparison to the old regime, have allowed the new regime to keep pace with inflation when compared to the old regime.

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