India’s long-awaited transformation of its direct tax framework has taken effect through a phased and coordinated reform process. According to the chairperson of the Central Board of Direct Taxes, Ravi Agrawal, the combined impact of the Income Tax Act, 2025, Finance Bill 2026 and technology-led compliance measures effectively results in a new direct tax code.
Rather than introducing a single consolidated statute, the government has implemented structural, procedural and enforcement reforms in stages, leading to a comprehensive overhaul in substance.
Income Tax Act, 2025: A Structural Reset
The Income Tax Act, 2025 will replace the Income Tax Act, 1961 and is proposed to come into force from 1 April 2026. The new law focuses on simpler drafting, improved structure and clearer presentation of provisions.
Unnecessary complexity, excessive cross-referencing and dense explanations have been reduced. Rules under the new statute, expected shortly, will introduce simplified procedures and redesigned forms aimed at efficient data capture and easier compliance.
Rationalised Penalty and Prosecution Framework
Finance Bill 2026 introduces a clear shift in the enforcement philosophy under the Income Tax law. Mandatory minimum imprisonment for offences is proposed to be removed, and the maximum imprisonment term reduced from seven years to two years.
The proposed change from “imprisonment and fine” to “imprisonment and or fine” provides courts with flexibility to impose only monetary penalties where appropriate. This marks a move away from criminalisation of procedural and technical defaults.
Expanded Scope for Voluntary Compliance
The window for filing updated returns, earlier extended from two years to four years, has now been further liberalised. Even after issuance of a notice, taxpayers can correct errors by filing an updated return and paying additional tax.
Further, assessment, reassessment and penalty proceedings are proposed to be integrated into a single process. This is expected to reduce duplication, shorten timelines and limit prolonged litigation.
From Incremental Changes to a De Facto Tax Code
India’s earlier attempts to introduce a formal Direct Tax Code between 2009 and 2017 did not succeed. However, several concepts developed during those efforts were gradually incorporated into the existing law through annual Finance Acts.
The current reform cycle, beginning with simplification of statutory language, followed by stakeholder consultation, parliamentary review, decriminalisation and procedural re-engineering, effectively delivers the outcome of a new tax code without formally naming it as such.
Greater Certainty for Businesses and Investors
Finance Bill 2026 also responds to long-standing concerns of domestic and foreign businesses regarding predictability in tax administration. The proposals include targeted tax incentives and safe harbour provisions which, subject to conditions, reduce audit exposure for cross-border transactions involving multinational groups and their Indian entities.
These measures aim to support investment in key sectors such as manufacturing and data centres, where policy certainty plays a critical role in long-term planning.
Nudge-Based Compliance and Use of Data
The tax department has increasingly adopted a data-driven, nudge-based compliance approach. Informational emails based on data already available with the department encourage voluntary correction of mismatches.
Over the last two years, this approach has resulted in additional tax collections of about ₹8,800 crore, while refund claims of around ₹1,750 crore were voluntarily withdrawn by taxpayers, reflecting improved compliance behaviour.
Smart Returns and Process Re-Engineering
The upcoming smart income tax return forms aim to eliminate repetitive data entry. Information provided once will flow across relevant forms, reducing errors and saving time.
Technology-enabled process redesign will also simplify routine compliance. For instance, applications for non-deduction of tax at source, earlier required to be submitted separately to multiple entities, will now be routed through a single form generated on the department’s portal and shared electronically with all relevant institutions.
Key Gaps and Watchpoints
Despite the breadth of reforms, a few concerns remain. Many benefits depend on timely and unambiguous rules under the Income Tax Act, 2025; any delay or lack of clarity could weaken the promise of simpler compliance. Greater discretion in penalty provisions, while progressive, may lead to inconsistent outcomes until settled through guidance and judicial interpretation. The extended window for updated returns improves voluntary compliance but could also prolong uncertainty if notices continue to be issued late. Further, the success of smart returns and technology-led processes depends on system stability and data accuracy. Any technical shortcomings may shift the compliance burden back to taxpayers. Overall, effective implementation and consistency in administration will be critical to realising the intended impact of these reforms.
Conclusion
Taken together, the Income Tax Act, 2025, Finance Bill 2026 and technology-led compliance reforms represent the most comprehensive transformation of India’s direct tax system in decades. While not formally titled a Direct Tax Code, the scope and depth of these changes place India under a modernised, simplified and compliance-oriented direct tax regime.
Source: Adapted from LiveMint