Is income tax cut around the corner? BofAML lists 3 pre-conditions for that to happen

Currently, individuals earning between Rs 2.5 lakh and Rs 5 lakh are taxed at 5 percent. Income between Rs 5 lakh and Rs 10 lakh is taxed at 20 percent and more than Rs 10 lakh a year is subjected to the income tax slab of 30 percent.

According to a report by BofAML, new tax slabs would likely cost Rs 1.75 lakh crore or 0.8 percent of India's GDP, atop 0.7 percent of GDP released by September's corporate tax rate cut. Of which, Rs 1 lakh crore will be borne by the Centre and Rs 75,000 crore by states in line with the 58:42 devolution ratio, it added.

"There is no doubt that a demand-side measure, like the income tax cut, has a more immediate impact on growth than a supply-side measure like the corporate tax rate cut that would take 2-3 years to take effect, in our view. Along with the RBI easing, this would help defuse the 2018 liquidity crunch that has pushed up lending rates and hurt demand. While the corporate tax rate cut should theoretically spur investment, businesses will expand capacity only if they see demand picking up," the global investment firm noted.

1. Muted Diwali festival demand: Investors should track retail sales into the October 27 Diwali festival. BofAML expects multiple discount schemes to sell passenger vehicles and two-wheelers in the festive season as well as consumer companies to offer promotion schemes.

2. Weak transmission even after external benchmarks: BofAML feels the government will look to cut income tax rates now if banks do not pass on the 25 bps October 4 RBI rate cut even after linking retail/SME loans (around 40 percent of bank book) to external benchmarks like the RBI repo rate.

3. Funding corporate tax rate cut: The investment firm believes a quick income tax rate cut would likely be feasible only if the government gets comfort about financing the corporate tax rate cut that should lead to fiscal slippage of 50 bps of GDP. This could come from the ability to step up RBI OMO if FPI flows do not revive or quicken privatisation. The Ministry of Finance can also meet the fiscal gap utilising the RBI's surplus capital identified by the Jalan committee and interim dividend.

They also expect the Reserve Bank of India to further cut 25 bps on December 5, pause as growth/inflation goes up on base effects, and cut another 40 bps to 4.5 percent by September if global growth slows.