The Income Tax Department has released the Draft Income Tax Rules, 2026, which, once approved, will apply from FY 2026–27. The proposed changes could significantly alter how salaried and middle-class taxpayers calculate their taxable income and overall tax liability.
One of the biggest shifts is the proposed revision in the limits of several common allowances such as house rent allowance (HRA), children’s education allowance and hostel allowance. Many of these limits had remained unchanged for decades. The draft rules also propose changes in the requirement to quote PAN for certain transactions.
For instance, the children’s education allowance under the old tax regime is proposed to be increased from Rs 100 to Rs 3,000 per month per child, for up to two children. The hostel expenditure allowance is to rise from Rs 300 to Rs 9,000 per month per child. The draft rules also propose adding Bengaluru, Hyderabad, Pune and Ahmedabad to the list of cities eligible for a higher HRA exemption limit.
How tax liability differs for a salaried employee with Rs 30 lakh salary
Consider a metro-based salaried employee below 60 years earning Rs 30 lakh annually. The gross salary remains the same across all options. However, the structure of allowances and how much of them qualify for exemptions makes a major difference to taxable income.
Assume the salary includes components such as HRA, employer NPS contribution, children’s education and hostel allowances, leave travel allowance (LTA), food allowance and gift allowance.
Under the Draft IT Rules, 2026, exemption limits for several allowances – including children’s education, hostel and food allowances- are significantly higher compared with the existing 1961 framework. The new tax regime, on the other hand, largely treats these components as taxable by restricting exemptions.
According to the comparison table, the existing old regime under the Income Tax Act, 1961 allows exemptions of about Rs 6.91 lakh. Under the proposed Draft IT Rules, 2026, this exemption pool rises sharply to around Rs 12.08 lakh. This nearly 75 percent increase in allowable exemptions significantly reduces taxable income for individuals who actively claim these benefits.
Allowances such as house rent allowance (HRA), children’s education allowance, hostel allowance, food allowance and other components now qualify for much higher exemption limits, raising the total exemption pool. This substantially lowers taxable income for salaried individuals who can structure their salary and expenses around these allowances.
“For a Rs 30 lakh earner with two children who spends on rent, hostel fees, dining out and travel, the Draft Old Regime is a useful option. By aligning their existing spending with the expanded exemption limits, like the 50 percent HRA and increased child allowances, they can reduce their effective tax rate to 16.93 percent,” an tax expert said.
Based on the calculations in the table, the tax liability under the Draft Old Regime drops to around Rs 2.22 lakh compared with Rs 3.77 lakh under the current framework, leading to a significant reduction in overall tax liability. This demonstrates how updated exemption limits could materially improve tax efficiency for salaried individuals who can fully utilise these allowances.
Compared with new regime the tax saving is equivalent to Rs 1.72 lakh. But one needs to consider that the new regime offers greater flexibility and liquidity.
However, the benefit under the old regime still depends on whether taxpayers are able to fully utilise deductions and exemptions through eligible expenses and investments.
“The old regime only becomes advantageous if you’re claiming a very high combination of deductions, such as substantial HRA on a large actual rent, fully eligible limit under Section 80C investments, health insurance and LTA all together. If you can’t take full benefits of these deductions, then the new regime is the rational default choice,” another tax expert said.
Liquidity under the new tax regime
The new tax regime removes most exemptions and deductions but offers greater flexibility and liquidity.
“Even though the New Regime carries a higher tax burden of Rs 4.10 lakh, it removes the requirement for specific expenses and locked investments. Without these requirements, they retain nearly Rs 23.80 lakh in available cash to spend or invest according to their priorities,” he said.
Under the existing old regime, taxpayers often allocate a large portion of their income to tax-saving instruments such as Section 80C investments, insurance premiums and other eligible deductions. While these reduce tax liability, they also lock a portion of income into long-term savings products rather than leaving it available as free cash flow.
“For salaried professionals without significant tax-saving investments or housing rent exposure, the new regime represents both simplicity and fiscal efficiency,” another tax expert said.
