Draft Income Tax Rules 2026: Major Overhaul in Income Tax Return Forms and Filing Process
The Income Tax Department has unveiled the Draft Income Tax Rules 2026, introducing significant changes to the tax filing landscape for the upcoming financial year 2026-27. These proposed rules, which will be finalized later, aim to simplify compliance and enhance the taxpayer experience through redesigned forms and expanded eligibility criteria.
Key Changes in ITR Forms and Eligibility Criteria
According to tax experts, the Draft Income Tax Rules 2026 bring notable modifications to the applicability of ITR forms. Richa Sawhney, Partner Tax at Grant Thornton Bharat LLP, emphasized that the eligibility parameters for ITR-1 (Sahaj) and ITR-4 (Sugam) have been adjusted. "Though the forms are currently not available, it is anticipated that they will further carry forward the theme of simplification and ease of compliance," she stated.
The new Rule 164 outlines the criteria for different ITR forms, replacing the older 1962 rule regime. Key updates include:
- Ownership of up to two properties is now allowed for filing under ITR-1 and ITR-4, compared to the previous limit of one property.
- The negative list for ITR-1 and ITR-4 has been expanded to include additional income streams such as transfer of carbon credits, Virtual Digital Assets (VDA), and online gaming income, alongside existing exclusions like unexplained investments under section 115BBE.
Sawhney added, "In line with the New Income-Tax Act, the new rules have been drafted to ensure they are simple to comprehend and easy to comply with for all categories of taxpayers. The number of rules and forms has been significantly reduced, as redundant ones have been removed."
Technological Advancements and Simplification Efforts
Kuldip Kumar, partner at Mainstay Tax Advisors, highlighted the technological progress embedded in the new rules. "The redesign of forms, increased use of pre-filled information, and automated linkages will significantly simplify compliance and improve ease for taxpayers," he explained. This focus on technology is expected to reduce the time spent on filings and minimize inadvertent errors.
The draft rules emphasize pre-filled details and better navigation through the use of tables, aiming to streamline the tax filing process. Sawhney urged stakeholders to evaluate these rules and provide feedback to the government to ensure a smooth transition and mitigate implementation issues.
ITR Form Ineligibility Risks and Annual Review Necessity
Taxpayers must be cautious about eligibility for simplified forms like ITR-1 and ITR-4. CA Chintan Ghelani, partner for direct tax at N.A. Shah Associates LLP, warned that the risk of unknowingly becoming ineligible is real. Disqualifications include:
- Owning foreign assets or having signing authority in overseas accounts.
- Earning foreign-source income.
- Serving as a director in any company.
- Holding unlisted equity shares.
- Having total income above Rs 50 lakh.
- Agricultural income exceeding Rs 5,000.
Ghelani stressed that taxpayers should review their eligibility annually rather than assuming continuity from the previous year. "Even a single change such as acquiring foreign assets, holding unlisted shares, becoming a director, or crossing the income threshold can immediately alter the applicable return form," he noted.
OP Yadav, former principal commissioner of income tax, reinforced this point, stating that eligibility is not static and depends on evolving income profiles. He highlighted the compliance risk of incorrect form selection, which can lead to defective returns and potential penalties.
Capital Gains Complexity and Form Selection Challenges
The draft rules allow ITR-1 and ITR-4 for long-term capital gains under section 198 up to Rs 1.25 lakh, provided there are no carry-forward losses. This corresponds to section 112A of the existing Act, which taxes long-term capital gains on listed equity shares.
For retail investors engaged in activities like SIP redemptions or equity trading, tracking capital gains can be challenging. Ghelani explained that even routine transactions can affect eligibility for simplified forms. "Crossing those limits automatically disqualifies the simplified return. In practice, the difficulty is manageable with proper record-keeping and annual review, but investors who trade frequently or across multiple platforms face a higher risk of overlooking a disqualifying trigger," he said.
Yadav clarified that if capital gains exceed the prescribed limit, taxpayers may need to switch to ITR-2 or ITR-3, depending on their income composition.
Defective Returns and Enforcement Measures
Incorrect form selection can result in defective returns under Draft Rule 166 read with section 263(7) of the New Act. Conditions for a defective return include:
- Incomplete filling of all fields, parts, schedules, statements, and columns.
- Failure to furnish audit reports prior to filing ITR.
- Missing details of tax payment.
- Incorrect MAT/AMT credit claims.
Recent data shows active enforcement by tax authorities, with numerous notices issued for incorrect ITR form selections. If defects are not rectified timely, returns may be treated as invalid, leading to consequences similar to non-filing.
Electronic Filing Methods Under Draft Rule 164(12)
The draft rules specify electronic filing methods for different categories of taxpayers:
- Companies: Must file electronically under digital signature.
- Persons requiring audit under section 63: Can file under digital signature or electronic verification code.
- Other individuals: Have options including electronic transmission with physical verification in Form ITR-V.
- Individuals aged 80 years or more filing ITR-1 or ITR-4: Can file in paper form, the only remaining physical filing option.
Additionally, Draft Rule 165 governs updated returns using Form ITR-U, and Draft Rule 177 addresses modified returns for business reorganizations with Form ITR-A.
The Draft Income Tax Rules 2026 represent a significant step towards modernizing the tax filing process, with a focus on simplification, technology integration, and enhanced compliance. Taxpayers are advised to stay informed and conduct annual reviews to ensure accurate form selection and avoid penalties.
