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Budget 2026 quietly reshapes the taxation of unexplained income. By reducing the tax rate from 60% to 30% under Section 195 of the Income-tax Act, 2025, the government has effectively rolled back the post-demonetisation deterrence regime and restored the pre-2017 tax treatment for such income.
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While the base tax rate is now identical whether unexplained income is voluntarily disclosed or detected during assessment, the penalty framework sharply diverges.
Voluntary disclosure in the return attracts no penalty or prosecution exposure, whereas detection by the tax authorities now triggers a misreporting penalty of 200% of the tax, along with potential prosecution.
The outcome is a compliance-first architecture embedded permanently in the statute—one that rewards early disclosure with a predictable tax cost while making concealment financially punitive.
Though not a formal amnesty or a time-bound voluntary disclosure scheme, the framework increasingly functions like a standing, incentive-based disclosure mechanism—raising the question of whether India has, in effect, institutionalised a permanent VDIS without naming it as such.
Also read: Got income tax notice or facing income tax scrutiny? Budget 2026 offers relief through revised, updated ITR, and immunity from prosecution
A quiet reset in the taxation of unexplained income
The Finance Bill, 2026, proposes a seemingly modest change: a reduction in the tax rate under Section 195 of the Income-tax Act, 2025 (New Act), from 60% to 30% on incomes deemed unexplained under Sections 102 to 106, effective 1 April 2026.
In substance, this restores the tax treatment that prevailed under Section 115BBE of the Income-tax Act, 1961 (Old Act), when it was originally introduced with effect from 1 April 2013. That position changed dramatically post demonetisation, when amendments effective from April 1, 2017, doubled the tax rate on such income.
At first glance, the proposal appears to be a routine rationalisation. However, a closer reading of Section 195, when viewed alongside the revised penalty and immunity framework, raises a larger question:
Has India effectively introduced a permanent, rolling voluntary disclosure mechanism without formally calling it a VDIS?
What does Section 195 now cover?
Sections 102 to 106 of the Income-tax Act, 2025—successors to Sections 68 to 69D of the 1961 Act—deal with income where the taxpayer is unable to satisfactorily explain the source. These provisions cover:
- Unexplained cash credits
- Unexplained investments
- Unexplained money and assets, including cash, bullion, jewellery and VDAs
- Unexplained expenditure
- Certain non-banking borrowings and repayments, including hundi transactions
All such income is mandatorily taxable under Section 195 of the New Act with effect from 1 April 2026. Till then, it continues to be taxed under Section 115BBE of the Old Act.
From demonetisation deterrence to pre-2017 normalcy
When Section 115BBE was first introduced in 2013, unexplained income—whether voluntarily disclosed in the return or detected during assessment—was taxed at 30%, with no deductions.
This changed after demonetisation. The Taxation Laws (Second Amendment) Act, 2016 increased the tax rate to 60%, barred all deductions and loss set-offs, and imposed a harsh, deterrence-driven regime. The same structure was initially carried into section 195 of the New Act.
Budget 2026 proposes a decisive reversal. The tax rate on unexplained income is proposed to revert to 30%, irrespective of whether the income is voluntarily disclosed in the return or determined during assessment or reassessment. A surcharge of 25% and a cess of 4% will continue to apply, taking the effective tax burden to approximately 39%.
Also read: Your wrong tax refund claim can raise a red flag leading to tax notices and even jail in case of under-reporting of income; here’s how to avoid it
Penalty: The real differentiator
Until now, Section 271AAC of the Old Act and Section 443 of the New Act imposed a limited penalty of 10% of tax payable where such income was detected, while granting immunity where the income was voluntarily disclosed in the return and tax was paid within the prescribed time.
Budget 2026 fundamentally alters this balance:
- Section 443 is proposed to be omitted
- Income detected by the Assessing Officer under sections 102 to 106 is expressly classified as misreported income under section 439(11)(g)
- Such misreporting attracts a penalty of 200% of the tax payable
The consequences are clear.
If unexplained income is voluntarily disclosed in the income tax return
- No penalty
- No misreporting tag
- No prosecution exposure
If the income is detected by the tax authorities
- Penalty equal to 200% of tax payable
- Possible prosecution, unless immunity or waiver is sought under section 440 (on payment of penalty at 120% of tax, subject to conditions)
The law now draws a sharp behavioural line based on self-disclosure versus detection.
Illustration:
Rs 1 crore of unexplained cash: Before and after Budget 2026
| Particulars | Disclosed in ITR | Detected by the AO | ||
| Before (₹ lakh) | After (₹ lakh) | Before (₹ lakh) | After (₹ lakh) | |
| Tax | 60 | 30 | 30 | 30 |
| Surcharge (25%) | 15 | 7.5 | 7.5 | 7.5 |
| Cess (4%) | 3 | 1.5 | 1.5 | 1.5 |
| Penalty | NIL | NIL | 7.8 (10%) | 78 (200%) |
| Total | 78 | 39 | 85.8 | 117 |
What this shows clearly:
- Voluntary disclosure now costs half of what it did earlier
- Detection by the AO becomes dramatically more expensive
The gap between compliance and concealment has widened sharply
Why this is not a VDIS in law
Despite its economic resemblance to a voluntary disclosure scheme, the post-Budget 2026 framework stops well short of an amnesty.
First, there is no blanket immunity where unexplained income is detected by the tax authorities. Once detected, such income is treated as misreported, attracting a penalty of 200% of the tax payable, with prosecution exposure continuing. Relief is available only through waiver or compounding under section 440, subject to strict conditions and payment of enhanced penalty—unlike past VDIS or IDS schemes that offered statutory immunity.
Second, unexplained income is taxed at the maximum marginal rate, without access to slab rates, deductions, allowances, or loss set-off. The taxpayer pays a flat 30% tax (plus surcharge and cess), irrespective of overall income profile—reinforcing that this is not a concessional regime.
Third, the regime for search-related undisclosed income remains untouched. Income unearthed during search proceedings continues to be taxed at 60% under section 192 of the New Act, along with separate penalty provisions. The rollback to 30% under section 195 applies only to non-search cases, underscoring a clear legislative distinction between voluntary disclosure, routine assessment, and coercive enforcement.
In law, therefore, enforcement powers remain fully intact and uncompromised. In practice, however, the framework unmistakably rewards early and voluntary compliance.
Policy signal: pragmatism over moral posturing
The post-demonetisation regime—taxing unexplained income at 60% irrespective of voluntary disclosure or detection—proved litigation-heavy and disproportionate. By reverting to a 30% rate outside the search framework, the government appears to be recognising enforcement limitations and voluntary compliance.
- The signal may not be obvious, but it is clear.
- Disclose voluntarily and pay a defined price.
- Get detected, and the consequences escalate sharply.
Conclusion
Budget 2026 marks a quiet but consequential shift in India’s approach to taxing unexplained income. Without announcing any amnesty or reopening past disclosure schemes, the law now clearly distinguishes between income voluntarily brought to tax and income unearthed through enforcement. By restoring the tax rate to 30% outside the search framework while simultaneously hardening penalties for detection, the government has recalibrated the balance between deterrence and compliance.
In legal form, enforcement powers remain uncompromised; in economic effect, voluntary disclosure has been made decisively cheaper than concealment. Whether described as a rolling VDIS or a compliance-first regime, the message of Budget 2026 is unambiguous: certainty of revenue and early compliance now matter more than symbolic severity.
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The author, O.P. Yadav, is a former IRS officer with over 36 years of experience in tax administration, education, and training. The views expressed are personal.
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