When asked to write about what could be expected from Budget 2011 by way of tax proposals, I start to think of the government’s goal of broadbasing tax compliance and increasing its tax revenue, and what impedes that goal, the need for tax revenue, and the relatively low number of taxpayers in the country of the size of India.
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In my view, the biggest tax policy challenge for the government is to create the right environment for increasing compliance and deterrents for avoidance of taxes, while recognizing the institutional limitations in tax administration and the pervading corruption in the economy.
It is well known that a significant amount of tax is concealed by unorganized sole proprietors and partnerships. Given that the tax administration does not aggressively track these taxpayers and is not motivated to increase tax collection from them, the effective tax rate for honest individuals and businesses is significantly high. The per-capita tax cost in India is very low in spite of a reasonably high tax rate because of poor compliance and significant evasion.
As a citizen of India and as a tax specialist, it is very depressing to see the state of tax compliance. It is my wish that the government takes some concrete steps to curb corruption, increase tax compliance, and try and bring more taxpayers into the tax net. The government has been taking steps to sign tax treaties with countries such as Switzerland and Bermuda in order to track funds parked illegally in these countries by Indians. A similar level of aggression is required with regard to domestic compliance as well. Such an effort would require significant political will. Given that this is the year of state elections in West Bengal, Kerala, Assam and Tamil Nadu, the government may postpone some complicated decisions for the time being.
So what should one expect from this budget? The honest answer really is “not much”. There may be some tinkering around with the tax rates and perhaps initiation of the process of transition into the new direct taxes code, expected to come into force on 1 April 2012. So we may see level at which tax kicks in move from Rs1.6 lakh to Rs2 lakh and an increase in the maximum slab from Rs8 lakh to Rs10 lakh. It is possible that the 3% education cess may also be abolished.
No serious student of economics can deny the merit of encouraging savings and in keeping with that the government may give in to representations and increase the existing limit of Rs1 lakh to Rs1.5 lakh for deductible investments available under Section 80 C of the Income Tax Act, 1961.
Assuming these changes come to pass, then tax savings at various income groups would be as set out in the graphic above.
Clearly, this would be of advantage for those with incomes of up to Rs5 lakh a year. This income group constitutes a significant chunk of individual income taxpayers in India. More money left in the pocket would also alleviate some of the hardship caused by spiralling inflation over the last 12 months. This may well be a face-saver for the government, having failed to do much otherwise by way of controlling prices.
Some changes that should happen but may remain elusive include an increase in the maximum amount of interest deductible in case of home loans on self-occupied properties and reinstatement of standard deduction for salary earners.
If we do see any changes in the threshold for the levy of wealth tax, we may see a corresponding expansion in its scope to include assets such as watches, shares, etc.
While there may be token measures toward increased tax enforcement by way of the expansion of the scope of the Annual Information Report, India lovers like you and me may want the government to propose some hard-hitting tax policy changes on hitherto untaxed income.
Alas, the will to bring in such policy changes and risk becoming “unpopular” require courage that only a few can manifest. Meanwhile, back to the business of Budget 2011: the writer hopes that the tax proposals pleasantly surprise her and the readers of this article. Sometimes you really want to be proved wrong…
Graphic by Paras jain/Mint
The author is a tax partner at consultancy Ernst and Young.
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