Indirect tax systems the world over have undergone significant changes during the last several years as many countries, across the ideological spectrum and with varying levels of economic development, have undertaken substantive tax reforms on the realization that such systems need to conform to a win-win model of both enhancing business efficiencies and competitiveness as well as government revenues.
A similar situation has obtained in India as well as there has been the realization that the present indirect tax structure, at both the Central and state levels, had become unwieldy and resulted in distorted and suboptimal decision-making, besides stunting economic growth.
Indirect tax reforms in India were substantially speeded up with the recommendations of the Chelliah committee in early 1994 forming the platform for change. These reforms were, for the first time, initiated in a holistic and integrated manner rather than as a set of sporadic changes with the broad objectives of lowering the tax rates and widening the tax base and with the more specific objectives of simplifying the indirect tax system and reducing complexity.
As part of this reform process, a full input tax mechanism was introduced in the federal excise regime through the introduction of the Modvat (modified value-aded tax) in 1986. Thereafter, the tax on services was introduced for the first time in the country in 1994 and this has since then been significantly extended in scale and scope. Yet again, the replacement of sales tax by VAT in the states through 2005-2008 was a substantial reform initiative.
Notwithstanding this, it was realized that the tax regime continues to suffer from a multiplicity of levies, high and variable tax rates, as also complex and multiple compliance and reporting requirements. This realization led to the initiatives relating to the introduction of the goods and services tax (GST) in India. In its present avatar, GST is envisaged as a dual one comprising a Central GST (CGST) and a state GST (SGST), both of which would apply in parallel on every single transaction of goods and services.
The dual GST is an inflexion point in India’s fiscal landscape. It marks a fundamental transition from the existing origin-based taxation regime to a destination-based consumption tax regime, where all consumption is taxed at the point it occurs. The introduction of the dual GST is expected to remove the cascading effect of taxes by moving to a common tax base and subsuming the various central and state level levies into either CGST or SGST. It would remove the anomalies of tax cascading, bring about moderate tax rates on consumption and enable the operation of a classical input tax credit system.
Accordingly, with the introduction of GST, the country does expect to progress to an efficient and relatively simple system of consumption taxation. In the words of economist Vijay Kelkar, such a GST envisages a “grand bargain” between the Centre and states and is a “flawless” one that could potentially incentivize economic growth to a substantial extent, while significantly accelerating government tax revenues.
However, if one were to look beyond the dual GST, it would be seen that a truly best-in-class benchmarked GST would be a unified GST, which would apply across the country with businesses having to address just this one tax on all taxable supplies of goods and services. Further, from a philosophical standpoint, such an ideal GST would tax all consumption, whether of goods or of services, at a single moderate rate and would also ensure that such a tax is only borne by the ultimate consumer and that there are no input taxes which are either intentionally or otherwise borne by any of the economic entities operating at all intermediate stages of economic activity prior to such final consumption.
Hence, the dual GST could only be seen as a penultimate stage in the evolution of India’s indirect taxation regime and its culmination would be the introduction of a broadbased and moderately rated GST, which would uniformly apply on all economic activity. On a different note and again looking to the future, it will be interesting to see what would be the relative reliance placed by the government on direct and indirect tax revenues, respectively, to sustain the economic aspirations of the country.
Ironically and for certain historical reasons, India has traditionally relied on consumption taxes against income taxes to fund its programmes. This position has been reversed of late and the share of income taxes has progressively increased and is currently larger than the share of indirect taxes. This is quite unlike the position in developed countries where the historical reliance on income taxes has recently been replaced through a reliance on consumption taxes in the form of VAT or GST.
It is a moot point as to whether domestic consumption-led growth in India, as opposed to an export-led growth model, would again turn the tide in line with the aforesaid situation in relation to the developed world, so that in the future, the indirect tax regime in India would, once again, primarily sustain government revenues.
The author is executive director, PricewaterhouseCoopers. Respond to this column at email@example.com