Three weeks into the GST, the effects of a new indirect system is being felt by India. As it continues to adapt to GST, there are some distinct takeaways for the longer-term future.
The GST has not been resisted so far. Like all major tax overhauls, the transition to GST has had its downsides. Some of these downsides, in terms of the impact they cause on businesses and producers, would become clear in a few months. The credibility of the GST depends significantly on how fast input tax credits are refunded. This would be a challenge for the entire GST administration. It would also be a challenge for banks that would be handling the refunds.
What might be the problems if input tax credits are not refunded on time? The first, and most obvious, is a cutback in production. As producers realise that refunds are taking longer and working capital requirements are increasing alongside, they would hold back from accepting fresh orders till the system improves. Some supplies are likely to be affected as a result including essential products like medicines. Medicines are already experiencing a supply crunch as retailers work out new prices post-GST and MRPs printed on labels change accordingly. The domestic pharmaceutical value chain is heavily dependent on input tax refunds from bulk drugs upward. Slow refunds would clearly affect medicine supplies to pharmacies. Similar aberrations could be noticed for processed foods, garments and several other industries that are organised upward in various layers.
The second implication of the GST is to introduce an odd distortion in prices of some services. There are reports of hospitality outlets charging GST on service charge. The point over here is not if post-GST, the prices paid by customers in these outlets are same as before. The point is whether GST on service charge should be levied at all. The logic from the perspective of tax authorities is service charge, which is revenue for the service provider, should not be allowed to go tax-free. But the bigger point is this pushes up prices without the consumer actually understanding why the final bill is so much higher than the quoted tariff. The long-term impact might be to stop mentioning service charge in bills with service providers ‘urging’ clients to shift to cash tips that go untaxed.
The GST could be a simple tax in principle. But its simplicity can be appreciated only after the principle is understood. And this is where it gets complex, particularly in the process of breaking down amounts spent on inputs and outputs and segregating these into distinct boxes for refunds and payments. The entire exercise requires wisdom that is not automatically available across-the-board. As it is, the direction to link Aadhar numbers to PAN cards has created new earning opportunities for tax and financial consultants. The GST might produce similar opportunities for consultants and higher costs for businesses and individuals as they are forced to avail ‘specialised’ knowledge at least in the beginning.
The most significant likely long-term impact of the GST is the ‘left behinds’ it might produce. GST users can realise the efficiency and benefits of the new tax system only if all users in the system are organically GST-compliant. There will not be any incentives on part of GST-using businesses to work with non-GST users, as transactions with the latter would not entitle the former to obtain input tax credits. Non-GST businesses, mostly in the informal sector, and on many occasions small enterprises, would be forced to migrate to GST as otherwise they would be ‘left behind’. There are also penalties for non-migration. The migration though is not going to be easy. Apart from having to invest on the migratory process including engaging consultants, the small businesses would suffer more from systemic drawbacks like delays in refunding credits than their larger counterparts who have deeper pockets to withstand delays.
The problems might continue for several businesses even after they migrate to GST if they are part of value-chains that rely extensively on products not subject to GST. These, most ostensibly, are petroleum products that are kept out of GST and continue to be subjected to state VATs. Value-chains using these products more and more downstream are bound to experience complications in figuring out what can be refunded and what cannot. Given that states have the liberty of fixing VAT rates on these items, the production costs in a system that does not entail entire input tax refund, might become onerous for many producers, including in agriculture that has large usage of petroleum products in several activities.
To be fair to the architects of the new tax system, there are impacts that cannot be ascertained until it rolls out. But once sensed they need to be addressed fast. The GST should not develop a reputation for being complex that would destroy its ‘simple’ character. It should not, over time, leave many users with no choice other than running to consultants, which Indian taxes—both direct and indirect—have always done due to their complexities. It should also, under no circumstance, become an instrument for pushing the small and informal out of the economic mainstream. These are the ‘must don’ts that the GST should ensure.