We must worry when politicians across party lines play politics with the finances of our cities, especially since the current sources of revenue of municipalities in India are grossly inadequate for discharging their Constitutional mandate of delivering public services. The most recent threat to municipal finances came in the just-concluded municipal elections in Delhi. The Delhi chief minister announced that if the AAP came to power in the Municipal Corporation, the Delhi state government would waive off house tax for all residential properties—big or small, rich or poor. It is a separate matter that he can fulfil this promise only if the government of India approves this move.
Property tax is the single most important source of revenue for municipal corporations and municipalities. It accounts for 30% of “own” municipal revenues in India. While property tax is levied and collected by urban local bodies, the state government has the power to design the property tax regime including tax rates, exemptions and rebates, the tax base, the basis for the valuation of properties, and their revaluation every few years to account for rising prices. This means that the political parties vying for power in the state can be tempted to promise waiver or reduction in property tax or grant of exemptions in order to win support at election time, creating thereby huge vulnerabilities for municipal finances subsequently. The largest source of revenue for urban local bodies, therefore, tends to get caught in the wheels of the election cycle. The resulting collapse of municipal services hurts voters, but they do not realise how it is directly linked to the populist decision to cut property tax, or house tax as it is commonly called when levied on residential properties.
Delhi is not the only culprit giving nightmares to those who have to manage the finances of running their cities and be accountable for delivering public services. The state of Rajasthan abolished property tax in February 2007 after the BJP gained power and formed the government in the state, delivering on its poll promise of 2003. However, the tax was brought back within six months in a new incarnation as “urban development tax” to recoup the loss of revenue resulting from the property tax abolition, and also to retain access to JNNURM funds for urban infrastructure.
In Punjab, house tax on self-occupied residential houses, which form the bulk of the properties covered under the tax, was abolished in the late 1990s by the Akali government. In 2006, attracted by the desire to access JNNURM funds to build infrastructure in Amritsar and Ludhiana, the Congress government in Punjab entered into an agreement with the government of India to put in place a reformed property tax regime in these cities but was not able to implement the agreement. The Akali-BJP government was elected in Punjab in 2007 and again in 2012. Property tax was finally introduced in 2013, although following the familiar pattern, property tax rates were cut by almost half and many categories were exempted during the campaign for General Elections in 2014. Haryana and Himachal Pradesh have also each had a bash at blowing the budgets of their municipalities by giving major exemptions in their property tax regimes.
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It is not surprising that property tax is grossly underexploited in India, even though it remains the largest source of revenue for urban local bodies. There is need to set up a Property Tax Board in each state which could set out better and transparent methods of assessment, valuation and collection of the tax, using GIS and other IT tools. There is a lot to be learnt from the property tax reforms in Bengaluru and Hyderabad, which are still works in progress.
There is also a need to add Municipal Finance list in the Constitution which should specify taxes that are exclusively in the domain of the local government. Above all, there is a need to heed the sage advice of the Fourteenth Finance Commission: “The State Government should not provide exemptions to any entity from the tax and non-tax levies that are in the jurisdiction of local bodies. In cases where the grant of such an exemption becomes necessary, the local bodies should be compensated for the loss.” State governments will then not be able to play politics with municipal finances.
Financial autonomy to set user charges to cover costs of delivering public services is also crucial if we are to see a process of turnaround in the state of service delivery in our cities. In fact, state governments should match increased local revenue effort with larger grants.
It is now 25 years since the 74th Constitutional Amendment mandated that the state governments transfer to urban local bodies the responsibility for functions such as urban planning including town planning, regulation of land use and construction of buildings, roads and bridges, provision of water, sanitation, public health, urban amenities such as public parks, gardens and playgrounds, slum improvement and upgrade, etc. A number of these functions have been devolved by the state governments over the past 25 years. However, the golden goose of town planning continues to be held by most state governments. Once transferred, town planning can be used as a major instrument to unlock land value so that the cities can go about the business of land zoning and developing urban infrastructure with the finances raised in the process.
In principle, devolution to urban local bodies is supposed to be based on the recommendations of State Finance Commissions (SFCs), set up by the state governments. SFCs are supposed to spell out the principles for sharing/devolving a part of the revenue of the state governments to municipal bodies, but they have not been able to challenge the state-level political resistance to devolve funds to urban local bodies.
The ground reality is that the urban local governments have remained hamstrung by the lack of funds and the situation is getting from bad to worse. Total municipal revenues in India declined from 1.08% of GDP in 2007-08 to 1.03% in 2012-13, the latest year for which this information is available. The same ratio is 6% in South Africa and 7.4% in Brazil. What is more, the transfers from the state governments in India are neither guaranteed nor predictable. In South Africa, the transfers are determined and announced at the time of the annual budget.
A major recent setback for financial devolution to urban local bodies has been the way in which they were completely ignored in the Goods and Services Tax (GST) negotiations, which are now closed. With all the talk of cooperative federalism, there is little inclination on the part of state governments to devolve even a small part of revenue from the GST to the third tier.
If Indian cities are to deliver better quality of life and improved investment climate, they need to have business models which are financially and environmentally sustainable.