Broaden tax base instead of sharply raising marginal rates

Written by fe Bureau | New Delhi | Updated: Feb 28 2013, 10:31am hrs
India is likely to limit its fiscal deficit to the revised target of 5.3% of the GDP going by the trend in the first three quarters, during which the gap between receipts and spending inched up to two-thirds of the original fiscal deficit target of 5.1%, the Economic Survey said. In the first three quarters of the previous financial year, fiscal deficit had crossed 90% of the budgeted target.

The survey, prepared by a team of economists, led by chief economic advisor Raghuram Rajan, also favoured achieving a higher tax-GDP ratio by broadening the tax base rather than increasing marginal tax rates significantly. The survey said limiting fiscal deficit at the revised target is likely to be achieved despite the significant shortfall in revenue receipts.

The commentary on economy and public finance noted that tackling key risk that petroleum subsidies could cause to the exchequer is critical in better fiscal marksmanship. Major subsidy spending may exceed the budgeted R1.79 lakh crore in the current financial year, due to high crude oil prices. The progress report of the government finances for the year 2012-13 also made a strong case for tax reforms.

There is merit in limiting the exemptions or their grandfathering on a case-by-case basis so as to realise fuller tax potential through a wider tax base, the survey said. So far, the government has managed to phase out some of the tax exemptions that has led to an increase in the average effective corporate tax rate to 24% against the tax rate of 30%.

In the first three quarters, the tax department collected 63.2% of estimated tax receipts, lower than the last five-year average of 69%.

The government could only raise three-fifth of the R9.7 lakh crore receipts it had projected at the beginning of the fiscal, because of lower tax and non-tax receipts, including telecom spectrum sale and share sale in state-run companies. As the 2G spectrum auction meant to raise R40,000 crore elicited lukewarm response, the government lowered the reserve price. The survey says there is a serious risk to the actual fiscal outcome for the current year from this revenue non-tax stream.

P Chidambaram revised the fiscal deficit target for this year to 5.3%, shortly after he took over the finance portfolio and set a 3% target to be achieved by 2016-17. The survey considers the medium-term fiscal consolidation plan as credible. It said efforts should be made to raise revenue by widening the tax base and not by increasing the rates.

It is much better to achieve a higher tax-GDP ratio by broadening the base, which is taxed rather than increasing marginal tax rates significantly higher and higher tax rates impinge more and more on incentives to undertake taxable activity, while encouraging tax evasion, it said.

Many experts, including Rangarajan, had endorsed higher rates of taxes on the super-rich although some economists felt it could only encourage tax evasion. The survey also recommended that it is desirable to achieve fiscal consolidation partly through a higher tax-GDP ratio than merely cutting spending, which would only hurt development spending. The tax-GDP ratio touched a peak of 11.9 % in 2007-08, but fell to 9.6% in 2009-10. It was 9.9 % in 2011-12.