Good for states tax

Written by KG Narendranath | Updated: Oct 31 2009, 04:12am hrs
State governments are not expected to cede their revenue space. Closer to ground realities, they are bound to have better planning acumen than the Central bureaucracy that tends to see India as a less complex entity than it really is. So, the position taken by the empowered group of state finance ministers (EG) that the proposed structural reform of the indirect tax system should not result in any decline in their current revenues or income growth potential is entirely valid. So long as the states are not merely quibbling, the Centre should pay heed.

However, EGs recent statements on the structure of the Goods & Services Tax (GST) feed the impression that it is guided solely by self-interest. Only a mellowing down of EG would ensure that the proposed destination-based tax on consumption wont be shorn of its chief meritsavoidance of tax cascades and maximum reduction of multiplicity of indirect taxes. Theres no reason for the states to pitch hard for a less comprehensive GST and an undue amount of freedom to decide the tax rates for various goods and services. They have anyway been given the unambiguous assurance that any revenue loss on account of GST would be compensated for. The Thirteenth Finance Commission is also seized of the matter.

The EG did make a rich contribution to the framing and implementation of the state-level value added tax (VAT) and this has been deservedly commended. VAT has not hit the states revenue-raising ability. In the VAT regime, almost all states have reported revenue growths higher than the trend growths in the previous sales tax system. No wonder there is complete absence of resistance to the GST, the next big step in indirect tax reforms, and the principle behind it. With sufficient global experience to learn from, no one doubts the proposition that the GST system can accelerate government revenues through incremental economic growth and broadened tax base, even as it gives businesses the benefit of input tax credit and does not hurt the consumer. (As many as 163 countries will have GST/VAT system by 2012).

It is another matter that GST is being viewed by its critics as a regressive tax as it minimises the number of tax rates, causing low-income people to fork out a relatively higher proportion of their income as consumption tax than the rich have to. Experiences of many emerging economies that have adopted GST system in recent years have shown that the benefit to the populace due to the incremental economic growth ascribable to it would more than offset its regressive characteristic. One estimate is that the economic value of GST in India would behalf a trillion dollars or almost half the gross domestic product. Also, high economic growth would make India capable of having a social security tax system that can finance welfare schemes.

Although the final road map for GST is yet to be made public, it is clear that Indias GST will have two componentscentral GST and state GST. Besides, there would be an iGST on inter-state trade, administered by the Centre that would effectively be notional with complete set-off facility but would serve as an instrument for transfer of input credit from state to another. To make matters simple, the transfer of revenue between states would be on a netted basis, with fixed periodicity. There is also talk of two main rates for goods for both C-GST and S-GST and possibly, there could be two rates for services also. These are compromises that would anyway complicate the system. Note that the European Union VAT system, which allows 10% space to each member of the Union to opt for country-specific rates, has greatly undermined itself with a pernicious mass of litigation being created. Also, rate disparity is difficult to implement as goods and services are also bundled before they are consumed. There is also the problem of identifying the place of supply (consumption) of services of substantially inter-state nature such as telecom, high-end legal services, goods and passenger transport, stock exchanges and various other financial intermediary services. These are genuine problems, which the Centre and states have to grapple with.

Then comes the issues that are of the EGs making. EG wants to keep purchase tax out of GST ambit. Purchase tax is essentially a tax on sales although here the buyer (Food Cooperation of India, for instance) collects the tax for administrative ease. Maharashtra, the only state to keep the patently regressive octroi system, is unwilling to let it go. Further, EG chairman Asim Dasgupta recently said that GST exemption list should be same as the corresponding VAT list of 99 items, even though one of its own sub-groups had dwelt on the issue for months and submitted a list of 25-30 items. Exemptions are an embedded cost in the GST/VAT chain and should be minimised. The states are resisting the move to subsume a fraction of the taxes on petroleum goods in GST for input tax relief to businesses. For the GST to be meaningful, it should have a broad base, minimum exemptions, minimal zero-rated supplies and a wide definition of taxable person. States would do well to refrain from being querulous.