Morgan Stanley expects the government to align certain indirect tax rates to the proposed rates under the GST structure. In particular, “there is a high probability of a hike in the service tax rate. We do expect the government to reiterate its commitment to an early rollout of GST, with an expected timeline of 1 July 2017,” Morgan Stanley Investment Management said in its latest research report.
What is GST?
The Goods and Services Tax (GST) is a broad-based and comprehensive tax on the manufacture, sale and consumption of goods and services at the national level. The objective of the implementation of GST is to reduce the inefficiencies in the current tax system, such as multiplicity of tax rates, elimination of cascading impact, and ease of compliance.
What has been the progress to date?
With the passage of the constitutional amendment bill in August 2016, the government has cleared a big hurdle for the implementation of the GST. Apart from getting the legislative bill passed, the government has reached a consensus on the following issues with the states:
GST rate: The GST council has finalized a four-tier rate structure of 5%, 12%, 18% and 28%. In addition, essential items will be taxed at a zero rate and luxury/demerit goods will attract an additional cess above the 28% tax rate. There will be two standard GST rates of 12% and 18%. A final decision on tax levy on gold has not yet been made. The details on the list of items will be decided later by a technical panel. On tax rate for services, a recent media report indicated the possibility of a three-tiered rate structure for service taxes with different rates for luxury, standard, and basic services.
Compensation for states: The GST council has agreed to create a revenue pool using the cess on demerit/luxury goods (over and above the tax rate of 28%) and the clean energy cess to compensate the states. The cess could lapse after five years. The Finance Minister indicated that Rs500bn would be needed to compensate the states for revenue loss in the first year. The Finance Minister highlighted that the use of cess for compensation to states implies that no additional burden is put on the taxpayers.
Dual control: The GST council has agreed to share the tax assessee base equally between the centre and states. For assessees with turnover less than INR 15mn, the states will assess 90% of such cases. For assesses with turnover higher than INR 50mn, the center and state will each have a 50% share. The power to levy and collect IGST (integrated GST) will be with the centre.
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What are the next steps and what will be announced during the budget?
The government has indicated that the likely date for GST implementation will be July 2017 compared to the previous target of April 2017. In the budget, Morgan Stanley expects the Finance Minister to detail some operational guidelines related to the implementation of the GST with July 2017 as the target date for implementation.
In terms of next steps, the government will need to get the central GST and integrated GST bills cleared in the upcoming budget session of the Parliament. In the meantime, all states will need to work out their own GST bills and have them approved by the Parliament. The setting up of IT infrastructure is another integral component for the implementation of the GST. The government has set up the Goods and Services Tax Network (GSTN), a not-for-profit entity owned by the Centre, states and non-government financial institutions, for the IT infrastructure requirements. India’s second largest software company, Infosys, has been assigned the mandate to develop and run GSTN. The preparation of the IT infrastructure seems to be on track, GSTN started its work to on board details of existing 8mn assesses of excise, value added tax, customs and service tax. The target is to get all assesses on board by 20 March 2017.
Impact on growth and inflation: According to the committee report on revenue neutral rate, implementing GST would lift GDP 0.5%. GST implementation could have some near-term negative impact; it increases business uncertainty. Some investors have been concerned about a potential large hit to growth / employment, since GST envisages reducing the threshold limit for businesses to comply to INR 10lac (from the current level of INR 1.5 crore for central excise duty and INR 10lac for VAT and service tax).
Though this will create challenges for small-scale businesses, Morgan Stanley does not expect much negative impact on employment because the bulk of the employed are in businesses with turnover above INR 2.5mn.
The exact impact on inflation is unclear: If the incidence of the actual tax rate is close to the revenue-neutral rate, the inflationary impact should be minimal.