Budget 2018: Over the last few weeks, several global agencies have slated India to grow at an accelerated pace compared to major emerging economies this year—some even predicted that India would displace China as the fastest-growing economy in 2018. However, there is a dichotomy in the narrative—as forex reserves grow, corporate debt has been a dampener, with demonetisation effect subsiding, inflation is creeping-up, and while direct tax collections have risen by over 18%, the response to GST has been, at best, tepid.
Reducing tax rates
Budget 2018: Although India has evolved from having tax rates for individuals of almost 98% in the 1970s to a three-slab structure with the highest being at 30%, the corporate tax rate remains to be rationalised. No surprise, then, that India Inc welcomed the FM’s announcement during Budget 2015 to embark on a corporate tax rationalisation drive over coming years. Since then, barring some limited measures, the overall rate structure remains unchanged. With the US having reduced rates from 35% to 21% recently, along with a slew of other measures to attract capital flows from abroad, India needs to respond with agility and possibly an absolute rate reduction to retain competitiveness.
Evaluating a new approach
Budget 2018: As is the case with many emerging economies, low levels of individual income in India and a large informal sector pose challenges in collecting tax revenue. Last year, the FM’s Budget speech highlighted the abysmal mismatch between tax compliance and individual consumption patterns, and how the burden of tax evasion fell on the few honest/compliant sections of the society. Part of the problem lies in the perception of the system being ridden with suspicion and inclined towards using coercive tactics. Successive governments have attempted to scale down the use of intrusive measures, but have been unable to contain the growing complexity of India’s tax code. What is needed, therefore, is a fresh approach on both sides. With abundant tax-compliance data available, India can make tax compliance a sine qua non for businesses to participate in government projects/bids, and individuals to access educational and medical facilities.
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Exploring new avenues
Budget 2018: Considering that even partial removal of exemption to agricultural income may be politically and otherwise challenging, more attention may be given to collecting taxes such as property tax. Unlike taxes on consumption (like GST), property tax is progressive as it does not burden the poor. In fact, with a large part of wealth concentrated in real estate, property taxes would be socially just and create less economic distortions. Undoubtedly, local government and municipalities would need to be more empowered; however, direct feedback between taxpayers and local bodies would induce stronger monitoring and efficient checks and balances.
Putting Budget FY19 into context
Budget 2018: Over the last few years, the government has shown its resolve towards creating a business-friendly tax environment by providing greater certainty and adopting a consultative approach. However, there remains a huge backlog of tax disputes across levels, which despite several efforts has not been sufficiently addressed by alternate measures like the Dispute Resolution Panel. Transitions in the West have already triggered a global response, with China announcing tax exemptions to foreign firms making further investments at the back of US reforms and similarly Israel closely tracking developments and their potential impact on its burgeoning high-tech industry.
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Be it domestic or international forces, it’s clear that Budget 2018-19 needs to have a response. With the general elections of 2019 adding political pressure on the FM’s mind, and this government’s pro-reform stance weighing in, Budget 2018-19 is an opportune moment for some assertive decisions that may be tempered with prudent populism.
The author is partner & COO, Tax, KPMG in India