Budget 2019-20: The finance minister should have reduced rates in an attempt to broaden the tax base even if, in the short run, this meant lower taxes and a higher deficit.
Union Budget 2019 India:
Given how precarious the government’s finances are—FY20 tax collections need to rise 18.3% versus FY19’s 8.4% if you use the numbers put out by the CGA—it is not surprising that finance minister Nirmala Sitharaman chose to increase the surcharge on those earning more than Rs 2 crore a year; the move is expected to net the government Rs 12,000 crore more in the year, assuming those hit by the new surcharges don’t find innovative ways to beat the higher tax.
Ideally, though, the finance minister should have reduced rates in an attempt to broaden the tax base even if, in the short run, this meant lower taxes and a higher deficit. Indeed, India’s history of tax reforms since the time Manmohan Singh was the finance minister have revolved around making rates more reasonable and reducing the scope for arbitrage.
Nor does this problem lie only at the top end of incomes. After a zero tax for those earning up to Rs 5 lakh, for instance, the tax rate jumps to 20.8% for those in the Rs 5-20 lakh income bracket; this is virtually inviting tax theft since those whose income is even a few lakh over Rs 5 lakh will find ways to try and lower their taxable income to below Rs 5 lakh.
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According to research done by economist Surjit Bhalla using tax data for 1989-2007, for each 1 percentage point cut in the average tax rate, compliance increases by over 6 percentage points. Indeed, the large tax evasion is obvious from the fact that while just 81,344 individuals reported earnings of more than Rs 1 crore in FY17, 4.5-5 million Indians go abroad for holidays every year.
The latest all-India income survey by research agency Price estimates the number of those earning over Rs 1 crore at around 6.4 lakh in FY16 and those earning between Rs 50-100 lakh at 11.6 lakh (and yet, just 1.4 lakh persons declared this to be their income in FY16). In which case, while the FM has settled for earning Rs 12,000 crore more, slashing rates and the resultant increase in compliance could have generated several times more than this amount.
A 20% hike in the number of crorepatis declaring their incomes—assume an average income of Rs 2.5 crore—if the tax rate is slashed to 25% will, for instance, still lead to Rs 50,000-55,000 crore additional collections even after accounting for the loss in revenues from the existing taxpayers paying at a lower rate. Even if the opportunity has been missed this time around, the government must try to address this issue at the earliest.