Four months after switching to the new indirect tax regime of the GST, the Narendra Modi government has formed a task force to draft a new Direct Tax law. The idea is to meet the changing economic needs of the country, and perhaps an efforts to reinstate the Direct Tax Code (DTC) in a new avatar. The Task Force in the next six months will submit its report to the government on how to fix the more-than-50-year-old Income Tax Act, 1961. While, simplification and better administration of the law are major reforms that India needs, according to economists; some even suggest going for a flat tax system or lower tax system.
Surjit Bhalla, a member of PMEAC, in an article co-authored with Arvind Virmani this January, advocated for flat tax system at 12%, saying it would be appealing even for a tax-shy Indian, and estimated that the compliance rate will increase by eight percentage points to 33%. The classic case of the flat tax system is of Hong Kong and Russia.
One of the poorest country during the World War II, Hong Kong adopted a flat tax in 1947 which led to higher compliance and dramatic economic growth. Moreover, instead of imposing a progressive tax scheme, it gives it as an option to its citizen. Prime Minister Narendra Modi, while addressing tax administrators at Rajasva Gyan Sangam this June cited the example of “Give it up” initiative for voluntarily giving up gas subsidy, saying that the tax base too could be increased significantly, provided the tax administrators can demonstrate the leadership to bring about a change.
The second best case of high compliance and a flat rate is that of Russia. Russia stunned the world by adopting a 13% flat tax, which went into effect in 2001. Russia’s economy has expanded by about 10 percent since it adopted a flat tax. Most importantly Russia’s income tax revenue has grown to more than 50% as people found it fair and easier to pay.
New Zealand is called BBLR — broader bases and lower rates — country. In New Zealand, the tax law experts focus on taxing a lot of actions at a low rate, or flat rate and most importantly at the simpler tax code. New Zealand in 1980 did away with deductions and write-offs and instead applied lowest rates on average workers. With higher compliance, New Zealand is one of the countries with best income tax practices.
An attempt to redraft the Income Tax Act was also made by Congress’ P Chidambaram in 2009 through the Direct Taxes Code (DTC). It proposed simpler tax code and did away with unnecessary exemptions and created space for lower tax rates. However, the bill lapsed with the dissolution of the 15th Lok Sabha in 2014. The NDA government, since coming to power in 2014, has already implemented general anti-avoidance rules GAAR. In 2016 Finance Minister Arun Jaitley also promised to lower corporate tax rate to 25% in 5 years. Currently, income up to Rs 2.5 lakh per annum is exempt from tax for individuals.