Time for a tax rethink

Adit JainIndia’s tax to GDP ratio, at about 11%, falls frightfully short of the sums required to endure the government’s spending programmes. These are considered necessary to bring about some form of social equity or in the least, provide a better quality of life to the millions that comprise the lower-income strata of society. Other Asian countries like China (at 20%); Malaysia (16%) and Vietnam (14%) spend far less on welfare and entitlement initiatives, despite higher tax revenues. Advanced economies such as the United Kingdom (at 34%) and the United States (at 27%) are in a totally different league. This brings about the question as to whether such sort of spending is sustainable, without swelling the national debt to untenable levels.

India's tax-to-GDP ratio is around 11% and falls short of the sums required to sustain the government's spending programmes.

Government revenues are comprised of several elements. These include direct and indirect taxes; sale of assets in public enterprises; licence fees (such as those received in the sale of spectrum to telecom companies or mining concessions) etc. Ultimately, it boils down to healthier tax collections and therefore a fine balance that ensures compliance and is workable in the long term. Very high taxes create either defiance dilemmas or quite simply, business and people decide to migrate out of the country. Over the past 5 years over 35,000 very rich business families have left, some of whom may have been tax dodgers but still others, honest business people.

The finance budget increased taxes on the rich and there are murmurs on bringing about inheritance and wealth taxes. Many countries have tried this, eventually succumbing to the realism that they create more compliance headaches. The issue really boils down to increasing the number of tax payers and ensure ease of conformity where people willingly pay their due. Taxpayers in India rose from a measly 53 million in 2013 to about 85 million in 2018. Direct tax collections now aggregate 6% of GDP and have never actually been higher than 6.3%. Significantly, in the last five years, the ratio of personal income tax to corporation tax has jumped from 62% to 72% and there are limits as to how much more this can grow, considering the fact that agricultural income is not taxable and neither is that of individuals that earn below Rs 5 lacs. According to estimates, the entire universe of assesses under the present dispensation cannot exceed 110 million or perhaps a few notches lower. There are therefore limits to what growth personal income taxes can deliver.

According to some estimates, the universe of tax assessees under the present dispensation of exemptions is about 110 million of which 85 million are already in the tax net.

Interestingly, the total income of all tax filers is estimated to be Rs 50 trillion, which amounts to a quarter of GDP. This group pays taxes of Rs 8 trillion, implying an average tax incidence of 15%. Assuming the poorest 80% earn no more than 20% of India’s Rs 200 trillion GDP, this leaves Rs 160 trillion in the hands of the well-off population. If, through a tweak in policy, the balance Rs 110 million could be brought into the net, even at half the current average rate, say 7%, the additional income to the treasury would amount to Rs 8 trillion, aggregating to a total direct tax collection of Rs 16 trillion. This changes the scenario drastically with a lot more spending leverage available to government. But this also means everyone should pay taxes – even farmers and with those who earn under Rs 5 lacs, albeit at much lower rates. The current dispensation, to provide exemptions to large segments of society, puts the burden unfairly on the very few who either comply, dodge or migrate. Understandably, there are political compulsions and large constituencies that have had a free ride for too long will resist any change. Historically, governments have picked the easier path by higher impositions on the rich, as their ability to swing elections is marginal. But in the end, national development suffers, as do vital programmes that are indispensible for a more equitable society. Something will have to give.

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Adit Jain, Editor