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New direct taxes code aims for lower rates, wider base
December, 04th 2017

Lower income tax rates, and more taxpayers—that’s the overall aim of the new direct taxes code being put in place by a panel appointed by the Narendra Modi government, according to an official familiar with the matter.

It is unlikely individual taxpayers will get to celebrate anytime soon, although the official, who asked not to be identified, mentioned a timeline of 2019. The committee, set up in November, has been given six months to submit its report, but the understanding in the government is that it could take longer, a senior finance ministry official had said in November on condition of anonymity.

Still, it is significant that the government is thinking of lower tax rates because current tax rates and tax slabs are already more liberal than the ones suggested in an earlier draft direct taxes code prepared by a panel under the earlier United Progressive Alliance government.

The official also added that the aim is to get more people to pay direct taxes (currently only 4.5% of India’s 1.3 billion population does) and take the direct tax-to-GDP ratio to as close to 18% as possible, and explained the logic behind the 18% number. At present, about 20% of GDP is out of taxation on account of exemptions given to agricultural income, which will continue in the proposed new direct taxes code as well. Other tax exemptions, and varying slabs, account for another 20% of GDP from the direct tax base. A 30% tax on the remaining 60% of GDP should have brought in around 18% of GDP. The current direct tax-to-GDP ratio is 5.6%.

Experts termed the target aspirational. “It is a long-term vision that needs a robust and calibrated plan to make it a reality,” said Mukesh Butani, founder, BMR Legal, a law firm specializing in tax advisory services.

Still, it is likely the target is directional, and even a marginal improvement will help increase India’s overall tax-to-GDP ratio. Including direct taxes and indirect taxes, this is currently 10.8% of GDP (excluding state taxes) but likely to increase because of the unified goods and services tax introduced this year.

The broadening of the tax base will provide leeway to cut tax rates, said the official cited earlier. “You have to collect taxes from someone to give relief to someone as public expenditure cannot be compromised.” In theory, lower tax rates and liberal tax slabs could also mean more compliance, resulting in a so-called virtuous cycle, meaning more people pay taxes.

The finance ministry had on 22 November set up a task force with Central Board of Direct Taxes member Arbind Modi as convener and chief economic adviser Arvind Subramanian as a special invitee to draft a new direct taxes code in the light of global best practices and the economic needs of the country.

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