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Expectations from Budget for indirect tax
February, 22nd 2010

Now that Budget 2010 will soon be upon us, it is worthwhile to look at what it could hold in place with regard to proposals on indirect taxes. This article seeks to do some crystal ball gazing.

Any discussion on indirect tax proposals will need to be contextualized by reference to the dual Goods and Service Tax (GST) scheduled for implementation in the near future. The point is relevant regardless of whether the GST will be implemented by October 2010 or only in April, 2011, being the two relevant and most likely dates.

Now, the GST is a dual one comprising a Central Goods and Service Tax (CGST) and a State Goods and Service Tax (SGST). The discussion is limited to the CGST component alone.

The first point is that Budget 2010 affords an important opportunity for the Centre to signal its intention on the likely CGST rate under the dual GST. Another contextual point on GST is it is intended to be a destination based consumption tax. Consequently, the Central Sales Tax (CST), which is an origin-based tax, needs to be withdrawn on the introduction of the GST.

The moot point is how best this objective might be furthered through proposals in Budget 2010. The third contextual point on the GST is the manner of the likely introduction of the dual GST structure and the consequential constitutional changes in this regard. Budget 2010 could likely incorporate some forward looking statements. Finally, Budget 2010 could address the issue of exemptions from duties.

While the GST undoubtedly provides context to expectations on the indirect tax proposals, it is important to note that the immediate priority would be to address the enormous fiscal deficit. Consequently, it seems the Government will consider right proposals for enhancement of tax rates, among others, as a way to address the deficit.

The related point here is the need to address the runaway inflationary situation on the ground. Indeed, the Prime Ministers Economic Advisory Council seems to have taken note of these considerations late last week in recommending an increase in duty rates to address the situation on the deficit, while being mindful of the inflationary potential of such increases.

Let us now consider these objectives. As regards the likely rate of the CGST, while no announcement has been made in this regard, it appears likely that consensus could emerge around an aggregate GST rate of 16%, comprising an 8% CGST and 8% SGST. If this were to come about, it is a moot point as to whether the excise rate presently is at 8%, as a result of the stimulus, will need to be raised.

It will be noted that the service tax rate is at 10% and should the CGST be uniform at 8% across goods and services, the service tax would actually need to be cut and not raised! Thus, should the CGST be targeted at 8%, there ought not to be an increase in the present excise or service tax rate. This position would of course change should the CGST be targeted at higher than 8%.

However, the trade off here is between the signalling opportunity and the need to address the fiscal deficit. Indeed, the point about withdrawing / rolling back the stimulus measures, by way of an increase in the tax rate, is essentially of enhancing revenues to address the deficit.

Since the deficit is so very alarming, it appears likely that an increase in the excise duty rate of 2 percentage points, to bring it in line with the service tax is likely, regardless of what the CGST rate will ultimately be under the GST regime.

Now, an increase in the excise rate of even this relatively small magnitude adds to inflationary pressures. These need to be managed through monetary measures and not fiscal measures. The prognosis is, therefore, of an increase in the excise duty rate without an increase in the service tax rate.

While on the point, it is worth nothing given the situation, it is unlikely the Government will reduce the customs duty rates as well, in Budget 2010.

Moving away from rates, Budget 2010 could incorporate proposals to eliminate / reduce the rate of the CST. The Government needs to address this, given that the understanding was that the CST rate of 2% will remain upto the understood date of introduction of the GST of April 1, 2010. Since this is unlikely, it is appropriate the Government considers a cut in the CST rate. This is, of course, predicated on the states agreeing to it.

It appears this discussion is an ongoing one. Should this be the case, perhaps Budget 2010 will unfortunately pass up the opportunity to reduce the CST rate. One hopes this is not the case. On the next point, Budget 2010 could incorporate indications as to how the Government perceives the GST model and therefore the relevant constitutional changes required. This is a key expectation from the Budget.

One must note the dual GST can be brought about in many ways, from a design standpoint, and it is imperative the particular model and structure of the GST be finalised, so that these changes can be brought about within a defined time period.

Finally, Budget 2010 could reduce the number of exemptions from the excise and service tax, as also the customs duty, preparatory to the introduction of a moderate GST. Such a GST can be brought about if the plethora of exemptions is minimised. Perhaps Budget 2010 would address this pressing issue.

The answers to all these riddles will be known in exactly five days, by Friday 26th February.

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