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Will Budget 2011 push Indirect Tax Reforms?
February, 09th 2010

The Union Budget 2010 2011 is expected to be unveiled by the Government on 26 February 2010. It is hoped that unlike the Interim Budget 2009-2010 which did not clearly match up to the expectations of the industry, the proposed Union Budget would provide economic support to industry.

Over the past financial year the global recessionary crisis has been very grave and has impacted the economic growth of the country, albeit marginally in India as compared to the developed world. Although the Government has over a period of time introduced fiscal tax reforms (reduction in the service tax rate, reduction in the excise rate on specific products etc),  it is critical for policy makers to focus on infrastructure and core industry issues concerning existing indirect taxes and implementation of  Goods and Services Tax (GST) in the upcoming Budget.

Though it was expected that the country would migrate to a more rational regime in the form of a GST in April 2010, the date of GST implementation has been delayed. This unified system of tax would lead to an introduction of a transparent and effective form of value added tax or more appropriately, a unified tax on all the goods & services produced in the country. Since the new scheme of taxation would have a far reaching impact on indirect tax costs for businesses in India, it is essential to make adequate preparation for transition from the current system of indirect taxes to GST and communicate the same to the tax payers before its introduction.

One of the steps towards smooth implementation of GST is by completely phasing out the Central Sales Tax (CST) from the current system of indirect taxes. Under the current regime, the levy of CST appears to hinder the smooth flow of credit across the supply chain as the credit of CST is not available against State VAT liability. This eventually leads to tax cascading which is against the basic principle of GST scheme.

Although the legislators had proposed to bring down the CST rate from 2 to 1 percent by April 2009, the said time frame has been missed. Over the past two years the CST rate has come down from 4 to 2 percent. It is expected that the policy makers would consider completely phasing out CST in the upcoming budget as a further step towards the implementation of GST.

Ideally, pending the introduction of GST, excise duty and service tax should be integrated with a uniform lower rate in order to facilitate effective transition to GST. The tax base for services should also be expanded with a negative list of services (as would continue under the proposed GST also) on which tax would not be levied. This would not only ensure harmonisation among the current system of indirect taxes, but would also enable smooth transition of systems, procedures and documentations under GST.

Separately, on the current system of taxes, the grant of refund of service tax to exporters, whether of tax paid on output services or cenvat credit of input services has become quite a critical issue. As per the existing laws, the procedure prescribed for refund is not only cumbersome, but also involves extensive documentation and certification. The existing procedural formalities followed by the tax authorities leads to tremendous delays and litigation thereby invalidating the entire purpose of the refund scheme. The same also leads to a negative impact on the cash flow of exporters. Thus there is a dire need to revamp the entire refund process as existing under the current system to ensure timely grant of refund of the cash to the exporters.

Also the concept of used outside India for services to qualify as exports need to be clarified by the policy makers as the same has been the subject matter of litigation by the tax department. In a recent circular issued by the service tax authorities, it has been clarified that the term used outside India should be interpreted keeping in mind the classification of exported service under the Export Rules.  If such an interpretation is adopted, where the meaning of term used outside India is derived from the other  conditions prescribed for a service to qualify as exports, than the condition of used outside India would have no relevance in determining whether the service qualifies as export or not.  Therefore, the legislators, in the forthcoming budget may consider the elimination of the condition of used outside India.

Certain sectors are plagued with miscellaneous levies for instance Research & Development cess, automobile cess and so on that increases the overall cost for the market players operating in these sectors. The revenue generated from these levies is allocated for other socio-economic purposes by the Government. The upcoming budget could consider removal of these levies by allocating separate revenue by the Government for the said purposes.

Another aspect which has a scope of improvement is the expansion of the scope of infrastructure services under service tax. Only two services i.e. works contract service and commercial and industrial construction service are exempted when provided in relation to specific infrastructure projects such as road, railways, airports, dams and so on. It is highly recommended that power, water, housing, oil production and pipeline projects, mine projects should also be included within the scope of infrastructure projects eligible for exemption. This would provide a boost to the infrastructure sector which needs to develop at a faster pace than its current speed. Substantial investment in improvement of the current infrastructure and domestic tax reform are mandatory to sustain Indias economic development.

On the issue of the refund of Special Additional Duties of Customs (SAD), there is a need to exempt goods imported for resale trade from the cumbersome and impractical procedure for SAD refund. Importers face a harrowing experience while processing SAD refund claims from the authorities.

In addition, there are indirect tax issues which are specific to certain industries and need to be addressed in the forthcoming budget. For instance, clarifications are required to address the issue of sale of licensed software i.e. the same is a taxable service or should be treated under VAT; dual levy of customs duty and service tax on import of software ; excise duty slabs and rates on tobacco products etc. Accordingly, the specific issues concerning industries should also be provided addressed and be aligned with the international practice in this regard.

There are significant issues facing the current indirect tax system in the country which need to be addressed in the upcoming budget. However, the implementation of the proposed GST in a gradual & manageable way appears to be a taxing effort on the part of the policy makers. There is a need to ensure that the regime does not have any adverse impact on the average tax payers and at the same time is in line with its social commitment towards the people having meager means of livelihood.

Thus the forthcoming budget should seek to reduce the short comings of the existing taxation system to align it with the proposed GST and hence enable Indian industry and economy to smoothly transition to a competitive and flawless GST regime.

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