Distortions in the implementation of value added tax (VAT), deficiencies in planning and loopholes in VAT Acts and rules across various states have cost the exchequer heavily since the introduction of the tax. Owing to deviations from the rules and continuation of existing incentive schemes post-VAT, the exchequer suffered a loss of Rs 6,400 crore between 2005-09 in three states including Gujarat, with the Reliance Group of Companies accounting for more than 90 per cent of it, apex accounting body, the Comptroller and Auditor General (CAG) of India, has said in its report on the implementation of VAT in states.

Continuation of the incentive schemes under the VAT was against the spirit of the original schemes and resulted in undue enrichment to the incentive holders at the cost of the general public, besides payment of input tax credit (ITC) to these units from state coffers, leading to excess outgo of taxpayers money, the CAG said in its report.

The exercise becomes important in view of the Centre planning to introduce a new indirect tax regime, the Goods and Services Tax (GST), from April 1, 2011. The CAG said that the loopholes encountered in VAT should be kept in mind while preparing the structure of the new indirect tax regime.

The CAG said the lackadaisical approach of states towards clearance of pending assessments (those pertaining to the pre-VAT period) after the implementation of VAT led to a staggering rise in pending assessments and tax arrears over 28 lakh pending assessments in 15 states and uncollected demand of Rs 40,600 crore in seven states.

The CAG reviewed the transitional process from the sales tax regime to the VAT system across 23 states and found that there were shortcomings in the process of automation, that the process of scrutiny of returns and tax audit was not streamlined in almost all the states, that the process of ITC was faulty and that the states had deviated from the basic design of VAT.

Unavailability of any foolproof mechanism for scrutiny of returns led to tax evasion of Rs 873 crore from 2,614 returns in 15 states. Many dealers were also granted tax exemption without any documentation, the CAG report said. Further, in the absence of checks for availing of input tax credit, inadmissible ITC of Rs 829 crore in 53,170 cases across 16 states were allowed. Apart from these, the CAG said the non-deduction of TDS was also widespread across the states.