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Reforming the Direct Tax Reforms in India
July, 20th 2016

On April 29, 2016, India’s Income Tax Department released tax statistics after a gap of almost 16 years. Till 2000, the Tax Department used to publish All India Income Tax Statistics but the publication was discontinued for some unknown reason. No explanations were given by the authorities for the discontinuation of this publication despite numerous demands made for its release by Indian economists and researchers.

According to media reports, the government released this data after French economist Thomas Piketty, the author of the bestseller Capital in the Twenty-First Century, highlighted the need for greater data transparency to carry out research on income inequalities in India. During his trip to India in January, Piketty also called upon wealthy Indians to pay more tax so as to reduce the levels of income inequality in the country.

The Data

The Central Board of Direct Taxes (CBDT) has uploaded a total of 84-page aggregate direct tax statistics on its official website. In its official release, the Tax Department said the key objective of publishing these data statistics was to encourage “wider use and analysis of Income Tax data by departmental personnel and academicians”. There is no denying that reliable and timely tax statistics are necessary not only for academic research and public debate but can immensely help in formulating appropriate tax policies.

The time-series data between fiscal 2001 and fiscal 2015 contains valuable information such as the total number of taxpayers (individual and corporate), the number of permanent account numbers (PAN), actual direct taxes collection, number of effective assessees and administrative costs. One hopes that the Indian tax authorities will now periodically put all direct and indirect tax statistics in the public domain. Since most tax returns are nowadays filed electronically, aggregate data could be made available to the public within weeks. In this regard, the Indian tax authorities can seek guidance from the other G-20 countries.

Direct and Indirect Taxes

For those who are not familiar with the taxation system in India, let me explain. In India, taxes are broadly classified into two categories—direct and indirect. Direct taxes are applied directly on individuals and corporations and collected from them. Income tax, corporate tax and wealth tax are prime examples of direct taxes.

On the other hand, indirect taxes are collected by the government from an intermediary and are applied on the manufacture or sale of goods and services. Sales tax, value added tax, service tax, excise duty and custom duty are prime examples of indirect taxes.

By and large, direct taxes are considered to be progressive because they are based on the ability to pay; besides they help in reducing income and wealth inequalities, while indirect taxes are considered to be regressive because every consumer (rich or poor) pay the same price for the purchase of a commodity. The indirect taxes hit the poor more than the rich because the poor spend a large share of their income on consumption. Unlike direct taxes, indirect taxes are easier to collect with less administrative costs.

The Alarming Statistics

The facts revealed in income tax statistics are shocking, to say the least. Any observer of the Indian economy would find it difficult to believe the extent of poor tax collection in India.

Below are some really startling direct tax statistics:

• Only one per cent of India’s population paid tax on their earnings in fiscal 2013. India has a total population of 1.2 billion but only 12.5 million paid tax in fiscal 2013.

• In 2015-16, only 51 million (about four per cent) filed income tax returns. It is important to note that the number of actual taxpayers is much lower because many have declared their earnings below the tax threshold. Over half of the tax returns have zero tax liability. For instance, 16.2 million paid zero tax in fiscal 2013 while 28.7 million filed tax returns.

• In fiscal 2013, there were only 18,500 assessees (individual and corporate) who paid income tax in excess of Rs 10 million. Out of them only 5430 individuals paid tax of Rs 10 million or more.

• In 2009-10, the share of direct taxes was 60.78 per cent of total taxes but it fell to 56.16 per cent in 2014-15. It is projected to drop further to 51.05 per cent in 2015-16. Whereas the share of indirect taxes is rapidly increasing since 2010.

• Only three Indians paid tax of Rs 1 billion or more in fiscal 2013. Only eight individuals paid tax between Rs 500 million-Rs 1 billion during the same year.

• In terms of share of direct taxes in the Indian economy, the direct tax-GDP ratio was 6.3 per cent in 2007-08 but is projected to fall to 5.47 per cent in 2015-16, the lowest in this decade. Overall, the growth rate in collection of direct taxes is lower than the growth rate in nominal GDP.

• Just two Indian States, Maharashtra (39.9 per cent) and Delhi (13.1 per cent) account for 53 per cent of India’s total income tax. The maximum growth in tax collection has been witnessed in smaller States (Sikkim, Mizoram, Nagaland and Kerala) between 2008-09 and 2014-15.

All the above statistics paint a not-so-rosy picture about the status of direct tax penetration and collection in India.

Several conclusions can be inferred from these statistics. First, the wealthy Indians and big corporations are not paying adequate direct taxes. And there is a complete mismatch between the growing number of dollar millionaires and billionaires in India and tax revenue receipts. Instead of relying on the salaried class (who constitute the biggest segment of taxpayers), the government should target the super-rich for better tax compliance and widening the tax base.

Second, our tax administration is still not free from corruption and abuse of power. Despite two decades of reforms in tax administration, there is a widespread public perception that tax bureaucracy is corrupt and inefficient. Third, domestic tax evasion is rampant but it has not received much attention from successive governments. The present government claims to be focused on bringing back dirty money stashed abroad but, at the same time, strict legal, administrative and political reforms should be undertaken to stop the tax evasion taking place within the country.

Need for Comprehensive Reforms

These statistics call for a fundamental rethink in India’s tax policy framework if the country wants to move away from a regressive to a progressive tax regime. Over the years, the successive governments have launched a number of direct tax reform measures.

There is no denying that some eight million new taxpayers have been added in the last five years. Besides, numerous steps have been undertaken to make the tax administration more transparent and efficient.

Nevertheless, these statistics underscore that the current tax reforms fall short of the avowed objective of raising substantial financial resources to meet the country’s social and developmental needs.

With such a low tax collection, India cannot achieve its growth potential, leave aside the country becoming a superpower by 2020. India cannot build world-class public infrastructure and eradicate poverty from external financing (commercial or concessional) alone. The fulfilment of basic needs of the masses requires substantial financial resources. Domestic resource mobilisation through progressive taxation should play the lead role in achieving these developmental goals.

In the post-liberalisation period, the policy-discourse on reducing the Budget deficit has been predominantly centred on curtailing government spending rather than enhancing tax revenues and broadening the tax base. These statistics call for a balanced approach.

While the proposed Goods and Services Tax (GST) is expected to broaden the base of indirect taxes, comprehensive administrative and legal reforms are required to curb massive evasion of direct taxes in India. Perhaps the time has come for reforming the direct tax reforms.

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