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It makes sense to not hasten with a patchwork Direct Taxes Code
August, 30th 2012

Finance minister P Chidambaram says the government will take a fresh look at the Direct Taxes Code (DTC), meant to replace the cumbersome incometax law. This is welcome. The Bill tabled in Parliament deviated from the principles embodied in the original draft, of keeping tax rates low and removing exemptions that distort the tax structure.

The government should adhere to these principles to build a new clean law that would lower the burden on taxpayers, even as it raises more resources to meet spending needs. A reversion to principle will increase the tax base to a comprehensive level, making it possible for the government to lower the corporate tax rate 25% proposed in the original code, 14% in Singapore and also increase the threshold levels in personal income for progressive rates of tax to kick in.

Sensible suggestions such as the exempt-exempt-tax ( EET) method for savings that were abandoned in the Bill should be restored. This means contributions and accumulations to savings schemes would be tax-free, but withdrawals would be charged to tax.

Here again, the principle that no savings asset would be taxed, but only income from the asset would be charged, would do away with arbitrary distinctions between long-term and short-term savings. Discretion arising from such arbitrariness will introduce artificial distortions and is avoidable. However, some proposals such as tax on assets should not be revived as it could have unsettling implications for companies, and revive incentives for opaque holdings.

Tax policy reform should be comprehensive and, therefore, the government need not rush through the DTC Bill. The point is that the DTC is not just about writing the income-tax law in simple English. It should embody sound principles. That said, proposals such as the general antiavoidance rules (Gaar), meant to curb sharp tax practices, need not wait till the passage of the DTC Bill.

Gaar must be supported with comprehensive guidelines that take away scope for arbitrary application. An unbiased tax administration, clear tax laws and a stable tax regime will improve compliance and offer comfort to investors. Thorough is more important than fast, in this case.

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