The biggest problem facing the Finance Minister in preparing this years Budget will be the fiscal and revenue deficits. A recent Brooklyn Research Institute paper argues that revenue deficit is a more serious problem as it is inversely proportional to GDP growth.

The budget deficits of the Centre and the States could exceed 11 per cent of GDP this year. Where will the Government find the resources for meeting the expenditure commitment?

ICAIs suggestions

A high tax rate with a lot of built-in exemptions is considered less tax efficient than a low rate on a wide base. For long there has been talk about the need to widen the tax base.

Much was achieved when service tax was introduced 15 years back; the service sector accounts for half the GDP. Corporate and income taxes apply to the manufacturing sector, comprising about 30 per cent of GDP. The balance 20 per cent of GDP relates to the agricultural sector.

The Institute of Chartered Accountants of India (ICAI) has suggested that income from agricultural activities carried on by corporate houses must be brought under the tax net.

There are special provisions for computing profits and gains of retail business on a presumptive basis under Section 44AF of the Income-Tax Act, 1961. The ICAI has recommended widening the scope of this section to include small-scale manufacturing units, dhabas, tailors, small restaurants, home delivery outlets, auto spare servicing, software ancillary units, etc., whose sales turnover or gross receipts are less than Rs 40 lakh.

A Special Oil Tax

To keep fuel prices under control, the Government has spent around Rs 1-lakh crore on oil subsidies. When crude prices were at an all-time high last year, the Chaturvedi Committee was asked to look into oil pricing.

The current subsidy-sharing plan lacks transparency. The committee recommended that incremental revenues beyond $75 a barrel earned by public sector oil companies should be given to the Government as part of subsidy-sharing. At that time, crude oil prices were about $130 a barrel.

The committee suggested profit sharing based on estimated returns at that point. Private oil producers should contribute 50 per cent of their incremental earnings. Oil prices are on the uptrend again.

Black Money Abroad

The Government has admitted to having received details about 50 foreign accounts maintained by Indians in LGT Bank in Liechtenstein. The cases have been reopened under Section 148 of the I-T Act.

This is only the tip of the iceberg; much bigger cases are expected from Switzerland. The Government has committed to the Supreme Court to unravel the mystery of undisclosed foreign accounts of Indian residents. The revenue potential is considered to be huge.

A non-profit American research group, Citizens for Justice, highlights the fact that companies operating within the US use sham transactions to make their income appear to be earned abroad, so that the US taxes on that income can be deferred. Even where American MNCs actually carry out business abroad, competition with other companies in that country is based on the price they charge for their products. Corporate income taxes impact profitability and the ability of a company to compete.

The US is pushing forward with a legislation proposing deferral of deductions in the US, if the deductions are associated with foreign income, until such time that the income is brought back to the US and is subjected to American tax. This highlights the need for the Indian Government to have a fresh look at the way transnational companies, both Indian and foreign, operate.

Anti-abuse Provisions

Tax treatment of giant corporate houses requires major changes. There are very few regulations for controlled foreign companies and our tax administrators at the middle level know very little about thin capitalisation.

The aim should be to prevent domestic firms from accumulating profits in lower tax jurisdictions. American law does not encourage companies to have a debt-equity ratio higher than 3:1. Cross-border mergers and amalgamation (M&A) deals indicate the huge revenues the Government is missing a case in point is when Vodafone purchased controlling stake in Hutchison Essar for about $11 billion.

Anti-avoidance provisions are the need of the hour. The Expert Group has suggested the Singapore model.

A Finance Minister is judged not merely by the tax relief he announces in the Budget, but by the proposals for additional resource mobilisation in a painless and transparent way.