Tax Revenue in India: Trends and Issues

Tax Revenue in India: Trends and Issues Pratap Singh ISBN 978-81-940398-4-6 © 2019, Copyright Reserved The Institute for Social and Economic Change, Bangalore Institute for Social and Economic Change (ISEC) is engaged in interdisciplinary research in analytical and applied areas of the social sciences, encompassing diverse aspects of development. ISEC works with central, state and local governments as well as international agencies by undertaking systematic studies of resource potential, identifying factors influencing growth and examining measures for reducing poverty. The thrust areas of research include state and local economic policies, issues relating to sociological and demographic transition, environmental issues and fiscal, administrative and political decentralization and governance. It pursues fruitful contacts with other institutions and scholars devoted to social science research through collaborative research programmes, seminars, etc. The Working Paper Series provides an opportunity for ISEC faculty, visiting fellows and PhD scholars to discuss their ideas and research work before publication and to get feedback from their peer group. Papers selected for publication in the series present empirical analyses and generally deal with wider issues of public policy at a sectoral, regional or national level. These working papers undergo review but typically do not present final research results, and constitute works in progress. Working Paper Series Editor: A V Manjunatha Tax Revenue in India: Trends and Issues Pratap Singh∗ Abstract India has a federal tax structure. Centre, states and local bodies collect taxes as per the scheme laid down under the Constitution, more particularly under the seventh schedule. Article 265, however, puts restrictions on this power and states that “No tax shall be levied or collected except by the authority of law”. Many countries have undertaken tax reforms in recent years, and some of them with significant success, which may act as a good benchmark for India. Such reforms are motivated both by local factors as well as the global economic scenario. While tax reforms in India have been carried out since the early fifties, the fiscal crisis of 1991 provided the first big opportunity for a serious rethink and action. Accordingly, a committee was set up under the chairmanship of Raja Chelliah to draw a roadmap for tax reforms and to put the economy on track. This committee suggested tax amendments of far-reaching consequences and initiated the process of liberalisation. As Bird (2014) pointed out, countries’ taxes affect investment, allocation and distribution of resources as also the rate of the economic growth and therefore the role of tax administration becomes quite important in developing countries. One particularly important aspect is benchmarking of the tax administration’s performance vis-a-vis global best practices and align it with such practices (Bird, 2014). Two common approaches to benchmarking are the quantitative approach and the qualitative approach. Both these approaches consider each component or aspect of the tax administration separately. Studies carried out by OECD, IDB and ADB about tax administrations of various countries may act as a comparative guide for developing countries like India to improve their tax administration. Trends analysis of tax collections therefore provides a good opportunity to evaluate the performance of tax systems in comparative terms. This paper presents a brief history of tax reforms in India. In the next section, trend analysis of tax collections in India as also the tax GDP ratio have been analysed, which show relative stagnation or deceleration in tax revenue. How tax policy changes impacted collection of taxes in India positively or otherwise is examined in the next section. An analysis of the costs of tax collection and possible efficiency of the tax system has also been undertaken. Also, international comparison of various tax administrations has been attempted so as to examine where the Indian tax administration stands vis-a-vis its global peers. Lastly, based upon global best practices, further reform direction is explored. Introduction “It was only for the good of his subjects that he collected taxes from them, just as the Sun draws moisture from the Earth to give it back a thousand fold" –--(Kalidas in Raghuvansh ) Tax structure in India has been under continuous modification since independence. We had a record of number of Committees looking into the needed changes in the existing tax structure. Even today, one cannot say that everything is absolutely systematized and we have a flawless structure and operations in Indian tax structure. Taxation is a very old concept; as old as civilisation itself. There is detailed discussion on taxation in ancient Indian texts ‘Manu Smriti’ and ‘Arthasastra’. According to Manu Smriti, the king should arrange the collection of taxes in such a manner that the taxpayer does not feel the pinch of paying taxes. Chanakya in Arthasastra discussed the concept of taxation as also the system of tax administration. The tax system being administered today is in many ways quite similar to what was described by Chanakya. The modern taxation system in India was introduced in the year 1860 by James Wilson during the British rule. Further codification was introduced in the year 1922. This system continued and in 1961 a new attempt was made towards this, when Income Tax Act 1961 was brought into effect, which is more or less continuing with some modifications. The authority of the government to levy taxes in India is legitimized in the Constitution of India, allocating the powers to ∗ PhD Scholar, CESP, ISEC, Bangalore - 560072. 1 levy taxes to the Union Government and State governments, as per the scheme laid down under VIIth schedule. Article 265 puts restriction on taxation powers of the state and says no taxes shall be collected otherwise than authority of law. Further all taxes levied within India need to be backed by an accompanying law popularly known as Finance Bill passed by the Parliament or the State Legislature every year. Attempts towards setting up a fair tax system has always been a big challenge for developing countries like India. An ideal tax system is expected to raise necessary and timely revenue for the government without influencing heavily the investment decisions or the economic activity. However, it is not an easy task to establish an efficient tax system in a developing country like India where large number of people are still engaged in unorganized or informal sector where cash transactions dominate the economic activity. Therefore, it is difficult to calculate the tax base or decide about a rate with any objectivity. Further, the tax administrative structure also has its weaknesses in terms of wages or infrastructure and that is a part of the overall system of administration. This leads the State to limited options available distanced from establishing an efficient and ideal tax system. Therefore, after many attempts to reform, we are yet to arrive at a flawless ideal system of Tax administration, which plays a crucial role in determining a country’s real or effective tax domain. Unfortunately, tax administrations in many countries cannot function optimally and as a result the intents of tax laws are not fulfilled. In order for taxation to have its intended effect on the allocation of resources, the distribution of income, and macroeconomic stability and growth, the tax administration must function effectively and efficiently. The principal objective of tax policy in a developing market economy is to raise revenues in an equitable manner and with minimum unintended changes in relative prices and allocation of resources as per the famous canons of taxation. Indian tax system suffers from both low productivity and significant distortions and is in need of reform (Rao, 2016). Although raising tax revenues calls for the rich to be taxed more heavily than the poor, however in practice it rarely happens as rich tax payers command immense power and can manipulate process of tax reforms. This is the reason behind many developing countries, contribution of personal income tax is very small in the overall taxes. In developing countries therefore, tax policy is often an art of the possible rather than the pursuit of the optimal (Vito Tanzi, 2001). It is therefore not surprising that economic theory and especially optimal taxation literature have had relatively little impact on the design of tax systems in these countries. In the present study an attempt is being made to analyze Indian tax system specifically from the standpoint of administrative dimension, associated problem areas and policies to address these. A few suggestions are given for attaining better efficiency and effectiveness, following global best practices. A Brief History of Tax Reforms The history of tax reforms in India is quite old, but systematic and comprehensive tax reforms were started only after 1991, when the Tax Reforms Committee (TRC), also known as Raja Chelliah Committee, laid out a road map for reforming the tax structure in the wake of an economic crisis. Thereafter in 2002, the Kelkar Task force was constituted, which suggested further modifications in the tax structure. The Direct Taxes Code Bill 2008 and Tax Administration Reforms Commission (TARC) 2 headed by Shome (2013) were further steps in the same direction. The basic principles outlined in the recommendations of the above committees/task force were to

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