This article was first published in
GARP Risk Intelligence on March 02, 2018; Co-author: Anisha
Sircar and Nitya Bodavala
The objectives of the Goods and
Services Tax are clearly stated, but the implementation is complicated
On July 1,
2017, the Indian economy experienced its second historical policy overhaul in
under 12 months (demonetization being the first). The Goods and Services Tax
(GST), the most dramatic tax reform in the country since 1947, had been under
way in parliamentary dialogues for almost a decade – in contrast to the sudden
implementation of demonetization.
Seeking to unify many central and state taxes
and streamline the existing indirect tax system, GST had ambitious goals mapped
out for the country’s economy.
The
potential positives of GST have been well-touted: the common tax system will
reduce the incidence of double taxation, lower business costs across sectors,
bring India’s informal sector into the mainstream, and increase exports,
benefiting the overall fiscal health of the country.
But there
are several issues related to the implementation of the GST, among them:
reliability of the information technology, documentation hassles, potential
revenue losses, and an abstruse anti-profiteering clause.
What is GST?
The
Constitution Amendment Bill for Goods and Services (GST) was passed on August
3, 2016 by the Rajya Sabha, upper house of the Parliament. A single, uniform
tax levied across India, on all goods and services, GST was proposed to sew
together a common market by removing fiscal barriers between states.
It was
anticipated that India’s tax structure would become more comprehensive, a
common market would develop, and the cascading effects of multiple indirect
taxes on the movement of goods and services would be reduced.
In theory,
GST is simple. The government charges a series of indirect taxes (alongside
direct taxes) to raise revenue for public expenditure. Under GST, at least ten
types of “indirect taxes” are subsumed under a single system, putting an end to
the hitherto several levels of taxes levied on commodities as they move through
the production cycle. Taxes under the system are collected on a
“value-addition” basis, at each stage of sale or purchase in the supply chain.
Impact on the Economy
GST is
viewed as a game-changing reform because it impacts the structure, incidence,
computation, payment, and compliance of indirect taxes, as well as credit
utilization and reporting.
Its main purpose was to eliminate the compounding
effect by combining central and state indirect taxes and fixing a final tax
rate, where all goods and services would fall into five distinct tax
categories, and where value-added tax laws did not differ across states, thus
making it less problematic for both the producer as well as consumer at each
stage of in the supply chain.
Before,
myriad taxes were applied at the central and state levels. After the
implementation of GST, only three types of taxes are applied:
- Central
Goods and Services Tax (CGST), levied by the center on intra-state supply.
- State
Goods and Services Tax (SGST), levied by the state on intra-state supply.
- Integrated
Goods and Services Tax (IGST), levied on goods and services for intercourse
trade or commerce, imports, and exports.
Under the
new system, transactions have “slabs” of tax rates, depending on the nature of
the good or service. All items, ranging from agricultural and necessity goods
to luxury goods and consumer durables are categorized in the five major tax
slabs of 0%, 5%, 12%, 18%, and 28%. The range is from zero on items deemed as
essential or necessity, 28% on goods deemed as luxury.
‘Level Playing Field’
With this
system replacing the multiple-tax structure, a more uniform regime has been
implemented, state-specific advantages and disadvantages are set to diminish
(because smaller businesses now get to make higher profit margins, and offer
lower prices than their competitors, thus “leveling the playing field”).
The
average costs of goods and services across the country are reduced with the
elimination of double taxation; inflation may decrease in high-productivity
categories; and commodities can easily move across the country, with reduced
transaction costs and transportation inefficiencies for businesses.
An
ancillary benefit is that the threshold for companies exempt from paying
indirect taxes has been reduced from Rs. 15 million to Rs. 1 to 2 million,
depending on the location of the company, thereby attempting to bring the informal
sector into the fold of the formal sector of the economy.
Further,
taxes paid by the consumer are not only structurally straightforward and
transparent (as opposed to a slew of overlapping and elusive taxes), but the
final tax itself is set to reduce, thereby having a positive effect on
consumption and boosting the economy at large. In this way, the simplicity of
the tax structure appears set to bring about greater tax compliance, increasing
the tax base and, in turn, revenue for the government.
With an
overall decrease in production costs, and with GST not levied on exported goods
and services, India’s international competitiveness is expected to increase.
From a
macroeconomic perspective, then, the long-term impact of GST on the economy
seems favourable: improving efficiency, widening the tax base, narrowing the
gap between the informal and formal sector, and increasing overall fiscal
health.
Technology and Other Challenges
One of the
hallmarks of this tax reform is the introduction of the Goods and Services Tax
Network (GSTN), which records all GST transactions and is supposed to be
conducive to seamless documentation, debit recording, and credit disposal.
However, a
lack of timely migration into the network can be detrimental to the viability
of the tax program, because the IT infrastructure is the only means to track
and implement the new system.
Also,
verifying and legitimizing the data provided online is a mammoth task, given
its estimated 70 million users. Because GSTN has refused the Comptroller and
Auditor General of India access, citing its “private entry status,” there is
little scope for auditing the authenticity of GSTN information, which could
compromise public trust.
Additionally,
particularly in the short-term, small and medium-size businesses are facing
difficulties in integrating and transitioning to the new system, in terms of
cumbersome documentation requirements, complex and unaudited IT systems, and
adapting to the new taxation on their businesses.
There have been day-to-day business
disruptions and revenue losses during the transition phase. And lower
thresholds for tax exemption imply that a manufacturer, service provider, or
retailer who did not face a tax levy, will now enter the GST network, which
could increase their costs.
The
fundamental drawback with the tax code is that the onus is placed on the
purchaser, who is responsible for filing all documentation on behalf of the
supplier, in order to acquire input tax credit. Problems could arise if
inconsistencies are found in suppliers’ documentation at later stages, in which
case the buyer would end up having to pay for not only his/her share of tax,
but also for the supplier’s share – or be forced to pay back the tax
reimbursement to the government with interest.
This problem could be fixed in
the long run by market forces, which ensure non-compliant suppliers lose out on
customers; and by a government mechanism to allow customers to pinpoint such
defaulters, which is expected to take effect in the future.
Finally,
the anti-profiteering clause requires that businesses pass on any benefits of
the changes to the final consumer. However, because of ambiguity in the framing
of this clause, firms might be affected as tax authorities will be given the
leeway to make arbitrary judgments about whether a business is engaged in
profiteering or not.
Simultaneously, consumers will be affected because of the
lack of transparency in the ruling, giving rise to fears that political
connections or corrupt practices will affect these judgments. Again, this ties
in to a compromise in the public confidence in GST – a fundamental determinant
of the success or failure of the new tax regime.
Course Corrections
The GST
Council, empowered to oversee tax rates and regulations, and composed of
finance ministers from the states and center, has been meeting monthly to take
stock and propose alterations with respect to the implementation of GST. The
council has lowered the rates on several items to help distressed industries
and eased the burden of compliance in response to problems faced by traders.
The deadline for firms to file their forms was also extended, which was
welcomed as a huge relief for businesses.
While
these are welcome alterations, several issues remain unaddressed. The GST
system is expected to span the country by April 2018. It remains unclear how
inter-state business interactions will be impacted, and industries have good
reason to worry about extant as well as fresh complications.
But amidst the
flurry of documentation requirements, IT adjustments, and anti-profiteering
provisions, it would bode best for the government to work to bring more clarity
to the remaining grey areas and instill a stronger sense of confidence, for
both producers and consumers, in the theoretically promising policy endeavor.
Most strikingly, the issues surrounding GSTN and auditing the complex IT
infrastructure remain a fundamental barrier to all-important public confidence.
If
implemented correctly, the outcomes from the reform will reflect its
much-needed economic rationale. Eliminating double taxation and multiple tax
hassles, increasing efficiency, assimilating the informal sector, lowering
transaction costs and product prices, and intra- and inter-state movement of
goods and services could be overwhelmingly positive boosts for Indian markets.
Perhaps with a committee to oversee complaints, a more comprehensive auditing
system, more specific delineation of what is “anti-profiteering,” and more
widespread educational efforts, much-needed corporate and public confidence in
GST could be instilled.
