By Shreya Gandhi
Edited by Namrata Caleb
Over the past few years, the introduction of a Goods and Services Tax (GST) has been a much debated reform of the indirect taxation system of India, which has recently seen the nod of the cabinet. The GST bill is also set to be introduced in Parliament shortly. Many in India Inc have touted it as an essential move towards economic growth and efficiency and Raghuram Rajan himself, recently stressed on the need for an integrated GST to improve domestic production. But what really is the GST and how will it help considering we already have a functioning tax system?
Essentially, it is a form of indirect taxation based on the value added principle followed in most developed countries today including Australia, Canada and New Zealand among others. When this bill is implemented, three main taxes will replace most of the current indirect taxes. These are the CGST or Central Goods and Services Tax levied by the center, the SGST or the State Goods and Services Tax levied by the states and the IGST or the Integrated Goods and Services Tax on interstate trade, whose gains will be shared by the center and states.
The current structure of Indian taxation is highly complex and includes many taxes levied by both the center and the states, consisting of the Excise Duty and Value Added Tax (VAT) amongst others for goods and the Service Tax for services at many different rates. Introducing the GST to replace these taxes will create a single unified market with the use of one rate of taxation as opposed to multiple rates. This simplification will encourage foreign investors to “Make in India”, a country otherwise notorious for driving away companies due to its complicated procedures.
Another feature of this tax is that it treats goods and services in the same manner, so the same rate of tax is levied on both of them and services, which are currently taxable only by the center, will also be subject to state levy under the GST. But why is this important? Let’s take an example of digital media. An online subscription of newspapers could be viewed as a service but an online purchase and download of a book could be viewed as a purchase of a good. So how does one tax goods and services separately when the boundary between them is blurred or they come as a composite good? By taxing both goods and services in the same manner, the GST will eliminate definitional issues which give rise to disputes.
Another main benefit expected of this tax is the removal of ‘cascading’. In its simplest form, cascading means a tax on another tax. In a system with multiple taxes where some are levied by the center and some by the states, producers do not always get a refund on the tax they paid to the government for the inputs that they used to produce a commodity or deliver a service, when they pay the tax on the final product. This leads to a scenario of ‘double taxation’ and increases the cost of production which in turn carries over to us, the end consumers and thus maintains a high general price level as well. A uniform GST will eliminate this double taxation by allowing maximum tax credits to be given to firms and put Indian producers at a competitive advantage in the world market.
Some even see this tax as a revenue booster and expect an improvement in the tax-GDP ratio of India, which is strikingly low as compared to most other countries. A study by NCAER states that the implementation of the GST will cause the GDP to improve in the range of 0.9% to 1.7%, gains in exports to be in the range of 3.2% to 6.3% and wages to improve in the range of 0.68% to 1.33%. It also forecasts that the overall price level will reduce.
So it can be seen that the GST, if implemented in a neutral and efficient manner, can be a real game changer for production in India. Due to this fact, Prime Minister Modi, who initially disapproved of it in his 12 year stint as Gujarat chief minister, now stands firmly proposing it and the government is determined to decide on the controversial change as soon as possible. However, along with many benefits, the GST comes with its share of complications. Firstly, a loss of revenue seems to be a major cause for concern for the states and as a result, many have been holding out their consent for the GST bill which requires a constitutional amendment and hence their ratification. The previous indirect taxation system granted major fiscal autonomy to the states in the sense that they had a number of independent taxes, which they could regulate in case of revenue or other requirements. Recent negotiations between the Empowered Committee and Finance Minister Arun Jaitley have led to a clause being included in the constitutional amendment which says that the states will be compensated for revenue losses for up to five years.
The Central Sales Tax (CST) additionally levied on interstate trade, which generates revenue exclusively for the states will also be reduced in the impending reforms, from 2% to 1% and eventually phased out. Now this tax is majorly distortionary in nature as the prerequisite of a completely efficient tax is allowing full credits on inputs and the CST does just the opposite. This again causes a cascading impact on the cost of production. The government has long sought to eliminate this tax completely and many experts are of the opinion that keeping it functioning, even for a while, will dampen the positive impact of the GST. However as always political compulsions tend to screen contentious reforms in our country and hence compromises must be reached.
While these revenue compromises have been successful in moving forward with the reform, one wonders how the center will go about the compensation. If the decision is to follow a trend line in calculating the value of the compensation based on past values of revenues collected by the states, it will be difficult for the center to shell out that kind of money, considering that if inflation slows down as it is expected to, its own revenues will also suffer.
Another concern is the rate of GST which will be levied. World over a rate between 15 to 20% is applied as the concept of a GST is to have a tax levied at a broad base and low rate. New Zealand, which is considered to operate the best functioning GST, levies it at a rate of 15% while Singapore levies it at a mere 7%. However the discussed rates for the Indian GST are in the range of the late 20’s. The viability of such a rate is questionable considering the reasons behind implementing the GST is to boost production and not hold it back by taxing Indian goods heavily.
The GST nevertheless, is a long delayed reform imperative for India’s growth and efficiency which will definitely have a positive impact on our economy.
Shreya Gandhi is a second year student of Economics at the Lady Shri Ram College for Women. She is an advocate of gender equality and loves dogs. She is extremely interested in current events, especially in the political, economic and financial spheres and hopes to make a career in finance in the future.