As Budget day 2020 draws near, the clamour for a cut in income-tax rates is growing louder. Several commentators have joined the chorus for reducing income tax that, they argue, would boost consumption, eradicate both tax evasion, and expand the tax base and collection. Such beliefs are misplaced and mistimed.
True, there is a case for doing away with the dividend distribution tax (DDT) and reducing tax rates for low-income groups, but this should be done at a future date, say two years down the line. The Budget is an opportunity for the finance minister to make credible promises in this regard. It will be a mistake to reduce tax rates when the tax revenue is well below the target, the fiscal deficit (on and off balance-sheet) is high and a weak demand is holding back growth.
The effect of income-tax cuts on demand will be limited, as it will benefit a small proportion of the population, less than 5% of the adult population, who would spend a fraction of the gains from the tax cut. Instead, the Centre should use the tax proceeds to spend on infrastructure and schemes that will directly boost demand.
In fact, the Budget could boost collection by expanding the tax base and increasing compliance. Taxpayers can be rewarded in future for their past contributions. For example, individual taxpayers can be promised a kind of ‘tax-funded insurance’ to meet eventualities like medical and job-related exigencies.
Similarly, there can be schemes for corporates and businesses for events like bankruptcy. To prevent misuse and moral hazard, the entitlements can be for a limited number of events, say, one or two. The claims can be restricted to a small fraction of the total tax paid by the taxpayer till the event. Several countries have productively used schemes in which taxpayers are randomly chosen for financial rewards.
It is important to reduce the uncertainty faced by taxpayers regarding tax rules and their interpretation by the income-tax department (ITD). Removing human interface at the first stages of assessment is a welcome step. But for technology to be a solution rather than a problem, it requires changes in the functioning of the ITD, which are not easy to come by. Consider, for instance, the ‘notices for adjustment’ issued at the first stage of assessment based only on the mismatches between the detail on the mismatches between the details furnished by the assessee and those in form AS 26. In many cases, the demands remain unrectified even after repeated attempts by the assessee to explain the mismatches with relevant evidence.
Many taxpayers have to pay different taxes in their different capacities, e.g., as partners and co-owners, in addition to their individual capacity. Also, the tax deducted at source (TDS) has to be adjusted across different assessment years. However, the present system is not equipped to correctly account for the various kinds of taxes paid by taxpayers at different points. The result is a multitude of technical glitches that take forever to resolve. The assessee suffers in the process. If these issues are not addressed immediately, the new technology-driven administration may end up causing disruption at a scale comparable to the disorder brought by the goods and services tax (GST).
To reduce litigation, there is need for an administrative forum to settle the disputes after the appeal has been processed by the income-tax commissioner.
Rather than addressing the systemic issues, so far the government has resorted to aggressive tax demands. The official measures have not delivered expected results, except for a one-time spurt in the tax base in the assessment year (AY) 2018-19, the year immediately after demonetisation in November 2016.
The dated Income-Tax Act, 1961, needs to be changed. It does not require filing of returns if the income is below `2.5 lakh, the taxable threshold. It is instructive to note that the share of non-salary income as a proportion of gross individual income of taxpayers has been declining over the years, from 48% of all individuals in AY 2012-13 to 41% in AY 2018-19.
Clearly, the tax base has not deepened among professionals such as lawyers, doctors, those running private educational institutes and many others. Similarly, a large proportion of businesses and other enterprises never appear on the radar of the taxman. They continue to under-report their income by cooking their books.
It should be mandatory to file returns by all professionals and proprietorship businesses, irrespective of their profit. This measure in itself increases the tax base and reduces tax evasion as a much larger number of evaders will face possibility of getting caught and fined.
Why Bigger is Better
The extant tax law is full of loopholes and anomalies that leave much scope for errors in computation of tax and interest liability, allowance for business expenditure to determine tax liability. Big corporates are better equipped to exploit these ambiguities and have an effective tax rate that is lower than for smaller companies. Going by Budget 2019 papers, for companies with profit greater than `500 crore, the effective tax rate is 26%. In contrast, it is 29.09% for small companies.
If the finance minister brings in transparency and accountability in the system and makes taxation progressive, it would help the taxpayer more than the tax cuts.
Source : Times of India