India’s government hopes that the Goods and Services Tax (GST) will be a game changing reform for the Indian economy, creating a common Indian market and reducing confusing multiple taxes . It is forecasted to raise India’s GDP growth rate by over one percentage point . Will the GST really live up to these expectations?
Demystifying the GST bill
Hailed as one of the biggest taxation reforms in India, the Indian GST is a comprehensive indirect tax structure, to be levied at all points in the supply chain – manufacturing and sale of goods and services at a national level.
At present, India is home to multiple taxes separately managed by Central and State governments, such as the Central Excise duty and Custom duties. Moreover, Value-added Tax (VAT), entry tax, luxury tax and entertainment tax come under the State level. Once the GST is implemented, all these taxes will come under a single tax structure, leading to a common market with the removal of fiscal barriers between States.
The GST bill aims to reduce the cost of running businesses due to the removal of multiple tax obligations and rules.
Proposed model of GST in India
The Central government has proposed a four slab GST rate structure which is likely to make manufacturing cheaper and services costlier.
As the GST bill gears towards the 1 April 2017 implementation date, the Central government has proposed a four slab GST rate structure which is likely to make manufacturing cheaper and services costlier.
Some of the highlights of the rate structure include:
States will have the right to levy GST on intra-state transactions, including on services- The Centre will levy India Goods & Services Tax (IGST) on inter-state supply of goods and services.
- Petroleum and petroleum products will be subject to GST (at a date yet to announced by the GST Council).
- Provision to remove entry tax/Octroi tax especially when a good or service enters the State.
- Entertainment tax imposed by States on movies, theatres and so forth to become part of GST but taxes at panchayat, municipality or district level to continue.
- GST to be levied on sale of advertisements and newspapers as a source of revenue for the government.
- Stamp duties to continue to be levied, typically used on legal agreements by States.
Benefits of GST bill
The advantages of the GST have been widely touted. These include:
- Simpler tax structure
The introduction of the GST will eliminate multiple indirect taxes mandatory at various stages of production. It is set to replace 17 indirect tax levies and reduction of compliance costs.
- A unified market
The Indian market will become unified, which could mean lower business costs.
- Boost to exports and manufacturing
The GST is welcome news for export-oriented businesses as it does not apply to goods or services exported out of India. Moreover, manufacturing will get more competitive as the GST addresses inter-state taxes, market fragmentation, high logistics costs as well as cascading taxes.
- Ease of tax burden on consumers
For suppliers, retailers, wholesalers and manufacturers – the recovery of GST incurred on input costs will be in the form of tax credits. This in turn reduces the cost of doing business, ensuring fairer prices for consumers.
- E-commerce to get a lift
E-commerce is complicated at present, with State levies and restrictions. There are a few sellers who do not ship to particular states. This will end with the GST taking away the multiplicity of taxes.
What is the downside?
Although adopted by over 160 countries, the GST, like all general sales taxed, is deemed to be a regressive tax where the poor pay a higher tax . What are some of the disadvantages of the GST bill?
- Exclusion of revenue generating items
Real economic growth is expected to see an increase of between 1 and 1.5 percentage points as a result of the GST reform.
Real economic growth is expected to see an increase of between 1 and 1.5 percentage points as a result of the GST reform. But the exclusion of goods such as petroleum, electricity, tobacco and alcohol may cut this gain by 0.2 percentage points. States have requested the government not to tax these revenue generating items. Another consequence of this exclusion will be vast differences in the pricing of commodities across States.
- Costlier services
Services such as movie screenings, travelling as well as dining out are set to get more expensive as the expected effective tax post-GST is 18-22 per cent whereas the present service tax is 14 per cent.
- Credit blockage
Retailers and manufacturers regularly upload invoice details containing details of customer and transactions to be eligible for tax credits. If the details are not submitted on time, then their tax credits might get blocked, creating the potential for cash flow problems.
- GST as a regressive tax and the possibility of inflation
The introduction of GST tax may lead to a spike in inflation. The poor will be affected more if this happens. Moreover, as with all general sales taxes, the poor will end up paying more tax than the rich as a percentage of their real income (since the poor tend to spend more of their income), which makes the GST a regressive tax. It is crucial in order to aid poorer citizens that India strengthens its Public Distribution Systems (PDS) and Direct Benefit Transfers (DBT), with the exemption of essential products and services from GST.
- Revenue loss to states
The advent of GST might mean loss of fiscal autonomy for India’s States. Moreover, GST follows a destination-based principle which means, proceeds from State Good & Services Tax (SGST) will go to the destination State – which in this case is the consuming State. Traditionally, producing States have been comparatively less developed than consuming States as the former are hubs for cheap and low-skilled workers whereas the latter house corporates, MNCs and skilled households. Thus, producing States anticipate a sharp decline in their overall revenue.
Challenges ahead
As the implementation date for India’s game-changing GST draws closer, important issues need to be looked into such as:
- What is the ideal Revenue Neutral Rate (RNR)?
An RNR tax rate will ensure similar revenue under the GST regime as collected from taxes under the present regime. A high RNR would adversely impact India, hurting the feasibility of doing business in industries like ICT, food processing and the service sector. A lower RNR would limit the flexibility of the government to alter the GST rate in order to meet any urgent economic needs.
- Need for a robust IT function
A robust IT infrastructure is needed to connect all government agencies, industries, banks and other stakeholders for a successful roll out of GST. A Goods and Service Tax Network (GSTN) was proposed by the government (in 2013), responsible for the working of the GST portal – a front-end system for trade, investment and back-end systems for government agencies. In addition, the portal ensures technical support for registration, return filing, tax payment and Integrated Goods & Services Tax (IGST) settlement, among other services.
- Information dissemination and training
The training of tax administration personnel – both at Central and State levels – is essential. Taxpayers also need to be informed of payment gateways and filing procedures – to ensure the transparency of the entire system.
- Inflationary pressures
The GST will inevitably create some short-term inflationary pressures in 2017. The only uncertainty lies in the extent of these pressures. When Malaysia adopted its GST in 2015, it witnessed price hikes across all categories of goods and services despite keeping a check on essential goods . A higher RNR – crucial for the government in its efforts at fiscal consolidation – would yield higher prices.
How do other countries compare?
160 countries, both developed and developing, have successfully implemented and sustained a VAT/GST tax regime . There are various models of GST in force across the world – for instance, National GST (Australia, China), State GST (Quebec model) and Concurrent dual GST (Brazil, Canada) . France is the first country that levied GST in 1960.
- Australia
The New Tax System (Goods and Services Tax) Act was introduced in 2000 at a single tax rate of 10 per cent. The GST here is a destination-based consumption tax which excludes financial supplies, residential rent, residential premises, precious metals, most medical and health services, most education courses and religious services.
- Canada
As proposed in India, Canada too has a ‘dual’ GST. In 1991, the Manufacturer’s Sales Tax was replaced by a GST of 5 per cent. However, provinces continued with the Provincial Retail Sales Tax (PST), thus having two stages of levy – one being GST and the other being Harmonized Sales Tax (HST). HST is imposed in provinces that have coordinated their provincial tax with the GST.
- New Zealand
GST was introduced in 1986 and unlike most countries, all types of food, education and healthcare are taxed at the same rate. New Zealand applies a 15 per cent GST to all private consumption expenditure.
- Singapore
GST was introduced in 1994 to enable the shift from reliance on direct taxes to indirect taxes. It is touted as helping to ensure that Singapore sustains a lower income tax rate, which encourages investments and savings. However its regressive nature came to the fore when the GST rate was raised from 5 per cent to 7 per cent around 10 years ago.
- Malaysia
Effective from 1 April 2015, Malaysia is the latest country to adopt a GST. The GST rate was fixed at 6 per cent. However, the public and business sectors call it regressive, since it has increased costs.
What the GST Bill means for India and the world
The GST has the potential to benefit the Indian economy by simplifying the tax structure, thus increasing the ease of doing business. One of its most important features has been the availability of tax credits at each stage of the value chain, which eliminates a substantial portion of the cost burden borne by manufacturers.
Initially, the economy could see inflation and States might face revenue losses (especially producing States). In order to mitigate these risks, the government is working on formulating the ideal RNR.
India’s archaic and unnecessarily complex tax structure has hampered growth for a long time. However to harness all the benefits of the impending GST – while minimizing downside risk – the GST needs to be introduced in a skillful and phased manner.
If this is done, there is every reason to believe that the GST will lift growth and the ease of doing business in India, cementing its place as perhaps the fastest growing emerging market economy today.
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