Why the government should keep taxes small and simple
Posted by: Uma Shashikant on Feb 10, 2020, 06.30 AM IST
Every year we spend a lot of time trying to figure out the Budget. Reading through the Finance Bill and its detailed proposals is not a joyous task. We are unable to simplify this system, because we are slaves to a set of assumptions.
First among the assumptions about income tax is that direct taxes are best levied in slabs, because higher income earners should pay more than lower income earners. In reality, higher income earners are able to use the services of qualified accountants to save taxes; can charge a variety of expenses and deductions; can create structures that help save taxes;and can effectively pay a lower percentage of income as taxes.
Except for those who earn a salary income and are subject to TDS, there are few, if any, instances of higher income earners paying a high proportion of income as taxes.
As one moves up the wealth ladder, incomes arise primarily from business or profession; or from capital gains. Both these heads of income have several concessions that reduce the effective tax outgo. It makes little sense to collect taxes from lower income groups, or to ask them to file laboriously long income tax returns. But we persist, and we bring in tokenisms in every Budget. This year, we have seriously muddled the waters by proposing that some can opt to not claim any deductions and pay a lower level of tax. At that level of income, this bother is not worth it.
What if we used the enormous amount of data we have, to figure how much of their declared incomes do people effectively pay as taxes? What if we accepted that taxation on income is painful at whatever level it is, and people will pay if rates are not too high? What if we stopped posturing that adding surcharges and increasing rates for a few at the top of the 8 crore taxpayers who file returns, is somehow anti-rich and pro-poor?
Second is the assumption that indirect taxes are bad and inequitable. This is the principle enshrined in the original thoughts on taxation, and its merit is straight forward. If taxes are levied at a flat rate, those earning a lower income pay a larger proportion of income as tax. Therefore, taxes on goods and services, and anything that is indirectly levied needs to be small and not be a burden, or better still not be levied at all on goods that the poor consume.
This assumption creates that long list of goods with various rates of taxes, and it also muddles the GST system that would have been simple and easy if it levied a small flat rate for everything.
But we immensely like jugaad. Every little rule is twisted and turned to reduce the amount we pay as tax. We are still smarting under the GST and many scramble to find a mean way to pay in cash and get away with it. Consider for a moment the STT that replaced capital gains tax in the stock markets. Before that tiny 0.25% tax, payable with every transaction to sell, capital gains were to be accounted in the books, and taxes paid accordingly. Not many bothered.
Replace it with a levy, everyone had no choice but to comply. That it was small was in recognition of the high volumes of trade. It pinched, but not too much. But STT still makes immense revenue sense to the government, as the tax is collected with least effort and highest compliance. We do not want to learn from what has worked, though.
Not everyone is keen to hide cash and stash it in a godown fearing another demonetisation, or keep multiple books of accounts, so much that the heirs won’t know where the money is, while the henchmen will get rich surreptitiously. What people do not like is to pay taxes. A long Budget speech and an even longer Finance Bill with minute changes to sections and sub sections of the law, are not going to enable compliance.Not even the assumption that fear and retribution will deliver discipline. What we need is an easy deal that lets people keep most of what they earn, while paying a small token amount to the government.
The third assumption that underlies most of what governments try to do, is that making the rich poor is a good way to address inequality, and that posturing to be tough with the wealthy is a good stance. On the contrary, in a country where millions have moved above the poverty line, where showing off one’s wealth is no longer seen as vulgar, the narrative about rich and poor has changed. People know they can find their way towards making a better income, and they look around for inspiration and and ideas. We consistently try to imagine that there is a demographic dividend that will work a miracle, or that there is a consumption story waiting to unfold, or that our big businesses and bigger banks will suddenly turn innovative and competent.
What we miss is that people have stopped waiting for the government to facilitate things; they just need the government to get out of their way. In a free country, where the rule of law is weak, but relationships and networks get most work done, people have figured how to create their own little fiefdoms. Big and small, these enterprises of growth draw energy from networks, and focuses on getting rich as its singular goal.With varying degrees of ethicality, people want to do what it takes to live a better life. There is no shame in being rich, and there is nothing to hide about methods used to get there. The unfairness of it all lies in those who get left behind, for not being part of the clique.
If we work with just these three assumptions, what do we get? A tax regime that levies a small rate of direct tax; an even smaller rate of indirect GST; and recognizes enterprise at every level as the country’s biggest strength. What comes in the way? Vested interests and rent seekers. Every large profitable proposition in the economy has a bunch of squatters without competence, making money. A complex tax regime won’t bother them. A simpler one has the power to create an alternate force. If we tried.
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