Get taxation right for mobilising resources

By Mohanish Verma

Resource mobilisation is a critical function in any economy for ensuring basic facilities to its citizens, and for sustainable growth. Raising resources through variety of taxes has been a tool used by governments all over the world for centuries.

Taxes are always a sensitive issue for the citizens in any economy. Direct taxes are more difficult to be accepted since there is hardly any direct quid pro quo. Indirect taxes hit everyone indirectly, but are regressive. With increasing power of media, citizen’s rights activism and active judiciary, the challenge to collect taxes from citizens has increased.

The canons of taxation emphasise tax policy based on equity, certainty, convenience and economy. This is aimed at (i) ensuring progressive taxation based on ability to pay; (ii) simpler tax laws, and (iii) minimum pain to the taxpayer. These canons were based on assumptions of a free market economy. However, increasingly, challenges like tax evasion and tax planning in the evolving global economy have been assuming importance.

In the Indian context, even 2,300 years ago, Arthashastra mentions that treasury is the source of power for the government, and it is the king’s duty to provide facilities and protection to the citizens. There was a combination of taxes both direct and indirect that were calibrated to raise revenue from time to time. Taxes on trade turnover, agricultural produce, personal taxes on dancers, actors, musicians, artisans, have been prevalent for long. The basis of such taxes has been changing from time to time and depending on the economic activity in the region and period of time.

China, Egypt and Rome have long written histories on tax imposition based on items ranging from cooking oil and crops, etc to monthly tax on foreigners. Resentment over taxation provisions played a crucial role in civil wars in England in 1629 and France in 1789-1799. Colonial America used to pay taxes under the Mollases Act on molasses, sugar, wine, etc in 1764, followed by Stamp Act 0f 1765, where taxes were imposed on newspapers and other documents. Taxes on whiskey, property and income were imposed in post-Revolution America, from 1794 till 1930.

Over time and regions, there is evidence of a dynamic role of taxes, with change in nature of economic and political activities.

The principal sources of revenue generation through taxation in recent times in the countries across the globe are primarily (a) direct taxes (corporate and non-corporate), (b) property taxes, (c) VAT and GST, and (d) social security taxes

The accompanying graphic provides an idea of the patterns of tax mobilisation amongst the various categories in OECD countries (in percentage) during 1990-2018.

There is a decline in share of individual income tax and increase in the share of social insurance tax and consumption taxes in these countries. Further, the share of corporate taxes is still below 10% of the total tax raised.

In India, the share of direct taxes has increased from 34.68% in 1997-98 to 56.3% in 2013-14 as a proportion of total taxes. The share of indirect taxes comprising primarily of VAT and customs excise has declined from 65.32% in 1997-98 to 43.7% in 2013-14 (CAG and mospi.nic.in). For 2019-20, the share of direct taxes was 54%, while the share of indirect taxes went up to 46% (Economic Survey 2019-20).

Some unique features in India compared to the OECD countries are: (a) there is negligible share of property taxation, around 0.2% of the GDP compared to 3-4% of GDP in the US and Canada; (b) social insurance tax as share of taxes in the OECD countries is substantial while India doesn’t have no such taxation; (c) there is higher reliance on corporate taxation in India, and (d) GST might increase the share of indirect taxation.

The share of direct taxes in India has generally gone up in the past two decades in comparison to indirect taxes. Such trend is in line with most developed countries. However, in India, there has been greater reliance only on income tax, with no contribution from either social security tax and very little from property tax and other direct taxes. On the other hand, there has been a significant shift in indirect taxes with introduction of GST.

The heavy reliance on income tax has its own challenges. By nature, direct taxes like income tax are detested by citizens and taxpayers since they are only based on the ability to pay and are not perceived to provide any immediate personal return. On the other hand, while paying GST or sales tax, the buyer of the good does receive some goods or service in return, and tax is perceived as part of the cost.

The inherent resistance to pay direct taxes creates antagonism towards them. In recent times the concept of “user charges”/tolls/fees for roads, bridges, etc has been reasonably accepted by the public. If taxation can be designed to be linked to some expenditure at the level of local bodies on health, primary education, infrastructure, etc, perhaps the pain of direct taxation could get reduced.

There are multiple avenues to be explored for resource generation in the rapidly changing and vibrant Indian economy. While paying tax is always unpleasant for most people, there is need to explore some possibilities used in other economies. Can focussed taxes linked with services provide better perception and higher revenue?

Raising resources with the least pain remains the objective of any government. Resistance to paying taxes can only be reduced by cooperation and better perception. GST in India has helped in removing the cascading effect and improving perceptions.

Most countries, including India, are facing this challenge to redesign their tax and resource generating mechanisms, amidst rising aspirations and increasingly aware stakeholders. Indeed, these are very testing times for the state.

The author is Senior IRS officer
Views are personal