Explained: Why economically weaker section could become a taxing issue

The Centre's three-member committee has recommended incorporating tax database to determine the income status of beneficiaries

The Supreme Court on Friday agreed to continue with the government order on who will qualify as “economically weaker section” (EWS) for reservation in public education and government jobs. The interim order will be revisited by the court in March when it will examine an interesting proposition from the government: The possible use of income tax records to settle a question of social justice in India.

The proposal has been put up in the report of the three-member committee that was formed by the Centre to revisit the EWS definition. The court has not gone into those issues, though the order means the new quota system will now be in operation for the third year.

The committee, comprising former finance secretary Ajay Bhushan Pandey, Principal Economic Advisor Sanjeev Sanyal and member secretary of Indian Council of Social Science Research V K Malhotra, was set up on November 30, 2021. It was tasked to answer questions the Supreme Court asked on the EWS quota. One of those was whether the Centre was right to set a family income threshold of Rs 800,000 per year as the ceiling for a candidate to qualify through the EWS route.

In the span of two years since FY19, the central and state governments have recruited several hundred employees under the revised EWS definition, from the top-level civil services to the junior-most grades of support services. The advertisements for the next batch of recruitments through 25-odd examinations in 2022 by the Union Public Service Commission are being processed. Though the legal challenge to the government order revising the EWS criteria had come from the aspirants for higher medical education, NEET, or National Eligibility cum Entrance Test, the more substantial difficulties came from the timetable of public service exams.

For the three-member committee the implications were clear. They had to be fair and yet not risk a torrent of court cases from those who appeared for public service exams already held.

The committee consequently used an innovative approach that could become a template to solve many other issues of equity. Economists such as Thomas Piketty have been advocating the use of such tax data in public policy to address issues of inequality.

The members decided to tap the database of two government departments. One of these was the data of the Department of Personnel and Training to match the profile of those selected through various competitive exams and their income threshold. They compared these records with the income tax data filed by the same candidates or their families with the finance ministry. The committee, one is given to understand, used anonymised data to protect candidates’ privacy.

This exercise was done to establish if the candidates who were selected under the EWS category were bunched at the upper end of the income threshold of Rs 800,000 family income. If so, this could deprive lower-income candidates of the benefit of EWS reservations. This was one of the key questions from the court about whether the limit was too generous and subject to gaming by those near the ceiling.

This exercise of matching income tax data with household income was not possible earlier. There is a highly illustrative comparison the committee used from the records of successful EWS candidates from FY20 and FY21 in UPSC exams to argue that richer candidates are not prising out lower-income candidates (see table).

The committee repeated the same exercise with the results of joint engineering entrance exams and for NEET. The results are similar. The big change stemming from this report is, therefore, the emphasis it lays on stitching together real income data from all digital sources. Multidimensional income data floating up to the different departments such as goods and services tax (GST), income-tax, digital payments, with financial institutions and real estate registrations has given members the confidence to mine the wealth of information to establish real income rather than get caught in a complex debate about ownership and valuation.

“The better approach would be to use a feedback loop (using these data) to examine the actual outcomes from the implementation of the criteria, say, every three years,” the committee argues. If the court agrees with the committee’s proposition, it could settle for the future the penchant among departments for using surveys to figure out how welfare schemes work and instead use self-correcting feedback loops. Incorporating GST, PAN, bank and mutual fund data will, however, be novel ground for the judiciary.

The report has also created a tax policy challenge. In the current income tax exemption slabs, the effective income tax is zero for those with annual incomes up to Rs 500,000.

If the person takes advantage of permitted tax savings instruments, the exempted annual income touches Rs 700,000. The committee has said it is in favour of retaining this linkage to establish the EWS threshold. “A fine balance has to be struck…to arrive at a figure which will ensure that most low-income people who are not required to pay income tax are not excluded and are covered in EWS and (vice versa)”.

Could this mean from Budget FY23, the finance minister will have to factor in this limit? If Nirmala Sitharaman were to raise the income tax slab for those who do not have to pay tax at all from the current bracket, she risks creating a cohort that is considered poor enough not to pay income tax, but yet, as the people in this group have their income above Rs 800,000, ineligible for quotas under the EWS category. This conundrum will, of course, apply only to those who are not in the scheduled caste and tribes or are counted in the backward castes.

And what about Aadhaar? The committee has not asked for it to be used, but all income tax returns use PAN data. All PAN numbers are linked to Aadhaar. It is, consequently, a linkage with huge significance.