More needed before GST

When the Constitution was drafted, modern public finance was not known "" the first value-added tax (VAT) in the world came about in 1955. This pointed to the direction of change in a modern economy. The Fiscal Responsibility and Budget Management Task Force, chaired by Vijay Kelkar, emphasised in its report that the destination must involve three key principles: (a) uniform treatment of goods and services with a goods and services tax (GST), (b) re-focusing the entire tax system upon two taxes: the income tax and the GST, and (c) removal of all barriers to the movement of goods and services across the country, so as to achieve a unified common market.

One benefit of the GST lay in the corresponding removal of taxes that hold back economic growth "" such as stamp duties, which are mere transaction taxes that afflict the real estate market, and levies, which impede the free movement of goods and services. In addition, a key goal of the GST was to reduce the number of taxmen that an individual or a firm had to deal with. With only two taxes "" the income tax and the GST "" each firm would have to deal with only two taxmen and all individuals would have to deal with only one. This would help greatly by eliminating administrative overheads and corruption.

Tax reform is about policies, politics and administration. In the case of the GST, a good deal of policy work is now in place. It is now well understood that there will be two taxes at a legal level "" the state GST and the central GST "" but that firms will behave as if there is one when it comes to administration. Imports will be charged the GST at the point of entry and exports will be refunded the full burden of indirect taxation that they have suffered at the point of exit. In terms of administration, the tax information network (TIN) can be readily modified to go from the existing income-tax related role to the implementation of the GST.

That leaves the politics. The messiest part of moving to the GST lies in getting state governments to eliminate the plethora of levies that have sprung up over the years. West Bengal Finance Minister Asim Dasgupta's empowered committee has made progress in obtaining an agreement in moving towards the GST. However, this agreement is incomplete because it does not simultaneously envisage the elimination of all other taxes. The extension of services into the tax purview of state governments is the last chance for obtaining the "grand bargain" where other taxes are eliminated. The Prime Minister and finance minister must remain engaged with the problem until there is an agreement on eliminating all other taxes as part of ushering in the GST.

The last issue is that of the tax rate. As the fiscal expert Amaresh Bagchi has emphasised, the calculations in the FRBM Task Force report were based on a very high GST rate. This was because it was assumed that only above-median firms would comply with the GST. A more reasonable assumption about tax compliance argues in favour of a lower GST rate. A lower GST rate will, in turn, support better compliance. Political support for rolling out the GST, and pressure to remove every other tax as originally envisaged, will be facilitated if a GST rate of well below 20 per cent is targeted.