Reality check on tax growth

The record rise in tax collections in 2021-22 should be judged in a larger context

The Narendra Modi government’s gross tax collections in the just-concluded financial year of 2021-22 have recorded a 34 per cent jump to a record high of Rs 27 trillion. An annual increase of this order has not been seen in at least the last four decades. The size of the Indian economy, or the gross domestic product (GDP) grew by about 19 per cent in nominal terms in 2021-22. So, the extent of the rise in the Centre’s gross tax collections is significant and has understandably triggered celebration within and outside the government. But it is also important to evaluate this performance in a larger context to make better sense of the true nature of the improvement in tax collections.

Take a look at the Modi government’s tax collections growth during the last eight years. They went up from Rs 11.39 trillion in 2013-14 (the last year of the Singh government) to Rs 27.07 trillion in 2021-22. This represents a compound annual growth rate or CAGR of about 11.43 per cent during these eight years. But this was lower than the 16.19 per cent CAGR for gross tax collections during the 10 years of the Manmohan Singh government. Tax collections grew from Rs 2.54 trillion in 2003-04, the last year of the Vajpayee government, to Rs 11.39 trillion in 2013-14.

Perhaps the period under Manmohan Singh is strictly not comparable to the one under Narendra Modi. Under the Singh regime, the Indian economy faced the adverse impact of the US financial crisis, the “taper tantrum” with the US withdrawing liquidity and the farm crisis. But the Modi government’s eight years have suffered from arguably bigger shocks — the self-inflicted wound of demonetisation in 2016, the launch of the goods and services tax or GST in 2017 and the Covid pandemic. This may explain why the CAGR of tax collections during the Modi regime so far declined to about 10 per cent, compared to that in the 10 years of the Singh government. But there is no denying that over a longer period there has been a deceleration in the annual growth in tax collections during the Modi regime.

There is another way of contextualising the performance of tax collections in the last eight years. In as many as three years under the Modi regime, gross tax collections grew in single digits and in one year — during 2019-20, which was before the onset of Covid — gross tax collections fell by about 3 per cent. The annual growth rate of 34 per cent in 2021-22 came after three successive years of low growth or decline. Barring last year’s performance, tax collections growth could not cross the 20-per cent mark in any of the years during the Modi regime.

Illustration: Binay Sinha

In contrast, the Singh government began its 10-year tenure with great promise as tax collections grew by well over 20 per cent annually for four years running. The global financial crisis contributed to the halting of that growth with tax collections rising by only 2 per cent in 2008-09 and by 3 per cent in 2009-10. Subsequently, the pace of growth had recovered only for a year before it slowed perceptibly in the last three years of the Singh regime.

The declining share of direct taxes in the Centre’s gross tax collections has been a cause for concern in recent years. The problem was more acute in the first three years of the Manmohan Singh regime, when the share of direct taxes in gross tax collections ranged between 44 per cent and 49 per cent. In the following seven years, much to the Singh government’s credit, this share was pulled up to 52-56 per cent and in one year, 2009-10, the share was as high as 60 per cent.

This trend changed for the worse in the first few years of the Modi government. There was a steady decline in the share of direct taxes in gross tax collections from 56 per cent in 2014-15 to 49 per cent in 2016-17, the year of demonetisation. There has been some recovery since then, but the post-Covid year of 2020-21 saw that share drop again to 46 per cent. Direct taxes in 2021-22 grew significantly to command a share of 52 per cent in gross tax collections. Maintaining a higher share of direct taxes would depend on how well the government widens its direct taxes base and whether the reforms in GST can be expedited.

Another noticeable trend in the composition of direct taxes should not be missed. For the entire period under Manmohan Singh and the first two years of the Modi government before the demonetisation year of 2016-17, the share of corporation tax in direct taxes was well over 60 per cent. But since 2016-17, the share of corporation tax in direct taxes has been falling to reach a level of 48 per cent in 2020-21. Last year saw a trend change in that corporation tax rose to account for about half of the total direct taxes.

One of the tried and tested ways of evaluating the government’s performance in tax collections is to check how their share in nominal GDP has moved over a longer period. This share indicates whether the government’s tax collection efforts have kept pace with economic growth and whether these have been effective and efficient. By that yardstick, the share of gross tax collections in nominal GDP in 2021-22 was 11.45 per cent, compared to 10.10 per cent in the previous year. This was certainly an improvement, particularly because it represented a trend change. For three years running, the share of gross tax collections in nominal GDP kept falling after 2017-18, when the tax-to-GDP ratio had reached 11.23.

Raising the share of gross tax collections in GDP to 11.45 per cent in 2021-22 is a creditable achievement. This, however, is still lower than the 12 per cent share achieved by the Manmohan Singh government in 2007-08. The challenge for the Modi government now is to ensure that this share is at least maintained, if not raised further. After achieving a high of 12 per cent in 2007-08, the share of taxes in GDP in the following year fell to 11 per cent. The challenge would be to avoid that kind of a decline in 2022-23.