The unsung hero

After five years, it seems GST has begun to show sustained growth even as it has many weaknesses and policy challenges

The government’s tax collection has maintained a decent growth rate in the last couple of years even as the economy has recovered from the Covid shock. Inflation has played a role in this by contributing to higher nominal economic growth, but there are also a few other factors at play, and they deserve closer scrutiny. More significantly, growth in collection from the different types of taxes is not uniform and this too needs to be examined to understand if the post-Covid trend of higher tax collection is sustainable.

Let us first look at direct taxes. After suffering a decline of almost 8 per cent in 2019-20 and another 10 per cent in 2020-21, direct taxes are on a roll — they bounced back with a growth rate of 49 per cent in 2021-22 and again with 18 per cent in 2022-23. The performance of goods and services tax (GST) was even better in the post-Covid years. Growth in GST collection in 2019-20 was 4 per cent but collection fell by 7 per cent in the first Covid year of 2020-21. But the growth rate skyrocketed to 31 per cent in 2021-22 and 22 per cent in 2022-23.

The notable feature of the government’s tax performance is that the recovery in GST collection and its quality have been far more encouraging than the increase seen in direct taxes. Despite an absolute increase of 18-49 per cent in the last two years, the share of direct taxes in India’s gross domestic product (GDP) has moved at a slow pace. In 2018-19, direct taxes accounted for 6.01 per cent of GDP. In 2021-22, this share was still below the pre-Covid level at about 6 per cent and moved up marginally to 6.11 per cent in 2022-23. In other words, the buoyancy of direct tax collection has remained virtually flat in the last four years.

Why didn’t direct taxes do as well as the economy’s nominal growth? The problem does not lie in the way corporation tax collection has fared. Its growth was robust at over 55 per cent in 2021-22 and at 41 per cent in 2022-23. In contrast, personal income tax, which did well in 2021-22 (43 per cent up), saw a decline of about 6 per cent in the following year. This fall must be a major cause for disappointment for a government that has been generally celebrating how direct tax compliance has got better. Why this divergence?

Remember that corporation tax rates were reduced gradually almost every year from 2015 and these were linked to the phasing out of exemptions. And in 2019, the reduction was significant for new companies as well. The impact of those decisions must be showing by way of a healthy rate of corporation tax collection. Also, companies have bounced back with higher profits immediately after the Covid impact subsided. Corporate profit growth is now slowing a bit in many sectors. What will be keenly watched is whether corporation tax continues to maintain a healthy growth rate in 2023-24, despite profits of companies in several sectors of the economy coming under pressure.

For the finance ministry, the recent trend in personal income-tax collection is cause for concern. In 2020-21, it did try to introduce an alternative exemption-free taxation regime to widen the tax base and improve collection. There were obvious problems with that scheme, particularly on account of the multiplicity of rates and the perception that a switch-over to the exemption-free regime was not attractive enough from the point of view of tax rates. This year’s Budget has tried to make amends, but its results would show only a year later.

The ministry’s recent attempt at trying to tap new sources of revenue by levying a 20 per cent tax collected at source on international transactions above Rs 7 lakh a year through credit cards could be an offshoot of that desire to boost its personal income-tax collection. But such an attempt is a sign of short-sighted taxation policy. Instead, the ministry would do well to focus on taking all the necessary steps to make the alternative exemption-free tax regime a success.
 

On the other hand, the steady improvement in GST collection in the last few years has now become an established trend. The original design of GST, when it was launched in 2017, was problematic primarily because of the multiplicity of rates and the complexities involved in compliance. Some progress has been made in the last few years on making compliance less onerous for taxpayers, with the use of e-invoicing and other procedural simplification.

It would be reasonable to assume that the bump in GST collection witnessed in the last couple of years, in particular, is due to the combined effect of improved coverage, better compliance procedures, and, of course, the rising inflation rate. But, more importantly, the healthy rise in GST collection saw the tax’s share in GDP going up, recovering from the Covid shock much faster than direct taxes did. The share of GST in GDP was 6.22 per cent in 2018-19. After this share fell in the following two years, it once again rose to 6.31 per cent in 2021-22 and to a commendable 6.65 per cent in 2022-23.

To be sure, growth in GST collection has also been fuelled by rising import duty rates. GST on imports in 2018-19 was only about Rs 2.88 trillion, accounting for 24 per cent of the indirect tax. In 2022-23, that share, at Rs 4.7 trillion, has gone up to 26 per cent. Indeed, growth in GST on imports has been much higher than Central GST, State GST, cess, or IGST on inter-state sales. And if you add Customs duty to GST on imports, that accounted for 2.5 per cent of GDP in 2022-23, up from 1.5 per cent in 2016-17, the last full year when all import duties were collected through Customs only. Undeniably, the recent protectionist trend of raising import duties has begun to result in a higher collection of import duties from Customs as also from GST.

The obvious question is: Can this growth in GST collection be sustained in the coming years? There are many challenges. The problem of too many rate slabs persists with no moderation yet in the rates of several items. The exclusion of petrol and diesel from the GST ambit continues to deny trade and industry the set-off benefits under the regime. The phase-out of the compensation cess also remains an unfinished agenda. The current phase of healthy GST growth could be an opportunity for the government to address the long-pending problems afflicting the new indirect tax regime.