The budget can make fundamental improvements, says Sukumar Mukhopadhyay
The Government having committed itself to the idea of introducing VAT from April 2001, must do a few things in this budget about changing the fundamental structure of the existing system of Modvat so that it can be a part of the overall system of VAT model. I have written earlier in the columns of this paper that Modvat could better be abolished. What I am now writing is that if Modvat has to continue at all, it must be improved fundamentally so that the 'Mod' (modified) can be dropped from Modvat and it can be VAT.
That brings us to the question of how Modvat is different from a full-fledged VAT. The crucial difference is that while VAT is a tax on value added under any circumstances, Modvat is a tax on value added only if manufacture takes place. So manufacture is the essence of Modvat. Apart from this basic difference, there are other concomitant features which arose due to the system having started piece meal in 1986 and culminating in 1999. So the year 2000 will be a good time to give it an extra push to make it Y2K compliant.
The system of Modvat as it is now has degenerated into one where allowing credit for the input paid is done only on a case to case basis. For each input such as humidifier used in the textile mills for keeping the texture soft; glass bottles for filling in them soft drinks; alternator for generating set; static converter panel for speed control and innumerable other items, the issues have travelled to the tribunal. Any man of common prudence can judge them as needed for manufacture but they become the subject matter for decision by the commissioner and the tribunal.
So the journey in each case becomes expensive and tedious. This inevitably leads to squaring up issues at the lower level, which is the other name of corruption. This sort of issues regarding admissibility of credit and other technical cum procedural issues constitute 87 per cent of all so-called offence cases detected while substantial cases are 7 per cent and clearly fraudulent cases are 6 per cent. This has been revealed by an empirical study made by the NIPFP on the basis of data for January 1994 to July 1995 (VAT in India "" a progress report p 39).
The basic conceptual problem in Modvat is the definition of manufacture, which has been subject to varying interpretations over the decades making it one of the most litigated subjects. There is no finality or stability. In the last five years or so the Supreme Court has given such crucial judgments on the subject that the whole concept has undergone change leading to tremendous readjustments in the fiscal structure.
In one judgment (C.C.E Bombay vs Fine Chemicals 1995 vol. 77 ELT 49 SC) the Supreme Court said that even artificial definitions are permissible which high courts and the Supreme Court have been opposing consistently in the past. In another (Sirpur Paper Mills vs C.C.E.Hyderabad 1998 vol. 97 ELT 3 SC) the Supreme Court has laid down that even complete plants erected at site are marketable goods ignoring other previous judgments of the same court to the contrary.
Such earthshaking judgments of the concept of manufacture make credit of input duty a highly unsure proposition. To remove all the controversies and to introduce full VAT at the same time we need to allow the input credit for the final product on the basis of "use in the factory" rather than for "use in manufacture" as now. Machines to check pollution or chemicals to neutralise the effluents to make the factories eco-friendly are not entitled to credit of excise duty paid on them at present. The suggestion above will solve that problem also.
The controversies relating to the concept of input and capital goods leading to interpretation problems about admissibility of credit of duty paid on them cannot be solved by giving clarifications by the board or judgments by the tribunal. This can be done only by declaring that all goods which are used in the factory are subject to credit of duty paid on them except those which are in a list called Negative List. This may include petrol, diesel, computer and air conditioner used in office, etc. This will fundamentally change the structure of Modvat into VAT at one stroke.
Some procedural changes are also needed for this conversion. An important thing to be done is to rewrite the rules regarding Modvat by scrapping the existing maze created over the last 14 years. The distinction between inputs and capital goods is to be abolished which by itself will make them simpler. This will eliminate the mystery created by 57Q. Rules for reversion of credit (57cc) will not be necessary if exemptions in a factory are not allowed and if the factory also makes dutiable goods for which it takes credit.
There has to be also some restructuring of the tariff in consonance with the need for VAT. Most of the exemptions have to be removed as they destroy the neutrality and bring distortion (Allan Tait-VAT "" Practice and Problems p 221 and Hemming and Kay in VAT- Lessons from Europe). The tariff has to also have just three rates in place of the five now. Also in the same chapter, the same rate of duty should be there as far as possible. Without a simple and transparent tariff the operation of VAT will not derive the full benefit.
The conclusion is that Modvat can be converted into a full-fledged VAT only by
changing over from the concept of taxing the value added due to manufacture;
substituting the concept of manufacture by the concept of use; l making all goods subject to credit by a sweeping move except in the case of goods in the Negative List ;
removing distinction between capital goods and inputs for purposes of input credit;
having the same Rules for both of them;
simplifying the excise tariff drastically removing the exemptions which cause distortion and reduce the neutrality of tax; and
adopting document based audit control in place of counter signature of invoices.
This budget must do the needful now rather than keep it for the next year.
