Design and Compliance Issues with India's Goods and Services Tax
DR JOSE SEBASTIAN
One of the major factors that hindered India’s economic development in the past decades was the complex and cumbersome indirect tax system. The country has taken a series of steps to reform it and the introduction of Goods and Services Tax (GST) in 2017 can be considered the last leg of the reform process.
One of the major recommendations of the Tax Reform Committee 1991 was that India should move over to a comprehensive GST covering both goods and services in a phased manner. The objective of this recommendation was to make India a common market by removing the barriers to free flow of goods and services across the country. Based on this recommendation most Indian states changed over to Value Added Tax (VAT) by 2005. The VAT system introduced in Indian states however was a far cry from its classical format. There were multiple tax rates which differed from states to states. The inter-state sales tax known as Central sales tax remained. Unlike a full-fledged nationwide VAT system covering both goods and services, services were outside the purview of VAT. The set-off provided for tax paid at earlier stages of transactions in a chain of transaction is the heart of VAT. The VAT system adopted in Indian states allowed set-off for the tax paid within the state only. All these meant that to reap the benefits of VAT, India had to go a long way.
A major road block was taxation of services. Until the introduction of GST in 2017, the Constitution of India had not permitted either the central government (Centre) or the states to tax services in general, although both of them are assigned specific services. Though the Centre was levying Service Tax on most of the services making use of the residuary powers under the Constitution, the states were not empowered to tax services. This required a constitutional amendment. The states were generally apprehensive of the revenue impact of GST. There were also a number of contentious issues. The Empowered Committee of Finance Ministers frequently met to thrash out these issues. The Centre agreed to compensate any loss that the states may suffer in the first five years of GST. Though the initial plan was to change over to GST by April 2017, the country could achieve this major feat only in July 2017.
India has adopted the dual GST model wherein both the Centre and States/Union Territories levy tax on the same base. Central GST is known as CGST and States/Union Territories GST is known as SGST/UTGST. CGST and SGST/UTGST subsumed most of the indirect taxes at the Central and State/Union Territory level. Some of the important ones are Central Excise, Service Tax, Central Sales Tax, Value Added Tax, Entry Tax and Entertainment tax. Exports are completely exempted while imports are taxable. Petroleum products and liquor are outside GST. The states will continue to levy sales tax on both these items.
GST requires all businesses having a turnover above Rs.20 lakhs (Rs.10 lakhs in the case of special category of states) and to get registered. For small tax payers, there is a Composition Scheme which considerably reduces their compliance burden. GST exempts a wide range of goods and services used by the common man. There are mainly four rate categories-5%, 12%, 18% and 28%- under GST.
introduction of GST, the tax compliance environment of India’s indirect tax
system has become more information technology driven, thereby reducing to a
minimum the need for an interface between taxable persons and the tax
administration. In practice, the Goods and Services Tax Network (GSTN) is the
IT backbone of India’s GST. GSTN undertakes all GST-related functions, such as
the registration of taxable persons, the submission of returns and tax
payments, and the settlement of taxes paid between taxable persons across the
country. To help taxable persons who are less familiar with an information
technology-based platform, GST has provided for a cadre of GST facilitators
known as “GST Suvidha Providers” (or GSPs) across the country.
India sought to overcome the vexatious problem of reconciling the interests of the Central and sub-national governments while going ahead with GST implementation by forming what is known as GST Council. Constituted under article 279-A of the Indian Constitution, the GST Council is the ultimate decision-making authority on all matters pertaining to GST. The Union Finance Minister is the Chairman and all State Finance Ministers are members. The decisions of the GST Council are taken by three-fourth majority vote. The Centre has one third of the votes cast and the states put together have two-third of the votes cast. Irrespective of its size or population, each state has one vote.
India’s brief experience with GST provides to countries - especially large and diverse ones - provide valuable lessons. Though GST was expected to benefit the whole economy and various sectors, teething problems during the months following implementation earned a bad name for it. Moreover, cursory evidences suggest that it had an overall dampening effect on the Indian economy. The economy was already undergoing a slow down due to demonetisation and GST is said to have deepened it. As a consequence, Indian economy registered a lower growth rate during 2017-18.Broadly, the post–GST issues can be divided into two: problems related to GST design and problems related to compliance.
India’s manufacturing sector is dominated by nearly 5 crore micro, small and medium scale enterprises (MSMEs). Altogether they account for 25% of employment, 40% of industrial output and 45% of exports of the country. The vast majority of MSMEs are ancillary units performing some kind of job work or processing activity for large scale units. The symbiotic relationship between these two provides considerable vitality to India’s manufacturing sector. By and large, this sector was outside the tax net as there was excise duty exemption to units with an annual sales turnover up to Rs. 1.5 crores. One of the major objectives of GST was to widen the tax base of the country by bringing this sector under the tax net. However, instead of achieving this over a period of time, India probably made a mistake by immediately fixing a low threshold, thereby bringing tens of thousands of small businesses under the tax net at one go.
Experiences show that from the point of view of tax compliance, Indian GST is not very simple. It appears that the technology driven tax system was hastily implemented. The tax payers were not given the necessary awareness. GST required tax payers to file several returns through the GSTN portal. While formal sector businesses were better prepared to interface with the GSTN portal, thousands of small businesses felt like being caught unawares. The vast majority of them did not have connectivity and lacked the basic skills to access the GSTN portal. This caused considerable adverse criticism against GST in mass media.
GST Council Interventions
A remarkable feature of India’s GST is GST Council which includes representatives of all state government and Union government. In a federation like that of India, the cooperation between Centre and states is crucial for the successful implementation of a massive tax reform of GST’s proportion. Since implementation of GST, the Council has been closely monitoring the progress of implementation and met several times to tweak in appropriate changes. The interventions of the GST Council which focused on easing compliance and rejigging the tax rate structure, considerably mitigated the hardships, especially of the small businesses.
It is remarkable that a country of India’s size and diversity could successfully implement GST. Much of the post-GST problems are attributable to the compromises that the country had to make to roll out GST. The interests of various stake holders had to be accommodated. Unfortunately however, all these have robbed India’s GST much of its simplicity. It is hoped that as GST stabilizes and revenues goes up, the country will be able to move over to a simpler GST with a fewer number of rate categories and tax payer friendly compliance requirements.
GST was expected to be a revenue raiser for Centre and states. This expectation has not been met because GST collections crossed the one lakh crores mark only in selected months. This was attributable to the teething problems of GST and the ongoing economic slowdown. Another major objective of GST was to improve India’s ranking in the ease of doing business. In the 14th edition of World Bank’s ‘Doing Business’ report for 2017, India was ranked 130 out of 190 countries. India has leapfrogged to 63th position in the 2020 edition of the report. A large part of it is attributable to the introduction of GST.
It can be hoped that India will reap the benefits of GST in the years to come. Given the demographic dividend, there is every possibility that India will emerge as a manufacturing hub. By implementing GST, India has removed a major stumbling block in the ‘Make in India’ campaign. To sum up, implementation of GST is a remarkable achievement for India.