If there is one policy reform on which there is consensus, it is the Goods and Services Tax (GST). Yet, as negotiations between the Centre and states reshape this important reform, continuous reassessment is warranted.

If we were to implement the flawless GST as originally recommended by the task force of the 13th Finance Commission (TFC), the gains would be immense. The latter had recommended that India replace myriad central and state indirect taxes by a single uniform value added tax on substantially all goods and services. With the combined indirect tax revenue of the Centre and states a tad below 11%, allowing for a handful of exceptions, the TFC taskforce had pegged the uniform GST rate at 12%.

Taxation at this rate would mean that the taxpayer would not have to pay an unusually high tax on any single commodity or service. The burden will be spread evenly across different goods and services consumed. The single rate would also eliminate production inefficiencies since it would tax value added at each stage of production at the same rate.

As a byproduct, since the GST would be collected at the point of sale rather than production, it will serve to unify India into a single market. There would no more be need to erect border check posts to collect taxes on goods produced in one jurisdiction but sold in another.

Unfortunately, it is now increasingly clear that we are not heading towards a flawless GST. Both states and the Centre have lists of goods and services that they appear determined to exclude from the tax base. State lists differ from one another and also from that of the Centre.

Almost all states want such important sources of indirect tax revenue as petroleum and alcohol excluded from the GST base. Besides food items, education and health services are also likely to be excluded wholly or partially. Then there are exclusions based on the turnover of a company. The Centre does not tax companies with a turnover less than Rs 15 million while the exemption thresholds across states range from Rs 5 lakh to Rs 6 million.

So significant are the proposed exclusions that a recent sub-panel set up by state governments estimated that revenue-neutral GST rates would be 12.77% for the Centre and 13.91% for the states. Together, these rates would sum to 26.68%, more than twice the 12% rate that the TFC task force had recommended. Admittedly, the 26.68% rate is the highest of all estimates of revenue-neutral rates offered to-date. Nonetheless, the estimates have been uniformly significantly above the 12% mark.

If excluded items and companies render the GST tax base small and, thus, require the revenue-neutral GST rate to be excessively high, the benefits of the new system would barely justify its costs. A shift to the new system would impose significant transition costs since all states and the Centre would need to move to a common GST infrastructure that would require all taxpaying companies to file their returns and deposit taxes electronically.

GST has also been a source of “attention diversion cost”. The inordinate amount of time spent negotiating it has meant that other reforms have been neglected or delayed.

Above all GST, even when implemented in its flawless form, imposes a major cost on the system by compromising our federal structure of governance. In a true federal system, states and local administrations get to choose the level of spending on public goods and services and are, therefore, accorded powers of taxation. In so far as GST substantially transfers the power to tax to the Centre, it restricts the ability of the states to determine the level of spending on public goods and services locally.

This analysis has two implications for the current approach to policymaking. First, the finance ministry should guard against putting substantially all its eggs in the GST basket. Given the vast exclusions, high GST rate and evasions the high rate would attract, this is not going to be the game-changer reform that was once considered.

There are other reforms India needs that would bring more and certain benefits and would require far less effort and political capital. For instance, in the short run, greater focus on ending the uncertainty associated with taxation, reforming the land acquisition Act and cleaning up the balance sheets of public sector banks would carry significantly higher and more certain returns to the government’s efforts.

Second, if building consensus for a broad GST base takes longer, spending the extra time would be well worth the wait. Indeed, the government may consider a two-step process of implementation.

In the first step, it may implement a fully functional central GST with as wide a base as possible. This would complete an important component of GST without disruption at the level of states. It would also go a long way towards demonstrating to states the Centre’s commitment to GST and its feasibility. In the second step, the Centre can extend GST to states.

This approach would have the added advantage of giving the Centre an opportunity to build and test the robustness of GST infrastructure. After all, a flawless GST also requires a flawless information technology infrastructure.

SOURCE : http://blogs.timesofindia.indiatimes.com/toi-edit-page/the-best-of-goods-services-gst-being-negotiated-has-too-many-exclusions-we-must-build-consensus-on-a-flawless-version/

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