The Hindu Business Line : Budgets sans mysteries, please

Budgets are complex documents full of mysteries and uncertainties. The Kelkar Task Force has articulated a simple and transparent tax system. It is now up to the Finance Minister to implement the recommendation, coalition dharma and all, says Bh anoji Rao.

NOT long ago, purchasing decisions of consumers had to take into account the prevailing tax rates on different goods and the way they might change, as the next Budget would come into force. There were long lists of goods and applicable central excise and Customs rates in each and every Budget.

In fact, it is no exaggeration to say that over the years, people have become used to paying attention to the taxation part of the Budgets and hardly anyone in the general public has had concern for the expenditure side.

Though the public at large is keen on how prices would change as a result of changing indirect tax rates, direct taxes too attracted the attention of the salaried class, professionals and corporations. Many made careers out of the complexities of central taxation.

Clearly, there is hardly any value-addition from understanding the man-made mysteries of Budgets, detecting loopholes that allow lower tax payments to pass and making decisions on where to keep one's savings and so on — activities that go under the head of tax planning, a phrase that could create the illusion of some highly productive set of activities.

We, the citizens of the country, deserve Budgets minus uncertainties, complexities and mysteries. The Report of the Task Force on Implementation of the FRBM Act was unveiled on July 16.

If passing the Act was of some significance, to stick one's neck out and to say how to implement the Act's principal plank of zero revenue deficit by a certain date, is much more challenging , which has engaged the attention of what has come to be known as the Kelkar Task Force (KTF).

The KTF report of a little over 200 pages has an excellent executive summary, which brings to light one fiscal problem: Persistent revenue deficit and its worsening from 3.3 per cent of GDP in 1990-91 to 4.4 per cent in 2002-03, leading to ever-increasing government debt.

It is a trap — the debt trap — with more than half of revenue receipts going for interest payments on accumulated debt. The interest payments in 2004-05 will amount to a little over $28 billion, several times the net inflow of aid, debt and investment capital put together.

To put it differently, the interest payment, amounting to Rs 1,29,500 crore per annum, could finance the construction or reconstruction of first-class schools (at a million rupees per school) in one-third of the villages in one year.

It is only logical and natural to aim for wiping out the revenue deficit and ensuring that any new debt is for highly productive and revenue-yielding activities. The FRBM Act, thus, targets for 2007-08 (since postponed to 2008-09) the elimination of revenue deficit. The Act prohibits the raising of government debt except for capital expenditure.

The KTF report is rich in its public policy analysis, comprising a baseline projection that preserves the status quo (that is, it is not consistent with the Act and one that is consistent). Baseline deficit on revenue account in 2008-09 would be 1.66 per cent of GDP. The FRBM Act calls for its elimination by the target year. How does one go about it?

If I were the elected leader of a party that got some three quarters of seats in Parliament and most populous State Assemblies, I would have attempted to go first for a drastic cut in government expenditure. It is only, then, and on the top of the drastic expenditure cuts (I might camouflage it as expenditure reform), that I would have called for tax reform to ensure that it is both economic growth-inducing and responsive in terms of revenue augmentation.

Public policy analysts seldom have the luxury of the purists; they must make do with what is feasible and possible and, in the process, opt for the second best.

The KTF takes the view that fiscal consolidation should be revenue-led and, hence, goes for the next and, hopefully, one final dose of tax reform.

The KTF proposals envisage a tax system that has a Goods and Services Tax (GST), Customs duties, personal income-tax and corporate income-tax.

GST is a value-added tax, levied at the Central and State levels (with a middle rate of 12 per cent by Centre and 8 per cent by States and with a three rate structure) and is to cover the consumption of practically all goods and services, which is essentially a widening of the tax base.

Once GST is introduced at both the Central and State levels, all other cascading taxes will go. These include octroi, Central and State sales taxes, entry tax, stamp duties, telecom licence fees, turnover taxes and so on.

The introduction of GST is seen as the logical culmination of the two-decade-old movement towards a value-added tax system.

KTF proposals on Customs duties are in line with the reforms of the past and comprise three rates at 5, 8 and 10 per cent.

Personal income-tax — in the event KTF proposals are accepted — will lose all the prevailing complexities in the name of exemptions, with just the gross saving exempted up to Rs 1,00,000.

The proposed rates are 20 per cent for income above Rs 1,00,000 but not above 4,00,000 and 30 per cent for income above 4,00,000.

Corporate income taxation streamlining too is aimed at removal of exemptions, reduction of depreciation rate from 25 per cent to 15, and the tax rate to 30 per cent.

The depreciation rate at 25 per cent could have been retained as long as it is applied to machinery and equipment not more than four years old.

The effect of this would be to encourage investment in new plant and machinery and taking advantage of the latest technology embodied in them.

What is the end result of all that the KTF has articulated? It is essentially to bring forth a regime of simple and transparent tax system that will remain with only downward adjustments of rates as and when feasible.

The new and improved Budgets will have no capacity to generate any excitement on the tax front. Instead, it will be on social and capital expenditure: On re-building primary schools to match the best in the world, on the supply of two sets of school uniforms per annum for children from poor households; new express highways along the full coastline, exclusively for cars and tourist coaches; full quadrupling of train tracks, with two built especially for high speed trains; and so on.

The KTF had done its bit. It is now up to the Finance Minister to implement the recommendations. This, he has to do despite the pulls and pushes of coalition dharma.

(The author, formerly with the World Bank and the National University of Singapore, is Professor Emeritus, GITAM Institute of Foreign Trade, Visakhapatnam. He can be contacted at bhanoji@vsnl.net)