Direct Tax Reforms

Direct tax is a tax which an individual or organisation pays direct taxes directly to the imposing body.

The incidence and impact of the tax falls on the same entity. Its burden cannot be shifted to a different individual or entity.

It is progressive in nature which means the tax obligation increases in proportion to an individual’s or entity’s income. 

Direct taxes are regulated by Central Board of Direct Taxes (CBDT).

Example of direct taxes are the taxes imposed on earnings, assets, businesses, and stock exchange activities. 

Direct Tax Reforms: Meaning

Direct Tax reform refers to bringing changes in taxation to maximize government’s revenue and reduce the burden of taxation on the people at the same time by ensuring equitable, transparent, and fair taxation system. 

India established the Tax Reforms Committee in 1991 under Dr.Raja Chelliah to implement the best strategy for expanding the base, cutting marginal tax rates, eliminating rate differentiation, simplification of the tax system, increase tax compliance. Subsequently, several committees and panels were appointed to reform the direct tax regime.

Direct Tax Reforms: Need

• Rationalization of the income tax system given that the slabs of 10%, 20%, and 30% for personal income tax have only been marginally altered over the past 20 years.
• The urgent need to simplify the corporate tax system by increasing the tax base and avoid potential revenue losses brought on by lower tax rates and a more straightforward tax system.
• Keep direct and indirect taxes in balance to ensure a fair tax regime.
• Simplification of tax laws for general public to understand the rules and procedures.

Direct Tax Reforms: Chronology

• 1956: The Income Tax Act of 1961 replaced the Income Tax Act of 1922, streamline the tax environment and making it more practicable.
• 1976 – Introduction of Minimum Alternate Tax (MAT), which required companies to pay a minimum amount of tax on their book profits, regardless of their taxable income.
• 1991: Tax Reforms Committee under Dr. Raja Chelliah to reform both direct and indirect tax regimes.
• 1997: The Direct Tax Code (DTC) was first proposed by the Law Commission of India, with the aim of consolidating all central laws and reducing tax rates.
• 2002: The Kelkar Committee recommended sweeping changes to the Direct Tax Code, including the removal of most exemptions and deductions and a reduction in tax rates.
• 2005: The Taxation Laws (Amendment) Bill was passed. It proposed the introduction of electronic filing of returns and the use of technology to improve tax administration.
• 2010: The Direct Taxes Code (DTC) Bill was introduced in Parliament, which aimed to replace the existing Income Tax Act.
• 2012: The Tax Administration Reform Commission (TARC) was set up to improve tax administration.
• 2014: Arbind Modi Panel reviewed Income Tax Act, 1961 and suggested reductions in the number of tax exemptions and deductions.
• 2015: The Black Money (Undisclosed Foreign Income and Assets) and Imposition of Tax Act was passed. It aims to curb black money or undisclosed income and impose tax and penalty on such income.
• 2019: The Finance Act was passed, reducing the corporate tax to 22% for domestic companies and manufacturing companies.
• 2020: The Taxation and Other Laws (Relaxation and Amendment of Certain Provisions) Act was passed, providing relief to taxpayers in the wake of the COVID-19 pandemic, including the extension of deadlines for filing returns and the payment of taxes.
• Introduction of various measures to solve the issue of tax avoidance such as General anti avoidance rule etc.

Direct Tax Reforms: Challenges

• Structural issues such as low financial literacy, a large share of the informal economy and many cash-based transactions.
• The complex web of taxation laws of the Central and many State Governments cause complexities and litigation.
• Increased threshold provided in case of personal income taxes and exemptions, tax cuts, preferential tax rates, deferral of tax liabilities etc. lead to a lower tax base.
• Any initiative of tax reform likely to face resistance from various stakeholders i.e. taxpayers, business community, tax professionals. It results into delay in implementation of reforms.
• A large population of India is engaged in unorganized or informal sector. This is main hurdle in creating a large tax base in country.
• An unstable policy environment pertaining to tariffs and taxes needs to be resolved to boost business and investments ties.
• Tax evasion and corruption undermine the governance practices by the state.
• Weakness of tax administration such as lack of technical expertise and financial resources, poorly drafted laws, and corruption.

Direct Tax Reforms: Steps taken

• Several measures have been started to promote tax compliance like- E- Sahyog site for online return filing.
• Proposal for Direct Tax Code (DTC)
• Vivaad Se Vishwas Scheme is dispute resolution scheme to settle direct tax disputes between the taxpayers and the tax department, where the disputed tax amount is paid with interest or penalty.
• Wealth tax has been abolished in 2015 which was earlier levied on individuals and Hindu Undivided Families with net wealth exceeding 30 lakh.
• Equalization levy on online advertising revenue earned by foreign companies at 2% since 2016.
• Dividend Distribution Tax has been abolished in 2020, which was levied on the dividends distributed to the shareholders by the companies.
• Faceless Tax Assessment Scheme: The faceless system was introduced in 2019 to bring automation in the system, do away with random individual discretion by tax officials and check corruption.