April 27, 2024   Academy | Blog | Community | Our Philosophy
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Apr 27, 2024  Academy | Blog | Community | Our Philosophy

Fiscal Policy News

The Fiscal Policy of the government 

  • Global Minimum Corporate Tax and India – Explained, pointwise
    Introduction

    The recent meeting of G7 countries resulted in the adoption of a 15% Global Minimum Corporate Tax(GMCT). The GMCT would enable the countries to add a top-up tax on companies who try to avoid taxes by showing their incomes in low tax jurisdictions.

    A Global Minimum Corporate Tax will also encourage the countries to compete on other factors like the better regulatory regime, ease of doing business, access to global talent etc. rather than merely offering a negligible taxation regime.

    The move is a step in the right direction that can further help in building consensus over OECD’s BEPS framework. However, its success or failure would depend upon the number of participants joining the Global Minimum Corporate Tax regime, as countries would not easily give up on their right to taxation and take the risk of reducing future investment towards them.

    About Global Minimum Corporate Tax (GMCT)
    • Corporation Tax or Corporate Tax is a direct tax levied on the net income or profit of a corporate entity from their business. The rate at which the tax is imposed is known as the Corporate Tax Rate(CTR).
    • GMCT is the minimum amount of corporate tax a company must pay on its income, both domestic and foreign.
    • It allows home governments to “top-up” their taxes to the agreed minimum rate, eliminating the advantage of shifting profits to a tax haven.
      • A tax haven is generally an offshore country that offers foreign individuals and businesses little or no tax liability in a politically and economically static environment.
    • Illustration: Country A has a corporate tax rate (CTR) of 20 percent, Country B has a CTR of 11 percent and GMCT is 15%. There is a Company X that is headquartered in Country A, but reports its income in Country B in order to save tax. Now with GMCT in place, country A can legally impose an additional 4% tax on Company X. 
    History of Global Minimum Corporate Tax
    • The Organization for Economic Cooperation and Development (OECD) has been coordinating tax negotiations among 140 countries for years. 
    • The organisation is determined to create global rules for taxing cross-border digital services and curbing tax base erosion, including a global corporate minimum tax.
      • Based on this, the Base Erosion and Profit Shifting Project program was initiated in 2013. 
      • It is an OECD/G20 project to set up an international framework to combat tax avoidance by multinational enterprises (“MNEs”) using base erosion and profit shifting tools.
    • The OECD asked the countries in the BEPS framework to adopt a consensus-based outcome instead of the country’s individual moves in order to tax the companies.
    • However, a consensus was not developed as countries were not willing to forgo their taxing powers that acted as a tool for attracting greater investment. 
      • Further, the developing countries were not sure if they would receive the right to tax the mobile incomes of Big tech companies.
    • On 12 October 2020, the OECD/G20 Inclusive Framework on base erosion and profit shifting (BEPS) released ‘blueprints’ on Pillar One and Pillar Two. 
      • It aims to reach a multilateral consensus-based solution to the tax challenges due to the digitalization of the world economy.
      • Pillar 1: It addresses the issue of reallocation of taxing rights to all the countries
      • Pillar 2: It aims to address all the remaining issues in the BEPS program.
    • The US’s proposal in G7 for imposing a 15% Global Minimum Corporate Tax on companies is in consonance with Pillar two.
    Current Scenario of Global Minimum Corporate Tax
    • The recent meeting of G7 countries saw a willingness to adopt a Global Minimum Corporate Tax rate.
    • The countries agreed to enforce a GMCT of at least 15%. Further, they also agreed to put in place measures to ensure taxes were paid in the countries where businesses operate. The GMCT would be applicable to companies’ overseas profits.
    • The agreement could form the basis of a worldwide deal. It would further be discussed in detail at the next meeting of G20 finance ministers and central bank governors in July 2021.
    The rationale behind the introduction of Global Minimum Corporate Tax
    • First, it would discourage Multinational Companies to shift their operations to offshore units merely for tax benefits.
    • Second, it would ensure the imposition of a realistic and uniform corporate tax throughout the world. Over the past decades, many countries have attracted investment merely by lowering corporate tax rates. This, in turn, has pushed other countries to lower their rates as well.
    • Third, it will prevent revenue loss to countries that occurred on account of lower tax structure in offshore destinations like Ireland, British Virgin Islands, Bahamas, Panama etc.
      • Countries lose out an estimated $100 billion per year in tax revenue due to the absence of GMCT.
    • Fourth, it would induce the countries to compete on other factors like better regulatory regimes, ease of doing business, access to global talent, etc. This healthy competition would create a sustainable business environment in them. 
    • Fifth, it will prevent the unilateral imposition of domestic laws by the developed world over the developing countries. For instance, the US is determined to impose its domestic law version of Pillar Two at a rate of 21% if 15% GMCT is not adopted.
    Challenges in the adoption of Global Minimum Corporate Tax
    • First, it curtails a nation’s sovereignty. Every nation possesses an independent right to formulate its domestic policy based on sovereignty granted under Article 2(1) of the UN charter. Many nations may reject GMCT on the basis of their sovereign rights.
    • Second, adoption by a few countries and rejection by others may not yield the intended results. For the effectiveness of GMCT, it should be adopted uniformly by all nations.
    • Third, the 15% rate may be more for some countries and less for others. 
      • For instance, experts believe the US Congress may not agree to the 15% proposal, as it was earlier backing a 21% rate. The 15% rate would generate less revenues.
      • Similarly, nations like Ireland where the tax rate is 12.5% may reject the proposal as it would impair fiscal autonomy for smaller jurisdictions to compete with larger economies.
    • Fourth, the GMCT would be levied by the country where the ultimate parent entity resides. This may cause a disproportionate tilt in the magnitude of economic power towards the U.S. as around 30 percent of the Forbes 2000 companies are located there. 
    India and Global Minimum Corporate Tax Rate
    • Indian Government has said that India is open to participate and engage in discussions about the Global Minimum corporate tax structure. It would generate additional revenue for the country.
      • The State of Tax Justice report of 2020 states that India loses over $10 billion in tax revenue due to the use of offshore structures. The popular locations include Mauritius, Singapore, and the Netherlands where there is an almost negligible rate of taxation.
    • If passed, the Indian government can impose a tax on offshore subsidiary units of Indian companies. The taxation can be to such a level that it enables the imposition of an effective Global Minimum Corporate Tax on every company.
    • Further, the effective tax rate, inclusive of surcharge and cess, for Indian domestic companies is around 25.17%. This is above the 15% GCMT, indicating that the country would continue to attract investment.
    Suggestions to improve Global Minimum Corporate Tax Rate
    • The Indian government should look into the pros and cons of the new proposal and take a view thereafter. It should continue to impose a 2% digital service tax on foreign companies in order to decrease the magnitude of tax base erosion due to non-taxation.
    • The next G20 meeting will see whether the G7 accord gets broad support from the world’s biggest developed and developing countries or not. Here, the countries should develop a consensus over the proposed rate and the categories to which GMCT should be applied. 
      • For instance, in recent times, the companies have increasingly shifted their income from intangible sources such as drug patents, software and royalties on intellectual property to low tax jurisdictions.
    • Post its adoption by G 20 countries, prudent steps must be taken for its adoption by all the UN members to inhibit the creation of tax havens across the world. 

    Conclusion:

    The Global Minimum Corporate Tax is a novel way of bringing parity in the taxation regimes of countries. It should be adopted at a rational rate and with a consensus of both, the developed and developing countries. A prudent rate would effectively prevent tax base erosion of the higher-tax jurisdictions.

  • Problems with “one state one vote” structure of GST Council

    Synopsis:   The “one state one vote” structure under GST Council is a flawed one. It needs to be replaced with a proportional representation of voting in the GST Council. This system should be based on the size of states or their revenue contribution to the GST pool

     Background
    • In the recent GST Council meeting, there is a debate going on, whether to tax or not to tax on products essential to fighting Covid-19.
    • 12 states, representing nearly 70% of India’s population, agree to make such products tax-free.
    • But,19 states, representing the remaining 30% of the population, want to continue to levy GST on these products.
    • The lack of consensus can largely be explained by the distorted design and incentive structure of the GST itself.
    What is the distribution methodology for taxes collected under GST?

    The GST Council has representatives from all states. According to “one state one vote” all the representative have equal voting rights in GST Council.

    • The taxes collected under GST (from states) are accumulated by the Union government and a portion is transferred back to each state under a formula.

    Which states contribute maximum to the GST pool?
    Four states — Maharashtra, Tamil Nadu, Karnataka, and Gujarat contribute nearly as much (~45%) of the total GST pool

    What is the source of revenue for the states in India?

    Every state in India has two major components of revenues. These are,

    1. State’s own revenues
    2. Transfers from the Union government, consisting of both share of taxes collected by the Union and grants.
    How the source of revenue differs for bigger and smaller states?
    • Only about 30% of the overall revenue of the 4 big states, namely, Maharashtra, Tamil Nadu, Gujarat, and Karnataka, comes from the Union government.
    • But for the remaining 27 states, roughly 60% of their revenues are obtained through transfers from the Union government.
      • For the smaller Northeastern states, these transfers from the Union government constitute 80-90% of their total revenues
    Negative trends in the revenue collection & distribution in India
    • Imbalance in collection & distribution of taxes between states: As mentioned above,
      • While four big states contribute around 45% to the GST pool, they are the least dependent on the Union government for their revenue needs.
      • Whereas smaller states which contribute less to the GST pool are more dependent on the Centre’s transfers for their revenues.
      • So,
        • States that are more dependent on transfers from the Union want to maximize GST collections. This is why they are in support of taxation on Covid-related products.
        • Whereas bigger states that are less dependent can afford to be more sensitive to citizens’ concerns and are against taxing Covid related products.
      • With time, net transfers from center should decrease as states come at par in development relative to each other. But in India over the past few years, these net transfers have increased.
    • States are getting a lower share of revenues: States’ revenue has declined owing to unfair taxation practices by the Center. For instance,
      • Increase in cesses: The Union has shifted a large proportion of taxation (roughly 18% of its overall revenues) into cesses. This remains outside the GST pool and hence do not have to be shared with the states
    • So, the GST model based on “one state one vote” causes grave injustice to the developed states.

    Way forward
    A system of proportional representation, instead of one state one vote model, would not have resulted in this lack of consensus.

    • A proportional representation of voting in the GST Council either as a proportion of the size of a state or by its contribution to the GST revenue pool is the ideal way forward.

    Source: Indian Express

  • The tussle of Digital Services Tax between India and US

    Synopsis:

    The US has rolled back its increased tariff on products of 6 countries including India. It now wants to negotiate, over the imposition of a digital service tax by the 6 nations. It is even willing to engage in a future trade war. 

    Background:
    • The six countries of Austria, India, Italy, Spain, Turkey, and the U.K. had imposed a Digital Services Tax (DST) on non-resident e-commerce operators. 
      • In India, a 2% digital service tax was levied on trade and services offered by non-resident e-commerce operators having a turnover of over 2 crores.
    What is the Digital Services Tax (DST) imposed by India?

    The DST imposes a 2% tax on revenue (revenue, not income. Both are different) generated from a broad range of digital services offered in India, including

    • Digital platform services
    • Digital content sales
    • Digital sales of a company’s own goods
    • Data-related services
    • Software-as-a-service, and several other categories of digital services

    India’s DST only applies to “non-resident” companies. The tax applies as of April 1, 2020, with no retrospective element (retrospective taxation means tax has to be paid on income earned in the past).

    Based on this, The Office of the United States Trade Representative (USTR) began an investigation (in June 2020) to find out the discriminatory nature of these digital taxes imposed by six countries.

    What did the USTR investigation find out?

    How did US react to the findings of the investigations?

    • The US  announced 25% tariffs on over $2 billion worth of imports from the six countries including India.
    • However, it immediately suspended the duties to allow time for international tax negotiations and due to the poor economic condition of countries during the pandemic era.
    What does this retaliatory move by US indicate?
    • First, the move shows that a hefty tax can be imposed on other countries under Section 301 of the U.S. Trade Act of 1974.
      • The section authorizes the President to take all appropriate action, including tariff-based and non-tariff-based retaliation against foreign countries.
      • The objective is to obtain the removal of any act, policy, or practice that violates an international trade agreement or is unjustified, unreasonable, or restricts U.S. commerce. 
    • Second, the move shows the U.S.’s may be willing to start a trade war for protecting the interests of its tech giants against the imposition of Digital Taxes.
    • Third, similar to the Trump administration, the new Biden administration also views digital taxes to be discriminatory in nature. It also wants dominance of the global playing field by the American tech firms without fear of being slapped with tax liabilities.

    Way Ahead:

    • The countries should engage and negotiate peacefully on the concerning provisions. Imposition of unnecessary barriers by either side would only generate adverse results.
      • For instance, U.S tariffs would impact $118 million worth of Indian exports to the country.
    • Co-operation is desired as the world can hardly afford another tariff war in the post-COVID era. 

    Source: Click here

  • Road towards a Global Minimum Corporate Tax

    Synopsis:

    The US has proposed a 15% Global Minimum Corporate Tax that will prevent tax avoidance by companies. The tax would be beneficial for India. But many counties will not accept the tax structure.

    Background:

    The Base Erosion and Profit Shifting (BEPS) programme were initiated in 2013. It aims to curb practices that allowed companies to reduce their tax liabilities by exploiting loopholes in the tax law. But to tax Big tech companies the countries have to sign a BEPS agreement among themselves.

    So the OECD also asked the countries in the BEPS framework to adopt a consensus-based outcome instead of the country’s individual moves.

    Challenges to the BEPS framework:
    • Over the past decades, there are many countries that enacted tax policies specifically aimed at attracting multinational business. These countries attract investment by lowering corporate tax rates. This, in turn, has pushed other countries to lower their rates as well to remain competitive.
    • Also, there are few Developing countries as well that are not sure if they will receive the right to tax the mobile incomes of Big tech companies

    The OECD policy note:

    • Addressing these concerns, On 12 October 2020, the OECD/G20 Inclusive Framework on base erosion and profit shifting (BEPS) released ‘blueprints’ on Pillar One and Pillar Two. 
      • It aims to reach a multilateral consensus-based solution to the tax challenges due to the digitalization of the world economy.
      • Pillar 1: It addresses the issue of reallocation of taxing rights to all the countries
      • Pillar 2: This pillar aims to address all the remaining issues in the BEPS program.
    • The US has recently put forward a proposal to impose a 15% Global Minimum Corporate Tax on companies in consonance with Pillar two.
    What is Global Minimum Corporate Tax?
    • It is a type of corporate tax. Under this, If a company moves some of its operations to another country having low-tax jurisdiction, then the company have to pay the difference between that minimum rate and whatever the firm paid on its overseas earnings.
    • For example, assume Country A has a corporate tax rate of 20 percent and Country B has a corporate tax rate of 11 percent. If the global minimum tax rate is 15 percent. Consider a situation, where Company X is headquartered in Country A, but it reports income in Country B. Then Country A will increase the taxes paid by Company X. This is equal to the percentage-point difference between Country B’s rate and the global minimum rate(15 percent).
      In short, Company X will have to pay an additional 4 percent of the tax to Country A.
    The rationale behind the 15% Global Minimum Corporate Tax proposal:
    • The US aims to minimize tax incentives and force companies to choose a place in a particular country based on commercial benefits.
      • For example, It is intended to discourage American companies from inverting their structures and operate outside the US, due to the increase in the U.S. corporate tax rate.
    • The proposal, if passed, will give other countries the right to “tax back”. For example, countries can tax, 
      • Other jurisdictions have either not exercised their primary taxing right or 
      • Have exercised it at low levels of effective taxation.
    Challenges surrounding the proposal:
    • First, the OECD was considering a 10-12% Global rate. A high rate of 15% may not be accepted by smaller countries like Ireland. Ireland charges a marginal rate of 12.5 %. They argue that a Global minimum tax would impair fiscal autonomy for smaller jurisdictions to compete with larger economies.
    • Second, the US had earlier proposed a rate of 21% that would have generated greater revenues. However, a proposal of a 15% rate may not be passed by the US congress.

    India and the Global Minimum Corporate Tax rate:

    • India did not object to the proposal as the same would generate additional revenue for the country.
      • The State of Tax Justice report of 2020 states that India loses over $10 billion in tax revenue due to the use of offshore structures. The popular locations include Mauritius, Singapore, and the Netherlands where there is an almost negligible rate of taxation.
    • If passed, the Indian government can impose a tax on offshore subsidiary units of Indian companies. The taxation can be to such a level that it enables the imposition of an effective Global Minimum Tax on every company. 

    Suggestions

    • The acceptance of a Global Minimum Corporate Tax would induce the countries to compete on other factors like better regulatory regimes, ease of doing business, access to global talent, etc.
    • However, if consensus is not built on a 15% rate, then the US can apply its domestic law version of Pillar Two at a rate of 21%.
    • Nonetheless, the countries should focus on encouraging trade and economic activity in the post-pandemic era rather than debating over disagreements on tax allocations.

    Source: The Hindu 

  • Highlights of 43rd GST Council Meeting

    Synopsis- Key recommendations made during 43rd GST Council meeting and why it is a missed opportunity.

    Introduction 

    43rd GST Council Meeting took place recently. There were announcements of several measures. However, they failed to inspire any hope of recovery from the disastrous impacts of 2nd wave of the pandemic.

    Key recommendations during 43rd GST council meeting
    • GST Amnesty Scheme for small firms pending GST returns–
      • The scheme has been recommended for reducing late fees. Now Taxpayers can file pending returns, avail benefits of the scheme, with reduced late fees.
    • Annual Return Filing – The Council has recommended amending the CGST Act 2017. It allows for self-certification of reconciliation statements, instead of getting them certified by Chartered Accountants.
    • The Council exempts import duty on Covid-19 relief materials- The GST Council extends the GST exemption granted on relief material received for free from abroad for donations to State-approved entities.
      • The period for availing of this exemption has also been extended to August 31.
      • The medicine for Black Fungus [Amphotericin-B] has also been included in the exemption list for tax-free imports.
    • GST Compensation Cess to remain the same – Same formula as last year will be adopted in 2021 too. A rough estimate is that the Central Government will have to borrow Rs. 1.58 lakh crores and pass it on to the states.
    Key points missed in 43rd GST council meeting
    1. There were no discussions on putting fuel- petrol, diesel under GST, despite high petrol prices.
    2. The Council failed to provide an immediate tax break for critical pandemic relief supplies despite States and industry pressing for waivers.
    3. Inadequate relaxation in GST amnesty scheme – There is no waiver from interest payment available to businesses with a turnover of over ₹5 crores.
    Way forward-
    • It would be beneficial to give all businesses a complete waiver of late fees for months hit by the pandemic.
    • Waiting until June 8 for a final decision on extra GST exemptions for COVID relief operations are waste of time. It is especially when each day’s delay in providing relief hurts thousands.

    Source- The Hindu

  • Cooperative Federalism is Necessary for the Success of GST in India

    Synopsis: Without a strong framework for ‘Cooperative federalism’ it is unlikely that the GST mechanism will survive in the future.

    Background
    • The GST Council is troubled with mistrust under the prevailing cloud of vendetta politics.
    • Also, Cooperative federalism in India is witnessing a deep crisis due to the widening divide between the Centre and states.
    • Further, the Covid induced Economic crisis is hampering state’s revenues while uncertainty in GST revenue prevails.
    • All the above issues are challenging the very existence of GST mechanism in India
    What are the issues hampering Cooperative Federalism in India?
    1. Firstly, Centre backtracking on its promise to pay guaranteed GST compensation to the States during Covid 19 situation.
    2. Secondly, stringent policy conditions by centre to grant approval to States for extra borrowing in the middle of the pandemic.
    3. Thirdly, Centre shifting its responsibility on states over the procurement of Covid vaccines. It has resulted in a high price burden on states.
    4. Fourthly, unilateral decision to implement farm laws.
    5. Fifthly, sudden lockdown imposed by the Centre with no consultations with the States that affected millions of migrant workers.
    6. Sixthly, Centre is levying cess that gathers significant revenues for the Centre without sharing them with the States.
    7. Seventhly, Centre’s recent Government of NCT of Delhi (Amendment) Act, 2021 that deprived the elected Delhi government of its governance powers.

    All these issues are hampering Cooperative Federalism in India.

    What are the issues that are affecting the GST mechanism in India?
    • Firstly, GST was expected to deliver economic efficiency gains, improve tax buoyancy and collections, boost GDP growth, and achieve a greater formalisation of the economy.
    • Secondly, However, three years after its launch, GST had failed on all those promises. For instance, the 15th Finance Commission report formally acknowledges that GST has been an economic failure that did not deliver on its early promises.
    Problems in GST
    • One, multiple rate structure.
    • Two, high tax slabs.
    • Three, the complexity of tax filings
    • Four, the erosion of ‘trust’ and ‘trustworthiness’ between the States and the Centre.
    • Five, the uncertainty in GST revenues compounded with the loss of fiscal autonomy of states possess a threat to States finances.

    Proponents of GST failed to factor in India’s unique political economy and its ramifications. Striking a balance among the diverse interests of India’s numerous parties in a larger political climate is significant along with the extension of revenue guarantee for the States for another five years to strengthen the GST mechanism in India.

    Source: The Hindu

    Analysis of GST regime in India – Explained, Pointwise

  • Analysis of GST regime in India – Explained, Pointwise
    Introduction

    The GST Council was mandated to meet at least once every quarter, but due to the pandemic, the council had not met for two quarters. Recently the government announced the 43rd meeting of the Goods and Services Tax (GST) Council on May 28. There are many issues in front of the council such as controlling petrol price rise, reducing GST levies on critical COVID-19 supplies and vaccines, etc. But apart from these, there are many fundamental issues surrounding the GST regime in India.

    States are dependent on GST collections for nearly half of their tax revenues. 14 states requested help from the Center to manage their finances during the pandemic. On the other hand, the central government imposed various cesses such as cess on exports, health, and education, etc. As the Center does not want to share them with the States. In this article, we will analyse the impact of GST regime in India.

    A brief about GST Regime in India
    • Goods and Services Tax(GST) is a comprehensive indirect tax on the manufacture, sale, and consumption of goods and services throughout India. It replaced the existing taxes levied by the central and state governments. It is a single indirect tax for the whole nation, which made India one unified common market.
    • Likewise, it is a destination-based tax applied on goods and services at the place where final/actual consumption happens.
    • GST is applied to all goods other than crude petroleum, motor spirit, diesel, aviation turbine fuel, and natural gas and alcohol for human consumption.
    • There are four slabs for taxes for both goods and services- 5%, 12%, 18%, and 28%.
    • Although GST aimed at levying a uniform tax rate on all products and services, four different tax slabs were introduced because daily necessities could not be subject to the same rate as luxury items.
    About GST Council
    • GST Council is the most important part of India’s GST regime. The council is responsible for recommending rates of tax, period of levy of additional tax, principles of supply, the threshold for exemption, floor level and bands of taxation rate, special provisions to certain states, etc.
    • Article 279A of the constitution enables the formation of the GST Council by the President to administer & govern GST. The Union Finance Minister of India is a Chairman of the GST Council. Ministers nominated by the state governments are members of the GST Council.
    • The council is devised in such a way that the center has 1/3rd voting power and the states have 2/3rd.
    • The decisions are taken by the 3/4th majority.
    • A mechanism for resolving disputes arising out of its recommendations also decided by the Council itself.
    Achievements of GST regime in India
    1. Expansion of Tax Net: The number of registered taxpayers at the time when the GST was rolled out was Rs 65 lakhs. But as of March 2020, there were 1.23 crore active GST registrations. This indicates a significant increase in tax base and a change in taxpayers’ compliance behavior. Apart from that, the GST regime also brought a cash-driven informal economy into the tax net.
    2. Revenue collections: In 2018-19, the average monthly collection was Rs 97,100 crore with collections breaching Rs 1 lakh crore regularly. In 2019-20, it reached INR 12.2 lakh crore.
    3. Introduction of e-way bill system: Apart from few initial technical glitches, the e-way bill system has been largely streamlined. The total number of e-way bills (inter-state as well as intra-state) generated during Financial Year(FY) 20 were approximately 63 Crore. This is 13% growth when compared to FY-19(Approx 56 Crore).
    4. Rate rationalisation: In 2017, nearly 19 percent of items were under the 28 percent GST rate. But currently only 3 percent of the items subject to the 28 percent GST rate.
    5. Legislative amendments and clarifications: The GST law has undergone significant changes since its inception on 1 July 2017. Within 3 years, there were almost 700 notifications, 145 circulars, and over 30 orders issued by GST Council. These aimed to address taxpayers’ demand and to carry out procedural simplifications and curb tax evasion.
    6. Center-State Relations: Since most decisions in the GST council have been unanimous this shows a better Co-operative Federalism in India.
    7. Reduced Interface With Tax Officials: Within a year about 12 crore returns have been filed, and 380 crore invoices have been processed by the GST Network (the IT backbone for taxpayers to pay tax, file returns, and claim refunds). This reduced the user’s interface with a tax official.
    8. Reduction in turnaround time: The turnaround time for transportation of goods has come down with the dismantling of barriers and check posts on state borders. This is gradually leading to the emergence of a truly national market.
    Issues in GST Regime in India

    The 15th Finance Commission report formally acknowledges that the GST regime in India is an economic failure that did not deliver on its early promises.

    1. Multiple Tax Rates: Unlike many other economies which have implemented this tax regime, India has multiple tax rates. This hampers the progress of a single indirect tax rate for all the goods and services in the country.
    2. New Cesses crop up: While GST scrapped multiplicity of taxes and cesses, a new levy in the form of compensation cess was introduced for luxury and sin goods. This was later expanded to include automobiles.
    3. Economy Outside GST purview: Nearly half the economy remains outside GST. E.g. petroleum, real estate, electricity duties remain outside GST purview.
    4. The complexity of tax filings: The GST legislation requires the filing of the GST annual returns by specified categories of taxpayers along with a GST audit. But, filing annual returns is a complex and confusing one for the taxpayers. Apart from that, the annual filing also includes many details that are waived in the monthly and quarterly filings.
    5. Higher tax rates: Though rates are rationalised, there is still 50 percent of items are under the 18 percent bracket. Apart from that, there are certain essential items to tackle the pandemic that was also taxed higher. For example, the 12% tax on oxygen concentrators, 5% on vaccines, and on relief supplies from abroad
    Erosion of ‘trust’ and ‘trustworthiness’ 

    Recently the GST Compensation issue between the Center and the State led to decreasing trust in the center by some states. Apart from that, the other issues eroding the Co-operative federalism are,

    • End of revenue guarantee: During the enactment of GST, the Center promised compensation for loss of revenue faced by states. This revenue guarantee ends in July 2022. Citing the pandemic, some states are demanding more compensation time
    • Loss of fiscal autonomy of states: States surrendered the majority of their indirect taxation powers for the implementation of GST. At present, States have no taxation powers over them. But the GST revenues are uncertain, and the States also do not witness on the ground.
    • The issue of Pandemic: The second wave of Covid-19 infections put greater onus on the States. Such as mobility restrictions, vaccination sequencing, and even procurement of Vaccines. With less tax revenue on hand, the States cannot meet all the needs to tackle the pandemic.
    Suggestions to improve the GST regime in India
    1. Expansion Of Tax Base: There are many goods that are still outside the GST net and hamper the seamless flow of input tax credit. Key items outside its ambit are electricity, alcohol, petroleum goods, and real estate. Among fuels, it may be possible to bring natural gas and aviation fuel within GST. Also, the government in the upcoming meeting can reduce the GST on essential items such as oxygen concentrators, vaccines, etc to overcome the pandemic.
    2. Infusing tax predictability: The GST Council can adjust the rates only once a year. Further, the Center shouldn’t bypass GST by introducing any Cess. The Center can also rationalise the present Cess ecosystem in India to a bare minimum. This will ensure tax predictability to states and enhance the ease of doing business.
    3. More accommodative approach from the Center: To prevent an irretrievable breakdown during the pandemic the Center has to be more accommodative to State’s needs. Such as, allocating State’s share properly, procuring vaccines from abroad, etc. This will further enhance State’s reliability on GST.
    Conclusion

    GST is a positive step towards shifting the Indian economy from the informal to the formal one. But, the Center and States have to understand the limitations associated with Indirect Taxes and move towards the inclusion of people into the Direct tax bracket. But, to revive GST Regime back on track India needs some radical steps such as an extension of revenue guarantee to States, restricting cesses, above all respecting the need of State governments fiscal problems.

     

  • Need for Eco Tax in India

    Synopsis: Eco Tax in India can be useful for sustaining public  Health financing as well as in mitigating effects of climate change.

    Background
    • India’s tax revenue decreased significantly during the Pandemic. It has resulted in widening the Fiscal deficit. For instance, the fiscal deficit for FY 2020-21 (revised estimates) is projected to be 9.5% of the GDP
    • Also, according to WHO, 17.33% of the  Indian household’s expenditure on health was greater than 10% of their total expenditure or income. The percentage was higher in rural areas compared to urban areas.
    • According to the Economic Survey (2019-20), Government should increase public spending from 1% to 2.5-3% of GDP on health. It is envisaged in the National Health Policy of 2017. This much spending can decrease out-of-pocket expenditure from 65% to 30% of overall healthcare expenses.
    • However, sustained health financing in India remains a challenge. Along with this, India is shouldered with the responsibility of mitigating  climate change and preservation of the environment.
    • In this context, an eco-tax (Environment tax) will help India to (i) Mobilise resources (ii) Reduce out of Pocket Expenditure on health by increasing public spending (iii) Mitigate climate change.
    Benefits of implementing Eco Tax in India

    The implementation of an environmental tax in India will have three broad benefits: fiscal, environmental and poverty reduction.

    • First, revenues mobilised from Eco tax can be used for the provision of environmental public goods and addressing environmental health issues. Such as
      • To, finance basic public services.
      • To, reduce other distorting taxes such as fiscal dividend
      • Lastly, to finance research and the development of new technologies
    • Second, it will help in eliminating existing subsidies and taxes that have a harmful impact on the environment.
    • Third, it will help in restructuring existing taxes in an environmentally supportive manner.
    • Fourth, may help in initiating new environmental taxes in the future.
    How Eco tax can be implemented?

    In India, eco taxes can target three main areas:

    1. One, differential taxation on vehicles in the transport sector for fuel efficiency and GPS-based congestion charges.
    2. Two, in the energy sector by taxing fuels which require for energy generation.
    3. Three, waste generation and use of natural resources.

    What are the Challenges in implementing Eco tax?

    • Environmental regulations may have significant costs on the private sector. Such as slow productivity growth, high cost of compliance, resulting in the possible increase in the prices of goods and services.
    • However, the European experience shows that most of the taxes also generate substantial revenue.
    • Further, most countries’ experiences suggest only a negligible impact on the GDP that can be neglected.
    What is the way forward?
    1. One, the success of an eco-tax in India would depend on its planning and design. It should be credible, transparent and predictable.
    2. Two, the eco tax rate should be equal to the marginal social cost. This cost arises from the negative externalities associated with the production, consumption, or disposal of goods and services.
    3. Three, Green accounting. Need to evaluate  the damage to the environment based on scientific assessments. It includes, adverse impacts on the health of people, climate change, etc.

    Source: The Hindu

  • Government Notifies Rules for 74% FDI in Insurance Sector

    What is the News? The Finance Ministry notified the Indian Insurance Companies (Foreign Investment) Amendment Rules, 2021. These rules will apply to all insurers irrespective of the stake held by the foreign partner.

    These rules will give an effect to increased FDI limit in the Insurance Sector to 74% from 49%.

    Key Provisions of the Rules:

    • Total Foreign Investment in an Indian Insurance Company shall mean the sum total of direct and indirect foreign investment by Foreign Investors.
      • Direct investment by a foreigner will be called Foreign Direct Investment. While Investment by an Indian company (which is owned or controlled by foreigners) into another Indian entity is considered as Indirect Foreign Investment.
    • Any Indian insurance company with foreign investment exceeding 49% should have half of its board of directors as an independent director.
      • But if the chairperson of its board is an independent director then at least one-third of its board shall comprise independent directors
    • Indian insurance companies, with foreign investment, should have the majority of their directors and key management persons as resident Indians.
      • There should be at least one resident Indian among the three key persons— chairperson of the board, managing director (MD), and chief executive officer (CEO).
    • Every Indian insurance company having foreign investment shall comply within one year with the requirements of these provisions.

    Note: Insurance penetration in India is currently at 3.7% of the gross domestic product(GDP) compared to the world average of 6.31%.

    Source: The Hindu

  • Rising fiscal deficit and Expenditure Need during Pandemic
    Synopsis:

    The pandemic time demands enhanced government expenditure to support the vulnerable masses and ensuring their survival. Considering this, the government should enhance the spending on physical and human capital formation without worrying about a rising fiscal deficit.

    Background:
    • The International Monetary Fund in its World Economic Outlook report had raised the growth forecast for Indian economy. The report expected growth of 11.5 – 12.5% in the financial year 2021-22.
    • However, the country is now witnessing a second wave of Covid 19 that demands greater government support for the vulnerable masses. 
    • Many experts believe that a deviation from fiscal targets and reduction in growth rate is justified under the extraordinary times like the pandemic.
    About Fiscal Deficit:
    • A fiscal deficit (FD) situation occurs when the government’s expenditure exceeds its income. It is the difference between the total expenditure of the government and its total revenue (excluding borrowings).
    • It is estimated to moderate from 9.5 percent of GDP in FY21 to 6.8 percent of GDP in FY22. The estimation is based on an increase in revenue receipts by 15% and an increase in fiscal spending by 1% in the current fiscal year.
    Rationale for raising government expenditure and deviating from FD target:
    • Rising Unemployment: The second wave has resulted in imposition of lockdowns and curfews across multiple states. This has suspended economic activities leading to greater job losses.
      • In the previous lockdown of 2020, the unemployment rate increased by nearly 14.8 percentage points, rising to 23.5 per cent in Apr 2020.  
    • Accomodative Monetary Policy: The policy is already accommodative and may not have enough room to further boost the economy. 
      • RBI reduced the repo rate by 115 basis points since 2020. The inflation level is rising in the economy which may deter it to reduce further interest rate.
      • Nonetheless, the RBI may raise interest rates if inflation levels breach the 6% upper band threshold.
    • Providing a Safety Cushion: Extraordinary times demand greater support from the welfare state for its citizens. Further, stringent measures (like Lockdown) have made social security schemes (like MGNREGA) ineffective.
    • Supporting the Health system: The pandemic has exposed the lacunae of our health system. Significant fiscal support is needed to provide free vaccinations to all. 
      • This is highly desired as the benefits of faster and wider vaccine coverage enormously outweighs its monetary cost.
    • Global Scenario: Other countries are also providing significant fiscal stimulus to revive their economic growth as seen in the case of the U.S. 
      • The country has adopted an easy monetary policy combined with a huge fiscal stimulus to catalyze its economic growth to pre-pandemic levels.
    Way Forward:
    • The central government should:
      • Firstly, enhance the limit of promised food grains under the National Food Security Act. The government recently promised an additional five kg of grain to the 800 million beneficiaries under the Act.
      • Secondly, consider transferring cash to the bank accounts of the poor
      • Thirdly, reduce non-essential government expenditures and use them for COVID-related expenditure
    • Further, it may raise additional funds through borrowings from the market. This may worsen FD in the short run but would generate additional growth that may make debt consolidation easier when things normalise.

    Source: Indian Express 

  • India needs to be cautious before joining Global Minimum Tax rate

    Synopsis: A Global minimum tax rate is beneficial for the US. But India need to rethink before joining such international tax proposals

    Introduction:

    The US Treasury’s call for a global minimum tax rate is gaining a global endorsement. But the goal of a global minimum tax is not only to end the race to the corporate tax but also to end the right to the tax of developing countries.

    Base Erosion and Profit Shifting (BEPS) Programme:
    1. Big tech companies are able to conduct economic activities in countries without their physical presence. Further, they also move profits to low-tax jurisdictions.
    2. The Base Erosion and Profit Shifting (BEPS) programme were initiated in 2013. It aims to curb practices that allowed companies to reduce their tax liabilities by exploiting loopholes in the tax law. But to tax Big tech companies the countries have to sign a BEPS agreement among themselves.
    3. So the OECD also asked the countries in the BEPS framework to adopt a consensus-based outcome instead of the country’s individual moves.
    Challenges to BEPS Programme:

    But there are few countries that are not ready to sign BEPS agreements.

    1. Over the past decades, there are many countries that enacted tax policies specifically aimed at attracting multinational business. These countries attract investment by lowering corporate tax rates. This, in turn, has pushed other countries to lower their rates as well to remain competitive.
    2. Also, there are few Developing countries as well that are not sure if they will receive the right to tax the mobile incomes of Big tech companies
    The OECD policy to solve BEPS issues:

    Addressing this concern, the OECD published a policy note. In that, it bifurcated the challenge of BEPS into two pillars.

    1. Pillar 1: It addresses the issue of reallocation of taxing rights to all the countries
    2. Pillar 2: This pillar aims to address all the remaining issues in the BEPS program.

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    Concerns with the OECD policy proposal:

    The blueprints of this policy proposal were released in October 2020. But, the experts mention few concerns with the OECD policy note. Such as,

    • Complexity in taxing Big techs: The experts found the policy of OECD as a more complex one to implement.
    • Profit allocation: This is the most contentious provision of the policy. As the policy allocated only a fraction of the profits of Big Techs to the markets(Operating country of Big techs). The policy also allocated more profits to the source country.
    Intermediate Taxation of Big Tech:
    • With the blueprints are under consideration, the Big techs gained profits. On the other hand, the tax base of countries, including India, remains exposed to the risk of under or non-taxation.
    • To fix this situation, countries implemented digital services tax on revenues of Big tech companies.
    • But the US on the other hand launched inquiries on these countries under their Trade Act 1974.
    The path to global minimum tax rate:

    After the Biden administration came into force in the US, it agreed to work on a consensus-based solution.

    1. Further, the US Treasury suggested that it will apply the pillar 1 proposal to the top 100 companies. This includes showing a non-discriminatory policy to the US companies in the top 100. Further, the US also working on simplification of the proposal.
    2.  With regard to pillar 2 proposals, the US decided to raise the corporate tax rate to  28 percent. This is decided along with the harmonisation of rates across countries. This includes,
      1. Defining minimum tax rate for the world, after the global consensus on the effective tax rate for companies. (So, the minimum tax rate is not yet decided)
      2. After fixing the minimum tax rate, the countries will compare the multinational enterprise’s effective tax rate in each jurisdiction. Especially in places where the low tax rate is paid.
      3. A top-up tax will apply for the remaining profits. But there is an ambiguity on who will tax these remaining profits?
      4. In general, the country, where the ultimate parent entity resides, is where the tax is first applicable. Applying that concept, then 30 percent of the Forbes 2000 companies are located in the US. So, the implementation of this proposal best serves the needs of the US.

    Read Also-Why New IT Rules, 2021 for Social Media were necessary …

    Can India join the minimum tax rate proposal?
    1. India needs to assess the situation carefully. Because the proposal will apply to companies with global revenues above Euro 750 million. So, committing wrongly will lose India’s taxing rights.
    2. Moreover, India also witnessed a consistent rise in the effective tax rate, which is now close to 26 percent.
    3. Further, committing such a minimum tax rate also need India to reform its tax systems accordingly. Especially allowing foreign countries to tax the incomes that are perceived to be under-taxed in India.

    For the past few years, India adopted legal measures to tax incomes of companies that avoid physical presence in India. But if global consensus is there for a minimum tax rate, then it is necessary for India to reflect the two pillars of international tax reform.

    Source: The Indian Express

    Labour Rights Codes on wages Bill

  • Strengthening the National small savings schemes

    Synopsis:  The government need to implement the recommendation of high-level committees in determining the interest rate of small savings schemes

    Background
    • Recently, the government notified on reducing the interest rates on National small savings schemes.
    • However, the decision to reduce the interest rates on small savings schemes was reversed within 12 hours of notification.
    • Reducing the interest rate of National small savings schemes will adversely impact middle class, lower middle class, and lower-income groups. As they are already facing the crisis of job losses and higher food prices due to the Pandemic.
    Types of Small saving schemes in India
    1. Post office Deposits
    2. Savings Certificates: National Savings Certificate and Kisan Vikas Patra
    3. Social Security Schemes: Public Provident Fund, Senior Citizens Savings Scheme, and Sukanya Samriddhi Account.
    Significance of Small Saving schemes;
    • One, Small savings schemes (SSS) have contributed to overall economic growth. Because money pooled from SSS has been used by center and state governments to fund development programs.
    • Two, they are an important source of household savings. (social security net)
    • Three, they offer a safe and secure source of income to senior citizens.

    How the Interest rate of National small savings schemes are decided currently?

    • The small savings rates are linked to G-sec yields (the rate at which the government borrows money through sovereign bonds) currently. Further, it is revised quarterly.
    • The rationale for linking small savings rates to G-sec is that money collected through these schemes is invested in central and state government securities.

    What are the recommendations of various high-level committees in this regard?

    1. Various committees such as the Y V Reddy committee, the Rakesh Mohan committee, Shyamala Gopinath Committee have recommended linking small savings rates to G-sec yields.
    2. The important recommendations of these committees are, For example,
      • One, The Reddy committee suggested small savings rates should be reset once a year. Instead of the current practice of revising it quarterly.
      • Two, the Reddy Committee recommended that the rates should never be revised more than 50 basis points. On the other hand, the Gopinath Committee recommended that the rates should never be revised more than 100 basis points in a year.
        • However, due to quarterly revisions, many times the basis points have reduced by more than 100 owing to low G-sec yields.
        • For example, Interest in the Senior Citizens’ Saving Scheme was cut to 7.4 percent, effective from April 2020, from 8.7 percent before.
      • Rakesh Mohan Committee recommended using a weighted average of G-sec yields over the preceding two years in calculating interest rates of SSS.
    3. However, the present move is contradictory to the current approach of the Finance ministry.

    The justification is given by the government for reducing the interest rate of SSS:

    • One, people’s dependence on small savings schemes had significantly declined due to the expansion of the banking sector.
    • Two, for those who used small savings as safety nets there were other alternatives such as an old-age pension scheme.
    • Three, a market-determined rate will provide a fair outcome. But this is not true because many times RBI has intervened in the market to reduce G-sec yields that directly affect the interest rate of SSS.
    What is the way forward?
    • One, the government Should reset the rates annually in line with various high-level committee recommendations.
    • Two, the government should keep the revision under 100 basis points and allowing small savings rates a spread of at least 50 basis points over and above the G-sec yields.
    • Revisiting the suggestion made by the Rakesh Mohan Committee to use a weighted average of G-sec yields over the preceding two years.

    Source: Indian Express

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  • What is “global minimum corporate income tax”?

    What is the News?

    The US Treasury Secretary has urged the world’s 20 advanced nations to move in the direction of adopting a Global minimum corporate income tax.

    What is the Global minimum corporate income tax?
    • It is a type of corporate tax. Under this, If a company moves some of its operations to another country having low-tax jurisdiction, then the company have to pay the difference between that minimum rate and whatever the firm paid on its overseas earnings.
    • For example, assume Country A has a corporate tax rate of 20 percent and Country B has a corporate tax rate of 11 percent. If the global minimum tax rate is 15 percent. Consider a situation, where Company X is headquartered in Country A, but it reports income in Country B. Then Country A will increase the taxes paid by Company X. This is equal to the percentage-point difference between Country B’s rate and the global minimum rate(15 percent).
      In short, Company X will have to pay an additional 4 percent of the tax to Country A.
    Why this Global Minimum Corporate Tax Rate move?
    • The goal of a global Corporate minimum tax is to end a 30-year race to the corporate tax rates.
    • Over the past decades, a number of countries have enacted tax policies specifically aimed at attracting multinational business. These countries attract investment by lowering corporate tax rates. This, in turn, has pushed other countries to lower their rates as well to remain competitive.
    • Responding to the incentives created by these laws, many multinational corporations have moved their assets to low tax countries. Particularly their ownership of the intellectual property to countries offering them low or even no-tax treatment for the assets they produce.
    • This has impacted countries around the world. As they lose out on an estimated $100 billion per year in tax revenue. India’s annual tax loss due to corporate tax abuse is estimated at over $10 billion.
    What is the US proposal?
    • The US has proposed a 21% Global minimum corporate tax rate. Further, the US also suggests cancelling exemptions on income from countries that do not legislate a minimum tax. This aims to discourage the shifting of multinational operations and profits overseas.
    India’s Stand on Global Minimum Corporate Tax Rate:
    • Indian Government has said that it is open to participate and engage in discussions about the Global Minimum corporate tax structure.
    • It said that the government will look into the pros and cons of the new proposal and take a view thereafter.

    Source: Indian Express

  • “HSN code” Made Mandatory for Certain Category of GST Taxpayers
    What is the News?

    The Government makes the 6 digit HSN (Harmonized System of Nomenclature) code mandatory for a GST taxpayer having a turnover of more than Rs 5 crore in a financial year. This rule comes into effect from April 1,2021.

    About HSN Code:
    • The HSN Code is a six-digit identification code. The World Customs Organization (WCO) developed this code in 1988.
    • Purpose: It is an international nomenclature for the classification of products. It allows participating countries to classify traded goods on a common basis for customs purposes.
    • The code, also called the universal economic language for goods, is a multipurpose international product nomenclature.
    • The HSN code currently comprises around 5,000 commodity groups. Each Code is a unique six-digit code that has numbers arranged in a legal and logical structure. There are well-defined rules to achieve uniform classification.
      • Of the six digits, the first two denote the HS Chapter, the next two give the HS heading, and the last two give the HS subheading.
    • Significance: HSN Code helps in harmonizing customs and trade procedures. Thus, it reduces the costs of international trade.

    Source: Livemint

     

  • The New EPF Tax Rules Should be Re-examined

    Synopsis: A new EPF Tax Rules under EPF(Employees Provident Fund) contributions is under the proposal. The intended objective is to prevent abuse of process by HNIs (High net individuals), however, there are some concerns that demand re-examination.

    Background
    • Before the budget announcement, the EPF contributions were taxable beyond the permissible tax-free limit (1.5 lakh per annum) under Section 80C of the Income Tax Act. 
    • However, there was no tax on interest income earned on such contributions except in the case of premature withdrawals (before 5 years).
    What changes have been made?
    • The finance bill 2021 was passed with 127 amendments.
    • This included a proposal to tax the interest earned on EPF contributions beyond Rs. 2.5 lakh rupees.
    • The limit is 5 lakh in cases where employers do not make contributions to the provident fund.
    The rationale behind the proposal:
    • It intends to prevent abuse of process by HNIs who was getting the benefit of tax exemption at all stages — contribution, interest accumulation, and withdrawal.
      • Example: More than 20 accounts in EPF hold a balance of around 800 crores which is completely New EPF Tax Rules.
    • Further, the move will not harm other contributors as 90% of them contribute less than 2.5 lakh.
    Concerns with New EPF Tax Rules :
    • Complexity – Earlier the process was simple and easy to understand. But now the taxation of interest makes it difficult to ascertain the retirement amount.
      • It is also unclear if the interest on such excess contributions is to be taxed once during the year of contribution or throughout the term of investment in EPF. 
      • The mechanism of tax communication from the EPFO to the member also remains uncertain. 
    • Double Taxation: Contribution above 1.5 lakh is already taxable under the Income Tax act. Taxing interest over 2.5 lakh contribution can lead to double taxation. 
    • Regressive View: The government is treating more investment by the rich as a regressive move that would do only evil. 
      • A greater contribution is helpful considering the medical cost, inflation, volatile interest rate cycles, and minimal choices for post-retirement investments.
      • Further, corporates earn from a mix of government securities and market instruments. The government gives them no subsidy towards EPF. 
    • Ignore the safety potential: The new rules ignore the safety of investment under EPF. It is the government backing that induces greater investment rather than a desire to abuse the tax concessions under the instrument. 
    Way Forward:
    • Reconsideration of tax proposals is desired so that EPF remains the primary retirement saving instrument for people owing to its attractive nature and not by compulsion.
    • Further systems at EPFO will require changes as taxation of the annual interest rate is a new concept for the organization.
    EPF (Employees Provident Fund):

    • EPF is a social security scheme under the Employees’ Provident Funds and Miscellaneous Provisions Act,1952
    • Managed by: The scheme is managed under the aegis of Employees’ Provident Fund Organization (EPFO).
    • Coverage: EPF accounts are mandatory for employees earning up to ₹15,000 a month in firms with over 20 workers.
    • Contribution: Under the scheme, an employee has to pay a 12% contribution towards the scheme. An equal contribution is paid by the employer. The employee gets a lump sum amount including self and employer’s contribution with interest on retirement.
    • The employees can transfer contributions from one employer to another with the support of the Universal Account Regime. Withdrawal is possible only after permanent cessation of employment. 

    Source: The Hindu 

  • Discrimination in taxing provident fund (PF)

    Synopsis: The Finance Minister has enhanced the Provident Fund(PF) limit up to 5 lakhs from the previously proposed 2.5 lakh. This is a discriminatory proposal for taxing PF and should be reconsidered.

    Background:
    • The finance bill 2021 was passed with 127 amendments. This included a proposal to tax income on PF contributions over Rs. 2.5 lakh rupees a year. 
      • The rationale behind this was to prevent abuse of the process as 93% of users fall below 2.5 lakh category.
    • Recently, a contradictory provision of doubling the annual threshold to Rs. 5 lakh was also introduced. This enhanced limit was given to only those individuals whose employers do not remit any contribution to their retirement fund account. 
    Current Threshold limits for Provident Fund:
    • Annual investments made into individual PPF accounts are capped at  Rs. 1.5 lakh per year. 
    • EPF contributions beyond 1.5 lakh are not tax-deductible under Section 80C of the I-T Act. However, income on such contributions beyond 2.5 lakh will be taxable.
    • Similarly, employer contributions into the EPF, NPS, or any superannuation pension fund can’t exceed 7.5 lakh per year. 
    • Income on GPF(General Provident Fund) contributions would be tax-free up to 5 lakh per year.
    Concerns with such a move
    • Firstly, it amounts to discrimination with private employees who have an EPF (Employees Provident Fund) account as:
      • Employer-employee relationship is an implicit requirement to open an EPF account.
      • Employees can contribute beyond the statutory wage limit of Rs. 15,000 but employers contribution can never reach zero.
    • Secondly, it suggests a bias in favor of some government employees as:
      • Only some senior government staff who joined service before 2004 and are not part of the NPS will benefit from this move. 
      • They possess a unique profile that allows them to contribute to the GPF account and get a defined benefit pension separately.
    • Thirdly, it move also conflicts with other policy measures like Wage Code Bill.
      • The calls for enhancing employers contribution in EPF accounts. This may make EPF contribution cross the 2.5 lakh limit thereby coming under the tax net.
    • Lastly, it shows a disconnect between policymakers and the aspirations of the working class to save for their retirement years. It appears that the government is willing to jeopardize the retirement benefits for augmenting tax collections.
    Way Ahead:
    • The government could offer the same cap of 5 lakh annual contribution to EPF account holders in order to bring equity. For capping the annual amount, employers’ contributions can be counted as well.
    • Until this is done, the government can put the new tax structure on hold and think through its implications.

    India possesses a huge informal workforce that must be given equitable retirement benefits like the government sector employees.

    Source:  The Hindu

  • Similarities between Disinvestment and fiscal deficit

    Synopsis: Selling of Public assets (Disinvestment) has similar macroeconomic results to fiscal deficit. Both increase wealth inequalities in the society and hence should be avoided.

    Background
    • The government has set a target of 1.75 lakh crore rupees from the disinvestment of PSUs in the current financial year.
    • The only rationale shown by the government behind such a move is to generate additional resources for spending.
    Basic Terms:

    • Fiscal Deficit: It is the difference between the total revenue of the government (excluding borrowings) and its total expenditure. A fiscal deficit situation occurs when the government’s expenditure exceeds its income.
    • Disinvestment: It simply means the withdrawal or reduction of investment.
    Fiscal Strategy of selling Public Sector Undertakings:
    • Under disinvestment, equity (shares) of PSUs is offered for sale to the private sector.
    • However, the purchase of public assets crowds out private investment in other sectors.
      • It happens as the amount kept for investment in varied projects like road, rail, energy, etc. is used for the purchase of public assets. It reduces the pool and hence crowding out takes place. 

    Moreover, there is not much difference between fiscal deficit and disinvestment.

    Relationship between Disinvestment and Fiscal Deficit:
    • In Fiscal Deficit, the government issues bonds to the private sector for raising money. While in case of disinvestment, ownership of public assets is offered.
    • Both have similar macroeconomic consequences:
      • Enhancing private savings
      • Crowding out some private investments
      • Allowing the production of idle output and resources by increased government spending
      • Creating wealth inequalities
    • The only difference is the nature of the paper handed over to the private party. 
    How does fiscal deficit increase wealth inequality?

    Fiscal Deficit generates additional private savings. It enhances wealth inequality.

    • Firstly, the government expenditure financed by fiscal deficit generates additional demand in the economy. 
    • Secondly, this further increases output and incomes until additional savings generated out of such incomes match the fiscal deficit.
    • Thirdly, these savings are generally more in the case of the rich who have a higher propensity to save. 
    • Fourthly, these additional savings result in greater wealth creation for the rich and enhance wealth inequalities.
    How selling of public assets increases wealth inequality?
    • The process of disinvestment involves the transfer of ownership of public assets to the private sector.
    • Wealth Inequality gets enhanced as:
      • Additional savings are created in the economy just like in the case of fiscal deficit, which enhances inequality. 
      • Further, the transfer usually happens at prices well below the capitalized value of earnings. This makes new owners more wealthy in the future and enhances inequalities in society.
        • Capitalized value refers to the current value of an asset, based on the total income expected to be realized over its economic life span.
    Alternative of disinvestment for increasing spending:
    • The focus should be on tax-financed government expenditure. In this case, there would be no addition to private wealth, and hence no increase in wealth inequality.
    • In the current scenario government can take the following steps:
    1. It can impose a wealth tax that would help it extract a bigger chunk of private profits and doesn’t increase inequalities.
      • Elizabeth Warren had proposed the idea during her nomination for the American presidency and 18 billionaires supported this.
    2. Increase the GST rate on luxury goods with due consultation with states. Further it should be complemented with a proportional increase in government spending. The result would be an increase in employment and output in the economy without impacting post-tax profits in real terms.

    Thus, the multiple benefits associated with PSUs like social empowerment (role in green revolution), protection against the dominance of multinational corporations, etc. cannot be ignored.

    Even if we ignore these, the sale of public assets to finance government spending is undesirable and unnecessary on purely fiscal terms.

    Source: The Indian Express 

  • What is FDI or Foreign Direct Investment?

    What is the News?

    The Rajya Sabha has passed the Insurance (Amendment) Bill, 2021. The Bill seeks to raise the FDI in the insurance sector to 74% from the current 49%.

    Click Here to Read about Insurance in Amendment Bill,2021

    About Foreign Direct Investment(FDI):

    • Foreign Direct Investment(FDI) is the medium for acquiring ownership of assets in one country (the home country) by residents of other countries. FDI may result in control of the production, distribution, and other activities in a firm in the host country.
    • FDI is considered a major source of non-debt financial resources for economic development.
    • However, FDI is distinguished from Foreign Portfolio Investors(FPI) in which a Foreign investor merely purchases equities of companies.

    Routes through which India gets FDI:

    • Automatic Route: In this, the foreign entity does not require the prior approval of the government or the RBI.
    • Government route: In this, the foreign entity has to take the approval of the government.

    Sector Specific Conditions for FDI:

    • Firstly, Mining and Exploration of metal and non-metal ore – 100% FDI through Automatic Route
    • Secondly, Coal & Lignite — 100% FDI through Automatic Route
    • Thirdly, Defence Industry — 100%. However, Automatic is only up to 74%. Beyond 74%, it is a Government route wherever it is likely to result in access to modern technology or for other reasons to be recorded.
    • Fourthly, Print Media and Digital Media — 26% through Government Route
    • Fifthly, Intermediaries or Insurance Intermediaries — 100% FDI through Automatic Route
    • Sixthly, E-commerce activities — 100% FDI through Automatic Route
    • Seventhly, Single Brand Product Retail Trading — 100% Automatic
    • Eighthly, Multi Brand Retail Trading — 51% through Government route
    • Lastly, Railways Infrastructure —100% FDI through Automatic Route in the construction, operation and maintenance of the railway transport sector: Suburban corridor projects through PPP model and High-speed train projects.

    Prohibited Sectors: FDI is prohibited in:

    • Lottery Business including Government/private lottery, online lotteries, etc.
    • Gambling and Betting including casinos etc.
    • Chit funds
    • Nidhi company
    • Trading in Transferable Development Rights (TDRs)
    • Manufacturing of cigars, cheroots, cigarettes, tobacco, or of tobacco substitutes
    • Activities/sectors not open to private sector investment e.g.(I) Atomic Energy and (II) Railway operations (other than permitted activities).
    • Real Estate Business or Construction of Farm Houses
      • ‘Real estate business’ shall not include development of townships, construction of residential /commercial premises, roads or bridges and Real Estate Investment Trusts(REITs) registered and regulated under the SEBI(REITs) Regulations 2014.

    Source: Indian Express

  • Why Taxes on Fuel may increase in the future?

    Synopsis:  Due to economic pressure, the center and states may increase taxation on fuel.

    The disparity between the taxation powers of the centre and states
    • A taxation is an economic tool used by the government to raise revenues. The Supreme Court of India described taxation as a “sovereign” power. Taxation powers of a state cannot be subjected to judicial scrutiny.
    • Compared to States, the Centre has a lot of independence with respect to taxation powers. It has a wide scope in this regard. For example, in 2016, the Centre levied the equalisation levy to tax non-resident e-commerce service providers. The levy was neither an income tax nor a service tax. It was levied using provisions of the Income Tax Act and service tax laws.
    • Whereas the subject matters over which states can raise revenue are very limited.
    • In ITC Ltd. V. State of Karnataka 1985, Justice Sabyasachi Mukharji observed that “States must have the power to raise and mobilise resources in their exclusive fields”.
    Fiscal Independence of states further reduced after GST
    • With the implementation of GST, states have lost their autonomy to raise finances.
    • The Constitution’s (101 Amendment) Act, 2016 deleted provisions empowering states to independently levy taxes.
    • However, states retained their taxation powers in few items such as the sale of petrol, alcoholic liquor for human consumption, and Taxes on entertainments and amusements.
    Why fuel tax will be increasing?
    • First, the need for economic recovery after the pandemic will incur more public spending. High public spending means the government needs more revenues. This is one main reason why the Centre’s has kept the excise duties of fuel high.
    • Second, the central government’s need for fiscal responsibility under the Fiscal Responsibility Budget Management Act has ensured that it maintains high taxes on fuel to raise resources.
    • Third, the fiscal deficits of the states are also increasing at an all-time high. Provided with very less options to raise resources after the implementation of GST, even the states will try to tax fuel to raise more revenues.
    • Fourth, while many states are in the run-up to election within a month, the tax on fuel would also be required to finance various promises made before the elections.
    Impacts of rising in fuel prices:
    • Inflation: Rising fuel prices will translate to a higher cost of goods. However, RBI has noted that that inflation rates have been revised and risks have been balanced.
    • Impact on the demand for fuel:  The demand will not decrease. The lack of a robust public transport system in India makes the demand for fuel inelastic. (no change in demand even after the price increases).

    Source: Indian Express

  • Issues associated with Government’s Disinvestment proposal

    Synopsis: Some experts are expressing concern over the government’s disinvestment proposal. There is a need for adopting a cautious approach that augments rather than deteriorates public welfare.

    Background:

    • The government has set a target of 1.75 lakh crore rupees from the disinvestment of PSUs in the current financial year. Companies like Air India and BPCL will witness a strategic sale while an IPO (initial public offer) would be rolled out for LIC.
      • Disinvestment of PSUs simply means withdrawal of the government’s investment in public sector undertakings.
      • Strategic Disinvestment involves a sale of 50% or more in a PSU along with transfer of management control.
      • IPO means the offering of a company’s shares to the public which results in a change of ownership. Post-IPO a company gets listed on a stock exchange.  
    • The small industries and informal workers are already under severe stress post the demonization of 2016 and GST of 2017. The pandemic and rising oil prices have further worsened their position.

    Why is the government disinvesting? 

    • First, it will help in the generation of additional revenue for the government.
    • Second, it will enhance the efficiency of PSUs with more efficient private management taking the charge.
    • Third, it will allow the government more time to do core and crucial tasks.
    • Fourth, it will reduce the government’s burden to consistently support and fund the sick units.

    However, some experts are saying that the disinvestment might further increase the hardships of companies and the masses.   

    Issues with Disinvestment of PSUs:

    • First, the sale of profitable PSUs is just like selling the family’s silver to pay the grocer’s bill. This would give short-term results but long-term losses. Eg – a privatised LIC might be reluctant to meet long-term financing needs for infrastructure projects with long gestation periods.
    • Second, the government sometimes undervalues the companies to favor some industrialists. This was seen in the sale of  Videsh Sanchar Nigam Limited (VSNL) and is criticised for strengthening crony capitalism.
    • Third, the government often fails to achieve huge disinvestment targets. Last year it received merely 32000 crores out of target sales of 2.1 lakh crore.
    • Fourth, the spirit of disinvestment is undermined when one PSU is purchased by another. The Life Insurance Corporation (LIC) of India bailed out the Industrial Development Bank of India (IDBI).
    • Fifth, disinvestment ignores social justice as private players are not bound to give reservations to vulnerable sections. Further, they fire large numbers of workers and are reluctant to invest in backward regions, unlike PSUs.
    • Sixth, the privatization of Public sector banks may not yield desired results. However, Private banks are driven by profit motives, and they are also suffering from corruption as seen in the recent Yes Bank case. Further, private players may shut down loss-making rural branches unlike public banks who also work for social welfare.   
    • Lastly, privatisation is not always good if the economic situation is uncertain. This is seen by the lack of tangible results post heavy relaxation in corporate tax cuts since 2019.

    Way Forward:

    • The government must put the formula of valuing PSUs in the public domain to augment transparency. 
    • The promise of exiting from all the sectors except the 4 strategic sectors can be changed to selling only the non-strategic and non-core sectors.
    • The public banks can be clubbed and recapitalized instead of outrightly selling them.

    In a nutshell, the process should be carried on in such a way that it generates resources for the government, sets the right incentives for PSUs management, and rewards the investing public.

  • Solving the issue of Retrospective Taxation

    Synopsis:

    The two cases of retrospective taxation related to Vodafone and Cairn energy can be solved. It is possible if the government and companies collectively decide to do mutual bargains. Filing more and more cases in international tribunals might not deliver optimum results. 

    Background:

    • Both the companies individually filed a case in the Permanent Court of Arbitration against its retrospective taxation of 2012.
      • Retrospective Taxation means the imposition of tax from a time behind the date on which the law is passed.
    • The PCA has given the award in favour of both the companies in 2020. However, India has decided to challenge both of them.

    About the Arbitration award:

    • PCA in its September 2020 award ruled against the imposition of 27900 crore rupees retrospective tax on Vodafone. It said that taxation was against India-Netherlands BIT (Bilateral Investment Treaty). The court ordered India to pay 45000 crore rupees to Vodafone.
    • Similarly, in December 2020, the court held India’s action of imposing 10247 crore tax liability on Cairn is a violation of the India-United Kingdom BIT. The court ordered India to pay 90000 to the company.

    Post-award Scenario:

    • Cairn has started enforcement proceedings in the US, UK, Netherlands, Singapore and Canada. The company refrained from initiating any enforcement in India due to uncertainty over public policy and poor track record of courts in enforcing foreign awards.
    • India will now have to defend its position in foreign jurisdictions of enforcement, primarily on the grounds of sovereign immunity and public policy.
    • Parallelly, the Indian Government has decided to challenge the award.

    Problems in challenging the Cairn award:

    • The government’s action of retrospective taxation and subsequent inducement to pay is deemed as a wilful, unfair and inequitable measure. Such measures are not allowed under International Law.
    • The act of government is also against the Bilateral Investment Treaties signed by it under International Law. The use of sovereign taxation powers to undermine BITs is not justified under international law.  

    Way Forward:

    • India can definitely use defence of international public policy against tax avoidance. Similarly, the defence of sovereignty of a state can be used to determine what transactions can or cannot be taxable. This would help in challenging the awards.
    • However, an amicable solution can be developed if both – companies and government are willing to do mutual bargains.
      • The government gave an offer to Cairn under the ‘Vivad se Vishwas scheme’. The company should pay 50% of the principal amount and remaining other things like interest and penalty would be waived off.
      • Re-computation of tax liability on a long term capital gains basis has also been offered.
      • Further the companies should understand the huge potential of the Indian market that should induce them towards dialogue. This is proved by the fact that India comes to the list of top 12 FDI destinations of the world.  

    An expeditious solution is desired in order to sustain the investor’s trust. It will bring billions of investment in India and show respect towards bilateral commitments. Although the two awards have been challenged, the work on mutual settlement should be carried on in a parallel way.

  • Govt releases new “Public Sector Enterprise Policy”

    What is the news?

    The Government of India has released a new ‘Public Sector Enterprise Policy’.

    About ‘Public Sector Enterprise Policy’:

    The policy classifies public sector commercial enterprises into the strategic and non-strategic sector:

    Strategic Sector: There would be a maximum of four public sector companies in strategic sectors. State-owned firms in other segments would be privatized eventually.

    The following 4 sectors are covered under strategic sectors:

    1. Atomic energy, Space and Defence
    2. Transport and Telecommunications
    3. Power, Petroleum, Coal, and other minerals
    4. Banking, Insurance, and financial services

    Non- Strategic Sector: CPSEs of this sector shall be privatized or closed, if privatization is not possible.

    Exceptions: The policy would not be applied on:

    • Public sector classes like major port trusts, the Airport Authority of India, and undertakings in security printing and minting.
    • Public sector entities such as not-for-profit companies or CPSEs providing support to vulnerable groups.

    Process of Privatisation:

    • NITI Aayog will recommend PSUs for retention in strategic sectors and that should be considered for privatization, merger, or closure.
    • The Core Group of Secretaries on Divestment(CGD) headed by the cabinet secretary will consider these recommendations.
    • Final approval will be provided by the Alternative Mechanism. This mechanism consists of the Finance minister, Ministers for Administrative reforms, and the Minister for roads, transport, and highways.
    • Further, the Department of Investment and Public Asset Management (DIPAM),  can also approach the Cabinet for strategic disinvestment of a specific PSE from time-to-time. DIPAM manages government equity in public sector companies.

    Source: The Hindu

    Strategic Disinvestment Policy: Issues and Challenges – Explained 

  • Issues in Taxing PF contribution

    Synopsis: By taxing the income of PF contributions over 2.5 lakhs, the government wants to restrict High net-worth individuals (HNIs) who are using the social welfare scheme as a tax haven. Though it is well-intended, it has many ambiguities.

    Read More – Budget proposes tax on EPF interest|ForumIAS Blog

    Background

    • The Union Budget 2021 has proposed taxing the income on provident fund contributions of over Rs. 2.5 lakh a year from 01 April 2021.
    • The rationale given for taxing the income from provident fund contributions is to target HNIs. They are using the PF savings to avoid taxation. For example, the 100 largest employees’ PF (EPF) accounts had a combined balance of over ₹2,000 crores.
    • This is not the first time the government had tried to tax PF savings. In the 2016-17 Budget, the government proposed to tax 60% of EPF balances at the time of withdrawal. But due to protest from employees, it was withdrawn later.

    What are the ambiguities in this scheme?

    Revenue Department has pointed out that the tax will only affect a small group of HNIs. However, the scheme suffers from the following ambiguities,

    • First, the threshold of taxing contributions of over Rs. 2.5 lakh is very low. It will end up taxing PF income for employees who are investing ₹21,000 a month towards their retirement.
    • Second, the threshold proposed is also not in line with the ₹7.5 lakh limit. It was set in last year’s Budget for employers’ contributions into the EPF, National Pension System (NPS) or other superannuation funds.
    • Third, it creates inequity between India’s limited retirement savings instruments. For example, it does not cover NPS investments over ₹2.5 lakh a year, but it includes government employees’ contributions into the GPF.
    • Fourth, it is also not clear on when and how the tax is to be paid. Either at retirement or each year after the PF rate is announced.
    • Fifth, The CBDT chief has said that employees should showcase PF income in their annual tax returns. But this may work for GPF members whose interest rate is announced every quarter. Not for EPF accounts, as interest rates are declared late and credited even later.
    • Finally, this move will affect the fund flow into EPF. This will in turn hamper the government’s sources for finance which is largely dependent on market borrowings.

     

  • Privatisation of banking sector: Issues and analysis

    Source: The Indian Express

    Syllabus: GS -3 Indian Economy and issues relating to planning, mobilization, of resources, growth, development and employment.

    Synopsis: The government has decided to privatise two public sector banks. The move will give the private sector a key role in the banking sector.

    Introduction 

    The government has announced the disinvestment policies for four strategic sectors including banking, insurance, and financial services. The government will have a bare minimum presence in these sectors.

    • Earlier, the government merged ten PSU banks into four.
    • The government is now left with 12 state-owned banks, from 28 earlier.
    • The government will select 2 banks for privatization, based on the NITI Aayog’s recommendations. These recommendations will be considered by a core group of secretaries on disinvestment. 

    What were the reasons for the nationalization of Private banks?

    In the Mid-1960s, the commercial banking sector was most profitable, especially after the consolidation of 566 banks in 1951 to 91 in 1967. However, some issues were present in this sectors at that time:

    • Branches were mostly opened in the urban areas. Rural and semi-urban areas were not served by commercial banking.
    • Banks were not willing to take any social responsibilities. They were more concerned with the profits and afraid to diversify their loan portfolios.
    • Nationalisation was done with an intention to align the banking sector with a socialistic approach of the government.

    Thus, from 1969, the process of nationalization of the 14 largest private banks started.

    Why government is privatizing the PSBs?

    However, at present, PSBs are suffering from many issues:

    • First, Public Sector Banks continue to have high Non-Performing Assets and stressed assets as compared to private banks.
    • Second, banks are expected to report higher NPAs and loan losses after the Covid-related regulatory relaxations are lifted. As a result, the government would need to inject funds into weak public sector banks. 
    • Third, Governance reforms have not been able to improve the financial position of public sector banks. 

    The profitability, market capitalization, and dividend payment record of PSBs are not improving, despite efforts of reform by the government.

    How are the private banks performing currently?

    • Private banks’ market share in loans has risen to 36% in 2020, while public sector banks’ share has fallen to 59.8% in 2020 (from 74.28% in 2015). 
    • They are expanding their market share through new products, technology, and better services. They have attracted better valuations in stock markets. 
      • For example, HDFC Bank has a market capitalization of Rs 8.80 lakh crore while SBI commands just Rs 3.50 lakh crore.
    • However, everything is not well within private sector banking as well. CEOs of ICICI and Yes bank are facing the investigation for doubtful loans and other illegal activities. Lakshmi Vilas Bank merged with DBS Bank of Singapore after operational issues.
    • Moreover, an Asset quality review of banks in 2015, found that many private sector banks were under-reporting NPAs.

    Thus, the privatization drive this time should be thoughtful. Lessons should be learnt from the past. An adequate mechanism to ensure accountability must be established in the commercial banking sector.

  • Issue of Digital Services Tax between India and US – Explained

    Table of contents

    Recently the U.S. determined India’s Digital Services Tax (DST) as discriminatory. It concluded that the DST is causing an adverse impact on American commerce and hence, an action needs to be taken under trade act. Meanwhile, The USTR also said, “DST by its structure and operation discriminates against U.S. digital companies”. But the USTR in its special 301 report missed few important aspects and also completely neglected the global need to tax digital services.

    What is Digital Services Tax (DST)?

    In 2016 India introduced a 6% equalisation levy. But the levy was restricted to online advertisement services (commonly known as “digital advertising taxes” or DATs). In simple terms, the levy applied on the payments made to a non-resident by the Indians for advertising on their platform.

    The government in 2020 introduced an amendment to the equalisation levy in the Finance Bill 2020-21. The important amendments include,

      • A 2% Digital Service Tax (DST) was imposed on non-resident, digital service providers. With this amendment, the foreign digital service providers have to pay their fair share of tax on revenues generated in the Indian digital market.
      • The amendment widens the tax to include a range of digital services. These services include digital platform services,  software as a service, data-related services, and several other categories including e-commerce operations.
      • Companies with a turnover of more than Rs. 2 crores, will pay this tax. 

    Why India introduced the Digital Service Tax?

    First, the nature of digital service companies. These companies don’t have any physical presence in the markets. Instead, they use intangibles to provide services. For example, one can pay for the Amazon Prime membership in India. But the services of prime membership like watching movies, listening to songs are intangible.

    Determining the value of these intangibles is tough. So the government introduced the Digital Service Tax of 2% on non-resident service provider’s revenue in India.

    Second, the failure of international consensus.  In 2013, the OECD (Organisation for Economic Co-operation and Development) launched the Base Erosion and Profit Shifting (BEPS) programme. It was launched primarily to find a way to tax digital companies. But no consensus has been achieved yet.  So, in 2016 India became the first country to implement the equalisation levy as a temporary way of taxation. This is then followed by countries like France, UK, etc.

    Third, India’s right to tax digital service providers. If a company has users in India and also has an economic connection with India then, India has the right to tax its economic operation. India being a developing country provides large markets for digital corporations. So taxing them is a matter of right.

    Fourth, These DST create a level playing field between online and regular (brick and mortar businesses). In 2016, the Akhilesh Ranjan Committee Report had also suggested to tax the digital companies as they enjoy a sustainable economic presence.

    What are the accusations mentioned by the US? What India said in reply?

    The first accusation, DST is inconsistent with the principles of international taxation. International taxation laws apply to the revenue of companies (not on income), extraterritorial application of DST (Digital service companies present outside India), etc.

      • Indian reply: Several global tax measures like royalty, technical fees are not levied on revenue. Similarly, all US states have laws on remote sellers, and they tax non-US resident entities.

    The second accusation, DST does not extend to identical services provided by non-digital service providers. This is a violation of trade practices.

      • Indian reply: When the company is non-digital (i.e., brick and mortar) then that company is subject to Indian income tax. Further, this DST has been introduced to provide a level-playing field.

    The third accusation, DST is discriminatory because it targets US companies.

      • Indian reply: The DST is applicable to all digital service providers having an annual turnover of more than ₹2 crores in India-based digital services. As per USTR’s own analysis, only 119 companies in the world would likely be subject to the DST, of which 86 are U.S. companies. So the criteria do not target anyone. It is the result of the asymmetric digital power of US companies.

    Concerns associated with DST:

    First, the DST as a tax policy targets a single sector (digital services). Economic experts argue that framing a tax policy to target a particular sector is unfair and have disastrous consequences for the growth of that sector.

    Second, digital service providers might pass on the tax to consumers. Ultimately, burdening consumers. Just like service tax passed on to consumers, DST can also pass on to consumers if the service provider wishes.

    Third, not feasible to separate the digital economy and the global economy. The growing digitization has blurred the line between them. This is one of the prime reasons due to which OECD is unable to arrive at a consensus.

    Fourth, the DST might attract Retaliatory Tariffs. The USTR investigations pose a threat of retaliatory tariffs and might trigger the trade war between India and the US. Even the slightest retaliatory tariff will affect the Indian ICT industry’s growth.

    Suggestions:

    First, India can follow the U.K. model of DST. The major advantages of the U.K. model are,

    • The U.K. allows companies to not pay any tax if their net operating margin is negative. By including this, India can avoid criticisms like India’s equalization levy is on revenue and shift towards the profit of the company.
    • India can consider taxing only 50% of the revenues from the transactions involving three jurisdictions. For example, an Australian user located in India receiving services from a U.S. company. This will make Indian DST more inclusive and also garners international support.

    Second, India has to remain committed to the OECD process. Apart from that, India can mention the ways to tweak DST design or try to achieve consensus. This will make India move ahead and phase out DST and roll out the new agreed tax policy of OECD.

    Third, the U.S. government has to realize the challenges in taxing digital service providers and also have to participate in these global talks. This will not be only beneficial for other countries but also a way to make these digital giants accountable.

    More than 24 countries have either adopted or are considering adopting, a DST or a DAT after the concept got introduced in India. So the tax challenges posed by the digital economy is not a problem between India and the US. It is a global problem and the US has to accept this and act accordingly.

  • Strategic Disinvestment Policy: Issues and Challenges – Explained 

     Disinvestment Policy

    COVID-19 pandemic has hit the Indian economy very hard. At once, due to lockdowns, Indian economy was dried out of funds. Economic activities got reduced drastically. At present, the Indian economy is in urgent need of a revenue stream so that all activities can go back to normal.

    Government expenditure was expected to help the economy out, just like it did during the 2008 financial crisis. However, all these factors have also reduced the revenue and capital receipts of the government.

    Now, the government has announced a large-scale monetization of government sector assets. It includes the sale of vast tracts of land and disinvestment receipts of ₹1.75-lakh crore.

    Government  disinvestment policy  for strategic disinvestment 

    During Union Budget 2020-21 presentation, Government announced a new policy for strategic disinvestment of public sector enterprises. It will provide a clear roadmap for disinvestment in all non-strategic and strategic sectors. The government has aimed to receive Rs. 1,75,000 crore from disinvestment in BE 2020-21.

    1. The disinvestment policy will cover existing Central Public Sector Enterprises (CPSEs), Public Sector Banks, and Public Sector Insurance Companies.
    2. The government has classified the public sector under 2 categories: 1. Strategic Sector and 2. Non- strategic sector.
    3. In Non-strategic sectors, the government will exit from all businesses. It will keep only a ‘bare minimum’ presence in four broad strategic sectors, i.e.
      1. Atomic energy, Space and Defence
      2. Transport and Telecommunications
      3. Power, Petroleum, Coal, and other minerals
      4. Banking, Insurance, and financial services
    4. The government will incentivize States for disinvestment of their Public Sector Companies. An incentive package of Central Funds for states will encourage them to do so.

    The new disinvestment policy goes further than the past case-by-case approach and straight away allows the sale or closure of nearly 151 PSUs (83 holding companies and 68 subsidiaries) in non-strategic sectors.

    Other than that, Government will monetize the surplus land with Government Ministries/Departments and Public Sector Enterprises. A Special Purpose Vehicle will be created in the form of a company to carry out monetization. 

    What is Disinvestment policy ?

    • Disinvestment means the sale or liquidation of assets by the government. It usually consists of Central and state public sector enterprises, projects, or other fixed assets.
    • The government undertakes disinvestment to reduce the fiscal burden on the exchequer. It raises money for meeting specific needs, such as to bridge the revenue shortfall from other regular sources.
    • Strategic disinvestment is the transfer of the ownership and control of a public sector entity to some other entity (mostly to a private sector entity).
    • The disinvestment commission defines strategic sale as the sale of a substantial portion i.e. 50%, or higher percentage of the Government shareholding in a central public sector enterprise (CPSE). It also involves a transfer of management control.
    • National Investment Fund (NIF) was constituted in November 2005. In this fund, the proceeds from the disinvestment of Central Public Sector Enterprises were to be channelized.

    Need of disinvestment policy

    1. Under the aegis of the Atmanirbhar Bharat Mission, the rationalization of the participation of the CPSEs in commercial activities has been proposed.
    2. As per the experts, the involvement of the government should only be limited to ‘strategic sectors’. So that it can develop these crucial sectors of the economy with its full energy.
    3. This will encourage healthy competition in the non-strategic corporate sector. It will lead to an increase in their efficiency under the pressure of competition.
    4. Selling the non-productive companies will provide the government with non-debt revenue in this time of fund crunch. Moreover, it will increase the efficiency of the government investments in the Public sector.

    Performance of disinvestment policy in the recent scenario:

    • According to the Department of Investment and Public Asset Management (DIPAM), between 2004-05 to 2013-14, disinvestment raised Rs. 1.07 lakh crore, on an average yearly collection of Rs. 10,700 crores.
    • However, from 2014-15 to 2017-18, the collection went up to Rs. 2.12 lakh crore, i.e., a yearly collection of Rs. 53,000 crores.
    • The government has exceeded the target of Rs. 1 lakh crore in 2017-18 and Rs. 80,000 crores in 2018-19.
    • The success of BHARAT-22 Exchange Traded Funds (ETF) takes government closer to the disinvestment target. The ETF is a benchmark to an index named BHARAT22 consisting of 22 companies (19 PSEs and 3 private).
    • However, in 2020-21 due to the COVID-19 pandemic, the disinvestment process was hindered in between. It could only gather disinvestment revenues of Rs 31,000 crore against a target of Rs 2.1 lakh crore.

    Challenges of disinvestment policy :

    First, the Sale of profit-making and dividend-paying PSUs would result in the loss of regular income to the Government. It has become just a resource raising exercise by the government. There is no emphasize on reforming PSUs.

    Second, the valuation of shares has been affected by the government’s decision not to reduce government holdings below 51 percent. With the continuing majority ownership of the government, the public enterprises would continue to operate with the earlier culture of inefficiency.

    Third, Government is not willing to give up its control even after strategic disinvestment. It is evident from the budget speech of 2019-20 by the Finance Minister. She stated that government is willing to change the extant policy of government. It will change the policy of “directly” holding 51 percent or above in a CPSU to one whereby it’s total holding, “direct” plus “indirect”, is maintained at 51 percent. It means government will still exercise its control over PSUs.

    Fourth, The process of disinvestment is suffering from bureaucratic control. Almost all processes starting from conception to the selection of bidders are suffering due to it. Moreover, bureaucrats are reluctant to take timely decisions in the fear of prosecution after retirement.

    Fifth, Strategic Disinvestment of Oil PSUs is seen by some experts as a threat to National Security. Oil is a strategic natural resource and possible ownership in the foreign hand is not consistent with our strategic goals. For example, disinvesting Bharat Petroleum Corporation Limited (BPCL).

    Sixth, Loss-making units don’t attract investment so easily. It depends upon the perception of investors about the PSU being offered. This perception becomes more important in the case of strategic sales, where the amount of investment is very high.

    Seventh, Complete Privatization may result in public monopolies becoming private monopolies, which would then exploit their position to increase costs of various services and earn higher profits

    Eighth, using funds from disinvestment to bridge the fiscal deficit is an unhealthy and short-term practice. It is said that it is the equivalent of selling ‘family silver’ to meet short term monetary requirements.

    Way forward

    Disinvestment and rationalization of some CPSEs are being planned. But there is also a need to strengthen the sectors retained by the government to fully meet the expectations.

    For strengthening them, the government should take steps to completely revamp the Boards of the CPSEs and reorganize their structure.

    The government should increase the operational autonomy in CPSEs. It can be supplemented by strong governance measures like listing on stock exchanges. It will increase the transparency in their performance.

    The government must also try to provide the bidders with a fair valuation of the PSUs. It will boost their confidence in the disinvestment process.

    The government should also avoid its involvement by any means in the management of operations of PSUs, after its strategic sale. Otherwise in the long run, it would discourage the buyers from investing in them.

    Some steps taken by the Department of Public Enterprises will improve the performance of CPSEs. These are:

    1. The performance monitoring system of the CPSEs has been reformed.
    2. It has also improved the process of timely closure of sick and loss-making CPSEs and disposal of their assets.

    [Answered]What is strategic disinvestment? Discuss its need and significance for Indian economy.

  • Budget proposes tax on EPF interest

    What is the News?

    The government has proposed to make the interest earned on EPF contributions beyond ₹2.5 lakh Taxable.

    Why has this proposal been made?

    • The government has found instances where High Net Worth Individuals(HNIs) are contributing huge amounts to EPF. They are getting the benefit of tax exemption at all stages — contribution, interest accumulation, and withdrawal.
      • Example: In 2018-19, ₹62,500 crores were deposited into EPF accounts by HNIs. The largest EPF account has a ₹103 crore balance.
    • Hence, this proposal is aimed to exclude high net-worth individuals(HNIs) from the benefit of high tax-free interest income on their large contributions.

    Employee Provident Fund(EPF) Scheme:

    • EPF is a social security scheme under the Employees’ Provident Funds and Miscellaneous Provisions Act,1952
    • Managed by: The scheme is managed under the aegis of Employees’ Provident Fund Organization (EPFO).
    • Coverage: EPF accounts are mandatory for employees earning up to ₹15,000 a month in firms with over 20 workers.
    • Contribution: Under the scheme, an employee has to pay a 12% contribution towards the scheme. An equal contribution is paid by the employer. The employee gets a lump sum amount including self and employer’s contribution with interest on both on retirement.
    • Limit on Employer’s Contribution: In Budget 2020, the government had capped the contributions by employers into funds EPF or the National Pension Scheme at ₹7.5 lakh a year.
      • However, government, as well as private-sector employees, are allowed to make voluntary contributions over and above the statutory deductions into the general provident fund(GPF) or EPF respectively.

    Source: The Hindu

  • A normal budget for abnormal times

    Synopsis: The recently released budget appears to be fairly normal. Normal is not sufficient for the abnormal times like the present.

    Introduction

    The economy contracted by 7.7% in India. The economic survey projects India’s real GDP growth to be 11% in 2021-22. However, this projection looks overestimated. India will have to surpass pre-covid-19 levels to achieve this growth; this will take at least two years.

    • The budget required non-standard policy responses given the abnormal times for the economy. However, no such major changes were made to the budget.
    • There is only a 1% increase in the overall expenditure of the government.

    What are the issues in the budget?

    The increase in capital expenditure is expected to be channelized through Investment in infrastructure, However, it is linked with 2 types of risks;

    • If there is a delay in the completion of projects, it will lead to more spending.
    • It will not provide instant multiplier effects to lift the demand. As the life cycle of these projects is very long.

    There are no drastic reforms for the agriculture sector. For example, no rationalizing of the Public Distribution System issue prices of food grains.

    • The cash transfers under the Pradhan Mantri Kisan Samman Nidhi Scheme (PM-KISAN) have not been increased.

    Second, manufacturing growth would depend totally on private investments.

    • There is a lack of concrete policies towards export promotion in the textile sector. This may weaken the competitiveness of manufacturing exports.

    Infrastructure provisioning has unaddressed issues such as execution risk and regulatory issues. The introduction of a development finance institution addresses only one issue.

    There is no proper plan to tackle urban unemployment. Employment and demand generation will depend on the impulses of growth cycles.

    The target of reducing the fiscal deficit from 9.5% to 6.8% of GDP depends upon hypothetical factors, such as:

      • Total revenue might get some boost from better tax revenue.
      • A renewed hope for better divestment revenues.

    The Budget sets out some impressive plans but does not provide the specific mechanisms to achieve those plans.

    Although the Budget sets fixed some grand targets, it does not provide the precise mechanisms to achieve those.

    Budget 2021: Despite some hits, the Budget has crucial misses

  • Evaluation of Budget 2021

    Source: The Hindu

    Gs2: Parliament and State Legislatures- Budgeting

    Synopsis: The evaluation of Budget 2021 is done on three parameters. First, on the credibility of the Budget. Second, it’s potential to deliver adequate domestic output and jobs. Third, on how the Budget raises resources.

    What is the Credibility of the Budget 2021?

    • Budget 2021 scores high on credibility. Because, unlike previous budgets, Budget 2021 has taken into account the real estimates of revenue receipts. Moreover, it has recognised the ‘off-balance sheet’ expenditures.
    • This has resulted in arriving at real fiscal deficit numbers that are much higher than expected. It is 9.5% of the GDP for FY21 and 6.8% of the GDP for FY22. But disclosing real fiscal deficit has the following Significance
      1. One, realistic revenue budgets will reduce the pressure on tax authorities to engage in tax terrorism.
      2. Two, it will allow governments to release its payments and refunds on time.
      3. Three, focus on the ‘real’ numbers will help in informed decision-making and planning to improve our fiscal balance.

    Steps taken to provide adequate domestic output and jobs

    1. Budget 2021 signals a shift away from the revenue expenditure towards Capital Expenditure. Capital expenditure in FY22 is budgeted to increase by 26% over FY21 due to increased focus on areas such as infrastructure, roads, and textile parks.
    2. The budget also promises to improve health, education, nutrition and urban infrastructure.
    3. Along with this, efforts are being made to increase domestic jobs. It includes reform of labour laws, corporate tax rate cuts, and production-linked incentives.

    What steps were taken to raise resources and improve investment?

    • The Budget focuses to raise resources through disinvestment and asset sales, rather than via additional taxes. It reduces the tax burden on people.
    • The Finance Minister also announced the creation of a new Development Financial Institution to facilitate and fund infrastructure investments.
    • There were also efforts to revive our stressed financial services ecosystem. The Finance Minister announced the creation of a government Asset Reconstruction Company, or ‘bad bank’, to reduce the non-performing assets that are spread throughout the industry.

    Way forward:

    • The government should also help to revive other sectors who are suffering from chronic stress. Examples are financial services, power, real estate, telecom, airlines and shipping, contact-based services and micro, small and medium enterprises.
    • Also, taking lessons from the global financial crisis in 2008, the government should not assume that a revival in consumption and government spending would automatically result in durable growth. Hence, the Government needs to make efforts to ensure adequate growth in domestic output and jobs.
  • Budget 2021: Continues with fiscal conservatism

    Source: The Hindu

    Gs2: Parliament and State Legislatures- Budgeting

    Synopsis:  A close analysis of Budget 2021 reveals that the Government is following the principle of fiscal conservatism. The policy of Fiscal spending was the need of the hour.

    Why the government resorts to fiscal conservatism?

    Falling revenues had forced the government to restrict its aggregate spending. Some of the issues that contributed to falling revenues are,

        • A sharp reduction in corporate tax rates in September 2019,
        • The underperformance of the Goods and Services Tax regime.
        • Failure of government’s ambitious disinvestment agenda. The government was only able to collect ₹32,000 crores last year, compared to the plan of ₹2.1-lakh crore.
        • The mandate of Fiscal Responsibility and Budget Management (FRBM) Act to reduce the fiscal deficit.

    Because of the above reasons the Total expenditure for 2021-22 is projected to rise only by just 0.95% compared to revised estimates for 2020-21.

    What are the signs of a continuation of Fiscal conservatism in Budget 2021?

    1. First, Allocation to MGNREGA and Food subsidies:
    • According to the Budget 2021-22, the allocations for the MGNREGA programme is drastically reduced from the ₹1,11,500 crore spent in 2020-21 to ₹73,300 crores in 2021-22.
    • Similarly, the allocation for food subsidies has been reduced from ₹4,22,618 crore in 2020-21 to ₹2,42,836 crore in 2021-22.
    • MGNREGA and food subsidies supported the vulnerable section in a big way, in survival during lockdowns.
    • Experts see this as neglect of responsibilities by the government to support the vulnerable and marginalized people.

    2. Second, Allocation to health and wellbeing

    As per the Budget, the government has increased its spending on health and capital expenditure.

    • Health spending increased by 137% compared to the previous year. (From ₹94,452 crore in 2020-21 to ₹2,23,846 crore in 2021-22)

    However, closer scrutiny of budget allocations for health suggests otherwise. For example,

    • The expenditure on the Jal Jeevan Mission is included as a part ‘Health and Wellbeing’ expenditure. It has magnified the figures on Health expenditure.
    • Also, an increase in Budget spending on Health is not reflected equally in the allocation for the Department of Health and Family Welfare. For example, the Budget estimate of the Department of Health and Family Welfare for 2021, shows a mere increase of 9.6% compared to last year.

    3. Third, the allocation for infrastructure investment

    As per the budget, Capital spending is increased by 35% compared to the previous year. (from ₹4.12-lakh crore in 2020-21 to ₹5.54-lakh crore in 2021-22)

    But the Budget estimate for infrastructure will also not be adequate. Because of the following reasons,

    • The government is planning to finance new investments in infrastructure through disinvestments of equity, strategic sale, and privatization of the public financial sector. It is expected to yield ₹1.75-lakh crore in 2021-22.
    • However, after looking at the past performance of disinvestment targets,  It is an overambitious target.

    Even before the Pandemic recedes, the government seems on the path to restoring the old normal. i.e., Fiscal Conservatism. It is still continuing with the same path.

  • Budget 2021: Despite some hits, the Budget has crucial misses

    Synopsis: The recently released budget 2021 has got a few things right, but there are some issues as well.

    Introduction

    The government’s response to distress in the economy was below expectations. Public spending was just over 1% of GDP. It was in a situation when GDP growth was in the negative zone and the unemployment rate was high.

    In this budget 2021, the government has proposed increasing public investment by 34.5% in the upcoming fiscal year. It is a positive step for the economy.

    However, the finances for investment depend upon several factors like tax revenue, Disinvestment proceeds, Sale of rail and road assets, etc.

    How this Public Investment would be realized?

    1. Firstly, the government would increase public investment by borrowing. It will be an additional ₹80,000 crore for the purpose in the next two months.
    2. Secondly, states will be allowed a higher fiscal deficit, in the case of capital expenditure. If the capital expenditure plan outlined in the Budget 2021 speech is implemented with assured financial backing, it could revive the investment cycle.
    3. Third, the Development Finance Institution (DFI) proposed in the budget. There was a lack of long term credit for infrastructure in the last decade. The most successful industrializing economies have been utilizing DFIs for providing long-term credit.

    What are the issues in the 2021 budget?

    • First, DFI mentioned in the budget will be financed by foreign portfolio investments (FPI), which is a cause for concern. FPI represents short term inflows with exchange rate risks. This investment will certainly lead to currency and maturity miss-match, increasing the cost of capital.
    • Second, the NFHS data for 2019-20 indicated that constructing toilets in households is of no use unless adequate access to water and sewage facilities are provided. Thus, the effectiveness of such investments depends upon coordination with other facilities.
    • Third, the Budget 2021 has not mentioned the unemployment and migration crisis due to pandemics which led to the rise in economic inequality. The budget did not consider a special tax on the super-rich.
    • Fourth, there is no targeted employment program to alleviate the immediate crisis is a matter of concern.

    Way forward

    • There is a need to consider alternative long-term sources, preferably from domestic sources, or international development agencies to make DFI a success.

    Proposal to establish Bad bank and Development Finance Institution [DFI]

  • Retrospective Taxation: Cairns Issue

    Why in News?
    Cairn Energy has asked the Government of India to resolve the retrospective taxation case. It has threatened to begin attaching Indian assets including bank accounts in different world capitals in case of non-resolution.

    Background:

    • The Permanent Court of Arbitration ruled in Dec. 2020 that the Indian government was wrong in imposing a retrospective tax on Cairn. It also asked the Indian government to pay for the damages to Cairn.
    • Finance Ministry had said the government would study the verdict. It will take any action only after that.

    Further Reading on Cairns Issue

    What has Cairns said now?

    • Now, Cairns has said that in case of inaction by India, it may take an extreme step such as attaching Indian assets including bank accounts in different world capitals.
    • It has also cited clauses in the U.K.-India Bilateral Investment Treaty and the New York Convention to which India is a signatory.

    Retrospective Taxation:

    • It allows a country to pass a rule on taxing certain products, items, or services. This taxation is applied to the companies from a previous date i.e. before the date on which the law is passed.
    • Countries correct anomalies in their taxation policies in the past by this step.
    • Many other countries like the USA, the UK, the Netherlands, Canada, Belgium, Australia, and Italy have retrospectively taxed companies.

    New York Convention:

    • United Nations diplomatic conference adopted this convention in 1958 and entered into force in 1959.
    • The Convention’s principal aim is that foreign and non-domestic arbitral awards will not be discriminated against. It obliges Parties to ensure such awards are recognized and generally capable of enforcement in their jurisdiction in the same way as domestic awards.

    Source: The Hindu

  • What is disinvestment?

    Disinvestment

    • It means sale or liquidation of the public assets by the government. These are usually Central and state public sector enterprises, projects or other fixed assets.
    • The government can sell its shares, where it is the majority shareholder (Owns more than 51% of shares). For example, Air India, Bharat Petroleum, Delhi Metro Rail Corporation, etc.
    • The government can either reduce its share by selling a part of the company or can transfer its ownership to the highest bidder.

    Main objectives of Disinvestment in India:

      • Reducing the fiscal burden on the exchequer
      • Improving public finances
      • To improve the overall efficiency of PSUs
      • Funding growth and development programmes
      • Maintaining and promoting competition in the market
    • Nodal Department: Department of Investment and Public Asset Management(DIPAM) under the Ministry of Finance, handles the disinvestment-related works for the government.

    Are Disinvestments targets met by the government?

    • Except in a few years, the government fails to reach the disinvestment target each year.
    • In the current year of 2020-21, less than 3% of the targeted revenue is generated through disinvestment as of November 2020.

    Source: Indian Express

     

  • What are off-budget borrowings?

    Off Budget Borrowings:

    • These are loans that are taken not by the Centre directly and are not calculated under the budget.  These loans are taken by PSUs or other public institutions on the directions of the central government. Such borrowings are used to fulfill the expenditure needs of these institutions.
    • Are these borrowings included in the fiscal deficit? The liability to repay these loans is not formally on the Centre. Thus, they are not included in the national fiscal deficit. This helps keep the country’s fiscal deficit within acceptable limits.
    • CAG Report: In 2019, Comptroller and Auditor General report has pointed out that this route of financing puts major sources of funds outside the control of Parliament.
    • How are off-budget borrowings raised? The government can ask a PSU to raise the required funds from the market through loans or by issuing bonds.
      • Example: In the Budget 2020-21, the government paid only half the amount budgeted for the food subsidy bill to the Food Corporation of India. The shortfall was met through a loan from the National Small Savings Fund. This allowed the Centre to halve its food subsidy bill.
    • What will be the fiscal deficit if we include off-budget borrowings? Due to various sources of off-budget borrowing, the true fiscal deficit is difficult to calculate. However, in July 2019, the CAG had pegged the actual fiscal deficit for 2017-18 at 5.85% of GDP instead of the government version of 3.46%.

    Source: Indian Express

  • Issue of K-shaped recovery: How government budget can deal with it?

    Synopsis –The macro-implication of K-shaped recovery and labour market pressure. How the government budget will deal with it? 

    Introduction-   

    • COVID Vs Economic Mobility – India has broken the link between COVID virus proliferation and mobility earlier and more successfully. 
    • India’s GDP estimates for 2020-21 show that the economy is expected to perform much better than earlier projections. 
    • However, the present economic recovery is a hopeful development, but it is not accompanied by labour market growth. 

    What are the present economic developments in India?  

    • Industrial sector - The large firms have endured the crisis better and are gaining market share at the expense of smaller firms.  
        • Although it will increase medium-term productivity, but it will also increase the dominance/pricing power of big companies in the market.  
    • Employment – CMIE’s [Centre for Monitoring Indian Economy] labour market survey reveals 18 million fewer employed (about 5 per cent of the total employed) compared to pre-pandemic levels.  
        • These labor market projections not incompatible with a sharper near-term rebound, as this recovery is led by capital and profits, not labour and wages 
    • Household sector – Households at the top of the pyramid are seen their incomes largely protected, and savings rates forced up during the lockdown, increasing ‘fuel in the tank’ to drive future consumption. 
        • Meanwhile, households at the bottom are likely to have witnessed permanent hits to jobs and incomes. 

    What are the implications of a K-shaped recovery? 

    K-shaped recovery happens when, following a recession, different sections of an economy recover at starkly different rates or magnitudes. The macro-implication of K-shape recovery in India are- 

    • Firstly, issue of Income- Upper-income households have benefitted from higher savings for two quarters. Present recovery is led by these savings.  
        • But lower-income households  are facing loss of income in the forms of jobs and wage cuts. This will be a recurring drag on demand, if the labour market does not heal faster. 
    • Second, the issue of Consumption– To the extent that COVID has triggered an effective income transfer from the poor to the rich, this will be demand-hindering because the poor have a higher marginal propensity to consume (i.e. they tend to spend (instead of saving) compared to higher marginal propensity to import among rich.  
        • Consumption pattern– Passenger vehicle registrations (proxying upper-end consumption) have grown about 4 per cent since October while two-wheelers have contracted 15 per cent. 
    • Third, increases the inequality– COVID-19 reduces competition or increases the inequality of incomes and opportunities between rich and poor. 
        • This could affect the trend growth in developing economies by hurting productivity and tightening political economy constraints. 

     How upcoming budget may help India to deal with K Shape recovery?  

    Policy needs to look beyond the next few quarters and anticipate the state of the macroeconomy post the sugar rush, for the wellbeing of poor citizens and increase its income level. 

    • First, Policy will look for the private sector to start re-investing and re-hiring, and thereby sets the economy onto a more virtuous path. Barring that, the labor-market hysteresis could sustain with the manufacturing and service sectors. 
      • Private investment revival policy may be implemented first for recovery of the private sector. 
    • Second, Ensure exports should benefit from increasing global growth as the world gets vaccinated steadily.  
    • Third, Government may invest in large physical and social (health and education) infrastructure push. It may provide employment for who lost job due to COVID. It may reduce inequalities. 
    • Fourth, a reliable medium-term fiscal plan will be key to anchoring the bond market and underscoring an adherence to macro stability. 
    • Lastly, the investment model for public investment must be balanced to push and financed by aggressive public asset sales.

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  • Government ropes in I-T department to crack down on GST fraud

    News: Government has roped in the Income Tax Department to tap illicit incomes as part of a crackdown against fraud companies rigging the Goods and Services Tax (GST) regime.

    Facts:

    • How did fraudsters cheat the Government? They have floated multiple dummy firms, obtained GST registrations, issued fake GST invoices without actual supply of services and passed on ineligible Input Tax Credit(ITC) accrued from the bogus invoices to clients for a commission who subsequently used it to make GST payments causing losses to the government.
    • Reason for these frauds:
      • Lack of due diligence during the GST registration: The process of registration was made easy and hassle-free by the government so that businesses could be easily on-boarded to the system. However, this meant that a number of dummy companies too obtained the GST registration in the absence of scrutiny or physical verification of the registered address of the companies.
      • Lack of data exchange among the enforcement agencies and banks have also led to increase in fraud cases.
    • What action has the government taken on this?
      • Government has said that any income traceable to the use of fake bills and other GST frauds shall be considered concealed income and will attract severe penalties.
      • Government has also tightened the GST registration process and legal measures to deal with the rising cases of fake invoicing.

    Article source

  • Importance path How to increase economic recovery of India

    Synopsis: Government should adopt a fiscal stimulus Path for the economic recovery of India, to make our economy grow at 9% GDP in the coming years. 

    Background 

    • The impact of the pandemic has pushed India to impose stringent lockdown measures to save millions of lives of Indian citizens but it’s after effect has caused massive economic disruption. 
    • This has resulted in fall of GDP by around 7.5 percent for this full year which has dented our aspiration to become a$5 trillion economy by 2024. 
    • Though nothing much can be done for what has happened, in the coming years India needs to get back to the trend line of growth (pre-COVID years) to sustain the aspiration of our young population.

    How different sectors are performing currently? 

    • The sectors which have shown a positive sign of recovery are
        • Pharmaceuticals and chemicals, the FMCG sector, the two-wheeler sector, Construction equipment’s driven by rural demand from sales to individuals, Capital goods.
    • In contrast, Sectors that are still struggling for a full recovery are
        • Mainly, the travel and tourism sector, real estate and construction sector, and retail which are significantly high employment sectors.

    So, what steps must the government take?  

    Though the recovery underway is solid, but we need measures to sustain and deepen it. The government can do three things. 

    • First, the government should resort to fiscal stimulus by paying long-overdue government bills. Few examples are, 
        • Distribute the pending tax refunds, pay the bills of all companies (large and small), pay off the many arbitration award spending where the government has lost cases, and pay state governments their pending GST dues. 
    • Second, invest in public health infrastructure and centre should finance state government efforts to build an extensive public health network. 
        • While this will equip as to handle a possible second wave of the virus, on the other, it will spread confidence.  
        • Also, it is essential for the government to work in partnership with private sector hospitals.
    • Third, invest massively in infrastructures such as roads, ports, logistics. Areas, where investment can be channelised, are,
        • By Providing decent, accessible housing to improve the living conditions in slums across our cities by providing right public-private program.
        • By providing cheap connectivity into our cities.
        • Even, the 20 trillion infrastructure pipeline project that requires massive funding can be considered.

    How the funds for the above will be sourced?  

    • To mobilize its resources that are needed to finance the above measures, the government can opt for a huge privatization programme (Disinvestment) 
        • Under this program, the government should intend to reduce its share-holding to 26 percent across public-sector banks, steel companies, oil companies, and every manufacturing company and hotel it currently owns. 
        • This announcement might trigger a big rally in the stock prices of PSUs, increasing return. 
    • To stem the protests due to big reforms,we are witnessing currently, the government should choose democratic methods for implementing them such as use of discussion papers for public comment, the debate in Parliament.   

    We need to act swiftly to regain from stunted recovery. We must use our economic crisis as an opportunity to set some bigger things right that we have ignored for too long. 

  • Lack of fiscal support could stoke inequality

    Context- India’s low level of fiscal spending could leave behind other problem and leads to inequality.

    India has stood out in three distinct ways.

    • Firstly, India seems to have broken the link between rising levels of mobility and COVID-19 cases. As of now the fear of increased mobility around the festive season stoking cases has not come to bear and the fatality rate continues to fall as the recovery rate rises.
    • Secondly, India has seen amongst the smallest fiscal support packages globally, government expenditure has not grown in the year so far.
    • Third, inflation is now a big problem, CPI inflation has been outside the 2-6% tolerance band for seven months in a row.

    How small fiscal support link with inequality?

    1. The government’s fiscal packages were far too modest and indirect to achieve much, some part was not covered (like the urban poor), and overall outlays were small.
    2. Rise in inequality between large and small firms –Large listed firms saw a larger rise in profits and the smaller listed firms did not do as well.
    • A combination of cost-cutting, lower interest rate environment, access to buoyant capital markets, and formalization of demand could also be a driver of the rise in individual-level inequality.
    • Impacted larger number of people– small firms are more labour-intensive than large firms. Data shows that small firms have cut staff costs by much more than large firms.
    1. Widening wealth gap– The coronavirus pandemic has dealt a huge blow to India’s middle and low-income groups. This is likely to further widen the wealth gap between India’s rich and poor.
    • For instance– Expensive passenger vehicle sales doing better than two-wheeler sales.

    What are the negatives of rising inequality?

    1. Inequality could elevate inflation- People with higher incomes can offset rising inflation with rising incomes. Sadly, though, income inequality and rising inflation can entrap lower-income households in poverty.
    • For example– India has had a troubled past with services inflation. once it takes a stronghold (for instance, in 2011), it remains elevated for a prolonged period (it averaged 7.7% in the 2011-13 period).

    There are three possible reasons that services inflation rises quickly in 2021-

    1. Inequality could stroke prices– The large firms and their employees do relatively well through this period, they are likely to demand more services, stoking services inflation.
    2. Pent up service demand– As a vaccine comes into play, there could be a wave of pent-up (high-touch) services demand.
    3. The service providers did not do the regular annual price reset in 2020, and may do it jointly for two years, once demand picks up.

    What need to be done?

    1. Inflation control could be the main task cut out for policymakers in 2021.
    2. RBI have to take steps to gradually drain the excess liquidity in the banking sector, provide a floor for short end rates and finally narrow the policy rate corridor by raising the reverse repo rate.
  • Issue of Retrospective tax cases; what should India do next?

    Context: After Vodafone, India has lost its 2nd case to Cairn Plc at Permanent Court of Arbitration over a retrospective tax demand. Now, what are the options left with India and which one should it chose? 

    WHAT ARE THE CASES IN QUESTION? 

    • Very recently, Cairn Plc has won a case of retrospective tax against India at Permanent Court of Arbitration. Court has asked Indian government to pay for damages to the tune of $1.4 billion. 
    • Previously in this year only, Indian Government lost a retrospective taxation case to Vodafone, where government need to pay around ₹80 crore, if it doesn’t make any further appeal.   

    Now India has been left with the option of either conceding defeat and making payment to the companies or making further appeals. But cost-benefit analysis of both the option is necessary. 

    Read More – India lost Retrospective taxation case to Cairn 

    WHY GOVERNMENT SHOULD NOT MAKE ANY FURTHER APPEALS? 

    • Firstly, there is a need for attracting global investments to the country and any further appeal would put investors in a doubt. 
    • Secondly, the stance of the present government on the issue was different in the past. They called out the UPA government for setting free “tax terrorism” and “uncertainty” in the country by enacting retrospective taxation. 
    • The Centre has now filed an appeal in the Vodafone matter in Singapore because it cannot take a different stance on two similar cases. A similar appeal too can be expected on Cairn. 
    • Thirdly, it would further dampen India’s reputation as the court already noted that this was a breach of fair treatment under the UK-India bilateral investment treaty. 

    WHY GOVERNMENT SHOULD MAKE FURTHER APPEALS? 

    • Keeping in mind the cost on exchequer, the government should make further appeals. This verdict includes a sharp $1.4 billion payable as damages to Cairn. 
    • In the Vodafone case, the government would need to divide out around ₹80 crore if it were to accept defeat. 
    • Finance Minister Nirmala Sitharaman has repeatedly stated that India retains the supreme right to put taxes. 

    As a first step after this setback, government must analyse carefully all the available options with it, as India is already suffering from an economic slowdown and looking to strengthen its domestic manufacturing capability. Some of the available options might turn away the foreign investment and technology associated with it. 

  • India lost Retrospective taxation case to Cairn

    Synopsis: In a 2nd setback after Vodafone case, Indian government has lost an International arbitration case to energy giant Cairn, on the issue of retrospective taxation.  

    Introduction 

    • The Indian government has lost an international arbitration case to energy giant Cairn Plc over the retrospective levy of taxes, and has been asked to pay damages worth RS. 8000 crore to the UK firm. 
    • This is the second setback for Indian government related to retrospective taxation after it lost the arbitration case against Vodafone. 

    What is retrospective taxation?  

    Retrospective taxation allows a country to pass a rule on taxing certain products, items or services and deals and charge companies from a time behind the date on which the law is passed. 

    • Countries use this route to correct any anomalies in their taxation policies that have, in the past, allowed companies to take advantage of such loopholes. 

    Apart from India, many countries including the USA, the UK, the Netherlands, Canada, Belgium, Australia and Italy have retrospectively taxed companies. 

    What is the case? 

    The case pertains to the tax demand related to an alleged Rs24,500 crore worth capital gains it made in 2006 while transferring all its shares of Cairn India Holdings to a new company, Cairn India, and got it listed on the stock exchanges.  

    However, Cairn argued the retroactive application of a newly enacted law is a breach by India of its obligations under the Treaty [UK-India Bilateral Investment Treaty] to treat Cairn and its investments fairly and equitably and refrain from unlawfully expropriating Cairn’s assets.  

    • Owing to different interpretations of capital gains, the company refused to pay the tax. 
    • This prompted cases being filed at the Income Tax Appellate Tribunal (ITAT) and the High Court. 

    What is the verdict of Court? 

    The Permanent Court of Arbitration at The Hague has maintained that the Cairn tax issue is not a tax dispute but a tax-related investment dispute and, hence, it falls under its jurisdiction. 

    • India’s demand in past taxes, it said, was in breach of fair treatment under the UK-India Bilateral Investment Treaty. 
    • The GOI was ordered to compensate for the total harm suffered together with interest and cost of arbitration.  

    The order does not contain a provision for challenge or appeal. Moreover, Cairn can use the arbitration award to approach courts in countries such as the UK to seize any property owned by India overseas to recover the money if the award is not honored.  

    Way forward- 

    Government needs to assured global investors that concerns over retrospective taxation would be taken care of. 

  • Why Indian Economy is slowing down?

    What are the issues facing Indian Economy?

    • COVID pandemic has pulled down the global economy and India’s economy is one of the worst affected among them.
    • In the first quarter of the financial year (April-June), India’s economy had contracted by an unprecedented 23.9%. Whereas in the second quarter, after a bit improvement, economy contracted by 7.5%, less than the anticipation.
    • With the result of 2nd quarter, India has slipped into the Technical recession, which requires economy to be negative or declining for two consecutive quarters or more.
    • Although some economist argue that when growth rate is measured on quarterly basis, instead of year-on-year basis, India’s GDP plunged 25 per cent in 2Q20 and recovered by 21 per cent in 3Q20. Thus, India’s economy is not in the technical recession.

    Before we move any further in this article to understand the causes behind slowing Indian Economy, first we need to understand the components of the GDP.

    How to calculate GDP using Expenditure method?

    Final goods and services produced in a country during a period of time are taken into account under expenditure method of calculating National Income or Gross Domestic Product. In this method final expenditure made by each stakeholder is taken into account.

    Final expenditure is that part of expenditure which is undertaken not for intermediate purposes.

    Following is the formula for calculating GDP by expenditure method;

    GDP = C + I + G + (X − M)

    1. C (Consumption) represents the consumption expenditure by the households on Final goods and services, known as Private Final Consumption Expenditure (PFCE).

    PFCE is the biggest component of the GDP and constitute around 55-57% of the GDP.

    2. I (Investment) represents business investment on equipment. It includes Gross Fixed Capital Formation (GFCF) and Inventory.

    • GFCF includes Investment made in the long-term assets by government and private sector and investment in residential units by business or households.
    • Inventory investment includes investment for procuring raw materials and finished or unfinished goods.

    Investment constitute around 30-32% of the GDP.

    GFCF Includes investments from Government, Businesses and households. 25% of I is constituted by government investment (Centre, states and PSUs) and 35-40% each is that by the corporate (India Inc.) and non-corporate (MSMEs and household investment in real estate) private sector.

    3. G (Government) represents sum of government expenditures on final goods and services including salaries, weapons, investments, etc., also known as Government Final Consumption Expenditure (GFCE).

    It doesn’t include the investment in financial products.

    GFCE constitute around 10-12% of India’s GDP.

    4. X represents gross exports and M represents gross imports. Balance of both is called net exports.

    What are the causes behind falling GDP growth?

    Demand related issues (PFCE)
    • Consumer demand is falling in urban India. Sales of domestic cars and commercial vehicles are on decline even before COVID pandemic. More than 2.1 crore individuals have lost salaried jobs due to the pandemic since April, and economists estimate the number to increase in future as companies struggle to run smoothly.
    • While many of those didn’t lose their jobs, saw their salaries drastically reduced.
    • Wage growth rate in rural area has declined to a new low. 10 million more rural households are seeking MGNREGA employment per month since August compared to a year ago.

    Effect on the GDP

    • Fall in income of households is leading to drastic fall in aggregate demand for goods and services i.e. Private Final Consumption Expenditure (PFCE). PFCE remains in the negative territory, at -11.3% in Q2. Private consumption demand, is the mainstay of the economy as it contributes around 55-60% of GDP.
    • Loans for households are although easily available after government stimulus package, but due to uncertainty of the future income and savings, people are apprehensive of taking loans at present.
    Investment and supply related issues (GFCF)
    • Growth rate in eight core sectors is sluggish. That means even if the demand is improving industries will not be in the position to meet those demands.
    • As per All India Manufacturers Organization’s June survey, about one-third of small and medium-sized enterprises indicated that their businesses were beyond saving.
    • Unorganised sector, which is specifically dependent upon daily cash flows and lacking organised fund sources like loans and finance from the institutions, has been badly affected. This sector was already badly affected by demonetisation and GST, COVID pandemic has reduced the possibility of revival of many firms working in this sector.

    Impact on the GDP

    • Gross Fixed Capital Formation (as % of GDP) had been on a constant decline (except in 2018) between 2014 and 2019, falling from 30.1% to 27.4%. In Financial year of 2020-21, GFCF was contracted by 7.3% in Q2, compared to 47.1% in Q1.
    Government expenditure related issues (GFCE)
    • The central government’s total expenditure (both revenue and capital) has been declining sharply since 2010-11. From a high of 15.4% of the GDP in 2010-11, the total expenditure has hit a low of 12.2% of the GDP in 2018-19.
    • The capital expenditure component has dropped from 2% of the GDP in 2010-11 to 1.6% in 2018-19 and that of the revenue expenditure from 13.4% in 2010-11 to 10.6% in 2018-19.
    • This decline in expenditure is driven by the government’s priority to contain fiscal deficit.

    Impact on the GDP

    • Most worrying part for economy is a fall in government spending. Although government has announced stimulus package for revival of economy, but actual fiscal support has not been commensurate as expected. Government-Fixed Capital Expenditure (GFCE) growth has declined by 22.2% in 2nd quarter after improvement of 16% in the first Quarter.

    Why government is not able to provide direct fiscal support?

    • Centre’s net revenue (tax and non-tax) collection for the first half of this fiscal is merely 27.3 per cent of the budget for the full fiscal year.
    • Center’s capital expenditure has registered a decline of 11.6 per cent.  Capital expenditure is defined as the money spent on the acquisition of assets as well as fresh investments
    • Market borrowings of both the Centre’s as well as the states’ have increased by 50 per cent year-on-year basis. Due to that India’s public debt/GDP will likely reach around 85 per cent. High debt-servicing costs will further crowd out productive public expenditure.
    • Central government fiscal deficit is also inflating.

    Why there is a need of direct income support from the government?

    Although government has announced stimulus package for revival of the economy that includes benefits for industries, poor people and MSMEs etc., however all these benefits may not be able to provide economy with the immediate boost required at this point of time;

    • At times of slowdown in industrialised economies, there is idle productive capacity on the one hand and unemployed manpower on the other.
    • Unemployment reduces the purchasing power capacity of the households, resulting in low aggregate demand.
    • Increase in Government expenditure or investment on infrastructure lead to expansion of productive capacity and generate long-term economic growth.
    • While the infrastructure spending and reforms are critical to sustain medium and long term growth, neither can boost near-term demand. A stimulus package focused on giving direct benefits to the middle-class could help alleviate the situation.
    • Increase in direct benefit transfers to people lead to immediate increase in aggregate demand of household for goods and services. Increase in aggregate demand leads to fuller utilization of the existing productive ca­pacity and employment generation.
    • Thus, Fiscal spending (government expenditure), as against fiscal conservatism, is favoured because this can be mobilised quickly to deliver results in a shorter timespan while others need longer timeframes to get activated and deliver.
    • Bank recapitalisation for increasing credit flow in the economy is another way to boost demand in the economy.

    Way forward

    Present time demands government to discontinue its fiscal conservatism approach centred on reducing its fiscal deficit. It is the time to boost the domestic demand by transferring direct benefits, as was done during the 2008 economic recession. Indian economy at that time proved to be resilient and performed far better compared to many developed countries at that time.

    Private sector in India is not lacking funds as is the popular perception. It is the lack of confidence in the Indian economy and industries at present that investment in India are reducing. There are sufficient funds available for the government borrowings in the market.

  • Modernise India’s archaic tax laws

    Context: Need to modernise India’s archaic tax laws.

    Background:
    • The Income Tax Act was framed in 1961 and has been amended several times.
    • The government constituted the Akhilesh Ranjan Task Force to suggest reforms to the Income Tax Act.
    • The report has been submitted to the government but has not yet been made public.
    People who gained during the Pandemic?
    • India’s super rich: Between January and June 2020, 85 new Indians were added to the list of High Net worth Individuals (with a net worth of more than $50 million).
    • Stock dealers: When the Indian GDP was contracting, some stocks surged to phenomenal heights there by benefitting those dealing in stock exchanges.
    • The corporate houses, Internet service providers, laptop makers and scientists engaged in medical research also gained.
    • The manufacturers of masks and Personal Protective Equipment also gained during the pandemic
    What are the problems in taxation?
    • Implementation of Equalisation Levy: Through Digitalisation and e-commerce multilateral corporates have found an easy way to make big money. However, the tax administration is struggling with the implementation of the equalisation levy.
    • Implementation of Anti profiteering rules under GST: As per the Goods and Services Tax (GST) law, any reduction in the rate of tax on the supply of goods or services has to be passed on to the consumer by way of commensurate reduction in prices. Companies are getting benefited from GST rate reduction without passing on the benefits to the end consumers.
    • Tax evasion: Tax avoidance by global web companies has become acute because of Digitalisation.
    • Tax dispute settlement: The International Court of Arbitration ruled that the Indian government’s move to seek taxes from Vodafone using retrospective legislation was against the fairness principle.
    What can be done?
    • Digital taxation has to be amended in accordance with the UN Model Convention. There is need for India to act in sync with the OECD.
    • The Anti-Profiteering Rules have to be implemented vigorously wherever there is reduction in the tax rate on any commodity or service
    • Need to find a suitable mechanism to negotiate settlement through mediation or conciliation or, if necessary, arbitration in connection with tax disputes between the tax-paying companies and the Central Board of Direct Taxes.

    Our archaic laws should be modernised and made compatible with international tax laws. The suggestions made by Akhilesh Ranjan Task Force needs to be implemented after wide consultation.

  • Government interventions

    Context – The Government’s core belief in ‘minimum government’, which ties its hands when it comes to fiscal measures even in such harsh economic conditions.

    What are the reasons for the failure of stimulus packages?

    1. Lack of Demand– The aggregate demand for goods and services again is dependent on the income and purchasing power of people, which has come down drastically, at the aggregative level, due to the COVID-19 lockdown.
    • Nothing to stimulate demand – many economists have opined that the government stimulus tries to resolve only supply-side issues. There is nothing to generate demand. This could only be done by putting money in the hands of people.
    1. Risk of taking housing loans – Though the consumer or housing loans are easily available at lower rates of interest, still people are not taking the household loans, as they are in doubt of their future incomes or dwindling current one.
    2. Bank burdened with bad loans- On the supply side, the big constraint on fresh lending is the burden of non-performing assets (NPAs).
    3. Credit easing will not work immediately– Credit easing by the RBI is not direct government expenditure and banks will be hesitant to lend the money available with them.

    What are the possible solutions?

    1. Relax FRBM target– Fiscal Responsibility and Budget Management (FRBM) should be kept in a state of suspension for both Centre and the States.
    2. Cash transfer to Households– The government needs to announce a ₹10 lakh crore fiscal stimulus package providing universal food ration and cash transfers for households in order to revive the economy at this time.
    3. An urban employment guarantee law– This could help improves worker incomes and have multiplier effects on the economy.
    4. Improving health infrastructure– The government needs to build a robust public health infrastructure on the principle of public provisioning instead of walking down the insurance route.
    5. Investment in Green Deal- – A comprehensive green deal can be planned, which changes the energy mix of the economy and also makes the poor and the marginalized a part of a sustainable development process.

    Way forward-

    The current COVID-19 pandemic has given an opportunity to rethink of health, economic and climate policies.

     

    Protesting farmer concerns

  • Atmanirbhar Bharat 3.0

    Context- Finance Minister Nirmala Sitharaman announced the next set of stimulus package to boost the coronavirus-hit economy.

    What are the key highlights of 3rd stimulus package?

    Union Finance Minister on recently announced a third stimulus package to help pull the Covid-19-battered economy. The FM announced 12 measures under Atmanirbhar Bharat3.0 which includes-

    1. Atmanirbhar Bharat Rozgar Yojana.
    2. Emergency Credit Line Guarantee Scheme (ECLGS) 2.0.
    3. Atmanirbhar Manufacturing Production-Linked Incentives for 10 champion sectors.
    4. To boost demand in Real Estate sector, relief for home buyers and sellers.
    5. Support for construction and Infrastructure- Relaxation of EMDs and Performance Security on government tenders.
    6. Income tax relief for homebuyers and developers.
    7. Infrastructure Debt Financing.
    8. Support for Agriculture.
    9. Boost for rural employment.
    10. Boost for Project Exports.
    11. Capital and Industrial Stimulus.
    12. Research and Development grant for Covid-19 vaccine.

    Previously announced package-

    1. Pradhan Mantri Garib Kalyan Yojana (PMGKP) – The government had announced Rs 1.70 lakh crore during March to protect the poor and vulnerable sections from the impact of COVID-19 crisis.
    2. The Aatmanirbhar Bharat Abhiyan package– The stimulus of Rs 20.97 lakh crore in May, largely focused on supply-side measures and long-term reforms.

    What are the key areas of focus of this fiscal package?

    1. Incentivizing job creation-
    • Boost formal sector employment-Providing incentives to EPFO-registered firms to hire more employees could lead to job creation. Formalization of the existing informal work force in urban areas.
    • MGNREGA boost– Further additional outlay of Rs 10,000 crores will be provided for PM Garib Kalyan Rozgar Yojana in the current financial year.
    1. To boost demand in Real estate sector –
    • Rs 18,000 crores additional outlay for PM Awas Yojana (Urban) over the Budget Estimates for 2020-21. This is over and above Rs 8,000 core already this year.
    • This will help 12 lakh houses to be grounded and 18 lakhs to be complemented.
    • The scheme will also guarantee additional jobs to 78 lakhs.
    1. To boost manufacturing production-
    • Production Linked Incentives with proposed expenditure of ₹1.46 lakh crore over five years will be offered to ten stressed sectors to boost domestic manufacturing.
    • And create an efficient domestic manufacturing ecosystem.
    1. To Research and Development grant for Covid-19 vaccine-
    • Rs 900 crores provided for Covid-19 Suraksha Mission for the development of the Indian vaccine to the Department of Biotechnology.
    1. Emergency Credit Line Guarantee Scheme (ECLGS) 2.0-
    • EECLG 2.0 for MSMEs, businesses, MUDRA borrowers and individuals (loans for business purposes), has been extended till March 31, 2021.
    • Under this credit scheme, banks will be able to lend to stressed sectors from 26 sectors identified by the K.V. Kamath committee earlier this year.
    • The new scheme will have a 1-year moratorium and 5 years of repayment.

    What are the challenges to India’s economic recovery according to RBI?

    • The foremost risk stems from the global economy now at risk from the second wave of COVID-19.
    • The Second major risk is the stress that has been intensifying among households and corporations

    Way forward-

    • Ensuring credit off-take of previously announced schemes amongst the poorest sections must be a priority.
    • Forcing banks to lend to companies where assessing risk has become a challenge due to the pandemic puts banks at a bigger risk.
  • The Weakened financial capacity of States

    Context- With various measures the Centre government has reduced of the fiscal resource capacity of the States.

    What are the reasons of weakened fiscal capacity of States?

    1. Impact of Implementation of GST on States– Since implementation, the Goods and Services Tax appears to have reduced the resource-generating capacity of States and has contributed to worsening inter-State inequality
    2. Centre undermines fiscal capacity of States-
    3. Cutbacks in devolution – Centre has systematically cut the share of States in taxes raised by the Union government.
    • Between 2014-15 and 2019-20, the States got ₹7,97,549 crore less than what was projected by the Finance Commission.
    1. Shrinking of divisible pool- Centre has reduced the pool of funds to be shared with the States by shifting from taxes to cesses and surcharges.
    • The Constitution allows the Centre to levy cess and surcharge which the Centre need not share with state governments.
    • When taxes are replaced with cesses and surcharges, consumer pays the same price. But the Union government keeps more of that revenue and reduces the size of the divisible pool. As a result, the States lose out on their share.
    1. GST shortfall–
    • The GST Compensation Act, 2017guaranteed States that they would be compensated for any loss of revenue in the first five years of GST implementation, until 2022, using a cess levied on sin and luxury goods.
    • However, the economic slowdown has pushed both GST and cess collections down over the last year, resulting in a 40% gap last year between the compensation paid and cess collected.
    1. Central grants are also likely to drop significantly this year.
    • For instance,₹31,570 crore was allocated as annual grants to Karnataka. Actual grants may be down to ₹17,372 crore.

    What are the Impacts of colossal borrowing on States?

    • Repayment burden will overwhelm State budgets for several years.
    • Budget issue – After paying loans and interest, salaries and pensions, and establishment expenses, nothing left for development and welfare.
    • The fall in funds for development and welfare programmes will adversely impact-
    • The livelihoods of crores of Indians.
    • The economic growth potential cannot be fully realized.
    • Adverse consequences will be felt in per capita income, human resource development and poverty

    Way forward-

    • The systematic weakening of States serves neither federalism nor national interest. Therefore, The Centre must take several steps to ensure an adequate flow of resources to states.
    • Centre must immediately clear all its pending dues to state governments.

     

  • GST Compensation Cess

    What is Cess?

      • A cess is an earmarked tax that is collected for a specific purpose and ought to be spent only for that.
      • Cess may initially go to the CFI but has to be used for the purpose for which it was collected.
      • Cess collections are supposed to be transferred to specified Reserve Funds that Parliament has approved for each of these levies.
      • Every cess is collected after Parliament has authorised its creation through an enabling legislation that specifies the purpose for which the funds are being raised.
      • Article 270 of the Constitution allows cess to be excluded from the purview of the divisible pool of taxes that the Union government must share with the States.

    What is GST Compensation Cess?

    • The Goods and Services Tax in India is a comprehensive, multi-stage, destination-based value-added indirect tax. It has replaced many central and state indirect taxes in India such as the excise duty, VAT, services tax, etc.
      GST compensation: As per the GST (Compensation to States) Act, 2017, states are guaranteed compensation for revenue loss on account of implementation of GST for a transition period of five years (2017-2022).
    • The compensation is calculated based on the difference between the current states’ GST revenue and the protected revenue after estimating an annualised 14% growth rate from the base year of 2015-16.
    • Any shortfall has to be compensated from the receipts of Compensation Cess imposed on selected commodities that attract a GST of 28 per cent.
    • At present, the cess levied on sin and luxury goods such as tobacco and automobiles flow into the compensation fund.
    • But the issue was created when during Pandemic govt. denied paying compensation cess due to low revenue collection.
  • Centre gives in, says will borrow to make up for states’ GST shortfall

    News: The Central government has decided to borrow up to Rs 1.1 lakh crore on behalf of the states to meet the shortfall of Goods and Services Tax(GST) compensation.

    Facts:

    • Borrowing Mechanism: Under the Special Window, the estimated shortfall of Rs 1.1 lakh crore will be borrowed by Centre in appropriate tranches.The amount so borrowed will be passed on to the States as a back-to-back loan in lieu of GST Compensation Cess releases.
    • Will the borrowing impact the fiscal deficit of the Centre? The borrowing will not have any impact on the fiscal deficit of the Centre as the amounts will be reflected as the capital receipts of the States and as part of the financing of its respective fiscal deficits.
    • Significance: The Centre borrowing on behalf of states is likely to ensure that a single rate of borrowing is charged and this would also be easy to administer.

    Additional Facts:

    • GST Compensation Cess: Under the GST (Compensation to States) Act, 2017, states are guaranteed compensation for loss of revenue on account of implementation of GST for a transition period of five years between 2017 and 2022.At present, the cess levied on products considered to be ‘sin’ or luxury goods.
  • Infrastructure and manufacturing led growth in India

    Source-Live Mint

    Syllabus- GS 3- Indian Economy and issues relating to planning, mobilization, of resources, growth, development and employment.

    Context- India needs to create 90 million non-farm jobs by 2030 to avoid economic stagnation.

    What is the importance of these two sectors?

    • Construction- 24 million non-farm jobs could come from construction alone by 2030, 16 million from real estate and 8 million from infrastructure.
    • Manufacturing- Thus sector could generate one-fifth of the incremental annual GDP (about $750 billion) and close to 11 million new non-farm jobs by 2030.

    How India can trigger construction growth and what are the reforms needed?

    To generate its share of employment, the construction sector needs to grow at about 8.5%, nearly double its 4.4% growth rate over financial years 2012-13 to 2018-19. The following steps can trigger this growth-

    1. Spend about 8% of GDP on infrastructure annually for the next 10 years.
    2. Build 25 million affordable homes over the decade.

    Reforms required-

    1. Real estate reforms-
    • India could include generously increasing incentives for home-ownership and creating rental stock.
    • Tax incentives– At the central level, substantially raising tax deductions limits on mortgages and rental incomes, as well as introducing tax incentives for investments in rental housing stock could be considered.

    For example- The US, which offers tax-deductible interest of up to $750,000 on mortgage loans and an effective low-income housing tax credit incentive.

    • Rationalizing stamp duties and registration fees, introducing regulatory amendments in rent-control policies, launching digitally-enabled, single-window clearances to reduce time delays in affordable housing construction.
    • Bringing the goods and services tax on modern construction methods in line with in-situ buildings.
    1. High land-price-to- average-income ratio– In terms of per square-meter price to per-capita GDP, it is about 6.0 in Mumbai and 3.8 in Bengaluru versus 0.5 in Bangkok and 0.2 in Beijing. To narrow this gap, India could do two things.
    • Release 20 to 25% of underused but buildable public-sector land.
    • Reform zoning regulations in the top 300 cities by population.

    What are the proposed ways to turbocharge Manufacturing

    1. Structural reforms– India could introduce targeted, time-bound and conditional incentives to reduce the cost disadvantage that Indian manufacturers face while competing with companies from China and Vietnam, among other countries.
    2. Free trade warehousing zones– Indian states could also create powerful demonstration effects by establishing port-proximate manufacturing clusters that contain free-trade warehousing zones.
    • They could provide land at lower costs, plug-and-play infrastructure, and common utilities, apart from expedited approvals.
    1. Reduction in costs– India also needs to consider reducing its factor costs of power and logistics. Both these costs could be reduced 20–25% by enabling franchised and privatized distribution company models, reducing cross-subsidy surcharges, and establishing multi-modal freight ecosystems.

    Way forward-

    • If adequately set up for success, manufacturing and construction could be pivotal in driving India’s growth over the next decade.
    • The government has to introduce sector-specific policies to raise productivity in manufacturing and real estate sectors.
  • Governance of Public sector units: Privatization of SAIL

    Source- The Hindu Business Line

    Syllabus- GS 3- Indian Economy and issues relating to planning, mobilization, of resources, growth, development and employment.

    Context- To decentralize decision-making and facilitate more informed investment decisions, the Centre has restructured the board of Steel Authority of India (SAIL).

    How Privatization of SAIL can boost their business?

    The Appointments Committee of the Cabinet (ACC) has approved the restructuring of the Board of Steel Authority of India Limited (SAIL).

    1. Decentralization– This move will facilitate greater decentralization and nimble decision making with the directors-in-charge of plants as direct ACC appointees with their views having weight in the central corporate governance structure.
      • This will also facilitate speedy modernization and expansion programme of SAIL.
      • This decentralization will also ensure there is greater transparency.
    2. Attract investment– The government’s exit will attract private investment and contribute to the exchequer, enabling higher public investment.

    What is CPSEs?

    Central public sector enterprises (CPSEs) are those companies in which the direct holding of the Central Government or other CPSEs is 51% or more.

    Role- CPSEs have always played a crucial role in executing the socio-economic development agenda of the government as an extension of the government apparatus.

    • During recent lockdown period, CPSEs ensured that essential services such as power, fuel and food-grain supply remain uninterrupted.
    • They are carrying out capital expenditure works/infrastructure development activities of approximately ₹2 lakh crore in the sectors of petroleum, power, defence, mining, logistics, etc.
    • CPSEs not only act as a catalyst for other economic activities but would also provide informal employment during the construction phase.

    What are the arguments in favour of privatization?

    1. Efficiency– One of the strongest arguments in favour of privatization aired by its supporters is the dismal performance of the PSEs and, thus, its inefficiency can be removed if these enterprises are privatized.
      • Governments jobs are often taken for granted and have no difference between a performer and a non-performer when considering productivity.
      • Privatization will usher in an improvement in efficiency and as improved performance is concerned with ‘profit-oriented’ decision-making strategy.
    2. Lack of political interference– Indian PSEs are subject to too much governmental and political interference thereby making them operationally inefficient. Private sector is free from such unavoidable interference. They are motivated by political pressures rather than sound economic and business sense.
    • A most important component in enhancing the performance of a PSU is reduced intervention by political powers and preventing misuse of infrastructure by all.

    Way forward-

    • Privatization has become a popular measure for solving the organizational problems of governments by reducing the role of the state and encouraging the growth of the private sector enterprises.
    • Privatization should be in a unique form in accordance with the priorities of our mixed economy and as well as by considering operational aspects of the PSUs.
  • GST Compensation Issue

    Source: Indian Express

    Context: Recently, the Centre has acceded to the states’ request, that it will borrow Rs 1.1 lakh crore to compensate them for the shortfall in their GST revenues.

    What is the Background?

    • For bringing the states in to GST ambit, The Centre assured the states of a 14 per cent growth in their GST revenues.
    • It also agreed to compensate states for shortfall in GST revenue collection for 5 years.
    • GST compensation was decided to pay out of Compensation Cess every two months by the Centre.
    • Now, the pandemic impact has resulted in low Cess collection that has constrained Compensation to states.
    • With expected revenue shortfall of Rs 3 lakh crore, the collections through the compensation cess stand at Rs 65,000 crore.
    • Now, out of the shortfall of Rs 2.35 lakh crore the state governments are being compensated only for losses arising on account of implementation issues that is Rs 1.1 lakh crore.
    • The states were asked to forgo the remaining loss in GST revenues (1.34 lakh crore) as it has  arised out of an “act of god”.

    Why Centre has to borrow not the states?

    • The Centre’s borrowing attracts a lower interest rate as compared to that of states.
    • Also, the loans to the states will be at a uniform rate that will help them to avoid interest rate differentials across states.
    • This mechanism is more preferable and convenient rather than all the states rushing to the bond market.

    What are the unresolved issues?

    • Increased debt: The mode of the transaction has not yet clearly defined. Irrespective of the mode of transaction, centre’s borrowing will lead to a rise in general government debt.
    • Centres reluctance to borrow entire amount: The repayment of the loan is not an obligation of the Centre, and will be met from proceeds from future compensation cess collections still centre is reluctant to borrow the entire expected shortfall of Rs 2.35 lakh crore

    The Centre’s decision to borrow Rs 1.1 lakh crore is in the spirit of cooperative federalism. Given the huge distress in the economy even the states should show some flexibility, in the spirit of cooperation. The GST Council should approach the issue of compensating states for their remaining losses in a conciliatory manner.

  • Retrospective taxation – Vodafone case

    Source- The Hindu

    Syllabus- GS 3- Role of external state and non-state actors in creating challenges to internal security.

    Context– The Vodafone Group has won one of the most high-stakes legal battles involving a foreign investor and the Indian state under international law. The retrospective taxation was in violation of the BIT and the United Commission on International Trade Law (UNCITRAL).

    What is the case

    1. In May 2007, Vodafone bought a 67% stake in Hutchison Whampoa for $11 billion.
    2. In September that year, Indian government raised a demand of Rs 7,990 crore in capital gains and withholding tax from Vodafone, saying the company should have deducted the tax at source before making a payment to Hutchison
    3. In 2012, the Supreme Court ruled in favour of the Vodafone group.
    4. Later, the same year, the then Finance Minister, the late Pranab Mukherjee, circumvented the Supreme Court’s ruling by proposing an amendment to the Finance Act, thereby giving the Income Tax Department the power to retrospectively tax such deals.
    5. Vodafone then initiated arbitration in 2014 invoking the Bilateral Investment Treaty signed between India and the Netherlands in 1995.
    6. Ruling: It ruled in favour of Vodafone as the taxation was in violation of the BIT.
    • The tribunal said that now since it had been established that India had breached the terms of the agreement, it must now stop efforts to recover the said taxes from Vodafone.
    • It also directed India to pay £4.3 million ($5.47 million) to the company as compensation for its legal costs.

    What is retrospective taxation?

    Retrospective taxation allows a country to pass a rule on taxing certain products, items or services and deals and charge companies from a time behind the date on which the law is passed.

    • Countries use this route to correct any anomalies in their taxation policies that have, in the past, allowed companies to take advantage of such loopholes.
    • Apart from India, many countries including the USA, the UK, the Netherlands, Canada, Belgium, Australia and Italy have retrospectively taxed companies.

    What are the key lessons from Vodafone case?

    1. Compensation cost- The tribunal has ordered India to reimburse legal costs to the tune of more than ₹40 crore incurred by Vodafone in fighting this case.
    • The taxpayer’s money will be used to pay Vodafone
    • Key lesson is that three organs of the Indian state — Parliament, executive, and the judiciary — need to internalize India’s BIT and other international law obligations. These organs need to ensure that they exercise their public powers in a manner consistent with international law, or else their actions could prove costly to the nation.

    What option does government has to solve the issue?

    1. Challenge the ruling– government might challenge the award at the seat of arbitration or resist the enforceability of this award in Indian courts alleging that it violates public policy.
    • The government would be ill-advised to go down this road because it would mean that India does not honour its international law obligation.
    • It would send a wrong signal to foreign investors reaffirming the sentiment that doing business in India is indeed excruciating.
    1. India is entangled in more than a dozen such cases against companies over retrospective tax claims and cancellation of contracts. The exchequer could end up paying billions of dollars in damages if it loses.

    Way forward

    Government should immediately comply with the decision to support foreign investment. The decision shows the significance of the ISDS (Investor-state dispute settlement). Regime to hold states accountable under international law when in case of undue expansion of state power. The case is a reminder that the ISDS regime, notwithstanding its weaknesses, can play an important role in fostering international rule of law.

  • GST Compensation disagreement between the Centre and the States

    Source- The Hindu

    Syllabus- GS 3- Government Budgeting.

    Context- The onus would be on Centre to resolve this impasse with regard to compensation cess of GST reforms.

    What is GST compensation?

    • The Centre is obliged to pay to the States, for a period of five years, compensation for revenue shortfalls in return for their having ceded the power to levy the multiple taxes that were subsumed into the GST.
    • The compensation is calculated based on the difference between the states current GST revenue and the protected revenue after estimating an annualized 14% growth rate from the base year of 2015-16.

    What is current GST compensation situation?

    1. Pending payment– GST compensation payments to states have been pending since April, with the pending amount for April-July estimated at Rs 1.5 lakh crore.
    2. GST revenue gap– The GST compensation requirement is estimated to be around Rs 3 lakh crore this year, while the cess collection is expected to be around Rs 65,000 crore – an estimated compensation shortfall of Rs 2.35 lakh crore.

    What were the Options given by the Center to the States?

    Options made by the Centre-

    Option 1 –

    • To provide a special borrowing window to states, in consultation with the RBI, to provide Rs 97,000 crore at a “reasonable” interest rate and this money can then be repaid after 5 years by extending cess collection.
    • A 0.5 percent relaxation in the borrowing limit under the Fiscal Responsibility and Budget Management [FRBM] Act would be provided.

    Option 2–

    • To meet the entire GST compensation gap of Rs 2.35 lakh crore this year itself after consulting with the RBI.
    • No Fiscal Responsibility and Budget Management Act relaxation has been mentioned for this option.

    Issues raised by the States-

    1. Several Sates have rejected both options and some, including Tamil Nadu- have urged the Centre to rethink in view of their essential and urgent spending needs to curb the pandemic and spur growth.
    2. Enforcing a cut in compensation and bringing in a distinction between GST and Covid-related revenue loss is unconstitutional.
    3. The two options offered to the States would impose huge debts on the states and as a result many would not even be able to pay salaries.
    4. States simply do not have the headroom to borrow money to make up for the GST shortfall as every single State has reached its FRBM [Fiscal Responsibility and Budget Management] limit.

    What are the expected reasons for Revenue shortfall for the fiscal year 2020-21?

    1. Corporate tax collection loss – Companies in sectors such as airlines, hotels and consumer durables will show losses and therefore, pay less tax.
    2. Less income tax collection– Large numbers of workers have lost employment and/or have faced salary cuts. Many private firms are also likely to incur losses. So, income tax collection will also be short by much more than 20%.
    3. Less import – The Integrated Goods and Services Tax (IGST) and customs duties will also decline with fall in import.
    4. The production of luxury and sin goods has been severely impactedand they pay the high rate of tax — 18%, 28% and cess on top.
    5. The direct tax/GDP per cent may be expected to fall from 5.5% last year to less than 4% this fiscal.

    Way forward

    Center needs to renege on its promise to find ways to compensate the state for loss of revenue. Only the Centre is in a position to do such massive borrowing as Reserve Bank has itself said that for the Central government to borrow would be both easier and simpler. Central government would pay 2% less interest than the states.

  • India’s Tax Charter

    Source: Indian Express

    Syllabus: GS3: issues relating to Planning, Mobilization of Resources

    Context: In the wake of pandemic and slowdown in the economy, tax system needs efficiency in case selection and consistency in assessment.

    Need of efficient tax system:

    • To improve tax collection:An economic contraction this year will deal a severe blow to tax collections.
    • Rising uncertainty and reducing ability to pay:  With a shrinking tax base, any calibration of rates or the tax base is difficult since a hurried approach can have wider consequences.
    • Limited policy space: the only tool available to the government to maintain its tax base is to urge voluntary compliance.
    • To increase compliance: compliance is achieved through a fine balance between enforcement and encouragement. Compliance is also a function of the perception of the administration.
    • Enforcement-driven measures are less effective: the taxpaying population has remained at a fraction (6 per cent) of the total population even after strict enforcement driven measures.
    • To encourage people: complexity can discourage individuals from filing returns. For instance, complexity is reflected simply in the difference between the number of taxpayers and the returns filed — the former exceeds that latter by around 20 million.
    • To Build trust between the administration and the taxpayer:the government has announced measures to usher in transparency in the system. This includes a taxpayer’s charter and faceless assessments.

    • India’s new charter includes:
      • Confidentiality, right to representation and fair treatment which are in line with global practices.
      • India’s citizen charter also specifies timelines for completion of different administrative processes.
    • India’s charter conveys a commitment to reducing compliance costs in administering tax legislation, holding its authorities accountable and publishing a periodic report of service standards.
    • To end personal interface, e-assessment was introduced in 2019, wherein a taxpayer could digitally respond to any query related to their return.
    • Faceless assessment: It seeks to automate the case selection and the distribution function of the assessing officer — assessment, scrutiny and drafting order — among various units located outside the jurisdiction of the taxpayer which will reduce corruption and delays.
      • This does not apply to search and seizure cases, and cases related to tax evasion and international taxation.

    Concerns:

    • Poor Dispute resolution leading to poor success rate:There is evidence of inconsistent and delayed decisions often culminating in the poor success rate of the tax department at various levels of dispute.
    • Tax returns can be voluminous and the information contained therein can be unique. Therefore, taxpayers must ideally have an opportunity to explain their case in person.

    Way forward:

    • It is critical that the details of tax charter are spelt out concerning how these may be implemented in practice. There is urgent need of swift coordination for the implementation of the tax Charter.
    • A tax ombudsman is needed to ensure that some of these standards are met.
    • Fair and impartial system and a time-bound resolution of matters: the new processes, with reviews and anonymity, must ensure efficiency in case selection and consistency in assessment.
  • GST compensation Standoff

    Source- The Hindu

    Syllabus- GS 3- Government Budgeting

    Context- Differences of opinion have emerged between Centre and states at the 41st Goods and Service Tax [GST] Council meeting over compensation deficit.

    • GST- Goods and Services Tax, is an indirect tax which has replaced many indirect taxes in India such as the excise duty, VAT, services tax, etc. GST is a single domestic indirect tax law for the entire country.

    GST [Compensation to States] Act, 2017

    • States are guaranteed compensation for loss of revenue on account of implementation of GST for a transition period of five years (2017-22).
    • The compensation assures an annualized 14% growth rate from the base year of 2015-16.
    • States no longer possess taxation rights after most taxes, barring those on petroleum, alcohol, and stamp duty, were subsumed under GST.

    Distinction in shortfall

    1. Pending payment– GST compensation payments to states have been pending since April, with the pending amount for April-July estimated at Rs 1.5 lakh crore.
    2. GST revenue gap – The GST compensation requirement is estimated to be around Rs 3 lakh crore this year, while the cess collection is expected to be around Rs 65,000 crore – an estimated compensation shortfall of Rs 2.35 lakh crore.

    Options made by the Centre

    Option 1 –

    • Special borrowing window – To provide a special borrowing window to states, in consultation with the RBI, which has to be repaid by the states after 5 years.
    • A 0.5 percent relaxation in the borrowing limit under the Fiscal Responsibility and Budget Management [FRBM] Act would be provided.

    Option 2–

    • Meeting the GST compensation gap of this year.
    • No Fiscal Responsibility and Budget Management Act relaxation has been mentioned for this option.

    Challenges for central government

    1. Options rejected– Several States have rejected both options. Some states like Tamil Nadu, have urged the Centre to rethink in view of their essential and urgent spending needs to curb the pandemic and spur growth.
    2. Compensation cess levied on demerit goods will stay on beyond 2022. This may hurt few sectors such as auto sector.

    Way forward

    Centre need to resolve this impasse in a way that future GST reforms do not fall victim to the trust deficit engendered by this standoff, the pandemic response is strengthened and all-round government capital spending to bolster sagging demand not derailed.

  • GST – Grand Bargain 2.0

    Source– The Hindu

    Context– A Grand Bargain 2.0 between the center and the states is needed in longer run to tackle the issues related to GST compensation to the States.

    Value added tax [VAT] – An indirect value added tax which was introduced into Indian taxation system on April 1, 2005. VAT was introduced to make India a single integrated market. On June 2, 2014, VAT was implemented in all states and union territories of India, except Andaman and Nicobar Islands and Lakshadweep Islands.

    Disadvantages of VAT

    1. Cascading effect of taxes – Cascading effect is when there is tax on tax levied on a product at every step of the sale. The tax is levied on a value which includes tax paid by the previous buyer, thus, making the end consumer pay “tax on already paid tax.”
    2. It was not possible to claim Input Tax Credit (ITC) on service under VAT.
    3. Different VAT rates and laws in different states.

    The need for one country one tax was envisaged by GST which is a single comprehensive destination-based tax.

    GST [Compensation to States] Act, 2017

    • States are guaranteed the compensation for loss of revenue on account of implementation of GST for a transition period of five years (2017-22).
    • The compensation is calculated based on the difference between the states’ current GST revenue and the protected revenue after estimating an annualized 14% growth rate from the base year of 2015-16.

    Issues raised by States in current GST model

    1. Limited option for States to raise money -States does not have recourse to multiple options that the Centre has, such as issue of a sovereign bond in dollars or rupees.
    2. Rate of market borrowing -Centre can anyway command much lower rates of borrowing from the markets as compared to the States.
    3. Rate of public sector borrowing-In terms of aggregate public sector borrowing, it does not matter for the debt markets, or the rating agencies, whether it is the States or the Centre that is increasing their indebtedness.
    4. Fiscal Stimulus– Fighting this recession through increased fiscal stimulus is basically the job of macroeconomic stabilization, which is the Centre’s domain thus states can’t overcome the impact of fall in revenue which is more or less lockdown induced.
    5. Trust issue -Breaking this important promise, using the alibi of the COVID-19 pandemic causes a serious dent in the trust built up between the Centre and States.

    Possible solutions

    1. Low GST rate -A low moderate single rate of 12% encourages better compliance, reduces the need to do arbitrary classification and discretion, reduces litigation and will lead to buoyancy in collection.

    Example- Australia, for the past two decades their GST rate has been constant at 10%.

    1. Importance of 3rd tier government -Of the 12% GST, 2% must be earmarked exclusively for the urban and rural local bodies, which ensures some basic revenue autonomy to them. The actual distribution across panchayats, districts and cities would be given by respective State Finance Commissions.
    2. Low transaction cost – The current system is too complex and burdensome. An overhaul of the interstate GST and the administration of the e-way bill to reduce the transection cost and also need to zero rate exports.

    Way forward

    GST is a crucial and long-term structural reform which can address the fiscal needs of the future, strike the right and desired balance to achieve co-operative federalism and also lead to enhanced economic growth. The current design and implementation has failed to deliver on that promise. A new grand bargain is needed.

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