GST and Tax Reform: Highlights (Part 2)

The prospects for the passage of the GST Constitutional Amendment Bill have improved since the May 2016 election results. This is because some of the larger states such as West Bengal and Uttar Pradesh (UP) have realized that they as net consumer states are likely to benefit as basis of sales taxation of goods and services shifts from the ‘origin’ basis (states where they are produced) to ‘destination’ basis (state where they are consumed).
Opposing such an important economic reform due to partisan politics has diminishing marginal returns, and is perceived as being counterproductive. As the government gets ready to make another push for the GST in the upcoming monsoon session, we might see the tax reform sooner rather than later. 

Monsoon session, 2015. Source:  India Today .

Monsoon session, 2015. Source: India Today.


(a) What should be treated as point of sale?

(b) Whether e-business is to be treated as market place or inventory model of online business ?

The point of sale in online trade i.e., where the sale is deemed to have occurred, fixes the liability and incidence of tax. For intra-state sale, i.e., where the seller and buyer are in the same state, the Value Added Tax (VAT) rate of that state is applicable and collected from the seller.
For inter-state trade i.e., where the seller and buyer are located in different states, the Central Sales Tax (CST) is applicable and is collected and kept by the state in which the sale originates and not by the destination state. In the case of online trading / selling in the business to customer model, the seller is liable to pay both CST and VAT, depending on location of the seller.
In respect of transactions through e-retailers, there is considerable ambiguity regarding where the sale is deemed to have occurred and hence, in the incidence of tax. This leads to dual tax demand, both at the point of origin as well as at the point of destination.
The second issue relates to who is responsible for the collection of tax. Large e-retailers are of the view that they are providing an online marketplace to both buyers and sellers. Under the marketplace model, e-commerce firms host third-party merchants on their websites and customers buy goods on the sites from these merchants. Thus, the third party vendor/seller is liable to collect the VAT and the online platforms only need to pay service tax on the commission they charge the vendors listed with them.
However, state governments are of the view that these online platforms are inventory-based models as many of the online traders set up warehouses and store goods before any sale has been transacted. Hence, they contend that these online retailers are liable for tax on the sales.

Various state Value Added Tax Acts and the Central Sales Tax Act, 1956 predate online retail activities and do not cover them specifically. Tax rates and rules differ widely across states. Even the definition and treatment of dealers and distributers differ. Further, if the vendor/third party is not registered under VAT in the state of destination, monitoring compliance of collection of tax becomes difficult.


Conscious of the potential loss of revenue from burgeoning e-commerce, states have been undertaking a variety of
strategies. They include:

  • Treating these businesses as inventory-based models and applying local state tax on transactions from local warehouses/distribution centers to buyer;
  • Calling for records of warehouses to verify if appropriate taxes are being paid;
  • Exerting pressure on online sites that do not have warehouses to establish warehouses and distribution centers in their states so that online trades can be easily taxed;
  • Calling for details of sales made by major e-retailers in their respective states; asking them to register themselves as dealers in the state and file applicable returns;
  • Undertaking surveys to assess the loss of revenue from online sales.
  • Apart from these administrative measures, states have also been calling for legislative measures such as amendment to the Central Sales Tax Act to make it easier for them to tax online retail transactions.
  • The Karnataka Government plans to amend its Value Added Tax Act and bring e-commerce marketplace transactions under its purview. It proposes to classify online marketplaces as ‘commission agents’ since they charge a commission from third-party sellers for using their platform and their delivery and warehousing services and make them liable to pay VAT to the state government.


In view of the complex problem faced by countries in taxing e-commerce, India needs to develop a uniform model across States that is easy to implement. Leveraging technology and plugging the gaps in the Statelaws will lower the cost of compliance and monitoring of e-commerce taxation.
India has a system of consumption taxes levied at the Federal and State level on goods and services which constitute the primary source of revenues for both the Federal Government and the States (about half of India’s total tax revenue -broadly defined- is from this source). If Customs duties are added, the share increases even further.
The challenges that the tax revenue is obtained from several separate complicated tax laws, with high compliance costs, which impact the cost and methods of doing business and create opportunities for rent-seeking by various stakeholders. It is this aspect that GST will help mitigate.

Current Sales Tax structure:
The Central Government levies
(i) A Central VAT (CENVAT) on the manufacture and production of goods;
(ii) A Service Tax on a specified list of services;
(iii) A Central Sales Tax (CST) on inter-state sales of goods

  • The States levy a State VAT on the sales of goods within the state.
  • A nationwide GST (Goods and Services Tax) to replace other taxes (Excise taxes, Service tax, Entertainment tax, Octroi and related taxes such as LBT-Maharashtra) all existing indirect taxes levied at the state and national levels is currently being debated.
  • “GST badly needed. Indian freight trucks spend 60% of travel time between cities waiting at check posts to pay taxes & clear formalities. India's logistics costs are 2 to 3 times the international benchmark. GST can cut this large bureaucratic cost & give a huge boost to growth.” Kaushik Basu, The World Bank Group's Senior Vice President
  • It will require a Constitutional amendment as currently the Centre cannot levy sales taxes; and states cannot levy general service taxes.
  • There are 32 parties (Union Government, 29 states, and 2 Union Territories)


  • It is proposed that a GST consisting of a Central GST (CGST), State GSTs (SGST), and IGST (Interstate Sales) be implemented. Under the GST system:
  • The Central and the State governments will tax both goods and services at each stage of the supply chain.
  • The Central Government and States will set their rates separately on an agreed basis. The rate currently being discussed is 16 percent, but no final decision has been made.
  • A destination-based tax will be levied and will operate with full input credit system.
  • Technology to deal with cross border (within the country as well) transactions. NSDL (National Securities
  • Depository Limited), which also manages Tax Information Network (TIN), has been entrusted with the task. It is a public sector company.
  • At the Union Government level, GST will be administered by the Customs and Excise Department. This is unusual as in most countries, GST is administered by the Department administering Income Tax.
  • The reform has missed several deadlines, one reason for which is a lack of consensus (with lack of trust between the two a factor) between Centre and State governments. Prime Minister Modi’s Government, current efforts of “cooperative federalism”, is well positioned to move towards consensus.
  • As Constitutional Amendment needed, earliest start date for GST would be mid-2016.
  • States are concerned about the loss of revenue as they fear that the proposed national GST may encroach the State VAT revenues.
  • They are also concerned about the loss of fiscal autonomy as far as levying taxes is concerned, which is unavoidable if there is uniformity in the rate structure of the proposed GST. The key items of disagreements are: petroleum taxes, liquor taxes, purchase tax on food grains, and entry tax. To retain integrity of GST, it is essential that petroleum tax, purchase tax, and entry tax are included in the GST.
  • The compensation to states is also an issue, but more a political bargaining issue than a technical one.
  • There is also an issue concerning level of sales below which firms need not register for GST.
  • States may prefer lower level (about INR 5 Lakh), ideal would be INR 50 Lakh to minimize administrative burden; (likely compromise around INR 15-20 Lakh).
  • In GST, the difference between Exemption and Zero rating is critical. An exempt fund must pay input taxes on their purchases but are not eligible to get credit for the taxes paid, so the only loss of revenue to the government is at the final stages.
  • A zero rating means that output tax rate is zero, and all input taxes paid by the firms are to be refunded.
  • Exports are usually zero rated, relieving exports from input tax burden. The integrity and the effectiveness of the refund process therefore acquires critical importance
  • While it is legitimate for states to bargain to retain their fiscal autonomy, they should not use it to indulge in predatory competition and export tax burden to non-residents
  • The dilemma is that state can potentially retain flexibility in GST rates and base but the economy as a whole will forego potential benefits, including relatively lower administrative and compliance costs of the GST (Ramachandran 2014).
  • Fiscal autonomy however need not just concern GST rates and base, but other areas. Example: Central government Schemes such as NREGA or Food Security Act, does require state fiscal expenditure, reducing their fiscal autonomy.
  • Narendra Modi led government has addressed this concern by moving several Centrally Sponsored Schemes to the States while increasing devolution of resources to the States to use them according to their own priorities.

Potential benefits associated with the reform: (the extent will depend on the details of design and implementation which are not yet unveiled, the extent of benefits)

  • Tax administration and compliance may be simplified
  • The tax base, laws and administration procedure across the country will be harmonized.
  • GST could potentially permit cross-auditing of returns with income and other taxes, assisting in reducing tax avoidance and evasion. This will however require customs and excise department which is entrusted with the responsibility of implement GST, collaborate closely the Income Tax Department. Merging these two departments to form a unified Indian Tax Administration Service merits serious consideration.
  • May neutralize the cascading effect (i.e. taxes being levied on top of taxes)
  • May boost exports and increase the competitiveness of Indian goods and services.
  • Assist perusal of fiscal sustainability


For exempt firms, states would like both administrative and legal jurisdiction. The Union Government may prefer only administrative but no legal control by the states on C-GST as its revenue is at state, this issue can also be resolved with better trust.
The Bill creates envisages a GST council in which the Union government and the States are members. It will make recommendation of rates, exemption list and threshold limits.
GST decision should have a majority of not less than 3/4th of the weighted votes of the members present (Union government has a weight of 1/3rd and state government together have a weight of 2/3rd ). So the Union
government will have an effective veto over the council decisions.


The recommendations of the 13th Finance Commission (FC), 2010-2015, tabled in Parliament on February 25th, 2010, on GST, are found in chapter 5 of the FC report. These recommendations were however not accepted. The main reason for discussing it is the alternate modalities of implementing GST.
The FC commissioned several studies to develop a model GST, and to assess the impact on international trade and other macroeconomic aspects. It also held wide consultations with the State and Central governments.
The key message of the FC Report is that only if the Model GST is put in place, can all its potential benefit be fully realized (p.64).

GST reform has been called ‘game changing tax reform’ as its one of the most ambitious of indirect taxes that a federal country has attempted. It has the potential to create for the first time a unified national market in India.
Dual Tax, with both Central and State GST components levied on the same tax base. This will increase complexity. The FC estimates that the Model GST will have a tax base of INR 31,000 billion: and the revenue neutral rate will be 12 percent (5 percent CGST, 7 percent for SGST). This is substantially lower that the present 20.5 percent (8 percent CENVAT, 12.5 percent VAT). 12 percent should be the target.
In 2011-12, the state general sales tax (INR 3432.30 billion), the central sales tax (INR 16.54 billion) and the central service tax (INR 950 billion) together amounted to 4.9 % of GDP. The revenue neutral GST must therefore generate the same revenue.
The expectation is that it will generate up to 1% of GDP more than the current arrangements, but much will depend on design, administration and compliance.
The main recommendation, which has been accepted by the government, is the much larger devolution of Central government taxes to the states.
Combined with revenue from coal auctions, and other mining royalties accruing to the states, States will have access to much larger pool of resources.
Challenge is to modernize public financial management systems to take advantage of this.
The opportunity cost of deviation from the 13th FC’s recommendations will be lower tax base (requiring higher rates), and greater administrative and compliance costs


  • Time frame to implement by April 2016 is too short. (Earliest GST can now be implemented is April 1, 2017. Even if the Bill passes in the 2016, GST is unlikely to be implemented in the middle of the Financial Year).
  • Urgency for the states to begin to prepare for the GST however remains. States will for the first time be able to levy sales tax on services (expending their tax base significantly) but have no experience with service tax. So they could consider cooperating with services Tax Division of the Union government, and begin to prepare service Tax Registry.


Current Tax Structure:

  • There is no common tax base between the Central and State governments.
  • The Central and State governments impose different types of VAT either on goods or services and therefore, on a different tax base. These taxes are not necessarily creditable against each other and this may create a cascading effect.
  • The proposed dual GST will be levied on a common base of goods and services.
  • The list of exemptions should be common and a uniform registration threshold should be applied.

GST Rate Structure

  • A single rate is often advocated for GST on the assumption that gains from lower administrative and compliance costs outweigh the loss from efficiency and equity arguments.
  • Optimal tax theory however, argues for multiple tax rates depending on the price elasticity of demand. But amidst information, administrative, equity, distributional and political economy considerations, it may not be viable to have such a policy.
  • A uniform rate structure across states could potentially reduce fiscal autonomy of the States, but will be hugely beneficial in lowering distortions and compliance costs, improving India’s competitiveness' floor rate across states rather than a uniform rate will give states some leverage, but may lead to a complicated multiple rate structure similar to the one prior to the introduction of State VATs.
  • The GST reform proposes that the various Central, State and Local taxes (i.e., amongst others, the CENVAT, Service Tax, CST, State VATs and various entry or luxury taxes) to be replaced by a dual GST.
  • This GST would allow the two levels of government to tax both goods and services at each stage of the supply chain. The Central Government and States will set their rates separately.
  • The Central Government would levy a Central GST (CGST) and the States would levy a State GST (SGST) and each level would determine the tax rates.
  • The CGST, SGST, and IGST are different taxes, hence they should not be creditable against each other.
  • The basic features of the CGST and SGSTs however, such as the provisions regarding the chargeability, taxable event of the tax or valuation and classification, would be harmonized. Rules and procedures should be uniform as well.
  • Unprocessed food items, government and meritorious services like education and healthcare, stationary and books, and life-saving medicines are among the things that are best exempted for equity and administrative reasons.
  • However, it is also important to keep exemptions to a minimum, as they will not enhance the States’ fiscal autonomy, will make the tax base narrower, and will not facilitate comprehensive crediting of input taxes.

In the discussions surrounding the 2016 Budget, the following points relevant to GST have emerged:
1. Minimizing GST exemptions to keep base broad
2. Keeping combined GST rate of Union and State Governments to around 18%. This would imply nominal
service tax rate will increase (it was 14 percent in 2015-16, though effective rate varied, and on many goods,
particularly intermediate inputs used by Indian businesses to decline). This would moderately improve
fairness of the Consumption taxes, including that of Customs duties.
3. The GST rate should not be decided on the basis of revenue neutrality with existing distorted tax system, but
on the basis of wider competitive considerations, and to achieve objectives of reducing compliance costs,
expanding base, and encouraging Make-in –India initiatives. (Asher, 2016).
The IGST of 1% (Proposed for initial years) could be scrapped. This will improve GST design as inter-state
sales should not be taxed. GST does move the taxation from ORIGIN to DESTINATION basis. This may lead
to loss of revenue by states who produce more on net basis than consume. But as the Union Government will
compensate for the shortfall in revenue for full five years, IGST of 1% has little significance for revenue, but it
reduces the benefits from GST.


The Central Government administers the CENVAT, the Service Tax and the CST.
The States administer the State VATs with some coordination between the State VATs as far as the tax base
and tax rates are concerned.
The CGST be levied by the Central Government while the SGSTs will be levied by the States.
The CGST, SGST and IGST are to apply on international cross-border supplies of goods and services, and SGST would accrue to the State of consumption according to the destination principle.
Inter-State supplies of goods and services will normally be subject to an aggregate of CGST and SGST called the Integrated GST (IGST) administered by the Central Government. Since inter-State trade should be taxed at the origin, the Central Government would operate like a clearinghouse compensating the State of consumption.


A compensation package for any revenue loss further to the introduction of VAT was implemented. States were compensated for any revenue loss at the rate of 100% of revenue loss during years 2005- 2006, 75% during years 2006-2007 and 50% during years 2007-2008.
It is envisaged that the Central Government will compensate deficit-revenue States for the first five years following the implementation of the GST. Any compensation should be paid on a monthly basis to smoothen tax flows.
An important issue is that concerning revenue-neutral rates, which have been arrived at by the task force by averaging five different estimates found by different methods. States do not want to lose tax revenue on account of lower rates in the long term, even though they will receive compensation from the central government in the short-run.


In the current system:

  • The CENVAT, Service Tax and CST are levied by the Central Government.
  • The revenues of the CST accrue entirely to the States.
  • The States levy the State VAT and the revenues of the State VATs accrue to them
  • The CENVAT applies only at the production or manufacturing of goods. The Service Tax and the State VATs are destination-based taxes whereas the CST is an origin-based tax.

Implications for Companies:

Transition Issues -Detailed Rules

  • Each Company will need to examine in detail what are the exact software program changes that are needed to be GST compliant. Sound homework by each company on this issue could potentially save fees to be paid to the outside consultants.
  • From the perspective of the Group having several companies, it may be useful to have a central shared services concept, so that the transitional issues into the software program changes needed including SAP and ERP are made coherent on a Group basis.
  • The GST will imply a higher tax rates on services than the current rate of 12%, and may imply lower rates for some goods. This will help pricing policies and marketing strategy implications.
  • Some states such as Gujarat have indicated that they would like to have the provision of additional one percent rate over the standard GST for a limited time. This one percent levy is sunset clause for two years unless the GST council agrees to extend further. This may also complicate the software programs for implementing the GST, and pricing and marketing strategies of the companies.
  • Changes in accounting
  • Each state VAT and Service Tax merged
  • No separate service tax
  • No Octroi and related taxes such as LBT in Maharashtra
  • Entry Tax? : coherence of GST demands abolition of entry tax
  • Exemptions vs zero rating

Implications for Alcohol and petroleum

  • Petroleum is zero rated in the proposed GST Bill, alcohol is excluded from the GST tax base. These features, unless addressed, will reduce the benefits from GST as they lack economic rationale.


India’s GST initiative deserves to be considered a project of national importance. With GST, India will have two Broad-based taxes (the other being income tax), in line with requirements of a modern tax system.
It has the potential to make India a more unified common market, improve revenue generation, and promote equitable tax of goods and services while reducing administration and compliance costs.
But the Federal nature of the country and complex objectives, including preserving fiscal autonomy of the states, will require constitutional change, solid technological base, and a degree of mutual respect and trust between the Union Government and the States.
The challenges of training the staff, and reorientation of tax administration towards greater professionalism, (including modern risk-based auditing practices) will also need to be met.
A strong low cost and efficient arbitration and dispute resolution mechanism for all stakeholders will be essential to reap the benefits of GST. It is evident that a very small proportion of the large tax arrears outstanding currently are recoverable, but it takes disproportionate resources of the tax department. Thus, Minister of State for finance in a written reply in Rajya Sabha has stated that as of April 1, 2015, income tax arrears alone were INR 8.3 trillion, equivalent to 6.6 percent of India’s 2014-15 GDP. This phenomenon must be avoided for GST and kept in mind in other tax reforms.
Given the technical and administrative complexities of VAT/GST, and aggressive tax planning concerning GST, India’s relevant tax authorities would find an active participation in OECD’s Global Forum on VAT.

Networking, regular communication with other VAT officials from different countries, and conscious promotion of learning organization attributes will be essential as India strives towards a modern tax system suitable for its projected USD 5 trillion economy some time before the year 2025.

Asher, Mukul G. (2016), How To approach Setting the Rate structure for India’s GST? MYINDMAKERS, March 2
Asher, Mukul G. (2015) Rationale & Key Requirements For Implementing GST In Indian States, Swarajya,
Bird Richard M. & Smart Michael (2014), “VAT in a Federal System: Lessons from Canada”, Public Budgeting & Finance, Vol. 34, Issue 4, pp. 38-60.
Cnossen S. (2013) ‘Preparing the way for a modern GST in India’, International Tax and Public Finance, vol. 20, no. 4, pp. 715-723.
Ernst & Young: Worldwide VAT, GST and Sales Tax Guide 2015. 
Government Accountability Office, U.S., 2008. Value-Added Taxes: Lessons Learned From Other Countries on Compliance Risks, Administrative Costs, Compliance Burden and Transition.
Gupta, Atul Kumar, 2015 GST Concept & Roadmap, New Delhi: LexisNexis Inland Revenue Authority of Singapore: Annual Report 2012/2013
OECD (2014), Consumption Tax Trends 2014: VAT/GST and Excise Rates, Trends and Administration Issues, OECD Publishing.
OECD, Revenue Statistics in Latin America 1990-2010.
Ramachandran, Narayan, GST: small reform, big impact, Pragati, August 31, 2014.
Nair, R., GST rollout: CBEC looks to curb tax evasion, Live mint

GST: Highlights (Part 1)

India is set to introduce GST, Direct Taxes Code (DTC), Property Tax and organizational structures and governance of tax organizations, with a view to reducing compliance costs and uncertainties. 

India’s International Linkages:

Source:  Livemint

Source: Livemint

  • GDP 2014 Current Exchange Rates USD 2.1 trillion
  • GDP 2014 (PPP) USD 7.4 trillion
  • Trade per capita (US $) 2012-2014 USD 822 Trade to GDP Ratio 2012-2014: 53.6
  • Total Merchandise trade 2014 billion USD 784.6
  • Exports 321.6 (1.69) Imports 463.0 (2.43)
  • Total Services Trade 2014: USD 302.5 Billion
  • Exports 155.6 (3.15) Imports 146.9 (3.07) (% of world total)
  • Total Merchandise+ Services Trade 2014: USD 1087.1 Billion
  • Trade Deficit USD 132.7 Billion
Source: World Trade Organization ( India Trade Profile, accessed on February 4, 2016

Source: World Trade Organization ( India Trade Profile, accessed on February 4, 2016


In India’s international trade in service transactions, Transportation services account for only 12 % of Total Exports, but 52.6 % of the Imports. It is in this sector therefore India will need to be a lot more competitive if it is to manage its large and persistent trade deficit. Recent initiatives of the Indian government on port development and inland transport development are therefore steps in the right direction.

In Merchandise Trade, a less well known indicator is moderately large trade surplus contributed by the agricultural sector. Thus 2014 agricultural products were 13.5 % of the exports, but 5.9 % of Imports. How to increase this surplus is a challenge for India. But it must be met to not just improve the trade balance, but to increase India’s strategic space globally. As agriculture sector is especially challenging in GST administration, how GST rules are structured for this sector will impact on meeting the above challenges. So these will need to be especially monitored. 

Structure of Combined Union and State Government Taxation Revenue of India (Data for 2013-14)

  • Combined Tax Revenue of Union and States : 2013-14
  • Corporate Income Tax : INR 4.5 trillion ( 3.4 % )
  • Individual Income Tax: INR 2.8 trillion. ( 2.2 % )
  • Customs Duties : INR 2.0trillion ( 1.6% )
  • Union Excise tax duties : INR 2.1 trillion ( 1.6 % )
  • State Excises : INR 1.0 trillion ( 0.8 % )
  • Total Excise: INR 3.1 Trillion ( 2.4 % )
  • Service tax : INR 2.2 trillion ( 1.7 % )
  • General Sales Tax: INR 5.6 trillion (4.4 %)
  • General Sales Tax+ Service Tax + Excises=4.4+1.7+2.4=8.5%

In 2014-15, Sectoral composition of India’s Gross Value Added (GVA) was: 

  • Agriculture: 17.0%,
  • Industry: 30.0%, (with Manufacturing Sub-sector share being 17.2 %)
  • Services 53.0%.

India thus derives only 1.7 % of GDP in taxes from services contributing 53 percent of GDP (and even Services Tax was not levied till 1994), and 6.8 percent of GDP from manufacturing largely) contributing only 17.2 percent of GDP. As households spend greater of income on services as incomes increase, in the name of socialism, the Congress dominated governments which have been in power for most of the years since independence, have set up regressive tax system, disproportionately burdening lower half of the Indian households. GST will correct this imbalance.

In OECD: VAT/GST tax revenue averages: 6.2% (in 2012), lower than what India already collects from sales and excise taxes.


  1. The focus currently is on GST and on reforming tax administration.
  2. DTC and Property Tax will be more thoroughly reformed at a later stage.
  3. As intention of GST is to have economic burden borne by the final consumers, it is the consumptions taxes that need to be analysed.

Consumption taxes usually include:

  • Value Added Taxes (VAT and its equivalent in several jurisdictions the Goods and Services Tax – GST)
  • Manufacturing import level sales taxes on goods;
  • Retail sales taxes on goods
  • Excise taxes which are on production of goods and not on sales.
  • Taxes on services (if levied separately from taxes on goods)
  • Customs duties

The taxes can be:

  • Ad-valorem, i.e. as percent of price
  • Specific: in nominal terms per unit.
  • Or a combination of the two.


VAT/GST can be based on:

  • Origin : Where production occurs
  • Destination: where consumption occurs

The destination basis is preferred when the objective is to tax consumption.

The benefits of VAT/GST include:

  • Potentially Low Rate-Broad Base
  • Additional (to income tax) broad-base Revenue Source –Any modern economy needs both.
  • Easier to Exempt Exports
  • Potential to improve accounting standards
  • Can potentially Cope with Ageing Population But Transition Issues

India’s Constitution does not permit the Union Government to levy Sales Taxes on Goods, and the State governments to levy sales taxes on Services. A Constitutional Amendment Bill 2014 (122nd Amendment) will correct this anomaly, once it is passed.


1. Zero Rating vs. Exemption

  • No output tax but receives credit for input taxes; does not have to pay but does not receive credit for input taxes

2. Base Structure

  • Narrow or Wide?
  • Treatment of Small Firms
  • Should Both Goods and Services be Included?
  • Treatment of state enterprises

3. Defining place of supply particularly for services like Uber, Ola. Other digital services, professional services, etc.

4. Transition issues

  • No international experience with dual rate (one at the Union, and one at the State level) for a federal country of this size.
  • Transition costs could be large and prolonged, and flexibility required.

5. Rate Structure

  • Single or Multiple Rates which may be Determined by relative elasticities.

6. Number of Taxpayers

  • Manufactures (M), Wholesalers (W), and Retailers (R) - M+ W+ R will mean large number of tax payers.
  • Capacity, Competence, and Resources of the Tax Administration

7. Treatment of Agriculture, Real Estate, and Finance Sectors

8. Treatment of cross border transactions. In Federal countries, such as India, inter-state transactions are possible

9. VAT/GST may not be Self-Enforcing, but is any tax?


Agriculture is sensitive issue in India as over half of the population derives major part of livelihood from this sector, but it contributes less than one-fifth of India’s GVA.

In emerging economies, agricultural producers are outside the formal sector or do not have sufficient records for an accurate measurement of turnover.

Physical remoteness, seasonal nature (resulting in a mismatch of timing in inputs and outputs) complicate measurement & payment procedures. These result in higher administrative costs.

The sector is often a particular concern in the pursuit of wider distributional objectives. A tax on food is either borne by consumers through higher prices, or by farmers through reduced real income, or a combination of both.

Both of these options are perceived to be regressive (essentially for basic unprocessed vegetables). There is however debate in the literature as many farmers have high incomes.

Moreover, expenditure policies may be more efficient at achieving re-distributive priorities.

This suggests that agricultural products should be fully within the VAT system

Either taxed at regular rates or low rates (possibly zero)

Long-term objective in the treatment of agriculture is clear: tax agriculture as any other good, subject to the

normal threshold.

But high collection costs may validate other methods

Exemption ensures that agriculture is taxed at a reduced but positive rate because of the absence of relief paid on inputs results in distortion in the production and a greater reliance on untaxed inputs.


There is a wide range of lower rates, exemptions and special arrangements under VAT that are frequently designed for non-tax policy objectives. Uniform single rate for both the goods and the services is usually an ideal for tax neutrality, and for ease of administration and compliance. But it is not always achieved, particularly once the rate approaches 15 percent.

VAT preferential treatments are widely used in OECD countries, for equity or social objectives (basic essentials, health, education, etc.) or for practical (e.g. financial services) or historical reasons (postal services, letting of immovable property, etc.).

Broadening the tax base and eliminating reduced rates may help achieve the full potential of VAT.

In 2014, the VAT in Canada was as low as 5% (though in Canada, provinces levy separate VAT), while in Hungary it was 27%.

The OECD un-weighted average rate for 2012 was 18.7%

Source: OECD (2012), Consumption Tax Trends 2012: VAT/GST and Excise Rates, Trends and Administration Issues, OECD Publishing

Source: OECD (2012), Consumption Tax Trends 2012: VAT/GST and Excise Rates, Trends and Administration Issues, OECD Publishing


  • Empirical evidence suggests that a relatively small proportion of firms account for large proportion of potential VAT revenue.
  • More effective to concentrate resources on the largest tax payers, as the revenue to be raised from smaller firms is seen insufficient to warrant the resources required for its collection.
  • Despite significant variation, a useful rule of thumb is that the largest 10 percent of all firms account for 90 percent or more of all turnover.
  • At the margin, a 1% increase in the threshold is initially very cheap in terms of revenue foregone, but becomes much more expensive at higher levels of turnover.
  • If it were not for the costs of administering VAT (incurred by authorities) and complying with it (by tax payers), the best threshold would be zero. This would minimize distortions as well as maximize revenue.
  • It is important to recognize that administrative costs are not exogenous: the costs of coping with each taxpayers depend on design choices as the frequency of audit, the nature of audit, the complexity of the tax structure, and so on.
  • Experience indicates that setting too low a threshold can significantly compromise the political and
  • administrative feasibility of a VAT.
  • Some countries have different thresholds by sector, but limited economic rationale for this.

Part -2 will discuss measuring VAT performance to assess potential for progress, issues in taxing certain sectors, and recent developments in preparing for GST in India.


Indian Union Budget 2016-17: Modi’s Report Card

India’s federal union budget was released on February 29, 2016 against the backdrop of board examinations for students in Classes X and XII nationwide. With the consistent pressure on his administration to focus on economic issues and to help grow the Indian economy, Prime Minister Narendra Modi appeared to have viewed the budget as his very own examination, one where he was being evaluated by India’s 1.2 billion population.

At 11 am IST, Indian Finance Minister Arun Jaitley took to the podium to present the 2016-17 Union Budget. He said it was based on a policy of “fiscal prudence and consolidation” in the face of global headwinds. With a global slowdown of economies around the world, Jaitley identified three major implications as the budget’s priorities: (a) ensuring macroeconomic stability, (b) shifting focus from weak foreign markets to the domestic market, and (c) developing economic reforms and policies to sustain the quality of life in India.

Despite these challenges along with political roadblocks, Jaitley proudly declared that the Modi government has reduced CPI inflation from 9.4% to 5.4% and primed India’s GDP to grow by 7.6% in the next year. He, then, went on to lay out the budget, structured around 9 pillars, each with a transformative agenda:

Agriculture and wealth creation for farmers

  • Given the spate of farmer suicides due to crop failure and improper government intervention, the new budget is strongly in favor of reforms for the agricultural sector. To begin with, the “Pradhan Mantri Fasal Bima Yojana” allocates Rs. 9,00,000 crore to credit farmers with an additional Rs. 15,000 crore to subsidize loan repayment.     

  • In regards to regular irrigation, the new budget hopes to establish a long term irrigation fund within NABARD with Rs. 20,000 crore, which will irrigate 28.5 lakh hectares as well as expedite the completion of existing irrigation projects.

  • To deal with erratic electricity and power in India’s massive rural landscape, the new budget has committed Rs. 8,500 crore to achieve 100% electrification of India’s villages in the next 3 years.

  • Aside from heralding welfare programs for farmers and agriculture technology reforms, Jaitley stressed the need to strengthen India’s food manufacturing and processing sector.

  • The new budget will open up channels for FDI inflow into organic food production as well as connecting farmers and local vendors to foreign markets.

Rural sector with greater employment

  • The new budget announced a generous amount of expenditure on welfare programs for the rural poor. To improve the rural economy and planning, the government hopes to provide an average of Rs 80 lakhs in aid to Gram Panchayats and over Rs. 21 crore to each Urban Local Body.

  • The government also plans to launch a new program Digital Literacy Mission Scheme to bring literacy to 6 crore rural households in the next three years.

Social sector

  • Jaitley announced the allocation of Rs. 2,000 crore towards providing LPG connections in the name of women members of poor households. This would be a massive overhaul of social security reform. The scheme hopes to cover 1 crore 50 lakh households below the poverty line.

  • The government’s health coverage has been increased to Rs. 1 lakh per family, with an extra Rs. 30,000 available for senior citizens.

  • The government has taken a step towards affordable healthcare after recognizing the high treatment cost for Renal Disease, which is widespread problem. A PPP-venture under the National Health Mission plans to start a National Dialysis Services Programme which aims to reduce the cost of the treatment.

Education, skills and job creation

  • The budget has a Rs. 500 crore Stand Up India Scheme focusing on the growth of SC/ST entrepreneurs—especially women. For this purpose, the Center has interacted with Dalit India Chamber of Commerce and Industry to put in place an entrepreneurship ecosystem. The budget calls for the creation of a National Scheduled Caste and Scheduled Tribe Hub to offer professional support and opportunities to SC/ST entrepreneurs.

  • In regards to job creation - especially in the formal sector, the new budget calls for the opening of more Navodaya Vidyalayas in uncovered districts. It is allocating Rs. 1,700 cr to enlarge the scope of the National Skill Development Mission and set up 1500 Multi Skill Training Institutes all over the country.

  • To sustain quality higher education in the country, the government will raise 10 public and 10 private institutions as “world-class teaching and research institutions” to establish more distinguished centers of learning.

To oversee the funding of such endeavors, the Center plans to spend Rs. 1,000 crore to set up a Higher Education Financing Agency, which will behave as a non-profit organization and leverage funds from the market and supplement them with donations and CSR funds.

Infrastructure and investment

  • With the total outlay on roads and railways coming to Rs. 2,18,000 crore, Jaitley announced higher allocation (via center-state cooperation) to the Pradhan Mantri Gram Sadak Yojana. The government has allocated Rs. 55,000 crore in the budget to the development of roads and highways to improve regional connectivity. This would help speed up the construction of 2,23,000 kms of roadways including 10,000 kms of National Highways and 50,000 kms of state highways.

  • To further boost regional connectivity, the government is drawing up an action plan to revive unused and underserved airports. A center-state partnership, will pump Rs. 50-100 crore into 160 select airports and airstrips to make them functional and enhance regional connectivity.

  • Recognizing the efficiency, cost-effectiveness, and socioeconomic impact of public-private partnerships (PPP), the government has decided to allow private entrepreneurs to offer and manage passenger transport services subject, of course, to efficiency and safety norms. This comes in the form of a proposal to amend the Motor Vehicles Act. To assist this the Center will be creating formal guidelines and frameworks for the Public-Private Partnership mode, which includes a credit rating system for infrastructure-based projects.

Financial sector reforms

  • The budget alludes to an ongoing program called INDRADHANUSH, which hopes to revamp public sector banks. Feeding into its banking reforms is a plan for the recapitalization of PSU banks at Rs. 25,000 crore.

  • To top off better public accessibility of financial services, the budget announced a nationwide rollout of ATMs and micro ATMs in post offices over the next 3 years.

Governance and ease of doing business

  • In order to streamline the ease of doing business in India, the Center will appoint a task force with express purpose of rationalizing human resources in various ministries. To achieve this, the Center hopes to employ the e-platform to offer various services as well as monitor the delivery of those services.

  • The budget calls for a Public Utility Resolution of Disputes Bill to be introduced this year to streamline institutional arrangements for resolution of disputes in infrastructure related construction contracts, PPP, and public utility contracts.

  • As part of the government’s enthusiastic drive to support young entrepreneurs, the Center seeks to amend Companies Act (2013) to create a more enabling environment for start-ups.

  1. Fiscal discipline

  • The budget settles on holding the fiscal deficit at 3.5% of GDP. Instead of fixing numbers as fiscal deficit target, Jaitley’s budget prefers a range to allow government room to deal with dynamism.

  • It also asks for a rethinking of the framework of budgetary allocations, proposing to move from the Plan and Non-Plan classification of government expenditure to Revenue and Capital categories.

Tax reforms

The budget’s tax reforms mostly focus around affording relief to low and middle income households, budding entrepreneurs, and hope to contribute to the wealth creation of farmers. Tax reforms include relief to small taxpayers, measures to boost growth and employment generation, incentivizing domestic value addition to help Make in India, among several others.

India’s 2016-17 Federal Union Budget was released amidst a lot of hype. The refrain from the government was that the budget was pro-poor, pro-rural and focused on inclusive growth or “sabka vikas”. If this budget is any indicator, Modi’s government focus appears to be on leveraging technology and entrepreneurship to address issues gripping the nation.  

There is also understanding of the need to build India’s infrastructure and improve India’s ease of business rankings. However, more needs to be done in the areas of seeking foreign investment and boosting manufacturing.

Edited by Sanjana Hariprasad

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Indian Railways Budget 2016-17 : Improvements in transparency and search for new sources of funding

“Rail is not just a mode of transport; it is an engine of India’s growth, … Through the railways, we want to take the country to new heights.”

        Narendra Modi

July 9, 2014

Almost two years since Modi’s aspirations for the Indian Railways (IR), the second Railway Budget was announced on February 26, 2016 by Union Minister, Mr. Suresh Prabhu. Right in the beginning, Prabhu outlined that the ‘Reorganization, Restructuring and Rejuvenation’ of the Indian Railway was all centered around improving the experience of the common man. The budget revolves around innovation, digitizing customer service, transparency, new modes of revenue and infrastructure, and an environmentally friendly vision for the future of the “backbone of India’s progress and economic development.” Some ministers like former Railway Minister Laloo Prasad Yadav, shared their disapproval of how BJP “has derailed the lifeline (IR)” of India. However, Mr. Modi, along with other ministers praised the budget, some calling it “visionary” yet “realistic.”

One of two components that stands out is to find more sustainable and novel sources of revenue for the Indian Railway. Prabhu’s budget aims to fund the capital expenditure without increasing passenger freight rates. Instead of increasing rates, he has resorted to finding new avenues for revenue growth and funding through institutional financing, international bonds and inviting private partnership to participate in investing in the Indian Railway. Prabhu shared the example of LIC, an insurance company, that is providing 1.5 lakh crore over the next five years for various projects. In addition to approaching new external sources of funding, Suresh Prabhu focused on savings from electrifications. The 2000 km of the proposed track would not only be environment friendly but savings from it would also be used to fund the capital expenditure. His budget not only focused on pure growth, but sustainable growth.

The second component of the budget is its ‘common-man centric’ highlights. Transparency in customer service with modern infrastructure, empowerment and assistance for vulnerable populations and acceleration employment opportunities are key measures that Prabhu intends to undertake. He took the pledge of “100% transparency” in all its operations. Prabhu said this includes “online recruitments,” “procurement of works,” “paperless contract management system” moving online to digital platforms on a “Pan-India” basis next financial year. This was asserted with high dependence on use of technology and developing infrastructure to support transparency. The Indian Railway under Prabhu is mastering redressing complaints and getting feedback through social media. This social outreach is coupled with a promise of commissioning “Wi-Fi services at 100 stations this year and at 400 more stations in the next 2 years.” These are bold new moves that Mr. Prabhu has proposed to improve customer service. He was very emphatic in sharing that this budget belongs to the common man.    

This budget has not overlooked vulnerable populations.The railway minister unveiled trains for passengers travelling in the unreserved categories, coaches with potable water and mobile charging ports. Porters will not be called ‘coolies’ and will be trained in soft skills that will allow them to be able work in other sections of the Indian Railway. The Indian Railway minister further proposed that poor farmers be allowed to cultivate food grains on railway land. Women and children have also been paid attention to; 33 percent of the reservation for commercial licensing for stalls in railway stations will be given to women, and there will be food for infants and young children available through a pilot program at the moment.  

With quite an ambitious agenda, the man behind the Indian railways has a lot of work cut out for him for the coming year.

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Economic Survey of India 2015-16: Advancements and Challenges

The Indian Finance Minister, Mr. Arun Jaitley tabled the Economic Survey 2015-16 in the Parliament on 26th February, ahead of the Union Budget. It was principally themed on the macroeconomic policy and outlook, eagerly awaited structural reforms, and poverty. Terming the external environment as a challenging one, the survey’s projection anchors the growth rate at 7.6% for the fiscal year 2015-16. The survey projected a  7-7.75% growth rate for the fiscal year 2016-17 along with a long term projection of 8-10% per annum.

Domestic Economic Advancements and Challenges

The agricultural sector, which employs the highest proportion of the workforce, is witnessing a declining growth rate. The survey states that the agricultural sector needs a transformation to ensure livelihoods for farmers and food security for the population. Bringing excluded areas under irrigation is the foremost agenda to begin with.

The industrial sector grew at 5.9% in 2014-15 and is expected to grow by 7.3% in 2015-16. The manufacturing sector is estimated to grow at 9.5%. While the economy has grown noticeably and is expected to continue to do so, the survey stated that protectionist measures have been constricting the domestic industry. It suggests that India should opt for procedures that are World Trade Organization compliant.

The services sector remains India's primary growth engine constituting 66% of the value added to India's GDP growth in 2015-16. Estimates show a 9.2% growth in this sector in the present year.

Highlights from the power sector include highest increase in power generation capacity, reduced peak electricity deficit, and low tariffs on solar power projects. Challenges in the power sector include complex power tariff schedules, substantial continued use of diesel generators, and increased external electricity procurement by firms.

In regards to financial health of the economy, the Survey indicates that fiscal discipline remains a challenge. The Fiscal Deficit (excess of government’s expenditure over revenue, excluding borrowings) target at 3.9% of GDP remains achievable in this fiscal year. The challenge is to maintain it at 3.5% level in accordance with the Fiscal Responsibility and Budget Management Act, 2003.

Burden on subsidies was controlled due to low oil prices globally. However, the upcoming Seventh Pay Commission (an overhaul of the salaries and pensions of 10 million Central Government employees and pensioners whose payments are approximately worth 0.5% of the GDP) could lead to the fiscal imbalance. To monitor the fiscal burden arising from the proposed recapitalization of banks and the Seventh pay commission expenditure, the survey suggested the government to review its medium term fiscal strategy.

According to the Survey, impaired financial positions of the public sector banks (due to rising Non Performing Assets or the outstanding loans) and some corporate houses are major impediments to private investment and full fledged economic recovery. It suggested a 4R solution (Recognition, Recapitalization, Resolution and Reform) to tackle this problem.

In regards to taxations, the Survey found that only 5.5% of the earning population paid taxes, which translates to 4% of the voting population. The Survey recommends taking this level to 23% by bringing people into the tax net via some form of direct taxation. Specific to corporate taxation, the survey recalls the promise to bring it down from the present 30% to 25%, while phasing out tax exemption related to the corporate sector in an orderly manner.

Turning to the issues in the social sector which include human development and health care, the survey indicated that there needs to be an increase in ‘efficient expenditure’. The survey highlighted that low cost maternal and early life health and nutrition programs offer very high returns on investments. To strengthen the existing public health services and infrastructure the Economic Survey recommends leveraging public and private investments.

Global Economic Advancements and Challenges

The Survey revealed some advancements in the global front. The government’s commitment to ease the business environment to attract overseas is working and Foreign Direct Investments (FDI) have increased tremendously. Additionally FDI shot up by 40% after the Government launched the Make in India initiative in 2014.  

Turmoil in global economy has posed challenges for India. Exports have been falling continuously for 14 months leading to a decline in the trade deficit. Declining export demand and a turbulent stock market due to capital outflow has resulted in a weakening Indian Rupee. Currently the Rupee is nearing ₹70 for $1. However, due to lower oil prices, inflation is expected to decline to a range of 4.5-5% in fiscal year 2016-17, thereby within Reserve Bank of India’s target.


There are some major reforms that are still pending that were highlighted by the Survey. For instance, the Survey expressed its concern over deferment of the Goods and Services Tax (GST) Bill, which aims to harmonize the tax structure throughout the nation. The survey cautioned that India is facing consequences due to the lack of an exit policy that makes it tough for international businesses to pull out from their loss making ventures.

Overall, the survey presented each and every aspect of the economy's health in detail along with future projections which could prepare the policy makers to prepare for the unexpected circumstances.


Edited by Sanjana Hariprasad 

Photo Credit : Mayur Patel