Arvind Subramanian's three principles to ease formalisation woes: It's time these suggestions are acted upon

Arvind Subramanian, who now describes himself as `soon-to-be-outgoing’ Chief Economic Advisor (CEA), has said governments should follow three principles to ease the pain of formalisation for micro and small enterprises. One, keep tax policy simple. He made a pitch for fewer rates, a wider tax base and, concomitantly, fewer exemptions. Two, rethink fiscal targets. These, he said, act as perverse incentives for the tax bureaucracy. Three, try and use incentives more than penalties to get taxpayers to comply.

He said this while in conversation with Karthik Muralidharan of the University of California, San Diego, as part of the 15th India Policy Forum organised by the National Council of Applied Economic Research (NCAER) in Delhi. These are very sensible suggestions, but they have also been made ad nauseum. So how feasible are these?

Subramanian put an immediate caveat only to the third. The partiality towards penalties was because of the problem of stigmatised capitalism, he said. So, governments feel the need to go overboard in going after tax defaulters in order to reinforce and demonstrate the legitimacy of the state.

 Arvind Subramanians three principles to ease formalisation woes: Its time these suggestions are acted upon

A file photo of Arvind Subramanian. Reuters.

True, but the problem is that even as the big defaulters get away (reinforcing stigmatised capitalism and cronyism), it is the small businesses – who may not even be defaulting – that end up bearing the brunt of harassment by the tax bureaucracy.

Subramanian didn’t spell out what form the incentive approach would take, but instead of explicit incentives could the government think of ways to make the process of paying tax easier? This is a major issue for small businesses, as the early experience with GST showed. Relaxing deadlines for filings by small businesses could be one step forward. Finance minister Piyush Goyal spoke in favour of small businesses being allowed to file annual GST returns, instead of quarterly.

A step like this may perhaps add a lot more micro and small enterprises voluntarily in the GST system. Let’s not forget that because of the perceived gains of GST, nearly two lakh enterprises that were below the registration threshold chose to register and 50 percent of these that could have opted for the composition scheme chose to come under the regular filing system.

Ultimately, however, the only solution to get tax babus off the back of enterprises (regardless of size) is to act on the first two principles. It is well known that companies prefer to remain small mainly to escape the tax radar – not all of them are dishonest.

Multiple and complicated tax slabs only give a handle to tax authorities to hound enterprises, nitpicking on whether a commodity or service should fall in 'x' or 'y slab. Companies either pay up – even if the tax is wrongly levied – or contest it, setting the stage for a long battle. Either way, precious resources are wasted in long drawn battles.

But simplifying the tax structure is easier said than done. Subramanian himself admitted that he would have preferred fewer slabs in the GST; but even he feels a two-slab GST is a tad unrealistic. One rate is not possible, he said during the conversation, unless we have instruments to protect those who will be hurt by the inherent regressivity. Why, then, can’t we have three? That means he is ruling out – given the political economy realities – even a two-slab GST. That is not a good sign – a two slab GST is the minimum that the central and state governments owe the country.

Is doing away with exemptions and widening the tax base going to be easy? The widening of the tax base has been done in the case of the GST (though exemptions of specific commodities continues) but remains a knotty issue in the case of direct taxes, again because of political economy considerations.

What governments can certainly do, without angering any vote bank, is to stop setting fiscal targets on tax collections. The need to adhere to targets is what gets taxmen particularly active towards the end of the fiscal year – even large companies are not spared, with demands on tax payments routinely starting from January. Targets are often the cause of unfair tax demands based on nitpicking on rates as well as endless litigation.

Tax revenues under dispute stood at Rs 7.3 lakh crore as of March 2017. The number keep rising each year. Subramanian’s three principles related to the tax ecosystem, because that was the point Muralidharan had raised in the context of formalisation. But small enterprises are tied in a host of other regulatory red tape created by central, state and local level laws and rules covering everything from their premises to their employees to the environment.

But tax-related issues are something the central government can address. All it requires is political will and determination. Why should a government that rammed through a policy like demonetisation allow a few thousand tax officials to set the taxation agenda that affects lakhs of small enterprises and the millions they employ?

(The writer is a senior journalist and author. She tweets at @soorpanakha)

Updated Date: Jul 12, 2018 19:58:11 IST