By: V. K. Garg
India’s central and state governments have been holding discussions on the structure of a newly proposed Goods and Services Tax (GST). The proposed GST will be a comprehensive value-added tax, which is aimed at replacing the present system of myriad provincial and federal levies on the movement and sale of goods and services with a unified national VAT. The reform is considered important to prepare India as a common single market and remove a large number of tax distortions that hamper the competitiveness of Indian business.
A bill to amend the Constitution was introduced in Parliament in March 2011. The amendment is being evaluated by a parliamentary committee in consultation with stakeholders, including the states and potential tax assessees. The amendment can pass only if approved by a majority of the members of both houses of Parliament and two-thirds of those members present and voting. In addition, the amendment must pass by a majority of at least half the legislatures of the states. It would be highly desirable if the bill could be passed with overwhelming majority, if not complete consensus.
Indian GST is proposed to be a dual GST, with both the central and state governments levying, as well as collecting, their respective GSTs (to be known as Central GST and State GST) on an identical tax base. Since GST will be collected by two different tax authorities it is of the utmost importance to achieve a high level of uniformity and harmonization in business processes between centre and states, but more importantly across all the states. It is here that a number of issues need to be sorted out before the GST becomes a reality.
The paramount issue is that many states perceive that the proposed GST would restrict their fiscal autonomy to levy their own taxes or grant exemptions. This demand, though otherwise legitimate, needs to be balanced with the need to avoid both predatory competition and opportunities of tax arbitrage that are imminent if rates vary widely across borders.
States levy a plethora of taxes in the existing regime and any replacement of these taxes by GST has natural consequences, which are at times not fully palatable to the affected parties. Thus some states, who are rich in minerals or are centres of industrialization, are arguing that the amendment threatens their existing revenues from origin-based taxation on inter-state movement of goods, which is slated to be replaced with taxation on destination principle. Some others feel impacted by the possible abolition of a tax on the entry of goods in the geographical boundary of a local municipality.
Other issues have been raised by business. The foremost amongst these would be that GST should be far more comprehensive and include petroleum, electricity and alcohol (which are presently outside), so as to help business remove the impact of input tax that goes in the manufacture or sale of these products. Small business and retailers, who are presently handled exclusively by the state administration, are apprehensive of the dual control that may become inevitable when the two GSTs are imposed and collected by both centre and states.
Over the last few months much headway has been made in achieving a broad consensus on the various contentious issues. Centre and states are now agreeable to a standard rate as a floor rate, with autonomy to fix tax rates over and above this threshold within a narrow band. There will be a lower rate for necessities and a separate rate for bullion. Both rates are expected to be applied uniformly. There is agreement to allow states to grant additional exemptions beyond the standard exemptions for goods of local importance and to the centre, so long as the exemptions are applicable to the entire country.
An important understanding is the identification of the basic features of the GST, which will be implemented uniformly across the entire country. These will cover all the essential contours of the GST such as basic definition, taxable event, valuation, classification, provisions relating to time and place of supply, business procedures, input tax credit provisions, and the method of levying tax on inter-state transactions.
There is also broad consensus that petroleum products need not be kept out of the constitutional amendment, though they may not be subjected to GST to start with.
The issue of dual control has achieved a broad consensus with both sides working on a threshold below which tax-payers could be handled exclusively by state administration. A similar threshold could also be considered above which tax-payers could be handled exclusively by the centre.
Having achieved a broad consensus on the constitutional design of the GST, the states are seeking greater clarity on certain operational aspects before taking the final plunge. Three committees of officers drawn from centre and states have been tasked to submit their reports by the middle of May this year on aspects such as determination of the GST rate, standard exemptions and thresholds for exemption and eliminating dual control, place of supply rules and the IT design for inter-state supplies.
A common IT portal, to be known as GST Network (GSTN), is being established as a non-profit company and its chairman has been recently appointed. GSTN will be owned with 51% equity participation by some leading private financial institutions and 24.5% with the central government and the remaining 24.5% with all state governments, equally distributed.
GSTN will provide the logistic support to carry out practically all the business processes relating to the actual implementation of GST. It will also serve as a clearing house to settle the tax dues between the states on the inter-state movement of goods and services.
Interstate Supplies Of Goods And Services
Unlike GSTs in many other parts of the world, India is attempting a nation-wide GST with seamless movement of goods and services and a near rarity with two separate tax collecting authorities. This would require that the tax chain remains unbroken when goods and services are supplied from one state to another.
Borrowing somewhat from global models, India is attempting its own version for taxing interstate supplies at a federal rate that will be sum of central GST and state GST. The federal rate on interstate supplies will be called integrated GST or IGST and will be collected at the point of origin. The state GST portion of the IGST will be transmitted to the state of destination through the mechanism of a clearance house.
IGST paid on inter-state supplies at the point of origin will be available as input tax credit at the point of destination. Rules of business allow the adjustment of IGST first to settle any liability on account of IGST on outputs and then to pay central GST and lastly state GST. As already mentioned a committee of central and state officers is looking into certain aspects of the new model so that it meets all the various diverse concerns on the subject.
The broad consensus achieved so far and ongoing work in the three committees is expected to be placed before the parliamentary committee evaluating the GST constitutional amendment bill.
Even as the constitutional amendment is under consideration, the federal government has been introducing some key changes under the existing central laws relating to indirect taxes. The aim of these early legislative proposals is to get a head start at this stage to acclimatize both businesses and tax administrators with the impending changes and thereby reduce the lead time once the constitutional amendment is passed.
The foremost amongst these changes has been the introduction of a negative list of services (i.e., a list of services that is exempt from service tax) in 2012, replacing the current list of specified services that are subject to service tax.
Services constitute nearly 65% of GDP. Yet the services sector contributed only about 25% in consumption taxes. The new changes are designed to eliminate overlapping definition of specific heads of services that were prevalent earlier, and at the same time significantly expand the tax base taking it closer to the contribution of services to GDP.
The centre had a list of 370 exemptions while the states had 99. This gap has been considerably reduced in recent times. In the area of imports it is now mandatory to declare the destination where goods are meant to be finally used so as to be able to reach the revenue in the GST scenario to the destination state.
Another major change is the introduction of Place of Provision of Services Rules in July 2012. As the federal government levies and handles service tax, the rules for now will mainly address cross border services and to a minor extent transactions with the State of Jammu and Kashmir, where the present statue does not apply. However, they are the harbinger for GST where the distribution of revenue from services amongst states will depend on the place of their consumption.
In this respect the new changes are consistent with international best practices. The default rule, which covers a large majority of business-to-business transactions, is entirely based on OECD guidelines that the place of supply is the location of the recipient.
The rules may undergo some changes when GST is finally introduced in light of the suggestions from the states. But the rules are expected to principally provide the basic framework for taking the discussion further.
Point of Taxation Rules were introduced earlier to align the time of taxation of services with international practices and to a considerable extent with accrual based taxation in the case of goods. The new rules provide that the time of taxation of services will be the time of issue of invoice or time of payment whichever is earlier. A period of 30 days (45 days for the banking industry) is provided to issue an invoice from the date of completion of service, failing which the date of completion of service will reckon as the time of taxation.
The 2012 Budget has largely adopted the OECD guidelines relating to neutrality about the distortive practice of businesses passing through their burden of taxes to the end consumer. Budget 2012 has removed cascading in a number of services like hotel accommodation, restaurants, construction, life insurance, transportation by railways by permitting utilization of tax credits that were earlier blocked by a rather complex system of taxation of partial values of such services. (Cascading taxes are taxes that must be paid at every stage in the supply chain, without any deduction for the tax paid at earlier stages.)
Voluntary Compliance Encouragement Scheme
Budget 2013 has recently proposed a new scheme to help service tax defaulters, who have failed to file their tax returns in the past, to make truthful declarations and pay their past dues without the burden of interest or penalties. The scheme will help many potential tax-payers who failed to approach the tax authorities in the past for the fear of being hauled up for past violations. This will set the stage for a smooth transition once the GST is rolled out.
On the whole, despite some delays in meeting the deadline, India is much closer to an eventual GST, and both businesses and tax administrators are far more confident about handling it when it is finally implemented. By recent indications, that date does not appear to be too far off.
The author is Joint Secretary with the Ministry of Finance, Government of India and heads its Tax Research Unit (“TRU”) in New Delhi. He is also a key member of the team assigned with the task of implementing GST in India. An officer of the Indian Revenue Services, he has nearly 30 years of experience in the design and implementation of indirect tax laws in India and is the recipient of the President of India Award for distinguished record of service. The views expressed are personal. The author can be reached at firstname.lastname@example.org)