Rejoinder: GST is a welcome reform, especially for small and medium businesses!

This is a rejoinder to the two recent columns at CRI by Dr. Kiran Kumar Karlapu and Mr. Harsh Gupta, both arguing against the proposed introduction of GST in India.

Let me start this rejoinder with a live example to highlight the current sorry state of affairs of tax administration in the States. A company in Chennai purchases steel coil from Jamshedpur, cuts them to size and supplies steel sheets to its customers. Fairly simple operations, isn’t it?

Apparently not! If its customer is another company in Chennai, then this transaction would suffer 12% TN VAT, and the company cannot avail input tax credit for the CST it paid on the coils. However, if the company supplies the same sheet across border to a player in Tada, Andhra Pradesh, it suffers only 4% CST. This, in a business with profit margin as thin as 3%! The 12% TNVAT immediately makes this company uncompetitive compared to an inter-state player (despite transport costs). So, all companies that are in Chennai now supply to Andhra market and all companies from Andhra supply to Chennai market, where they are more competitive than in their own state! Imagine the wastage of fuel carting all these sheets across states, and the time and money lost in transit and check posts! Won’t a GST address this issue simply? Yes, it will. Both entities will pay GST rate [say 16% on value addition i.e. sale price minus purchase price only] irrespective of whom they supply to. There are a 100 other examples where GST would make life much easier for small and medium size companies. [For large companies, this may not be a serious issue as they would anyway have branches in every major state and can route goods across state and minimize state VAT outgo!]

A uniform GST rate which covers most (if not all) industrial products and services, and single authority to administer this tax would go a long way in helping SMEs in improving their efficiency and competitiveness. If implemented in the true spirit of taxing only value-added portion, this will also improve tax compliance and thereby result in buoyancy in revenues for both state governments and central government.

Let me try to address the key objections raised in both these columns, which are summarized below:

Problem 1: GST would reduce economic independence and autonomy of the states, and will weaken the federal structure

Problem 2: Various exemptions claimed by the states would seriously diminish the goal of a unified market, making it much less useful than what is claimed on paper

Problem 3: Tax administration may be cumbersome and would lead to several litigations and posing undue burden on tax authorities as well as companies

Autonomy of the States: This is the key concern raised by several states, particularly Opposition ruled states, that has led to the current delay in implementing GST. Let us first take a closer look at the revenue composition of a few progressive states to understand the magnitude of the problem.

Given in the table below are the Budget Estimates for Tamilnadu, Karnataka, Gujarat and Haryana for the year 2012-13. [Data source: Respective state government websites, helpfully linked in website run by a dear friend of mine].

If we analyse Tamilnadu Government revenues here,

Gross Total Receipts of the state is Rs. 100,589 crores.

Of these, Sales tax receipts are only Rs. 40,900 crores.

Of these, Sales tax receipts excluding alcohol and petroleum products is only Rs. 21,894 crores

[All proposals of GST have excluded these two items from the scope of GST, given its large impact on state revenues]. If we further remove few other exceptions that are being proposed, the actual amount involved is less than 20% of the budget of the TN State Govt. The impact is broadly similar across other states as can be observed from the last row of the table above.

Moreover, when the devolution of GST to respective states through a transparent sharing formula is articulated in the next Finance Commission, it will be the respective state’s right to demand its share and not a discretionary allocation by the Central Govt, based on its whims and fancies!

And lastly, an interesting comparison here! The State Government Revenues are growing at an annual rate of close to 20%! [TN Govt. revenue receipts were Rs. 70,187 crores in 2010-11, Rs. 85,552 crores in 2011-12 and Rs. 100,589 crores budgeted for 2012-13]. So, we are talking about a maximum impact of GST, which is roughly about one year’s increase in a state’s revenues. Should we make a monster out of GST then?

Problem 2: Exemptions distort the very purpose of GST – a unified market!

Both the authors are forthright in acknowledging the immense benefits of a unified market and a single (or few well defined slabs of) tax rate! But both of them see some problem in implementation – either it is too many exemptions or the rates are too strait-jacketed. So, it is just a question of whether the benefits outweigh the costs or not.

This is classic case of making “good” the enemy of the “better”! By all means we should minimise the exemptions, and by all means, within a reasonable range, we should also aim to allow for variations by state government to local market conditions! But is it fair to expect all these finer issues to be addressed in the first attempt itself, and holding the implementation of GST ransom to such finer issues? Like one of the authors said, it took 19 years to bring Service Tax to an “acceptable” level, and hopefully, GST won’t take that long to fine-tune. But, for such refinements, should we not start somewhere?

Problem 3: Cumbersome tax administration and high litigation possibilities

This is the least of all worries one should have, while opposing GST. The GST is expected to subsume various taxes including State Sales Tax, Central Sales tax, Excise duty, Service Tax, VAT, Luxury Tax, Countervailing Duty, and a few other minor taxes. It is reasonable to expect that this unification would release significant amount of resources at both state and central level which would need re-deployment. And in this age of electronic filings, tax administration is not such a manpower intensive operation as well. In fact, a welcome suggestion of one of the authors viz. using information technology for input tax credit based on unique transaction IDs could enable a smooth implementation of GST, relieving significant pain points for entrepreneurs.

Litigation possibilities exist everywhere, despite well-intentioned and well-drafted laws. This should not deter implementation of a policy framework, if one is convinced that the benefits outweigh the costs.

This brings us to the benefit calculation. Consider the following data (Source: Wikipedia, not very reliable, but will at least give us a direction)

  • Over 140 countries have implemented GST as on date
  • Over 40 different models of GST are currently in vogue across the globe
  • Canada’s implementation resulted in a GDP improvement of about 1.4%
  • Such a magnitude of benefit would mean an annual gain of USD 15 billion for India!

Though this could be an over-estimation, I would vote for implementing GST even if the benefit is NIL for a few years after implementation. The practical considerations from a SME entrepreneur point of view viz. standard rate with easy process for availing input tax credit, level playing field for local and inter-state players, single point tax authority in place of multitude of taxmen, and minimising / eliminating cascading effect of multi-level tax are far more important benefits that will any day outweigh the minor problems addressed above.

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Muthuraman is a friend of CRI.

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