Reforming India’s Tax Regime

The latest figures released by the income-tax department hide more than they reveal. But even the little they reveal is worrying.

Last week Prime Minister Narendra Modi urged a conclave of tax administrators to double India’s tax base to “10 crore assessees from the present 5.4 crore.”

The very next day revenue secretary Hasmukh Adhia said expanding the tax base to 10 crore assessees was “impossible” and the prime minister’s statement was simply a “benchmark or target.”

The number of income-tax returns filed for the assessment year 2014-15, according to the government’s recently released data, was only 2.9 crore. Of these 1.6 crore were zero-tax returns. Another 1.2 crore were in the tax slab up to Rs. 5 lakh.

So the number of tax returns filed in the tax slabs between zero and Rs. 5 lakh comprised 2.8 crore out of a total of Rs. 2.9 crore returns.

The number of returns in the remaining slabs was as follows:

Interestingly, the total tax collected in the slabs below Rs. 5 lakh was a mere Rs. 49,728 crore at an average of Rs. 41,440 per taxpayer (1.2 crore taxpayers x Rs. 41,440 per taxpayer).

In sharp contrast, total tax collected from the slabs above Rs. 5 lakh was as follows:

Rs.5-10 lakh: Rs. 1.63 lakh crore.
Rs10-25 lakh: Rs. 1.65 lakh crore.
Rs. 25 lakh-Rs. 1 crore: Rs. 17,726 crore.
Rs. 1 crore-Rs. 50 crore: Rs. 10,052 crore.
Rs. 50 crore-Rs. 100 core: Rs. 590 crore.
Over Rs. 100 crore: Rs. 437 crore.

The conclusion?

Out of around Rs. 3.56 lakh crore personal income-tax collected annually from individual assessees, only Rs. 49,728 crore (or around 14 per cent) comes from those in the tax slabs below Rs. 5 lakh.

Besides, as the prime minister pointed out during the tax administrators conference last week, 92 per cent of all direct tax collections come from TDS, self-assessment and advance tax payments. Yet an army of 42,000 tax officials chases, as the prime minister said, the remaining 8 per cent of tax collections.

Clearly, the tax system is inefficient. The key problem is too much of the income-tax department’s resources is wasted following up and monitoring 2.8 crore out of 2.9 crore tax assessees below the Rs. 5 lakh slab who contribute less than Rs. 50,000 crore individual tax collections from a total of over Rs. 3.50 lakh crore – a mere 14 per cent.

The solution?

One, raise the exemption limit to Rs. 5 lakh and free up that army of 42,000 tax officials to chase assessees in higher slabs which account for 86 per cent of annual tax collections. The Rs. 50,000 crore lost in the newly exempted Rs. 5 lakh slab could be easily made up. Moreover, it will put money in the pockets of middle-class earners to spur economic activity.

Two, rationalise tax rates in higher slabs as well and remove exemptions. The simpler and flatter the tax regime, the wider the tax base.

A target of 10 crore assessees may be a stretch but even an increase in the tax base to, say, seven crore assessees will help raise personal tax collections from just over Rs. 3.5 lakh crore today to well over Rs. 5 lakh crore if the extra 2 crore assessees in higher tax slabs pay an average of as little as Rs. 1 lakh each in taxes every year (2 crore x Rs. 1 lakh = Rs. 2 lakh crore).

It is a target well within the reach of a leaner, more proactive tax department.