Written by- Ronak Pol
Published on 7th August 2016
On August 3rd a historic landmark was achieved in Indian Politics and GST bill was passed unanimously.
Almost entirety of media have covered how GST will change things for the Indian consumers, and an over simplification will be that some things will become cheaper for Indian consumers as taxes will go down while services might become more expensive. But for this article our focus is on the effect of GST on Government budget.
We know from Econ101 that tax revenue is a major part of Government income which is then used for budgetary spending. The difference between Government income and Government expenditure will constitute as budget deficit or budget surplus.
GST: Things you should know.
GST or Goods and Services Tax will in no way alter your direct taxes(Income Tax). GST will change the way you pay your indirect taxes by introducing a unified tax rate.
GST does away with all indirect taxes and brings in a single tax collected by Central Government. To answer how GST affects Governments (Central/State/Local bodies) we need to understand different taxes and who collects what.
As there are many indirect taxes we will focus only on the major ones and this small story will help you understand it better.
- Manufacturer ——> Wholesaler
Lets say you manufacture a goods “X” and it costs you 100$ to manufacture and lets say your manufacturing unit is in “MIDC Pune” when you send these good to your wholesaler for $120 you have to pay two taxes,viz. “Excise duty” (@12.5% collected by Central Govt) and “VAT/CST” (Value added tax/Central Sales Tax @ 12.5% collected by Gtate Govt/Central Govt).PS: Some goods come under State excise jurisdiction but assume our goods X does not and the duty is paid to the Center. CST is paid when goods are sold outside the State boundaries let us assume goods X is sold within the State boundaries. Also note that tax rates vary according to different commodities.
Regular System -Center: Excise Duty (15$ – 12.5% on 120$)
State: VAT (15$ – 12.5% on 120$)
Under GST – Center: GST (21.6 – 18% on 120$)
- Wholesaler ——–> Retailer
Once wholesaler receives the goods he will add his margin and send it to the retailer @150$ lets say in Mumbai. Again in this case 2 taxes come into play VAT (@ 12.5% collected by state govt) and Octroi (@4% collected by Local municipal corporation – BMC in Mumbai)PS: VAT is paid not on the difference but on the entire amount and individuals receive input credit for the amount of VAT paid by other individuals down the supply chain but for ease of explaining we show the net VAT paid.Tax Collected.
Regular system – State: VAT (3.75$ – 12.5% on 30$)
Municipal bodies: Octroi (6$ on 150$)
Under GST – Center: GST (5.4$- 18% on 30$)
- Retailer ——> Consumer
Lets say the goods is sold for @200$ at this stage under the regular system individual pays only VAT which is collected by the state department.Tax Collected.
Regular system – State: VAT (6.25$ – 12.5% on 50$)
Under GST – Center: GST (9$- 18% on 50$)
Regular System : Center= 15$ ; State= 25$ ; Local bodies = 6$ ; Total = 46$
Under GST : Center = 36$
GST in this case has reduced tax collection for government bodies by ~21.73% which is significant. Now I agree that this is a very simplistic example and does not cover the entire spectrum of goods, but it does highlight the issue of government income going down. I also recognise that for certain sectors GST will actually increase their effective tax rates but for our goods X, Government lost revenue.
Another striking feature is that Municipal corporations will face a signficant loss of revenue. For Corporations like BMC; Octroi collection accounts for over 20% tax receipt and stood at ~6,850 crore. The loss of revenue for such bodies will be significant.
Why GST if government loses revenue
The question of why will any Government levy GST if it hurts their income is valid. The simple answer would be because it reduces administration cost significantly. In the current system we have various mutually exclusive departments that do not share resources or information, bringing in GST will help administrators to merge their resources and form a more efficient Tax collection body.Levying a single tax at a flat rate it will also help by bring both clarity and ease in the way tax is paid and collected. Government hopes that these two put together will improve collection rates and in the long run compensate for the loss of revenue.
A reduction in government jobs is almost certain, but we can safely say no one will from the current regime will lose their jobs and only be reassigned.
The issue of loss of revenue for Municipal bodies still remains and Central Government will have to work with the States to come up with a plan for fair distribution of tax collected so as to not damage local budgets.
Once ratified by the States and signed by the President, GST still has a long way to go to be accepted by Indians. It is definitely a progressive step and holds tremendous potential if levied properly, but also has the potential to damage Government budget. Consumer acceptance of the law is still questioned but the current scenario paints a positive picture.
Once passed GST will be a political victory for the Government and if implemented properly will prove to be a feather on BJPs political cap.