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Tax System in I ndia,

Budget & Fiscal Def icit s in

Ind ia

General Economics


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General Economics: Tax System inIndia,Budget & Fiscal Deficits in India

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TAX Important Source of Revenue of the

Government.

Compulsory Contribution from aPerson to the Expenses incurred bythe State in common Interest of all

without reference to Specificbenefits conferred on anyIndividual.


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Tax

Direct Taxes

e.g. Income

Tax, Wealth

Tax

Indirect Taxes

e.g. Custom

Duty, ExciseDuty, etc.


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Tax Direct Taxes are the Taxes which are not

shifted i.e., the Incidence of which falls

on Persons who pay them to theGovernment. For Example, Income Tax

and Wealth Tax.

Indirect Taxes are the Taxes in which theburden of paying Tax is shifted through a

Change in Price. For Example, Custom

Duty, Excise Duty, etc.


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Merits of Direct Taxes Imposed according to the Ability of the

Person to Pay. (Termed as Progressive

Taxation)

Revenue is Income Elastic as Progressive

Character Revenue increases faster than the

increase in Income.

Create better Civic Consciousness.

Serves the purpose of Transference of

Income from the Rich to the Poor.


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Demerits of Direct Taxes The Ability to Pay is difficult to determine; only

a rough idea can be formed.

Because of Undeclared Sources of Income or

Evasion, the actual payment may not be strictlyaccording to Pay.

Necessitate Proper Maintenance of Accounts

which some of the Tax Payers may not be ableto do.

Cumbersome Assessment Procedure requiringExpert Assistance.


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Merits of Indirect Taxes Convenience in Assessment & relative

Difficulty in Evasion.

Inclusion of Tax in the Price.

May not be Regressive if levied on ad

valorem basis.

Difficult to Evade. Taxes on drinks, narcotics, & tobacco,

serve a Social purpose by discouraging

their consumption.


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Demerits of Indirect Taxes Regressive Character

Do not create Social Consciousness as Payment

of Tax is not felt by the Payer.

Government is not certain about the Proceeds

of these Taxes.

Burden of Indirect Taxes can be shifted Forward

or Backward as such Consumers have to bear

the ultimate burden of Tax.

Can be Evaded by methods as Smuggling,

Falsification of Accounts, etc.


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Indian Taxation System

Indian Tax System is characterized

by:

A High Dependence on Indirect Taxes.Low Average Effective Tax Rates & Tax

Productivity.

High Marginal Effective Tax Rates &

large Tax-induced Distortions on

Investments & Financing Decisions.


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Indian Taxation System

Tax

Direct Tax

Income Tax

Wealth Tax

Gift Tax

IndirectTax

CustomDuties

Excise Duties

Sales Tax

Service Tax


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Income Tax Income Tax is a Tax on the Income

of an Individual or an Entity.

Introduced in India in the year

1860.

Discontinued in the year 1873.

Reintroduced in the year 1886.


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Income Tax Levied on the Income of

Individuals, Hindu UndividedFamily (HUF), UnregisteredFirms & other Association ofPeople (AOP).

Personal

Income Tax

Levied on the Income of

Registered Companies& Corporations.

Corporate

IncomeTax


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Personal Income Tax Incomes from all the Sources are added.

Certain Rebates, Deductions, Expenditure

etc., on account of Life Insurance, MedicalInsurance, Savings in PPF, etc. are allowed.

Whole Income is divided into Different Slabs

and Taxed on the basis of Slab into which itFalls.

Progressive Income Taxation i.e., as Income

Increases, the Rate of Tax also Increases.


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Personal Income TaxIncome Tax Slab (in Rs.) Tax

0 to 1,50,000 No Tax

1,50,001 to 3,00,000 10%

3,00,001 to 5,00,000 20%Above 5,00,000 30%

Tax Slabs are different for Men, Women & Senior

Citizen. For Women there is no Tax for Income below Rs.1.80

Lakh.

Senior Citizens need not pay Tax for Income below Rs

2.25 lakh.


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Corporate Income Tax Rationale for the Corporation Tax is that a

Joint Stock Company has a Separate Entity

& thus should be Taxed separately.

Until 1960-61, Corporations were Taxed in a

Partial sense.

A Corporation was required to Pay IncomeTax on behalf of Shareholders on Dividends

paid to them, & each Shareholder got a

Credit to this effect.


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Corporate Income Tax Since 1960-61, Corporations are being

treated as Independent Entities &

Shareholders are not given any Credit. Corporations are Taxed at a Flat Rate, but

certain Rebates & Exemptions are also

provided. Tax Rates are different for Indian

Companies & Foreign Companies.


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Taxes on Wealth - Estate Duty

Taxes which are levied on Wealth & Capital

are mainly Estate Duty, Annual Tax on

Wealth & Gift Tax.

Estate Duty was First Introduced in the year

1953.

Estate Duty is levied on the Total Propertypassing to the heirs on the Death of a

Person.

Estate Duty was abolished in the year 1985.


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Annual Tax on Wealth Annual Tax on Wealth was introduced in 1957.

Annual Tax was levied on the Wealth such asLand, Bonds, Shares, etc. of the People.

Certain Types of Properties such as AgriculturalLand & funds in Provident Account wereexempt.

Wealth Tax was abolished in 1993 on all assetsexcept certain specified assets such as ResidentHouses, Farm Houses, Urban Land, Jewellery,Bullion, Motor Car, etc.


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Gift Tax Gift Tax was introduced in 1958.

Gift Tax was leviable on all

Donations to Recognized

Charitable Institutions, Gifts to

Women Dependents & Gifts toWife.

Gift Tax was abolished in 1998.


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Custom Duties Custom Duties are levied on Exports & Imports.

From the point of View of Revenue, Importance of

Export Duty is Limited.

Import Duties are levied on the basis of ad

valorem.

In Pre-Tax Reform Period, India had become a

country with one of the highest levels of CustomTariffs in the World.

Since 1991, the Custom Duty Structure was pruned.

Maximum Rate of Custom Duty is 10% now.


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Excise Duties An Excise Duty is levied on Production & has

absolutely on Connection with its Actual Sales.

These are levied by the Central Government in

a number of forms.

Taxation on Inputs, such as Raw Materials,

Components has a number of Limitations.

To remove these, Government introduced

Modified Value Added Tax (MODVAT) in 1986-

87.


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Excise Duties Value Added is the difference between a

Firms Revenues & its Payments to other Firms

i.e., it is the Value Difference between Sales &

Purchased Items.

Under MODVAT, a Manufacturer can take

Credit of Excise Duty paid on Raw

Materials and Components used by him in

his Manufacture.


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Excise Duties Since it amounts to Excise Duty only on

Additions in Value by each Manufacturer

at each stage, it is called Value-Added-Tax(VAT).

MODVAT differs from VAT.

VAT covers the entire value of Inputswhere as under MODVAT Duty paid Inputs

only.


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Excise Duties To Overcome the Limitations of MODVAT,

the Budget 2000-01 introduced the Central

Value-Added Tax [CENVAT].

CENVAT is applicable on the Excisable

Goods made in India.

Basic Excise Duty is 16% & some SpecialExcise Duties which are levied in addition

to CENVAT.


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Excise Duties The basic Excise paid on Excisable Goods

can be deducted from the Excise collected

on the Output so that only Tax on Value

Added is paid.

CENVAT reduces Cascading effect of Input

Taxation. System has certain shortcomings such as

Cumbersome Procedures, Inadequate

Coverage of CENVAT, scope of Tax-Evasion.


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Sales Tax Sales Tax is a Tax on Business Transactions.

In India, many Commodities are not covered bySales Tax.

Sales Tax is more in case of Luxury Items & Less oralmost nil in case of Necessities.

Registered Trading Concerns are required to pay theSales Tax to the Government who shift the Burden

to the Customers.

Problems: Cascading Effect, Lack of Transparency,Narrow Base, different Procedures followed by

different States, etc.


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Value Added Tax (VAT) VAT is a multistage Sales Tax with credit for

Taxes paid on Business purchases.

VAT is non-cascading. Tax is levied on Value Addition at each

stage of Transaction in the

Production/Distribution Chain. VAT was introduced in 1999 & was

Implemented in April, 2005 in some States.


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Value Added Tax (VAT)Benefits of VAT:

A set off will be given for Input Tax as

well as Tax paid on Previous Purchases. Other Taxes such as Turnover Tax,

Surcharge, etc. will be abolished.

Overall Tax Burden will be

Rationalized.

Price will in general Fall.


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Service Tax Service Tax is a form of Indirect Tax

imposed on Specified Services called

Taxable Services.

It was introduced in the year 1994-95.

Service Tax Network has expanded tocover many Services over the Years.


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Features of Tax Structure in India

Tax Revenues (on account of the Centre, State &

Union Territories) form about 20% of the Total

National Income of India (2005-06).

Among the Third World Countries, India is oneof the Highest Taxed Countries. Reasons Being:

Spectacular Rise in Expenditure on Defense &

Other Non-Developmental activities. Increase in Expenditure on Development Planning.

Violation of the Canon of Economy.


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Tax Revenue collected by the Central & State

Governments has increased from Rs.460 crore

in 1951-51 to Rs.6,89,000 crore in 2006-07.

The Ratio of Direct to Indirect Taxes has

declined from 40:60 in 1950-51 to 20:80 in

1990-91.

Share of Direct Taxes in the Gross Tax Revenue

was 35% in 2005-06 & Indirect Taxes was 65%.


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Among the Working Population of 40%, only2.5% is liable to pay Income Tax in India. As such,Indian Tax Structure relies on a very NarrowPopulation Base.

Total Tax Revenue is highly Insufficient to meetthe Expenditure requirements of the Economy.

Direct Taxes are Progressive, Indirect Taxes areDifferential in Nature.

Agriculture Income is wholly exempt from theIncome-Tax despite the fact that a new class ofRich Farmers has emerged in the Country whichcan easily pay Taxes.


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Evaluation of Indian Tax System

The system of Taxation does not conform toCanon of Equity as

The Indirect Taxes form a big percentage of Total Tax

Receipts which generally fall heavily on the PoorerSection of Population.

People with Higher Incomes are Evading Tax with the

consequent Increase in the Tax Burden on people

with Lower Income.

Inflexible Taxation System as it largely depends

on Urban Incomes & leaves out Agricultural

Income.


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Service Sector which accounts for more than

50% of GDP contributes just 7.8% towards Tax

Revenues & 0.8% towards GDP.

The Booth Lingam Committee & Chelliah

Committee recommended Simplification &

Rationalization of Tax System in India.

The Cost of Tax Collection has increased from

Rs.543 crores in 1990-91 to more than

Rs.3,663 crores in 2006-07.


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Evasion & Tax Avoidance are reported to

be very High.

Black Money is generated at the Rate of50% of the countrys GDP.

Indian Tax System is also accused of

Discouraging Employment.

Distorting Prices.

Adversely Affecting Savings.


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Budget Deficit Budget is prepared by the Government of

India showing the Expected Receipts &

Expenditures in the coming Financial Year.

Receipts of the Government come from

Taxes (both Direct and Indirect), Profits

form various Financial Institutions,

Government Commercial Undertakings,

Interest from Loans given to Other

Governments, Local Bodies, etc.


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Budget Deficit The Expenditure of the Government are on

Developmental Projects such as Construction of

Roads, Railways, Production of Energy & Non-

Developmental Expenditure on a Large Number of

Activities such as Defense, Subsidies, Police, Law &

Order, etc.

If Receipts are equal to Expenditure, the Budget is

said to be Balanced. If Receipts are higher than the

Expenditure, the Budget is said to be Surplus & if

Receipts are lower than the Expenditure, the

Budget is said to be Deficit.


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Budget Deficit Budget Deficit is thus the

Difference between Total

Receipts and Total Expenditure(Revenue plus Capital).

If Borrowings and other Liabilities

are added to the Budget Deficit,

we get Fiscal Deficit.


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Fiscal Deficit Fiscal Deficit, measures that part of

Government which is Financed by

Borrowings.

Fiscal Deficit in India is a more

Comprehensive Measure of the

Imbalances. It is the measures of Excess Expenditure

over the Governments own Income.


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Calculation of Budget & Fiscal Deficit

1990-91 Rs.(Crore)

2004-05 Rs.(Crore)

1. Revenue Receipts 54,950 3,51,200

2. Capital Receipts of which

a) Loan Recoveries + Other Receiptsb) Borrowings & Other Liabilities

39,010

5,71033,300

1,63,144

12,0001,51,144

3. Total Receipts (1+2) 93,960 5,14,344

4. Revenue Expenditure 73,510 1,15,982

5. Capital Expenditure 31,800 67,8326. Total Expenditure (4+5) 1,05,310 5,14,344

7. Budgetary Deficit (3-6) 11,350 Nil

8. Fiscal Deficit

[1 + 2(a) 6 = 7 + 2(b)]

44,650 1,51,144

T d i I di B d t &


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Trends in Indias Budget &

Fiscal Deficit Budget Deficit does not show the True picture of

Government Liabilities & hence a True Picture ofthe Financial Health of the Economy, the Practice ofshowing Budget Deficit in the Budget was given upin 1997.

Government now taps 91 days Treasury Bills fromthe Market and shows it as part of the Capital

Receipts under the heading Borrowing and otherLiabilities.

Budget now show Fiscal Deficits to show theOverall Shortfalls in the Public Revenues.

T d i I di B d t &


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Fiscal Deficit Fiscal Deficit focuses on/measures the Total

Resource Gap & as such fully reflects the

impact of the Fiscal Operations of the

Indebtedness of Government.

It is the measure of Excess Expenditure

over the Governments Own Income.

Over the Years, Fiscal Deficits have grown

rapidly & have become the Cause of

Concern.

T d i I di B d t &


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Fiscal Deficit

In the fifteen year period of 1975-90, the

Fiscal Deficit of the Central Government rose

alarmingly from 4.1% of GDP to 7.9% of GDP.

Non plan Revenue Expenditure particularly

on Defense, Interest Payments, Food &

Fertilizer Subsidies rose sharply during 1980s. Reforms were taken up from the year 1991 to

restore the Fiscal Discipline.

T d i I di B d t &


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Fiscal Deficit

As such Fiscal Deficit was reduced to 4.1% in

1996-97.

Rose again in 2000-01 & stood at 5.6%. Fiscal Responsibility & Budget Management

(FRBM) Bill was introduced in 2000 & FRBM

Act was passed in 2003. As a result, the Fiscal Deficit has been

reduced & stands at 3.6% (2006-07).


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Q 1Which of the following is not the Merit of

Direct Taxes. Find it.

a) They are imposed according to theAbility of the Person to Pay.

b) These Taxes create Civil Consciousness.

c) The Revenue is Income Elastic.

d) They do not require maintenance of

Accounts.


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Q 2Find the Tax which is Direct Tax

among the following:

a) Personal Income Tax.

b)Excise Duty.

c) Sales Tax.

d)Service tax.


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General Economics: Tax System inIndia,Budget & Fiscal Deficits in India 47

Q 3Indian Taxation System is characterized by:

a) A High Dependence on Indirect Taxes.

b) Low Average Effective Tax Rates & TaxProductivity.

c) High Marginal Effective Tax Rates &

large Tax-induced Distortions onInvestments & Financing Decisions.

d) All of the Above.


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Q 4Among the following types of

Taxes, find the one which is

Indirect?a) Gift Tax

b) Corporate Income Taxc) VAT

d) Wealth Tax


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Q 5Which of the following statements is

Correct?

a) Income Tax was abolished in India in1991.

b) Gift Tax was abolished in India in 1998.

c) All the States have adopted VAT System

of Indirect Taxation.

d) Estate Duty was abolished in 1995.


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Q 6Which of the following statements is

Correct?

a) Excise Duty is levied on Sales Volume.

b) Custom Duties have been drastically cut

down since 1991.

c) VAT has been adopted by all the States inIndia.

d) Agriculture contributes the Maximum to the

Direct Tax Revenues in India.


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Q 7When the Government tries to meet the

Gap of Public Expenditure & Public

Revenue through Borrowing from the

Banking System, it is called ___________

a) Deficit Financing.

b) Debt Financing.c) Credit Financing.

d) None of the Above.


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Q 8_________ is the difference

between Total Receipts & Total

Expenditure.a) Fiscal Deficit.

b) Budget Deficit.c) Revenue Deficit.

d) Capital Deficit.


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Q 9If Borrowing & Other Liabilities are

added to the Budget Deficit we

geta) Revenue Deficit.

b) Capital Deficit.c) Primary Deficit.

d) Fiscal Deficit.


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General Economics: Tax System in

India,Budget & Fiscal Deficits in India 54

Q 10FRBM Act stands for

a) Fiscal Revenue & Budget Management.

b) Foreign Revenue & BusinessManagement.

c) Fiscal Responsibility & Budget

Management.

d) Foreign Responsibility & Budget

Management.


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Q 11On which of the Following, Income Tax

is not imposed in India?

a) Income from Salary.b) Income from House Property.

c) Interest on Fixed Deposits.

d) None of the Above.


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Q 12PPF stands for:

a)Private Provident Fund.

b)Personal Provident Fund.

c) Public Provident Fund.

d)Public Presidency Fund.


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Q 13Income Tax was introduced first time

in India in 1860 & then discontinued

in1873. It was re-introduced in theyear:

a) 1885

b) 1886

c) 1887

d) 1890


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Q 14Which of the following is not

the example of Direct Tax?

a) VAT

b)Wealth Tax

c) Corporate Tax

d)Income Tax

Q 1


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Q 15Excise Duty is imposed on

a)Goods Imported in India.

b)Goods Sold in India.

c) Goods Manufactured in India.

d)Goods Exported from India.

Q 16


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Q 16Wealth Tax was abolished in:

a)1985

b)1998

c) 2005

d)False it is still continuing

Q 17


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Q 17CENVAT was introduced in the

year:

a)2001-02

b)2000-01

c) 2002-03

d)2004-05

Q 18


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Q 18The Basic Rate of Excise Duty is:

a)6%

b)16%

c) 24%

d)None of the Above.

Q 19


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Q 19Ad Valorem Duty means Duty

imposed on the basis of:

a) Percentage of Price of Commodity.

b) Per unit of the Commodity.

c) Both (a) & (b).d) None of the Above.

Q 20


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Q 20Under which of the following Tax

System, more Tax is imposed on

the Lower Income Group?a) Regressive

b) Progressivec) Value Added Tax

d) Proportional Tax


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Tax System in India, Budget &Fiscal Deficits in India

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