Finance Minister P Chidambaram calls Value-added Tax (VAT) the most significant tax reform since Independence, but India has been struggling to implement a comprehensive VAT regime since 2001.
The central government has now published the white paper on VAT, but the states are still in various stages of implementation although the deadline is April 1, 2005.
So will VAT come into effect on schedule or will it be another 'April Fool' joke? This is the apprehension among many businessmen across the country.
With just two months to go for the VAT deadline, Nishant Shah, a Mumbai-based expert on value-added tax, feels that VAT will finally become a reality despite several infrastructural problems and ambiguity in the white paper.
Shah has participated in process of the introduction and implementation of state level value-added tax in the states of Rajasthan and Punjab. He has also worked on various tax advisory and compliance assignments in multinational companies.
He is an expert in the field of central excise duty, customs duty, service tax, central & local sales tax, and foreign trade & regulatory matters as applicable in India.
Shah has also addressed many seminars on VAT, export incentive schemes and other indirect tax related issues.
In an exclusive interview, Shah speaks about why India needs VAT, how it will help enhance government revenues, and how it may even hurt consumers in some instances.
Will VAT finally be implemented on April 1, 2005?
Well, the VAT talk began as early as 2001. It was postponed stating that states were not ready then.
Again the finance ministry under the then finance minister Yashwant Sinha proposed to bring it up, but it was put off yet again in 2003.
Since it has been postponed in the past, there are doubts in the minds of people as well as companies but I think there is a 90 per cent chance of it being implemented this time.
Apprehensions are rife because it is a new concept. The government has outsourced some of the work to private agencies so that all the formalities are completed in time.
Why do we need VAT?
It is a clear and transparent method of tax collection, which broadens the tax net, and helps to monitor a large number of people.
It is also a rationalised tax structure; practised and proven to be successful in many leading economies. The VAT regime will help to curb tax evasion and add more revenue to the state exchequer.
Why does the finance minister say that it is the biggest tax reforms since Independence?
I don't know whether it is the biggest reform since Independence, but it definitely is one of the biggest tax reforms. It is bound to succeed provided the laws are clearer and are enforced properly.
What are basic features of VAT and how does it differ from sales tax?
VAT basically replaces state taxes in the forms of sales tax, entry tax, purchase tax and turnover tax.
The basic difference being that sales tax has a single-point levy, while VAT has a multiple-point entry. While sales tax is origin-based (sellers pay tax), in VAT consumers pay tax.
Sales tax does not offer input tax credit, VAT facilitates input tax credit, meaning you can credit the tax paid on purchase of raw material as it would be offset against other taxes one is liable to pay.
In sales tax, assessment is book-based that will be checked by tax officials; in VAT it is self-assessment and the dealer's self-assessment would be audited. While there are incentive schemes in sales tax, VAT has no incentive schemes.
In this multiple system of taxation, the tax is passed on from the manufacturer to the wholesalers who then transfer it to retailers and then finally to customers.
Businesses will not bear the burden as it is finally transferred to the customers. Exports are also zero-rated; goods for export will not be taxed.
There are apprehensions that the states will incur losses in the new regime. Do you agree?
Yes, there could be losses initially. The Centre has said that the state governments would be compensated if found incurring losses. Under VAT, the government must also ensure that false invoices are not made by the traders as this could lead to a major scam.
What are the challenges of implementing VAT?
Well, most of the states are still trying to upgrade infrastructure and are initiating several steps in this direction. Most of the people are not clear, the white paper doesn't give detailed list of items that come under the various slabs of interest.
Several points are left at the states' discretion, which gives little room for any consensus. There has been a delay in enacting several laws and it is still not clear whether all states except northeastern states, which have been exempted, will actually implement VAT.
The states need to upgrade infrastructure and maintain computerised records.
What are the highlights of the white paper?
All the existing dealers must register for VAT. The threshold limit is now increased to 50 lakh (Rs 5 million) and traders with income up to 5 lakh (Rs 500,000) are out of the VAT net.
An 11-digit tax identification number -- or TIN -- is compulsory. The first two digits represent the state code and the rest will be respective state zones. The number can be quoted as the common number for all tax deals in the state.
A 4 per cent central sales tax will be charged for the year 2005-06 for all inter-state transactions. A phase-out of CST will be discussed in October 2005.
Two-tier systems of 4 per cent (for all essential goods covering 270 items) and 12 .5 per cent for all other goods, items with social impact covering 46 items exempt from tax.
Petrol, diesel, alcohol, aircraft turbine fuel, sugar tobacco and textiles get a one-year breather. Additional taxes like turnover tax, surcharges, and additional surcharge will be abolished while entry tax will continue in VAT.
How will the government benefit from VAT?
The two-tier system will bring in new entities, which would be taxed. The compliance level at this stage is about 30 per cent. This would increase to 50 to 60 per cent under VAT.
Also by bringing in more accountability, the government can curb the 'black economy,' which will in turn boost growth.
What will the earning of the national exchequer post VAT?
I cannot actually quantify it in monetary terms, but it will definitely increase as it has in many foreign countries which have implemented VAT.
What benefit will it bring to customer and traders?
Customers will be at the receiving end as the burden is transferred to the them, as VAT is destination based.
While the prices of some articles will go up, the prices of some will come down as well. As for traders, input tax credit will be a great advantage.
What will be the impact of VAT on various sectors?
The big corporates burdened by corporate tax as high as 35 per cent and high sales tax will benefit hugely. The 4 per cent tax will reduce the lock-in of the working capital of the company, which will ensure a smooth business.
The input tax credit, which forms the core of VAT, enables dealers to claim credit of the tax paid or payable on the purchase of any goods made from a dealer registered in the state.
The input tax credit can also be carried forward to the next year. The manufacturing sector will benefit the most from VAT especially the auto industry because it depends on various ancillary units for spare parts.
What is input tax credit?
The policy design of the proposed VAT enables a dealer to claim credit of the tax paid or payable on the purchase of any goods made from a dealer registered in the State. Such tax paid on purchases is known as Input Tax.
However, such Input Tax Credit shall be allowed only to VAT dealers and CST dealers in respect of purchases of any goods made from a registered dealer within the State for the following purposes:
Sale within the State.
- Sale within the country.
- Export out of India.
- Use as packing material.
- Use as raw material or processing material in manufacture of goods other than exempted goods, for sale in the State or country or export out of India.
- Use as raw material or processing material in manufacture of goods for export out of India.
Use in the State as capital goods.
However, in case where the goods are used partly for any of these purposes and partly for any other purpose, the input tax credit may be allowed on proportionate basis.
How efficient is the VAT in developing countries in curbing tax evasion an increasing the state revenue?
VAT has been implemented in 130 countries around the world. It was first implemented in 1954. It is a proven system that is globally accepted. Australia also joined the VAT regime last year. All these countries have proved that VAT pays off in the long run.
Would the VAT implemented in India be in line with globally accepted tax system?
VAT implemented in India essentially replaces, sales tax while other taxes like octroi, excise duties, etc remain as they are. In foreign countries, all the taxes are unified under VAT.
In India VAT is restricted to goods, whereas in foreign countries, it is applicable for both goods and services. In future, Indian too can adopt similar steps to make the VAT structure more effective.
Do you think there should be more amendments to VAT?
The government must ensure that by mid-February, all states should have the VAT implementation details in place and the same be put up in their respective websites.
The opinions and views of traders, business houses and the public must be sought. This will ensure that there is no ambiguity and a rational formulation method can be adopted.
Retails traders are against VAT. Do you think their means are legitimate?
Retailers are against VAT because till now they could evade tax as there were loopholes in the system. In the new system, there is no way they can evade tax.
But I believe that retailers should think about it in the larger perspective -- that their businesses will grow and sooner or later they too will join the big league of traders. It will turn out to be beneficial to them in the long run.
Industry chambers wants a phase out of Central Sales Tax? Do you think it would be a good move?
The government earns about Rs 15,000 crore (Rs 150 billion) from CST. This is a very substantial amount, which cannot be overlooked. The government has decided to review the phase-out of CST in October 2005.
Most of the items that come under the tax slab of 8 per cent will now come under 12.5 per cent. Will this lead to inflation?
Well, it could lead to inflation in some sectors but it has to looked at in a larger perspective. Some products which are charged at 8 per cent now, will be charged 12.5 per cent, at the same time there are several products that are taxed at 15 to 20 per cent which will now come under 12.5 per cent in the VAT regime. So this is a rationalisation policy.
How has your association with VAT implementation been so far?
I have assisted the governments of Punjab and Rajasthan in the implementation process. The governments have been very pro-active. Both the states are almost compliant and will release their VAT draft soon. Most of the states, except Uttar Pradesh, are gearing up to meet the deadline.
The central government has assured all assistance to the UP government to implement VAT, as no state should be left out in this massive tax reform programme.