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Rediff.com  » Business » Exempting Kelkar

Exempting Kelkar

By Bibek Debroy
March 14, 2006 14:00 IST
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We should go back to Vijay Kelkar and his three reports. First, the Report of the Task Force on Direct Taxes, submitted in December 2002.

Let's have a quote. "First, by removal of various exemptions, we are in fact enhancing transparency as well as increasing the quantum of income--corporate and personal--that will attract taxes, albeit at lower rates. One of the important points made by some commentators is that our proposals imply a reduction in the developmental role of the State. . .

According to them, tax exemptions are aimed to meet certain development objectives, and a policy of abstaining from tax exemption is synonymous with vitiating these objectives. Tax exemptions are opaque since their incidence as well as implicit cost is non-transparent.

Further, the present 'exemption raj' promotes rent-seeking behaviour, and contributes to the complexity in tax laws. In terms of administration, exemptions more often than not lead to tax leakage and tax abuse, thus increasingly making the system counter-productive and dysfunctional. . .

Hence, the Task Force is of the view that this is not an efficient way of achieving the developmental objectives and that there are better and more efficient alternatives to achieve these goals." This is just a sample quote. The detailed arguments are there in the report.

Second, the Report of the Task Force on Indirect Taxes, also submitted in December 2002. This is more guarded in approach to exemption removal. Even then, "The most direct way to raise tax to GDP ratio is to remove most of the plethora of exemptions granted on import and excise taxes for a variety of reasons, mostly for non-economic considerations."

Third, the Report of the Task Force on implementation of the FRBM Act, submitted in July 2004. "One element of broadening the base comprises addressing the problem of exemptions. For many decades, the tax base has been whittled away through a steadily escalating range of exemptions. The removal of these exemptions will have twin implications.

First, it would lead to a higher tax-GDP ratio. Second, it would enhance GDP growth, since tax exemptions and deductions distort allocative efficiency, undermine equity (both horizontal and vertical), increase compliance costs, impose administrative burdens, and encourage corruption." Since these three reports were under the

NDA government, Vijay Kelkar and his recommendations may very well have been excised, or exempted, from the system. For instance, in Economic Survey 2005-06, Chapter 1, which is the general review that sets out the reform agenda, there is no mention of exemptions. Chapter 2, on public finance, mentions exemptions. However, the phrasing is most careful, "revisiting the tax exemptions." Revisiting is neutral, because through a process of revisiting, exemptions may be decreased, or increased.

But there is salvation still and it comes in the form of paragraph 174 of the Budget speech. "Today, I place before the House another innovation--a statement on revenue foregone, known worldwide as tax expenditure statement. This statement captures the departures from the normal tax regime. This exercise is a first attempt that will be fine tuned in the years to come."

The devastating import of what this means is not evident from the mild way it is stated in the speech. You need to read Annex 12 of the Receipts Budget. Despite caveats about methodology followed in this first attempt, the revenue foregone through exemptions in financial year 2004-05 is Rs 194,091 crore (Rs 1,940.91 billion).

Taxes shouldn't be exported, so one takes out export credits or export-linked drawbacks, amounting to Rs 35,430 crore (Rs 354.30 billion). That still leaves Rs 158,661 crore (Rs 1,586.61 billion) (more than the entire fiscal deficit or the entire Plan expenditure or the entire capital expenditure in 2004-05), broken up into Rs 57,852 crore (Rs 578.52 billion) for corporate income tax, Rs 11,695 crore (Rs 116.95 billion) for personal income tax, Rs 1,534 crore (Rs 15.34 billion) for the cooperative sector, Rs 12,431 crore (Rs 124.31 billion) for excise exemptions through notifications, Rs 18,018 crore (Rs 180.18 billion) for excise exemptions without notifications and Rs 92,561 crore (Rs 925.61 billion) for customs duty (minus the export credit part).

Given the FRBM targets, para 174 seems to implicitly suggest that exemptions will be withdrawn. Not quite, because para 150 suggests otherwise. "The bane of excise and customs tariffs is the plethora of exemptions. On the basis of a comprehensive review, I propose to remove many exemptions that were granted through notifications."

Therefore, no touching of direct tax exemptions. We must have the pause button there. At best, one will touch some indirect tax exemptions, at least those based on notifications. But even then, something is better than nothing.

However, one begins to wonder if different parts of the Budget speech are written by different people, with no logical coherence across sections. Read Part B of the speech, the sections on tax proposals. Read through paras 119 through 148, the segments on indirect taxes, these taxes being the target of the exemption removal attempt suggested in para 150.

And one discovers that fresh exemptions are being introduced. Similarly, on direct taxes, several paras between 162 and 168 involve an additional dose of exemptions. There must be some convoluted logic here that the likes of you and me cannot fathom. After all, one is revisiting reforms, not undertaking them.

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Bibek Debroy
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