Tax Tentacles – 4: Redefining What to Tax
It is time to re-examine the concept of tax on total income with the attendant hassles of inclusion and exclusion of incomes. We need to divert the income streams at source for public purposes. That would cut the tax tentacles at the root 

System Check

Income tax (I-T) originated in most countries as a means of filling the war chest. In India, the first income tax act was in 1860 to meet financial difficulties caused by the mutiny and was in force for five years. It imposed tax on each component and aggregation was not material. The great famine brought a revival in 1876 as a license tax on traders and continued for 10 years. From 1886, aggregation of income was material only for the initial exemption limit. The 1918 Act followed by the 1922 Act introduced the concepts of total income of the previous year as a measure of income of the assessment year. The 1961 Act made total income as computed as taxable income with advance tax system along with tax deduction at source (TDS) to collect the tax in the previous year itself! 
The method to achieve this was recommended in 1956 by Nikolas Kaldor in his report. It was a tight system with income tax, expenditure tax, wealth tax, and gift tax and estate duty. The tax chased you from womb to tomb. Earn and pay tax, spend and pay tax, save and pay tax, gift and pay tax and die and pay tax. The objective was socialistic distribution of excess wealth and all together, the maximum marginal rate went up to 97.75%, though Kaldor himself had recommended a ceiling of 45%. 
It is also a mistake to assume the possibility of equality because incomes of populations of different ages will change as they age. “There is no doubt that as an economy grows in a great way like India has, that you have to step back and change your tax systems, because you start to get more disparities of wealth” said Bill Gates.
When we look back, we find that the entire system has slowly changed to something else without anyone being aware of it or planning it. Let us see how this incrementation has happened. Expenditure Tax was abolished within three years of its introduction in 1956 and again revived in 1987 to tax expenditure in hotels, Gift tax was omitted with effect from 1 October 1982, Estate duty was abolished in 1984, and Wealth tax was reduced to tax on non-performing assets from 1 April 1988. However, we have other taxes such as Banking Cash Transaction Tax (BCTT), Fringe Benefit Tax (FBT) [withdrawn later], Securities Transaction Tax (STT) and Service Tax. But they do not make any system as such. Studies have shown that instead of reducing inequalities the result has been a great divide between haves and have nots.
So it is time to look at the concept of tax on total income and its necessity. It is because of this concept, and the perception that there can be progressive tax on higher incomes, that we have the system of filing returns, which has developed the strangling tentacles. There is a choice-blindness in operation here - lack of awareness of our own decisions and preference.  People often fail to notice glaring mismatches between their intentions and outcomes, while, nevertheless, being prepared to offer introspectively derived reasons for why they chose the way they did. Tax on total income is not the system followed the world over. Most of the countries follow only withholding of tax, without requirement of filing returns by individuals other than self-employed such as UK and only few countries have this return filing system. Even there, the prefilled return system is adopted by most of the European countries.  

Evidence Based Policy

If we want to design a system with the main object of channelling the income of individuals for public purposes, we should first see which system will be effective. The present system of requiring individuals to file returns is burdensome and tempts evasion. What we need is a system of gathering the data, determining the tax and collecting it in the most effective way, with easy compliance. If, instead of computing the total income with the attendant hassles of inclusion and exclusion of incomes, we can divert the income streams at source for public purposes that would work effectively and efficiently. This will cut the tentacles at the root and bring the change we need while retaining the present order. 
It is not difficult for the department to get data to find out the outcomes of the present system. The return forms themselves are designed to sort them according to the income stream. ITR 1 is Sahaj for taxpayers with salary and interest income only. ITR 2 for those having income from property and capital gains also. In respect of income from business, ITR 3 is for firms, ITR 4 Sugam is for presumptive business ITR 5 for individuals and ITR 6 is for companies, which are not trusts. If only the number of returns filed under each type is analysed there will be evidence to indicate which stream of income requires what kind of treatment.
(This is fourth part of a multi-part series on the vexing Indian tax system and the path to genuine reforms, adapted from Justice S Rangarajan Memorial Lecture in Bangalore delivered recently)
Tomorrow: Part5 - A New Approach Based on Streams of Income
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 (Justice TNC Rangarajan is a former judge of Madras and Andhra Pradesh High Courts. Earlier, for more than 20 years, he was a Judicial Member of Income Tax Appellate Tribunal.)



Ankur Bhatnagar

2 years ago

What are the fundamental principles of taxation? It seems to me that taxes are determined arbitrarily by the government.

The constitution should guarantee some protection to the citizens from the government in matters of taxation just as it gives the citizens the freedom of speech, including criticising the government.

Taxes are a mechanism for a government to fund itself to meet its expenses. Government expenses are common expenses for the citizens (for example, defence) and therefore they together must share those expenses. Taxes are supposed to be a slice of transactions among the citizens. These transactions could be salary payment, sale, production, import, export, etc.

The constitution should set upper limits to what the government can charge as tax. Certain transactions are taxed at even over 100%. Such charges are exploitative and constitution must protect the citizens from government's exploitation.

In my view, the upper limit should be something like 15-20% of the transaction. That is, there should be no tax that will be higher than 15% (or 20%). The citizens are after all not slaves of the government.

Today an average citizen ends up paying around half of his salary in taxes. Approximately 25% is income tax alone. Then there are excise, sales tax and service tax on the items he buys from the salary after tax. The supplier also pays import duties and his own (and also of his employees) income tax. All that is built into the price of the item. The constitution should protect the citizens from excessive taxation as it impinges on citizen's right to life. The constitution should have a directive for the government so that it ensures that the total tax outgo for the citizens (including direct and indirect taxes) should not be more than 15-20% of their income.

This fresh approach to taxation will galvanise the economy and will make for a much stronger and happier country.

Shops gutted at iconic New Market in Kolkata
A fire broke out on Monday afternoon in parts of the busy New Market area in the city. Around 20 fire engines doused the blaze, an official said here.
According to witnesses, thick smoke engulfed the entire area.
"The fire was of a massive scale and it engulfed a large portion of the marketplace," a shopkeeper said.
"As soon as we got to know of the fire in the afternoon, we pressed into action. The fire has been brought under control... No casualties or injuries have been reported so far," a fire department official said.
He said 20 fire engines were used to douse the flames at the historic market in the city.
The fish and potato markets were the worst hit in the fire. The state's disaster management cell was assisting in controlling the fire, according to officials.
"We had all the required equipment to control the fire. However, we need to see if internal systems (fire control equipments) were also there at the incident area. If needed, we'll probe into this matter," the fire official said.
Last month, a fire broke out in a shopping complex near New Market. 


Row over nurse Aruna Shanbaug's funeral
 A controversy has erupted over performing the last rites of nurse Aruna Shanbaug, the world's oldest comatose patient who died on Monday after lying in coma for around 42 years, with two of her relatives staking claim to do so.
Shanbaug had been in a vegetative state ever since she was raped by a contract sweeper in the KEM hospital on the night of November 27, 1973.
The last rites shall be performed around 4 p.m. on Monday.
A controversy erupted over the funeral, with two relatives of Shanbaug staking claim to perform the last rites.
They claimed before mediapersons that all attempts to meet Shanbaug were stone-walled by the hospital authorities.
However, nurses at the KEM Hospital demanded that since they had tended to Shanbaug for over four decades, they should be allowed to perform the last rites.
The hospital, civic and police authorities have reportedly evolved a compromise formula by which the nurses and the two relatives shall jointly perform the funeral.
Presently, the hospital has kept her body for public viewing as thousands of people, including nurses, commoners, politicians and others paid homage to Shanbaug.
She was aged in her early 60s, deserted by most of her relatives during her lifetime but was looked after with dedication by nurses of Asia's largest public healthcare facility, the BMC-run KEM Hospital where she lay in Ward No. 4A.


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