3rd August 2016 became a historic day for economic reforms when Rajya Sabha passed the constitutional amendment bill to GST and paved the way for major taxation reforms. Almost all the political parties have broadly agreed on the concept of Goods and Service Tax (GST) and it is expected to become a reality from the next fiscal year. Initial target of introduction of this ambitious legislation was set for April 2010 and now it may see light of the day after 7 years, all thanks to our political maturity.
Finance ministry has released the draft GST law on 16th June and concerns have been raised on some provisions which is likely to be addressed by the ministry before this law is enacted. I have tried to highlight the key benefits which this legislation is expected to bring and the requirement of a vigil mechanism to ensure that the benefits are passed on to consumers also.
Benefits which are expected from GST
1. Central and state taxes will be subsumed after introduction of GST and will bring uniformity in indirect taxation across the country.
2. Seamless credit of taxes paid in the entire supply chain will be available to producer of goods or provider of services in which will eliminate the cascading effect of taxes on inputs and therefore price of products is expected to reduce.
3. Compliance burden will be reduced in the long run as there will be one platform for filing of returns, payment of taxes and assessments.
4. Tax evasion will be easy to trace as all the records will be uploaded on single platform and thus cross verification of purchase claimed by one dealer Vs sale declared by other dealer will be easy to corroborate. This will increase transparency and will check the black money circuit.
5. Reduced costs to manufacturers will increase the competitiveness of our products in export market.
Precautions need to be taken before GST is implemented
The report submitted by the committee headed by Dr. Arvind Subramanian suggested a standard rate of 16.9-18.9% for GST and the final rate is expected to be ~18%. Currently tax on goods is approximately 25% (Excise plus Sales Tax) while services are taxed @15% and accordingly services are expected to be costlier under GST regime. However cost goods is expected to be lower due to reduction in tax. Government should ensure that this reduced cost is passed on to the consumers and businessmen don’t indulge in profiteering.
Analysis of the impact of GST in countries like Australia, New Zealand, Singapore, United Kingdom etc. shows that implementation of GST will increase the inflation in medium term. In India, tax on services will increase therefore it becomes necessary for the government to ensure that benefit of reduced tax on goods is passed to consumers. Table 1 given below shows a trend in CPI after implementation of GST in some economies.
India is a free market economy and government intervention is not necessary in normal scenario to regulate the prices but taking a clue on inflationary impact of introduction of GST in other economies and expected increase in price of services, the government should setup a mechanism to check profiteering, otherwise this new legislation will come as a double whammy for the common man. Global experience shows that whenever there is an upward revision in taxes, business houses pass it disproportionately to the consumers but only a part of the benefit was passed on when tax rates were reduced (refer Table 2).
Pass through trend
GST was introduced in Malaysia from April 2015 and The Ministry of Domestic Trade, Co-operatives and Consumerism (MDTCC) urged the business owners to adjust their pricing of goods and services and pass on the benefits to consumers. The ministry announced that investigations will be carried out for anti-profiteering checks as per their law to ensure the fairness. Similarly when GST was introduced in Australian the government also setup a commission to monitor the prices and protecting the interest of consumers.
GST will create a common market in India for goods and services but considering the vast geography of our country, prices of goods/services will not be similar at different locations. This will be on account of difference in direct cost (e.g. labour etc.) and overhead costs (e.g. transportation, warehousing etc.) at different locations which add to the total cost of goods/services and therefore state-wise review and monitoring should be done for price effects post implementation of GST. Central Government can consider the following to regulate and monitor profiteering-
1. Sector-wise and commodity wise data should be monitored for various locations or states. It will provide the details needed to assess ground reality.
2. Monitor the price change after implementation of GST. Retail price of the goods should be compared to check whether the ultimate consumer is getting the benefits.
3. Carryout the pass-through test (i.e. net profit margin analysis). Information from the published quarterly results of various companies across all industries can be taken for this purpose to verify that the net profit margin as percentage of sales or cost has not increased due to change in tax.
4. Quantum of pass-through may not be equivalent to the decrease in tax but it should not be the case that the overall tax amount is reduced but the price of the goods remain unchanged. During the transition phase there should be signs which show that the benefit of reduced tax incidence has been passed on to the consumers. In the long run, price levels will automatically become market driven.
5. Though CPI index provides a visibility about the price change but analysis of CPI index alone will not give the true picture after GST implementation. This is because weightage of services are low in the CPI basket and even a higher price increase for services will push the CPI by relatively lower proportion. Therefore head-wise price movement should be monitored in the transition phase and more attention should be given to those items which are of daily use.
6. GST implementation will take time even if it is passed by Parliament and enforcement agencies should ensure that business men don’t increase the price in advance in anticipation of GST implementation because once the price is increased and accepted by the market it becomes a benchmark for the seller.
By: – Shshank Saurav (Chartered Accountant and Anti-Money Laundering Specialist)