Making Kelkar-II work

Whether the country’s politicians accept the second set of tax proposals by Vijay Kelkar is not really the question to ask. More relevant is what happens if they do not accept Kelkar-II.

For, as a series of simulations (admittedly done by Dr Kelkar’s task force) shows, there is no hope of achieving the targets in the Fiscal Responsibility and Budget Management Act of 2003 if reforms continue in the same on-off manner of the last four-five years.

The revenue deficit will be 1.66 per cent of GDP by 2008-09 (not the promised zero) and the fiscal deficit a tad under four—not very different from the target set for this year.

The medium-term look at tax buoyancies has produced disconcerting results. Non-petroleum excise has plummeted from 16.5 per cent of industrial GDP in 1980-81 to 7.7 per cent in 2003-04 and, given the share of excise in total tax collections is still higher than the share of manufacturing in GDP, this is expected to fall in the years to come.

In the event, the projections show that while direct taxes will grow from 3.7 per cent of GDP in 2003-04 to 5.8 per cent in 2008-09, excise collections will fall from 3.3 per cent to 2.9 per cent, and customs collections from 1.8 per cent to 1.4 per cent. The task force is (unexpectedly) bearish on service tax collections.

Naturally, with the deficit target not met, according to Kelkar-II, there will be a lot less money to spend on other areas.

This is where Dr Kelkar’s grand plan comes in for an integrated, nationwide VAT-based goods and services tax.

Under his plan, aided by the fact that the IT-based Tax Intelligence Network is to be up and running, Dr Kelkar is confident of roping in excise evaders and getting a grip on the taxing of services through a Risk Intelligence Network (RIN).

Since a broad VAT chain improves compliance, the task force is confident of raising service taxes to 2.1 per cent of GDP by the terminal year, and overall taxes by 2.5 percentage points, to 13.2 per cent of GDP.

Kelkar-II is more than just the attractive numbers. For one, while the 88th amendment to the Constitution allows only the Centre to tax services, Dr Kelkar proposes a share of this be given to states.

In return, he wants all state levies like stamp paper and octroi removed. This is critical since, even under the proposed state VAT, each state could have different rates and zero-rating would have meant check points at each border. In other words, this is a genuine EU-style modern tax law.

To help it fly, Dr Kelkar leaves out political hot potatoes like small savings and housing loans from his reforms. Indeed, the recommendations have been packaged to match the CMP’s objectives.

So, there’s the obligatory chart on how individual taxpayers pay less taxes even after exemptions go, on how the Rs 25-lakh turnover limit will keep half the service firms out of the net, on how there will be an additional Rs 58,340 crore (1.1 per cent of GDP) for states through the additional taxes, more money for public investment, and so on.

It is an attractive package that promises a pan-Indian market, and worth implementing.