VAT works

While it’s early days yet, the provisional data seem to suggest that the introduction of the value-added tax, or VAT, has lead to an increase in tax compliance in exactly the manner as was suggested when the concept of VAT was first floated several years ago.

The logic is that, in an IT-enabled system based on a chain of taxpayers who get tax credits only when the one before them has paid the tax, compliance just has to increase as there is also a monetary incentive to pay taxes.

According to the data supplied by the Empowered Committee on VAT, states like West Bengal and Kerala have seen a 15 per cent hike in taxes under VAT, Delhi and Punjab have seen a hike of around 25 per cent during the first three months of the year, Karnataka and Himachal have registered growth of over 38 per cent, and Orissa has seen its collections go up by between 25 and 30 per cent.

These are healthy numbers and suggest that the transition to a VAT system (delayed by at least two years) is being made successfully and without snafus.

The only rider at this stage can be that, given how government data vary from one stage to the next (the “revised estimates” in a budget are usually quite different from the “actuals” that come out a year later), it’s advisable to withhold final judgment until more time has passed.

It does seem strange, for instance, that some states should be showing such high growth while others, such as Andhra Pradesh and Maharashtra, show much lower revenue growth.

What is important, however, is that there has not been the kind of disruption in trade that was talked about by those opposed to VAT and the increased tax compliance it would result in.

Semi-literate traders, the fear was voiced, would not be able to fill up complicated VAT forms; the states are not yet ready with VAT forms, the rules vary from state to state, the litany went on.

The lack of disruption, however, would indicate that the publicity efforts and the tax workshops across the country have helped; indeed, software companies have even developed attractively-priced and easy-to-use VAT packages to take care of all the complicated forms and details that have to be provided to the taxman.

The proof that things are working comes from Uttar Pradesh. This state was one of the biggest opponents of VAT’s introduction, but it is now doing a turnaround and saying it is ready to think of switching over as the trading community seems less opposed to it now.

While the Empowered Committee will initiate talks with the state, it needs to convince the finance minister that he should extend the compensation principle to UP as well—while the FM had assured compensation for any loss in the initial years to states switching to VAT, he had said this would not apply to those who didn’t come on board by April 1—as it is a big psychological crutch for a state implementing such a huge tax change.

As for the BJP-ruled states, which have refused to switch to VAT as a matter of political faith, the committee’s best bet would be to ignore them for the time being and hope that better sense will prevail once the tax revenue increase recorded in the implementing states becomes evident to even the last sceptic and to all those who would place politics before economics.