India’s tax regime, burdened with decades of amendments and complex rules, requires urgent reform to ensure clarity, efficiency, and fairness. While several attempts have been made to modernize and streamline the system, both the Income Tax Act and Goods and Services Tax (GST) remain convoluted, with frequent revisions and an overwhelming number of exemptions and provisions that hinder rather than help. A structural overhaul is not only essential for economic growth but also for fostering a culture of compliance and transparency.
A Unified Tax System: Simplicity Over Complexity
The Indian tax system is rooted in the Income Tax Act of 1961, a law that has undergone frequent piecemeal amendments over the decades. While these changes were intended to address evolving economic needs, they have only compounded the complexity of the system, making it difficult for taxpayers and administrators alike. Likewise, the introduction of GST in 2017, which was hailed as a monumental reform to streamline indirect taxation, has led to its own set of problems. Multiple tax slabs, inconsistent provisions, and the maze of exemptions have only made compliance more expensive and complicated for businesses. The need for a comprehensive overhaul that simplifies the tax system and eliminates unnecessary complexity is evident.
Income Tax Reform: Simplifying and Reducing Tax Evasion
A major starting point in reforming India’s tax structure is to streamline the income tax system. To begin with, it is crucial to reduce the number of exemptions, many of which are prone to exploitation. One such exemption involves agricultural income, which, while intended to support farmers, has been used by high-net-worth individuals to funnel unaccounted wealth under the guise of agricultural profits. Most farmers earn less than Rs 5 lakh annually, so making this the exemption threshold would curb abuse. By taxing income between Rs 5-10 lakh at 10 per cent, income between Rs 10-15 lakh at 20 per cent, and income above Rs 15 lakh at the existing 30 per cent rate, the tax system can be simplified and made more equitable.
Another pressing issue is the surcharges and cess that have been introduced over time, which dilute the benefits of a more progressive tax regime. Restoring the 30 per cent cap on the highest tax slab, as was once recommended by the Raja Chelliah Committee, would align India’s tax structure with international norms and encourage better tax compliance. To further promote transparency and bring informal income into the formal economy, a Voluntary Disclosure Scheme (VDS) could be reintroduced. Under this scheme, individuals and businesses would be encouraged to report unaccounted income, particularly in sectors like real estate, by offering an amnesty, with a condition that the names of those disclosing income be published online. Additionally, reducing property registration fees to 3 per cent could incentivize reporting.
Streamlining GST: Three Slabs for Simplicity
India’s GST system, though revolutionary at its inception, is now a complex beast with an array of confusing tax slabs and provisions. One of the key areas for reform is the reduction in the number of GST slabs. The current structure, with rates ranging from 5 per cent to 28 per cent, causes confusion for both businesses and consumers. A simplified model with just three tax slabs—6 per cent, 12 per cent, and 30 per cent—would be far more manageable and would significantly reduce the burden on compliance. Over time, the 6 per cent and 12 per cent slabs could be merged into a single 10 per cent rate, aligning the system more closely with international standards.
The GST on high-value items, such as cars, electronics, and appliances, should be set at the 30 per cent rate, while parts for these items could remain at 12 per cent. This would eliminate the confusion that arises when similar products are categorized differently under various slabs, as seen with clutch plates and clutch bearings, which are taxed at 18 per cent and 28 per cent, respectively. Meanwhile, essential items, such as agricultural products, fish, and cotton yarn, should remain exempt to support the rural economy.
Tax Evasion and Cash Transactions: Time to Go Digital
Another critical area of reform is the reliance on cash transactions, which not only fuel tax evasion but also contribute to the informal economy. To address this, the government must mandate that all transactions above Rs 10,000 be conducted through banks. To make this transition smoother, the transaction fees on credit card payments should be reduced to 0.5 per cent, exempt from GST, and absorbed by the central government. This would encourage traders and customers alike to use credit cards, thus bringing more transactions into the formal economy and increasing tax revenue.
Currently, high transaction fees of up to 2 per cent discourage the use of credit cards, especially among small traders with low profit margins. Lower fees would not only benefit consumers but would also help increase the profitability of banks issuing credit cards. To ensure that digital payments become the norm, every GST-registered dealer should be required to maintain at least two card-swiping machines. Dealers who refuse to accept cards should face strict penalties.
Addressing GST Abuse and Improving Compliance
The Input Tax Credit (ITC) mechanism in GST has become a major source of tax evasion, particularly in the manufacturing sector. Unsold invoices are often purchased by manufacturers seeking ITC, leading to cash-back schemes that exacerbate issues like black money and tax evasion. To tackle this problem, a mandatory annual forensic audit of all ITC claims could be introduced to ensure compliance. Additionally, eliminating the 18 per cent GST slab and restricting ITC eligibility to tradable goods would simplify the system and reduce misuse.
Enhancing Digital Transparency and Standardization
Beyond structural tax changes, digital transparency plays a crucial role in preventing evasion and ensuring accountability. The government should use technology to provide real-time updates on taxpayer compliance, ensuring that all transactions, particularly those above Rs 10,000, are fully traceable. Simplifying the reporting process for businesses and individuals through user-friendly portals and apps will encourage greater adherence to tax laws. By making it easier for taxpayers to comply and harder to evade, the government can significantly increase tax revenue while ensuring a fairer and more transparent system.
The need for comprehensive tax reform in India is urgent. Streamlining the tax regime, reducing exemptions, implementing a simplified GST structure, and encouraging digital payments would not only simplify compliance but also enhance transparency and reduce tax evasion. The time has come to modernize India’s tax system, bringing it in line with global standards, promoting fairness, and fostering an environment where tax evasion is no longer a viable option.
