GST reform and ease of compliance

With the Group of Ministers (GoM) on Goods and Services Tax (GST) rate rationalisation agreeing to the Union government’s proposal to restructure the existing tax slabs, the GST system is set for its biggest overhaul. The proposal is to scrap the 12% and 28% slabs and consolidate them with lower rates of 5% and 18%. This will simplify and rationalise the tax structure, making many goods and services cheaper. About 99% of the items that are taxed at 12% will be moved to the 5% slab and 90% of those in the 28% bracket will be shifted to the 18% slab. But a new slab of 40% may be created for luxury items and sin goods to discourage their consumption.

Simplification of the structure is not just about reducing the number of slabs. It also involves simplifying processes, including the procedure for returns, easing of registration, and speeding up refunds. The government has also changed the tax slabs in the new Income Tax Bill which was passed in the monsoon session of the Parliament. The changes in both the direct and indirect tax laws will most likely lead to a fall in revenues. The GST rate (weighted average) had fallen from 14.4% in 2017 to 11.6% by September 2019. This is set to fall further now. The fall in tax rates is bound to lead to an increase in consumption and a widening of the tax base. The simplification of procedures is likely to lead to greater compliance. When the tax rate is as low as 5% for many goods, there will be little incentive for evasion and avoidance. That can also mean less discretionary actions and corruption on the part of the officials.

The tariff war declared by the US under the Donald Trump administration may have prompted the government to speed up the GST reforms. If the US administration sticks to the high tariffs, India’s growth rate will be affected. The expectation is that the increase in domestic consumption resulting from lower tax rates can spur economic growth. The easing of the tax burden may particularly help MSMEs which account for about 30% of the GDP. But states that have an important stake in the tax system have concerns over revenue losses caused by the lowering of rates. They are likely to demand compensation for their losses. These concerns will have to be addressed, especially when many states have grievances over other aspects of revenue sharing.