In the run up to almost every budget, when asked to spend, the common refrain has been that, constrained by its limited tax revenues, the Union government hardly has any room to manoeuvre. However, contrary to the widely held notion that only a small section of society pays taxes, there has been a steady increase in both direct and indirect tax payers over the past few years. This increase in the tax base has occurred not d0uring a phase of rapid economic expansion, but of slower, uneven growth. While, ideally, this expansion should have raised the tax to GDP ratio, creating greater fiscal space for the government to spend on public goods, cuts in both direct and indirect tax rates (GST), along with the pandemic-induced economic disruptions, have depressed the fiscal gains accruing from this surge in tax payers.
This would suggest that the almost stable tax to GDP ratio (direct and indirect/GST) is, in part, the consequence of a conscious policy choice — of shifting to a low tax regime. Whether this is driven by ideological or political considerations is another matter. But what it has done is left more in the hands of the private sector, while leaving the government with fewer resources to fund its development objectives.
Take a look at the direct tax base. During the assessment year 2014-15, the number of companies paying tax stood at 7.46 lakh. By 2022-23, they had risen to 10.7 lakh — an increase of around 43 per cent. Over the same period, the number of individual taxpayers grew by 65 per cent, rising from 5.38 crore to 8.9 crore. The disaggregated data shows that small taxpayers (those with incomes less than Rs 5 lakh) account for a sizable number of these new tax payers.
Similar trends can be observed in the case of indirect tax payers. The number of active GST payers (as of June 2023) stood at 1.4 crore, up from 1.2 crore in 2019. Around 80 per cent of these taxpayers are proprietorships, while another 10 per cent are partnerships. These two categories, in fact, account for most of the increase in the tax base over these years. This was only to be expected. Smaller establishments, after all, also have an incentive to register under GST as it allows them to avail input tax credit. The effects of coming under the indirect tax net are possibly reflected in the increase in direct tax payers as well.
As the number of establishments in the country is pegged at around 6.4 crore, these numbers also imply that at the very least 22 per cent of firms are formal in nature, paying some form of taxes. In comparison, even though the number of individual taxpayers is higher than the contributing members of the EPFO, as these taxpayers would also include individuals not part of the labour force, such as retirees receiving interest/rental income, the share of the formal labour force is likely to be lower in comparison. However, this does suggest that income tax payers are no longer restricted to a tiny sliver of the labour force.
Part of this increase in the tax base is the natural consequence of the economy growing in size — more companies are setting up shop, more individuals are entering the labour force, and more formal sector jobs are being created. Alongside, the growing formalisation of the economy is also likely to have played a role by making tax evasion or avoidance a more complicated exercise. And while the lowering of tax rates during this period may have also played a part, it has also meant that this expansion in the tax base hasn’t translated into a commensurate surge in the tax to GDP ratio.
In September 2019, the government announced a cut in the corporate tax rate for existing companies from 30 per cent to 22 per cent. Broadly speaking, that translates to a reduction of about 25 per cent (though in effective terms it differs). As per the government, the revenue loss on account of this was Rs 1.28 lakh crore in 2019-20 and Rs 1 lakh crore in 2020-21 (neglecting the impact of non-availability of exemptions under this regime). The corporate tax to GDP ratio stood at 3.5 per cent in 2018-19. By 2022-23, it had declined to around 3.1 per cent.
On the personal income tax front, in the interim budget of 2019, the government had announced that individual taxpayers with taxable income upto Rs 5 lakh would get a full tax rebate. While the personal income tax to GDP ratio rose from 2.5 per cent in 2018-19 to 3 per cent in 2022-23, the number of individuals with zero tax liability also increased from 2.9 crore in 2019-20 to 5.16 crore in 2022-23. Considering the most recent changes to the tax structure — the rebate limit has been raised to Rs 7 lakh under the new tax regime — individuals with zero tax liability may rise further, limiting the gains from an expansion in the tax base.
In the case of GST, while the Subramanian committee report had pegged the revenue neutral rate at 15.5 per cent, as per a report by RBI, the weighted average GST rate fell from 14.4 per cent at the time of transition to 11.6 per cent in 2019 due to the various tax cuts in November 2017 and December 2018.
Despite tax rates being lower by around 25 per cent, collections have remained broadly stable. Indirect tax collections (subsumed under GST) stood at around 6.3 per cent of GDP in 2016-17. In comparison, GST collections were at 6.6 per cent of GDP in 2022-23. Excluding revenue from the compensation cess, collections were 6.2 per cent.
It is difficult to arrive at firm estimates of the tax revenue implications on account of these cuts. But, these numbers do suggest a strengthening of the fiscal foundations of the Indian state. While tax collections will invariably be influenced by the underlying economic momentum, as the country traverses the development path, as it transitions from a lower to an upper-middle-income economy, as the share of the organised sector rises, more gains will accrue. This will increase the fiscal space for the government to enhance its spending, if it so chooses. These gains should not be squandered away by increasing give-aways.
