Friday, September 19, 2008

6th pay gains: Cut taxes to benefit staff

Government employees are upbeat over the Sixth Pay Commission report, little realizing that more than them it is the Government which is the main beneficiary. Of the Rs 16,000-crore benefit that the panel is supposed to give over Rs 5,300 crore would go back to the Government by way of income-tax at 33 per cent alone. In fact, some employees would now be subjected to an additional tax as their salaries would touch the Rs 10-lakh per annum mark.

In its latest report, the Reserve Bank of India has come up with the desired suggestion of reducing the income-tax rate and raising exemption limits, for increasing the disposable income and ease inflationary pressure. The high inflation rate, around 13 per cent on wholesale price index (more on the basis of consumer price index) has already eroded substantial part of the pay panel benefit. The taxes would eat up the rest.

It is well-known that wage revision is undertaken primarily to neutralise the effect of price rise. One, it is dearness allowance component which takes care of it marginally. Two, it keeps the market going at an even pace. For with higher wages one is expected to increase purchases and help other sectors of the market.

It is no secret that the market is highly depressed owing to high inflationary pressure. Industrial growth too has slid. "There are also some downside risks to the industrial growth momentum during 2008-09", admits the RBI. Growth in other sectors too has fallen including infrastructure, power and the core sector. Thus raising, what RBI says are "apprehensions regarding sustainability of industrial and manufacturing growth".

Clearly, the central bank is concerned that inflation has eroded the disposable income of the middle-class, supposedly the "engine" for overall growth. It has, in no uncertain terms, expressed concern that the Government has not taken any step to rectify this and is circumspect on the benefit to the market of the so-called 'higher wages' of Central Government employees. Moreover, the RBI is wary that as the salaried class is in a tight spot, it may default on repayment of EMIs and pose a risk to the banking system.

In the face of the above, the RBI has thus vociferously suggested "adjustment" - the bank's euphemism for reduction - in the income tax and excise duty for increasing the disposable income of the middle-class. "It may have a possible impact on consumption demand for industrial goods," is the RBI's guess.

In all fairness, higher salaries were expected to surge other economic activities. But with the government policy eating into the kitty itself, that opportunity is lost. Therefore, it is time the Government has a re-look at its tax policy. The taxes, be it corporate or personal income-tax, remain at a very high level. Over the years, big time industrialists--Rahul Bajaj, Arun Bharat Ram or Sanjiv Goenka, Nusli Wadia, or Ajay Piramal--have expressed concern over the high tax regime. There is unanimity that high taxes only lead to avoidance and evasion. And yet our Government has unfortunately not tied up the taxes with its liberalisation policy.

Moreover, often taxes are unproductive and unimaginative. The answer lies in lowering the taxes and abolishing the personal income tax, which unfortunately has come to be known as the "impoverishing tax". The Kelkar committee had estimated that 48 per cent of the direct tax collected goes into tax administration! It is certainly one of the most expensive systems of realisation of resources. Any corporate would simply go bust at this kind of a cost.

Let's study the scenario. Today, there are more I-T commissioners and naturally the administration costs have gone up. In addition, the income-tax department has started spending on decorative and unrelated activities. As such, the Government not only needs to review the size of the department but also prune it. This apart, extra staff in a department means not so clean operations, as some instances have shown.

Many a times the large official force ends up causing harassment to the public simply because it is under pressure to justify its existence. This again adds up to the cost. Then there are the subsequent litigation and appeal processes, which too are a burden on the economy, other than causing loss to productive man hours. The cumbersome I-T rules only make the process more difficult. A Mahabharata of rules are eventually added every yea and each has several interpretations.

In the past, the Government has had the experience of overall higher tax accrual following tax rates being moderated from 97 per cent to 33 per cent. This meant an erosion of over one-third income in direct tax. And, there are umpteen cases of indirect taxes, which rob an average Indian of almost another 40 per cent of his/her income.

Thus, it is crystal clear: tax rates need to be cut. Finance Minister P Chidambaram must examine the pros and cons of a high tax regime carefully, so that all the money that is being generated is gainfully utilized and not burnt up. The Government should, in fact bring it down to the level of five per cent for an income up to Rs 5 lakh a year and beyond that to a maximum level of 10 per cent. Even the corporate incomes should not be taxed at more than 15 per cent.

Let's face the fact that if the taxes were low, people would voluntarily prefer to pay rather than avoid these. At the same time, the Government's coffers would get bulkier as more and more people would be integrated with the system. As of now most taxpayers are out of it and the taxmen are well aware.

What is being suggested is no revolutionary step. It only makes the tax system more imaginative, less exploitative and interwoven with market realities. At the end, an affordable tax regime would reduce the cost of tax policing, boost the market and bury inflation.