From UPSC perspective, the following things are important :
Prelims level : Not much.
Mains level : Paper 3- Ending the opacity in the financial system and making the multinationals pay their fair share of tax.
It is now beyond obvious that India cannot revive its economy without increasing public spending, and so increasing its fiscal resources is essential. Among other measures, this requires urgent adoption of legislation and institutional reforms to end financial opacity.
The opacity in the data
- Unlikely Budget estimates: The Union Budget was presented, based on numbers for revised estimates for the current year and Budget estimates for the coming year that the Finance Ministry itself knows are
- Where else the opacity in data extends: The opacity of data also extends to cross-border movement of funds generated through a range of activities, including tax evasion, misappropriation of state assets, laundering of the proceeds of crime, and bribery.
- Even here, India still has a lot to do, as confirmed by the recent publication of the Financial Secrecy Index by the Tax Justice Network, a U.K.-based financial advocacy group.
- Financial Secrecy Index rank: On the surface, India has managed to reduce its contribution to global financial secrecy, with its rank falling from 32 on the 2018 index to 47 in 2020.
- But this is partly because the new edition of the index covers more countries than it did two years ago.
Transparency Reforms by the government
- Arrangement with Switzerland: It is true that the government has adopted and supported a few transparency reforms, such as the automatic exchange of tax and financial information with other jurisdictions, like Switzerland.
- What the arrangement with Switzerland mean? If an Indian citizen has an account with a Swiss bank and has a balance over a certain threshold, this information will be sent to the Indian tax authorities automatically.
- Beneficial ownership register: The government did create a beneficial ownership register- which would allow the identification of the beneficial owner of an asset regardless of whose name the title of the property is in.
- Exemption making the law weak: The law is weak since it exempts a lot of people at the discretion of the authorities.
- Also, this register is not accessible to the public.
Making multinationals and the super-rich pay their fair share of taxes
- Need to do more: Stopping the financial haemorrhage and making multinationals and the super-rich pay their fair share of taxes requires much more.
- Capital flight and consequence for the country’s development: Capital flight out of India by Indian elites and foreigners alike has been undermining our country’s development for decades.
- Outdated international system: An important part of these flows is the result of artificial profit shifting by multinational companies taking advantage of an outdated international tax system.
- How the multinationals shifts profits? These multinationals may be making profits in India but can easily declare those profits in a low tax jurisdiction like Hong Kong and justify that transaction as a payment for the use of a patent.
- The magnitude of loss-$27.5 billion: According to one estimate, this strategy represented a loss of $27.5 billion in 2014 for the Indian government, up from $142 million in 2000.
Onshore financial services and issues with it
- Paradoxical decision: Three years ago, the government took the paradoxical decision to set up onshore international financial services in the country.
- This is how the International Financial Services Centre in the Gujarat International Finance Tec-City (GIFT-City), Gandhinagar, emerged.
- It was modelled after offshore financial centres such as Hong Kong, Singapore, the City of London and Dubai.
- Increasing the possibility of regulatory arbitrage: While this has not created much employment, it has led to growing possibilities for regulatory arbitrage by financial firms, with potentially very problematic consequences.
The issue with the policy of tax incentives
- Little evidence of attracting investment: The government keeps granting tax incentives on a discretionary basis, even though there is little evidence that these incentives attract investment.
- What factors matters for investment: Recent research by International Monetary Fund, factors such as-
- Quality of infrastructure.
- A healthy and skilled workforce.
- Market access and-
- Political stability matters much more.
- Consequences of the policy-reduction in tax revenue: The massive reduction in corporate tax rates has thus far not led to any increase in private investment.
- But it has meant a significant reduction in tax revenues, with devastating consequences.
- Implications for health, educations etc.: Reduction in tax revenue translates into a lack of resources for education, healthcare, food and nutrition and infrastructure.
- Low tax-GDP ratio: India is already an outlier among similarly placed developing countries with its low tax-GDP ratio of 18%.
- Making the budget dependent on indirect taxes: The government budget is also highly dependent on indirect taxes like the Goods and Services Tax which are regressive and hit ordinary citizens harder.
- Legislation to end financial opacity: Adoption of legislation and institutional reforms to end financial opacity- including, for example-
- Opening the beneficial ownership register to the public and-
- Stopping the creation of onshore tax havens is the need of the hour.
- Opening the debate on how to make the multinationals pay their fair share: The Government of India must also assume a more vocal role in the international debate about how to make multinationals pay their fair share of taxes.
- This means continuing to appeal for a United Nations tax body, which is much more legitimate than the Organisation for Economic Co-operation and Development (OECD).
- The issue with the OECD’s proposal: The OECD’s proposals, published at the end of 2019, are neither ambitious nor fair enough.
- Explore the possibility of going alone: If the organisation continues to remain deaf to the demands of developing countries, India must be prepared to go it alone, thinking unilaterally about how to make multinationals pay what they owe.