Tax Reforms

[op-ed snap] Improving tax compliance in India


Mains Paper 3: Economy | Government Budgeting

From UPSC perspective, the following things are important:

Prelims level: Not much

Mains level: Measures announced in the budget related to tax compliance.


Focus on tax proposals: Budget 2018

  1. In the recent budget, there was the introduction of the long-term capital gains (LTCG) tax, as well as significant tax breaks for senior citizens who earn interest income from fixed deposits
  2. However, measures related to tax compliance goes underreported

Budget 2018 on individual tax

  1. The 2018-19 budget did not change the tax rate for individual taxpayers
  2. But tax rationalization measures show a drive to endow enforcement agencies with more power and autonomy in scrutinizing returns

More powers given to tax officials

  1. The provision that allowed tax officials to enter any premise and seek information has been extended to charitable organizations
  2. This is perhaps due to reports that unreported cash was being hoarded at non-governmental organizations in light of demonetisation
  3. Furthermore, the budget also gives autonomy to senior tax officials
  4. The budget authorises the Joint Director, Deputy Director or the Assistant Director of Income Tax to call for information for the purpose of any enquiry without seeking approval of the higher authority
  5. Such measures are meant to increase the likelihood of tax evaders getting caught and therefore increase the cost of compliance for those reporting false information in tax returns

Much can be done by the government

  1. The rate of tax compliance is low in India, with 36% of all individual taxpayers in the organized and unorganized sector filing tax returns
  2. However, a closer look at recently released data suggests that tax compliance among individual taxpayers is at 11.6%
  3. This, coupled with the low tax-to-GDP ratio, suggests that there is still much the government can do to widen the tax base

Issues with these measures

  1. Such measures increase the likelihood of being caught, but could be construed as a means of coercive power
  2. Research shows that this tends to reduce trust in the tax authorities despite resulting in more enforced compliance
  3. Studies in social psychology and behavioural economics suggest that lower trust levels in turn result in dishonesty
  4. Thus, with an increase in enforcement powers, trust in government and tax authorities goes down
  5. And there is a conducive environment for individuals to be dishonest in reporting their income on tax returns

How to counter this distrust?

  1. Large-scale Central Board of Direct Taxes (CBDT) campaigns in recent years priming public goods and rewards for timely compliance can now be targeted to individual taxpayers by highlighting the salience of their value for public goods contribution
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