Will Budget 2016 herald the big indirect tax reset and exemptions? Will it help India move closer to Goods and Services Tax (GST)? Does that mean a change in some tax thresholds and rates?
In CNBC-TV18's special series, 'Pre-Budget Tax', three indirect tax experts — Rohan Shah, Managing Partner, ELP; Sachin Menon, Partner & Head, Indirect Tax, KPMG and Harishanker Subramaniam, Partner & Indirect Tax Leader of EY — answer them all.
Below is the transcript of Rohan Shah, Sachin Menon and Harishanker Subramaniam’s interview with CNBC-TV18's Menaka Doshi.
Doshi: I would like to start by talking a little bit about the indirect tax collections we have seen in the fiscal so far and in fact the projected collection for the fiscal was Rs 6.5 lakh crore, but we have the finance ministry tell us they are going to do better than that, thanks to the big mop up on the excise duty front on oil. So, about Rs 40,000 crore extra. What do you make of where we are in those targets and what kind of targets do you expect in the year to come?
Shah: Obviously that is a good sign and to me the most important sign there is not the numbers but the factor that the moment you have higher indirect tax contributions there is something robust happening in the economy.
Doshi: But these are higher because of the excise duty on fuel otherwise they wouldn't be?
Shah: Yes, but you are not seeing it sort of falling off. There is an impact in petroleum and fuel. But you are seeing other parts of the economy also kick in and contribute because if they weren't you wouldn't have had some shortfalls. So, from my perspective you are seeing whether it is all of the announcements or whether it is just the buoyancy. The fact that industry is working, the economy is working is part of the reason that you are sort of going to get to this. Going into the next year this is a year of transition. I don't know what sort of numbers they will set but clearly both for direct and indirect tax it is a year of transition and from that perspective if they have to ultimately move to GST and then to move to the corporate rates they want they will have to be a little more measures in their ambition for tax because in a transition things will in that manner be a little more uncertain and they should factor that in.
Doshi: What kind of target we should be looking out for in the Budget speech for indirect tax given that we are also intending to move to GST this year hopefully?
Subramaniam: The buoyancy that we saw this year I don't think is going to be there to that extent next year and also you correctly spoke about the extra Rs 40,000 crore that they raised on excise as far as those petroleum goods are concerned. While there will be some degree of improvement but I don't think the numbers in my view will be more than 15-16 percent growth and all because unless they do some rate increase or rate tinkering which is also expected. So, fundamentally they need to be a little bit more cautious on those number for next year because this amount of buoyancy that they had this year after a long time we will be meeting Budget revised estimates. They need to be careful but the challenge that they have is they also will have a difficult fiscal deficit to manage next year onwards. So, it is going to be interesting to see what is the growth numbers on indirect tax.
Doshi: So, do you have a number? This year's projected collections were Rs 6.5 lakh crore. Should we expect a 10-15 percent extra when they put down the number for next fiscal?
Subramaniam: In my view they will definitely do 15 percent plus because they are not going to meet the fisc next year at 3.5 percent with all the pay commission, one rank-one pension (OROP), food security and bank capitalisation. So, they will have a number of 15 and upwards. That is where they need to be cautious.
Doshi: So, if we are looking at a 15 percent sort of increased target for the next fiscal if you agree with that then what does this mean for how we progress rates in this Budget towards the GST rates assuming that what the Chief Economic Advisor said about the standard rate being somewhere at 18 percent is what finally happens?
Menon: This brings us to the old debate to say that when the economy is predicted to grow by 7-8 percent you expect a tax growth of 15 or 20 percent or even more for that matter.
Doshi: So, you are saying 15 or 20 percent would be unrealistic unless they increase the rates?
Menon: So, it all depend upon how best you have got the arms around the current tax structure and the compliance mechanism. So, if you look at the buoyancy in the revenue which we are seeing now one is contributing towards petroleum and you also should not forget that last year the service tax rate had gone up from 12-14.5 percent. And it is expected that this year that rate will further go up to 16 percent which is contributing 1.5 percent more. That definitely go in to increase the tax collection given the fact that from the GDP the contribution from service sector is almost 60 percent. So, therefore the revenue growth is not only contributing because of better compliance but also tax rate increase.
Doshi: You agree with the 15 percent rate even though it is an aggressive number but you are saying to achieve that we will need a service tax hike upto 16 percent?
Menon: Yes. Given that you have growth prediction of 8 percent, so tax also should accordingly grow. Plus you have almost 2 percent increase in the tax rate in services which are also going to be contributing. So, growth could be anything between 10-15 percent, could be realistic according to me.
Doshi: What rates are going to change as we move towards GST besides the two percent increase in service tax? Some people say will they go all the way up to 18 percent in this Budget itself?
Shah: Expectedly there will be a move in terms of service tax. I don't think you have very much in terms of play under customs because of the factor that you have a set of bound rates and you have set a set of rates to be WTO compliant. Then looking at what you can do in terms of manufacturing sector, the other part of what you could do is the exemptions.
Doshi: In manufacturing do you expect excise to move in any fashion?
Shah: To my mind if you are going to sort of move your excise and again I can't see that as being a significant move. So, if service tax also moves probably 1 or 2 percent, I don't see them taking the whole leap to 18 percent. Even in terms of excise you will have to attune it because I don\\'t think a general rate increase is going to work because there are other economic factors you have to consider. So, you will have to choose certain sectors, certain chapters and say this is where we can go higher.
Doshi: What do you expect, in excise which ones do you think we will actually see either an increase in rate or maybe even a reduction in rate to adjust to GST rates if required?
Shah: I think you have your normal basket where we believe there is inherent tax elasticity. All your sin goods or all of your superfluous consumption will come through. I think increasingly even in the context of GST and even now in terms of excise you will have to get to a basket of utilities, things the consumption of which matters to all sections of society over there is probably where you will have the play. If you see that in terms of food, clothing etc, clothing as it is at this point in time in excise is zero. So, either you continue that or you will have to take it up. I can't see a situation where there will be a very big change and even if there is a change they will have to attune it to certain sectors but you will still have to take care of your utilities. If that gets out of hand in terms of taxation that is going to be difficult.
The other one comment is I am all for this whole situation of prediction and what numbers we will set but what that also does from our perspective is that moment we administer tax by numbers the sort of pressures that we create between January and March next year and that could really be just the cusp of GST, I don\\'t think that is another situation that you want.
Doshi: Rates that needs to get adjusted, not to meet revenue targets may be but to align themselves slowly with GST specifically what rates do you expect will move?
Menon: What is expected is that as of now there are lot of exemptions, concession which is given out to different industries etc and come GST most of the exemptions are supposed to be disappearing. If you do that at one go when GST is introduced perhaps the negative impact of GST, whatever may be the extent it will be, will be much more. So, may be government would like to punctuate it in smaller doses.
Doshi: Are there some exemptions that you think will fall off this Budget?
Menon: You have seen that how pharmaceutical exemptions has been withdrawn now – bulk drugs as well as life saving drugs. If that is an indication many of the exemption is supposed to go. When the exemptions are taken out there has to be balancing act so we expect that those restrictions which is imposed on availability of Central Value Added Tax (CENVAT) credit it will go. As a result if we have to modify and government has to ensure that the revenue they are not losing, the collections are neutral. They may have to marginally punctuate the excise duty rate as well.
Doshi: So to what?
Menon: May be a 0.5 percent.
Menon: Higher, because at the end in the hands of the industry it is sort of some game because you have otherwise also actual excise tax could be 12.5 percent which you are paying plus those restricted or denied credit.
Rather it could be a transparent enough to give them a full credit and may be even if it is going up little bit higher it is not impacting the industry because overall the tax impact will be the same.
Doshi: Any specific industries where you expect that there will be a downward reduction of sorts on excise to align with GST?
Menon: If at all it could be those goods which is related to infrastructure related sector.
Doshi: Why is that? You base that on a GST?
Menon: For example, if you see a road or port etc there is an exemption given from service tax. However, the cement and steel when you are looking at may be CST if you are taking at, cement is attracting 12.5 percent. Then if you are paying that there is not output, CST anyway you don’t have the credit as well as in excise scenario also some of the cases where the roads which are subject to is exempted from service tax whatever revenue which is coming, a company which is running the infrastructure project they may end up bearing the cost of excise duty which is a cost to them.
So, if you have to stimulate them then those sectors perhaps they can look at government giving some kind of tax breaks for cement or steel kind of scenario.
Doshi: What industries do you think will end up being impacted by Budget 2016 from a change in indirect tax point of view? Sachin Menon has pointed out infrastructure, Rohan Shah has caution that in some industries for instance in clothing or textiles if you attempt to move from zero percent to whatever the GST rate is you might end up having a negative impact on the industry at a time when the economy is not doing very well. Which industries should be on alert?
Subramaniam: Before I get into industry, what they were attempt to do is they will try and do something which they would have done under GST as far as Central GST is concerned. So, fundamentally what they will try and do is that increase the base. They are going to look at thresholds in my view both under service tax and excise. Thresholds of service tax can go up to Rs 2.5 million because that has been the stated stand of centre as far as GST is concerned.
I probably feel they may even tweak the central excise threshold which is today at Rs 1.5 crore, they may bring it down. I am even hearing things that if they bring it down by a pretty significant number they may even come with something like a composition or a compounding scheme for the lower people to have ease of compliance. So, that is a couple of thing that they would do.
Besides even an excise I don’t know how much they will tinker the excise rate. What I am understanding is that there are several sectors where there are multiple excise rates. They may try and rationalise those rates in to a two rate structure which is pretty aligned to what GST could be potentially. There would be rates which would be higher than 20 percent in some of those sectors but by and large they are expected to come and rationalise some of those things.
Also to cushion, like what Sachin said they would try and do some liberalisation of the CENVAT Credit rules to basically so that there is no impact on the industry and it is just a pass-through. So, that is another fact they will do. They will also try and prune exemptions both under excise and under service tax. In excise if you look at the entire GST exercise there was nearly 300 lines of exemptions vis-à-vis just about 9900 in VAT. I don’t know whether they will do it in one go but they will definitely do, a hell of a lot of exemptions will vanish.
We saw the pharmaceutical exemptions vanishing; though three drugs were brought back under exemptions we are going to see more of that action. Another fact that they will do which they have been really asking feedback from the industry is what do they do to try and correct the benefit of an import versus Make in India now. That is another angle they will try and do. So, they will try and figure out and tweak those exemptions where an import becomes more expensive than manufacturing in India.
Doshi: You have got international trade rules to comply with as well when you attempt to do something like that, because that will be seen as protectionist in some fashion?
Subramaniam: Correct, but as far as bound rates are concerned it is only the basic custom duty bound rates. Even today if there are differential duties in several sectors which are to some extent challengeable but we still have them today. That is another angle that they have been looking at. They have been seeking such feedback as to which ever the areas which need incentivisation to manufacture in India.
Doshi: Which industries will get impacted if they were to do? Would you say pharma is one continuing impact, do you see that all happening across the entire manufacturing chain or specific areas of manufacturing?
Subramaniam: It may not happen in the entire manufacturing chain. I know of sectors which have asked for some protection. In some sectors those protections are already there. You might even see some of the tweaks in those protections.
Doshi: Which sectors are these?
Subramaniam: You have differential duty today in telecom as far as mobile phones are concerned. So, tomorrow at least the IT people are also asking for computers and so on and so forth.
Doshi: Any more you would like to add to the list besides telecom that we might see this kind of impact on?
Subramaniam: It could be even in computers like I said. I know that the computer industry is asking for something similar to what the telecom mobile industry has as far as differential duties are concerned. So, some of these things could happen. Some of these things could also see tweak in the existing exemptions notification because more and more they are wanting to promote the concept of better value addition in India.
Doshi: What will the full picture look like then, we have got bits and pieces from all three of you. I want you to also, when we talk of exemptions there is the expectation that a whole host of direct tax exemptions will go away for instance those that benefit export related industries etc and when those go away some of the accompanying indirect tax benefits there will also go away. So, it is not just exemptions on that will fall off on account of GST, exemptions that may fall off on account of cleaning up of all the exemptions in the direct tax route. What are we going to finally expect or look at when we look at this Budget given the GST backdrop and the economy backdrop?
Shah: To my mind while we will try and say A sector, B sector, this industry, that industry, I think it is really going to be much more in terms of a policy and a philosophy. If you are talking of fundamentally what GST is, then every transaction should be taxed. There should be a full flow through of the credits and as far as your concern if that is robust then you can hope to have more benign rates. Therefore at one level in terms of the policy they will have to look at what are the exemptions that they want to reduce. You look at what the chief economic advisor says, the 300 line items in excise viz-a-viz the 90 in CST, plus this situation of a 12 percent rate, that is really about putting as many utilities as you can.
So, what you are really going to see is reconcile the 300 with the 90, keep it to a bare minimum and within that what are the utilities.
The other bit is going to be, we do need to attune rates to finally go to the revenue neutral but we will get rid of exemptions and from the perspective of the whole credit mechanism you have to ensure it is as robust as possible .
If these are the three fundamentals that GST has then in terms of policy you have to replicate as much of that as you can. You may say do I want to bring the de-minimus rate also in line with what it will be in GST? Do I want to take other steps and then we get to all of the micro management in terms of if it is the sector which is infrastructure then how do we take care of that.
We know the steel industry is going through stress, how do we take care of that. So, steel, cement, but that really becomes a huge agenda. From my perspective if all of the fundamental principles of what will support GST are reaffirmed and we see a move in that direction, great.
Doshi: Which means no big changes in headline rates except for service tax?
Shah: You might see a little bit of attuning of rates but if I am looking at this Budget I am not going to be really looking at did this go up 1 percent, did this go up 2 percent. If as part of the philosophy that you want to move to a revenue neutral rate, you do it and to me it is another act of affirmation.
Coming to your issue in terms of direct tax and the correlation to indirect tax, you have SEZs out there, you really have to take a judgement call. Do I want to compete with China, do I want these clusters to be completely free of tax or are they part of the tax mainstream? What we have done is sent out a suggestion that these are supposed to be tax free and then from time to time at whim and fancy we keep changing things around.
So, my situation is you are going to take this away from SEZs, you may as well say you don't have SEZs. I am not so much into the minutiae of abc rate but are the fundamental principles flowing through because if they are then we are really in transition mode. If we are still doing a series of patch work by item and chapter, we are far away.
Doshi: So, when you say fundamental principles you are looking for stability in headline rates, you are looking for a careful pruning of exemptions as we move towards GST and you are looking for no tinkering on the minutiae part as you call it because that will seem as if we are not really down the road to GST?
Shah: And I am saying some of that you may need, it is the need of the hour. You need to look after steel, you will. All I am saying is the four fundamental principles. Are you moving to revenue neutral rates, have you got your exemptions down to a bare minimum. Is your entire credit mechanism robust and to the extent that you need to look after some goods because they are important to the consumption pattern how are you going to protect those and if you address these four then you would have achieved a lot. Too much conversation in terms of this item and that I don't know if they really have the capacity for that.
Doshi: Anything on service tax related arrests, we have seen a spate of them. Anything on reducing litigation in the indirect tax space?
Subramaniam: Litigation can reduce only when you have a law which is simple and easy to interpret on.
Doshi: So, what do you expect? Can you very briefly tell me what you are expecting besides all these rate changes?
Subramaniam: Simply I am expecting a Budget from an indirect tax perspective which is directionally moving towards what we intend to do in GST. GST may be some time away but as long as they are directionally there a few tweaks here and there sector wise really doesn't matter. It should be directionally towards GST.
Doshi: Last word?
Shah: Two things. One is you have an interest rate of 18-30 percent which is just unimaginable in any context. And given that you have disputes at the level you do that is one thing he has to look at. The other situation is penalties. They go from 10 percent up to 100 percent and in exceptional cases even beyond that. That is the other thing he has to look at.
The other thing that I am seeing is this thrust on saying let us get rid of litigation. I don't know. I have a sneaking suspicion you are probably going to see another 'Kar Vivad' type of situation. Something to just try and get rid of as much litigation as you can at one go before you get into GST.