Monday, June 24, 2024

The truth about who really pays 90% of GST collected

In response to an Oxfam report that says the poorer half of India’s population pays two-thirds of the Goods and Services Tax (GST) collected by the government while the richest 10% account for just 3-4% of GST collections, the government has highlighted another statistic: 90% of the GST collected comes from just 22% of GST payers, comprising large businesses with a turnover above 50 crore.

Two factors are intertwined in this. The first is the source from which the tax is collected, and the second is who actually bears the burden of the levy. The simple fact that the bulk of the collection is from a little over a fifth of taxpayers does not in any way contradict the claim that the bulk of the indirect tax burden is borne by the poorer half of the population.

GST is a consumption tax and is borne by the ultimate consumer, whether he or she is transparently billed for it or not. The beauty of the GST mechanism is that the tax paid by the end consumer is the only tax contained in the price of the product or service in question. There is no cascading tax in the supply chain of accretive value leading up to the final product or service. 

Or at least that would have been the case if all goods and services had been brought under GST. Exempting fuel from the value added tax has been a major source of cascading tax — the transport cost that gets built into the price that is taxed already contains non-GST levies, resulting in tax on tax.

That does not change the fact that it is the end consumer who bears the tax burden. When it comes to GST, those who pay the tax to the government are not necessarily the ones who ultimately bear it. The tax comes out of the pockets of consumers but is paid to the government by businesses.

Fast-moving consumer goods (FMCG) are sold by distributors to a large number of small retail outlets at a price that already includes the GST borne by the goods, and since these retail outlets simply add a mark-up to generate their own margins and sell the goods to end consumers without a bill or without claiming input tax credit, the tax payment chain ends well before the end consumer. But that does not mean that the end consumer does not bear the burden of the tax paid by the distributor, who may figure among the large taxpayers who contribute the bulk of the GST collected by the government.

India has over six crore enterprises producing goods and services, and only 1.35 crore are registered with the GST network. Of these about 15 lakh are composition taxpayers – meaning small players – with turnovers less than 75 lakh ( 50 lakh in some states), who do not keep track of individual transactions and pay tax as a proportion of gross revenue every quarter.

Now, the finance minister has revealed that, of these registered taxpayers, about a fifth pay 90% of the tax. What this means is that in addition to bringing ever-larger numbers of productive enterprises under GST – even if under the composition scheme – efforts must be made to ensure that more of the registered taxpayers pay tax regularly.

Greater use of the reverse charge mechanism may be the solution. When a large supplier sells to a small buyer, he charges GST, collects it and pays it to the government, while also collecting whatever input tax credit is due. The small buyer absorbs the tax like an end consumer. If the small buyer is indeed the end consumer, this is fine. But suppose the small buyer, say A, uses this purchase as an input and goes on to add value and sell it to another small party, say B. If A is registered under the composition scheme, this last transaction will bear GST as part of the tax levied on A’s turnover. If A is not registered under GST, the value it adds does not bear tax.

In case B is a GST-paying entity, A can be incentivised to become a taxpayer — by B, rather than A as the supplier, levying GST on A’s supply, paying it to the government directly, rather than to A, and crediting A as having levied the tax on B.

Now, the GST network has data on sales to A, on which it has paid GST to its supplier, who, in turn has paid it to the government after claiming input tax credit. The GST network also has data on sales by A to B, on which GST has been paid by B on A’s behalf. The GST network can credit A with the GST already paid when he purchased the inputs, so that the GST charged by B on A’s supply and paid to the government is effectively reduced by the amount of GST A has already paid. This gives A an incentive to formally enter the GST framework.

The system of the buyer paying the GST chargeable on the purchase directly to the government, instead of paying it to the seller and expecting the seller to pay it to the government after claiming input tax credit, is called reverse charge. Reverse charge spares small players the paperwork of collecting GST and paying it to the government.

Following up on the GST trail of suppliers of bulk raw materials – whether polyester filament or steel – down the chain of value added would widen the tax base of both GST and income tax. Greater use of the reverse charge mechanism could induce more small operators to become regular payers of GST.

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