The Kelkar proposals

Vijay Kelkar displays the Report of the Task Force on Indirect taxes at a press conference in New Delhi. - AJIT KUMAR/AP

The ruling Bharatiya Janata Party wants the Kelkar Task Force recommendations to be put on hold in an election year, but other voices disfavour the final report for its pro-rich and anti-middle class approach.

GIVEN the enthusiastic response of the political parties and the public to the draft consultation paper on taxation reforms submitted by the Task Force headed by Dr. Vijay Kelkar, it was expected that the final report would be different in content. This now seems to have been a bit too much to ask. The basic problem of the recommendations is that while by and large they make economic sense, they make very little political sense. Submitting the final report, Kelkar said that most apprehensions over the implementation of the recommendations were misguided. The strong reaction from political parties made it clear that there were few takers for such an argument.

Even before the Task Force submitted its report, the Bharatiya Janata Patry began to speak in many voices. The party made it clear that it did not want to alienate its middle-class vote bank by accepting the recommendations. The panel formed under party general secretary Rajnath Singh to look into the political implications of accepting the recommendations, has predictably come up with its own set of adverse comments. Rajnath Singh said: "The panel has recommended that tax rebate on savings should end, but our party would like to encourage savings and cannot agree to anything that would hurt the salaried class. Our government would also in all probability, continue with standard deductions."

The BJP committee has had few encouraging words for the Task Force (Frontline, November 23). The recommendations that the BJP rejected outright, include the elimination of standard deductions and the incentives for savings and the suggestion that State governments tax agricultural income. On January 5, after a two-hour meeting, the committee made it clear that it did not favour taxing the agricultural sector. The overwhelming reaction was that the Task Force was anti middle-class and anti-farmer.

It was the suggestion to tax agricultural income that has evoked the strongest reactions. Union Agriculture Minister Ajit Singh said: "If the intention is to check `cheating' by non-agriculturists having farm income, it is the duty of the income tax authorities to do so." It is practically difficult to ascertain farm income as agriculture is affected by many factors, he said. "Input costs are different for different areas, and the vagaries of the weather play a significant role in determining farmers' earnings." The truth of the matter is that the exemption of farm income from tax is extensively misused for tax evasion. A large number of taxpayers "turn farmers" and show huge incomes from non-agricultural activities as "agricultural income" in their tax returns and claim exemption. The Kelkar panel pointed out that tax evaded in this manner amounted to a whopping Rs.1,000 crores annually.

The panel was surprised to find that a large number of returns filed in Mumbai showed substantial agricultural incomes.

Predictably, the BJP's reactions have been tempered by the coming Assembly elections in nine States, including such crucial ones as Madhya Pradesh, Rajasthan, Himachal Pradesh and Chhattisgarh, and Delhi, and the general elections next year. The dominant view in the party is that proposals that could even remotely affect the middle-class and the farming community should be put on hold. Although some party leaders, including Vijay Kumar Malhotra, think that the recommendations are laudable, they are in a minority. Malhotra said: "Some of the suggestions made by the Kelkar Committee are truly revolutionary. The proposal to increase the exemption limit from Rs.50,000 to Rs.1 lakh, the reduction in the number of slabs from three to two, the recommendation to do away with the surcharge on income tax, and the additional relief mooted for senior citizens and women, are welcome."

THE Kelkar Panel has recommended easing the tax burden on personal income taxpayers irrespective of whether they are at the bottom of the tax slab or in the upper slabs. Only two basic rates have been proposed - 20 and 30 per cent - with the first slab commencing only at Rs.1 lakh and the second from Rs.4 lakhs (against Rs.1.5 lakhs now).

The corporate sector has reason for cheer, given that several of its long-term demands have been considered by the panel. Abolition of the tax on dividend distribution and long-term capital gains on listed stocks, besides the removal of minimum alternate tax (MAT), are among the major recommendations. The corporates had been arguing that MAT should be abolished as it is difficult to compute.

However, it is the single recommendation of exemption to dividends in the hands of recipients, which has labelled the Kelkar report pro-rich. In 1997, dividends received in the hands of the recipient were not subjected to income tax and a 10 per cent dividend tax was levied on corporates. With a public outcry over the massive give away, the dividend tax was raised to 20 per cent. When the corporates objected, the tax on dividends was once again reduced to 10 per cent. Seeing the extent of its folly, the Union government in its 2002 Budget abolished the 10 per cent dividend tax, and dividends were no longer exempt in the hands of the recipient. What is outrageous is that the Kelkar panel also wants the 10 per cent dividend tax on corporates to be abolished.

The Task Force has suggested that the rate of tax for corporates be reduced from the existing 36.75 per cent (including surcharge) to 30 per cent for domestic companies, while the tax on foreign companies be reduced from 42 per cent to 35 per cent. This would mean that they would have more money in their hands. The panel has done this believing that this money would mean fresh investments. The panel has retained its original recommendation of tax profits as reported under the Company Law and to do away with a separate set of accounts, which accelerate depreciation for tax purposes. However, the distinction between unabsorbed depreciation and unabsorbed business losses would be removed and business loss would be allowed to be carried forward indefinitely.

A CAREFUL reading of the report reveals that in essence the final recommendations are no different from what was submitted in the draft consultation paper. It retains its basic thrust of reducing rates and overhauling the tax administration so as to reduce compliance costs and boost tax collections. In the first chapter, the panel has tried to explain the logic behind its recommendations. The draft report's recommendation of phasing out tax benefits in three years, which had come under criticism, has been modified in the final report.

The final report has partially retained the tax sops under the Provident Fund scheme. The draft had recommended the withdrawal of all tax sops.

The only area where the panel has diluted its stance is with reference to housing. Even here the sops recommended are not enough. After recommending the elimination of deduction of mortgage interest (currently available up to Rs.1.5 lakhs), the panel has now softened its stand. It has offered two options to the government. First, providing a 2 per cent interest subsidy to be provided by the National Housing Bank on all home loans below Rs.5 lakhs. The other option would be to reduce the amount of mortgage interest deductible for taxable interest purposes from Rs.1.5 lakhs now to Rs.50,000. If these recommendations are accepted by the government, they would leave the taxpayers in the lurch. It would mean that the government would be withdrawing the tax break for all those who have already taken housing loans and locked themselves into commitments. That such a step would affect the economy as well is clear. This is because housing deduction was introduced to encourage asset building.

Trying to present a human face to its thinking, the panel claimed that it was wrong to say that the report was not favourable to the vulnerable groups. It emphasised that the younger a person, the more likely that he/she would support the proposals. The final report has given senior citizens a larger incentive to save old-age pensions, and fiscal support for housing. It has also made a higher exemption limit for senior citizens - Rs.1.5 lakhs as opposed to Rs.1 lakh for the general category. While presenting the final report, the panel claimed that these provisions made it clear that it had the interest of the people in mind.

Sitaram Yechury, Polit Bureau member of the Communist Party of India (Marxist), said: "The panel has not been formed for the citizens, the elderly or women. If one takes the macro-level dimensions into view then it becomes clear that the report benefits the corporate world at the expense of the middle class." The main flaw in the government's working remains that the proposals are not enough to achieve the objectives for which they have been put forward. If the intention of the panel was to boost the economy, it has failed to do so in its recommendations. Sitaram Yechury empahsised: "The philosophy of leaving lesser purchasing power in the hands of the middle-class will affect the economy in an adverse manner. It will worsen the economic slowdown."

The sympathisers of the report point out that, if nothing else, it should be lauded as a semi-budget exercise, which will introduce transparency in the process of budget-making. It is hoped that even if, under political compulsions, the government does not implement the recommendations, in the long run the report will be beneficial as it will help spell out medium- and long-term road maps for tax reforms. It remains to be seen how many of the panel's recommendations will be implemented.