For a new sales tax regime

The introduction of standardised rates for sales tax across the country is expected to end the diversion of trade from one State to another, but some obstacles remain.

HOPPING across to an adjoining State to make a major purchase in order to take advantage of lower sales tax rates there will make little sense when a new sales tax regime falls into place. The Centre had set a January 15 deadline to enforce uniform floor sales tax rates across the country.

Sales tax constitutes the largest source of revenue for States. Under the revamped sales tax structure, all States will have uniform floor rates of 0, 4, 8 and 12 per cent. Rates of 1 per cent and 20 per cent will apply to a few specified items. All the recommended rates are floor rates and the States are free to levy a higher rate on any commodity from the list of 260 items, but they cannot go below these rates. The list of items in each category is being fine-tuned. The introduction of standardised ra tes is expected to end the diversion of trade from one State to another.

The States have also been directed to phase out sales tax related incentives offered to investors. Currently, States grant a host of incentives, such as sales tax exemption on certain products or on the purchase of inputs. Incentives are also available i n the form of sales tax loans and/or tax deferral. The reports of the Committee of Finance Ministers (August 1998) and the Committee of Finance Secretaries (November 1999) found that besides causing a loss to the exchequers of States by as much as 25 per cent of the sales tax base, incentives and concessions, when offered by all the States, do not produce the desired result of attracting investments. At present, all States except Delhi, Nagaland and Sikkim grant similar concessions.

Dr. Mahesh C. Purohit, economist and Member-Secretary of the Standing Committee of Finance Ministers to Monitor Sales Tax Reforms, told Frontline that the States would not be required to abolish existing incentives and concessions given to various industries, but will have to refrain from offering concessions to new investors. The Conference of Chief Ministers and Finance Ministers in 1999 had agreed to abolish all future incentives. Dr. Purohit also claimed that the impact of the changes will be revenue-neutral although he said that no recent study has been undertaken to compute the revenue impact.

Sales tax reforms have been planned as a prelude to the introduction of Value Added Tax (VAT). Nine States - Karnataka, Kerala, Andhra Pradesh, Maharashtra, Gujarat, Madhya Pradesh, West Bengal, Assam and Tripura - have implemented the new rates. The oth er States have been given an ultimatum and threatened with penalties if they failed to implement the rates. Dr. Purohit told Frontline that the States would be reported to the Finance Commission, which could then hamper the devolution process in t he State concerned. When asked how a committee set up by the Centre could force the States to implement its directive on a State subject, Dr. Purohit said that the resolution to move over to the new regime was made unanimously by the State Finance Minist ers and therefore there was no question of the Centre forcing its decision on them. "The Centre is providing only a forum for coordination on a decision which was taken by the States themselves," he explained.

While Union Finance Minister Yashwant Sinha is committed to introducing the new rates in all the States and Union Territories, there are problem areas. Some States have not yet implemented the new system for fear of diversion of trade, especially to adjo ining States and Union Territories that have not implemented the new rates.

Madhya Pradesh is reported to be reconsidering its decision to adopt the new floor rates unless the States bordering it have also done so. Reports from West Bengal indicate that there is immense pressure from the industry and trade lobby to scrap the uni form floor rates. Assam is also worried about diversion of trade to Arunachal Pradesh, which does not have sales tax at all. Punjab is concerned about the rates prevailing in Chandigarh.

Tamil Nadu is unwilling to shift until Pondicherry moves to the new regime. A team of officials will visit Pondicherry to impress upon the trade lobby and the Opposition on the necessity of moving into the new regime. Of the 260 items in various categori es, Pondicherry needs to adjust the rates of 100 items.

A partner in the Bharatiya Janata Party-led National Democratic Alliance Government at the Centre, the Dravida Munnetra Kazhagam has taken a strong line against the Centre fixing a deadline. At a specially convened press conference on January 11, Tamil N adu Chief Minister M. Karunanidhi said: "It is not proper to set a deadline. This action affects the rights of States. It is not desirable that the Union Government sets a deadline of January 15 instead of sitting down with the State governments, discuss ing the issue with them and finding an amicable solution. This is inimical to State autonomy and federalism."

Karunanidhi said that it was not as if his Government did not agree to the principle of uniform sales tax. There were differences of opinion only on the rates on 39 items. After discussions with the Centre, the delegation from Tamil Nadu agreed to the ta x on 14 items. There was no meeting ground on the remaining 25 items. More discussions were planned. The Tamil Nadu Government did not want to increase sales tax from 2 to 4 per cent on urea, artificial yarn and cotton yarn. Similarly, there was no tax i n the State on edible oil, maize products, hosiery products and cycle rickshaws. But the Centre wanted the State to charge a sales tax of 4 per cent on these goods.

Karunanidhi added that implementing the uniform sales tax in Tamil Nadu would be of no use if Pondicherry did not do so too. "The Centre has to think hard and take a decision after considering the situation in Pondicherry and the demands made by the Gove rnment there," the Chief Minister said.

After meeting Prime Minister Atal Behari Vajpayee in New Delhi on January 12, Karunanidhi said that he had asked the Prime Minister not to set a deadline and also appraised him about the difficulties in implementing the new rates.

There are also disputes relating to the classification of items vis-a-vis the floor rates. Andhra Pradesh is reportedly seeking zero tax on pasteurised milk and salt, sprinkler systems, agricultural implements and renewable energy devices. The Delhi gove rnment wants a 4 per cent floor rate on groceries, dry fruits, loose tea, electronic components, computers, chemicals, plastic raw materials, non-ferrous metals and toys - many of which fall under the 8 per cent rate category. Delhi also wants zero sales tax on handmade matches, cooked food served in dhabas, life-saving drugs and vaccines, note books and drawing books for schools, and so on. Karnataka is reportedly against levying sales tax on silk. Gujarat has sought zero floor rates on pasteurised mil k, branded bread, iodised salt and safety matches.

IN view of the differences, the panel of State Finance Ministers that was set up to monitor the implementation of uniform floor rates decided to review the floor rates on certain items, including pasteurised milk, branded bread, processed salt, charcoal, firewood, agricultural implements, tractors, raw silk, computers, plastic goods and industrial inputs. On the whole, it is expected that in most States the tax on luxury items will go down to the mandated 12 per cent - clearly an inequitous impact, not to mention the resultant revenue implications. Delhi might be a lone gainer with the current 6 per cent tax on luxury items going up to 12 per cent although it is not good news for Delhiites intending to buy automobiles.

VAT, which is to be introduced from April 1, 2001, is predicated upon the introduction of a standardised and rationalised sales tax structure. The adoption of VAT has been necessitated by the structural adjustment programme which has brought down export duties and ushered in international competition in trade. Dr. Purohit said: "We have to introduce VAT to facilitate free trade among the member-countries of the South Asian Association for Regional Cooperation (SAARC) to which we have already committed. Union excise duty was revamped with the introduction of Modified Value Added Tax (MODVAT) in 1986. Compared to a thousand rates earlier, we now have only six. Now sales tax will have to be rationalised if we are to adhere to our schedule of switching ove r to a VAT system by 2001."

Experts claim that VAT, which has been adopted in many parts of the world, especially in developed countries, is a structure superior in terms of allocative efficiency and neutrality. Further, it would avoid the cascading effect that is unavoidable in th e current rate structure. VAT is also a neutral tax and will capture value addition in the production-distribution process. Economists believe that VAT will reduce economic distortions and encourage industrial development.

(with inputs from T.S. Subramanian in Chennai)