Expand GST base, reduce the compliance burden

Pruning the GST exemption list and keeping the threshold at a reasonably high level is an integral part of the reform to keep the tax base broad and avoid levying it at high rates

The 47th meeting of the Goods and Services Tax (GST) Council took several important decisions on withdrawing exemptions and concessions on some goods and services, rationalising some rates to minimise the inverted duty structure (where the input tax credit due is more than the tax payable on outputs), besides recommending some administrative changes and clarifications.

The main argument for exempting pre-packed food items is that these constitute a large proportion of the consumption basket of low-income groups. However, most low-income households do not buy pre-packed food items but items sold in small quantities and loose. (Arun Sharma/HT PHOTO)

The most important of the changes was the decision to levy a 5% GST on pre-packaged and labelled local unbranded products such as rice, wheat, curd, lassi, papad, and honey. Although all state governments agreed with the Council’s decision, some had second thoughts, perhaps due to local compulsions. For example, the finance minister of Kerala, KN Balagopal, stated that it is premature to levy GST on items of everyday use, including pre-packed food items, when the prices of daily-use items are on the rise. He added that Kerala would not tax items sold by entities such as Kudumbashree and small stores in one- or two-kilo packets.

Coming after the Supreme Court judgment that the GST Council is only an advisory body and the sovereign powers to change the tax structure lie with Parliament and state legislatures, such decisions to deviate from the GST Council’s recommendations can threaten to disrupt the uniformity and harmony in the tax system.

However, there are also conceptual questions about how sound the decision to withdraw these exemptions is and whether there are better ways to shield the lower-income groups and ensure equity.

The main argument for exempting pre-packed food items is that these constitute a large proportion of the consumption basket of low-income groups. However, most low-income households do not buy pre-packed food items but items sold in small quantities and loose.

Second, the exemption is not limited to the poor, even when the relative consumption of these goods by low-income groups is higher. As a result, the absolute consumption by the non-poor category could be higher, and their gain from the exemption may accrue to the latter more than the former.

Third, the equity objective is better achieved by focusing on anti-poverty interventions such as cash transfers rather than changing the income distribution through taxes and subsidies. Therefore, experts argue that it is desirable to broaden the base by removing exemptions and focusing on poverty reduction rather than changing the income distribution. This, they say, should be done through the expenditure side of the budget. Collecting taxes from perishables and unpacked food items is administratively difficult, and exempting them is unavoidable. The critical point is that there is a better way to deal with equity than having a long exemption list.

At the same time, there is merit in the argument made by the Kerala finance minister that the items sold by NGOs such as Kudumbashree and small unorganised sector traders must be treated differently. These are decentralised producers and sellers and provide employment, and financial security to several women organised into self-help groups.

There are about 26,5282 neighbourhood groups (NHGs) in Kerala. The answer to protecting them from the tyranny of taxation is not to have an expanded list of exemptions, including those on pre-packed food items, but to keep the threshold for registration at a reasonably high level. When each NHG is considered a different unit, most of them fall below the prescribed threshold. This reduces the compliance cost of many small businesses and serves the case of equity as most low-income earners purchase their requirements from small traders.

Presently, the threshold for registering businesses dealing in goods is ₹40 lakh, and those in services are ₹20 lakh. The GST Council could consider increasing the threshold to ₹50 lakh for both. Unfortunately, data on turnover-wise taxpayers, their turnovers, and tax paid are not in the public domain, but the information collected from Karnataka for 2019-20 shows that the business with less than ₹50 lakh annual turnovers constituted 92.7% of the number of taxpayers. They accounted for 6.5% of the total turnover and 12% of the tax paid.

Keeping the threshold at ₹50 lakh annual turnover would substantially reduce the administrative burden and allow the authorities to focus on the “whales” rather than the “minnows”. This would also solve the issue of exempting the products of Kudumbashree and other small traders whose wares are bought predominantly from the poor. Pruning the exemption list and keeping the threshold at a reasonably high level is an integral part of the reform to keep the tax base broad and avoid levying it at high rates.

M Govinda Rao is chief economic adviser, Brickwork Ratings. He was a member of the 14th Finance Commission and former director, National Institute of Public Finance and Policy The views expressed are personal