India Will Accept a Not-So-Perfect Tax Over Nothing at All

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After spending about a decade trying to whittle down more than a dozen state levies into a single national tax, India will settle for two instead.

A parliamentary panel endorsed a compromise that will allow states to receive a levy of as much as 1 percent on products made in their territory. It will last for about two years after the goods and services tax takes effect.

“This is the price that you pay to get everybody who was a stakeholder to agree to implementing a transformative tax regime,” Rajeev Chandrasekhar, a lawmaker who sat on the panel, told Bloomberg TV India on Wednesday.

The deal paves the way for Prime Minister Narendra Modi to pass one of India’s biggest economic reforms in decades during the current parliament session that runs through mid-August. That would keep him on track to meet a self-imposed April 2016 deadline for implementation.

Under India’s current system, its 29 states operate like different countries. A truck carrying goods from the southern state of Tamil Nadu to Punjab in the north needs to pay at least five different taxes or charges at varying rates -- at the factory gate, state borders and retail points.

The 1 percent levy -- and a panel recommendation to avoid cascading taxes -- means that Tamil Nadu and other states will temporarily collect extra cash for products they produce while eliminating the other payments in between.

Perfection Unrealistic

“The additional tax in the GST model is not a superior kind of outcome, but if we are waiting for a perfect one to be rolled out, it will be unrealistic,” said Shubhada Rao, an economist at Yes Bank Ltd. “It’s better to begin and then fine tune it along the way.”

While nearly all of India’s lawmakers support the idea of a GST, few of Modi’s opponents want to grant him a major legislative victory. He faces resistance in the upper house of parliament, where his party doesn’t hold a majority.

If the current constitutional amendment is passed, it then needs to be ratified by more than half of India’s 29 states. Then parliament must pass another bill to implement the GST. The overall rate, which would vary for different goods, will be set by a newly formed GST Council headed by the finance minister.

The opposition Congress party, which originally proposed the GST in 2006, dissented to the parliamentary panel’s report. It has also disrupted proceedings earlier this week to protest corruption scandals involving Modi’s party.

‘Irresponsible Action’

Congress wants the 1 percent levy to be removed, the overall GST rate capped at 18 percent and all major products covered. That includes alcohol, one of the most lucrative goods that Modi’s administration had agreed to exempt as another political compromise with state governments.

“I hope Congress will reconsider its irresponsible action,” Finance Minister Arun Jaitley told lawmakers on Wednesday. The committee’s report takes the government a step closer to implementation of the GST, Revenue Secretary Shaktikanta Das wrote on Twitter.

The panel’s recommendation that the 1 percent levy is only applied at the point of sale might prompt some states that will lose revenue to oppose the bill, said Sachin Menon, head of indirect taxes at KPMG in India. The current proposal says the federal government will compensate states for revenue losses for five years.

Even so, the total gains are likely to outweigh losses over the long term. The GST will help curb tax evasion, cut logistics costs and boost gross domestic product by as much as 2 percentage points annually, according to The Associated Chambers of Commerce and Industry of India.

The “retrograde” 1 percent tax can be removed once states see revenues climb due to easier compliance with the GST, said Dharmesh Panchal, an indirect tax partner at PricewaterhouseCoopers India. “We can live with some aberrations for a year or two if it means the bill will be passed.”