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In the run up to the last Lok Sabha elections, Arthakranti, a Pune based think tank, came up with the idea of replacing income tax with a Banking Transaction Tax. They are also credited with mooting the idea of demonetization as the first step towards eliminating all high value notes, and pushing for digitization of all payments. Demonetization has happened, though high value notes have not really been abolished. There is a huge push towards digitization of payments and speculation refuses to die down that the 2000 rupee note will eventually also be demonetized, once digital payments gain more traction. How exactly does Arthakranti link digitization of all payments with abolition of income and other taxes? By introducing what they call a Banking Transaction tax. So, every time there is a bank transaction involving transfer of money from anybody to anybody, a levy of say 1% will be charged. This amount will be more than the income and corporate taxes that the Government so painstakingly collects year after year and engages in an elaborate collection mechanism and the consequent litigations around it.
The math looks compelling
Bank transactions account for eight hundred lakh crores annually. And, with the digitization push, this number will only increase. A 1% levy on all bank transactions will net the Government Rs.800,000 crores. Total of income tax and corporate tax is around Rs.800,000 crores and a further Rs.800,000 crores is collected by the way of all indirect taxes including service tax, sales tax, excise duty etc.
So, the math does add up. In fact, purely arithmetically, a 2% levy on all bank transactions can eliminate the need for all indirect taxes as well. No service tax, no excise duty - in future, no GST. Just a simple 2% tax on every movement of funds through the banking system.
How many people actually pay income tax?
Consider these facts: Out of a population of 1.25 billion people, only 2.5% filed income tax returns. Of this 62.5% filed nil returns. 56% of individuals paid no tax, while 39% paid 21% of the taxes on individuals. The balance 5% paid 79% of the taxes.
Lets look at the numbers again: 3 crore people file tax returns. The top 15 lakh taxpayers pay 79% of all income tax. Another 1.2 crore people pay the balance 21% of income tax. The rest 1.65 crore people file returns but pay no taxes. And as many as 122 crore Indians don't file tax returns. So, the entire income tax machinery across the country is here to collect tax from just 1.35 crore Indians. Imagine the huge time and energy that is collectively spent year after year on tax planning, filing of tax returns, tax assessments, tax appeals, tax litigation and tax law changes year after year. Is the effort really worth it?
Neat solution to eliminate black money
Now consider this: if there is no income tax, there is no black money. Black money comes into play only when you conceal it from income tax. No need to hide anything. No parallel economy. No need to invest black money into unproductive assets like gold. No need to keep buying land with black money and raise land prices to uneconomical levels. All decisions on investments taken only on merits, with no consideration towards either tax planning or tax evasion. And no harassment by any tax authorities. Sounds utopian?
The social angle
There was a time when economists and statesmen were concerned over a 'neutral' tax scheme. In theory this meant a tax that would produce as little effect as possible on consumer preferences as well as on the economy itself. Meaning the Government will not impose high duties on tobacco and alcohol and low taxes on food products - there would be a uniform tax that neither encourages nor discourages any behavior. A banking transaction tax falls in this category.
As the twentieth century progressed, the concept of a 'just' tax rather than a 'neutral' tax came to be firmly embedded in the public discourse. It was argued that people should be taxed on the 'ability to pay'. Thus people earning more income would pay more than people who earned less. This is the bedrock of the concept of 'progressive taxation'. Thus income tax today is justified more on grounds of 'social justice' rather than economic utility.
Though it is based on the principle of ability to pay, high income taxes take money away from precisely those sections of the populace that earn and save the most. This section also creates the output that is consumed by the wider public, like consumer durables, investment instruments etc. greatly increasing overall welfare. According to Austrian economist Ludwig von Mises, a high rate of income tax becomes a tax on success.
So, the debate is a classic capitalist vs socialist one: should you tax people on ability to pay or should you allow the creators of jobs and wealth to maximize their potential and thus serve common good?
Is BTT a realistic solution?
BTT has conceptual problems according to Mr. Arvind Virmani; 'the effect of BTT is the opposite of the effect of demonetization: Demonetization has incentivized the public to shift from cash to cheques and digital transactions. BTT will incentivize the use of IOUs among traders and manufacturers who know each other, so as to minimize bank transactions that they currently undertake freely among themselves. A revenue neutral replacement of a tax by BTT means that revenues are unchanged initially but bank balances won't grow as rapidly as income, so future revenues will be lower.' (Arvind Virmani blog, January 2, 2017)
Solution perhaps lies somewhere in between
If demonetization and the resultant tax scrutinies in the coming months do result in netting a lot of "big fish", one should see hopefully an appreciable rise in the top 5% slab of tax payers - who anyway contribute 79% of income tax. As that happens, and as the proposed cash withdrawal tax starts also contributing revenues, perhaps one can look towards sharp increases in the tax exemption slabs. If we reach, over the next couple of years, a situation where the "no tax" slab rises sharply from Rs. 2.5 lakhs to Rs. 10 lakhs, it won't make any impact on 80% of tax collections, while the bottom 20% will probably get eliminated. The middle class will therefore pay no income taxes, while more of the rich class will pay up, through better tax compliance, and will fill in for the vanishing 20%.
It would mean no income tax for 123 crore out of our 125 crore population, while maintaining the tax slabs for the top 2 crore (of which only 1.35 crore are actually paying taxes now). For India's vast and growing middle class, such a turn of events can actually mean acche din - finally.
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