By Aryan Agarwal, Richa Sekhani, and Deepanshu Mohan
The idea of the Goods and Services Tax (GST) was first conceived by the task force on implementation of the Fiscal Responsibility and Budget Management Act, 2003. The tax system was conceptualised to address the heavily skewed proportion of indirect tax rates that prevailed under India’s complicated tax regime. Considered as a destination-based tax, the final introduction of GST on July 1st 2017 sought to simplify the federal construct of indirect taxation, lower compliance cost, and increase the overall “formalisation” of the business economy across India, in the hopes of making it an attractive destination for greater investment.
The intent of the tax and its functional nature seeks to offer a more simplified, indirect tax system. However, the implementation of the tax system across different states have yielded mixed effects so far. A report by the Tribune highlighted some of the key implementation problems concerned with the rollout of GST after July, providing a detailed analysis on the short-term impact of the tax on small and medium enterprises in the two cities of Rudrapur, Uttarakhand, and Malappuram, Kerala.
According to an economic survey conducted by the National Informatics Centre (NIC), the implementation of GST so far, has resulted in an increase in the number of unique indirect taxpayers by more than 50%. There are 3.4 million new indirect tax registrants. The level of tax filers by November 2017 was 31% greater. The Finance Minister stated that 7.2 million of the 8 million indirect tax assesses under the earlier tax system have migrated to GST, while 1.3 million new taxpayers have also signed up under the new system, indicating that the tax base is set to widen significantly by the end of the financial year.
However, in a recent field study conducted by the Centre for New Economics Studies (CNES), O.P. Jindal Global University, we interviewed 40 businessmen and women in the manufacturing and service sector from Rudrapur and Malappuram.
The study was designed to assess:
- The problems faced in the adoption of GST through the cost of transitioning from the previous tax system to GST.
- A net-effect on the overall compliance cost for doing business.
- The degree to which there has been a business transition from the informal to the formal sector.
Registering for GST
Before GST, a typical business in India had to take a service tax number and a value added tax (VAT) number. Depending on the product and the market, some businesses had to additionally take the excise number, customs number, and more. These permissions had government fees ranging from Rs 1,000 to Rs 5,000, depending on the tax number applied. Many processes had to be completed physically. A common practice was to hire tax practitioners or lawyers for registering their business. However, these professionals, who are usually chartered accountants or tax-practising lawyers, often charge government fees as well as their service fees. This inflates the compliance cost to Rs 5,000 to Rs 10,000.
In order to minimise the transition cost, the government waived off the GST number application fees, simplified the process, and moved it online to enable transparency. However, the market for tax practitioners prospered. These accountants helped businesses to obtain GST numbers by charging businesses anywhere between Rs 1,500 and Rs 10,000.
Of the total respondents, the average cost of obtaining a GST number was Rs 2,320. When looked at closely, it was noted that the average cost to obtain a GST number was lower for well-off or large businesses as compared to the small traders.
Increased tax returns and compliance costs
GST led to a 200% increase in the compliance cost for the 40 interviewed small and medium-scale businesses. The effect seems to be the same as observed for most other small and medium-scale traders in these two cities. At first, the businesses suffered from the one-time transition cost. Small businesses lacked the required infrastructure—printer, and software specially designed for GST—which made GST compliance challenging, time-consuming, and costly for them.
Apart from the one-time cost, the businesses faced challenges due to a permanent increase in tax-compliance cost. This is because over 90% of the businesses that were surveyed used professional help in filing taxes. Since the uploading of each invoice, now, has to be done regularly, an accountant may have to be designated for this purpose, which small businesses may not be able to afford.
The number of filings has also increased from around four to a minimum of 37 per year for each registration, considering GSTR-1, GSTR-2, and GSTR-3 as three separate returns. The increase in frequency has led to these professionals increasing their fees.
During an interview with the researchers conducting the study, one of the ration seller’s said: “Just for complying with this system, I had to buy a computer, a printer and some software called Tally. In addition, I have to keep a part-time accountant. It cost me more than I could make in a year. Whom should I ask for this money?”
Due to increased frequency of tax-return, the practitioners now have to devote more time to filing tax. This has decreased their capacity to serve the same number of businesses as they were doing pre-GST implementation, resulting in an increase of their service charges, which also impacts the tax compliance costs of businesses.
Transition from the informal” to the “formal” sector
In India, the National Commission for Enterprises in the Unorganised Sector (NCEUS) defines the unorganised informal sector as “all unincorporated private enterprises owned by individuals or households engaged in the sale and production of goods and services operated on a proprietary or partnership basis and with less than ten total workers.”
According to an estimate, India’s informal economy contributes 20% to the GDP. However, most of these firms are largely non-compliant with regulatory norms, and evade tax. This leads to a shortfall in the government’s revenues.
The government cited the shifting of the informal sector to the formal sector as one of the major victories of GST. It was expected that the informal sector will come under the regulatory framework, and pay taxes. The businesses that do not adapt to GST will ultimately shutdown ending the informal sector. However, this was not found to be true in the study.
According to our interview-based observations:-
- Businesses that sold to end-consumers, have continued to sell their products in the informal market. There was little or no shift from informal to the formal sector.
- Only 20% of the total businesses showed a partial shift to the formal sector. Majority of this shift towards formalisation was seen in the restaurant industry.
Lack of adequate infrastructure
Ever since the launch of GST, the website is constantly crashing or running slow. Almost 100% of the respondents complained about the slow, constantly crashing, time-consuming, and non-user friendly GST website. The constant crashing of the website has caused businesses to spend more than usual time on the website to file their tax returns. During the peak hours or last days of the tax return, the website crashes frequently.
A businessman from Kerala said, “The constant crashing of GST website is unacceptable. It increases my time spent on unproductive work. The government should take help of multinational companies who have very good websites which doesn’t even crash when there is a huge influx of people visiting it simultaneously.”
Frequently changing tax rates
Since the implementation of GST, there have been multiple changes in the tax slab of a large number of goods. Although this helped the government lower the price of essential daily goods, it hampered the businesses selling such products. The frequent changes in tax rates have made businesses sceptical of maintaining inventory. Business owners are worried that the high-tax-rate inventory will bring them a loss.
A ration seller said, “I had 25 tons of surf (detergent powder). I bought it at 28% GST. Overnight the government reduced the tax to 18%. Now I run in deep losses. I can’t even sell it at my buying price.
“They (government) say that they will refund our losses, but who knows? 10 other shop-keepers in the town are also facing losses. I don’t think we will get refund from the government. Let’s see what happens.”
A consequence-sensitive approach to public policymaking, including tax policies, warrants the agency of the state to consider various instrumental processes and costs involved in implementing the policy over a period of time, and the likely outcomes culminating from its final execution. Despite the government’s efforts to lower the transition and compliance costs after the implementation of GST, our study found contrary results. SMEs are facing difficulties in the new tax regime, due to their increased compliance costs.
A major expectation from GST was to help formalise the informal economy. However, as the study finds, there was little shift towards formalisation. What is more, the study documented a high degree of discontent amongst businesses, due to frequently-changing tax rates, a constantly crashing website, and increased the frequency of tax-returns.
The shifting of small businesses to the online platform for GST is a costly and uphill task. In order to improve the situation, the government should promote schemes to train businesses for self-tax-compliance. Apart from self-reliance, building and maintaining an adequate infrastructure for GST should be prioritised. Constant crashing of GST website, and technical glitches should be resolved at the earliest. Finalising the tax-rates on various products will help businesses to function optimally.
These steps will allow businesses to overcome the effect of GST transition. Thus, the craft of policymaking in India must align economic incentives in a way that allows the state, and the citizens to work in a mutually cooperative way, and collectively share the benefits that accrue from the effects of a public policy.
Aryan Agarwal is a research analyst at the Centre for New Economics Studies (CNES), OP Jindal Global University.
Richa Sekhani is a researcher at ICRIER, New Delhi.
Deepanshu Mohan is an assistant professor of economics and the executive director at CNES, OP Jindal Global University.