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People First Please: A Case for Fundamental Tax Reform

Published on Mon, Jul 01,2013 | 18:15, Updated at Tue, Jul 02 at 16:58Source : 

By: Murali Neelakantan & Kaushalya Shetty, Khaitan & Co.

By amending laws with retrospective effect in the budget this financial year, the finance minister seems to have not only ignored a clear judicial mandate but also sent across the message that tax authorities are free to levy taxes indiscriminately and arbitrarily. If and when courts mete out justice to hapless citizens, the ministry will back them with retrospective legislative amendments. Introducing policy decisions of this nature only casts doubts on the credibility of the entire tax system and makes one wonder whether the interests of tax payers is really priority for the government.

It has been recently reported that INR 1,00,271 crores (about US$ 18 billion) was in dispute in direct tax cases (as on September 30, 2012) and Rs 1,08,079 crores (about US$ 19.6 billion) in respect of indirect taxes (until December 31, 2012). [1] The report of the Comptroller and Auditor General of India (CAG) in 2010 on the Tax Appeal Process in India slammed the tax department for this very reason when it said that the perception of the general public is that “it has a tendency to opt for appeals even when it is on a weak wicket.”

The words of Barry Goldwater, “the income tax created more criminals than any other single act of government” ring true now, more than ever. Criminals thrive not just within tax payers but also amongst tax collectors.

The CAG Report noted that the disposal of appeals was a third of the targeted level. At the current levels of disposal, the Commissioner of Income Tax (Appeals) (CIT (A)) would take almost two and a half years to clear just the backlog. The average time taken to dispose a case in India is around 14 months, much longer than in other countries. If one takes into account the time spent on appeals that are filed with the Supreme Court and High Courts, a case could take several years, even decades to be resolved.

The appeal process is self-defeating for the smaller tax payers who invariably cannot bear the oppressive burden of litigation which the CAG describes as “this appealititis is more detrimental when applied on small taxpayers constituting a large chunk of appellants”. (sic)

A tax payer in India has the right to appeal a tax claim to CIT (A). An appeal against the order of CIT (A) lies to the Income Tax Appellate Tribunal (ITAT), functioning under the Ministry of Law. On a question of law arising out of an order of ITAT, a taxpayer or the tax authorities may appeal to the High Courts and the Supreme Court, which once its decides the question of law sends the case back to the Assessing Officer to begin the process all over again.

Since tax payers are required to first deposit the money in dispute before appealing, tax payers suffer incessantly for the inefficiency, incompetence and corruption in the system. This process of going back and forth between the revenue officials, ITAT and courts can exhaust any honest person. Only the corrupt stand to gain, as do professional advisers at the cost of tax payers.

Rather than having the annual budget and the proposed Direct Tax Code tinker around with this broken tax system, which is like using duct tape to fix a sinking Titanic, the finance minister could do well to deal with the fundamental structural issue with our tax system - that of credibility.

The lack of accountability in Indian tax administration has perhaps led to the legendary levels of corruption within the system. It also does not help that the performance of revenue officials is judged by how much revenue they collect, often by coercion, irrespective of the legality of methods, notices or demands rather than how often they are correct in their assessment and decisions. An appraisal system that judges the performance of revenue authorities, and consequently, their career progression, on the basis of the correctness of their decisions or the number of decisions overturned in appeal is more likely to ensure that officials are incentivised to be competent, efficient and honest. This is a well acknowledged method of judging the performance of decision makers in many civilized countries and there is no reason why we cannot adopt this principle in India. Not only would it ensure that adjudicating authorities take decisions that are fair and correct in law, it would also incentivise officers who are capable and honest. Corruption, which is widely acknowledged as rampant in the revenue department should become extinct when every revenue official will weight up the lure of bribes against a career threatening dishonest assessment or arbitrary decisions which will be overturned in appeal.

When there is a credible tax system, there is no reason for the revenue to appeal against its own decisions to the tax tribunal or beyond, to the High Court and Supreme Court, which should be the sole prerogative of the tax payer. Restricting the ability of the revenue to appeal its own decisions will reduce the period of litigation and save tax payers from state sponsored oppression. Introducing this system of checks and balances will not only eliminate corruption within the system but also provide the tax payers a quick and efficient process, immunity from arbitrary tax claims and come across as credible which should result in better tax collection, lower cost of recovering tax and overall reduction in litigation.

A fundamental reform of the tax bureaucracy may seem a tad drastic to some but the Indian tax bureaucracy is in dire need of fundamental structural reform and there is no better place to begin than with its own people.

[1]  Indian Express, “Enough: Govt may choose to draw the line on tax litigation with firms”, 25 April 2013.


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