Dr. Rajeev Ranade
Additional Director General of Income
Tax -1, NADT, Nagpur
rajeev855@gmail.com
Sh. Rajeev Ranade is an IRS officer of 1991 Batch and is currently posted as Additional Director General-1, National Academy of Direct Taxes Nagpur. He had worked extensively in the field of Taxation of charitable Institutions, trust and societies and had received a PHD Degree in this field from Pune University. He was the course Director for the training of 65th Batch of IRS. He is also an acclaimed flutist.
| Executive Summary
A Tax break is a saving on a tax payer’s liability and provides savings to tax deductions and exemptions. Tax breaks are an essential component of any taxing statute. However, as a result of the tax breaks, a chunk of revenue otherwise available to the exchequer is lost. Tax breaks are based on the theory that the government is compensated for the loss of revenue by relief from financial burden which would otherwise have to be met by appropriation from public funds and by the benefit resulting from the promotion of general welfare. In view of these principles, tax breaks are factored in a taxing statute to achieve socio-economic justice. |
1. A Tax break is a saving on a tax payer’s liability and provides savings to tax deductions and exemptions. Tax breaks are an essential component of any taxing statute. However, as a result of the tax breaks, a chunk of revenue otherwise available to the exchequer is lost. Tax breaks are based on the theory that the government is compensated for the loss of revenue by relief from financial burden which would otherwise have to be met by appropriation from public funds and by the benefit resulting from the promotion of general welfare. In view of these principles, tax breaks are factored in a taxing statute to achieve socio-economic justice.
2. The use of tax incentives to attract investments is prevalent around the world. However, there is no definitive data on the global magnitude of incentives granted because not all countries collect and publicly report such data and there is no common methodology for reporting across all countries. Rough estimate by Action Aid (2013) pegs the incentives granted by developing countries from corporate income tax (CIT) at $138 billion. For selected Asian countries, UN Economic and Social Commission for Asia and the Pacific (2014) estimates that tax breaks granted ranges from 0 per cent to 0.6 per cent and 0.1 per cent to 8.1 per cent of GDP from CIT breaks and customs duty.
3. The immediate and direct effect of tax incentives is loss of potential revenues for governments, and a significant burden to developing countries. Tax incentives undermine government’s efforts to raise adequate domestic resources to finance the delivery of essential services and social protection at the scale and quality necessary to ensure that their citizens are able to fulfil unrealized rights, address inequality and meet sustainable development goals for all. Widespread use of tax incentives is also linked to problems of corruption and poor governance.
4. Tax incentives essentially constitute a set of fiscal policy tools that governments use to achieve desired economic and social policy outcomes. It is an exercise of the state’s taxing power but with negative effect on public revenues. While imposing taxes increases public revenues, granting tax incentives involves calibrating the design and scope of the tax system to favour certain groups by partially waiving the collection of taxes otherwise due to encourage undertaking of certain behaviours, decisions or activities.
5. The most common use of tax incentives is to promote investments. They serve to attract flow of capital in preferred locations and sectors of the economy or to undertake specific investment activities (e.g. financing infrastructure projects, research and development). Tax breaks are provided for various reasons such as
a. Charitable activities
b. Encouraging personal savings
c. Providing boost to exports thru SEZs
d. Encouraging infra. development
e. Balanced regional growth.
f. Environmental activities
g. Accelerated depreciation etc
The tax breaks are provided in the direct taxes as well as indirect taxes. The following table gives the revenue foregone estimate, its percentage to GDP and percentage of CT revenue foregone in INDIA for the years 09-10 to 12-13.
| F.Y. | REVENUE FOREGONE (CR.) |
AS % OF GDP | % OF CT REVENUE FOREGONE |
| 09-10 | 482432 | 7.4 | 1.1 |
| 10-11 | 459075 | 6.1 | 0.8 |
| 11-12 | 533583 | 5.9 | 0.7 |
| 12-13 | 573630 | 5.7 | 0.7 |
The following graphic depicts the revenue foregone under various heads and their ratio to GDP for F.Y. 16-17.
6. The composition of tax breaks in the above chart is also very interesting. The total revenue foregone consists of % on account of custom duty, 24.5% on account of excise, 27% on account of CT and 23.7% on account of IT. There is a need to re-examine the tax breaks looking at such substantial volume. This is because absence of tax breaks would result in so much additional tax revenue for the government. The question which needs to be looked into is whether the tax breaks provided are contributing to the purpose for which they have been made and whether these tax breaks can be suitably modified and minimized.
7. Several committees like the Shome Committee, Kelkar Committee have studied the relevance and efficacy of tax breaks. Dr. Amreesh Bagchi has done extensive work on this area. From the studies the following conclusions emerge: –
7.1 There is a widespread perception that frequent changes in the tax code have been akin to substituting the erstwhile license raj with an exemption raj.
7.2 Tax policy and Tax administration are interlinked. A complex tax policy involving many deductions and exemptions leads to a complex tax legislation.
7.3 This inevitably leads to cumbersome administration through a cascading effect on filing, compliance procedure and enforcement measures.
7.4 The series to adhoc exemptions has only served to clutter the culture of compliance.
7.5 Every exemption has a constituency and since democratic systems tend to respond to constituencies, a tax break to one constituency inevitably spawns similar demand by other constituency.
7.6 Tax codes have become replete with exemptions, allowances, deductions and incentives. What started as sectoral and specific relief from his taxes was soon extended to facilitate and accommodate social or developmental goals.
7.7 It has been rarely analysed whether such tax exemptions have achieved the desired objectives.
7.8 The tax breaks have developed life of their own and inevitably multiplied over time being driven by interest of specific power groups at different points of time.
8. In addition to the above inferences, the research also brings about the following observations about tax breaks.
8.1 There is hardly any evidence to prove that the tax incentives have, per se, increased investment or saving for which the incentives were devised.
8.2 It has been proved very often that scaling back of tax breaks have almost always had a positive effect on tax policy, tax revenue, tax compliance and tax administration.
8.3 An important implication of the exemption tax regime is the loss of effective parliamentary oversight as resultant tax expenditures are not transparent and not amenable to C & AG audit: a clear loss to democratic government.
8.4 Tax incentives create antagonist tension between the Tax administrator and the assessees thus becoming a major source of litigation.
8.5 Fewer the tax incentives, less is the discretionary space available to the tax administrators.
8.6 The control over provision of tax incentives by Govt. officials often results in unwarranted discretion in the hands of the officials.
9. Though the tax breaks provide a suitable outlet for promoting and enhancing social welfare, they come with several hidden costs. The cost of tax breaks can be summarized as under:
9.1 There is a clear distortion between investments which have granted incentives and those without incentives.
9.2 The revenue foregone would have to be compensated from alternative distortive taxes.
9.3 Administrative resources are required for proper implementation of the exemptions.
9.4 The social cause of corruption and rent seeking activities connected with the abuse of tax breaks are quite substantial.
While these costs would have a substantial volume, the benefits to the economy that could be attributed solely to tax breaks are less clear and not easily quantifiable. The cost effectiveness of the tax incentives is therefore often questionable.
10. In view of the above lacunae, it can be easily inferred that the tax breaks are:
a. Inefficient and iniquitous,
b. Impose greater tax payers compliance and administrative burden,
c. Result in revenue loss and the complexity of the tax breaks encourage tax avoidance and rent seeking behavior.
d. The tax breaks have been greatly misused by the tax payers resulting in substantial diminishing of their efficacy.
11. In view of the above inferences, it can easily be seen that though the tax breaks have been promoted and provided as instruments of achieving socio economic goals, they have failed to achieve the objectives for which they have been designed. The tax breaks therefore need to be seriously re-visited. The following action points are suggested for the same:
a. A joint committee should be set up by both CBDT and CBEC to examine effectiveness and efficacy of the existing tax breaks.
b. The committee should regularly examine and set a place of mechanism for regular review of tax breaks.
c. The tax structure should be designed in such a way that it will have smaller basket of rates, will be broad based and have minimum exemptions and incentives.
d. Unwarranted exemptions should be phased out resulting in reduction of tax expenditure and a more transparent administration.
Source- CBDT Taxalogue Magazine Jul – Oct 19 | Volume 1 | Issue 1
