What drove the growth in income tax collections during the pandemic year
NEW DELHI: India’s total tax revenue in the fiscal year ending March 31 reached approximately ₹27.17 trillion, exceeding revised estimates for that year presented in the February 1 budget of ₹3.1 trillion. Overall collections are around 17% higher than in 2020-2021, driven by a 22% growth in direct taxes including corporation tax and income tax. What drove direct tax collections, and is the pace of growth sustainable or a flash in the pan?
First, the base effect helped, as the pandemic had sharply reduced tax revenues the previous year. The direct tax-to-GDP ratio fell to its lowest level in 14 years, at 4.8% in 2020-21. To support consumption, which suffered during the first wave of covid-19 shutdowns in 2020, the tax authorities quickly processed and released tax refunds, in many cases within days. Consequently, the net direct tax collections for the previous year were also reduced because of this. Cumulative refunds ₹2.5 trillion has been paid.
Second, corporate financial performance has improved. Sales and profitability have recovered due to pent-up demand and reduced costs during the pandemic, leading to higher tax payments. Thus, flagship companies, oil PSUs (public sector units) and banks paid more in the fourth installment of withholding taxes due on March 15. Cumulative collections of withholding taxes amount to more than ₹6.82 trillion, up 38% from the ₹4.94 trillion collected in the corresponding period of 2020-21.
The Reserve Bank of India’s (RBI) Business Expectations Surveys also predict improved corporate profit margins; He noted that manufacturers are seeing sequential improvements in production volume, order books, capacity utilization, employment and the overall business situation through the first quarter of FY23. However, surveys have also shown strains due to rising input costs. The Russian-Ukrainian conflict will further add to this tension. While sectors such as IT, Pharmaceuticals and Metals have performed well, others such as Hospitality, Capital Goods and Automotive are not yet out of the woods. This may be reflected in future collections.
Third, the acceleration of digital payments has resulted in the movement of businesses and cash trading to channels, such as banks, that are more easily traceable by tax collectors, resulting in reduced evasion. tax, which has increased the collection of direct and indirect taxes. With improved Goods and Services Tax (GST) compliance, tracking how much GST a business has paid and the actual value added by it has become easier. Thanks to the analysis of data from the tax system, this data can now be correlated with what the company declares as expenses. The service can thus verify whether a company has correctly declared its income and more accurately assess its liability to tax. Part of the increase in collections is likely due to tax evasion that has been blocked in this way.
Finally, a resumption of hiring by technology companies with higher wages would also strengthen personal income tax collections.
The tax-to-GDP ratio reached 11.7%, the highest since 1999, when the tax-to-GDP ratio was 10.3%. The dynamism of gross tax revenue is a measure of the responsiveness of tax revenue to nominal GDP growth. It was 1.9 in FY22, with direct tax momentum of 2.8 and indirect tax momentum of 1.1. What this improvement tells us is that per rupee of GDP, more taxes have been paid.
Is this growth sustainable? The government has projected gross tax revenue to increase by 10% in FY23 compared to revised estimates from the previous year. It budgeted for a 13.6% increase in revenue from direct taxes and 5.6% from indirect taxes. The gross tax revenue buoyancy is 0.9 – the direct and indirect tax buoyancy was budgeted at 1.2 and 0.5. In addition, the budget estimate for the tax-to-GDP ratio for FY23 is 10.7%. This is far too low for a country as large as India and more conservative than the actual FY22 figure. Overly optimistic budget estimates in recent years, drawing criticism, have likely made the government conservative. Or perhaps he does not see the momentum of the collections holding up, the base effect no longer being favorable and the one-time gains from digitization not being sustainable. Revenue Secretary Tarun Bajaj said, speaking of the collections, that it will not be easy to get such high buoyancy figures for now.
Given India’s pressing development spending needs and the fact that the tax-to-GDP ratio is much lower than the OECD average, the goal should be to double it. Ultimately, the only sustainable way to improve tax collection is when more Indians have to spend more, while businesses invest more to increase production and sales. For that, the economy will have to recover from the shock of the pandemic and the weakness that preceded it. In the meantime, GST data mining is starting to show promise as a way to track hitherto unreported income and reduce tax evasion. If the audit trail generated by the GST in the revenue and production chain is diligently exploited to exploit both indirect and direct tax potential, the tax to GDP ratio will improve significantly.
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