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Friday, August 21, 2009

Responding to the new direct tax code

Mukul Asher & Amarendu Nandy and S. Narayan have interesting responses on the new direct tax code. I have two areas of disagreement with the new direct tax code: on the treatment of capital income and on the issue of non-interference with globalisation.


  1. In reference to your Financial Express article, I do agree with your reasoning for capital deepening and increases in per capita income. However, it is my sense that the distinction between Labour and Capital incomes contribution to capital deepening is artificial. Capital gains is nothing but the accumulated returns on capital (flows), the short or long term distinction having no economic rationale. By the same logic shouldn't there be a distinction between labour income that is earned periodically (say monthly) and earned as a lump (say in over a year, as in the case of some consulting fees)? In both cases, these are flows and should be taxed in the hands of the earner at the time they realizedte.

    While encouragement of savings should be a goal to achieve capital deepening, current as well as the proposed tax code continue to make the artificial distinction between return to labour and capital. All reinvestment of "long term capital gains" is exempt from taxation but there is cap on the investment from current wage income.

    If EET is the most efficient means to achieve capital deepening, then artificial distinctions between labour/capital income, as well as long-term/short-term income should be done away with. And consequently, the tax code could be modified to remove the inequity in treatment of labour and capital incomes. And at the very least remove the cap on the amount of long term saving that can be exempt from taxation. Such an equal treatment would have a distinct impact on the income distribution in the long run.

  2. If this new direct tax code comes about, a lot of the misselling of insurance products (based on "tax breaks") will be harder. That might help MFs and the nwe pension system.

  3. Hon'ble Finance Minister,

    20 per cent and 30 per cent Tax on Income are not advisable, as higher income groups may consider it painful to pay high taxes and there are chances that they may opt to evade taxes in one way or the other.

    Well, Income Tax may be considered to be charged at a single flat rate of 10 per cent on total Gross Income as TDS just like a Service Tax only, the minimum.

    However, for lower middle class/poor people, this 10 per cent Income Tax on total gross income may be borne by Employer and Employee in the following ratio:

    Gross Income Employer : Employee

    upto 50,000 Borne by Employer-Full
    50,000 to 1 lac 3 : 1
    lac to 1.5 acs 2 : 2
    1.5 lacs to 2 lacs 1 : 3
    More than 2 lacs Borne by Employee-Full

    The implementation of the above System of bearing the tax burden both by the Employer and Employees may be considered as an effective tool for reducing the tax liability on employees (individuals) and reduces the chances of evasion of Tax by Employers, as sometimes, employers show inflated/bogus/more salaries in their accounts to reflect less income or profits.

    Moreover, Government may consider reduced/lower single slab Income Tax rates i.e. 2 per cent, 4 per cent, 6 per cent and 8 per cent on Total Gross Income upto Rs.50,000, Rs.1,00,000, Rs.1,50,000, Rs.2,00,000 respectively, in the form of TDS for lower income groups.

    However, people below the poverty line may be given exemption of this 10 per cent Tax.

    Incomes of All small firms, different businessmen, wholesalers, retailers, Actors, Musicians, etc. may be considered to be charged at a single flat rate of 10 per cent either it is 25 lacs or 50 lacs or more.

    Spiritual organizations, Charitable Institutions, Clubs, Welfare Organizations etc. may be considered to be liable to Pay Tax at a single flat rate of 10 per cent on all incomes/donations/receipts.

    Incomes from 1. Interest 2. Dividends 3. Short / Long Capital Gain 4. House Property may be considered to be charged at a single flat rate of 10 per cent as TDS just like a Service Tax. However, people below the poverty line may be given exemption of this 10 per cent Tax.

    Initially, Income Tax of single flat rate of 10 per cent on total Gross Income as TDS may be considered to be applicable for employees of Government, Public Sector Undertakings and Public Limited Companies. Its scope may be further extended to Private Limited Companies, then small firms, then different businessmen, then wholesalers, then retailers and so on.

    Wealth Tax may be considered to be abolished.

    STT may be considered to be allowed to be continued and may not be considered to abolish the same.

    When all the incomes are charged at a single flat rate of 10 per cent, then ultimately, the revenue from Income Tax shall definitely be manifold. Then there are chances of less Tax evasion, less burden of filing returns.

    All investments and purchases should be free from any compulsion in liberalized economy and as such, all Tax Saving Investment Schemes may be considered to be abolished. People should decide its own priorities for purchases and investments with 90 per cent amount available at its disposal - after paying 10 per cent Income Tax. Then People shall have the option either to invest the savings or purchase some more items/things out of the savings. In both the cases, the Government will earn revenue either in the form of Tax on interests/Dividends or Tax on Excise/Sales Tax.

    The implementation of this single flat rate of 10 per cent Tax on Total Gross Income may be considered to be an effective tool for overcoming recession and will definitively increase production, employment opportunities and investments, in addition to reduction of black-money, un-accounted income and tax evasion.

    With regards


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