Will the dual GST structure work?

Yes, provided the combined tax rate is low

The GST that has been endorsed by the Empowered Committee of Finance Ministers is a quadruple, not dual, GST. While details are still awaited, it would likely consist of a central tax on goods extending to the retail level, a central service tax, the state VAT on goods (largely in its current form), and a state tax on services.

While the taxes on goods and services could be levied under a single statue, practically they would each need to be computed separately. They would not apply seamlessly to all goods and services. Transactions would need to be unbundled into goods and services components to determine which component was subject to which tax.

Can this system be made to work? Yes, but it would be like a tonga or bullock cart, which would require a lot of pulling and pushing and continual whipping to move forward. To simplify and rationalise the tax, what is needed is a comprehensive tax base consisting of all transactions, whether for goods, services, or real property.

In a modern economy, the distinction between goods and services is getting blurred. With digitisation, goods can be converted into services, and services can be packaged into software products. Even if the base is not comprehensive, it should at least be uniform under central and state taxes. This would not be the case under the proposed GST.

The Centre would levy its tax on a wide range of services, but the state tax would apply only to services of a local nature. By design, there would be no overlap between the two. A desirable feature of a good GST is a low rate. Indications are that the combined Centre-state tax rate could be in the range of 20%. This rate is not low by international standards.

A tax at this rate is bound to be subject to substantial leakages, in particular at the retail level. Admittedly, many products do already attract CenVAT of 16% and VAT of 12.5%. However, the CenVAT imposed on manufacturers is largely invisible at the time of final sale to consumers. Converting the invisible CenVAT to a visible tax could erode compliance even for the state VAT.

It is a step forward, but a long way to go

The proposed structure of a dual GST is a welcome step wherein taxes on goods and services, viz., CenVAT and service tax of the central government and sales tax or state VAT of the state governments will be converted into one tax. This will provide equal treatment to goods and services and will also empower states to levy tax on all services.

The proposed GST will be practicable if its structure and operations, which have not yet been fully unfolded, are designed rationally. In respect of rate structure, the proposed GST will have more than four rate categories. This needs to be rationalised in order to make the GST administratively convenient and to facilitate easy compliance.

Also, in the interest of harmony in rates, it is imperative that the authority to make changes in the rate of tax is given up by both the Centre and the states. Hence, it will be vital to evolve an agency that will monitor and decide the need for changes and, where necessary, implement those changes in GST rates.

This could be possible if an institution is created on the lines of Confaz of Brazil, with representatives of central and state governments. The proposed GST will be convenient for the taxpayer only when there is one authority to administer it.

Given the varying administrative capacity of the states, it would be useful if the authority of administering GST is given to those states that can administer tax on services. In states where the administrative capacity is deficient, the GST could be administered by the central government.

The distribution of administrative function on the basis of the size of dealer is not desirable. Experience of states in having company circle is a testimony to this fact. Finally, the proposed dual-GST is only a transitional measure.

Given the provisions of assignment of taxes between the two tiers of government, wherein the share of taxes collected by the Centre and the states is 62% and 38%, respectively, states should not be deprived of their taxing power. To preserve the federal character, the ultimate solution as explained in these columns (ET, Nov 11, 2006), lies in having a comprehensive state-GST.

Source : Economic Times - Gurgaon, Haryana, India, dated 03/12/2007