Rigorous Regulatory Compliances Are Deterrent In
Economic Development
Author : CA A. K. Jain
- Chapter Headings -
A. Preamble
B. The Structural Challenges
1. Multiplicity of Taxes :
2. Frequent Changes in Tax Laws :
3. Ambiguity and Interpretation Issues :
4. High Compliance Costs :
5. Bureaucratic Hurdles and Delays :
6. Lack of Harmonization Between Central and State Laws :
C. Regulatory Compliances Challenge
1. Restructuring Measures :
2. Dampened Investment Climate :
3. Burden on Businesses :
4. Hindrance to Entrepreneurship :
D. Rationalisation of Tax Structure
1. Digitalization of Compliance Processes :
2. Enhancing Regulatory Efficiency :
3. Investor Education and Awareness :
4. Consultative Approach :
E. Judicial Pronouncements Adding to Complexities
1. Vodafone International Holdings B.V. vs. Union of India (2012) :
2. McDowell & Co. Ltd. vs. Commercial Tax Officer (1985) :
3. CIT vs. B.C. Srinivasa Setty (1981) :
4. Azadi Bachao Andolan vs. Union of India (2003) :
5. DIT (International Taxation) vs. Morgan Stanley & Co. Inc. (2007) :
F. Government Initiatives
1. Introduction of Goods and Services Tax :
2. Reduction in Corporate Tax Rates :
3. Simplification of Income Tax Returns (ITR) and Procedures :
4. Digitalization of Tax Filing Process :
G. Conclusion
Preamble
India, with its burgeoning population and vast potential, stands at a crucial juncture in its economic journey. However, one significant hurdle hindering its economic prosperity is the complexity of its taxation system and regulatory compliances. These challenges not only deter investors but also burden businesses, stifling growth and innovation. This chapter delves into the obstacles posed by India's tax system and regulatory framework and proposes solutions to foster economic growth.
The Structural Challenges
India's taxation and regulatory compliance landscape is characterized by its complexity and numerous challenges, which can impede business operations and economic growth. The following note explores these complexities.
1. Multiplicity of Taxes : India has a plethora of taxes at the central, state, and local levels, which businesses must navigate. These include Income Tax, Corporate Tax, Capital Gains Tax, Securities Transaction Tax, Goods and Services Tax, Customs Duty, Excise Duty, Stamp Duty, Property Tax, Professional Tax, Road Tax / Vehicle Tax, Entertainment Tax, Luxury Tax, Education Cess and Secondary and Higher Education Cess, Health and Education Cess.
Before the introduction of the Goods and Services Tax (GST) in 2017, businesses had to comply with multiple indirect taxes like VAT, service tax, and excise duty, leading to cascading effects and inefficiencies. A study by PwC found that the total tax compliance time for businesses in India was around 243 hours per year, significantly higher than the global average of 208 hours.
2. Frequent Changes in Tax Laws : Tax laws in India are subject to frequent amendments and updates, which can make it difficult for businesses to stay compliant. The Finance Act is amended annually, often introducing new provisions and modifying existing ones. This requires businesses to continuously update their compliance procedures. The implementation of GST saw numerous changes in rules and rates in its initial years. For example, between July 2017 and December 2019, the GST Council made over 376 changes to the GST law, causing significant compliance challenges for businesses.
3. Ambiguity and Interpretation Issues : The Indian tax code is often ambiguous, leading to multiple interpretations and legal disputes. The retrospective amendment to the Income Tax Act in 2012, which aimed to tax offshore indirect transfers of Indian assets, led to prolonged legal battles with companies like Vodafone and Cairn Energy. In the Vodafone case, the company was hit with a tax bill of over $2 billion due to the retrospective amendment. After years of litigation, the Permanent Court of Arbitration ruled in favour of Vodafone in 2020, highlighting the issues arising from ambiguous and retrospective tax amendments.
4. High Compliance Costs : The cost of compliance in India is relatively high due to the need for specialized tax professionals, frequent updates to compliance systems, and extensive documentation. According to the World Bank's Doing Business Report 2020, India ranked 115th out of 190 countries in the “Paying Taxes” category, indicating the high burden of tax compliance. Small and medium enterprises (SMEs) often bear a disproportionate burden, as they lack the resources to manage complex compliance requirements effectively.
4. Bureaucratic Hurdles and Delays : Regulatory compliance in India is often hampered by bureaucratic inefficiencies and delays. Obtaining necessary permits and clearances can be a time-consuming process. Businesses must obtain multiple clearances from various government departments for setting up operations, including environmental clearances, building permits, and licenses from local bodies. A report by the Indian Ministry of Finance in 2018 highlighted that it took an average of 1,445 days to resolve a commercial dispute in India, compared to the global average of 622 days, underscoring the bureaucratic delays in regulatory processes. The Enron-Dabhol Power Project case (1990) underscores how bureaucratic inefficiencies, coupled with political and regulatory inconsistencies, can severely disrupt business operations. It also highlights the need for transparent, stable, and predictable regulatory frameworks to foster a conducive environment for large-scale infrastructure investments.
5. Lack of Harmonization Between Central and State Laws : Despite the introduction of GST to harmonize indirect taxes, discrepancies between central and state laws remain, leading to compliance challenges. States have the authority to implement additional cesses and surcharges on GST, creating variations in tax rates and compliance requirements across states. The e-way bill system under GST, intended to streamline the movement of goods across states, faced significant teething problems due to a lack of uniformity in implementation by different states, causing delays and increased compliance costs for businesses.
The Tata Nano project (2006) in Singur is a classic example of how lack of understanding and coordination between different levels of government can lead to the failure of significant industrial initiatives. The episode serves as a lesson in the importance of inclusive and transparent decision-making processes, especially when it comes to land acquisition and industrial development.
The complexities and drawbacks of India's taxation and regulatory compliance laws present significant challenges for businesses. The multiplicity of taxes, frequent legal changes, ambiguities in the tax code, high compliance costs, bureaucratic delays, and lack of harmonization between central and state laws collectively create an intricate and burdensome environment. Addressing these issues is crucial for improving the ease of doing business in India and fostering a more business-friendly regulatory landscape.
Regulatory Compliances Challenge : In addition to tax complexities, regulatory compliances further exacerbate the challenges faced by businesses in India. From obtaining licenses to adhering to labour laws and environmental regulations, bureaucratic red tape is a significant deterrent to entrepreneurship and investment. Cumbersome procedures and delays in obtaining approvals discourage business expansion and innovation. The onerous tax system and regulatory compliances act as formidable obstacles to India's economic development in several ways:
1. Dampened Investment Climate : The complexity and unpredictability of India's tax regime deter foreign investors who seek stable and transparent tax policies. Domestic investors also face challenges in planning and executing business strategies due to frequent policy changes. The Vodafone tax dispute serves as a prime example of how complex and unpredictable tax laws can have far-reaching consequences on foreign investment and economic development.
2. Burden on Businesses : Compliance with numerous tax laws and regulatory requirements consumes significant time, resources, and manpower for businesses. This diversion of resources hampers productivity and innovation, impeding overall economic growth. The initial withdrawal of Walmart from the Indian retail market in 2013 serves as a prominent example of how stringent compliance requirements and regulatory challenges can compel foreign investors to reconsider their strategies, potentially hampering economic development in the host country.
3. Hindrance to Entrepreneurship : Regulatory hurdles discourage entrepreneurial ventures, particularly in sectors requiring substantial capital investment. Complex licensing procedures and compliance requirements create barriers to entry, limiting competition and innovation. The POSCO case (2005) highlights how compliance requirements and regulatory challenges can deter foreign investment, hampering economic growth and development in India.
Restructuring Measures
India's tax system and regulatory framework require comprehensive reform measures:
1. Rationalisation of Tax Structure : Rationalization of tax provisions by simplification can reduce compliance burden and enhance transparency. Clear and stable tax policies with minimal exemptions will foster investor confidence and ease of doing business. Through central and state budgets, ministry notifications, departmental circulars, clarifications, Tribunals, High Courts, and Supreme Court, tax and compliance legislation are subject to frequent amendments throughout the year. The government should come out with a policy declaring that all changes in fiscal laws will be effective from a fixed date in a year. It can be either 1st April or 1st January. Same as the railway time table.
2. Digitalization of Compliance Processes : India's digitalization push, "Digital India", has immense potential to improve the country's economic conditions. By addressing challenges and focusing on Expanding Connectivity, Nationwide Campaigns, Multilingual Interfaces, Financial Inclusion, Cyber security Awareness, Data Privacy, inclusivity, and user-friendliness, the Indian government can unlock the full potential of digitalization for economic growth and create a truly empowered digital society.
3. Enhancing Regulatory Efficiency : Simplifying licensing procedures and approvals, reducing paperwork, and introducing online platforms for regulatory approvals can expedite business operations and encourage entrepreneurship. Regular review and elimination of outdated regulations will promote a favourable business environment.
4. Investor Education and Awareness : Educating businesses and investors about tax laws, compliance requirements, and government initiatives through workshops, seminars, and online resources can enhance compliance rates and foster a culture of transparency.
5. Consultative Approach : Engaging stakeholders, including businesses, industry associations, and tax experts, in policy formulation and regulatory reforms, will ensure that the proposed changes align with business needs and promote economic growth. The Reserve Bank of India (RBI) Ombudsman Scheme is designed to resolve complaints and disputes between consumers and financial institutions like banks, non-banking financial companies (NBFCs), and digital transactions. The scheme ensures that customers have a hassle-free and cost-free avenue to seek redressal for grievances. Similar schemes can be executed in all government departments and offices of the various Central and state government ministries.
Judicial Pronouncements Adding to Complexities
Taxation laws in India have always been complex due to their intricate regulations and frequent amendments. Adding to this complexity, various judicial interpretations by different courts have sometimes further complicated the application and understanding of these laws. Here are some notable case studies and examples where courts have played a significant role in complicating Indian taxation laws:
1. Vodafone International Holdings B.V. vs. Union of India (2012) : The Vodafone case is one of the most prominent examples of judicial intervention in tax matters. It revolved around Vodafone's acquisition of Hutchison Essar Limited's Indian assets through an offshore transaction.
The central issue was whether the Indian tax authorities had the jurisdiction to tax the capital gains arising from the transfer of shares of a foreign company (Hutchison) that indirectly held assets in India.
The Supreme Court of India ruled in favour of Vodafone, stating that the transaction was between two foreign entities and therefore, not taxable in India. However, this interpretation led to considerable confusion regarding the taxation of indirect transfers and resulted in retrospective amendments to the Income Tax Act, 1961, by the government in 2012 to bring such transactions within the tax net.
The retrospective amendment created uncertainty and concern among international investors. It led to multiple litigations as similar cases emerged where the principles of this judgment were applied.
2. McDowell & Co. Ltd. vs. Commercial Tax Officer (1985) : This case involved McDowell & Co. Ltd., a company engaged in the manufacture and sale of alcoholic beverages. The dispute was regarding the use of tax planning measures to reduce the tax burden. The key issue was whether tax avoidance through legal means could be considered legitimate.
The Supreme Court, in its ruling, condemned the practice of tax avoidance, stating that any attempt to evade tax through colourable devices would not be permissible. The judgment emphasized the substance over form principle, indicating that transactions should be evaluated based on their real intent rather than their legal form.
This broad and strict interpretation blurred the line between tax avoidance and tax evasion. It led to increased scrutiny and litigation for businesses using legitimate tax planning strategies.
3. CIT vs. B.C. Srinivasa Setty (1981) : The case dealt with the taxation of capital gains arising from the transfer of goodwill. Whether the transfer of goodwill is subject to capital gains tax under the Income Tax Act, 1961.The Supreme Court held that the transfer of goodwill does not attract capital gains tax as it is not a capital asset for which the cost of acquisition can be determined. The ruling created confusion regarding the tax treatment of intangible assets. It required subsequent clarifications and amendments in tax laws to define the treatment of such assets.
4. Azadi Bachao Andolan vs. Union of India (2003) : This case involved the interpretation of the Double Taxation Avoidance Agreement (DTAA) between India and Mauritius. The validity of the Circular 789 issued by the Central Board of Direct Taxes (CBDT), which allowed tax exemptions on capital gains for Mauritius-based companies investing in India.
The Supreme Court upheld the validity of the circular, allowing Mauritius-based companies to benefit from the DTAA and avoid capital gains tax in India. The ruling led to the establishment of tax havens and treaty shopping by companies to avoid taxes. It necessitated later renegotiations of the DTAA with Mauritius and other countries to prevent misuse.
5. DIT (International Taxation) vs. Morgan Stanley & Co. Inc. (2007) : This case revolved around the taxation of income generated by foreign companies through outsourcing activities in India. Whether the activities of Morgan Stanley's Indian subsidiary constituted a Permanent Establishment (PE) in India, thereby attracting tax liability. The Supreme Court held that the Indian subsidiary of Morgan Stanley constituted a service PE, making the profits attributable to the Indian subsidiary taxable in India. This judgment led to uncertainties regarding the tax obligations of foreign companies outsourcing to India. It increased the compliance burden on multinational companies and led to multiple litigations regarding PE status and attribution of profits.
The interplay between Indian tax laws and judicial interpretations has undoubtedly added layers of complexity to the tax landscape. While courts play a crucial role in interpreting and upholding the law, their rulings sometimes create ambiguities and lead to further complications. These case studies highlight the need for clear, consistent, and predictable tax policies to foster a stable and business-friendly environment.
Government Initiatives
The Government of India has undertaken various measures to reduce tax regulatory compliances and simplify the tax system in recent years. Here are some notable actions along with relevant facts and figures:
1. Introduction of Goods and Services Tax : GST was introduced in 2017, replacing multiple indirect taxes like VAT, service tax, central excise duty, etc. It aimed to streamline the taxation system, reduce tax cascading, and simplify compliance for taxpayers. Under GST, taxpayers need to file one consolidated return instead of multiple tax returns, easing the compliance burden. According to government data, GST collections have shown a steady increase since its implementation, indicating improved compliance and revenue collection.
2. Reduction in Corporate Tax Rates : In September 2019, the government announced significant cuts in corporate tax rates to promote investment and boost economic growth. The corporate tax rate for domestic companies was reduced from 30% to 22%, and for new manufacturing companies, it was reduced to 15%.This move aimed to attract investment, stimulate economic activity, and make India a more competitive destination for businesses.
3. Simplification of Income Tax Returns (ITR) and Procedures : The government has been continuously simplifying the income tax return forms and procedures to ease compliance for taxpayers. Introduction of pre-filled ITR forms with details of salary income, interest income, and tax deductions has reduced the burden of manual data entry for taxpayers. The process of e-verification of ITRs through Aadhaar OTP (One Time Password) has made the verification process simpler and faster.
4. Digitalization of Tax Processes : The government has emphasized the digitalization of tax processes to make compliance easier and more efficient. Initiatives like the Centralized Communication Scheme (CCS) and e-assessment have reduced physical interface between taxpayers and tax authorities, leading to quicker resolution of tax matters. Online platforms like the e-filing portal of the Income Tax Department provide various services and resources for taxpayers, facilitating smoother compliance.
Conclusion
India's journey towards economic prosperity hinges on its ability to address the challenges posed by its tax system and regulatory framework. By simplifying tax laws, streamlining compliance processes, and fostering a conducive business environment, India can unleash its true economic potential and emerge as a global economic powerhouse.
The process of digitalization is going well but, enormous scope exists for improvement in the quality of software presently available on various platforms. Banking Software, Income Tax and GST Software and Ministry Of Company Law Affairs Software are frequently inaccessible. The revenue and tax legislations should be written in simple English replacing the old Royal (colonial style) British English. Legislation awareness programs should be run for all stakeholders living in smaller towns and villages through television channels and local newspapers .In every Government Revenue Department, a paid consultancy ( ombudsman ) office equipped with qualified staff may be opened for clarifications and physical support to the public. All clarification replies should be given in writing.
Through concerted efforts and reforms, India can overcome the obstacles hindering its development and pave the way for sustainable growth and prosperity.
Author : CA A. K. Jain
Email: caindia@hotmail.com
Cell: +91 9810046108
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**********Disclaimer: The information and statistics presented in this article have been compiled from various sources deemed reliable. However, readers are advised to independently verify the accuracy and relevance of the data before making any decisions or taking action based on the information provided herein. The author and publisher do not assume any responsibility or liability or any consequences resulting from reliance on the information presented in this article.
