Four Years On, India's GST Has Not Met Its Fundamental Purpose

GST in India started with an aim of collecting taxes worth 3.9% of the GDP, 3 years later we ended up at 2.8%.

The Goods and Services Tax (GST) is completing four years. Given this, it’s a good time to check how successful the tax has been.

Experts have analysed GST on many parameters, but the most important parameter for the success of a tax, from the point of view of a government is, whether it brought in as much money as was expected.
As the Fifteen Finance Commission Report put it: “In terms of government finances, [GST] was expected to improve the overall tax-GDP ratio in the medium term and lead to higher Union transfers to States.”

On this parameter, the GST has been a huge flop. Let’s look into the details.

Earnings From GST Since Launch

GST was launched in July 2017.

Thus, 2018-19 was the first full financial year for the tax. In 2018-19, the central government hoped to earn Rs 7.44 lakh crore through GST, when the budget for the year was presented. It ended up earning Rs 5.82 lakh crore, which was 21.8% lower. The GST earned at the central government level is the sum of central GST, integrated GST, and the GST compensation cess.

Given that it was the first full year of the GST one could possibly give the government a benefit of doubt. But things continued to remain the same over the next two years as well. In 2019-20, the government expected to collect a total of Rs 6.63 lakh crore through GST, it ended up with Rs 5.99 lakh crore, which was 9.7% lower.

In 2020-21, the government expected to earn Rs 6.91 lakh crore, it ended up earning Rs 5.49 lakh crore, which was 20.5% lower. Of course, 2020-21, was the year of the covid-pandemic, so some fall in tax collections was a given.

Take a look at the following chart, which plots the total GST the central government expected to earn during a year as a percentage of the GDP, in comparison with what it actually did. This basically takes the size of the Indian economy into account as well.

As the above chart shows, the GST has failed in its main aim of increasing the tax to GDP ratio or to help the government earn more tax. We started with an aim of collecting taxes amounting to 3.9% of the GDP and we ended up at 2.8% of the GDP, three years later.

Fake Invoices to Balloon Expenses

As soon as the GST regime came into force, so did the business of fake invoices. Essentially, companies and individuals resorted to generating fake invoices to show fake expenses and hence, lower the GST they needed to pay on their income.

In an answer to a question raised in the Lok Sabha, the minister of state for finance Anurag Thakur had pointed out that between July 2017 and December 2020, 3,852 cases of fake invoices with input tax credit amounting to Rs 35,620 crore, had been booked. Of course, these were only the detected cases, with the overall problem being much bigger.

The government seems to have gotten some handle on this issue, with the GST collections (this includes state GST as well) being more than Rs 1 lakh crore in each of the last nine months. This has been done through the matching of invoices and looking at past income tax data, to weed out the fake invoices.

The fact that commodity prices have been rising at a fast pace over the last one year, has also led to a higher GST collection.

While the period since April 2019, has seen stronger GST collections, with 15 instances of the tax collected being more than Rs 1 lakh crore during a month, but they haven’t been good enough to meet the target that the government originally set for itself, when it presented the budget.

Changing Rate Structure & Compliance Regime is Challenging

One reason for this lies in the overall complicatedness of the system. Those defending the system say that it is simpler than the earlier system used to be. Perhaps it is. But that’s not the point, given that one of the aims of any new tax should be to expand the tax base and for that to happen, the tax system needs to be simple, which GST is not.

Also, as the Fifteenth Finance Commission put it, the “frequently changing rate structure and compliance regime adds to the challenge”.
There are other challenges as well. Every business has a product to sell. The business buys everything that goes into the making of this product. It pays GST on all these inputs. It can take the GST that has been paid on the inputs, as an input tax credit and deduct it from the GST that is due on the final product that it sells. This is to ensure that there is no tax on tax, as was the case with the pre-GST system.

Nevertheless, the GST system allows a filer to avail of an input tax credit, if and only if, the vendors have also paid the GST. In the above example, the business selling the final product would be allowed to deduct the GST that it has paid on the inputs that go into the making of the product, only if the vendors that sold the inputs to the business, have paid that GST in turn to the government.

How Small Businesses Suffer

Sometimes ensuring this is simply not possible, given that a business may have very little control over its vendors. And this leads to businesses losing out on input tax credit despite having paid the right amount of GST to its vendors.

The burden of compliance is on those who are a part of the GST system and this tends to hurt especially the smaller businesses, given that they don’t have the wherewithal to handle this.

And more than that, GST needs to be paid in the month after the invoice has been generated. The cycle of payment may be longer than that. This leads to a situation where a business may not have enough working capital going around. This is something that hurts smaller businesses.

Inverted Duty Structure Affecting Earnings

Also, over the years, thanks to the random reduction in the GST rates of final products, the problem of inverted duty structure, especially in sectors like textiles and footwear, has cropped up. An inverted duty structure is a situation where the GST rate on inputs is higher than the GST rate on the final product. This leads to a situation where the business selling the final product is entitled to refunds and this impacts the tax collected by the government.

As the Fifteenth Finance Commission report points out: “One of the important reasons for the higher than 50 per cent input tax credit could be the inverted duty structure for many items.”

GST System Designed for Taxman not Taxpayer

Further, many people forget that GST has services in it as well. When it comes to the services businesses, they used to pay service tax earlier, and deal directly with the central government.

With the introduction of GST, they need to file separate returns in every state they have operations in, and this has increased the compliance burden for them. Compliance burden is ultimately a cost, something that customers are not always ready to bear.

This is something that can easily be handled at the information technology (IT) level, with those in the services businesses filing a single return, and the IT system figuring out how to divide the taxes paid among different states. The trouble is that the taxpayer wasn’t kept in mind while designing the system. It was designed for the convenience of the taxman.

Also, the complicatedness of the system seems to be benefitting the bigger businesses at the cost of the smaller ones. Finally, the GST website has broken down once too often over the years, not being able to take on the load, especially on deadline days.

Clearly, there are lots of problems with the GST system as it is, and that is holding it back from collecting the total amount of taxes that it was expected to. And now is as good a time as any to reform the system.

(Vivek Kaul is the author of ‘India’s Big Government – The Intrusive State and How It is Hurting Us’. He can be reached @kaul_vivek ‏. This is an opinion piece and the views expressed above are the author’s own. The Quint neither endorses nor is responsible for them.)