Will VAT be Implemented on 01-04-2003?

By

Let us look back at the reasons cited for the postponement of implementation of VAT.

1. Lack of preparedness and the recessionary trends which have adversely impacted their revenues have been cited as the major reasons for skipping the deadline. (The Hindu Business Line dated 08-01-2002)

2. How revenue losses incurred by States due to switchover to VAT would be compensated is also yet to be concretised. Sources said the States want all theses issues to be settled and legally concretised, before they can formalise their VAT Acts and go ahead with implementation. (Economic Times dated 08-01-2001).

3. Delay in effecting amendments to the Central Sales Tax Act to facilitate implementation of VAT.

Further a study of the draft VAT Acts published revealed that there was no uniformity in the different draft Acts on issues like taxation of deemed sales, definitions, input credit etc. It appeared, as though, that we will have 28 (or as many States that switchover to VAT) VAT Acts replacing the existing Sales Tax Acts. Experts opined that a Central VAT Act on the lines of the Central Sales Tax Act may be an alternative.

(Read the article The Road Ahead for VAT for a recap on the issues)

1.  COMPENSATION OF REVENUE LOSS TO STATES

SCORE: STILL UNRESOLVED

This important issue which still predominates the discussions at the meeting of the Finance Ministers of the States is the issue of compensation to the States. It is reported that 22 States that have estimated the notional revenue loss, have pegged the median VAT rate (RNR) much above the 12% ceiling agreed to earlier.

To make up the current shortfall in revenue, many States like Tamil Nadu, Gujarat, Assam etc., had introduced Entry Tax on the last quarter of 2001. With recession in industry and poor monsoon predicted, there is bound to be a revenue shortfall even under the present dispensation. In the 2002-03 budget many States had enlarged the scope of entry tax and Luxury Tax by adding more commodities. These levies are likely to continue in the VAT regime also.

Though levy of Service Tax by States was mooted as a source to make up the revenue shortfall, there is still no consensus on the modalities. The earlier proposal was for the States to levy Service Tax and list of services to be taxed by the States were also identified. I had in the article Centre Should compensate states written about the inadvisability of levy of service tax by the States and the need to integrate Service Tax in the VAT structure.

The recent thinking in the Finance Ministry is for levy of Service Tax by the Centre and to assign the proceeds to the States. This may require amendment to the constitution. The need to provide input tax credit of service tax has also been emphasized. Click to view the relevant press clipping.

The present proposal is to amend the Constitution to assign a portion of the collection to the respective States in which Service Tax has been collected. This will not solve the issue of revenue loss to States. There will be distortions in Service Tax collection between different States and all States may not be adequately compensated for the loss of revenue on transition to VAT.

The revenue loss to States is on two counts. The first is on account of fitting in the RNR (or shall we call the Median Rate) or the lower rate of 4% goods subject to tax presently at higher rate and the revenue loss on phasing out of CST.

The centre should assign to the State a smaller portion of the additional collection of Service Tax to the respective States and the balance should be used in the Central Pool exclusively for compensation of revenues loss to States on phasing our of CST.

Will necessary legislation be put in place before 1st April,2003? With the preoccupation of the Government with various Scams (hope new Scams do not surface in between), it looks unlikely that the proposals relating to Service Tax would be put in place by 1st April,2003.

With State Governments inventing new levies to circumvent the Uniform Floor Rates agreed and non vattable Special Additional Tax, delay in introduction of service tax may not be a dampener.

The Government should not go ahead with an adhoc Service Tax Act. The Act should be properly drafted to provide for set off of Service Tax paid against either tax on services or on goods. Anything done adhoc, may be difficult to reverse or reform at a later date. The present levy of Service Tax still continues as a Chapter of the Finance Act. It has not even been codified in a separate Service Tax Act. The Government could have in 1994 itself done its homework and put in place a separate Service Tax Act. If the Government has the will, it is not impossible to put in place a Service Tax Act that would carry forward the reforms.

Though certain amendments to the CST Act have been notified as effective from May 2002, the only VAT enabling amendment is the removal of restriction on the levy of tax at more than one point of sale on Declared Goods.

The other amendments making filing of Form C (except for those goods that are generally exempt) and Form F mandatory are procedural amendments, which will only lead to more harassment.

The intention of making filing of Form C mandatory is to keep track of Inter State sale. CST tax rate is planned to be phased out to 0% in the future. When that happens there may be a tendency to pass off an intra State Sale as an Inter State sale. In the absence of phasing out of CST, it is premature to make Form C mandatory.

By making Form C mandatory, the powers of the State have been abrogated by the Centre. Where are you Politicians and those who demand autonomy for the States? Here is a case where the Centre has by making Form C mandatory, encroached on the State's Powers. What is required under VAT is a system in place to track inter State Sales. By making Form C compulsory, several manufactures for example, manufacturers of Scientific Instruments and equipments used in Research Laboratories, Universities, Colleges and Schools have to charge a higher rate of Tax and both the industry and a consumer who is not a dealer will suffer. Section 8(5) needs to be amended to at least permitting States to prescribe alternative proof in the form of a Declaration or a Certificate, in lieu of Form C.

Getting back to what remains to be done in the area of CST reforms, some of the amendments required are

1.  Goods under AED to be brought under VAT (Textiles, Sugars and Tobacco)

2.  Levy of tax on imports to protect local industry.

3.  Deletion of Section 5(3) of the CST Act of deeming the sale penultimate to export as export sales so as to treat only the actual export as zero rated sales.

4.  Permitting levy of vatable purchase tax on goods purchased from outside the State. This may perhaps be an alternate to the levy of entry tax by the States.

COMMITTEE ON CST REFORMS SET UP

The Centre has entrusted the task of evolving a conceptual framework to deal with the Inter-State sale in a VAT regime and to work out the implications of the gradual phase out of CST to Dr.Govind Rao, Director of the Institute for Social and Economic Change, Bangalore. The report is expected to be submitted by end of September,2002.

Will the Government have enough time to consider the report and introduce necessary legislation before 1st April,2003?

YES, if the Government is not otherwise preoccupied.

It appears that a Central VAT Act on the lines of the Central Sales Tax may not happen. The Centre had circulated a Model VAT Draft Bill prepared by Sri.B.R.Atre, Consultant for the consideration of the States. The States are expected to draft the VAT Act based on this model.

Many States that had published their draft VAT law prior tot he drafting of the Model VAT Bill have not yet published their revised draft based on the Model Bill. Only when the final draft is made available b the States we can know if we are going to have a harmonized VAT.

SHOULD (OR WILL) IMPLEMENTAION OF VAT BE POSTPONED TILL ALL ISSUES ARE RESOLVED

After discussing the status of the major issues involved, the next issue is - Will we have VAT only after all the issues are satisfactorily resolved.

There is no perceptible improvement since the January 2002 decision to postpone VAT. However this is no reason to postpone VAT.

From my interaction with industry, the ineligibility of Input Tax credit on inter State purchase and blocking of a portion of input tax credit on Stock Transfer have already been factored in by the industry. There is still enough time to put in place the CST reforms based on the recommendation of the committee appointed.

The revenue loss on switchover to VAT has assumed greater importance more because of the recession in Industry and the prediction of poor monsoon. If the monsoon is on course and if the signs of revival in industry crystallizes, revenue loss will be minimized.

Though not related to implementation of VAT, I would like to make a mention what the Government needs to do to push industrial growth and improve the tax revenue of the States and the Centre. With burgeoning foreign exchange reserves, the government must give a push to industry by liberalizing import of plant and machinery and by investing heavily in infrastructure. With a depreciating US Dollar (in which currency most of the reserves are held), India will stand to lose unless the foreign exchange reserves are put to good use as China is doing by investing in infrastructure. The Far East Asian countries had done just that when they had surplus foreign exchange reserves.

The Centre should persuade the States to adopt the Model VAT Bill to ensure a common VAT law, procedure and administrative mechanism.

With still seven months to go, considering the spade work already done, implementation of VAT from 1st April,2003 is definitely possible. All that is required is a firm political will and determination. Let us pray that the Government do not get bogged down with more scams.

GIVE INDUSTRY THREE MONTHS TIME TO PLAN TRANSITION TO VAT

It is imperative that all States finalise the VAT Law including finalisation of Rules, forms and procedures by 31st December 2002. A business with multi location operations needs to finalize logistics, effect necessary modifications to software, train staff, decide on pricing policy etc., At least three months time is required by industry to plan smoother transition to VAT.

The State Governments also need to put in place a VAT information system, train officers as well as trade and industry.

The focus has all along been only on the shape of VAT law. I had not come across any serious discussion on the time required for the Governments and Industry to plan transition to VAT.

If for some reason, Implementation of VAT is postponed, do not despair, it is worth waiting if we get a VAT we deserve.

August 2002