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The Great VAT Robbery

May 08, 2003

Parliamentarians and state legislators indulge in their regular frivolities, walk-outs alternate with inane shouting bouts on the floor of the House. Meanwhile, the Great Train Robbery in the form of substitution of the sales tax system by the value-added tax is about to reach its denouement. Nobody seemingly cares. It is now left to the degree of political pressure nervous traders can generate to determine whether the proposed cross-over, which is an outrage, is going to be a settled issue.

It has been quite a grand design. The World Trade Organization places country governments on notice: every member-country should, by 2005, enforce a uniform VAT applicable to each corner of the country, they have also to ditch that abomination, sales taxation, with varying rates of sales tax in different parts of the country which impede economic integration so necessary for capitalist expansion. All member countries will have to, post-haste, submit to the WTO fiat. The United States of America will, of course, be the exception. The US, being the US, is beyond the pale of the United Nations rules and international agency diktats.

India is not the US. It has therefore to comply with the WTO directive. Even otherwise, the two main political parties in the country, the Indian National Congress and the Bharatiya Janata Party, believe in the concentration of authority, including fiscal administration, in the hands of the Centre. Any measure which adversely affects the economic viability of state governments -- and correspondingly benefits the Centre -- is a welcome development for both parties. A VAT they will welcome with hugs and kisses.

There is a stumbling block though. The sales tax is an item entered in the state list in the Seventh Schedule of the Constitution. Neither the Union government nor the states can, on their own, get rid of the sales tax system without amending the Constitution. Introduction of VAT poses a similar problem. The authors of the Constitution had envisaged a certain balance in the distribution of fiscal power between the Centre and the states. To disturb that in any manner without a Constitutional amendment is clearly a preposterous proposition.

At the same time, not obeying the WTO is inconceivable. New Delhi therefore set up a stratagem, a stratagem to cheat the Constitution. The Union finance minister convened a meeting of state chief ministers on November 16, 1999. The finance minister and his officials were at their charming best. The Centre is not intervening, but it is for the states to recognize what a great boon it will be if the clumsy sales tax system, with a rates structure varying from state to state for each and every commodity, were replaced by the VAT featured by country-wide uniformity in tax rates. That will render India into one integrated market, entrepreneurs and industrialists will be saved the bother of developing different investment and production strategies for different states; in consequence, a furious economic spurt will ensue, thereby actually resulting in much greater accrual of revenue in the state government coffers.

The states fell for the bait; at least their minister did. A so-called empowered committee of state finance ministers was set up inside the ministry of finance in New Delhi; it was serviced, and hence dominated, by ministry of finance officials; the mind at work was that of the Centre, the hand that wrote was of the states. The states were persuaded to believe that it was a canard to allege that the Centre was guiding the committee's decisions. No sire, the Centre is not twisting our arm, we are twisting it ourselves. Everything was apparently hunky-dory in the beginning. The change-over, it was tacitly agreed, was to take effect from April 2002. The date was subsequently shifted to April 2003, and then further pushed to June.

The early optimism faded; things were not proceeding altogether smoothly, while the WTO deadline was only two years away. For the constitutional hurdle loomed large. Close to 30 states have to enact legislation to scrap sales taxation and introduce VAT. The latter tax instrument, given its country-wide ambit, is to be, in all senses and purposes, a central legislation, and an altogether new entity. The Constitution does not give any authority to either the Centre or the states to chop or change its, that is the Constitution's, corpus just like that, without a Constitutional amendment.

When in November 1999 the state chief ministers, under the tutelage of the Union finance minister, agreed to replace the existing sales tax by VAT, the thought of the Constitutional hurdle must have worried them. The sales tax is a tax on the sale of a commodity or service; VAT is an impost on the value added at each point of production of a commodity or a service, and is without any direct nexus with sales. It is not a sub-species of sales tax, but a different animal altogether.

The Union government knew it would be impossible for it to pass a Constitutional amendment for scrapping sales taxation and inserting VAT in either the Union or Concurrent list; such an attempt will immediately make obvious the larceny that was on. The compliant 'empowered' committee was therefore advised by the ministry of finance to take the route of subterfuge. The legislation the states will embark on will be intended to replace the old sales tax by the new VAT, but the exercise will be described as a change in the method of sales taxation, a task well within the jurisdiction of the states, and not necessitating a Constitutional amendment. The dishonesty could not be more palpable.

If the new tax were merely to effect a change in the method of sales taxation, the nomenclature of the proposed legislation would have been the Sales Tax (Amendment) Act, and not VAT. Sales taxation is the exclusive prerogative of the states, while the new legislation will take away this prerogative from the states and substitute it by a tax which will in practice be controlled and regulated by the Centre. That this will be the reality has been confirmed by the statements of the Union finance minister in Parliament. Under the pretence of acting as a 'facilitator,' the Centre has taken charge of the whole business of implementing, nation-wide, VAT.

It is going to be the deciding voice in such crucial matters as commodity classification, rate fixation and identification of taxable items, and order the states accordingly. The ministry of finance has already evolved a set of parameters in these matters and the states must scrupulously conform to these in their drafting of VAT legislation. Till now only one state, Madhya Pradesh, has conformed to the Centre's directives and its legislation has received Presidential assent. Seven other states, which too have presented their VAT legislation for the President's assent, have failed to meet the Centre's specification, assent has been withheld in their cases. They have to fall in line, so too the 20 other states who have yet to pass the statute in their respective legislatures.

All this is turning out to be a messy affair. To circumvent the Constitution and yet fully respect the WTO writ, separate legislation is necessary for each state. The state legislations need to be drafted in a uniform manner, definition of terms and expressions must be identical for all states, so too the rate of duty for each and every commodity. As the deadline approaches, most states have begun to wake up to the dangerous possibilities latent in VAT, although the realization is yet to sink in that, once the change-over occurs, the states will be reduced to the state of total vassaldom to the Centre.

This is then the Great Train Robbery of which the political parties, who foam in their mouth in season and out of season in the cause of states' rights, appear to be blissfully unaware of. It will be an irony of some sort if the planned stealing is finally thwarted more by small-time tax dodgers concerned about the privacy of their account books than by those who dream of a decentralized India where the states come to full bloom after wresting greater powers and resources for themselves, and the Centre is left with only a few delegated rights.


Ashok Mitra

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Number of User Comments: 32

Sub: VAT - it is one reason for Europe being called a sick and old man

First, a definition of VAT as used in the European Union: Value Added Tax (VAT) is a general consumption tax assessed on the value added ...

Posted by Sharmila Rao-Pence

Sub: VAT

I take the point about the threat to federalism, but why doesn't Ashok Mitra come out and say if VAT is a more sensible tax ...

Posted by ravi

Sub: Its disgusting

Its disgusting to read the article. VAT is an excellent arrangement meant to eliminate tax evasion and an uniform tax structure across the board. There ...

Posted by Vineet Saraff

Sub: comment

hats off and congrats, exellently bold and intelligent. shivanand shenoy


Sub: Vested interest of anti VAT lobby

I cannot understand people like Ashok Mitra and his understanding of VAT. Either he does not understand what it is or has some major vested ...

Posted by rajmohan


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