Is it feasible to do away with income tax?

Indian Taxation System is complex and lengthy. But would it be feasible to completely do away with it? Even thinking about it seems absurd. A question immediately comes to the mind, “How will the country run if there is no income tax?” Many agree that though the Indian Taxation system is not perfect, it is still indispensable.

But is it so?

Without considering anything else it does seem so, but not anymore. A new concept called BTT (Banking Transaction Tax) is now a hot topic. But can BTT actually replace the Income Tax?

So let’s start with why the Government has to levy Income Tax.

Income tax is levied to fund the government's expenditure on defense, infrastructure and other developmental activities for the welfare of the nation and society as a whole. It also helps redistribute wealth and assets in society. The rich pay more, while the poor pay less or no tax at all.

Now let’s see what exactly BTT is and how it will function.

BTT is the acronym for Banking Transaction Tax and as the name suggests is a tax on the transactions performed by an individual at the bank.

The proposal is that income tax be completely removed and be replaced by the banking transaction tax of 2 per cent on the money that is credited to a bank account.

The argument in favour of BTT is that it would be more simplified and easy to collect. Additionally it will remedy all the negatives with the current Income Tax System by reducing the tax burden, prevent tax evasion, curb black money and thus generate additional revenue for the government.

So the BTT seems promising, but has it ever been tried and tested before?

The answer is yes.

Some countries, such as Argentina, Brazil, Bolivia, Colombia, Peru and Venezuela, have used the BTT as an emergency measure to deal with the economic crisis. It was levied on withdrawals and in some cases on the credits as well.

The rate of BTT ranged from 0.02 per cent to 2 per cent. But the thing is that this tax was levied only as a temporary measure to offset the economic crisis. It wasn't a replacement for the income tax.

Many would find it surprising that India too had a 0.1 per cent BCTT on cash withdrawals between 2005 and 2009, but the annual collection never exceeded Rs.600 crores.

We saw the positives of BTT and even saw that it has been tried before (though not as an alternative to Income tax). So now let’s turn check the negative side of BTT and the unfairness that it poses.

India is a large country and there is a huge disparity between the poor and the rich. Therefore, a higher tax for the rich is the best way to redistribute income.

The Banking Transaction Tax, however, does not differentiate between the rich and the poor. Everyone will be taxed at 2 per cent on their transactions with the bank. So be it a businessman, earning upside of Rs.1 lakh a day, or a lowly blue collar worker, earning that amount in a year, both will have to bear the same tax rate on every banking transaction.

Implementing BTT may create hardships for the common man. Every banking transaction will be charged at 2% from taking a loan to receiving subsidies from the government which is directly deposited in their bank accounts. Even senior citizens, receiving pension will be taxed regardless of whether their income is below taxable limit or not. Thus all these would have to bear BTT even though they are not required to pay tax as per the current system.

But this is not the end of it. In cases of EMI payment on a home loan or a child's school fee, the bank or school may want to pass on the liability of 2 per cent tax back to you.  This would push up the cost of the loan and your child's education expense.

One of the basic arguments in favour of introducing the BTT is that it will help eliminate black money. However, many Indians still do not have bank accounts. So the tax will only affect those who have bank accounts. Moreover to escape the tax, a lot of people will start avoiding banking transactions as far as possible the result of which will be more black money. This is exactly what happened in Argentina, when BTT was levied.

The other reason that BTT may not be able to curb black money is that most of the black money is that bank transactions are not the only way for payments. The payments made in kind would never reach the banks and so will never be taxed. This was proves through the Voluntary Disclosure of Income Scheme (VDIS) wherein Rs.33,000 crore of undisclosed wealth was pulled back into the white economy. The undisclosed income was in the form of gold and jewellery (37 per cent), cash (50 per cent) and property (5 per cent) and never passes through the banking channels.

Moreover switching to BTT will be a boon to the people who have amassed black money. They can convert their money to white by paying just 2% tax on it where it should have been taxed at 30.9% and without even having to pay penalty on it. This is totally unfair to the honest taxpayers who have been paying their taxes all these years?

The decision to remove corporate tax and replacing it with the BTT will impact the small-scale sector, industries that enjoy tax-free status or companies that are making losses. They would all end up paying taxes. This will discourage individuals and entrepreneurs to come up with new ideas and projects as the ventures would be taxed at the same rate as established industries despite the fact that new ventures would take years to become profitable.

The biggest issue will be the sharing of revenue between centre and states. And until the draft proposal for BTT can be evaluated and scrutinized there can be no saying whether the proposal would see the light of the day or not.