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Dec 14, 2005
VAT as reflected on Indian democracy

On Dec.13, in a little noticed scene befitting a climax to a slow thriller, five states announced that they will join 21 states already in the Value Added Tax [VAT] regime. 'Phew,' you ought to say, break into a big smile and applaud, but you barely noticed. Applaud you must, not these states' decision, but the majesty of Indian democracy which has wrought a consensus after five patient years during which, everyone got a chance to discharge steam, even as wise minds waited quietly. And now criticising voices have fallen silent, VAT will cover nearly the whole country and India will have cleaned up a little more.

Our story must in fact begin in the seventies when India had a tangled tax mess. Dr Shankar Acharya describes it well: "Back then, customs duties were often above 200 per cent on many products. Excise duties ranged between 2 and 100 per cent spread across 24 different rates, not counting much higher duties on tobacco and petroleum... Inputs were routinely taxed and credit on taxation of inputs was rare. So 'cascading' of taxes was the norm. Direct taxes were even more bizarre. In 1973-74, the personal income tax boasted eleven different slabs with rates ranging from 10 to 85 per cent."

In Acharya's review of the 30 years since then, we find politically incompatible personalities like V P Singh, Manmohan Singh and Yashwant Sinha working steadily with a common focus on cleaning up the mess. Behind them were sharp, dedicated minds who analysed issues and devised policy for the political leadership to carry through the parliament. While some names like L K Jha, Raja Chelliah and Vijay Kelkar are well known, others like Amaresh Bagchi, Govinda Rao and Partha Shome are not. Out of such minds' collective wisdom is fair, modern governance wrought in India.

Manmohan Singh, in his deservedly celebrated five years as Finance Minister between 1991 and '96 , had rationalised customs duty, wealth, income and corporate taxes. Sinha who followed him combed out excise duties.

That left a formidable swamp called sales tax. India's sales tax system was a nightmare of exemptions and discretions. There was no standard record keeping. Each state had its own rates and the centre, one of its own. A lot of discretion was vested with numerous inspectors and that led to leakages. V P Singh's MODVAT of 1985 was a forerunner of the VAT idea but it was howled out of the scene.

What VAT aims to do is to charge tax only for value added to a product or service. Say you bought a bottle for Rs.10 and a lid for Rs.2 and each incurred a tax of 10%, a tax of Rs.1.20 had already been paid. If you then stuffed pickles in it and sold for Rs.50 you'd pay Rs.5 as a tax; but you can claim a refund of Rs.1.20 for taxes already paid. That in simple terms is VAT.

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