Today, all taxpayers are treated the same — big or small, genuine or fraud — because the system is not designed to differentiate. We need to correct this. We need a new law to classify taxpayers based on their compliance track record.
Tax administrators must understand that there are many shades of taxpayers — honest, avoiders, breakers and evaders. A tax avoider is one who uses the provisions of law to minimise tax. Tax breakers are of two types — those who break the norms unknowingly because of the complex tax system and those who break the law because they have no choice.
For example, many MSMEs are unaware of the complex tax system and make mistakes. Another example is when a taxpayer defaults on timely payment due to lack of funds but discloses the transactions in full. It is the second category, I call as tax evaders. At the core of this distinction is ‘transparency’. If a taxpayer conceals a tax transaction, he is an evader.
But all taxpayers are treated the same — as tax breakers or worse still as tax evaders. For me, there are only two classes — tax evaders and the rest. For this, we must move in steps — first define, recognise and celebrate honest taxpayers. Second define, recognise and severely punish tax evaders. Encourage the rest to become honest taxpayers rather than become tax evaders.
With the advent of computerised transactions and AI, concealment of transactions will become tough. The focus must shift to the disclosure of the tight taxable value of transactions.
Any classification and rewards to highly compliant taxpayers will have to pass the test of constitutional compliance and compliance with the doctrine of rational classification. Article 14 says: “The State shall not deny to any person equality before the law or the equal protection of the laws within the territory of India.” It aims to establish the “Equality of Status and Opportunity” as embodied in the Preamble.
Identical treatment in unequal circumstances would amount to inequality. Article 14 does not mean that the same laws should apply to all persons or that every law must have universal application. This is because all persons are not, by nature, attainment or circumstances, in the same position. Thus, the state can treat different persons differently if circumstances justify such treatment. Further, identical treatment in unequal circumstances would amount to inequality. This means in certain circumstances, differentiation and special treatment to a certain set of citizens is essential to correct the inequality.
The Supreme Court has maintained that Article 14 permits reasonable classification of persons, objects, transactions by the state for the purpose of achieving specific ends that help in the development of society. For examples, the law on maternity benefits to women. Another illustration is of tax laws. Charities are exempted from Income Tax whereas other residents are not.
However, Article 14 forbids “class legislation” which makes improper discrimination by conferring particular privileges upon a class of persons. A reasonable classification must be based on smart differences and must pass the test of reasonable classification.
Test of Reasonable Classification
The Supreme Court laid down two conditions in Saurabh Chaudhari v Union of India, which were:
- The classification must be founded on intelligible differentia. The expression ‘intelligible differentia’ means difference between those included and excluded must be capable of being understood
- The differential must be related rationally with the purpose that is to be achieved by the act
- For example, a classification based the colour of eye or hair would be arbitrary. So it is clear that reasonable classification of persons – natural or artificial – is permitted and, in fact, is a sign of progress in a democracy.
Enact a new law to differentiate genuine taxpayers based on reasonable classification principles. Here are a few ideas on differentiation:
• Make tax compliance a fundamental duty. Establish a direct connection between classification and objective, ie, to reduce cost of tax collection and inculcate habit of timely and accurate tax payment as a fundamental duty of citizens
• Pass a legislation granting specific privileges depending upon the compliance category
• Create multiple ratings – Platinum (highest), Gold and Silver – depending upon the score
• Create a scientific method to classify taxpayers based on their track record and history. The classification should be based on both tax paid and on “voluntary compliance track record “, over a period of time
• Evaluation criteria must be transparent and widely communicated so that taxpayers can aspire and plan
• There are many indicators of good compliance like payment without follow-up, timely filing of return, absence of multiple cases of tax evasion and audit/scrutiny report compliance
• Everyone will get a default rating and have the option to apply for an upgrade of their rating post few years’ performance on compliance
• Rating to be reviewed and revised every two years based on performance. Rating will be downgraded as soon as tax evasion is admitted or proved
• Taxpayers who seek higher rating will have to submit data beyond what the tax forms seek, to demonstrate transparency and to support their claim
• AI can be deployed to crunch large transaction data to assist in the evaluation
• Highly compliant taxpayers to be treated as partners by the Tax department
• All other government departments to also treat them as partners whenever they approach for help and prioritise their requests
• Income Tax will be assessed and refunds given within three months based on self-assessment
• Department will pay the refund interest at the same rate as applicable for delayed payments. This is a sign of partnership mindset
• Department will not penalise highly compliant with penal interest and fines and imprisonment for delayed payment, as long as the delayed payments are declared unilaterally
• Tax raids on high compliant taxpayers will require authorisation by Chief Commissioner-level officers
• Recognise top 100 tax compliant companies, SMEs and individuals in each zone
• National awards like Padma Shri must include high tax compliance as a criterion
• Candidates for all elections will have to declare their compliance ratings
• High compliance rated taxpayers can get cash discount on early and timely payments
The first benefit is the awareness of the importance of tax compliance as a nation-building activity. The second is the opportunity to differentiate oneself from other citizens. Genuine taxpayers will feel recognised and stop thinking about joining the tax fraudsters group. Third, tax authorities can improve collections and reduce costs of collections by focusing only on low compliance taxpayers and non-taxpayers. Fourth, the narrative will shift from ‘tax terrorism’ to ‘tax compliance ratings’, and fifth, genuine taxpayers will be left free to grow their business.
(The author is Chairman, TMI Group)
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