Concern over a falling share of corporation tax revenue may get worse
In the five years of the Modi government’s first term, the share of the Centre’s gross tax revenue in gross domestic product (GDP) saw only a small rise — from about 10 per cent in 2014-15 to 11 per cent in 2018-19. But in 2019-20, the first year of the Modi government’s second term and before the outbreak of Covid-19, the share of gross tax in GDP fell to 9.88 per cent. Thanks to the economic lockdown and Covid-19, gross tax collections further declined to 9.7 per cent of GDP in 2020-21. Tax buoyancy, too, stayed below 1 in as many as four of these seven years and just a shade above 1.5 in the remaining three years.
The bigger concern, however, was the trend in corporation tax revenue, which fared worse than overall tax collections. For instance, corporation tax collections used to be about 34 per cent of the Centre’s gross tax revenues in 2014-15. This share plummeted to 28 per cent in 2019-20 and further down to 23 per cent in 2020-21.
There may be some comfort in the annual growth rates for corporation tax revenue. Two out of these seven years saw corporation tax revenue rise in double digits (18 per cent in 2017-18 and 16 per cent in 2018-19), three years saw an increase of 6 to 9 per cent, and the remaining two years (2019-20 and 2020-21), understandably, saw a contraction. But what should cause concern is that the share of corporation tax in GDP has kept falling almost every year in this period — from 3.4 per cent of GDP in 2014-15 to 2.74 per cent in 2019-20 and 2.28 per cent in 2020-21.
What has gone wrong? One possible explanation is that the Indian companies’ profits have not seen healthy growth in relation to the economy during this period. An analysis by the Business Standard Research Bureau shows that the combined profit of BSE 500 companies has dropped to 2.31 per cent of GDP, much lower than most other countries, in this period. The net profit of the same group of Indian companies also declined by 15 per cent in dollar terms over the last five years. In sharp contrast, companies in other countries, except the United Kingdom, showed healthy profit growth in double digits.
The fall in net profit could not have been attributed to any sharp increase in taxes. On the contrary, this period saw large sections of India Inc enjoying the option of getting taxed at a lower rate subject to their fulfilling certain conditions. As a result, an increasingly larger number of companies were paying taxes at a lower rate, adversely affecting overall corporation tax revenue.
For instance, in 2016-17, new manufacturing companies incorporated on or after March 2016 were given the option to be taxed at 25 per cent plus surcharge and cess (compared to 30 per cent plus surcharge, etc.) if they did not claim profit-linked or investment-linked deductions, investment allowances, or accelerated depreciation. Additionally, the tax rate for all companies with an annual turnover of less than Rs 5 crore was brought down to 29 per cent plus surcharge and cess.
In 2017-18, the tax rate for small and medium companies with an annual turnover of up to Rs 50 crore was brought down to 25 per cent. This meant about 96 per cent of companies that filed a tax return were brought under a concessional tax rate of 25 per cent plus surcharge and cess. By the government’s own admission, the annual revenue loss as a consequence was about Rs 7,200 crore or less than 2 per cent of total corporation tax collection that year. In the following year, 2018-19, the government extended the coverage of the 25 per cent tax rate to cover all companies with an annual turnover of up to Rs 250 crore — a move that would benefit 99 per cent of companies filing tax returns and deprive the government of an additional annual tax revenue of Rs 7,000 crore.
All these measures brought about a significant change in the tax burden on Indian companies. In 2014-15, about 188,000 companies in a sample size of close to 580,000 paid taxes at an effective rate of over 30 per cent and this cohort accounted for 60 per cent of the total corporation tax collected by the Centre that year. In 2018-19, thanks to the various tax concessions, only about 85,000 companies of a larger sample size of 885,000 paid taxes at the rate of over 30 per cent. And this cohort accounted for only 50 per cent of the corporation tax revenue of the Centre.
In contrast, there were just about 24,000 companies in 2014-15 paying taxes at an effective rate of 25-30 per cent, accounting for only 16 per cent of the corporation tax collected by the government. Another 15,000 companies paid taxes at the rate of 20-25 per cent, but their contribution to the corporation tax revenue was only 10 per cent. By 2018-19, the number of such companies saw a huge increase, without, however, a corresponding increase in their share in total taxes collected. Companies paying taxes at 25-30 per cent numbered around 184,000 in 2018-19, but their share in corporation tax was 19 per cent. The number of companies paying tax at 20-25 per cent increased to over 46,000 and their share in total corporation tax rose to 23 per cent.
In short, the story of India’s corporation tax revenues is about how more and more companies have been taxed at a lower rate. As a result, the contribution of a large number of companies to the corporation tax kitty is getting smaller. No wonder, corporation tax buoyancy has suffered in the last seven years.
The complete data for 2019-20 and 2020-21 are not yet available. But the skew noticed in the years between 2014-15 and 2018-19 will only be accentuated in the following years. This is because the government has introduced two more concessions for India Inc. In 2019-20, the government extended the concessional tax rate of 25 per cent to all companies with an annual turnover up to Rs 400 crore, thereby covering 99.3 per cent of all companies filing tax returns. Subsequently, in September 2019, all companies not availing themselves of the various exemptions and incentives like tax holidays were allowed to be taxed at 25 per cent, inclusive of the 10 per cent surcharge and a 4 per cent cess. Moreover, manufacturing companies starting operations after October 1, 2019, were to be taxed at an overall rate of 17 per cent.
All these concessions must have already made an impact on the government’s corporation tax collections in 2019-20 and even 2020-21. The expected savings on account of the removal of exemptions have so far proved to be very small. The revenue impact of tax concessions on corporations has been estimated at Rs 0.9 trillion in 2019-20, compared to Rs 1.08 trillion in 2018-19. Clearly, the government’s worry on the corporation tax revenue front is not going to end soon. In fact, it may worsen in the coming years until the growth engine revives sustainably to make good the loss on account of lower tax rates.