Review of Literature

Transcription

1 CHAPTER 3 Review of Literature 3.1 Introduction After conducting a study of various provisions in tax laws and decisions of Courts and Tribunals, the researcher conducted exhaustive review of literature available in the area of indirect taxes and in particular tax planning. The researcher reviewed following. Constitution of India with an objective to study the powers to levy and collect taxes and other measures. Basic provisions of Central Excise, Customs and Service Tax, including Acts, Rules and Regulations and notifications issued thereunder, especially to understand various benefits and exemptions available to manufacturer and service providers, which contribute to cost reduction. Cenvat Credit Rules play an important role in the case of exemptions under Central Excise and Service Tax. Any exemption under Central Excise and Service Tax has to be read alongwith Cenvat credit provisions as it will have direct effect on Cenvat credit. 80

2 Foreign Trade Policy, which provides various measures for export promotions and facilities to exporters. Availing benefit of the same is an important measure for cost reduction. Legal Metrology Act, as it applies to packaged commodities. For Valuation of goods under MRP provisions, review of Legal Metrology Act was essential Special Economic Zone (SEZ) is treated as island within India and SEZ developers and Units get many tax concessions in Direct as well as Indirect Taxes and therefore it helps the unit in reduction in cost by way of tax concessions and also administratively. Various decisions of Court and Tribunals in the area of indirect taxes deciding many aspects of tax planning, valuation, manufacture, classification etc. Generally Accepted Cost Accounting Principles and Cost Accounting Standards provide guidelines regarding accounting and determination of cost and cost elements. Cost Accounting Records Rules and Cost Audit Rules have direct linkage with central excise and service tax. Usefulness of cost audit mechanism in the area of indirect taxes is well recognized. The cost audit mechanism provides great support in the area of tax management. Review of Committee and Task Force reports on Tax Reforms gives an idea on the developments in the taxation provision and tax reforms. 81

3 Research articles. Report of the Comptroller and Auditor General of India for the year ended March 2012, on Indirect Taxes contains useful information as to how tax planning and tax management has failed and resulted in heavy penalties. PhD Thesis. Website of Central Board of Excise &Customs (CBE&C), Ministry of Commerce, SEZ gives broad idea about various provisions, amendments etc. Review of the above is presented in this chapter of Review of Literature. 3.2 CONSTITUTION OF INDIA. 1 Constitution of India, which came into effect on 26 th January, 1950, is the supreme of all laws in India and Government actions are subordinate to the constitution. Power to levy and collect tax is derived from constitution. Any Act, Rule, Regulation, Notification, Circular cannot be issued overriding the scope and powers granted in Constitution, otherwise it will be ultra virus the constitution. Powers to levy and collect tax is derived from constitution. Statutory provisions cannot override constitutional provisions and therefore the researcher felt it necessary to review Constitution with an objective to understand the powers of Central Government, State Governments and Local Bodies to make rules, functioning of three organs namely Legislative Organ, 82

4 Administrative Organ and Judicial Organ, the mode of passing Act, Ordinance, Notification and its effective date. The structure of Government is federal in nature. In the basic scheme of taxation, Article 246 of Seventh Schedule to Constitution indicates bifurcation of powers to make laws between Union of India and State Governments. Parliament has exclusive powers to make laws in respect of matters given in List No. I, called as Union List. State Government s powers are given in List II, called as State List and List III, which is called as Concurrent List contains entries where both Union as well as State Government can exercise powers. All the three taxes Central Excise, Customs duty and Service Tax are in the list I and Central Government has exclusive powers to make rules and changes in these three taxes. 3.3 CENTRAL EXCISE Central Excise Act Central Excise Act, 1944 is the basic Act, containing basic provisions related to charging of excise duty, valuation of excisable goods, powers of officers, penalties, adjudication and appeals, settlement of cases, advanced ruling etc. The Central Excise Act, 1944, in the present form contains 40 sections. The Act was known as Central Excises and Salt The word salt was dropped in

5 Central Excise Rules, Sec 37 of the Central Excise Act, 1944, grants power to Government to frame rules to carry into effect the purposes of Central Excise Act. Sec.38 of the Act provides that rules should be made by issue of notification and should be placed before Parliament for 30 days when Parliament is in session. The Central Excise Rules do prescribe certain procedures and Returns. For Contravention of any rules and procedures, stringent penalties have been prescribed under Central Excise and therefore review of Rules was considered important for the purpose of tax management Central Excise Valuation Rules, Sec. 4 of the Central Excise Act, 1944 contains the basic provisions related to determination of value of the excisable goods for the purpose of charging excise duty. However, in certain cases, value cannot be fixed under Sec 4 of the Act. Where the value cannot be determined u/s 4 of the Central Excise Act, Valuation Rules have been prescribed u/s 4(1) (b) of the Central Excise Act The Valuation Rules contain following areas where tax planning is possible Claiming deduction of freight and insurance from the assessable value and thereby reduce the excise duty liability as per Rule 5 of the Valuation Rules. Concept of additional consideration as envisaged in Rule 6 of the Valuation Rules. Determination of correct Cost of Production according to CAS4 as prescribed in Rule 8 of the Valuation Rules. Related party transactions in Rule 9 and 10 of the Valuation Rules. Valuation of the goods in the case of Job Work, as per Rule 10A of the Valuation Rules. 84

6 Cenvat Credit Rules, Cenvat Credit Rules, 2004 are common for Central Excise and Service Tax. These rules are framed with the basic objective of minimizing the cascading effect of duties and service tax. These rules make provision for availing VAT credit of excise duty paid on inputs and capital goods and service tax on input services. The credit is interchangeable and can be utilized for making payment of excise duty on manufactured goods and service tax on taxable output services. While reviewing various Exemption Notifications under Central Excise and Service Tax and Cenvat provisions that every exemption under central excise and service tax has to be studied alongwith its impact on Cenvat credit. Cenvat Credit on inputs and input services is not available if final product or output service is exempt from excise duty or service tax. Where the manufacturer is manufacturing both dutiable goods and exempted goods or service provider is providing taxable services and exempted services, there may be common inputs and input services used for manufacturing dutiable goods and exempted goods or taxable and exempted services. In such cases, following four options have been provided under Rule 6 of the Cenvat Credit Rules. i) Rule 6(2) of CCR: - Maintain separate inventory and accounts of receipt and use of inputs and input services used for exempted goods, exempted services. ii) Rule 6(3) (i) of CCR: - Pay amount equal to 6% of exempted goods / exempted services. 85

7 iii) Rule 6(3)(ii) of CCR :- Pay an amount equal to proportionate Cenvat credit attributable to exempted final product / exempted output service as provided in Rule 6(3A). iv) Rule 6(3) (iii) of CCR: - Maintain separate accounts for inputs and pay amount as determined under rule 6(3A) in respect of input services. The option has to be exercised in respect of all exempted goods manufactured and all exempted output services provided. As per explanation I to Rule 6(3) of the Cenvat Credit Rules, the option once exercised shall not be changed in remaining part of financial year. Therefore exercising correct option is an important measure of tax planning. The another important area for tax planning is removal of inputs and capital goods as such. In case of removal of capital goods after use, paying correct amount is also an important area for tax management. Highlights of Cenvat Credit Scheme Intents to avoid cascading effect of Excise Duty and Service Tax. Credit of duty paid on inputs, input services and capital goods available to manufacturer of excisable goods and provider of taxable output services. No credit of service in Jammu and Kashmir. Inputs, moulds, dies, jigs and fixtures can be sent to Job Worker. Removal of used capital goods as scrap or second hand capital goods on payment of appropriate amount. Credit on motor vehicles available to specified output service Credit on basis of specified documents. 86

8 Credit available instantly in case of input goods and input services. Cenvat credit of capital goods in two stages, upto 50% in the year of receipt and balance in any subsequent financial year. Cenvat to manufacturer available only if there is a manufacture. Cenvat Credit is available in respect of specified duties only such as basic excise duty, service tax, education cess and higher education cess, countervailing duty, special additional duty. Cenvat Credit of special additional duty is not available to service provider. Utilization of Cenvat credit for payment of duty on final product as well as service tax on output services. Cenvat Credit interchangeable. Cenvat Credit is indefeasible. One-to-one correlation between inputs and final product is not required. No input credit if final product / output service exempt from excise duty/ service tax. No cash refund, except in case of export or supply to SEZ. Unutilized Cenvat Credit is transferable in case of transfer of location, sale, and merger of the manufacturing unit. Accounting entries not relevant for eligibility of Cenvat Credit. 87

9 Central Excise Tariff Act Excise duty is on excisable goods manufactured or produced in India. The liability of payment of duty is on manufacturer of the goods. To determine correct duty payable following two steps need to be followed. 1. Classify the goods correctly to find out rate of excise duty. 2. To determine assessable value of the goods, to which rate of duty is to be applied for calculating amount of duty payable. The Classification of goods, rate of duty and principles of classification are given in the Central Excise Tariff, Schedules thereof. The Central Excise Tariff Act, 1985 (CETA) classifies goods under 96 Chapters. A specific code is assigned to each item. The classification forms basis for classifying the goods under a particular chapter head / sub head to prescribe duty to be charged on that particular product. Central Excise Tariff Act, 1985 deals with the classification of goods and rate of excise duty payable on it. Predominantly the classification of goods is based on Harmonious System of Nomenclature and trade parlance i.e. a word in statute should be construed in its popular sense and not in strict or technical sense. Popular sense means that which people conversant with the subject matter with which statute is dealing, would attribute to it. In CCE Vs Vicco Laboratories-2005(179)ELT17(SC 3 member bench), Hon. Supreme Court held that the burden of proof that a product is classifiable under a particular tariff head is on the revenue and must be discharged by proving that it is so understood by the consumers of product in common parlance. 88

10 Exemption Notifications are issued by the Central Government providing concessions and exemptions from duty. The effective rate of duty is to be found from the relevant notification issued under Central Excise Tariff Notifications 3. Under Sec.5A and 11C of the Central Excise Act, 1944 powers have been granted to Government for granting partial or full exemptions from excise duty. Central Excise Rules also provide for issue of notifications in respect of various matters. The Rules and Notifications have full legislative backing and are treated as part of the Act CBEC s Excise Manual of Supplementary Instructions 2. The manual of supplementary instructions was issued by the Central Board of Excise and Customs in Only general provisions and procedures applicable to manufactured goods have been incorporated in this manual. The manual is divided into 19 chapters and contain instruction related to following Registration under Central Excise,(Chapter 2). Assessments, Classification, valuation, provisional assessment, manner of duty payment, account current, scrutiny (Chapter 3). Invoice System (Chapter 4). Cenvat Credit (Chapter 5). Records and Returns under Central Excise (Chapter 6). Export without payment of duty (Chapter 7) Export under claim of rebate (Chapter 8) Refund(Chapter 9) Warehousing (Chapter 10). Samples (Chapter 11). 89

11 Special Procedure for specified goods (Chapter 12). Demand / Show Cause Notice, Adjudication, Interest, Penalty, Confiscation, Seizure, Duty payment under protest. (Chapter 13). Bonds and Letter of Undertaking (Chapter 14). Excise Audit (Chapter 15). Appeals (Chapter 16). Search, Seizure, Arrest and Prosecution (Chapter 17). Remission of duty, Return of duty paid goods to factory, Job Work (Chapter 18). Advance Ruling (Chapter 19) Circulars issued by CBE & C 4. Central Board of Excise and Customs issues circulars and clarifications from time to time. Trade Notices are issued by the Commissioners. Generally circulars are issued to clarify the views of the Government in respect of specific points under Act, Rules or Notifications or to give some information. The circulars do not have any legal force and are not binding on assessee, quasi judicial authorities and courts. If any circular or trade notice is beyond the provisions of Act or Rules, they cannot be binding on Government also. 90

12 3.4 CUSTOMS Customs Act 1962, Rules and Regulations made thereunder 5. Customs Act 1962, contains basic provisions related to imports and exports and customs duty. The Rules and Regulations framed thereunder contain procedural aspects, valuation for the purpose of determination of customs duty, person responsible for payment of duty, penalties, appeals etc. Like Central Excise, Rules and Regulations are issued under Customs Act to carry into effect the purposes of Customs Act, Notifications are issued granting partial or full exemptions from Customs Duty Customs Tariff Act Customs Tariff Act, 1975 deals with the classification of goods and rate of customs duty payable on it. Predominantly the classification is based on Harmonious System of Nomenclature and trade parlance. Exemption Notifications are issued by the Central Government providing concessions and exemptions from duty. The principles of classification of goods under Central Excise and Customs are same Customs Manual Customs Manual was released by Central Board of Excise and Customs on The manual gives an overview of Customs Law and Procedures. Though it is useful guide to taxpayers and it does not substitute for the rules, regulations, notifications, circulars and instructions. 91

13 3.5. SERVICE TAX Finance Act, 1994 Sec 64 to Sec 99 of Finance Act 1994, contain provisions related to Service Tax. There is no separate Act for service Tax. Service Tax Rules and other Rules are also issued under the powers granted under Finance Act Rules relating to service tax. Following are the important rules related to service tax. Service Tax Rules,1994 Cenvat Credit Rules,2004 Point of Taxation Rules, Service Tax (Determination of Value) Rules, Service Tax (Advance Ruling) Rules, Service Tax (Settlement of cases) Rules, Place of provision of Service rules, Service Tax (Registration of Special Category of Persons) Rules, Service Tax (Publication of Names) Rules, Service Tax (Provisional Attachment of Property) Rules, Service Tax (Compounding of Offences) Rules, Service Tax (Removal of Difficulty) Order,

14 3.5.3 Education Guide issued by Central Board of Excise and Customs. This contains clarifications and explanations on various issues related to service tax and provide useful information to tax payers. 3.6 Foreign Trade Policy 8 Under powers of Sec 3 and Sec 5 of Foreign Trade (Development and Regulation) Act, 1992, Ministry of Commerce issues policy for import and export. Usually it is issued for five years but is amended from time to time. The policy was earlier termed as EXIM policy. It was renamed as Foreign Trade Policy for 2004 onwards. Generally, policy announced by Ministry of Commerce is not followed by customs and excise department unless there is corresponding excise or customs notification. The Foreign Trade Policy provides the overarching framework for catalyzing India s Exports. The Foreign Trade Policy for the year was announced on 27 th August The Foreign Trade Policy contains policy and procedures related to Special Focus Incentives, Board of Trade- its composition and Terms of Reference, General Provisions regarding imports and exports, Export Promotional Measures, Deemed Exports, etc. The Duty Exemption and Remission Schemes under Foreign Trade Policy include following 93

15 Advance Authorization Scheme, Duty Free Import Authorization (DFIA) Scheme, Duty Entitlement Passbook (DEPB) Scheme, Export Promotion Capital Goods (EPCG) Scheme, Export Oriented Units (EOU), Electronics Hardware Technology Parks (EHTPs), Software Technology Parks (STPs) and Bi-Technology Parks (BTPs). Special Economic Zones. Free Trade and Warehousing Zones. Availing benefits of the various schemes under Foreign Trade Policy is an important measure of tax planning and contributes to cost reduction activities substantially. 94

16 3.7 Special Economic Zone Act Special Economic Zone (SEZ), Act 2005 is an Act to provide for establishment, development and management of the Special Economic Zones for the promotion of Exports and for matters connected therewith or incidental thereto. As spelt out is Sec 5 of the Special Economic Zone Act,2005 following are the guiding factors in approving proposals to establish SEZ. a) Generation of additional economic activity; b) Promotion of exports of goods and services; c) Promotion of investment from domestic and foreign sources; d) Creation of employment opportunities; e) Development of infrastructure facilities; and f) Maintenance of sovereignty and integrity of India, the security of the State and Friendly relations with foreign states. Special Economic Zones offer well developed enclaves of industrial infrastructure with plots, built up space, power, water supply, transport, housing, social infrastructure etc. The Special Economic Zones are specifically delineated areas wherein units may be set up for specified purposes of manufacturing or trading or rendering services or for providing warehousing facilities for export. As per Sec 2(i) of the SEZ Act, the domestic tariff area (DTA) means the whole of India including its territorial waters and continental shelf but not including areas of the SEZ. Sec 53 of the SEZ Act provides that SEZ shall be deemed to be a territory outside the Customs territory of India. The legal implication is that the SEZs are treated as foreign territory for the purposes of trade operations, duties and 95

17 tariffs. In other words goods and services going into the SEZ from DTA are treated as exports and goods and services coming from SEZ are treated as Imports. Therefore, domestic laws do not generally apply to the SEZs and the units therein. Sec 51 of the SEZ Act provides that SEZ Act will have overriding effect over other laws. Vide Finance Act, 2002, changes were brought in the Customs Act, 1962 and Central Excise Act,1944 in the context of the SEZs. 3.8 Review of Committee Reports A Task Force on Direct Taxes Reforms 10. Ministry of Finance and Company Affairs, with an objective to rationalize and simplify Direct Taxes Laws and re-design procedures to bring them at par with best international practices, so as to encourage voluntary compliance and reduce compliance cost, vide Notification No. 153/191/2002-TPL dt.6 th November 2002, constituted a Task Force on Direct Taxes, under the chairmanship of Dr. Vijay Kelkar. The consultation paper of the Task Force on Direct Taxes was made available on the website of the ministry of Finance & Company Affairs on 2 nd November 2002 inviting comments and suggestions of all concerned. The Task Force submitted its final report to the ministry, recommending various measures of simplification in tax provisions with respect to annual information return, search and seizure, assessments, dispute resolutions, tax administration, personal tax reforms, corporate tax reforms, taxation of capital gains etc. The task force recommended more autonomy to CBDT. 96

18 It was expected that the recommendations of the task force will have following impact. 1. Individual taxpayers of all categories and in every income group benefit substantially from the package of recommendations. (Para 9.8) 2. Overall, the recommendations are revenue neutral at the existing level of compliance. To the extent the new simplified and liberalized tax regime will introduce compliance, the revenue gains are likely to be substantially higher and it will enhance buoyancy by widening the personal and corporate income tax bases.(para 9.14) 3. The recommendations for eliminating the exemptions, the extensive use of technology and privatization of non core activities of the tax administration will result in sharp reduction in transaction cost. A 10 % reduction in transaction cost for personal income tax would help taxpayers to save an estimated Rs.4000/- Crores. Such reduction in transaction cost is progressive. The Task Force Recommendations were mainly on simplifications in tax provisions and reducing the complications, resulted in helping taxpayers in tax planning A Task Force on Indirect Taxes 10. Ministry of Finance and Company Affairs, with an objective to take advantage of information technology and bring the indirect tax systems and procedures at par with the best international practices, and thus, encourage compliance and reduce compliance cost, vide Notification No. 201/65/2002-CX6 dt. 3 rd September 2002, constituted a Task Force on Indirect Taxes, under the chairmanship of Dr. Vijay Kelkar. 97

19 On 25 th October 2002, the Task Force presented the consultation paper to the Government with a request that the same may be made available to the public at large for discussion on the proposals contained therein. The response was overwhelming; By and large the proposals contained in the consultation paper were appreciated. However, there was also constructive criticism to some proposals, particularly tax rates of some items. It was expected that with the proposed reforms, the reduction in the transaction costs could be as much as 50%, the potential gains to the economy would be Rs Crores per annum. The basic reforms recommended by the task force include following. Customs Procedures and Trade Facilitation 1. Trust Based System (TBS); Universal Green Channel. 2. Liberal steps in Licensing of Customs House Agents. (CHA). 3. For improved Customs Administration, following measures were recommended Intelligence, investigations and audit sections of the customs house may be strengthened. Functioning of Special Valuation Branch should be reviewed to provide time bound finalization of cases in practice. Further pre deposit of duty should be dispensed with. There should be sharing of merchant overtime fees for activities done in customs area. 98

20 Export valuation rules should be framed for export promotion schemes. Customs should allow abandonment of warehoused goods. Customs duty payment may be through cheques. Expansion of scope of confiscation provisions to include non dutiable goods as well as goods not covered under drawback scheme. To accept Export Obligation Discharge Certificate issued by DGFT by customs without delay. Customs officers may be empowered to enforce IPR by a suitable amendment to the Trade and Merchandise Marks Act and the Copyright Act. Central Excise The recommendations aimed at comprehensively changing the essence of central excise administration with the twin objective of tax payer facilitation and encouraging compliance for increased revenue. Following are the highlights of the recommendations made by the Task Force. Manufacture Levy of Central Excise should be progressively based upon value addition to be applied only to the processing stage of manufactured goods. In order to prevent any misuse of the MRP provisions, it was recommended that wherever MRP based levy is applied on an item, the act of repacking, re-labelling and putting the item into unit 99

21 container for retail sale may be deemed to be amounting to manufacture. Valuation Guidelines for determination of cost of production should be issued at the earliest. Value of the goods, when removed to sister units should be 105% of cost of production. The system of MRP based valuation may be expanded. Cenvat Abolish the distinction between capital goods and inputs and allow credit on all inputs brought into factory except for those figuring in a small negative list, such as office furniture, motor vehicles, MS, HSD etc. To allow full credit of the duty paid on capital goods immediately on receipt, as in the case of inputs. An explanation may be inserted in rule 16 of the Central Excise Rules, to the effect that the amount paid on removal of returned goods can be taken as Cenvat credit in the hands of the recipients. A specific provision may be introduced to charge duty on the dismantled capital goods when removed from the factory. 100

22 Cenvat Credit should not be allowed on deemed credit basis. Rule 12 of the Cenvat Credit Rules, 2002 should be amended to provide recovery of Cenvat credit erroneously refunded. Cenvat inputs may be allowed to be stored outside the factory in an identified place of storage subject to procedural safeguards for due accountal of the inputs. Export Sealing of export consignments by Central Excise Officers should be replaced by self sealing by the exporter, as a matter of right. Improvement in the system of grant of rebate. Manner of payment of duty Fortnightly payment of duty may be replaced by monthly payment. The date of payment of central excise duty may be prescribed as the date of presentation of the cheque to the bank subject to its realization. In the case of default in payment of duty, the provision of withdrawing the facility of payment of duty in installments in case of defaults should be revoked. 101

23 There should be automatic charge of interest and penalty in the event duty is not paid on time. In the event it is decided to retain the provision of withdrawing the facility, the assessee should be allowed to pay duty during this period through Cenvat credit. Other important recommendations include the reforms in the Assessments, Dispute Resolution, Filing of Returns, Voluntary filing of documents by tax payers, Arrests, Tax clinics for small scale sector manufacturers. Researchers Observations and Comments:- The consultation paper was presented in October It has been observed that during the last twelve years, the provisions under Central Excise Act, Central Excise Rules and Cenvat Credit Rules have been amended to give effect to almost all the recommendations made by the Task Force. Following are the examples. 1. Section 2(f) of the Central Excise Act, 1944 has been amended to include packing, repacking, labeling, relabeling, putting the item into unit container for retail in the definition of manufacture. 2. Schedule III, to the Central Excise Act has been issued to provide list of items where packing, repacking, labeling, relabeling, putting the item into unit container for retail amounts to manufacture. 102

24 3. Notification No. 49 has been issued to provide for abatement in the MRP to arrive at the assessable value of the items covered under MRP Provisions. 4. Rule 16 of the Central Excise Rules, 2002 has been amended to provide that the amount paid on removal of returned goods can be taken as Cenvat credit in the hands of the recipients. 5. Cenvat Credit Rules have been amended to provide that Cenvat Credit is not allowed on deemed credit basis. 6. Fortnightly payment of duty is replaced by monthly payment. 7. The date of payment of central excise duty is prescribed as the date of presentation of the cheque to the bank subject to its realization. In fact, e-payment is made mandatory where the duty liability is more than Rs.10 Lacs annually. 8. Sec 11A of the Central Excise Act has been amended to provide for automatic charge of interest and penalty in the event duty is not paid on time. The amendments made in the excise, in line with the recommendations of the Task Force has removed many complications and made the compliance, tax management and tax planning easier. 103

25 Service Tax The task force recommended the following: 1. To the extent possible, Service Tax should be levied in a comprehensive manner leaving out only few services by including them in a negative list. 2. There should be complete integration of Cenvat credit and service tax credit schemes. 3. Credit of central duties (on goods and services) should be utilized for payment of service tax collected and appropriated by the Central Government. 4. The rate of service tax should be suitable enhanced so as to achieve parity with the Cenvat rate by However, there should be two rates, one for service providers who avail credit and a lower rate for those who do not. 5. Threshold limit of Rs.10 Lakhs for small service providers. 6. Separate enactment for service tax. 7. Service should be classified on the basis WTO classification, which should be made a part of Service Tax legislation. 8. The task force also recommended measures of early settlement of disputes. 104

26 9. It was also recommended that there should be a time bound review of the automation needs of service tax administration and in like manner as proposed for other indirect taxes steps should be taken to automate the processes and allow online filing of returns and payment of service tax. Researchers Observations and Comments:- The consultation paper was presented in October It has been observed that during the last twelve years, the provisions related to Service Tax have been amended to give effect to almost all the recommendations made by the Task Force. Following are the examples. 1. Service Tax based on Negative List has been made effective from Service has been defined in Sec 65(44) of the Finance Act, Cenvat Credit Rules, 2004 made applicable to manufacturing and service sector providing interchangeability of Cenvat Credit Utilization. 4. Service Tax Rate and Cenvat Rate (Central Excise Duty rate) are at par from Threshold limit of Rs.10 Lakhs for small service providers. The new law, (w.e.f ) provides more area for tax planning. 105

27 Others The Task Force also recommended various simplification measures in the area of Export Promotion, SEZ and EOU schemes, Drawback Scheme, Automation of indirect tax systems and procedures, improving indirect tax administration, CBEC Administration, Revenue augmentation, Tax levies and rates, Central Excise Duty Structure for Petroleum and Textile sector, Small Scale Sector duty exemption, and VAT. As regards Central Excise Duty Exemptions, it was recommended that the following factors must be taken into account while considering the grant of a duty exemption. Income elasticity of the product cost of compliance, international best practices, and cannon of transparency. Instead of duty exemption whether it is possible to extend the same benefit through a budgetary mechanism. If an exemption is issued, it should indicate the period of its validity with a proviso that changed circumstances may warrant a mid-term review. On perusal of the recommendations made by the task force and the Central Excise, Customs and Service Tax law in the present form, it can be seen that most of the recommendations made by Task Force have been implemented and the law has been amended suitably. In the opinion of the researcher, the amended provisions do help in tax management and tax planning in Indirect Tax areas. It has brought simplification and clarity in the law and left very little scope for different interpretation and confusion. 106

28 3.8.3 Advisory Group on Tax Policy and Tax Administration for Tenth Plan 10 The Planning Commission set up the Advisory Group in July 2000 under the chairmanship of Shri Parthsarathi Shom to study tax policy and Tax Administration issues and make appropriate recommendations at different levels of government with the purpose of granting resources for the tenth Five Year Plan. Challenges before Advisory Group The Advisory Group faced two challenges. 1. The parameters for the tenth plan were not finalized so far. The group considered 15% growth target for its recommendations and suggestions. 2. While various aspects of tax structure have improved over time, many deficiencies remained. Correction of such deficiencies would have negative revenue impact in the short to medium term. The group took option of analyzing such aspects and recommending corrective action despite their potential negative impact. This implies that major complimentary revenue yielding measures are needed to improve the overall revenue productivity of the tax system, comprising both tax policy and tax administration, and including all levels of government Central, State and Local. 107

29 Recommendations Following major recommendations related to Indirect Taxes, were given by the group. Union Excise 1. It was recommended in the Interim Report that a two-rate structure of 16 percent together with a higher rate should be introduced. An increasing number of items were to be converged to fall under the 16 percent rate to minimize classification problems. This would be economically desirable and administratively simple. The rates would have to be adjusted for inclusion of services in the CENVAT. The Union Budget has moved clearly towards a two-rate duty structure of 16 percent and 32 percent. However, the lingering lower rates of 4 percent and 8 percent should now be merged with 16 percent in the next budget. 2. There is also a multiplicity of levies that include, apart from the excise rate structure, additional excise duty (goods of special importance) in lieu of sales tax on sugar, fabrics and tobacco; additional duty on motor spirit (petrol and diesel); additional duty on textiles and textile articles (fibers, yarn and fabric) under a subsidy scheme for "controlled cloth"; and cesses leviable under miscellaneous enactments. Separate accounts are to be maintained for each of these levies, increasing administrative and compliance costs. It is difficult to work out effective tax rates since CENVAT credit is not given for all of them. It was recommended that there should be a single levy under the Central Excise Act. 108

30 Base of Union Excises The base of excise is manufacture. While many disputes have occurred over the definition of manufacture, the effective twin test is: (a) a new article should come into existence; and (b) it should be marketable. The current definition that does not include activities that may be deemed to be manufacture such as labeling or printing a brand name encourages segregation of manufacturing activities to avoid tax. It was recommended in the Interim Report that the definition of manufacture be widened to include the chain of value addition by or on behalf of the manufacturer (undertaken before marketing the product) to be charged to duty. The budget has accepted this principle though only in the case of branded garments. This now needs to be extended to other items like shoes, electrical gadgets etc. Cenvat It is recommended that both capital goods and other inputs "used in the factory of the manufacturer" should be allowed CENVAT credit. Thus, capital goods and other inputs should not be distinguished for purposes of input tax credit. Cenvat credit on capital goods should be immediately restored by giving the credit in the year of purchase itself. 109

31 Exemptions The Group observed that the excise base is eroded by exemptions, inter alia, for: (a) small scale industry (SSI); (b) village industry marketed with KVIC assistance; (c) specified goods supplied to various types of public institutions; (d) goods produced without power; (e) cooperative society produced tea; (f) goods produced in the North-East; (g) a number of food items including bread, spices, coffee, khandsari sugar, cereals, edible oils and several unbranded food items; (h) fertilizers; (i) unregistered branded garments, clocks, watches upto Rs.500, electric bulbs upto Rs.20; (j) aircraft, ship and boat; etc. Further, the formulation of exemptions is extremely complex. Of the standard publication of tariffs of 720 pages, 220 pages are devoted to exemptions. There are 90 exemptions for textiles. For small scale industry, there are 5; for exports, there are 20; for job work, there are 5, and so on. Each exemption has many entries, conditions and lists, in turn, containing hundreds of items in each list. Credit is given on inputs manufactured in the North East even though no duty is paid on such inputs. This is said to cause considerable leakage. In the main notification which combines all exemptions for the different chapters (3/2001CE), there are now 262 entries while in the previous year s notification (6/2000-CE), there were 259 entries. Thus, the list has expanded, though marginally. 110

32 The Interim Report recommended that an intensive effort is necessary to rationalize exemptions on the same subject through abolition and merger. Conditions for exemptions must be minimized. When an item is covered under the SSI exemption scheme, there should not be any separate exemption except for some very valid reasons. SSI exemption should be extended to textiles also by replacing the individual exemptions. Overall, there has been no significant change in the area of exemptions. SSI units receive concessional duty as well as full CENVAT credit. SSI units below a turnover of Rs.3 Crores should pay a duty of percent of the normal rate if they opt for CENVAT credit. The 3 Crores turnover calculation should not exclude exports and exempted goods produced by a SSI unit. SSI units must maintain all records and give a declaration. Only really small units with a turnover of Rs lakhs should be exempted from declaration/maintenance of records. The unutilised credit should lapse once the Rs.1 Crores exemption limit is reached. An important issue in expanding the base is the inclusion of services in the tax net through comprehensive taxation of services. It is important to integrate services as early as possible with the CENVAT to arrive at a full fledged VAT at the Centre, perhaps as early as in the Budget of , rather than to continue with a separate structure of service taxation that cascades and causes economic distortions. The Centre should also allow states to tax services so that they can integrate services into their VAT base. A mechanism that would make this feasible is elaborated below (see Section 7e). 111

33 Administration While the VAT mechanism reduces tax induced economic distortions by reducing cascading (of "tax on tax"), the aspect of input tax credit tends to pose particular demands on administration. A substantially faster growth in MODVAT credit vis-á-vis growth in gross revenue has caused concern regarding potential misuse of MODVAT credit invoices. A field survey has indicated that, besides procedural and technical offenses, other violations included: (1) undervaluation of goods; (2) non-reversal of credit in respect of returned rejected inputs; (3) misuse of facility of job work; and (4) availing of credit on exempted final products; twice on the same invoice; without payment of duty; by using fraud/fake documents. It appears that 10 percent of revenue may be lost from these factors. There is also the perception that the exempted SSI sector exacerbates the misuse of CENVAT credit invoices. As the SSI sector has no interest in CENVAT credit invoices, the invoices relating to their purchases have been misused by the non-exempted sector. Thus rationalization of SSI exemptions from CENVAT should check evasion over and above improving the excise structure. The depot or other places of removal should be made into duty paying agencies, with accounts-based checks and audits at regular intervals. The fortnightly payment should be replaced by monthly payment to enhance the liquidity of units and to reduce excessively stringent accounting needs. Despite the move towards financial control, vestiges of physical restrictions remain. When goods are returned by buyer to seller, in certain circumstances, approval is necessary from the Chief Commissioner for re-entry of goods to the factory. This is time consuming and unnecessarily exacerbates the need for 112

34 tax official taxpayer contact. Reentry should be allowed on accounts based self declaration or simple intimation to the Department. Manufacturers may acquire spare parts for use or they may resell them. For such trading activities, approval of the Department is needed which is generally not given. Resale should be allowed on the basis of maintenance of accounts and penalty imposed in case of misuse. On the whole, therefore, excise administration should complete its movement towards financial control from physical control based methods. Researcher s Observations The recommendations made by the Advisory Group were very useful in bringing simplicity in tax administration. The Government has accepted some of the suggestions and accordingly changes were made in the following areas. 1. Concept of Deemed manufacture was introduced in the definition of Manufacture u/s 2(f) of the Central Excise Act, Rationalization in exemptions by merging the various exemption notifications and issuing a mega notification No.12/2012-CE for granting various exemptions. 3. The fortnightly payment replaced by monthly payment.(rule 8 of Central Excise Rules,2002) 4. Reentry of goods allowed on accounts based self declaration or simple intimation to the Department.(Rule 16 of the Central Excise Rules,2002). 5. Resale of goods allowed on the basis of maintenance of accounts. However no changes were made in Cenvat Credit Provisions 113

35 Taxation of Services 1 An interim method that should enable states to tax services with cooperation from the Centre and without the need for a Constitutional amendment could be one where the Centre may levy the service tax on them and authorize the states to administer/collect them. However, the Centre and states must first arrive at a consensus on the list of services that can be administered by the states. 2 The service tax collected by the states would have to first go to the Consolidated Fund of India as per Article 266(2). After that, the Centre would disburse an equivalent amount to the states. This interim method has found favour with the Chief Ministers of states with whom the Group discussed the matter. 3 The states should be given the powers to tax services whose consumption is of an intrastate nature. 4 After the initial introduction, services could be incorporated into the VAT. 5 The rate structure for the VAT on services should be identical to those for goods to obviate distortions in producer and consumer decisions. 6 The state taxes like luxury and entertainment tax on restaurants, hotels and other lodgings, professions tax, motor vehicles tax, goods and passengers tax and electricity duty should be integrated with the state level VAT. 114

36 7 Various public utility services that have scope for corporatization should be brought within the state level VAT on services. 8 The VAT on services should be fully integrated with the VAT on goods, both in its design and administration, with an appropriate mechanism to set off service input tax against goods output tax and vice versa. Therefore, a destination based, invoice credit method, dual VAT one at the central level and another at the level of states comprising both goods and services could be envisaged by the end of the Tenth Plan. 9 The assignment of the powers to tax services to states must be viewed as adequate compensation for revenue loss on account of abolition of the central sales tax Task force on Direct Taxes 10 : A Task Force on Direct Taxes was formed under the chairmanship of Dr. Vijay Kelkar. The Task Force presented the consultation paper to the Government on 2 nd November The Task Force gave many recommendations on Reform of Tax Administration, Search and Seizure, Personal Income Tax, Corporate Tax Reforms, Taxation of capital gains. The Task Force recommended the abolition of Wealth Tax. The Task Force also recommended merger of tax on expenditure in hotels with service tax. 115

37 3.8.5 Tax Reforms Committee headed by Prof. Raja J. Chellaiah 10 : The economic liberalization initiated in 1991 by the Government carried a special focus on Tax Reform as it was felt that complexities in levy and collection of tax could fetter economic activity. The Tax Reforms Committee headed by Prof. Raja J. Chellaiah examined the Tax System and Administration in the country. The Committee concluded that a simple, credible and progressive system was necessary to improve Tax compliance. The need for better relations between the Tax Collectors and Taxpayer was also emphasized. The need to achieve both equity and efficiency in Taxation was thought to be important. 3.9 Research papers presented in conferences or published in Journals Research Paper: Federalism in India: Political Economy and Reform: M. Govinda Rao and Nirvikar Singh had authored a paper in Conference on India: Ten Years of Economic Reform, at the William Davidson Institute, University of Michigan, September According to the study the central indirect tax to GDP ratio is 6.23 percent. The Tax Reform Committee of 1991 had also recommended minimizing exemptions and concessions, simplification of laws and procedures, development of modern, computerized information system and improvements in administration and enforcement (Rao, 2000a). Work in the mid -1990s by Das - Gupta and Mookherjee (198, Chapter 6) detailed the problems with Indian tax administration both in terms of incentives for paying taxes and those 116

38 enforcing them. A reform that more directly affects India s federal system lies in Indirect taxes, which, as noted have not increased proportionately with GDP in the last decade. As Rao (2000a) mentioned The most important challenge in restructuring the tax system in the country is to evolve a coordinated consumption tax system. This problem has been recognized for some time, and is clearly in need of correction, as also recommended by the Eleventh Finance Commission in its report Revenue Forecasting and Estimation Techniques and Applications Mr. Graham Glendy, Mr. Gangadhar Shukla and Mr. Robino Sugana presented paper in Duke University (U.S) on the subject Revenue Forecasting and Estimation- Techniques and Applications. The study material contains information on Principles of Taxation and Tax Reforms, Revenue Forecasting, Revenue implications of Excise Tax, Trade Tax, VAT and Income Tax. In the said presentation they have defined Taxation as Taxation is the transfer of real economic resources from the private sector to the public sector to finance public sector activities. Regarding Excise Tax, the presentation contains useful information about Economic Incidence of Excise Tax, Effect on revenue when tax rate changes, Effect on revenue when income increases. 117

39 3.9.3 Public Finance in Open Economics (Duke University (USA) Mr. Gangadhar Shukla and Mr. Graham Glendy presented paper in Duke University on Public Finance in Open Economics. The paper contains information on Public Finance, Principles of Tax Reforms, Economic Principles of Tax Revenue Tax incidence and Tax Burden, Taxation of Income and Wealth, Indirect Taxation, Trade Taxes, Taxation of State owned enterprises, Impact of Inflation, Tax Incentives. On the Tax Incentives, the paper contains useful information about Cost Effectiveness of Tax incentives, Impact of Tax incentives, Types of Tax incentives and Tax Holidays, Tax Neutrality and Neutral Tax Structure. As regards tax incentives, the resource persons observed that if a country or region has poor infrastructure and public services, then the loss of tax revenues from cost ineffective tax incentives can be expected to make this situation worse by lowering the government revenues needed to improve these infrastructure and public services. Investment tax incentives may well be selfdefeating. The authors reproduced the following thoughts of Arnold C. Harberger, in Tax Neutrality in investment Incentives, in Aaron and Boskin (eds). Economics of Taxation, (1980) The design of incentives requires a good deal of care. Three aspects of the design of tax incentives are covered. The first aspect is the cost effectiveness of a tax incentive. A basic question is whether the tax incentive costs more in 118