CONSULTATION ON DRAFT DIRECT TAXES CODE
The Ministry of Finance has taken up the Herculean task of streamlining and rationalizing the inordinately complex and obscure laws governing direct taxes, which have become increasingly complicated with the passage of time. After years of groundwork, it unveiled the draft Direct Taxes Code in August 2009 and set in motion a process of multi-level public consultation over its radical tax reforms proposals.
Common Cause addressed a representation to the Union Finance Minister on December 16, 2009, articulating the concerns of civil society in respect of the likely impact of the new tax regime proposed in the draft Direct Taxes Code. Having regard to the reactions and suggestions emanating from various sections of the public, the Ministry of Finance floated a Revised Discussion Paper on the draft Direct Taxes Code for public discussion on June 15, 2010. An interaction on the Revised Discussion Paper was held on June 30, 2010. Common Cause, which was one of the invitees to the interaction, has offered the following comments on the Revised Discussion Paper.
The Ministry of Finance hopes to finalize its proposition for the new direct tax regime in the coming weeks and introduce the Direct Taxes Code Bill in the forthcoming Monsoon Session of Parliament.
Comments on the Revised Discussion Paper on the Direct Taxes Code, June 15, 2010
1. At the outset, Common Cause would like to place on record its appreciation of the approach adopted by the Ministry of Finance in the formulation of the Direct Taxes Code and the sincere efforts made to seek an informed public debate over the provisions of the proposed Direct Tax Code with a view to eliciting and accommodating the view points of all stakeholders.
2. The comments that we are offering now are in continuation of the comments submitted to the Union Minister of Finance on December 16, 2009, a copy of which is enclosed for ready reference.
3. The issues articulated in our earlier comments were the following:
i. The proposed DTC seems to maintain the invidious distinction introduced by the Finance Act, 2008 between charitable organizations engaged in the relief of the poor, education and medical relief and those working for the advancement of any other objects of general public utility. This gives rise to the apprehension that the latter category of charitable organizations will be at a disadvantage if they engage in trade, commerce or business with a view to generating additional resources for their charitable activities.
ii. The imposition of a 15% tax on the unspent income of non-profit organizations during the year will adversely affect their capacity to accumulate resources for long term projects.
iii. The requirement to adopt the cash system of accounting introduces a further distortion by inflating the surplus through the exclusion of accrued liabilities to be discharged in the following accounting year.
iv. If non-profit organizations are not allowed to set off the deficit of past years against the surplus of an accounting year, they would not be able to finance their activities from borrowings in anticipation of a grant from a funding agency.
v. The proposed substitution of the expression "Charitable Purpose" by "Permitted Welfare Activities" would expose the voluntary sector to undue bureaucratic control and stifle innovation.
4. We find that the Revised Discussion Paper of June 15, 2010, has only addressed the last of these concerns fully (Chapter VI, Para 3(f)).
5. The modification outlined in Para 3(d), which purports to address the concern that non-profit organizations would not be able to spend the entire receipts during the financial year itself, provides only a token relief by allowing 15% of the surplus or 10% of the gross receipts, whichever is higher, to be carried forward to be used within 3 years from the end of the relevant year. It is submitted that these limits are too low in comparison to the amplitude of the fluctuations in the income of a typical non-profit organization from year to year. In our view, a non-profit organization should be allowed to carry forward the entire surplus income of a financial year with the stipulation that it must be utilized within a period of three years. The same treatment should be accorded to the deficit of a financial year.
6. The indication given in Para 3(g) that the surplus income of non-profit organizations in assess of a basic exemption limit is to be taxed is welcome. It is, however, not possible to access its import in the absence of any information regarding its level.
7. Para 3(i) suggests that the Central Government may in its discretion notify any non-profit organization of public importance as a tax exempt entity. The criteria for according this status must be laid down to exclude the possibility of arbitrary exercise of discretion.
8. We would also like to offer our comments in regard to the proposals concerning taxation of capital gains contained in Chapter V of the Discussion Paper. As a civil society organization committed to promoting probity and combatting corruption in all walks of life, Common Cause is of the considered opinion that the capital gains tax regime should be rationalized to incentivizes tax compliance and plug the source of generation of black money. It is common knowledge that transactions related to immovable property are one of the main sources of generation of black money. The current levels of long term capital gains tax on non financial assets is too high and this, together with a high rate of stamp duty, incentivizes understatement of the sale consideration and generation of black money. The proposals made in the Direct Taxes Code will only accentuate these tendencies. The Government must try move the level of capital gains tax from the right side of the Laffer Curve to a point just to the left of the top, so as to maximize the tax revenue and encourage tax compliance. A flat tax rate of 10% of the capital gains after indexation may perhaps be tried out in the first instance.
9. The proposal to do away with the distinction between short term and long term capital gains on financial assets is also unwarranted. Investors should be encouraged to take a long term stake in Indian companies.
10. We hope the Government will accord due to consideration to the view expressed above.
(Kamal Kant Jaswal)
To December 16, 2009
Shri Pranab Mukherjee,
Union Minister of Finance,
Room No. 132C, North Block, New Delhi 110001
Subject: Concerns of voluntary organizations regarding the adverse impact of the proposed Direct Tax Code.
We commend your efforts to streamline and simplify the inordinately complex and obscure Direct Tax laws which have become increasingly complicated with the passage of time. We also salute your initiative to seek an informed public debate over the provisions of the proposed Direct Tax Code, which should enable the government to factor in the concerns of various economic operators likely to be impacted by the new tax regime.
As a civil society organization of long standing engaged in pursuit of public causes and research based advocacy and public interest litigation for accelerating governance reforms, Common Cause would like to articulate the following apprehensions:
1. The invidious distinction brought about by the Finance Act, 2008 between charitable organizations engaged in the relief of the poor, education and medical relief and those engaged in the advancement of any other object of general public utility is sought to be maintained in the proposed Direct Tax Code. It gives rise to the apprehension that the engagement of the latter category of charitable organizations in trade, commerce and business with a view to generating additional resources for their charitable activities would not only attract a tax liability in respect of such income, but would also jeopardize their tax exempt status. The stipulation that non profit organizations will have to pay a 15% tax on the unspent income of the year to be carried forward to the next will adversely affect their capacity to accumulate resources for long-term projects. This provision betrays an ignorance of the ground realities concerning the mobilization of resources by charitable organizations. It is not always possible to utilize a grant, which may be received at any time in the course of a financial year, within the same year. Moreover, charitable organizations often receive lump sum grants from donor agencies for projects spanning several years. The requirement to adopt the cash system of accounting would further compound the problem by inflating the surplus through the exclusion of accrued liabilities which are met after the end of the relevant accounting year.
2. It seems that non profit organizations would not be able to set off the deficit of the past years against the surplus income of an accounting year. Thus, if an organization is obliged to borrow money in anticipation of a grant from a funding agency, it may have to pay tax when the grant is actually received in a subsequent year.
3. The substitution of the expression "Charitable Purpose" by "Permitted Welfare Activities" would subject the voluntary sector to undue bureaucratic control and inhibit enterprise and innovation. It may be recalled that many of the flagship schemes and programmes of the UPA Government have their origin in the experimentation and innovations attempted by voluntary agencies. Excessive regulation of this sector would sap its initiative and deprive the Government of a fertile source of inspiration.
We hope that while finalizing the proposed Direct Tax Code, you will address these concerns of genuine voluntary agencies which are actively engaged in pursuit of public causes.
(Kamal Kant Jaswal)