Demonetisation: The good, the bad or the ugly?

Having administered the bitter pill, budget, perhaps, will provide a revival therapy

Naveen Aggarwal, partner (tax), KPMG in India

Last Updated : Jan 19 2017 | 5:03 PM IST

Depending upon which side of the political fence one sits, the time one has spent standing in the bank queues and the inconvenience that ensued, demonetisation could mean any of the above for you. But what remains undeniable is that it comes as an inflection point in India’s economic history. While the days following the demonetisation were marked by intense debate, the bulk of it was on the manner in which it was executed and the level of preparation in place to deal with the aftermath of November 8, 2016.

Cut to September 2016, where with the Income Disclosure Scheme, the government offered tax evaders a choice between a carrot and a stick, a final opportunity to come clean as harsher steps were on the anvil and perhaps expectedly so. The turn of events on November 8 did surprise not just the citizens but also large sections of the regulatory machinery and the ruling government. This is evidenced by the fact that there were circulars galore that came out almost on a daily/weekly basis during the period following November 8 offering up regular course corrective changes in guidelines and policy. A quick memory jog on the key developments that transpired post November 8:

Nearly 68 lakh non-filers of Income Tax Returns who carried out high value transactions were identified through the Non-filers Monitoring System (NMS).
The government cautioned against any attempts to revise income tax returns as a consequence of the demonetisation of high value currency.
The thresholds for quoting of Permanent Account Number (PAN) while depositing cash in banks and post offices were made stricter.
Threshold limits for reporting of transactions during period from November 9 to December 30 by banks and post offices were made more rigorous (Rs 12.50 lakh for current account, Rs 2.50 lakh for others).
The Taxation Laws (Second Amendment) Act, 2016 was enacted. Under this legislation, the government introduced the ‘Pradhan Mantri Garib Kalyan Deposit Scheme’, 2016 (PMGKDS). A declaration under this scheme would result in taxation at 50 percent (including surcharge and penalty). In addition, 25 percent of the undisclosed income shall remain as a deposit with the government for a period of four years.

The naysayers had been predicting doom and gloom, but, the early signs appear to be encouraging with tax collections showing a healthy rise and in some case an unprecedented increase, which is a morale booster for the government as it prepares to deliver what most feel would be a ’populous’ budget.

Union Budget 2017: What’s waiting in the wings?

So having administered the bitter pill, it is perhaps now time to provide revival therapy and what better opportunity for the government to do it other than the upcoming budget. Popular consensus would tell you that demonetisation may have put air brakes on India’s economic growth in the short-term, the extent of which is anybody’s guess currently. The government, now armed with healthy tax collections and still the popular vote, needs to champion the road to sustainable growth and recovery.

While the brunt of demonetisation left no section of the economy untouched, the common man in cities, towns and villages as well as the honest tax payer of this country probably were inconvenienced the most. So it maybe only fair that the primary beneficiary of Budget 2017 should be this vast section of the economy who also hold the key to revive consumption. The suite of benefits offered could be many and a few obvious ones could be by way of, inter alia, rationalization of tax slabs (enhancing the exemption limit to Rs 3-5 lakh), enhancing the deductibility limit under Section 80C of the Income Tax Act, 1961 and interest on home loan. Exemptions on allowances such as conveyance allowance, medical reimbursements etc. are abysmally low given today’s living standards and need to be appropriately enhanced. These moves will increase the disposable income of the middle class household which in turn should boost demand and provide the economy the much needed fillip.

Naveen Aggarwal, partner (tax), KPMG in India

The government is committed to reducing the corporate tax rate to 25 percent by the end of its term6. However, half way down the term, we haven’t witnessed a single tax cut (barring certain exceptional cases). There can be no better time for the government to back dialogue with action as a rate cut will positively impact the bottom lines of companies and enable them to invest in their growth and expansion.

The government has been vigorously encouraging a shift to a less cash economy. A logical next step in this direction would be to incentivize Fintech companies developing digital payment systems and manufacturers or traders of vital digital infrastructure components like Point of Sales (PoS) terminals. Last year, the government also introduced an ‘Equalization Levy’ to tax cross border online advertising transactions. There has been some speculation that the scope of the levy may be widened to incorporate other digital services. For a business that is in its early stages of evolution and for a government that needs this business to prosper so as to facilitate a transition to a less cash economy, any further widening of the scope of the levy would perhaps be not a very welcome step.

Finally, the government has to assume a larger role in helping ensure that the economic growth is sustained or better still accelerated. The two most crucial factors in achieving this would be the extent of push provided to infrastructure and housing and an effective and credible implementation of the government’s welfare agenda. For example, first time home buyers may expect good news from the budget via higher tax savings on housing loans and house insurance premiums. Low cost affordable housing could also be get another boost in line with the government social spending push. The benefits from these have the ability to positively impact the rural and semi-urban fabric of the country.

A golden opportunity

For years, governments have been making efforts on improving India’s tax to Gross Domestic Product (GDP) ratio (presently languishing around 16 percent). The corresponding OECD average is 21 percent and the emerging market average is around 34 percent. Similar efforts have also been made towards improving India’s fiscal deficit. These efforts were hampered, inter alia, by the insufficient tax collection figures which have their genesis in the abysmally low tax base. The sustained efforts of this government to tax India’s parallel economy have handed us our best ever chance to widen our tax base and improve upon these crucial parameters. If the government can leverage the demonetisation drive to realise this end, it would be well worth the strain the nation has endured in the last two months.
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Naveen Aggarwal is the partner (tax), KPMG in India

All views and opinions expressed herein are those of the author and do not necessarily represent the views of KPMG in India