Fiscal discipline: Not a matter of choice

With an already stretched corporate sector, the finance minister could look at increasing the service tax rate to 12 per cent

For Union Finance Minister Pranab Mukherjee, this year’s budget will be a tight-rope walk. While on one hand he will have to come up with a game-plan to revitalise industry, on the other he will have to enhance social sector spending. With four key states going for elections soon, populism will score this year too. However, that does not relieve him from his core responsibility of returning to fiscal discipline.

While windfall gains from auction of spectrum and BWA licences may have prevented fiscal deficit from climbing over the five per cent mark, the finance minister clearly needs to come up with a plan this financial year to meet short-fall in receipts.

While corporate tax growth was better than expected in the first nine months of financial year 2010-11, the market expects corporate tax collections to grow by 25 per cent year-on-year. The government’s tax kitty has primarily expanded this year due to improved corporate earnings and higher collections through minimum alternate tax.

The market expects the Budget to outline implementation of the revised direct tax code (DTC) from FY13. The new DTC should increase the tax base, resulting in further growth in collections. However, this year, except for tinkering with some indirect taxes, there isn’t much FM can do.

This is due to the anomaly that exists in our tax structure. The share of sectors contributing to GDP growth is not adequately reflected in the government’s indirect tax collections.

While services account for a lion’s share of India’s GDP, service tax collections are expected to be around Rs 68,000 crore for FY11, while indirect tax collections are expected to close the financial year with Rs 315,000 crore.

This tax, experts believe, is not fair as the manufacturing sector is taxed much more than services. Taking a step towards the GST regime, the FM could increase the service tax rate by 20 per cent and take the effective service tax rate to 12 per cent from the existing 10 per cent.

This will immediately add Rs 14,000 crore to the tax kitty and allow the government to spend on social schemes.