When revenues pinch the purse

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The government’s insatiable appetite for revenue is harming the consumer.

Published in Business Standard

In spite of the recent dip in oil prices the government decided against reducing auto fuel prices during the last scheduled revision on November 30.

The government seems to be using the pretext of high oil prices to generate additional revenues and consequently reduce the revenue and fiscal deficits.

As Business Standard pointed out in an editorial on August 2, “...each dollar increase in global prices nets the government Rs 250 crore more of customs revenue, Rs 600 crore of excise and about Rs 800 crore of additional taxes.”

Date 2004 Crude price per Barrel in $* Date 2004 Exchange rate Rs to [email protected] Date 2004 Retail price of petrol in Mumbai –Rs
26/4/ 33 30/4/ 44.42 1/4/ 38.83
31/5/ 37.04 31/5/ 45.45    
28/6/ 33.25 30/6/ 46.08 16/6/ 40.96
26/7/ 39.32 31/7/ 46.45 1/8/ 42.15
30/8/ 39.75 31/8/ 46.38 19/8/ 42.12.
27/9/ 47.0 30/9/ 46.03 5/11/ 44.49
25/10/ 52.13 31/10/ 45.47 16/11/ 43.23.
29/11/ 43.57 30/11/ 44.73    

*Spot prices for Benchmark Brent Crude Oil. Source www.artba.org. @ www.oanda.com

If you look at the chart, you will notice that crude prices rose from April to October ($33 to $52) accompanied by a depreciation of the rupee. Since customs duty on crude is levied ad valorem, an increase in oil prices plus rupee depreciation must have resulted in additional revenue for the government.
 
To be fair, the government did reduce excise rates in June by four percentage points for petrol, three for diesel and eight for LPG. With crude oil prices rising further, it reduced customs and excise in mid-August.
 
Revised customs rates for petrol/diesel were 15 per cent (old rate: 20 per cent) and for kerosene/cooking gas 5 per cent (10). The revised excise rates for petrol were 23 per cent (26), diesel 8 per cent (11) and kerosene 12 per cent (16) while cooking gas was unchanged at 8 per cent.
 
In the absence of a transparent pricing policy for the petroleum sector it is difficult to correlate an increase in international oil prices with what the Indian consumer finally pays. On the face of it, the government might appear to have lost substantial revenue due to a reduction of duties but is that really the case?
 
The chart indicates that crude oil prices leapfrogged by over 40 per cent between April 26 and September 27. During the same period the rupee depreciated by 3.6 per cent (Rs 44.42 to Rs 46.03).
 
The percentage increase in prices is in excess of the duty cuts. It is difficult to believe that those who prepared the revenue estimates in June 2004 had foreseen such a dramatic increase in oil prices.
 
Therefore, in spite of a reduction in duties, actual government revenues from the oil sector would be substantially higher than the Budget estimates. Remember that government revenues increase by Rs 1,650 crore every time global oil prices go up by $ 1.
 
A recent media report indicated Central government revenues from the oil sector to be about Rs 1,00,000 crore or 31 per cent of the Centre’s gross tax revenue of Rs 3,17,733 crore (Budget estimates). In view of the rising prices and rupee depreciation, the actual percentage could be much higher.
 
The point being made is a bigger one. Due to an insatiable appetite for revenue by successive governments, tax exemptions and the inability to tax agricultural incomes the government is finding it difficult to generate additional revenue.
 
An increase in income tax/customs/excise rates or withdrawal of tax breaks invariably draws howls of protest from the corporate sector and the common man alike. It makes the incumbent government unpopular.
 
So an easy way out is to milk the oil sector. Since individual petroleum products are sold at the same price to every class of consumer it does not offend any constituency. An increase in consumer prices can be attributed to an increase in global prices.
 
Moreover, because of the government’s complex price-fixing formula and cross-subsidies, oil pricing is non-transparent, making it virtually impossible for people to relate international oil prices to what he pays.
 
Higher domestic oil prices have a negative effect on the economy. They result in higher transportation/production cost making Indian products less competitive in international markets.
 
According to a Ficci survey of 147 companies, nearly 77 per cent of the firms said their cost of production went up as a result of rising oil prices. It also results in higher food prices upsetting the common man’s monthly budget.
 
Instead of some sectors paying tax, every consumer of petroleum products has to bear the burden of higher prices. This impacts the poorer sections the worst, a constituency that both Indira Gandhi’s Congress and the United Progressive Alliance government profess to be so concerned about.
 
Is there a way out of this complex web? The government needs to revaluate the need to provide certain tax benefits.
 
One, Budget 2003 introduced a tax holiday in respect of certain undertakings in Himachal Pradesh, Sikkim, Uttaranchal and North-Eastern states (Section 80IC applicable from assessment year 2004-05).
 
If the conditions laid down in the section are satisfied 100 per cent of the profits and gains of the industrial undertaking are exempt from tax for at least five years.
 
Also, units set up in Himachal and Uttaranchal enjoy 100 per cent excise exemption for 10 years. A number of FMCG, pharma and consumer durable companies have set up factories in these states.
 
Are these tax breaks going to result in lower prices for the consumer? Before introducing this concession, the government should have made public the benefits of similar tax breaks on local development/employment in erstwhile tax holiday locations of Silvassa/Daman.
 
Two, an earlier Budget by the National Democratic Alliance government allowed a deduction of 100 per cent profits to an undertaking developing and building housing projects if a local authority approved the housing project before March 31, 2005 (Section 80 IB).
 
Some of the key conditions are that development of the housing project should have started after October 1, 1998, and the plot size was to be a minimum of one acre.
 
Again, has any builder passed on the tax break to the consumer through lower prices? Would not increasing tax sops to buyers for interest paid be a superior way to stimulate construction activity?
 
Three, Budget 2004 contains a provision most beneficial to Mumbai’s builders. To encourage redevelopment of slum dwellings, the condition of minimum plot size of one acre has been relaxed, if carried out in accordance with a scheme framed by the Central or state government for reconstruction or development of buildings in areas declared slum areas.
 
The cumulative effect of points two and three above mean that profits made from redeveloping millions of square feet of Mumbai’s slums and mill lands would be tax-free. The tax loss would be significant.
 
Four, consider tax exemptions to software and services exports under Section 10A/10B of the Income Tax Act. Are there any valid reasons left for the government to subsidise an industry that has matured and is highly profitable? Sector exports were Rs 46,100 crore in 2003 and Rs 55,510 crore in 2003-04.
 
Five, it is high time agricultural income is selectively taxed. Initially, farmers who singly or collectively own, say, more than 25 acres of land and grow commercial crops must be taxed. Over the years an increasing percentage of India’s GDP is getting exempt from tax.
 
An effort to restructure pricing of petroleum products by the Centre could be rendered ineffective if not accompanied by a cap on the consumer price because some state governments tax oil products heavily. For example, on June 16, the price of petrol per litre in Mumbai was Rs 5.25 or 14.70 per cent higher than the price in Delhi of Rs 35.71.
 
It would be better if tax exemptions were gradually dismantled coupled with the introduction of a transparent oil-pricing regime. This would lower domestic prices/ inflation, increase savings/consumer spending and have a multiplier effect on the economy. Subsidies for the poorer sections could then be funded directly through the Budget.

(The writer is the CEO of Surya Consulting.)