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The new taxes and compliance questions

Wednesday 4 May 2005

Finance Minister P. Chidambaram has addressed the obvious glitches in the two controversial tax proposals of the latest budget - the Fringe Benefits Tax (FBT) and the tax on `large’ cash withdrawals from banks. However, their basic structure remains intact. Now that they are part of the statute book, even if in diluted form, the FBT and the cash withdrawal tax will come under intense scrutiny not only by the tax authorities and those on whom their incidence will fall but by a whole battery of tax lawyers and accountants intent on finding loopholes. The apprehension is that such an outcome coupled with the inevitable litigation will more than neutralise whatever gains the Government hopes to derive by levying these two taxes. The modified FBT, in the Finance Minister’s estimate, will increase corporate tax rates by a mere 1 to 1.5 percentage points. However, the hidden costs to the Government and to taxpayers cannot be underestimated.

The Government’s case rests on certain theoretical arguments. The cash withdrawal tax was conceived less as a revenue measure than as a device to ensure that large withdrawals from banks leave trails. As against the original proposal of taxing cash withdrawals in excess of Rs.10,000 in a day, the amendments exclude most transactions by individuals. However, even in its modified form, the levy is bound to encourage tax avoidance. Banks will need to put in place new and expensive reporting systems to capture specific transactions above the threshold. The FBT is an attempt at taxing those benefits that are often collectively enjoyed by employees and cannot be attributed to them individually. The Government has a real point. Many perquisites are indeed disguised as fringe benefits to escape tax. In its original form, the FBT was criticised chiefly on the ground that it did not draw a clear distinction between genuine business expenses and perquisites. Some companies, especially those in the infotech sector, felt they were treated harshly as the FBT would have classified their considerable overseas travel expenses as perquisites. Through the amendments, the Finance Minister has partly addressed such concerns: genuine business expenses are to be left out of the new tax. The taxable value of some other expenses such as on conveyance and touring has been lowered from 50 per cent to 20 per cent.

However, the basic objection to the two taxes remains, for they represent a reversal of a healthy trend of simplifying tax laws and making compliance easier. The latest budget had taken significant strides by rationalising income tax rates and structures and doing away with numerous tax exemptions. The lingering criticism over the FBT and the cash withdrawal tax should not obscure the fact that the Government has done well in raising the income tax exemption limits for senior citizens and women through other amendments to the Finance Bill.

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