India GST: Common Markets Have Failed All. Why Bother?

We hosted a roadshow in Mumbai to understand the challenges and benefits in the implementation of Goods and Services Tax (GST) focussing on consumption sectors as FMCG, Retail, Apparel, Jewellery, Paints and Hospitality sectors. ]]

Following are the key takeaways 

 We understand that the window for implementation of GST is not that narrow and not necessarily confined to fiscal year beginnings only. As witnessed in several earlier tax reforms, viz Value Added Tax (VAT), the implementation postponement (in case the constitution amendment bill is not passed by then) need not necessarily delayed by a year even if the government misses the April 2016 deadline. 

  We note that government is already in the process of developing a stable Information Technology (IT) infrastructure for the implementation of GST. Given that Managed Service Providers (MSPs) were hesitant in bidding for the project considering that several earlier government projects were plagued by payment delay, Goods and Services Tax Network (GSTN), the national information utility (NIU) building the information technology (IT) infrastructure for the rollout of uniform indirect across the country has tweaked payment mechanisms (upfront payment for pre-operative expenses and quarterly settlement for MSP services) and has received tenders from TCS, Infosys, Wipro, HCL, Tech Mahindra and others in response to the request for proposal (RFP)  The new design – We believe that Central Goods and Services Tax (CGST), State Goods and Services Tax (SGST) and Integrated Goods and Services Tax (IGST) would be the new tax structures with most of the existing indirect taxes being subsumed under these. Under the new tax regime, CGST should enable the central government benefitting from charging the entire value chain as against only on production while the SGST should empower the state in levying the taxes on services.

   India is expected to have at least three GST rates (tax rates are indicative, no official commentary yet available) – Special Rate (1-3% for Jewellery and few other sectors with strong lobbying powers), Merit Rate (~8-10%, hopefully, for employment sensitive sectors – Textiles, etc.) and Regular rate (~18-20%, for all other goods). Though we understand that multiple rates are necessary we believe they will have to converge to a single rate sooner than later, as complexity of rates could heighten the ambiguity on indirect taxation and defeat the purpose of GST.   #Myth – GDP improvement – Given the lack of empirical evidence from neighbouring countries where GST has been implemented and absence of any concrete  mathematical formulation our discussion leads us to believe that the correlation in implementation of GST and improvement in GDP is perhaps overhyped. However implementation of GST is expected to improve tax collection and supply chain efficiencies. 

  #Reality 1 – Ease of doing business – Implementation of GST is certainly expected to improve business climate given that inter-state transfers would be easier. Industry sources believe that GST would enable a record based system Vs the current inventory checking mechanism at each state border which is widely disrupting the flow of goods. Going by the quote in the Economist publication “A recent report from the World Bank said bureaucracy related to tax-collection at state borders is a big reason why India’s long-distance truckers are parked 60% of the time…” we are certain that business climate in India should improve post implementation of GST.

  #Reality 2 – Higher FDI (click on the heading for the data) – Given that several Multi National Corporations would be relieved from handling taxes at multiple levels coupled with their comfort in handling GST in their domestic markets, introduction of GST is certainly expected to attract larger Foreign Direct Investments (FDI). Given that current tax structure enforces ~3x higher number of payments and is ~40% more time consuming process Vs tax structures in OECD (Organisation for Economic Co-operation and Development) member countries, introduction of GST is expected to ease ‘tax paying’ process in India enabling higher FDI.

  #Reality 3 – Near term business impacted (click on the heading for the data) – As exhibited in several other economies and indicated by industry specialists, we believe near term growth would be impacted as the supply chain adjusts inventory to adapt to the new tax regime, given the ambiguity over utilization of prevailing VAT credits, we expect business activity to considerably slow down as we approach the D-day.