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Apr 22, 2024

Cascading Taxes to GST: India's Journey to a Transparent Tax System

Nishtha Arora



Imagine buying a shirt. The price you pay includes not only cotton and labor but also various taxes levied along the way. But what if some of those taxes were levied themselves? This is the essence of the cascading effect in taxation, in which one tax is layered on top of another, raising the overall cost for consumers.

The Indian tax system used to be a complex web of cascading taxes. From excise duty to central sales tax, each stage of production and distribution added a new layer of burden. This not only increased the cost of everyday goods but also discouraged businesses and slowed economic growth.

Fortunately, a major reform was implemented in 2017 with the introduction of the Goods and Services Tax. This streamlined system aims to untangle the web of cascading taxes, making way for a more transparent and efficient tax structure.

Let's look into how the cascading effect worked, its drawbacks, and how GST is changing the Indian tax landscape.

The Cascading Effect: A Burden on Businesses and Consumers

Consider a cotton t-shirt's journey from raw material to your wardrobe. In India's pre-GST era, this journey involved numerous tax hurdles, each adding a layer of cost that ultimately increased the final price you paid. Let's break down the cascading effect:

Multiple Taxes at Each Stage:

  • Excise Duty: The central government levied this tax on the production of goods such as cotton fabrics.

  • Central Sales Tax (CST): It was imposed by the central government on goods sold between states.

  • Value Added Tax (VAT): It was levied by state governments on the final sale of the t-shirt.

Snowball Effect:

Here's how the cascading effect drove up the price: Let's assume raw cotton costs ₹100. A 10% excise duty would increase the cost by ₹10, totalling ₹110. Consider a 13% VAT on the ₹110 (including excise duty).

This adds ₹14.30, bringing the total cost to ₹124.30. As you can see, the tax is levied on the already taxed amount, resulting in a snowball effect.

Negative Impacts:

This complex system had several disadvantages:

  • Consumer Price Increases: The cascading effect increases the cost of everyday goods for consumers like you.

  • Reduced Competitiveness: The additional tax burden made Indian products less competitive in the international market.

  • Investment Discouragement: The complex tax structure discouraged businesses from investing and expanding due to uncertainty and increased costs.

  • Opportunities for Tax Evasion: The layered system allowed businesses to try to avoid some taxes, resulting in revenue losses for the government.

The cascading effect slowed India's economic growth. It burdened consumers, hampered businesses, and rendered the tax system inefficient. Fortunately, the implementation of GST sought to address these concerns by simplifying the tax structure.

GST: A Breath of Fresh Air

India introduced the Goods and Services Tax (GST) in 2017. This revolutionary reform replaced the complex web of cascading taxes with a single destination-based tax.

How GST works:

  • Single Tax: Unlike the previous system, GST is a single tax levied at the point of consumption. This eliminates the need for separate taxes at various stages.

  • Input Tax Credit (ITC): This is a game changer. Businesses can claim credit for GST paid on inputs (such as raw cotton in our t-shirt example) when they pay GST on the finished product. This effectively eliminates the cascading effect, ensuring that tax is only collected on the value added at each stage.

Benefits of GST:

  • Reduced Tax Burden: By eliminating cascading taxes, GST lowers the overall tax burden for both businesses and consumers. This translates into lower consumer prices and higher profit margins for businesses.

  • Increased Transparency and Efficiency: GST promotes transparency and efficiency in the tax system. Businesses can easily claim ITC and file returns electronically, which simplifies compliance.

  • Improved Business Ease: The streamlined GST system lowers compliance costs and paperwork for businesses, making them easier to operate and invest.

GST is an important step towards a more efficient and equitable tax system in India. It has the potential to stimulate economic growth, level the playing field for businesses, and eventually benefit both consumers and the government.

Challenges on the Road to Reform

While GST has been a significant step forward, the road to a completely reformed tax structure is still being built. Here are some challenges to acknowledge:

Taxes other than GST:

Certain local body taxes, such as octroi (a levy on goods entering a city), have been abolished. However, some local body taxes remain outside the GST framework. This can add a minor layer of complexity in some situations.

Integration Issues:

Integrating multiple state taxes into a single system, such as GST, is a difficult task. There may be some hiccups as different state tax structures are aligned with the national GST framework.

It's important to remember that these are ongoing challenges. The government is working to bring more local body taxes under the GST umbrella while also streamlining the integration process.

Pre-GST vs. GST - A Comparison

The following table summarizes the key differences between the pre-GST and GST regimes:

FeaturePre-GST RegimeGST Regime
Tax StructureCashMultiple cascading taxes (excise duty, CST, VAT, octroi) levied at different stages
Impact on BusinessesComplex compliance procedures, high tax burden, limited ITCSimplified compliance, reduced tax burden, wider ITC availability
Impact on ConsumersHigher prices due to cascading effect, limited transparencyLower prices due to elimination of cascading effect, increased transparency

This table shows how the GST has changed the Indian tax setting. It has simplified the system for businesses, decreased the tax burden for both businesses and consumers and paved the way for a more efficient and transparent tax structure.

The Road Ahead: A Streamlined Tax Future for India

Finally, GST has given the Indian tax system a much-needed boost. By eliminating cascading taxes and instituting a credit system, it has reduced the burden on businesses and consumers while increasing transparency and efficiency.

While some local body taxes remain outside the GST framework, and integration efforts continue, the government's commitment to reform paves the way for a future with a streamlined and robust tax structure that drives economic growth.

You May Find This Useful:

  1. GST Reconciliation in TallyPrime: A Step-by-Step Guide
  2. GST Rules for Small Businesses and Start-ups in India

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