business taxation

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Unit 1 – Overview of Indian tax system
Evolution of Tax System
Taxation has existed since the birth of early civilization. The first known system of
taxation was in ancient Egypt around 3000 BC-2800BC in the first dynasty of the old kingdom.
But the taxes were either material or money like goods or services in the primitive society. The
subjects used to pay a share of their income to the Head of a tribe or to the King who in return
provided them with the administration security from foreign aggression and other civic amenities.
In the medieval centuries feudalism was founded, so the origin of modern tax system also
was founded. Feudal market dues, tolls for protection and use of road, bridges, ferries, land rent,
and other payment in goods and services were gradually transferred into money payment with the
rise of money economy, Kings liked to receive money and the people preferred to pay money
instead of goods and services. Step by step the old feudal revenue system changed into taxation
Then With the development of economic sciences and with the passage of time, the
functions of modern state appeared and taxation gradually became a tool of usage with more than
one goal and became important source of revenue. During 19th and 20th centuries there has been
both qualitative and quantitative change in the public expenditures. Taxation has passed through
the stages with passage of time, and tax's functions and objectives also have changed from the
ancient communities to medieval societies to modern societies also, so the tax system has evolved
with the evolution of the functions of the modern state.
Then With the development of economic sciences and with the passage of time, the
functions of modern state appeared and taxation gradually became a tool of usage with more than
one goal and became important source of revenue. During 19th and 20th centuries there has been
both qualitative and quantitative change in the public expenditures. Taxation has passed through
the stages with passage of time, and tax's functions and objectives also have changed from the
ancient communities to medieval societies to modern societies also, so the tax system has evolved
with the evolution of the functions of the modern state.
Governments also use taxes to fund welfare and public services. A portion of taxes also
goes to pay off the state's debt and the interest this debt accumulates. These services can include
education systems, health care systems, and pensions for the elderly, unemployment benefits, and
public transportation, energy, water and waste management systems, they also common public
utilities.
Modern social security systems are intended to support the poor, the disabled, or the
retired by taxes on those who are still working. In addition, taxes are applied to fund foreign aid
and military ventures, to influence the macroeconomic performance of the economy or to modify
patterns of consumption or employment within an economy, by making some classes of
transaction more or less attractive. Thus, there is no doubt that most government expenditures
must be paid for through the taxation system and it is reasonable to see this as the principle
function of taxation.
Constitutional ProvisionOf Taxation

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Constitution is the foundation and source of powers to legislate all laws in India.
Parliament, as well as State Legislatures gets the power to legislate various laws from the
Constitution only and therefore every law has to be within the views of the Constitution.
The basic provisions of Constitution relating to taxation include the powers of Parliament
and State Legislatures to legislate regarding levy and collection of tax, the restrictions imposed
by our Constitution on such powers, entries concerning taxation.
Article 246 (Seventh Schedule) of the Indian Constitution contains the legislative powers
(including taxation) of the Union Government and the State Governments. It contains the
following 3 lists covering the various subjects:
List I—Central List: - It contains the areas in respect of which only the parliament
i.e. Central Government can make laws (including taxation laws.)
List II—State List: - It contains the areas in respect of which only the State Legislature can
make laws (including taxation laws).
List III—Concurrent List:- It contains the areas in respect of which both the Parliament and
the State Legislature can make laws concurrently. It is important to note that this list does not
specify any law relating to taxation. In other words, there is no head of taxation under the
concurrent list and hence Union and the State have no concurrent power of taxation.
Article 246(1) of Constitution of India states that Parliament has exclusive powers to make laws
with respect to any of matters enumerated in List I in Seventh Schedule to Constitution (i.e.
Union list).
Article 246(3) provides that State Government has exclusive powers to make laws for State with
respect to any matter enumerated in List II of Seventh Schedule to Constitution (i.e. State List).
Parliament has exclusive powers to make laws in respect of matters given in Union List and State
Government has the exclusive jurisdiction to legislate on the matters containing in State List.
The Entries in Union list and State list relevant to Taxation.
List 1—UnionlCentral List (14 Heads of Taxation):-
1. Entry 82 [Income Tax Act 1961] Taxes on income other than agricultural income.
2. Entry 83 [Customs Act 1962] Duties of customs including export duties.
3. Entry 84[Central Excise Act 1944]
Duties of excise on tobacco and other goods manufactured or produced in India except
(i) alcoholic liquor for human consumption, and
(ii) opium, Indian hemp and other narcotic drugs and narcotics, but including medicinal and toilet
preparations containing alcohol or any substance.
4. Entry 85: Corporation Tax

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5. Entry 86: Taxes on capital value of assets, exclusive of agricultural land, of individuals and
companies, taxes on capital of companies.
6. Entry 87: Estate duty in respect of property other than agricultural land.
7. Entry 88: Duties in respect of succession to property other than agricultural land.
8. Entry 89: Terminal taxes on goods or passengers, carried by railway, sea or air; taxes on
railway fares and freight.
9. Entry 90: Taxes other than stamp duties on transactions in stock exchanges and futures
markets.
10.Entry 91: Rate of stamp duty in respect of bills of exchange, cheques, promissory notes, bills
of landing, letter of credit, policies of insurance, transfer of shares, debentures, proxies and
receipts.
11. Entry 92: Taxes on the sale or purchase of newspapers and on advertisements published
therein.
12. Entry 92A: Taxes on the sale or purchase of goods other than newspapers, where such sale or
purchase takes place in the course of inter-State trade or commerce, [Central Sales Tax Act
1957]
13. Entry 92B: Taxes on the consignment of goods in the course of inter-State trade or
commerce.
14. Entry92C: All residuary types of taxes not listed in any of the three lists of Se venth Schedule
of Indian Constitution, for e.g. Service Tax.
Note: The Department of Revenue under the Government of India’s Finance Ministry is solely
responsible for levy and collectionof above union taxes.
List—II (State List) (19 Heads of Taxation)
The nineteen heads List-Il of Seventh Schedule of the Indian Constitution covered under State
taxation, on which State Legislative enacts the taxation law, are as under
1. Land revenue, including the assessment and collection of revenue, the maintenance of land
records, survey for revenue purposes and records of rights, and alienation of revenues;
2. Taxes on agricultural income; [Entry 46)
3. Duties in respect of successionto agricultural income; [Entry 47]
4. Estate Duty in respect of agricultural land; [Entry 48]
5. Taxes on lands and buildings; [Entry 49(1)]

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6. Taxes on mineral rights; [Entry 50(1)
7. Duties of excise for following goods manufactured or produced within the
State (i) alcoholic liquors for human consumption, and (ii) opium, Indian hemp and other narcotic
drugs and narcotics; [Entry 511
8. Taxes on entry of goods into a local area for consumption, use or sale therein [Entry 52]
9. Taxes on the consumption or sale of electricity;[Entry 53]
10. Taxes on the sale or purchase of goods other than news papers; [Entry 54]
11. Taxes on advertisements other than advertisements published in newspapers and
advertisements broadcast by radio or television; [Entry 55]
12. Taxes on goods and passengers carried by roads or on in land waterways; [Entry 56]
13. Taxes on vehicles suitable for use on roads; [Entry 57]
14. Taxes on animals and boats; [Entry 58]
15. Tolls; [Entry 59]
16. Taxes on profession, trades, callings and employments; [Entry 60]
17. Capitation taxes; [Entry 61]
18. Taxes on luxuries, including taxes on entertainments amusements, betting and gambling;
[Entry 62]
19. Stamp duty in respect of documents other than those specified in the provisions of List I.
List—III (Concurrent List)
No Head of Taxation
Article 286(2) – Parliament is authorized to formulate principles for determining when a sale or
purchase takes place (a) outside the State (b) in the course of import or export.[sections 3,4,5 of
CST Act, 1956 have been legislated under these powers].
Article 286(3) – Parliament can place restrictions on tax on sale or purchase of goods declared as
goods of special importance and the State Government can tax such declared goods subject to
these restrictions[section 14, 15 of CST Act, 1956 imposes restrictions and conditions on the
power of State Governments to levy tax on declared goods.]
Article 301- Trade, commerce and inter -course throughout the territory of India shall be free,
subject to provisions of Article 302 to 304 of Constitution

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Article 302 – Restriction on trade or commerce can be placed by Parliament in the public
interest.
Article 303(1), 303(2) – No discrimination can be made between one State and another or give
preference to one State over another. Such discrimination or preference can be made only by
Parliament by law to deal with situation arising from scarcity of the goods.
Article 304 – State can impose tax on goods imported from other States or Union territories, but
a State cannot discriminate between goods manufactured in the State and goods brought from
other States.
Proviso to article 304 provides that State legislature can impose reasonable restrictions on
freedom of trade and commerce within the state in public interest. However, such bill cannot be
introduced in State Legislature without previous sanction of the President.
Article 265 – No tax shall be levied or collectedexcept by authority of law.
Article 300A – No person shall be deprived of its property save by authority of law.
TAX STRUCTURE IN INDIA AS PER CONSTITUTIONALPROVISION

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1. Direct Taxes:-
TAXES ON INCOME AND EXPENDITURE
a. Personnel income tax:- Income tax has become the most important type of direct tax in
India. The Period of assessment of income tax is one year. If money is earned then tax has
to be paid. If it crosses a particular slab of income received. Income tax returns have to be
filed in different forms for different types of businesses and individuals.
b. Corporation tax:- A corporation tax is a tax on net income of business corporations or
companies. In India, This tax is paid by companies and is distinct from the taxes paid by
shareholders on their dividends. That is, corporation tax is paid out of the taxable profits
(net profit) after meeting all costs i.e., interest charges, wages and depreciation costs etc.
earned by the corporation during an assessment year and the remaining is distributed
among the shareholders in the form of dividends. The main feature of Corporation tax is
that the entire proceeds of this form the revenue of the Union Government and no share is
divided among states.
c. Expenditure tax: Expenditure tax is a tax on expenditure. It is levied when the income is
spent. In India it was first imposed in 1958 following to the recommendations of
Professor. Nicholas Kaldor. He had suggested the imposition of this tax to prevent the
possibility of tax evasion and to discourage superfluous consumption. The expenditure tax
was abolished in 1962. It was again introduced in 1964 and was abolished in 1966. In
1987, it was again introduced under the Expenditure Tax Act, 1987.
d. Fringe Benefit Tax (FBT): Fringe Benefit Tax (FBT) was introduced as part of Finance
Act, 2005 as an additional income-tax and came into force from April 1, 2005. The term
Fringe Benefits means ‘any consideration for employment provided by way of any
privilege, service, facility or amenity provided by the employer to the employees’.

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Fringe Benefit Tax is to be levied on the employer in respect of fringe benefits
provided/deemed to be provided by the employer to his employees during any financial
year commencing on or after 1.4.2005. the Finance (No. 2) Act, 2009 a new section
115WM was inserted to abolish the FBT with effect from assessment year 2010-11.
e. Dividend distribution tax : Dividend distribution tax is the tax imposed by the Indian
Government on companies according to the dividend paid to a company's investors. At
present the dividend distribution tax is 15%,[1] according to the Union Budget 2007,
India. As per existing tax provisions, income from dividends is tax free in the hands of the
investor. Further the dividends from domestic companies are tax-exempt, dividend from
foreign companies are taxable in hands of investor. However, this is not to say that there is
no tax levied at all.
On the contrary, there is a levy of 15.00% of the dividend declared as distribution
tax(Under Income tax Act,1961). This tax is paid out of the profits/reserves of the
company declaring the dividend. Additional surcharge of 12% on DDT and education cess
of 3% is levied.
f. Capital gain tax: Capital gain implies gain arising from the sale of a capital asset. Capital
gains occur if the selling price of land, buildings, capital equipment, stock exchange
securities, happen to be more than the amount invested in them. Capital gains can be
divided into two categories:
a) Short- term capital gains
b) Long-term capital gains.
Capital gains from sale of capital assets held for not more than 36 months are called
Short- term capital gains.
Similarly, capital gains from sale of capital assets held for more than 36 months are
considered long-term capital gains.
g. Securities Transactions Tax (STT): This tax was introduced in 2004-05. STT is levied
on the sale and purchase of securities at the dealing/ strike price in addition to service tax
and stamp duties collectedfor registration and transfer of securities.
TAXES ON PROPERTY:-
a. Wealth tax: Wealth tax is a tax which is levied on the net wealth of individual. It is also
known as a tax on capital or property taxation. Wealth tax is different from income tax
which is a tax on income and paid out of income. In 1992-93 the finance minister
withdrew the wealth tax on productive assets such as guest houses, residential houses,
jewellery etc. With effect from April 1993,wealth tax is chargeable in respect of the net
wealth exceeding RS 15 lakh at 1% only and subsequently exemption increased to 30
lakhs . As a consequence of these changes, the revenue from this tax has gone down
considerably. Recently the wealth tax has been abolished during the 2015-16 Union
Budget.
b. The Gift tax: The Gift tax was also introduced in April 1958 on the recommendation of
Professor Nicholas Kaldor. It covered the Gifts made by individuals, Hindu Undivided
Families, companies, firms and association of persons. Initially, it was levied on the donor
and not on the donee. However, the liability of paying the tax was shifted from the donor
to the done who receives the gift under the new Gift Tax Act of 1990. Thus the Gift tax
was made donee-based. The Gift tax was also abolished in October, 1998.
c. Estate duty :- Estate duty is a tax on the total market value of a person's assets (cash and
non-cash) at the date of his or her death. It does not matter if the person has a will or not,

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the assets are still subject to estate duty. In India, Estate Duty was payable under
the Estate Duty Act, 1953.This Act was finally abolished in March 1985.
d. Stamp duties: The Indian Stamp Act, 1899 (2 of 1899) is a fiscal statute laying down the
law relating to tax levied in the form of stamps on instruments recording transactions.
Briefly, the scheme relating to stamp duties, provided for in the Constitution is as
follows:-
a. Under Article 246, stamp duties on documents specified in Entry 91 of the Union
List (viz. Bills of Exchange, cheques, promissory notes, bills of lading, letters of
credit, policies of insurance, transfer of shares, debentures, proxies and receipts) are
levied by the Union but under article 268, each State, in which they are levied,
collects and retains the proceeds (except in the case of Union Territories in which
case the proceeds form part of the Consolidated Fund of India). At present duty is
levied on all these documents except cheques;
b. Stamp duties on documents other than those mentioned above are levied and
collected by the States by virtue of the legislative entry 63 in the State List in the
7th Schedule of the Constitution;
2. INDIRECT TAX - COMMODITYTAXATION IN INDIA
The Central Government of India levies two types of commodity taxes –Excise Duty and
Customs Duty.
a. Union Excise Duty :The Constitution of India, under Articles 269 (taxes levied and collected
by the Union and assigned to States) and 270 (Taxes levied and collected by the Union and
distributed between Union and States), has made a provision for levying Union Excise Duties
on all commodities produced anywhere in India except alcoholic liquors and opium, narcotics
and narcotic drugs (these are within the jurisdiction of the State governments.) There are
three types of excise duties which are imposed by the governments. They are:
a) Basic Excise Duties
b) Earmarked cesses and
c) Additional Excise Duties
Basic Excise Duties are levied and collected by the Union Government. The proceeds are shared
with the state governments under Article 272 of the Indian Constitution.
Additional Duties of Excise Act, 1975 provides for the levy and collection of additional duties
on sugar, tobacco, cotton fabrics, woollen fabrics and man-made fabrics. These are in addition to
the basic duties.
b. Custom Duties: Taxes on international trade, particularly known as custom duties, are levied
and collected by the Central Government and entirely owned by it as per Constitutional
provision. Custom duties usually take the form of import duties and export duties. That is,
custom duties are levied on goods imported to India (import duties) from foreign countries
and goods exported from India (export duties) to foreign countries. Special additional duty
with respect to customs duty is a duty liveable under section 3(5) of the customs tariff act
1975
Special additional custom duty (CVD) :Special additional duty is levied on imports to
ensure that local sellers do not lose out on competition . i.e. SAD is levied due to the reason
that imports are cheap compared to price charged by local manufacturer. Thus to ensure both

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the imports and local prices are equal special additional duty is levied to counter balance the
sales tax or value added tax payable by local manufacturers
Anti-Dumping Duty: An anti-dumping duty is a protectionist tariff that a domestic
government imposes on foreign imports that it believes are priced below fair market value.
Dumping is a process where a company exports a product at a price lower than the price it
normally charges on its own home market. To protect local businesses and markets, many
countries impose stiff duties on products they believe are being dumped in their national
market.
c. Service tax:- Taxation of services was introduced in 1994-95 initially by levying the tax on
stock brokers, general insurance and telephone services. The number of services has been
increased from time to time. At present there are more than 100 services liable to be taxed. In
2011-12 the service tax rate was 10% and in 2012-13 it was 12%. The Union Budget 2012-13
introduced a negative list with effect from July 1, 2012. Finally in the year 2015-16 Rate of
tax increased to 15%.
d. Cess: - A cess imposed by the central government is a tax on tax, levied by the government
for a specific purpose. Generally, cess is expected to be levied till the time the government
gets enough money for that purpose.
Education Cess:- A cess for financing primary education – the education cess (which is
imposed on all central government taxes) is to be spent only for financing primary education
(SSA) and not for any other purposes. The main cess are: education cess, road cess or (fuel
cess), infrastructure cess, clean energy cess, krishi kalyan cess and swachh bharat cess.
Swachh Bharat Cess (SBC) is imposed as percentage tax on total value. Here the SBC is
0.5% of the value of the services.
Surcharge: Surcharge is a charge on any tax, charged on the tax already paid. As the name
suggests, surcharge is an additional charge or tax. The main surcharges are that on personal
income tax (on high income slabs and on super rich) and on corporate income tax.
Indirect Tax Imposed By the State Government
a. Value Added Tax (VAT): VAT is a multi-point tax levied at each stage of value addition
chain with a provision to allow input tax credit on tax paid at an earlier stage. It is a general
consumption tax assessed on the value added to goods. In the case of sales tax, there are
problems of double taxation of commodities and multiplicity of taxes, resulting in cascading
of tax burden. This results in double taxation with cascading effects. It is subsumed under
GST.
b. Motor Vehicles Tax : Motor Vehicles Tax in India is imposed by state governments. It is
calculated on the basis of various factors including engine capacity, seating capacity, unlade
weight and cost price
c. Entry Tax: is a tax on the movement of goods from one state to another imposed by the state
governments in India. It is levied by the recipient state to protect its tax base. The tax was
introduced on 1 September 2000. It is subsumed in GST.
d. Entertainment Tax: It is a tax imposed by the government on feature films getting a wide
release in India and is reduced from gross collections, major commercial. Shows and big
private festivals. The amount after deducting entertainment tax is known as net. Ii is
subsumed in GST.

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e. State Excise duty: State Excise duty on alcohol, alcoholic preparations, and narcotic
substances is collectedby the State Government and is called "State Excise" duty.
f. Purchase Tax: Any tax paid to the VAT dept on purchase of goods from an unregistered
dealer is considered as Purchase tax. This purchase tax concept behaves differently as per
State VAT Act and Rules.
For example, In Karnataka, Unregistered Dealer purchases will be considered as Sales
Turnover. Also when such purchases are made, purchasing dealer has to pay tax (purchase
tax) to the dept. Later to the extent of such goods sold dealer can claim Input tax credit. It is
subsumed under GST.
MEANING AND DEFINITION OF TAX
A tax is compulsory contribution, levied by government from owner of income without
direct benefit but for public benefit, and taxes should be arranged by the law. There is no precise
and accurate definition for the tax and the concept of tax has been defined differently by different
economists. So there are a lot of definitions of taxes, and some definitions are:
According to Prof Seligman ―A tax is compulsory contribution from the person to the
government to defray (to settle, Discharge) the expense incurred in the common interest of all
without reference to special benefits conferred
Bastable defines it as ―A tax as a compulsory contribution of the wealth of a person, or
body of persons for the service of public powers
"Taxation is the act of levying a tax, i.e. the process or means by which the sovereign,
(Ruler) through its law making body, raises income to defray the necessary expenses of
government
A tax is compulsory contribution, levied by government from owner of income without
direct benefit but for public benefit, and taxes should be arranged by the law.
Features orCharacteristics ofTaxes
1-A Tax is compulsory: A tax is imposition by law, the law practice in the societies becomes an
important thing, hence compulsory element existed by legislation. So tax is compulsory payment
to the governments from its citizens. Tax is duty from every citizen to bear his share for
supporting the government. The tax is compulsory payment, refusal or objection for paying tax
due leads to punishment or is an offence of the court of law. All the people like minors and aliens
are taxed. Government imposes when somebody buys commodities, or when uses services then
the condition of compulsion is found. The government practices its sovereign when levying the
tax from its citizens.
2- Tax is contribution: - Contribute Means order to help or provide something. Tax is
contribution from members of community to the Government. A tax is the duty of every citizen
to bear their due share for support of government; these contribute to help the government to face
its expenditures. Some wants are common to everybody in the society like defence and security,
so these wants cannot be satisfied by individuals. These social wants are satisfied by
governments, hence the people support government for these social wants. Contribution involves
loss or sacrifice from the side of contributor. These sacrifices touch his income.
3-Tax is amount of money: - Tax is case of money, the money as a tool for exchange and
measure for prices and efforts. -
4-Tax is for public benefit: - Tax is levied for the common good of society without regard to
benefit to special individual. Government proceeds are spent to extend common benefits to all the

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people such as natural disaster - like floods, famine - defence of the country, maintenance of law
and establish infrastructure and order. Such benefits are given to all people.
5-No direct benefit: - Government is compulsorily collecting all types of taxes and does not give
any direct benefits to the tax payer for taxes paid. Tax is different from another government
charges, which gives no direct benefits to taxpayers, another charges like prices, fees, fines,
hence the direct benefits are available. They are common benefits to all the members of the
society.
6-Tax is paid out of income or wealth of the tax payer: - Income means money received,
especially on regular basis, for work or through investment. Tax is paid out of income as long as
the income becomes realized, here the tax is imposed. Income owner has profit from any
business, so he should pay his share for support the government.
7-Government is levying the taxes: - Government is levying the tax; Governments are
practicing sovereign authority upon its citizens through levying of taxes, because the tax is
sovereign revenue. Nobody can collect tax from the people but the government because it has all
power for that . Tax is transferring resources from the private sector to the public sector.
Government is levying the tax to cover its expenditures. The government targets for this
expenditures for increase of social welfare, economy development and stabilization.
8- Tax is not the cost of the benefit :- Tax is not the cost of benefit conferred by the government
on the public, Benefit and taxpayer are independent of each other, and payment of taxation is of
course designed for conferring of benefits on general public.
9- A tax is for the economic growth and public welfare: - Major objectives for the government
are to maximizing economic growth and also maximize social welfare. Development activities of
nations generally involve two operations, the raising of revenue and the spending of revenue, so
the government spent taxes for economic benefit, for entire community, for aggregate welfare of
the society.
Objectives of taxes in the modern welfare governments
Objectives of taxes have been developed when the functions of the Government are
developed. In the primitive communities a member was to pay his share to the Head of the tribe,
who in return provided them with administration, security from foreign aggression and other
civic amenities. But today taxation besides being the main resource for supporting government
has became a tool for economic growth, social welfare; attract foreigner investment, economic
stability, and income distribution.
1. Generating of Revenue: this objective is the oldest, uppermost and primary objective, so the
taxes are imposed so as to produce the necessary amount of revenue to meet the requirement
of the government since the public expenditures is increasing in scope and size day by day. So
the main objective of taxes is to raise revenue to meet the expenditures adequately.
2. SOCIAL OBJECTIVES - Taxes became as main goal for some of social objectives.
a) REDISTRIBUTION OF INCOME AND WEALTH: Income is deferent from one
person to another in the society, inequity in income leads to many evils, and the
government aims to reduction of inequalities between members of the society to secure
social justice, so tax is a means of ensuring the redistribution of income and wealth in
order to reduce poverty and promote social welfare, For the achievement of these goals
government follows these ways
a) Imposition of high rate tax upon luxury commodities.
b) Applying progressive tax system when levying taxes from taxpayers.
c) Imposition of tax exemption to basic goods.

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b) SOCIAL WELFARE: Social welfare is the basic need of the society in the modern
age. The government functions have become very important to the society, because the
society needs saving, protection, education, health, and so on. All these functions are
necessary to make social welfare, so the government levies revenue from tax, and expends
it for those function. Therefore revenue from taxes is fuel to the government for social
welfare. Social welfare is indicator of development of the countries, so almost all the
countries have competition to introduce these services in the societies.
c) SAFETY OF SOCIETY FROM BAD AND INJURIOUS CUSTOMS: - Fighting the
bad customs in the society is the primary task of the government, so tax is a tool for
fighting some of those customs. From this angle tax imposition of very high percentage on
the goods like tobacco and alcohol is an effort to reduce. Those habits have reaction on the
health of people in the society its use because those goods are main reasons to some
diseases.
3. ECONOMIC OBJECTIVE
. Taxation helps to accelerate economic growth, and taxation plays very important role in
case of economic stability.
a) Economic growth Taxes are considered as a tool for economic growth and it helps at to
accelerate growth of economic development. Economic. Economic development depends
on mobilization of resources and efficient use of such resources between different sectors
of the economy activities. Taxation policy helps to increase production through raising the
rate of capital formation, so it helps improve the economic welfare through better
distribution of income and it becomes an important instrument for regional inequalities
through imposition rate of tax from regional to another. Tax policy may serve directly to
mobilize resources for capital formation in the public sector and indirectly to promote
private saving and investment.
b) Economic stability:- To maintain economic stability is one of the tax objectives,
Economic stability is a very important factor for the government‘s economic growth.
Government can use taxes in the case of inflation and depression. Here taxation has
different roles in times of inflation and depression, in the case of inflation when the prices
are rising and in case of depression when the prices are decreases.
c) Enforcing government policy :- Government policy can be easily enforced by adoption
of suitable tax policy, The Government can encourage investment, saving, consumption,
export, protection of home industry, employment, production, protection of society from
harmful customs, and economic stability through suitable tax policy. Therefore, the
government gives tax exemption to the investment and saving.
d) Direction limited scarce resources into effective and essential channels: - Tax policy
plays crucial role for direction scarce resources into essential commodities. This is
achieved by giving tax exemption to certain industries and imposition of heavy duties on
other industries, so with the adoption of suitable tax policy, economic resources may be
diverted to the production of necessary articles and investors will go to the exemption
industries.
PRINCIPLE OR CANONS OF TAXES
Canons of taxation refer to the administrative aspect of a tax. They are related to the rate,
amount, method of levy, and collection of a tax. Despite the modern development of economic
sciences, Adam smith‘s canons of taxation, still continue to be widely accepted as providing a

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good basis by which to judge taxes and these principles still apply today. The fundamental
canons of taxation are as follows.
1- Principle of equity.
2- Principle of certainty.
3- Principle of convenience
4- Principle of economy.
Principle of equity: - According to this canon, a good tax is that which is based on the principle
of equality. Equity refers to both horizontal and vertical equity.
a) Horizontal equity describes the concept that, taxpayers with equal abilities to pay
should pay the same amount of tax.
b) Vertical equity means that taxpayers with a greater ability to pay should pay more
tax. The presence of both horizontal and vertical equity in a tax system is thought to
make the system fair.
Principle of Certainty: - It implies that the tax-payer should determine the following manners
carefully:
a) The time of payment
b) Amount to be paid
c) Method of payment
d) The place of payment
e) The Authority to whom the tax is to be paid.
With this, a tax-payer will be able to keep equilibrium between his income and expenditure;
there should be any embarrassment and confusion about the payment of tax.
Principle of Convenience:- According to this cannon, taxes should be levied and collected in
such a manner that it provides the maximum of convenience to the tax payers.
For Example: - Land revenue should be collected at the harvest time, the income-tax from
the salaried class is collected only when they get their salaries from their employers. From this
point of view, income-tax on a salaried person should be deducted at the time of payment of
salary. Convenience in paying a tax helps ensure compliance.
Principle of Economy:- This canon implies that decreasing the administrative cost of collection
of the tax at the lowest level. The costs to collect a tax should be kept to a minimum for both the
government and taxpayers and the maximum part of the collected amount should be deposited in
the government treasury.
Other principles of Taxation: - In addition to above four canons of taxation given by Adam
Smith, here are other canons which have been added by modern economists like Bastable:-
Canon of Productivity:-This canon connotes that it is better to impose a few productive taxes
rather than to go in for a large number of unproductive taxes. These unproductive taxes create so
many complications both for the people and for the government.
Canon of Elasticity:-This canon signifies that the taxes should be levied in such a way that the
amount to be procured by them can be increased or decreased with the least inconvenience from
time to time.
Conon of Diversity:- Tax system of a country should have diversity and the burden of tax should
be scattered among different kinds of people so that burden of tax does not rest only on some
select groups or sections of society.
Conon of Simplicity:- The tax law should be simple so that taxpayers can understand the rules
and comply with them correctly and in a cost-efficient manner. A tax should be simple in nature
so that the tax-payer is able to calculate it and pay it conveniently. Simplicity in a tax system

15
reduces the number of errors. Simplicity increases respect for the system and therefore improves
compliance.
Transparency and Visibility:- Taxpayers should know that a tax exists and how and when it is
imposed upon them and others. Transparency and visibility in a tax system enable taxpayers to
know the true cost of transactions. These features enable taxpayers to know when a tax is being
assessed or paid and to whom. This principle relates to fairness because taxpayers should be able
to, Know what type of taxes they are paying and how much.
Canon of C0-ordination :- This Conon refers that there must be coordination between different
taxes that are imposed by various taxation authorities in democratic countries like India, by
central state and local bodies.
Conon of Neutrality:- It means that a tax should avoid interference with the attainment of
optimum allocation and getting of maximum satisfaction. In Short, it must not have any
inflationary or deflationary effect on the economy.
While framing a tax policy, it is requisite that every tax authority should keep these canons
in view, as far as possible and, thus, the government may be able to provide the maximum social
welfare of the people.
ClassificationofTaxation
Taxation is the main source of income of the government. Anyhow, various economists
have made an attempt to classify the taxes from different angles. Taxes can be classified on the
basis of form, nature, essence, volume and Method of Taxation.
On the Basis of Form:-
On the Basis of Form
On the Basis of Nature
1. Ad Valorem Tax
2. Specific Tax
1. Income tax
2. Property Tax
3. Taxes on Production
4. Taxes on Consumption
5. Taxes on Capital Goods
6. Taxes on consumption Goods
7.
a) Single Tax
b) Multiple Tax
On the Basis of Essence
On the Basis of Volume
On the Basis of Method
1. Direct Taxes
2. Indirect Taxes
1. Proportional Tax
2. Progressive Tax
3. Regressive Tax
4. Digressive Tax

16
a) Direct Tax: - A direct tax is one, which is paid by a person on whom it is legally imposed and
the burden of which cannot be shifted to any other person. The person from whom it is
collected cannot shift its burden to anybody else. The tax-payer is the tax-bearer. The impact
i.e. the initial burden and its incidence i.e. the ultimate burden of direct tax is on the same
person. For e.g. Income tax, wealth tax, property tax, estate duties, capital gain tax, corporate /
company tax, etc. are all direct taxes.
According to J.S. Mill :- A direct tax is one, demanded from the very person who is
intended or desired should pay it.
Merits of Direct Taxes:-
a. Economy: - Direct taxes are economical in the sense that the cost of collecting these taxes
for the government is relatively low as these taxes are usually collectedat source.
b. Equity: - Direct taxes have equity of sacrifice, depend upon the volume of income. They
are based on the principle of progressive, so rates of tax increase as the level of income of
a person rises. So it is taxing the rich people with higher of taxation and the poor people
with a lower level of taxation.
c. Certainty:-Direct taxes have certainty on both sides ‘tax-payer and government. The tax-
payers are aware of the quantity of tax. They have to pay and rate, time of payment,
manner of payment, and punishment from the side of government is also certain about the
total amount they are getting.
d. Elasticity and productivity: - It Satisfy the Conon of certainty and productivity because
the income from these taxes can be increased by increasing the rate of taxation in an
appropriate way in the hour of crisis. Like earthquake, floods and famine the government
can collect money for facing those problems by direct tax.
e. Good instrument in the case of inflation: - Tax policy as fiscal instrument plays
important role in the case of the inflation, so government can absorb the excess money by
arising in the rate of existing taxes or imposition of new taxes.
f. Easy to Understand: - Direct tax is claimed to be easily understandable even by the
layman of the society. Moreover, it does not cause any distortion in the resource allocation
of the economy.
g. Simplicity: - Direct taxes are simplicity, while levy the rules, procedures, regulations of
income tax are very clear and simple.
Demerits of direct taxes:-
a. Possibility of Evasion: - It is calculated on the basis of honesty of tax-payers. So, there is
always a possibility of tax evasion.
b. Inconvenience: - Direct taxes require numerous accounting and other formalities to be
observed. Inconvenient in the sense that they involve several procedures and formalities in
filing of returns. For most people payment of direct tax is not only inconvenient, it is
psychological painful also. When people are required to pay a sizeable part of their income
as a tax to the state, they feel very much hurt and their propensity to evade tax remains
high.
c. Unpopular: - Direct tax is required to be paid in lump sum for the whole year, so the tax
payers feel the painful payment, these taxes are therefore unpopular.
d. Arbitrary: - The direct taxes tend to be arbitrary. Critics point out that there cannot be
any objective basis for determining tax rates of direct taxes. Also, the exemption limits in

17
the case of personal income tax, wealth tax, etc., are determined in an arbitrary manner. A
precise degree of progression in taxation is also difficult to ac hieve. Therefore direct taxes
may not always fulfil the canon of equity.
e. Uneconomically.-The cost of collection of Direct tax is quite high particularly when the
number of tax-payers is infinite and the amount of tax collectedis in small quantity.
f. Affects Capital Formation: - The direct taxes can affect savings and investment. Due to
taxes, the net income of the people gets reduced. This in turn reduces savings. Reduction
in savings results in low investment. The low investment affects capital formation i n the
country.
g. Not suitable to a Underdeveloped country: - Direct taxes are not enough to meet its
expenditure.
b) INDIRECT TAX: - An indirect tax is one in which the burden can be shifted to others.
The tax payer is not the tax bearer. The impact and incidence of indirect taxes are on different
persons. An indirect tax is levied on and collected from a person who manages to pass it on to
some other person or persons on whom the real burden of tax falls.
According to J.S. Mill: - Indirect taxes are those which are demanded from one
person in the expectation and intention that he shall indentify himself at the expenses of
another.
For e.g. commodity taxes or sales tax, excise duty, custom duties, GST (Goods and
Services Tax) etc. are indirect taxes.
Advantages of Indirect Taxes
a) Convenient: - Indirect taxes are imposed on production, sale and movements of goods
and services. These are imposed on manufacturers, sellers and traders, but their burden
may be shifted to consumers of goods and services who are the final taxpayers. Such
taxes, in the form of higher prices, are paid only on purchase of a commodity or the
enjoyment of a service. So taxpayers do not feel the burden of these taxes.
b) Justice: Ability to pay taxes is carefully considered by the Finance Minister, commodities
consumed by the poor may be exempted from tax. Thus ability to pay is taken into
account. Indirect taxes may be adopted on the basis of equity and justice.
c) High revenue production:- Nature of indirect taxes is imposition on the commodities and
services. Here indirect taxes cover a large number of essential goods and luxurious goods
which are consumed by the mass both rich and poor people, these help in collecting large
revenue.
d) Difficult to evade: - Nature of indirect tax is that, it is included in the price of commodity,
so tax evasion or tax avoid is difficult.
e) Wide coverage:- Indirect taxes cover almost all commodities like essential commodities,
luxuries, and harmful ones.
f) Elasticity: - Since a large number of commodities and services are covered by indirect
taxation there is great scope for modification of taxes, goods and tax rate, much depends
on nature of good and on its demands.
g) Universality: - Indirect taxes are paid by all classes of people and so they are broad based.
Poor people may be out of the net of the income tax, but they pay indirect taxes while
buying goods.

18
h) Suitable to Developing Economies: - Suitable to developing countries as there are large
number of small producers who are illiterate and incapable to maintain proper accounts.
Therefore, they pay in the shape of higher prices of the commodities.
i) Social Welfare:- Heavy indirect taxation on articles like wine, opium etc serves a great
social purpose by curtailing the consumptions of such harmful commodities which is in
the interest of the commodity as a whole.
j) Progressive in Nature: - Indirect taxes can be said to be more progressive in nature if the
luxurious commodities are heavily taxed and the essential commodities are exempted from
tax.
DisadvantagesOfIndirect Taxation
a) Regressive in effect: - Indirect taxes are generally regressive in nature because they fall
on all persons indiscriminately, irrespective of their ability to pay. The poor fellows feel
heavier burden than rich people, which mass consumption goods are heavily taxed by the
government.
b) Uncertainty: - The revenue collected by the government is very difficult to anticipate. As
soon as the commodity is taxes, the market price raises which results in the fall in demand
depending upon elasticity of the demand. So, it is quite difficult to anticipate the fall in
demand with the imposition of tax.
c) Lack of social consciousness: - Indirect taxes do not create any social consciousness as
the taxpayers do not feel the burden of the taxes they pay.
d) High cost of collection: The administrative cost involved in the assessment and collection
of indirect taxes is very high. Indirect taxes like Excise duty, Customs duty, Sales tax,
Service tax etc. are having separate department and each department the administrative
expenditure on collectionof tax is very high.
e) Increase inflation: - The indirect taxes are inflationary in nature. The tax charged on
goods and services increase their prices. Therefore, to reduce inflationary pressure, the
government may reduce the tax rates, especially, on essential items.
f) Discourage savings: - Increase inflation:-Indirect taxes are included in the price of
commodity, so people have to spend more money on essential commodities, when levied
indirectly. In this case that means the customers cannot save some of their money.
g) No civic consciousness:- As these taxes are not paid directly to the government. They fail
to create civic consciousness. Indirect taxes or included in the price of goods and services.
So people know the amount of tax neither before paying tax nor after paying the tax. So
there is no awareness about indirect taxes.
ROLE OF DIRECT AND INDIRECT TAXES IN ECONOMIC DEVELOPMENT
In developing economics, the government has to play a very active role in promoting
economic growth and development because private initiative and capital are limited. Fiscal policy
or the budget has become an important instrument in promotion growth and development in such
economies. Taxation is an important part of fiscal policy which can be used effectively by
governments of developing economics. Let us examine the role of direct and indirect taxes in
performing the above functions in a developing economy.
ROLE OF DIRECT TAXES: Direct taxes have a limited role to play in a developing economy.
Only a small proportion of population pays such taxes. Direct taxes are primarily used in such
economies to reduce inequalities of income distribution. Progressive taxes on income and wealth
are used to impose greater economic burden on the rich. Taxes on incomes of large corporations

19
help in some way to reduce concentration of economic power. Wealth tax and estate duties are
imposed to take away resources from the idle rich. The resources collected through taxation are
redistributed among the weaker section of society in the form of subsidies and development
programme.
DRAWBACKS (LIMITATION): However, in developing countries, direct taxes are highly
progressive. This discourages savings done by the high income groups and adversely affects
investments and capital formation. In the absence of adequate domestic savings, external
borrowings have to be made. This leads to burden of debt repayment. Highly progressive taxation
also leads to tax evasion and black money. This further increases inequalities and causes
inflation. It is usually the middle class that bears the maximum burden of direct taxes. Thus we
have seen that direct taxes have a limited role to play in developing countries.
ROLE OF INDIRECT TAXES:
Due to limited role of direct taxes developing countries have resorted to extensive use of
indirect taxes. The role of indirect taxes in a developing country is:
1. Development funds: Such taxes have become an important source of development funds in
developing countries. Many developing economies that have adopted economic planning use
indirect taxes as an important source of funds.
2. Wider coverage: Indirect taxes are found to be better suited in developing countries because
they have a much wider coverage as compared to direct taxes. Both rich and the poor pay indirect
taxes in form of commodity prices. Thus the problem of limited coverage of direct taxes in case
of developing countries is made up by the coverage of indirect taxes.
3. Reduce consumption and promote savings: They are useful for reducing current
consumption and promote savings, as they tend to raise prices of goods and services. In
developing countries a large proportion of national income tends to be diverted to current
consumption instead of being productively invested.
4. Help to meet socio-economic objectives: Though indirect taxes are regressive in nature, in
developing countries they can be used to meet certain socio-economic objective. High rate of
taxes on luxury goods will take away resources from the rich and such resources can be
redistributed among the poor in the form of subsidies. Besides taxes on products like alcohol,
cigarettes, etc. can have a beneficial effect on consumption pattern.
5. Diversion of resources to desired areas: Indirect taxes can be used to divert resources from
the less desired use to the more desired ones in developing countries. Taxes on goods considered
to be luxuries will make them more expensive, lower their demand and profitability. This will
divert resources from the production of these goods to more essential ones.
6. Promote domestic industries: Taxes on imports have been used by developing countries for
reducing imports and promoting domestic industries. India actively followed the policy of import
restrictions with the help of heavy import duties.
LIMITATIONS OF INDIRECT TAXES: Despite the above benefits of indirect taxes
in developing countries, there is certain problem associated with them.
(1) Raise prices of essential goods: In order to raise development finance, the governments
must tax commodities whose demand is inelastic in nature. Even when prices of such
commodities rise their demand will not fall significantly and the government will be able to

20
raise sufficient revenue. But such commodities are essential commodities that are consumed
by the masses.
(2) Loss of welfare: Tax on these commodities will result in loss of welfare to society. Besides,
commodity taxes can and have caused inflation in developing economies. Therefore, the
government has to very cautiously impose these taxes, keeping in mind their benefits and
harmful effects.
(3) Inefficiency: Heavy import duties to promote domestic industries can lead to inefficient
domestic industries, lack of competition, shortage and less choice and high prices of
commodities. Therefore, the government has to very cautiously impose these taxes, keeping
in mind their benefits and harmful effects.
On the Basis of Essence:-
According to the assessment, taxes on commodities can be divided in to two
Type
a) AD Valorem Tax: - Tax is imposed on a commodity according to its value; it is called ad
valorem tax. This kind of tax is received after assessing the value of the taxable possession of
a Peron. Several imported articles are taxed in terms of value and they are nothing to do with
the size, length and weight of commodity.
Examples: - Stamp duty, Propertytax, Consumption tax – VAT,
b) Specific Tax: - Taxes which are based on specific qualities or attributes of goods are called
specific taxes. This tax is imposed on the commodity according to this weight, size or
volume. E.g. Specific excise duty may be levied on the cloth in the length units and tax on the
sugar is based according to the units of weight.
On the Basis of Volume:-
a) Single Tax: - Single tax system means only one kind of tax. A single tax denotes the
only tax exclusive tax on the one class of things. The single tax might be proportional
progressive or regressive. It may be for a single fixed amount. According to Seligman “A
single tax denotes the only tax, on exclusive the one class of things”
Merits
1) It is a very simple tax as it simplifies the work of the government.
2) It is less costly as lesser amount is spent to collect the revenue.
3) It is based social justice.
4) It does not discriminate against any particular work or industry.
Demerits
1) It cannot bring adequate revenue to meet the needs of the modern Governments.
2) Single tax system violates the principle of ability to pay.
3) The burden of taxation is not equally distributed.
4) The tax system is not effective during the period of emergency or crisis.
5) Tax evasion is much possible.
6) It lacks elasticity.
b) Multiple taxes: - system means a tax system comprising several types of taxes. They may
include both direct taxes and indirect taxes
Merits
1) It leads to equitable distribution of tax burden as it includes proportional, Progressive,
direct, and indirect taxes.

21
2) Tax evasion is very difficult under this system.
3) It is more flexible than single tax system.
4) It is based on the principle of equity.
5) It enhances the income of the governments.
Demerits
1) It is more complicated than single tax system.
2) Too much multiplicity leads to inconvenience to both the taxing authority and
the tax payer.
3) It is not based on the principle of ability to pay.
4) It checks the productive process of the economy.
On the Basis of Method
1) Proportional Taxation: - In this system, all incomes are taxed at a uniform rate of taxation
and it is not linked with the income of tax-payer.
In other words, a proportional tax is one in which the rate of tax remains the same. In
this method, the tax payable amount is calculated by multiplying the tax base with the rate.
The multiplier remains constant with the change in income. It is illustrated with the help of
the following table:-
TAX BASE
INCOME
RATE OF INCOME
TAX
(%)
AMOUNT OF
TAX
PAYBLE (RS.)
NET INCOME
AFTER
TAX(Rs.)
5,0000 10 500 4500
10,000 10 1000 9000
15,000 10 1500 13500
20,000 10 2000 22500
2) Progressive Tax: A progressive tax is that in which the rate of the tax depends on change in
income. That is, the rate of tax increases with the increase in the income. The higher the level
income, the higher the tax will be. It can be shown with the help of a Table :-
Taxable
income
group(Rs.)
Taxable income
of individual
(Rs.)
Rate of
Tax(%)
Amount of
Tax (Rs.)
Net income
after
payment of
tax (Rs.)
0-5000 5000 10 500 4500
5001-10000 10000 15 1500 8500
10001-15000 15000 20 3000 12000
15001-20000 20000 25 5000 15000
20001-25000 25000 30 7500 17500
3) Regressive Taxation: - In regressive taxation, the higher the income of the tax payer, the
smaller is the proportion of income he contributes to the government in the form of taxes.
That is, in the regressive taxation, the tax rate declines as income increases. This type of
taxation is against the objective of welfare state in modern time.
The system of regressive taxation can be represented with the help of the Following table:-

22
Taxable
income
group(Rs.)
Taxable income
of individual
(Rs.)
Rate of
Tax(%)
Amount of
Tax (Rs.)
Net income
after
payment of
tax (Rs.)
Below 5000 5000 15 750 4250
5001-10000 10000 12 1200 8800
10001-15000 15000 10 1500 13500
15001-20000 20000 8 1600 18400
20001-25000 25000 7 1750 23250
4) Degressive Taxes: - Under this tax system, the tax is mildly progressive up to a certain limit.
After that the tax may be charged at a flat rate.
In other words, degressive tax system is a mixture of proportional as well as
progressive tax system. In this, up to certain limit, the rate of taxation increases and after
that the rate of taxation is constant with the change in income. In it, the higher income
group people have to make little sacrifice in comparison with the lower income group.
This can be illustrated with the help of the following table:-
Gross income (Rs) Rate of Tax(%) Amount of Tax
(Rs.)
Net
Income(Rs.)
Upto 5000 10 500 4500
Upto 10000 15 1500 8500
Upto 20000 20 4000 16000
Above 25000 25 4000 16000
20001-25000 7 1750 23250
Public Finance
Public finance is a field of economics concerned with how a government raises
Money, how that money is spent and the effects of these activities on the economy and Society. It
studies how governments at all levels—National, State and local—provide
The public with desired services and how they secure the financial resources to pay for
These services.
Public finance deals with the finances of public bodies – national, State or Local
– for the performance of their functions. The performance of these functions leads to expenditure.
The expenditure is incurred from funds raised through taxes, fees, sale of
goods and services and loans. The different sources constitute the revenue of the
public authorities.
Public finance studies the manner in which revenue is raised; the expenditure is incurred
upon different items etc. Thus, public finance deals with the income and expenditure of public
authorities and principles, problems and policies relating to these matters. We can analyse some
important definitions of public finance given by some leading authorities in public finance.
Definitions: -
According to Prof. Dalton: - “Subject which is concerned with the income and expenditure of
public authorities and with the adjustment of the one to the other.”

23
According to J.K. Mehta :- “Public Fiancé Constitutes a study of the monetary and credit
resources of the state .”
Scope /Subject Matters Of Public Finance
The subject matters of Public Finance can be broadly classified in to five categories –
a. Public revenue
b. Public expenditure
c. Public debt
d. Financial administration
e. Economic stabilization and
Public Revenue: The income of the states is referred to as Public Revenue. In this branch, we
Study the various ways of raising revenue by the public bodies. We also study the Principles and
effects of taxation and how the burden of taxation is shared among the various classes of society
etc.
Public Expenditure: It deals with the principles and problems relating to the allocation of public
Spending. We study the fundamental principles governing the flow of public funds in to different
channels, classification and justification of public expenditure; Expenditure policies of
governments and the measures adopted for welfare state etc.
Public Debt: The governments borrow when its revenue falls short of its expenditure. Public
debts are a study of various principles and methods of raising debts and their economic Effects.
It also deals with the methods of repayments and managements of public Debts.
Financial Administration: It deals with the methods of Budget preparation, various types of
Budgets, war Finance, Development Finance etc. Thus, financial administration refers to the
Mechanism by which the financial functions are carried on. In other words, financial
administration studies the organizing and disbursing of the finances of the State.
Economic stabilization and Growth: The use of Public revenue and Public expenditure to
secure stability in levels of prices by controlling inflationary as well as deflationary pressures is
studied. Similarly the income and expenditure policies adopted by the government so as to attain
full employment, optimum use of resources, equitable distribution of income etc. are also studied.
Function of Public Finance.
The functions of public finance all activities with regard to collection of revenue and
expenditure on various activities .Earlier theories public finance narrow definition of the
functions to be carried out by public authorities. It is clear that the area of state activity has
enlarged over the past two decades which increased the functions and scope of public finance.
1) Economic activities of the state The scope of public finance was confined to the traditional
functions of the state, that is, provision of defense, law and order, justice and civic amenities. But
with the emergence of welfare states the scope of public finance was broadened public finance
now includes the use of the budget as a tool to correct distortion in the economy, to mobilise
resources, to maintain price stability create employment prevent market failure, achieve growth
equity and maximize social welfare.
2) Functional Finance The government should maintain a reasonable level of aggregate demand
at all times by using the budget. Most developed economies followed functional finance policies
in order to control trade cycles. Developing countries followed such policies to promote
economic growth.

24
3) Fiscal Operations The scope of public finance includes fiscal operations and their objectives.
Fiscal operations refer to raising public revenue, spending to achieve certain goals and financial
administration. For such operations, the government uses fiscal tools like taxation, public
expenditure and public debt. The following are the objectives of fiscal operations;
(a) Allocation of resources The most important objectives of fiscal operations is to
determine how the Country’s resources will be allocated to different sectors of the
economy in order to achieve predetermined goals. The national budget determines how
funds are allocated to different heads of expenses. The policy of public expenditure is used
by the government to directly undertake resource allocation for different sectors. On the
other hand, the government can use taxation and subsidies to indirectly influence resource
allocation.
(b) Distribution Fiscal operations can be effectively used affect the distribution of
national income and resource Taxation and public expenditure policies are used by the
government to reduce inequalities. Progressive direct taxation impose heavier burden on
the rich than the poor. Public expenditure on social infrastructure and subsidies on food
housing, health and education help reduce income inequality.
(c) Stabilisation Developed economies experience business cycles. Economic
stability implies absence of sharp cyclical movements in the form of booms and
depressions. To bring about such stability, counter-cyclical fiscal operations are adopted.
To counter depression and recession, government expenditure is increased to generate
employment and taxes are reduced to encourage consumption and investment. During
inflation, public expenditure is reduced and taxes are raised.
(d) Economic growth In developing and underdeveloped economies, the objectives
of fiscal operations are more promotional in nature. The basic focus of fiscal operations in
such economies is the use of budgetary operations to achieve growth and development.
This is done by encouraging capital formation and investments through public expenditure
and tax incentives to private sectors.
Role Of Public Finance In Developing Economies:-
1. To increase the Rate of Saving and Investment: - In developing and underdeveloped
countries there is a lack of financial resources and it is the main bottleneck in the
economic progress of the country. There are many factors responsible for reducing saving
and increasing consumption. The increasing population is the main force among them.
The people belonging to high income group spend much of their income on conspicuous
items. A large part of savings is utilised in unproductive items. To check this
consumption of unproductive channel. The Commodities of Conspicuous consumption
should be highly taxed. High taxes should adopt be imposed on personal income and
corporate income.
2. To Secure Equal Distribution of Wealth and Income: - Unequal distribution of income
and Wealth is the basic problem of the developing and underdeveloped countries. The
rich are getting richer and richer while the poor are becoming poorer and poorer. This
situation hinders the economic development of these countries. To Some extent,
progressive taxation in direct taxes and heavy taxation on Luxury goods can help to bring
equality in the distribution of income and wealth. The government can make investment
in various fields to raise the income of the poor. Consequently, it would increase in the
volume of output and employment.
3. To Counteract inflection: - The imbalance between demand for and supply of real
resources may lead to inflation to underdeveloped countries. Inflation ruins the entire

25
economic structure of the nation and the process of economic development in these
countries comes to stand still. It is, therefore economic growth and stability which are the
main objectives in the developing countries. In order to check inflation, budgetary
policies can be used by the government. Progressive taxation-direct taxes and commodity
taxes should be imposed.
4. Full employment and Economic Growth: - In the modern times, the states are welfare
states and their main aim is to provide work to their citizens and raise their standard of
living.
5. Capital Formation: - The Development entirely depends on the rate of capital formation
in the country. The first and foremost aim of public finance is to promote capital
formation.
6. Planned Economic Development: - In Underdeveloped/developing countries the
productive resources are limited in quantity as well as quality. Public finance provides
valuable help in the planned economic development of the country.
7. Reduction in Economic Inequalities: - Another problem of underdeveloped or
developing countries is the unequal distribution of income and wealth. Public finance,
therefore, has an important role to play in this context.
8. Optimum Utilisation of Resources: - Underdeveloped or developing countries face the
problem of non-utilisation or even destruction of the scare and limited resources. The
solution of this fundamental problem lies in the optimum utilization of available resources.
PUBLIC REVENUE :-
This is one of the branches of public finance. It deals with the various sources from which
the state might derive its income. These sources include incomes from taxes, commercial
revenues in the form of prices of goods and services supplied by public enterprises,
administrative revenues in the form of fees, fines etc. and gifts and
Grants. The income of government through all sources is known as public revenue or public
income. Prof. Dalton defined public revenue in two senses – Narrow sense and broader sense.
a) Narrow sense: In the narrow sense, it includes income from taxes, prices of
Goods and services supplied by public sector under takings, revenue from
Administrative activities, such as fees, fines etc.
b) Wider sense: It includes all the incomes of the governments during a given period of time,
including public borrowing from individuals and banks and income from public enterprise it is
known as public receipts.
Public Receipts = Public revenue + Public borrowing + issue of new currency
Sources of Public Revenue
The sources of public revenue can be broadly classified in to two –
1) Tax source
2) Non- Tax source.

26
1. Taxes: Taxes are imposed by the government on the people and it is compulsory on the part
of the citizens to pay taxes, without expecting a return. (Tax revenue sources are explained in
Classification of taxes in Detail)
2. Non - Tax Revenue:-
Fees: Fees are charged by the government or public authorities for rendering a service to the
beneficiaries. Seligman, “A fee is a payment to defray the cost of each recurring service
undertaken by the government, primarily in the public interest, but conferring a measurable
advantage to the payer.”
Prices: The government sells some services and goods and receives price in payment for them. In
this way, government acts like a businessman and the public like its customers, the former sells
the goods and services while the later buys them and pays prices to the former. These businesses
of the government for which it receives prices may either be in the form of providing services
like city bus transport and train transport, electricity and the water supply, posts and telegraphs,
etc.
Fines and Penalties: Fines and penalties are levied and collected from offenders of laws as
punishment. Here the main object of these levies is not so much to earn an income as to prevent
the commission of offences and infringement of laws of the country.
Special Assessment: Where the Government provides certain services to the residents of a
particular locality by which the value of the properties of residents increases, the Government or
the authority may impose a special type of levy based upon the increase in the value of
properties, on the residents of that very locality which is known as special assessment or better
merit levy. This type of levy may be paid either once and for all or may be paid annually.
Gifts and Grants: Sometimes and particularly in war time and emergency, individuals offer
funds by way of gifts or donations, to meet the abnormal situations to the Government.
SOURCES OF PUBLIC REVENUE
Taxes
Direct taxes
Income tax
Corporate tax
Security
transaction
tax
Gift tax
Indirect taxes
Customs
duty
GST
Non- taxes
Fees
License fees
Commercial revenue
Fines and penalties
Escheats
Gifts and grants
Borrowings

27
The amount of the income is, however, not very significant. Further, the Government of a
country may receive grants or donations from foreign Governments or international agencies etc.
for general and specific purposes.
Escheat: Under the rights of escheat, the Government may acquire the properties of a person
who dies without any legal heirs or without keeping a will.
Borrowings: Another source of public revenue-in a sense of provisional or temporary source-is
the borrowing of money.
Just as individuals or firms may borrow in anticipation of other revenues, so also governments
borrow funds. It is ordinarily presumed that money borrowed will eventually be repaid from
funds raised from other sources or revenue
License fee: A license fee is paid in those instances in which the governmental authority is
invoked simply to confer permission or a privilege rather performs a service of a more tangible
definite sort
PUBLIC EXPENDITURE
The expenses incurred by the governments for its own maintenance, preservation and
welfare of the economy as a whole is referred to as public expenditure. In other words, it refers to
the expenses of public authorities-central, state and local governments in a federation-for the
satisfaction of collective needs of the citizens or for promotion of economic and social welfare.
The development functions include education, public health, social security, irrigation, canal,
drainage, roads, buildings, etc. The major cause of increase in the public expenditure is nothing
but, these developmental functions.
Classification Of Public Expenditure: Classification of public expenditure refers to the
systematic arrangement of different items on which the government incurs expenditure.
1. Revenue and Capital Expenditure:
Revenue Expenditures are recurrent or consumption expenditures incurred on public
administration, defence forces, public health and education, maintenance of government
machinery, subsidies and interest payments. These expenditures are recurrent in nature and they
do not create any capital assets.
Revenue expenditure is further classifiedinto
o Development Expenditure
o Non-development expenditure
Development Expenditure: The part of revenue expenditure that directly or indirectly
contributes to the development of the country is known as development revenue
expenditure. It includes expenditures on the maintenance and functioning of social and
community services and physical infrastructure. For example, maintenance of education
and public health infrastructure like schools, hospitals, irrigation facilities, electricity
boards etc.
Non-Development Expenditure: The part of revenue expenditure that may not directly
contribute to economic development is known as non-development revenue expenditure.
They include expenditures on the maintenance of defence establishments, administrative
expenditure, interest payments, payment of old age pension etc.
Capital Expenditures are incurred on building durable assets, like highways, multipurpose
dams, irrigation projects, buying machinery and equipment. They are a non-recurring type of
expenditure in the form of capital investments. Such expenditures are expected to improve the
productive capacity of the economy.

28
I) Not all capital expenditures are productive. Non-development capital expenditure on
defence establishment which does not have any direct impact on economic development
but is necessary for the security of the nation.
ii) Capital expenditures on social infrastructure like government schools, hospitals,
primary health centres may not generate revenue and therefore cannot be termed
productive in that sense, but they indirectly contribute to improving productivity.
2. Productive and Unproductive Expenditure
(a) Productive Expenditure: Expenditure on infrastructure development, public enterprises or
development of agriculture increase productive capacity in the economy and bring income to the
government through tax and non-tax revenues. Thus they are classified as productive
expenditure.
(b) Unproductive Expenditure: Expenditures in the nature of consumption, such as defence,
interest payments, expenditure on law and order, public administration do not create any
productive asset which can bring income or returns to the government. Such expenses are
classified as unproductive expenditures.
3. Non-Transfer and Transfer Expenditure:
(a) Non-transfer Expenditures: Are incurred for buying or using goods and services. These
include expenditure on defence, education, public health etc. Investment expenditures on capital
assets are also non-transfer expenditures as the government gets capital goods and assets in return
for them.
(b) Transfer Expenditures: Refer to those expenditures against which there is no corresponding
transfer of real resources i.e. goods or services. These include expenditures incurred on old age
pension, unemployment allowance, sickness benefits, interest payments on public debt and
subsidies.
4. Plan and Non-Plan Expenditure:
(a) Plan Expenditures: Refer to the spending of the annual funds allocated by the Central
government for development schemes outlined in the ongoing Five Year Plan. For example:
Industrial Development, Agricultural Development, Infrastructure, Education & Health etc.
(b) Non-Plan Expenditures: Include all those expenditures of the government that are not
included in the ongoing Five-Year Plan. They include both development and non-development
expenditure. Part of the expenditure is obligatory in nature e.g. interest payments, pensions etc.
and a part is essential obligation e.g. defence and internal security.
Causes forthe Increase in Public Expenditure
One of the most important features of the present century is the phenomenal growth of
public expenditure. Some of the important reasons for the growth of public expenditure are the
following.
1) Welfare state: Modern states are no more police states. They have to look in to the welfare of
the masses for which the state has to perform a number of functions. They have to create and
undertake employment opportunities, social security measures and other welfare activities. All
these require enormous expenditure.
2) Defence expenditure: Modern warfare is very expensive. Wars and possibilities of wars have
forced the nation to be always equipped with arms. This causes great amount of public
expenditure.

29
3) Growth of democracy: The form of democratic government is highly expensive. The conduct
of elections, maintenance of democratic institutions like legislatures etc. cause great expenditure.
4) Growth of population: tremendous growth of population necessitates enormous spending on
the part of the modern governments. For meeting the needs of the growing population more
educational institutions, food materials, hospitals, roads and other amenities of life are to be
provided.
5) Rise in price level: Rises in prices have considerably enhanced public expenditure in recent
years. Higher prices mean higher spending on the part of the govt. on items like payment of
salaries, purchase of goods and services and so on.
6) Expansion public sector: Counties aiming at socialistic pattern of society have to give more
importance to public sector. Consequent development of public sector enhances public
expenditure.
7) Development expenditure: for implementing developmental programs like Five Year Plans,
Modern governments are incurring huge expenditure.
8) Public debt: Along with debt rises the problem like payment of interest and repayment of the
principal amount. This results in an increase in public expenditure.
9) Grants and loans to state governments and UTs: It is an important feature of public
expenditure of the central government of India. The government provides assistance in the forms
of grants-in-aid and loans to the states and to the UTs (Union Territories).
10) Poverty alleviationprograms: As poverty ratio is high, huge amount of
Expenditure is required for implementing alleviation programmes.
PUBLIC DEBT
Among the non-tax sources, the major source of revenue of the government is public debt.
That is, borrowing. It may either be internal or external debts. When the government raises
revenue by borrowing from within the country, it is called internal debt. Similarly, if the
government is borrowing from the rest of the world, it is a case of external debt.
According to Philip E. Taylor, “The debt is the form of promises by the treasury to pay
to the holders of these promises a principal sum and in most instances interest on the principal.
Borrowing is resorted to provide funds for financing a current deficit.”
Objectives of public debt:
 To bridge the budget deficit (Deficit Financing)
 To fight against depression.
 To check inflation.
 To finance economic development.
 To meet unforeseen contingencies.
 An alternate source of income when taxable capacity is reached.
 To finance wars.
 To finance public enterprises.
 To carry out welfare programmes.
 To create infrastructure.
 For creation of productive assets.
 For creation of essential non-income yielding assets (provision of public goods)
Types of Public Debt

30
Government loans are of different kinds. They may differ in respect of time of repayment,
the purpose, and conditions of repayment, place of their floating and the method of covering the
liability. Thus public debt may be classified into following types.
Internal and External Debt: The internal loans are raised within the country and subscribed
mainly by its own citizens and/or institutions. It is repayable only in domestic currency. An
internal debt may be either voluntary or compulsory. Internal debt implies a redistribution of
income and wealth within the country and therefore it has no direct money burden. External loans
are raised from foreign countries or international institutions. These loans are repayable in
foreign currencies.
External loans help to take up various development programmes in developing and
underdeveloped countries. These loans are usually voluntary. An external loan involves, initially
a transfer of resources from foreign countries to the domestic country but when interest and
principal amount are being repaid a transfer of resources takes place in the reverse direction.
Voluntary and Compulsory debt: Public debts may be incurred through voluntary or
compulsory loans. Generally, public loans are voluntary in nature. In this case the government
makes an announcement regarding the floating of loans. This announcement may be
accompanied by some kind of publicity. The government floats a loan by issuing certificates,
bond, etc. Individuals, banks and other financial institutions lend to the government willingly by
purchasing these securities. On the other hand, compulsory loans are those which are raised by
using coercive methods.
A compulsory loan is a rare phenomenon in modern public finance unless there are some
special circumstances like war or crisis. The rate of interest on such loans may be low.
Considering the compulsion aspect, these loans resemble a tax, the only difference is that loans
are repaid but tax is not. In India, Compulsory Deposit Scheme is an example of compulsory
debt.
Productive and unproductive debts: Public debt is said to be productive when it is raised for
productive purposes and is used to add to the productive capacity of the economy. If the
borrowed money is invested in the construction of railways, irrigation projects, power
generations, etc. It adds to the productive capacity of the economy and also provides a continuous
flow of income to the government. The interest and principal amount is generally paid out of
income earned by the government from these projects.
Unproductive are those which do not add to the productive capacity of the economy. Such
debts are not necessarily self-liquidating. The interest and the principal amount may have to be
paid from other sources of revenue, generally from taxation, and therefore, such debts are a
burden on the community. Public debt used for war, famine relief, social services etc. is
considered as unproductive debt.
Tax Reform Committees And Its RecommendationOn Taxation
Tax reform is the process of changing the way taxes are collected or managed by the
government and is usually undertaken to improve tax administration or to provide economic or
social benefits. Tax reform can include reducing the level of taxation of all people by the
government, making the tax system more progressive or less progressive or simplifying the tax
system and making the system understandable or more accountable. Prior to the liberalization of
economy, India’s tax regime suffered numerous problems. The efforts to reform India’s tax
system began in mid 1980’s when government announced a long term fiscal policy, 1985.

31
Major tax reforms committees inIndia
 Wanchoo committee 1970
 L.K.Jha committee 1976
 S.C.Choksi committee 1977
 Raja Chellaiah committee 1991
 Rekhi committee 1993
 Kelkar commiittee 2002
Directtaxes Enquiry committee (WANCHOO COMMITTEE)
In March 1970, Ministry of finance, government of India appointed a committee headed
by Shri K.N. Wanchoo, retired Chief justice of India. This committee is popularly known as
“Direct taxes enquiry Committee”. The Committee submitted its final report n March 1972.
The Terms of reference were:
I) To Recommend effective measures to unearth black money and prevent tax evasion
II) To suggest measures for checking tax avoidance
III) To recommend suitable action for minimising the rise of arrears
IV) To examine various exemptions allowed under tax laws
V) To suggest ways of improvement in tax administration
Proposals:-
The principal findings and recommendations are described as under:-
1. Black money and tax evasion: - The concept of black money refers to the unaccounted
money or concealed income. The problem of tax evasion and black money are closely
inter-related and both affect the national income. Due to this reason, major portion of
money could not be utilised in the productive channels while it led to the erosion of
unproductive holding in the form of secret transactions.
The committee pointed out the following factors which are responsible for the problem. are
 Deterioration in moral standard
 Improper application of tax laws
 Interference of political parties
 Higher rates of taxation under the direct tax laws
 Corrupt business practices.
 Donations by trade and industry to political parties.
To fight against the evil of tax evasion and black money, following measures were recommended
i) Reduction in maximum marginal rate including surcharge from 97.95 percent to 75
percent
ii) The restrictions imposed on different commercial and industrial parties on giving
donations to political parties should be continued with effective implementations.
iii) Complete co-ordination between income-tax authorities and sales-tax authorities have
to be maintained and existing sales-tax should be replaced by additional excise duty
iv) The tax-payers would produce the return of expenditure along with the income-tax
return.
v) Agriculture income-tax must be taxed uniformly.
vi) The tax evasion and black money should be implemented more efficiently. The
government should appoint a committee to review the working of controls licences.
Vii) The committee recommended that every tax payer should be allotted a permanent
account number so that permanent record is maintained.
viii) Need to promote the social welfare of the general public in the country.

32
viii) The income-tax authorities should be empowered to visit and inspect the business
housed and factories in order to make surveys regarding cash, stock and account etc.
2. Tax Arrears :- Identifies the major factor responsible for heavy tax arrears
i) Administrative delays and red-tapism
ii) Bad debts are not declared as undesirable
iii) Unrealistic assessment of taxes
iv) Death of an assessee, liquidation of a company etc.
3. Exceptions and Deductions: The upper limit of estate duty should be extended from Rs.
50,000 to Rs.2,00,000. It was suggested that National development fund should be created
in which all tax-payers give voluntary contribution including deductions.
4. Checking tax avoidance :-
i) The income of a family consisting of husband, wife and minor children should not be
clubbed together for taxation purpose.
ii) To check the wealth tax, estate duty and gift tax, the committee made certain
suggestions e.g. the valuation of immovable property once done is not allowed to be
changed till five years
iii) The existing exemption with regard to non-recurring income or receipts should be
withdrawn such non-recurring receipts are like lotteries, Cross-word puzzles etc.
iv) The income exceeds minimum taxable income, and then progressive rate should be
imposed. Surcharge should also be imposed on such income.
5. Effective Administrative Policy: - Administrative machinery plays a prominent role in
the collection of taxes. Therefore, it is proposed that Central Board of Direct Taxed Should be
independent of the Ministry of Finance and the Income tax service should be treated at par with
IAS and officials should be given better status.
L.K. Jha Committee Report(Indirect taxes Enquiry Committee)
The GOI constituted ‘ Indirect taxes enquiry committee’ under the chairmanship of Shri.
L.K. Jha to examine the working of indirect taxes, specifically, union excise duties. The report
was a big volume containing 785 pages. This Committee was formulated to examine the working
of indirect taxes, specifically, union excise duties. It containing two part of reports. First part of
the report was submitted in January 1978 and second part of report was submitted in April 1978.
Main Recommendations- The main recommendations of the committee are: -
1. Sales tax:-
a) There should be a central legislation to bring about uniformity in the structure of
Sales- tax among all the states
b) Those goods which enter into inter-state trade transactions and whose prices are
determined at the national level should have one rate of Sale-tax throughout the country.
2. Value Added Tax: - Suggested that after the system of indirect taxes is rationalized value
added tax may be introduced in specified manufacturing units.
3. Octroi: - Useless and undesirable tax which blocks free movement of trade. Octroi on the
basis of raw materials, food products, capital goods etc . Puts heavy burden on the society, thus it
is not justifies.
4. Excise Duties: - It should be rationalized right from the first stage to the final stage. It was
suggested that the policy of differential rate of excise duty on industrial raw materials should be
withdrawn and a uniform rate should be adopted.

33
5. Import Duties: - Suggested to make a significant reduction in the imports of those goods
which would reduce the prices of essential goods. This would promote exports and improve upon
the balance of payment.
In short, the indirect taxes Enquiry Committee reported significance of rationalization,
uniformity and elasticity of resources which can be utilized for national welfare.
ChoksiCommittee Report
In June 1977, a five member committee was appointed to look into the working of direct
taxes machinery under the chairmanship of Shri N.A. Palkhiwala. Was sent to the USA as
Ambassador and Shri C.C. Choksi was appointed as Chairman of the Committee in his place.
This committee was formulated to examine the possibility of consolidating four direct
taxes-Income tax, surtax, wealth tax and gift tax and to suggest measures to rationalize and
simplify the tax structure.
The committee submitted the report in October 1978 in two volumes.
Recommendations of the report
i) A mutual confidence and good behavior between the assesses and assessors must be built up
so that the tax-payers voluntarily follow the tax laws.
ii) There must be one tax which may cover all four taxes Income tax, surtax, wealth tax and gift
tax
iii) Recommended that ‘Central Tax Court’ should be established at national level. Till such time
a court is constituted, Government of India should request to all high courts to appoint a separate
bench under their jurisdiction for early disposal of pending cases
iv) The level of consumption should not be accepted as a basis of levying income-tax
v) All recommendations made in the report should be implemented simultaneously
vi) The rates of income tax should be enlisted in a schedule to be attached to one fundamental
tax pertaining to direct tax instead of being determined by the parliament through passing a
financial bill every year.
(vii) The maximum rate of income-tax should be 60 percent and surtax should be merged with
this limit.
viii) All the exemptions and concessions as laid down in the sect in 10 of Indian income tax act
should be reviewed.
ix) All assesses should publicly be notified to fill u returns for submission to the tax authorities
by 30th June.
Raja Chellaiah committee 1991
The crisis of early 1990s, fiscal reforms were launched. Such reforms aimed at improving
efficiency, production, and competitiveness of Indian industries and imparting dynamism to the
overall growth process. In, 1991, The Government of India set up a high powered committee in
August 1991, under the chairmanship of the Dr. Raja J. Chellaiah, a noted Public Finance Expert,
to make recommendations for a comprehensive reform of the system of central taxes. It was
called the Tax Reforms Committee. The tax reform committee (TRC) was tasked to examine the
existing tax structure in the country and make sappropriate recommendation to reform in order to
make the system fair, broad based, elastic and more tax compliant. In its report submitted to the
Government in January 1993, it has made several recommendations for reforming India’s tax
structure.

34
The TRC advocated the adoption of a limited number of simple broad based taxes with
moderate and limited number of rates and with very few exemptions and deductions. In
reforming the country’s tax system, the TRC observed that the alarming scale of tax evasion i n.
India was due to high tax rates, complex procedures of filing returns, administrative lapses,
inefficiency and corruption.
With this approach, the TRC made recommendations for the reform of Direct Tax and
Indirect taxes in the country as follows
Recommendations of TRC-Direct Taxes: In formulating its proposals for reforming direct
taxes, the TRC’s approach was to build a fairly simple structure with:
i. Reasonable tax rates;
ii. Progressive Tax rates, yet not leading to tax evasion and not adversely affecting the
desire to work, save and invest; and
iii. Easy to enforce.
The recommendations of the TRC relating to direct taxes were as follows:
(1) Personal Income Tax: The Committee recommended a reduction in the top marginal rate to
40 per cent and adoption of a 3-tier slab system with an entry rate of 20 per cent and a top rate of
40 per cent (i.e., 20 per cent, 30 per cent and 40 per cent).
(a) Aggregation of minor’s income, other than wage income, with the income of the
parents.
(b) Abolition of tax concessions, rebates and allowances, under various incentives for
saving schemes.
(2) Wealth Tax: The TRC recommended the abolition of wealth tax on productive assets. Only
unproductive assets and socially undesirable forms of wealth were recommended to be taxed.
(3) Capital Gains Tax: The TRC suggested a moderate flat tax on long-term capital gains after
due indexation for inflation.
(4) Corporate Income Tax: The TRC recommended that the rate of tax be fixed at the same
level as the top marginal rate of personal income tax and a uniform rate be applied to all domestic
companies. It suggested a phased reduction of the corporate tax to 40 per cent and abolition of
surcharge on corporate tax.
The recommendations inrespect of the major central indirect taxes are as follows:
(1) Import Duties:
(a) It recommended a drastic overhauling of the system by suggesting a merger of the
regular and auxiliary duties;
(b) A phased reduction of extra-ordinarily high rates of import duties to a range of 15 per
cent to 30 per cent for manufactures and 50 per cent for certain agricultural items by 1997-
98;
(c) Reduction with the renewal of rates to 4 or 5; and
(d) Abolition of exemptions and special treatments.
(2) Union Excise Duties:
(a) The TRC recommended that the ultimate objective of Union Excise Reform should be
to make the excise tax system move towards a full-fledged Value Added Tax (VAT)
system, i.e. graded conversion of the Union Excise Tax into a genuine VAT.

35
(b) VAT is to be levied at only 3 rates-10 per cent, 15 per cent and 20 per cent for general
commodities.
(c) For non-essential commodities, the rates should be 30 per cent, 40 per cent and 50 per
cent.
(d) Reduction in’ the number of commodities enjoying exemptions.
Besides the above, the TRC suggested far reaching reforms of the system of tax
administration, simplifying the assessment and computational procedures so as to reduce the cost
of compliance.
Implementation of the TRC recommendations of direct and indirect tax:
Many of the recommendations of the TRC were carried-out by successive Finance
Ministers, starting with Dr. Manmohan Singh, the present Prime Minister.
In respect of Direct Taxes, the progress of implementation of TRC recommendations so far has
been as follows:
i. The direct tax structure has been greatly reformed;
ii. Personal Income tax has been restructured with lower tax rates, (id per cent, 20 per cent and 30
per cent), fewer scales, a higher exemption limit and reduced saving limit tax exemptions;
iii. There is now only rate of separate income tax for all domestic companies (30 per cent);
iv. Wealth tax on all assets, other than those termed as unproductive assets, has been abolished;
v. Taxation of capital gains has been restructured so that only capital gains of price increases
would be taxed; and
vi. Shift in the structure of taxes towards direct taxes (direct taxes to GDP ratio has increased to
5.7 per cent).
Implementation of the TRC recommendations in respect of indirect taxes is as follows:
i. Import duties have been reduced;
ii. The peak level of customs duty has been reduced to 10 per cent
iii. Reforms in the Excise Duties have been guided by the need to simplify the rate structure to:
(i) give some relief to articles of- mass consumption,
(ii) Help the domestic capital goods industry so as to increase “its competitiveness,
(iii) Reduce capital costs, assist industries suffering from depressed demand conditions and
(iv) Provide relief to small-scale industries;
iv. Till December 2005, VAT has been ad6pted by 25 states and Union Territories, uniformly
across all the states. A 3-rate structure-4 per cent 2.5 per cent and 1 per cent is adopted.
Service Tax: In addition to the reforming of the existing direct and indirect taxes, the TRC also
referred to Service Tax. The power to levy a tax on services in general is not mentioned either in
the Union list or State list. However, by virtue of entry 97 in the Union list which gives power to
the Centre for levy and collection of ‘any tax not mentioned in either of these lists’ (i.e. the Stare
list or the concurrent list), it is clear that the Union Legislatures is competent to levy indirect tax
on services.
The TRC suggested that, a few selected services should be subjected to tax. It suggested
that:

36
(i) Advertising services,
(ii) Services of stock Brokers,
(iii) Services of automobile insurance,
(iv) Services of insurance of residential property, personal effects and jewellery,
(v) Residential telephone services, be taxed.
RekhiCommittee (Committee Of Experts On Indirect Taxation)
A committee of experts was appointed under the chairmanship of Shri K.L. Rekhi to
evolve a common code of indirect taxes. The Committee submitted its interim Report in January
1993.
 It has recommended a common integrated code for customs and excise laws and a
unified customs and excise tariff based upon a harmonised system of
nomenclature.
 Input duty reliefs should also be extended to all inputs used in or in relation to the
manufacture of the said final product.
 It has sought to strengthen the appellate system so that it is able to tender quick
and effective justice to assesses. For this, it has recommended a single, high-
powered tribunal on the pattern of the central administrative.
 To settle areas of dispute and include industry participation in the decision taken,
the committee has proposed the constitution of an independent, high powered
advance ruling committee for giving its rulings on the classification of a
commodity.
 It has recommended the merger of basic and special excise duties.
 It has stated that deemed exports would be treated at par with actual exports
 It has recommended a time-bound decision on classification and price lists. Failing
which it will be deemed approved.
 The Committee has recommended continuing the internationally adopted
harmonised system of nomenclature.
Vijay. L. Kelkar Committee 2002
The reforms in the Indian tax system became imperative in the wake of structural
adjustment programmes and for the implementation of Fiscal Responsibility and Budget
Management Act. Accordingly the government of India constituted a Task Force on Direct taxes
by passing a resolution on 22 July 2002 under the Chairmanship of Dr. Vijay.L.Kelkar for the
continuation of the fiscal reforms initiated by Dr. Raja chellaiah committee in 1991 and make
recommendations inter alia for making the tax system more elastic, broad based and also to
suggest measures required for simplifying the existing laws and regulations to facilitate better
enforcement and compliance and to increase the tax to GDP ratio through world class fiscal
regime. Other committee members of the committee were SNL Agrawala, Omkar Goswami,
Aravind Sonde, Urjit Patel, Ananthanarayan, Dipankar Chaterji, Mohandas Pai, Paramar and
Majumdar.
The terms of reference of the committee were to examine and make recommendations on:

business taxation

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