In India, significant changes have taken place in the last one decade regarding the contribution of the indirect and direct taxes to the total taxes collections. In 1990-91, the share of direct taxes (income tax and corporate tax mainly) was 19.1% and it grew to 37.6% in 2001-02.
The general level of prosperity in the country is increasing making more people have taxable incomes. Also, when companies are growing in number and also in their profitability, corporate tax collections increases.
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Apart from the above two reasons, the government’s measures as given below also helped increase the direct tax collections.
i. Reduction of peak rates;
ii. Reduction in the number of rates;
iii. Strengthening the administration;
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iv. Simplification of laws (Saral etc.);
v. Promotion of voluntary compliance;
vi. Widening the tax net with 1 out of 6 policies etc.
At the same time, indirect tax collections as a proportion are decreasing because of the reduced rates-peak customs duty is 30% (union Budget 2002-03) and the basic CENVAT is 16%. In 1990-91, the share of indirect taxes was 75.4% and it decreased to 61.8% in 2001-02.
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The increase in the relative share of direct tax collections shows that the tax system is becoming more progressive as direct taxes are paid by the well off in general while the indirect taxes are paid equally by all consumers. It is generally believed, direct taxation is the most equitable and efficient form of raising revenue.
Direct taxes can be used to promote growth with equity by providing tax incentives in high technology and export sectors. Direct taxes help in income distribution. Decline in the relative share of indirect taxes is also seen as good because it promotes the competitive nature of Indian economy. In developed countries, direct taxes contribute more to the tax collections.
In the recent past, a number of structural changes covering both direct and indirect taxes were undertaken. Overall tax reforms, since July 1991 has helped in correcting the imbalance in the structure of revenue sources.
Prior to reforms, high direct tax rates did not yield high collections. Reducing the marginal rates of taxation has resulted in increase in direct tax collection. The share of direct tax to total revenue has increased to about 28% in 1994-95 from about 19% in 1990-91. Another healthy trend is the drop in the share of custom, revenue in total tax revenue from 36% to 29% during the same period.