Tax Notices in India: Truth speaks volumes

Speaking truth needs a great courage. Kudos to Revenue Secretary Mr. Sanjay Malhotra who dared to speak the truth in his speech at Foundation Day celebration of Directorate of Revenue Intelligence. He suggested that the income tax department should not kill the golden goose with high pitch tax notices. The terms golden goose, killer and weapons are axiomatic. The call comes on the back of the fact that India ranks world number one in pending direct tax notices with current notices for $2.4 trillion (Rupees 20 lakhs crores).

Income tax started as a short-term solution for British Government in year 1860 to meet the expenses incurred to face people’s revolt. In due course, the income tax became a regular source of income for the governments. At present, the Income tax contribution to GDP is about 12% which is almost the highest ever and the lowest was 3% in year 2003. However, the income tax to GDP in India is much lower than that of the United States which has 25% and China which has 20%.

India had 97.75% income tax in year 1964-65 and has seen gradual decline in the average income tax rate before it increased to the present 43% higher slab rate. Income tax rates of India are the highest among comparable developing countries. But there are developed countries such as Japan, Finland, Denmark, Sweden, and Israel which have income tax rates between 50% to 60%. The countries with higher income tax rate have very high social security mechanisms, free health facilities, and high-quality public infrastructure. There is no income tax in countries such as United Arab Emirates, Bahamas, Qatar, Bahrain, Hong Kong, Kuwait, etc which also have high quality public infrastructure.

Countries such as Australia, Canada, United Kingdom, New Zealand, Singapore, and Germany have very few income tax litigation cases. These countries have low level of income tax litigations because the taxpayers are happy to pay their income tax, and the tax system is also unambiguous.

The highest ever corporate income taxpayer in India is Reliance Industries Ltd which paid Rs. 21,000 crs income tax in year 2022-23. In individual category, Shah Rukh Khan stood as the highest ever individual income taxpayer having paid Rs. 92 crs in year 2023-24.

Interestingly, income tax raids rank among the top 3 hot news in India. It is surprising that about 98% of the income tax raid cases have income tax litigations and following an income tax raid, only a miniscule taxpayers pay the demanded tax without litigation. Naturally the raids are mostly on business persons or film stars. Nayanathara, Samantha Ruth Prabhu, Priyanka Chopra, and Katrina Kaif are among the popular heroines, and Thalapathy Vijay, Sonu Sood, Mammooty, and Mohanlal are the popular heroes who faced income tax raids.

It is estimated that about 500,000 direct tax cases are pending in various appellate forums in India. The highest ever income tax notice and litigated amount was in the case of Vodafone Group with Rs. 22,100 crs in year 2010. At present, in India the total amount of income tax in litigation is Rs. 35 trillion which is 73% of total Union Budget 2024-25.

There are incidents of persons dying due to income tax raids, few of them as publicly reported from Maharashtra and Madhya Pradesh. The average time of income tax litigation in India is about 8 years. Huge amounts are incurred by the assesses and the department on the litigation which is a negative expenditure. The cost-collection ratio of income tax in India is stated below 1%, but the overall department costs and overheads are understood to be 10% of the total income collection.

Many companies have cash flow problems to pay income tax by the due dates. Good number of companies with accounting profits do not have positive cashflow from operations to pay income tax. The companies with negative cashflow from operations include Bajaj Finance, Mahindra & Mahindra, Grasim, IndusInd Bank, etc.

More than the income tax litigation, what should concern India is majority are not happy taxpayers. They pay either because of the system’s advance deduction mechanism leaving little flexibility, or to avoid tax terrorism, or because of fear of high penalties and prolonged litigation.

The speech of none other than the Revenue Secretary speaks volumes about the need to reduce ambiguity, tax litigations, and the resultant adverse aspects. Can the policy makers and the income tax department implement the suggestion of the Revenue Secretary to go slow on income tax notices? Can the ambiguity in the tax provisions be minimized? Can the practical difficulties of the assessees be considered? Until another such truthful statement is heard, the questions remain subdued.

Disclaimer: Dr. Kishore Nuthalapati is an Economist. He is one of the supporters of Income Tax system in India and has contributed several inputs to the department over the past two decades. The views shared above are personal, without prejudice, and do not reflect those of any of the organizations he is or was associated with.