ISSN (Print) - 0012-9976 | ISSN (Online) - 2349-8846
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Value Added Tax Scams and Introduction of the Goods and Services Tax

A Practitioner’s View

Raktim Dutta (raktimdutta@rediffmail.com) is and Binod Kumar (bkbinod@gmail.com) was with the Directorate of Commercial Taxes, West Bengal.

In the postcolonial era, tax reforms in many developing/emerging economies resorted to indirect taxes under the presumptions of broadening the tax base and achieving horizontal equity. But, leakage in the form of evasion had challenged the attainment of these objectives, and continues doing so even after half a century of constant churning by tax architects to arrive at an optimum solution. The ease of evasion is indicative of the gap in the “lab to land” transfer of technique. From a theoretical standpoint, the goods and services tax, based on the principles of value added tax, can potentially address much of the malaise afflicting VAT in a federal polity, and may also offer the desired bridge for an informal economy to move towards the realm of formalisation in the long run.

The authors acknowledge the anonymous reviewer of the journal for insightful comments.

Horizontal equity in the distribution of tax burden and broadening of the tax base form the two main purposes of indirect taxation, among other things (NCAER 2009). But, administering indirect taxes, especially determining the “point of levy” has been a tall call, almost ubiquitously. A commonly observed practice is to levy and collect the tax at a single point in the commodity value chain, such as the point of consumption. The retail sales tax (RST) in the United States (US); the ad valorem sales tax in India; or a comparable business tax in China are examples of such single point taxes. Though such a concept of single point levy is elementary both for understanding and administering, yet it has its intrinsic weaknesses too. First, due to the cascading effect of tax, the burden of taxation could be shifted disproportionately on the final consumers. Second, in many of the developing and transitional economies (DTEs), with a high concentration of informal economic activities at the consumption points, there is the potential risk of missing out tax at the final consumption point, leaving little scope to recover the same or reverse the process thereafter. The methods of tax evasion in a single point levy system have been the soft spots of tax reforms in India. Sales tax was sidestepped simply by taking the goods out of the chain right at the onset, with little chance of recovering it down the line. The additional challenge of such tampering lied in its potential of creating a parallel economy by keeping a substantial part of the value chain outside the vigil of any regulatory authority.

One way to deal with this problem was to shift to a multi-point tax regime, such as the value added tax (VAT), which could offer an all-in-one solution, particularly to DTEs where indirect tax evasion is a rampant occurrence. Apart from optimising the revenue yield, VAT was perceived to deal with various other incidental challenges such as the cascading effect of tax, rationalisation of taxing process, etc. However, after being practised for a while, VAT was alleged to exacerbate the malaise, which it was expected to address.

VAT Evasion and Fiscal Infraction

In a given value chain, VAT is levied on each transaction node, such that tax paid on purchase will be given a set-off (input tax credit) for that levied on the corresponding sales (output tax). Apart from the inherent issue of neutralising the cascading effect of tax, set-off/input tax credit can potentially ensure market-driven checks and balances or compliance regime that otherwise would have been difficult to achieve.

As the process of VAT envisaged the participation of transacting firms, it endeavoured to bring all corresponding nodes/entities automatically into the realm of formal economy by locating the relevant transaction node. This process was expected to generate a perfectly competitive environment wherein all participating trading entities would garner price advantage by lessening their tax burden. In a given chain, for each business-to-business (B2B) transaction node, the purchaser–seller duo would always have a diametrically opposite app­roach towards their respective tax liabilities. In a normative set-up a transacting seller would understate his sales to lessen tax liabilities; while the corresponding purchaser, with the same intent, will overstate purchases (to enhance input tax credit). This contrasting approach is set to ensure the incidence of taxation at every transaction node for a given value chain. The uniqueness and inherent strength of the VAT mechanism was perceived to lie in this dependence on the market-driven checks and balances mechanism in the main, rather than
administrative monitoring.

But, in reality, VAT failed to live up to these expectations of tax efficiency in India. Within a span of few years of its implementation, various loopholes became palpable (CAG 2010). It was widely accepted that the compliance gap1 for VAT was alarmingly high. The market-driven checks and balances did not work the way it was expected. After more than a decade and half of its implementation in India, it is widely believed that “we collect tax as much as we lose in the process.”

Managing evasion has the most challenging aspect of VAT not only in India, but also globally. In various other countries across the globe, certain inherent flaws afflicting the system from within came to the surface.

Carousel Fraud

Examples from the European Union (with a common market set-up involving multiple countries) revealed that carousel fraud had made a serious dent in the efficacy of VAT (Ainsworth 2006).2 Analyses show that such kind of fraud could be committed with impunity when the process of VAT is truncated. There is downright absence of single integrated chain right from production to consumption. With multiple authorities functioning in their respective section of the same value chain, the inter-sectoral connect is very fragile. This makes the entire system vulnerable.

According to Figure 1, company A (taxing jurisdiction I) exports at zero-rate to company B in another country (taxing jurisdiction II). Company B in turn sells the item to another company C in the same country charging VAT therein, and being a shell firm does not remit the collected tax to authority and simply goes missing after some time (sink hole). Company C may make another round of transaction of the same item to company D within the same country following the usual process of charging VAT. Finally, only if company D makes an export sale of the same item to company A in taxing jurisdiction I, again, and claims back the paid tax as set off (tax paid purchase followed by zero-rated export sales), then that will in effect make the refund of tax, otherwise lost in the first set on transactions, possible.

A Case of Carousal Fraud in India

Let us consider the example of Chinese mobile phones, which are imported through the Kolkata airport. This airport mainly caters to the hinterland of West Bengal stretching all the way to the “seven sister states” of North East India. Import/customs duties are realised before the goods are made “out of charge.” While importing these phones many firms come into play. They do the import on their accounts, pay customs duties, but then simply get away without remitting the due VAT to the state governments. A limited spectrum investigation revealed that during the financial years (FY) 2011–12 and 2012–13, import of mobile phones worth as much as ₹92 crore and ₹121 crore, respectively, through Kolkata airport went unreported to the state VAT authorities.

In India, customs duties are levied and collected by the central government, while all subsequent domestic trading of the same items attracts state-level VAT. But, there is hardly any connect between these two taxing authorities. For years the loss of state VATs was astounding. Since customs duties are levied upfront and realised before the goods are handed over to the importer, these are relatively secure. But, there were numerous cases of spurious firms making overseas imports, paying the obligatory union duties and then simply sidestepping state taxes by misutilising the lack of systemic connect between the two taxing authorities. These firms who might claim title of goods on paper (hide the real consignee in the process) only, eventually end up making all kinds of false declarations for example, stock transfer, central sales, export sales or sales prior to export3 to avail concessional tax and claim of exemption to ward off their on-paper tax liabilities.

To overcome such evasions, some kind of administrative machination was conceived, where the customs authority levied a special additional duty (SAD), besides the basic customs duty (BCD), to safeguard state revenue. The SAD was supposed to be refunded on proof of VAT payment to the state. No wonder, it compounded the issue further as spurious entities preferred paying one-time SAD in place of VAT and had never asked for refund of the same thereafter. Meaning, thereby SAD payment, which otherwise was supposed to be appropriated by the state authorities, remained in the union coffers with corresponding VAT shortfall at the states.

VAT Evasion in India

The entire process of tax on commodity value chain in India is broadly split up into the “production” and the “distributive trade” parts. Each part has its own VAT handle. The production VAT is monitored at the federal level and appropriated upfront, with the latter feature lending it some element of secured mobilisation. The real vagaries of non-observed economy play out in the case of administering distributive trade part of VAT (OECD 2002). The tax on the distributive trade part being origin-based4 in nature, does not allow crossflow of input tax credit between the state of origin and that of consumption (in case they are different). This disconnect between two operating VAT systems or for that matter between two tax authorities has given rise to a particular breed of manipulators who germinate to play with the system.

An administrative arrangement, incentivising a transparent declaration of transactions over contrived non-disclosure, was envisaged to establish the desired linkage of transactions bet­ween multiple tax authorities. Thus, in a given commodity chain, transacting dealers belonging to two separate provincial authorities, had the provision of availing concessional rates of tax by procuring statutory declarations/certificates from the relevant authorities. But, in practice, traders were found to hide its own identity and outsource statutory declaration/certificates from other entities, probably to get the benefits by bypassing the rigmaroles of administrative procedures. This gave rise to a particular breed of shell firms that facilitate the process of camouflaging the actual traders. The former formed a well-entrenched “racket,” where a large number of bogus firms is created to manipulate the title of goods in the first place and then follow it up by making fake transactions amongst them to outwit easy systemic detection.

Broadly, two types of racketeering are observed. One that mani­pulates “inter-VAT” operations, and the other that manoeuvres “intra-VAT” transactions. In both cases, the schemers would essentially obfuscate the title of goods right at the onset, so that all subsequent VAT, which would have otherwise accrued, simply falls through. They create false transactions on paper and manoeuvre accounts-related adjustment amongst the involved shell firms. The racketeers take taxable goods out of the VAT chain, provide false invoices to the traders (here beneficiaries), thereby enabling them to hike their purchases and hence the input tax credit.

Identity Fraud

The concept of “identity fraud” was coined in an International Monetary Fund (IMF) publication titled “The Modern VAT” (Ebrill et al 2001). The Organisation for Economic Co-operation and Development or OECD (2008) pointed out that VAT-related fraud not only leads to evasion but also large-scale money laundering. The blueprint for “identity fraud” is that the masterminds would operate incognito through fake firms opened in the name of pseudo-entities (often by theft of identity). These entities are essentially fly-by-night operators and would go missing (akin to the missing link in the case of carousal fraud) whenever apprehended. Even in the digital regime, the racketeer challenges online surveillance by operating as a “cartel” of fake firms.

One way to confront the challenge could be to rob the racketeers off the exemption facilities offered by the taxation system that they play with. For example, in case of transaction taking place between two inter-VAT authorities, where the consignee makes online declarations (waybill) and follows-up with the exchange of online statutory forms (consignee generating C-forms), the racketeers leverage their position by generating such online declaration/certificates/forms to facilitate transactions on behalf of the actual traders. Taking off such certification facilities in general, might render them redundant for the traders; and crumble their market power. Traders, can pass on the hassles of procedural compliance unto the racketeers, with the attendant benefit of concealment of identity from the taxing authorities for tax evasion/exemption. In lieu of such benefits they need to pay a commission to the racketeers, which is often less than the actual taxes that a trader would otherwise end up paying.

In India, a common practice among shopkeepers has been to delink their actual trading activity from accounting procedures by not issuing bills/invoice per transaction. Instead, their periodical return and the taxes are the only amounts they have usually shared with the authority to impart a semblance of sanctity to their business activity. There has been little scope for post facto verification as the system could not capture any information of the stock of goods that exchanged hands in the market in the first place. Needless to mention, this practice being largely unchallenged, has spelled the demise of the VAT system and is susceptible to substantial amount of tax evasion. Experiences on the ground reflect that almost all the traders registered with the tax regulators and who do not maintain a secured accounting procedure indulge in the kind of pervading practice that has turned into virtual rule than exception.

Transit Declaration Scam for VAT Evasion

Transit Declaration (TD)5had become a handy tool to divert the title of goods. As the commodity moving with TD had little revenue bearing for the corridor state where the TD was generated, the regulators remained less watchful. This made it easier for the schemers to physically offload the goods in the state, and then make a false declaration (TD) to divert the title even to another state. The real trader (here in the corridor state), who actually receives the goods and deals in it, escapes the vigil of tax authority for all times to come. The virtual consignee (receives the goods on paper as per the TD) holds on to the title and may do all kinds of manoeuvring to escape tax liability. See Figure 2 (p 54) for illustration.

Waybill/Bill Scam for VAT Evasion

The most widespread and critical variant for tax evasion that fiddles with the system is the waybill or bill racketeering. Contrary to the theoretical standing of market-driven checks and balances in the system, an attempt was made to link interstate transactions through statutory forms of tax concessions that would incentivise transacting entities on the tax fronts to maintain the connect between different tax jurisdictions. Such admini­strative manoeuvring, however, has its own limitation. In the absence of real-time systemic monitoring, this front becomes a veritable minefield for all kinds of scheming and fraud. Few such situations are discussed below.

Situation I: Differential tax rates in consignor and consignee states: Spices is one such commodity that has differential tax rates in different states. This created substantial latitude to tweak with the system. In many states of western India like Gujarat, Madhya Pradesh, etc, where commonly used spices like jeera, souf, dhania, posto were grown, the items were made “tax-free.”6 As per the system, there was no compulsion for the consignee to exchange statutory forms (so as to enjoy concessional rates of tax in the case of interstate transactions). Hence, there was no mechanism to connect two independent VAT regime (origin and destination states) either.

In such cases, it was seen that the identity of the consignor and even the prices of the items7 were easily altered in altogether forged invoices to lessen the tax liability in the destination states. In such forged invoices, the title of the consignee was diverted to the racketeers, to spare the actual consignee (Figure 3).

This led to a bizarre situation. As the title got obfuscated right at the onset of a fresh VAT chain (destination state), tax on all subsequent section of the chain simply fell through. The items being non-taxable in the consignor state precluded the exchange of statutory forms and hence the scope for instantaneous cross-verification. In the absence of such linkage, there was hardly any trail left for a system-driven verification mechanism to be in place to detect regularly and pull back the practice.

In the Indian context, trading on commodity specific (such as spices, groundnuts, dry chillies, etc), wholesale markets (mandis), the main trading operations are regulated by intermediaries, namely the brokers/agents. Even for interstate transactions, they call the shots. Actual traders would only function through these entities, literally not knowing other functionaries of the chain that exist on paper. Even transporters and other operators, related to commodity but not connected with VAT per se get involved in the lucrative process. The process makes a mockery of the entire VAT chain and a parallel economy thrives, not to mention the incredible worth of evasion that results in.

Situation II: Similar tax rates in origin and destination states: Consider the example of mustard oil, which is evenly taxed in either of the origin and destination states. As per the provisions of law, both the items—spices and mustard oil—being taxable in the destination state of West Bengal, required waybill8 to be issued by the consignee for making entry in the state. However, unlike spices, for mustard oil, being taxable in the origin state as well, the consignee has to generate certificates and declarations9(known as C-forms in common parlance) under the Central Sales Tax Act (CST Act) so as to enable the participants in the transactions to avail the concessional rate of tax under the act and thereby establish the desired connect between two subnational VAT authorities merely by administrative means.

Experience on the ground, however, revealed that such administrative intervention had done little to counter extensive attempt of the various schemers to sidestep tax authority and evade easily. In any given set-up, the racketeers achieved their twin agenda to maintain the VAT-related administrative procedures (exchange of statutory forms, etc) on the one hand and also to lessen the tax burden, simply by diverting the title of goods right at the onset of the new VAT chain. They did so by hatching a number of shell firms in the consignee state (local), showed similar but false intra-state purchase from them, followed by interstate (central) sales10again to bogus entities and avail concessional rates of tax. This created an inverted duty structure (purchase at higher rate and disposal at lower) and hence positive input tax credit that was utilised to offset their output tax liability owing to forged diversion of title Figure 4 (p 55).

There were cases where the racketeers went one step ahead for diverting the reverse title. They often did an interesting manoeuvring to get the statutory forms from dealers of other states who even might not belong to the same racket. An exa­mple is the case of rice bran oil, produced locally in West Bengal at household level. The item has good market elsewhere outside the state. Being from unregistered dealers, interstate sales of such oils would not fetch concessional tax to the producer. The racketeers came into play and performed a kind of arbitrage by arranging to make interstate sales of the locally produced rice bran oil under the garb of edible oil, as if the same mustard oil, procured from outside had been so sold (see Figure 4 for illustrations).

Once the racketeer shell firm got the title of mustard oil on paper, they were in a position to lend invoices. They did so as if to show disposal of the same mustard oil but as edible oil to cover for rice bran variant, which the actual unregistered local producers could never do to support for their interstate movement. Such scheming would fetch concessional rate in tax (central sales/stock transfer) to the local producer (otherwise was never entitled). The recipient firms in the consignee state (might or might not be a part of the cartel) received the oil and hence did not mind issuing statutory forms to complete the circuit.

Here again, the want of proper identity of the items and that of the traders facilitated the process right under the nose of ­authority. It was a double-edged weapon. On the one hand, the tax on mustard oil sold locally was spared (being taken out of the chain); while on the other, the CST that accrued on interstate sales of the locally produced types like rice bran oil was also successfully escaped.

Situation III: Higher local taxes: The above process becomes more attractive for items where the local tax rate is higher. For example, clinker is an item used as the basic raw material in manufacturing cement. It attracted a higher rate of tax. Title obfuscation right at the onset of VAT chain would necessarily offer twin advantage to the schemers. The goods went out of the VAT chain, but as the item was basically industrial raw material, if any manufacturer could successfully hide its consumption, the cement throughput got veiled as a result. This helped the manufacturer to dodge both the central excise and state VAT duties in succession. The shell firms, holding on to the title of clinker on paper, would then act as ­“invoice mills,” as they were in a position to issue invoice to those firms in the same cartel who intended to hike up their intra-state purchases to claim set-off (false input tax). This was mostly followed by interstate sales/stock transfer, that is, disposal at concessional or zero rate resulting in a hefty input tax credit11 in favour of the shell firms to make substantial adjustment on their tax liability.

Leveraging on Input Tax Credit

As we have seen, in case of VAT at subnational level, tax set-off did not take place for purchases from outside the state,12 while such credit is available when items are sold outside the state. False purchase locally at higher rates followed by interstate sales at concessional rate would theoretically offer a huge buffer for tax in credit that may easily offset bulk of the liability for many such shell firms in the racket that came to hold on to the title of goods “on paper” to camouflage the actual trader.

Input Tax Fraud at Manufacturer’s Level

In a dominantly informal sector (Harris-White 2002), a manufacturer has to procure a good part of raw material from unregistered suppliers, which does not fetch him the desired input tax credit. The racketeers treaded in to provide the fake invoices to fill in this gap. For their service they charged a part of the input tax credit so created, as “commission.” To impart legitimacy, the payment was also routed through formal banking channel to the racketeer, who in turn transferred the consideration “in cash” to the actual supplier (see Figure 5, p 56 for details). As a result, rather than formalising the various constituent of the non-observed economy, the process kept feeding into them.

Input Tax Fraud at Retailer’s Level

Consumption-based indirect tax would enunciate that input tax credit will terminate at the point of threshold or consumption. The racketeers would not like to let that tax element even at the retail/consumption point to go. The tax collected at the consumption point, too, may be amortised and the title of goods diverted to the racketeer, who then rolled the same title back to the system by way of issuing false invoice and the same circuit followed all over again. This is a kind of “greenhouse effect” of input tax credit that refused to go from the system (Figure 6).

Detection of VAT Fraud

There was little scope for systemic detection of such false declarations, as it entailed another VAT authority (by way of claim of interstate sales) and precluded any kind of real-time verification. In a way the “input credit on tax” so created became “a cheque written on the government.” The regular digital vigil did little to contain such rampant practise taking place. It was circumvented in the maze of transactions amongst the cartel that generally complied with the basic VAT formalities.

Recently, however, an investigation of a representative sample of traders (mix of genuine and shell firms) dealing in various evasion-prone items, was conducted in West Bengal, in order to locate the contours of racketeering.13 To start with, an account of interstate procurement of such taxable items made by these traders was examined, primarily from their own waybill declarations, generally made online. West Bengal is a net consumer of many of such items. Thus, most of the procurement was done from outside and being interstate in nature, such transactions were not entitled for any input tax credit. Since the item reckoned a tax rate of 5%, going by the normative trend, the tax-to-procurement ratio14 would be close to the figure.

Findings from the West Bengal Case Study

Findings from the investigation revealed that a substantial proportion of the respondent firms had a tax-to-procurement ratio even less than 1%. Sensing gross infraction, returns15of such firms were inquired to ascertain the veracity of their claims for exemption/concessions (for example, stock transfer/central sales, etc). An elementary cross-verification brought out that such claims were all false. In the wake of such inquiry findings, online facilities for waybill/C-forms were put off.

Subsequently, further investigation brought out that these traders, having low tax-to-procurement ratio, were mostly pseudo-existent shell firms and were part of an entrenched racket. The actual operator in the entire exercise had successfully remained incognito behind such pawns. It was extremely difficult to locate the main players without a thorough surveillance tool at hand. And, for large-scale operations being regularly played out, the task for the tax regulators was otherwise impossibly high.

However, a simple withdrawal of such online waybill and statutory forms facilities, in bulk, did hit back the racketeers hard. As a result, in an utterly competitive trading environment, without the online facilities, the cartel was practically left high and dry. More importantly, what the regulators’ eye could not locate was that the market looking for the benefits would, without exception, pounce on the racketeers, especially the masterminds, once the facilities are put off, even it they lurked underneath.

Thus, instead of tax regulators doing the chasing job, if the onus of restricting the racketeers, is given to the market, the resultant effect seemed formidable. Theoretically considering, this market-driven checks and balances mechanism was also the primary premise on which the entire edifice of VAT kind of indirect tax was supposed to stand on.

Business parameters of certain key players of the commodity specific (mustard oil and spices) sectors of West Bengal were studied before and after the investigation, and subsequent actions. The findings buttressed the severe dent created by the racketeers in overall tax mobilisation effort. To start with, business volume and the tax throughput of prominent players of the sector were studied. Similar studies were made on the detected racketeers against whom certain preventive actions were taken. 

Waybill Utilisation and Tax Evasion by Racketeers

While estimating the tax impact, prominent racketeers operating furtively in the market were reckoned. Their tax behaviour, before and after the preventive actions were studied in terms of notional evasion and tax-to-procurement ratio. Though good many such racketeers were weeded out in the process, for the empirical study, a sample size of 25 such firms was taken going by their dominant business volume. It is seen that once the racketeers were robbed of the online waybill/C-form facility, the notional evasion carried out by them declined and the corresponding rise in the overall tax-to-procurement ratio was literally spectacular (Figure 7). More interestingly, the contribution of racketeers in the trade itself came down appreciably, as was seen from their waybill utilisation. And, few of such racketeers, desperate to keep their foothold on the market, stayed put just to live through the intense revenue vigil. Their tax performance improved reasonably, going by lesser waybill usage but with relatively higher tax payment (Figure 8).

Waybill Usage and Tax Payment by Regular Oil Merchants

Tax behaviour for a sample size of 30 most prominent oil ­merchants in West Bengal were considered, before and after the investigation and preventive actions. Their tax behaviour was then studied in greater detail. It was seen that the usage of waybill had increased appreciably for all the traders (who actually deal in the item). But, interestingly, correlation between the usage of waybill and that of tax were starkly different. A section of the oil merchants had reasonable increase in tax throughput along with rise in waybill usage (Figure 9). But, for the latter the tax throughput stagnated in spite of a rise in waybill usage of others (Figure 10). Verification of returns of such latter traders (as in Figure 10) brought out that when the waybill supply of the racketeers dried up, these traders adopted what the racketeers actually practised. They started claiming the exemption/concessions in tax themselves by similar way of false declarations on transactions.

Socio-economic Implications of VAT Fraud

Besides the common refrain of “uneven business competition” or “informalisation” that tax-related maladies are prone to bring in, fault lines in VAT operations did something more serious rather covertly. When the tax-related entitlements/incentives were adeptly garnered by the firms which were essentially spurious in nature, the identity of goods and that of the operators were simply camouflaged under the garb of these pseudo-operators. The title of money, too, got diluted, leading to an influx of “dirty money.” This was the cause of real concern.

Analysis of these practises revealed that the moment goods and their titles were delinked from the corresponding consideration, the innate remedial measures offered by the system crumbled and hosts of socio-economic ramification might take over. The basic scope to stash “dirty money” in the system primarily began with the delinking of goods from its actual owner and the tax beneficiaries. The VAT-related scheming, thus, in many a time was the starting point for a bigger fraud to follow. More importantly, linking “dirty money” somehow with goods was likely to spare both from early systemic detection. No doubt that a truncated VAT only facilitated the process. Again, when the title of goods was successfully hidden, maintenance of quality index, especially for items of mass consumption, be it food such as spices/oil or that of items connected with public safety, for example, clinker (for cement), took a heavy beating.

GST as the Panacea

It is certain that any kind of administrative intervention would not be a fair process of surveillance in the realm of indirect tax (Rao 2000). Again, market-driven checks that VAT methods theoretically looked for will not function in case of any federally truncated taxation system in place. Maintenance of input tax credit all through the B2B transaction chain, so as to incentivise transacting entities into compliance, was unrealisable, even conceptually, in an origin-based tax set-up. To cover the existing lacunae, hosts of small and ad hoc taxes had to be introduced, leading to a cycle of multiplicity of taxes and woes about higher consumer prices.

In India, the evolution of goods and services tax (GST) took place with an outlook to integrate more than one operational VAT model for the commodity value chain—be it on the production or the distributive trade part.

A “destination-based” GST can potentially mitigate this gap by enabling continuance of input tax credit across the entire transaction chain, cutting through multiple tax authorities. This would not only fortify a market-driven tab on every transaction in a given chain, but expected to gravitate the transacting entities in the chain and thereby spelling success for the entire process. The improvised concept of integrated goods and services tax (IGST) in “destination-based” tax can, in fact, bring about the much-needed cross-utilisation of input credit of tax beyond taxing authorities, while the concept of reverse charge mechanism tries to connect an apparently disconnected VAT circuit into completion. The seamless integration of more than one and different VAT regime into a single chain, connected with input tax credit, right from production to consumption, literally plugs the yawning gaps of a disjointed VAT, utilised previously by the schemers to unsettle the entire system to its conceived failure.

The GST’s pursuit to locate transacting entity and that of item (by HSN/SAC16) has got the necessary ingredients to rein in the process of racketeering to a fair extent. The available management information systems have already shown signs of formidable digital intervention, as it offers the handle to latch onto the black sheep of the system subsequently, but very surely.

Conclusions

One important takeaway of the series of investigation findings, and the ways and means to administer indirect tax is the grim reality to contain “identity fraud” in the system. The GST, to a fair extent, seems to have laid down not only the basic turf but also quite a few important milestones to follow. Initial hiccups of digital regimentation apart, it is fairly apparent that tax compliance mechanism may hardly be shrouded in confusion of the past. Rather, from now on, it will be a definitive drive towards more formalisation by increased use of information technology tools. For example, the use of portable identity concept in the form of Aadhaar in GST paraphernalia is potent enough to sound the death knell for the identity obfuscators who tend to play with the system. And, the more the real players lose faith in the manipulators; they may find it beneficial to remain in the authorised value chain than outside, thus spelling success for the system.

Notes

1 Compliance gap an empirical measure for underpayment of tax.

2 Carousel fraud, a very dominant form of VAT evasion practised in European Union, particularly in the United Kingdom (UK), involves companies placed in multiple countries and operating in league to utilise the systemic lacunae, not only to evade VAT, but to siphon the payable (but unpaid) tax out of the system in the form of refund on zero-rated ­export (Ainsworth 2006). So alarmed and affected (reportedly 14% tax fall in the UK on account of carousel fraud) was the Union that they came out with the solution as Digital VAT (DVAT) as a part of the Lisbon Strategy.

3 Stock transfer is zero-rated in the transferor state, central sales attracts concessional tax rate for the seller, export sales and that prior to export are again zero-rated for the seller.

4 Where the tax is levied and appropriated by the authority under whom the goods have originated.

5 Such declaration is made (these days electronically) for states which are used as corridor in course of movement of taxable goods.

6 Producer state, to incentivise production makes the item tax exempt.

7 Since there is little scope for cross-verification, forged invoices are generated randomly and undervaluation of items done with ease.

8 Waybill is a declaration made on the part of consignee stating therein the general details of the consignment procured from outside the state. Such declaration helps in surveillance for the revenue and serves the purpose of locating the likely tax for the consignee state.

9 In case interstate trade, to secure the continuity of the commodity value chain, concessional rates of tax is conceived between two registered dealers. Thus, consignor avails lesser rate of tax subject to consignee issuing such statutory forms under CST Act.

10 Claim of local purchase offers tax set off and this followed by interstate sales at concessional tax accrues net input tax credit by which the actual tax liability is mitigated.

11 Multiple false transactions are done to confound the tax authority in tracking the real beneficiary. Racketeers make sure that no mismatch occurs in such transactions so that digital
surveillance may link up subsequently.

12 VAT at the subnational level is origin-based taxation system. Thus, in case of interstate purchase, tax levied goes to the consignor state; hence, the idea of tax set-off is not available at the consignee state. However, in case of interstate sales purchase in the consignor state provides the input credit.

13 Rajib Maity, Deputy Commissioner, Commercial Taxes, West Bengal, was closely associated with the investigation on tax evasion that threw up startling findings on VAT related racket.

14 Tax-to-procurement ratio is an empirical study of procurement of taxable goods and tax
proceeds on its disposal, is considered to be a broad measure for tax-related compliance for any system.

15 All registered dealers are to furnish transaction details, business figures with the tax regulators periodically. These days they do it online, and management information systems (MIS) reports derived from such database offer a credible reflection of the business and the corresponding tax patterns for any authority.

16 HSN–Harmonised System of Nomenclature and SAC–Services Accounting Code are the
accepted methods to codify goods and services respectively.

References

Ainsworth, R T (2006): “Carousel Fraud in the EU: A Digital VAT Solution,” Tax Notes International,
1 May, Vol 42, No 5, pp 443–48.

CAG (2010): Implementation of Value Added Tax
in India, Lessons for Transitions to Goods and Services Tax: A Study Report
, Comptroller and Auditor General, Government of India, June.

Ebrill, L, M Keen l, J P Bordin and V Summers (2001): The Modern VAT,” International Monetary Fund (IMF).

GoI (2011): Report of the Technology Advisory Group for Unique Projects (TAGUP), Ministry of Finance, Government of India, New Delhi, January.

Harris-White, Barbara (2002): “India’s Informal Economy, Facing the 21st Century,” Indian Economy Conference, Cornwell University, April.

Keen, M and Stephen Smith (2007): “VAT Fraud and ­Evasion: What Do We Know and What Can Be Done?,” International Monetary Fund (IMF), WP/07/31.

NCAER (2009): Moving to Goods and Services Tax in India: Impact on India’s Growth and International Trade, Report by the National Council of Applied Economic Research Prepared for the Thirteenth Finance Commission, Government of India, December.

OECD (2002): “Measuring a Non-observed Economy: A Handbook,” Organisation of Economic Co-operation and Development.

— (2008): Applying VAT/GST to Cross Border Trade in Services and Intangibles, Emerging Concepts for Defining Place of Taxation, Centre for Tax Policy and Administration, Organisation of Economic Co-operation and Development, Working Party No 9 on Consumption Taxation, January.

Rao, Govinda M (2000):Tax Reforms in India: Achievements and Challenges,” Asia Pacific
Development Journal
, Vol 7, No 2.

Updated On : 2nd Nov, 2018

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