When It Comes to Taxes, the Fortune is at the Bottom of the Pyramid - Vivek Kaul's Diary
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When It Comes to Taxes, the Fortune is at the Bottom of the Pyramid

May 13, 2016

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Sometime back the Income Tax department released some detailed data about the income tax returns filed during the assessment year 2012-2013. The income tax returns for the income earned during the financial year 2011-2012 were filed during the assessment year 2012-2013. The department released some other data points as well.

I had hoped I won't write anymore columns around the data, but then that is not how things have turned out to be.

One of the interesting data points that I wrote extensively about was that in the assessment year 2012-2013, only around 2.88 crore individuals filed income tax returns. Of this number, around 1.62 crore did not pay any income tax. Only the remaining 1.26 crore individuals paid some amount of tax.

Of this number, around 1.11 crore paid a total amount of income tax upto Rs 1.5 lakh. The average income tax paid by these individuals was at around Rs 21,068. Of course, the median amount of income tax paid would be even lower.

The interesting thing is that even though the average income tax paid by these individuals was low, the total income tax paid, added up to a substantial Rs 23,446 crore. This was by far the highest amount paid by any category of taxpayers.

The next highest amount of tax was collected from individuals who paid income tax in the range of Rs 5.5 lakh to Rs 9.5 lakh. Around 1.79 lakh individuals fell in this category and paid a total income tax of Rs 12,580 crore. The average income tax paid worked out to around Rs 7.04 lakh. While at an average level this was substantially higher than the income tax paid by those paying tax of up to Rs 1.5 lakh, on the whole it was lower.

What does this mean? This essentially means that when it comes to income tax there is a fortune waiting for the government at the bottom of the pyramid. The term "fortune at the bottom of the pyramid" was coined by management guru CK Prahalad in a book of the same name.


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In this book, Prahalad looked at the distribution of wealth and the capacity to generate incomes in the form of an economic pyramid. As he wrote: "At the top of the pyramid are the wealthy, with numerous opportunities for generating high levels of income. More than 4 billion people live at the bottom of the pyramid on less than $2 per day."

Prahalad's book was about these people and he felt that the "dominant assumption is that the poor have no purchasing power and, therefore, do not represent a viable market." This he believed was incorrect and went on to show through various examples that even those earning less than $2 per day and can add up to substantial market size.

Along similar lines, those paying an income tax of less than Rs 1.5 lakh can also end up paying a substantial amount of income tax in total, though individually the income tax that they pay is low.

Hence, there is a lot of money that the government can collect at the lower end as income tax. This is a point that was made even in the most recent Economic Survey, released in February earlier this year. Take a look at the following chart.

05132016-Vivek-DRChart

What does this tell us? It shows very clearly that the basic tax exemption limit, only above which an income tax has to be paid, has risen at a much faster rate than the per capita income in India. As the Survey points out: "We can calculate in some sense the "missing taxpayers" in India-not those who are evading taxes altogether or under-reporting taxes but those who have legitimately gone under the tax radar due to "generous" government policy."

What does this calculation tell us? Or to put it simply who are these missing taxpayers? These are those taxpayers who got left out because the basic exemption limit beyond which an income tax has to be paid has been raised from the level of Rs 1.5 lakh in 2008-2009. It currently stands at Rs 2.5 lakh.

If this threshold had not been raised as rapidly as it was, the government's income tax collections would have gone up tremendously.

As the Economic Survey points out: "We ask how many taxpayers there would have been in 2012-13 if the threshold had been maintained at Rs. 1,50,000 (the threshold limit in 2008-09). We find that there would have been an additional 1.65 crore units incorporated within the taxation system (an addition of about 39.5 percent) and tax revenues would have been about R31,500 crores greater. India's tax-GDP would have increased by 0.32 per cent just by not having raised the threshold so generously."

In fact, the Survey also points out that there is a lot that India can learn from China on this front. As it points out: "[The] Chinese success in bringing more citizens into the individual income tax net owes to setting a reasonable threshold for paying taxes and not changing it unduly. In contrast, in India, exemption thresholds for income taxes have been consistently raised. In fact, as Figure 7 [the chart shared above] shows, thresholds have been raised much more rapidly than underlying income growth so that today, the wedge between average income and the threshold has widened."

The finance ministers who increased the tax exemption limit knew what they were doing. They were basically playing to the gallery. But the loss of taxes on this front was more than made up for through first through a higher service tax rate and now through various cesses like Swacch Bharat Cess and Krishi Kalyan Cess.

Of course, indirect taxes are in the end paid by everybody, even those who are not a part of the formal sector. In that sense, it was only fair on those paying income tax.

It is worth remembering that in economics there are no free lunches. If the government gives from one hand it takes away from another.

Disclosure: The basic idea for this column came after reading R Jagannathan's column Why Nicking The Non-Poor May Yield More Tax Than Just Mugging The Rich on SwarajyaMag.com

Vivek Kaul is the Editor of the Diary and The Vivek Kaul Letter. Vivek is a writer who has worked at senior positions with the Daily News and Analysis (DNA) and The Economic Times, in the past. He is the author of the Easy Money trilogy. The latest book in the trilogy Easy Money: The Greatest Ponzi Scheme Ever and How It Is Set to Destroy the Global Financial System was published in March 2015. The books were bestsellers on Amazon. His writing has also appeared in The Times of India, The Hindu, The Hindu Business Line, Business World, Business Today, India Today, Business Standard, Forbes India, Deccan Chronicle, The Asian Age, Mutual Fund Insight, Wealth Insight, Swarajya, Bangalore Mirror among others.

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8 Responses to "When It Comes to Taxes, the Fortune is at the Bottom of the Pyramid"

Dev

May 13, 2016

Dear Vivek,

Good article.
I think one need to look at cost of collection aspect also here before reaching to conclusion. It would be interesting to know the cost of collection of taxes from 1.11 cr. people whose average payout is 21,000.

This may help in understanding the reason of increasing the basic threshold as minister may see what is the point of doing extra collection if govt need to spend same or more money for collection.

Like 

sethu

May 13, 2016

this is some thing taxing Agri income.there quite number of farmers are not able to have even 2 meals.but at the same time there are people in the name of farmers looting the public finance in the name of subsidy.this is india.

Like 

o.p.goyal

May 13, 2016

9414057635
There looks to be a basic problem in approach. Why government wants to collect more taxes? In fact the attempt should be to collect bare minimum taxes and keep governmental expenditure to minimum. The problem with the economists is that they want to increase governmental spending by suggesting to have higher taxes. It should be other way round. Lower taxes means batter tax compliance, generation of less black money and more spending by he consumer which is much more efficient than government spending as government spending is accompanied by lot of corruption.

Like 

Penugonda Prabhakar

May 13, 2016

iam Penugonda Prabhakar not guru, not swarjaya, not Jagannath who its wrong fellows not enter in our business. Cheating Persons. Not sensex, not Nifty, in Agora research under doing business. shears and stocks and also.

yours Lovely
Penugonda Prabhakar

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Sashikumar

May 13, 2016

Income tax in our country is not equitable. You can see individuals having 100 times more income and
wealth than you paying 100 times less tax than you. Income tax department threatens and penalizes small taxpayers especially salaried class but allow big and the influential to go scot free. Direct taxes should be abolished because it is partial and biased. Experts should sit and come out with
a more efficient and equitable taxation policy. This will help us to curb black money and will increase domestic money supply which in turn will help to induce economic growth.

Like 

AB Pereira

May 13, 2016

Appears a load of rubbish! This analysis and conclusion by VK! Its strange to compare the increased exemption level to the rise or otherwise of per capita income! IT exemption limits are raised keeping in view the level of expenditure incurred by the citizen, or the tax payer. It is the cost inflation index one has to see when you exempt small income earners from tax. On that basis alone, the basic exemption limit should have been greater than 5 lakhs, not 2.5 lakhs as is present.
VK, Please stick to advising the govt to unearth black money, both within and outside the country, through the innumerable real estate, gold & jewellery and FII/FDI PN routes used by the tax evaders to launder money. That is where the fortune lies, and you can call that as 'below the bottom of the pyramid' (namely, the underground!)

Like (1)

LAKSHMINARAYANAN

May 13, 2016

Sir,

I read all your writings on the data arrived from Income TAX dept. I feel that is not holistic and a particular point of view. Though the previous writings were not that serious, I would like to tell you that today, you might have over thought about raising the IT limit for individuals.

It was a shocking that a person of your caliber has written these words.

We need to think about the cost of living, esp. in Metro cities and with 2.5L annual income, it is almost hand to mouth for a normal family of 4 members and there is not much enough saving any individual can do.

So irrespective of the loss (in not collecting more tax), we need to see whom to tax.

Today, most of the traders, small to big have lot of loopholes to hide money they earned. There are no data available to track them and get the tax.

I believe, if everyone pays tax honestly, we can raise the limits to much higher.

Thanks
N.Lakshminarayanan

Like (1)

R.Ramesh

May 13, 2016

Boss. You are analysing small persons who are left out. You should tell the Govt to catch all the big fish who do not pay tax at all. Please do not talk of salaried class beggers(Govt takes away everything and he has only Langoti to wear).

Like (1)
  
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