There is a figure on the number of people who submit income tax returns, and there is a parallel figure on the number of people who pay income taxes. The latter is smaller than the former, and with a country of India’s size, both figures should be higher. Direct taxes are inherently superior to indirect taxes, and the share of direct taxes to total taxes should be higher.
There are several reasons why such numbers aren’t higher, evasion being one. But there are two other reasons—exemptions and non-taxation of agricultural income. The former is part of the Union Budget, and the latter isn’t. The latter is part of State Budgets or should be. The Seventh Schedule demarcates such matters. Entry 82 in the Union List mentions taxes other than agricultural income, while Entry 46 in the State List mentions taxes on agricultural income. Whether agricultural income should be taxed or not is for state governments to decide. Let’s say 45% of the labour force (the figure varies a bit) is employed in agriculture. As a rough indication, we keep 45% of the labour force outside the income tax net. The argument that farmers are poor won’t wash. Are all farmers poor? That can’t be true. Income taxes must be paid if one’s income is above a threshold, irrespective of whether one is a farmer. The poor will be exempt, regardless of whether they are in agriculture.
At this time of the year, we should remember James Wilson, not because he established The Economist magazine and Chartered Bank of India, Australia and China (which later became Standard Chartered Bank). He was the first Finance Member of the Viceroy’s Executive Council. We should remember him because he was the first to present a budget. He also introduced the Income Tax Act of 1860. Are farmers poorer now than they were in 1860? Clearly not. The 1860 legislation taxed agricultural income, of course, above a threshold. All those income tax provisions were meant to be temporary (five years), and they eventually lapsed.
Those who develop apoplexy at the mention of taxing agricultural income should read the report of the Indian Taxation Enquiry Committee (1924–25). I will give a longish quote since it is educational on history and equity issues.
“It will thus be seen that, in the first instance, agricultural incomes were assessed to income tax and that when the income tax was replaced by a license tax, they were assessed to a corresponding burden in the shape of a cess. It was the continuing existence of this corresponding burden that was responsible for their exemption in the Act of 1886. The corresponding burden has now been removed under a system under which there is no charge on the land except the land revenue and the local rate. Consequently, there is nothing in the history of the case to justify the continued exemption of this class of income from the income tax, and this is a circumstance which was recognised by more than one prominent non-official in the debate on the proposal made in 1918 that incomes from agriculture should be taken into account in determining the rate at which the income tax was to be levied on incomes from other sources. The consideration of the bearing of this question upon the equitable distribution of the burden of taxation is apt to be confused by arguments relating to the poorest of those who derive their living from the land and especially to the cultivators of uneconomic holdings. There is no doubt that, under the system of fractionation of holdings which prevails in India, the difficulties of the poorest cultivators are considerable, but this is a question which has no concern whatever with the question of imposition of income-tax upon incomes from agriculture. The income tax is imposed only on incomes over Rs.2,000.”
Every contemporary counter-argument was discussed threadbare and rebutted. In 1932, the Federal Finance Committee of the Round Table Conference and its report had a view that was no different.
That was a colonial period. Are farmers poorer now than they were in 1947? This, too, is meant to be a rhetorical question. If so, why did we have Agricultural Income Tax Acts in Bihar (1938), Assam (1939), Bengal (1944), Orissa (1948), Uttar Pradesh (1948), Hyderabad (1950), Travancore and Cochin (1951), Madras and Old Mysore State (1955)? Note that in the present geographical compositions, many states retain these statutes and their successors. Except for Karnataka, they haven’t repealed these. They do tax some kinds of agricultural income, especially plantations.
Post-Independence, several committees have recommended taxation of agricultural income—Report of the Taxation Enquiry Commission (1953–54), Raj Committee on Taxation of Agricultural Wealth and Income (1972), Fourth Five-Year Plan (1969–74), Report of Fifth Finance Commission (1969), Tax Reforms Committee (1991), Kelkar Task Force on Direct Taxes (2002), White Paper on Black Money (2012) and Tax Administration Reform Commission (2014). They have also listed anomalies that arise.
First, the laundering of non-agricultural income as agricultural income and consequent evasion and litigation. Second, laundering is not only done by individual farmers but also by the corporate sector. (CAG reports highlight both these points.) Second, lack of credibility about the way states issue “farmer” certificates. Third, violation of horizontal and vertical equity principles.
These arguments are incontestable. But let’s ask a different question. Until the 1960s, we generally (not just economists and committees) seemed to accept the idea that agricultural income should be taxed. But since the 1970s, this has transformed into a proposal that raises blood pressure. What accounts for the change?
As the Green Revolution spread, I suspect the answer is the political clout that pressure groups of large farmers came to represent. Perversely, agricultural prosperity, not penury, led to agriculture not being taxed. As in other areas of agricultural policy, policies that benefit large farmers started to masquerade as policies for farmers. This does sound like a sweeping generalisation. But I can think of no better explanation. Which states are most luxury cars sold in? This may be an imperfect surrogate indicator, but it does tell us something.
If there are villages in India that have been described as the richest villages on Earth, and we don’t tax agricultural income, something doesn’t sound right. To state it directly, it is wrong.
Bibek Debroy
Chairman, Economic Advisory Council to the PM