MODULE 2

INDIAN TAX SYSTEM

Indian Tax System
The Indian tax structure is important because it is the largest source of income for the
government of India. The projects for the development of the nation are done with the help of
money collected from the taxes. The Indian tax structure has a three-tier federal system. The tax
structure consists of the central government, state government, and municipal bodies. Taxes are
imposed on people by the government to generate finance for the development projects to boost
the economy of the country which will help in raising the standard of living of the citizens. The
payment of taxes has multiple benefits like better infrastructure, which will lead to the
development of the nation, upliftment of society, and welfare activities for the nation. The Indian
tax structure is a well-organized three-tier tax structure consisting of the central government,
state government, and local municipal bodies. It divides the tax structure into mainly two types,
1) direct tax and 2) indirect tax.
Features of Indian Tax Structure
1. The Scientific Division of Tax Powers:
India being a federation, there is the existence of a multi-level finance system. The
constitution of India forms the basis of division of powers into: (a) Union (b) State and(c)
Municipal Bodies.
Based on the constitution there is a division of tax powers between the center and the
states. The area and sphere of taxation of center and state is clearly demarcated as per
constitutional provision. Tax is in the purview of 50 percent of its revenue the central
government. Some taxes are again levied by the Central government and the proceeds of such
taxes are divided between the center and the state governments.
2. Multiplicity of Tax Structure:
India is having a broad based and extensive tax structure. Its main feature is the existence
of multiplicity of taxes. There are both union government taxes and state government taxes. The
tax structure includes both dried and indirect taxes. In the case of states indirect taxes play a
dominant role, in the composition of tax revenue. Among the direct taxes imposed in India, the
most important is income tax. Other prominent taxes are wealth tax capital gains tax, gift tax etc.
The indirect taxes in India Consists of various taxes like excise duties, customs duties,
etc. The most important taxes levied by the union government are income tax, corporation tax,
central excise duties, wealth tax, gift tax, custom duties etc. The state governments main taxes
are land revenue, sale tax, state excise duties entertainment tax, stamp and registration duties etc.

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3. Larger share of Indirect Taxes:
In India in the total tax revenue there is the domination of indirect taxes over direct
taxes.It is because of the undeveloped character of the economy and glaring inequality in
income, the scope of direct taxes is limited.
4. Greater Importance to Sate Government in Federal Fiscal System:
In Indian fiscal federalism much importance is assigned to state governments. The field
within which tax revenue, are raised and spend regularly is very wide in India when compared to
many federal governments. This reflects the importance of state government in our federal
system. This is because of the growing responsibilities of the state government in the discharge
of developmental activities.
5. Incidence of Taxation:
In India the incidence of taxation is much higher in urban areas than in rural areas this is
because of the predominance of agriculture in rural area and low income of rural households.
The urban population depends more on service and business sector and enjoys comparatively
higher income and taxpaying capacity.
6. Progressiveness in Tax Structure:
Indian tax structure is framed in such a way that all indices of ability to pay is taxed. The
direct tax is framed in such a way that as tax base increases, tax rate also rises sharply. Excise
duties are levied and collected discriminately, depending on the type of commodity and the class
of consumers.
7. Narrow Base:
Fiscal experts opine that the tax base is very narrow in India in the case of both direct
and indirect taxes. A planning commission estimate shows that only one percent of working
population comes under the preview of direct tax.
8. Complexity of Indian Tax Laws:
With the intension of broad based tax system, a plethora of changes have been
introduced in the tax structure. However both direct and Indirect tax laws are highly complex,
with a lot of loopholes which enable the people to avoid as well as to evade taxes. Integration
between Centre and Sate Revenue: After independence concrete efforts were made to organize
the tax structure scientifically in tune with the requirements of a federal set of government.
At present there is well-organized machinery for the collection distribution and
expenditure of the revenue. Now the tax system is well structured to generate sufficient revenue
to meet the requirements of development objectives.
However we can point out a number of short comings in Indian tax structure. The main
objective of taxation is to reduce glaring inequality in income distribution. But in spite of having
a multiplicity of taxes covering different income source base, the tax machinery failed to reduce

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the income inequality considerably. This is a serious short coming of our tax system. The
accumulated tax arrears, the parallel economy nourished by black money shows the flows in our
tax system. The un-coordinated inefficient and corrupt tax machinery is pin- point to the
deficiency in our tax system.
To overcome these defects the government of India over time appointed different taxation
commissions. These commissions were appointed to detect and analyses the defects and to
suggest suitable recommendations. The Taxation Enquiry commission Report (1953),
Prof.Kaldors proposal for tax reforms (1956), The MahavirTyagi Committee Report
(1958), Wanchoo Committee Report (1970) Raj Committee Report on Agricultural taxation
(1972), Indirect Tax Enquiry Committee Report (1976), Chokshi Direct Taxation Committee
Report (1977) are some important measures adopted by the central government to rationalize and
revitalize the Indian tax structure.
After 1990, in lieu with the economic reforms and structural adjustment programs, the
central government initiated concrete efforts to rationalize the tax structure. The appointment of
Dr. Raja J. Chelliah committee, popularly called the Tax Reform Committee, was a bold step to
reform the Indian Tax structure in tune with the changing economic scenario.
Historical Perspective of Taxation in India

Taxation in Ancient India

 In ancient India, most of the taxes were levied either on the sale and purchase of
merchandise or livestock and were collected in a haphazard manner from time to time.
 However, the system of direct taxation emerged later. There are references both in Manu
Smriti and Arthasastra to a variety of tax measures. However, there were no taxes
which were levied directly on income.
Manusmriti on Taxation

 According to Manusmriti, there was a well planned taxation system in which traders and
artisans had to pay 1/5th of their profits in silver and gold, while the agriculturists were to
pay 1/6th, 1/8th and 1/10th of their produce depending upon their circumstances.
 Similarly, taxes were also levied on various classes of people like actors, dancers, singers
and even dancing girls. Taxes were paid in the shape of gold-coins, cattle, grains, raw-
materials and also by rendering personal service.
Arthashastra:

 Kautilya's Arthasastra provides a well described form and hierarchy of taxation.

According to it, collection of land revenue formed an important source of revenue to the
Mauryan State.

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  The State collected one-sixth of the tax on agricultural produce, levied water tax, octroi
duties, tolls and customs duties. Taxation was also applied on forest produce, mining of
metals and extraction of Salt.
 Levies called ‘Vartanam’ and import duty called ‘Dvarodaya’ was collected from
importers from neighbouring countries such as China and Ceylon.
 Income Tax constituted a major form of tax collection during the Mauryan administration
which was collected from dancers, musicians, actors and dancing girls, etc.
 Pilgrimage taxation called ‘Yatravetana’, gambling tax and sales tax on sale and
purchase of buildings was also levied by the Mauryan administration.
Taxation during Gupta Era

The Gupta era is called the golden period of Indian history as it witnessed different
developments in the form of art and architecture and administration. There were different types
of taxes which were imposed during this period creating huge revenue.

 Kalpita/ Upkilpta: This was sales tax which was imposed during the Gupta period.
 Halivakar/ Halidanda: This was a tax which was levied during the cultivation.
 Prataya: Toll tax levied during the Gupta Period.
 Bhog: It was the King's share of total agricultural produce.
 Bhatta: It was ‘Police Tax’ levied during Gupta Period.
 Similarly other types of taxes such as Security Tax (Chat), Grazing Tax (Charashna), Tax
on special produce Tax on special produce (Hiranya) e.t.c. was taken.
 Gupta rulers also levied taxes on irrigation (Bedakbhog), navigation tax and Tax for
measurement of land (Rajju).
 The volume of taxation during the Gupta period laid the foundation of one of the
mightiest empires of ancient Indian history which widely saw the development of trade,
cities and culture.
Taxation in Medieval India

The Medieval period saw the emergence of two most developed centralized
administrations in the form of ‘Delhi Sultanate’ and ‘Mughals. These two empires imposed a
variety of taxes on their subjects.

Delhi Sultanate

 Khiraj: Land revenue, also called ‘Khiraj’, was the major source of income
during the Sultanate Period. It was generally realized at 1/5 of the total produce,

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 though the Sultans like Ala-ud-Din Khilji and Muhammed Tughlak raised it to
1/2 of the produce.
 Jazia: The Jazia Tax was levied on the Non-Muslims. However, children, women
and friars were exempted from its payment. It was realized at the rate of 10 to 40
takas depending on the payer’s income.
 Octroi Duty: This duty was levied on the exchange and transportation of commercial
goods which included import tax on imported goods.
 Zakat: It was a minimal amount of tax which was levied on Muslims only during the
sultanate period.
 Ghari Tax: It was a house tax which was imposed by Allauddin Khilji.
 Chari Tax: This tax was also introduced by Alauddin Khilji and was levied on pastures.
 Water Tax or Irrigation tax: This tax was introduced by Firoz-Shah Tughlaq. This tax
was known as Haque-i-Sharb or Hasil-i-Sharb and was dedicated for construction of a
series of canals.
Reforms in taxation during the Mughal era

 The taxation during the Mughal era was partially based on the old system as inherited
from the Sultanate era. But there were some remarkable reforms which were introduced
by Akbar during this period.
 Todarmal Bandobast: This system, also called ‘Ain-i-Dahsala, was introduced during
Akbar's reign. It was based on average of the produce and prices during the last ten years.
It shielded the cultivators from crop failures by demanding average tax over a period.
 Batai: Batai or ghallabakshi (crop-sharing) system was also introduced by Akbar where
the crops were reaped and taxation was taken in the form of physical crops. It was of
three types:
 Bhaoli: Crops were stacked after reaping and were divided between tax collector and
taxpayer.
 Khet Batai: Land was divided and crops grown were taken by respective parties.
 Lang Batai: Grain obtained from crops was divided among parties.
 Nasaq: This system of land revenue was assessed during the Akbar’s time and the
peasant was given remission in the land revenue if crops failed on account of drought,
floods, etc.
 Jagirdari System: This system was based on ‘Jagirs’ or parcels of land which were
given to ‘Jagirdars’ and they were entitled to collect and pay revenue to the Mughal
administration.

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Taxation System under Marathas

 Chauth: Chauth’ was essentially a military contribution which paid toward any attack of
the Marhatas. It was ¼ of revenues of the district invaded by Maratha raiders.
 Sardeshmukhi: Sardeshmukhi was an additional 10% tax which was collected directly
by the central administration of the Marathas.
Historical Back Ground of Income Tax In India
In India Income Tax was introduced for the first time in 1860 by Sir James Wilson ( British
Indian first Finance Minister) in order to meet the losses sustained by the government on
account of the Military Mutiny of 1857. To fill the treasury, the first Income Tax was
introduced in February 1860.The act received the assent of the governor-general on 24th July
1860 and came into effect immediately. The Income Tax Act 1961 has been brought into
force with 1st April, 1962 including Jammu & Kashmir. Earlier it was divided into 21 Parts
with 259 sections but presently in this Act, we have 298 Sections, various sub sections & 14
Schedules and Income Tax Rules 1962.

PRE-INDEPENDENCE (Before 1947 ) POST-INDEPENDENCE (After 1947 )

Based on-British Income Tax Act Indian Income Tax Act 1961

Main objectives to meet the financial An important source of Income

difficulties arises due to revolution(Military Reducing disparities and Inequalities
Mutiny) Capital formation

In 1886, separate Income–Tax Act was Due to very complicated and in numerable
passed .This act was remained in force amendments (Indian Income Tax Act). The
upto1917with various amendments from government of India, referred it to the Law
time to time. Commission in 1956 with a view to
simplifying and for the prevention of tax
evasion

Provisions of imposing taxes on 4 Heads

including Agricultural Income.eg. The Law Commission submitted its report in
September 1958 but in the mean time the
i.Salary and Pension government of India had appointed the Direct
Taxes Administration Enquiry Committee to
ii. Interest and Securities suggest measures to minimize inconveniences
to Assesses and to prevent evasion of tax.

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iii. Income from Land and Property
including agricultural income

iv. Income from Business or Profession

Agricultural Income was taxed for the first Committee (DTAEC ) submitted its report in
time in India 1959 and then in the basis of report of the
committee in consultation with the ministry of
law finally the Indian Income –Tax Act was
passed in 1961

Amended in 1863,1867,1871,1873, 1878 & Since 1962, several amendments of far-

1880 reaching nature have been made in the Income
Tax Act by the Finance Act every year

Till 1885 Income Tax could not became the The rates of income tax and various other
main source of revenue of Govt. of India. In rates are revised by the Finance Act which is
1886 with big restructuring the income tax passed every year by the Parliament.
law and new Income TaxAct1886 was
passed with following important additions,
corrections and amendments.eg
i.Agricultural Income --Exempted Present Indian Income Tax Act 1961, Income
Tax Rules 1962, Finance Act 2019 and 2020
ii. Company’s Profits were included have been amended, passed by the legislation
Under tax purview at flat rate. on the basis of suggestions of various
committees.
Again it was amended in 1903, 1916 and
1917.

AmendmentsinTaxationLawsActweremadein1
In 1918 a new Income Tax Act was passed 962,1965,1967,1970,1972,1975,1978,1984,19
and again it was replaced by another new 86,1991and 2006
Act which was passed in 1922.This act was
remained in force up to the assessment
year1961-62with numerous amendments. AmendmentsinIndianIncomeTaxActweremad
ein1963,1965,1972,1973,1976,1981,1986,198
9,1996,1997and1998

Although in Amendments in Direct Tax Laws were made

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 1955-56 under the chairmanship of in
Dr.Mahavir Tyagi to evaluate this act and to 1964,1974,1987and1989
suggest suitable changes a “Taxation
Enquiry Committee“ under leadership of
John Mathai was setup and amendments
were made but duet complexities and In1970,1977,1991-92,1996and2009-
impracticability of 10variousEnquiriesCommittee’swereconstitut
The act could not be minimized edtomaketheAppraisalofexistingprovisionsofI
ncomeTaxActonthebasisofvariousgroundrealit
ies.TheseCommittee’sare—

1970-Direct Tax Enquiry Committee

(Chairman-Dr.K.N.Wanchoo)

1977-Choksi Committee(Chairman-Sri
C.S.Choksi)

1991-92-ChailleyaCommittee(Chairman-Raja
Chaillya)

1996-ExpertGroup (Chairman-
Dr.AmreshBagechi)

2009-10-The Direct Tax Code (This DTC was

proposed by the Finance Minister of India
Mr.Pranab Mukherjee.)

Taxes during British Rule