Introduction to Taxation in India

Tax is a compulsory financial charge or levy imposed by the government on individuals,

businesses, and other entities to generate revenue for public purposes. It is one of the primary
sources of government income, used to fund essential services such as education, healthcare,
defense, infrastructure, and welfare programs.
The concept of taxation is based on the principle of "paying according to one’s ability" and the
idea that citizens contribute a portion of their income or wealth for the development and
functioning of the state.
Taxes are broadly classified into:
1. Direct Taxes – Paid directly to the government by individuals or organizations (e.g.,
income tax, wealth tax).
2. Indirect Taxes – Collected through goods and services (e.g., GST, customs duty, excise
duty).
What is Tax?
 Tax is a compulsory payment made by individuals and businesses to the government.
 It is collected to fund public services like roads, schools, hospitals, defense, etc.
 No direct benefit is given to the taxpayer in return, but society benefits as a whole.
Definition of Tax
Tax is a compulsory payment made by individuals or organizations to the government, without
expecting any direct return, for meeting public expenses and welfare needs.
Brief History of Taxation in India
1. Ancient Period
o References found in Manusmriti and Arthashastra by Kautilya.
o Kings collected taxes in the form of agricultural produce, trade, and labor.
o Concept of “one-sixth of produce” as tax was common.
2. Medieval Period
o Taxes mainly on land, agriculture, and trade.
o During Mughal rule, land revenue was the chief source of income (Todarmal’s
revenue system under Akbar).
3. British Period
o Introduced systematic tax structure.
o Income Tax Act of 1860 introduced by Sir James Wilson.
o Heavy taxes on agriculture, land, and salt (Salt Tax led to protests by Gandhi in
1930).
4. Post-Independence (After 1947)
o India adopted a progressive taxation system.
o Direct and indirect taxes introduced for welfare and development.
o Goods and Services Tax (GST) launched in 2017, creating a unified tax system.
Characteristics of Taxes
1.Compulsory Payment – Tax is mandatory; no one can refuse it.
2.No Direct Return – The taxpayer does not get direct benefits for what they pay.
3.Imposed by Government Only – Only the government has the authority to levy taxes.
4.Used for Public Welfare – Money collected is spent on schools, hospitals, defense,
roads, etc.
5. Based on Law – Taxes are imposed under legal provisions (like the Income Tax Act,
GST Act).
6. Regular Source of Revenue – Taxes are the main income for the government.
7. Based on Ability to Pay – Higher income or wealth means higher tax (progressive
system).
8. Non-Punitive – Tax is not a fine or penalty; it is for development.
Objectives of Taxes

Raise Revenue – To collect money for government expenses like schools,

hospitals, defense, etc.

Public Welfare – To provide facilities like roads, water, electricity, health, and
education.

Reduce Inequality – Higher tax on rich and lower on poor (progressive

system).

Control Inflation – Taxes can reduce extra spending when prices rise.

Encourage Savings & Investment – Tax benefits motivate people to save and
invest.

Economic Growth – Tax money is used for development projects and

industries.

Regulate Consumption – High tax on harmful goods (like alcohol, tobacco)

discourages their use.

Need of Taxation
1. Revenue for Government
o Main source of government income.
o Used to run administration, pay salaries, and maintain law & order.
2. Public Welfare
o Funds schools, hospitals, transport, and social welfare schemes.
o Supports weaker sections of society.
3. Economic Development
o Tax money is invested in infrastructure (roads, bridges, railways, airports).
o Promotes industries, agriculture, and employment.
4. Reducing Inequality
o Through progressive taxes, rich pay more and poor pay less.
 o Helps in fair distribution of wealth.
5. Price Stability
o By changing tax rates, government can control inflation and deflation.
6. National Security
o Taxes provide funds for defense, police, and disaster management.
7. Promoting Social Justice
o Used for pensions, subsidies, rural development, and welfare schemes.
Classification of Taxes
1. On the Basis of Payment
Direct Taxes
Paid directly by individuals/organizations to the government.
Burden cannot be shifted.
Example: Income Tax, Wealth Tax, Corporate Tax.
Indirect Taxes

Paid indirectly through goods and services.

Burden can be shifted from seller to buyer.
Example: GST, Customs Duty, Excise Duty.

2. On the Basis of Rate

Proportional Tax
Same rate of tax for all, regardless of income.
Example: Corporate tax at a fixed rate.
Progressive Tax
Higher income → higher rate of tax.
Reduces inequality.
Example: Income Tax slabs.
Regressive Tax
Same amount of tax, but affects poor more than rich.
Example: Indirect taxes like GST on essential goods.
Degressive Tax
Rate increases up to a limit, then becomes constant.
3. On the Basis of Purpose
Revenue Tax → To raise money for government (e.g., Income Tax).
Regulatory Tax → To control activities (e.g., High import duty to restrict foreign
goods).
✅ In short:
Direct vs Indirect (based on payment).
Proportional, Progressive, Regressive, Degressive (based on rate).
Revenue vs Regulatory (based on purpose).
Constitutional Provisions for Taxation in India
1. Basic Principle
 Article 265 → “No tax shall be levied or collected except by authority of law.”
✅ Means government cannot charge tax without passing a law.

2. Division of Taxing Powers (Seventh Schedule)

The Constitution divides powers between Union & State:
 Union List (Centre’s Taxes): Income tax (non-agricultural), Customs duty, Excise duty,
Corporation tax.
 State List (State’s Taxes): Agricultural income tax, Land revenue, State excise, Taxes
on vehicles, electricity, etc.
 Concurrent List: No independent taxing power.

3. Distribution of Revenues (Articles 268–281)

 Art. 268 → Duties levied by Union, collected by States (e.g., Stamp duties).
 Art. 269 → Taxes levied & collected by Union, but given to States (e.g., Inter-state
trade).
 Art. 270 → Taxes shared between Union & States (e.g., Income tax, GST).
 Art. 275 → Grants-in-aid from Union to States.
 Art. 280 → Finance Commission recommends how revenue is shared.

4. GST Provisions (101st Amendment, 2016)

 Art. 246A → Centre & States can levy GST.
 Art. 269A → GST on inter-state trade collected by Union, shared with States.
 Art. 279A → GST Council established.

✅ In Short:
 Art. 265 → No tax without law.
 Seventh Schedule → Division of taxing powers.
 Art. 268–281 → Revenue distribution.
 Art. 246A, 269A, 279A → GST framework.

Pre-GST Scenario in India

1. Taxes Levied Before GST
 Central Government Taxes:
o Excise Duty (on manufacture of goods)
 o Customs Duty (on imports/exports)
o Service Tax (on services)
o Central Sales Tax (on inter-state sale)
o Cesses & Surcharges
 State Government Taxes:
o VAT (Value Added Tax on goods)
o State Excise Duty (alcohol, liquor)
o Entry Tax, Octroi, Purchase Tax
o Entertainment Tax, Luxury Tax, Betting & Gambling Tax

2. Key Features of Pre-GST Tax System

 Multiple Taxes: Separate levies by Centre & States.
 Cascading Effect (Tax on Tax): No set-off between central & state taxes.
 Lack of Uniformity: Different states had different VAT rates.
 Complex Compliance: Businesses had to file returns under multiple laws.
 Higher Prices: Multiple layers of taxes increased cost to consumers.

3. Need for Reform (Why GST was Introduced)

 To simplify the indirect tax system.
 To avoid “tax on tax” effect.
 To create a single national market with uniform tax rates.
 To improve transparency and ease of doing business.

✅ In Short:
Before GST → Many different indirect taxes (Excise, VAT, Service tax, etc.) → Complex
system → Higher costs → Cascading effect.

Post-GST Scenario in India

1. One Nation, One Tax
 Multiple indirect taxes replaced by a single unified tax: GST (Goods and Services Tax).
 Applies to supply of goods & services (except alcohol, petroleum, etc.).

2. Structure of GST
 CGST (Central GST): Collected by Centre on intra-state supply.
 SGST (State GST): Collected by State on intra-state supply.
 IGST (Integrated GST): Collected by Centre on inter-state supply & imports (later
shared with States).
3. Key Features
 Uniform Tax Rate: Same rates across India.
 Elimination of Cascading Effect: Input Tax Credit (ITC) available for GST paid.
 Simple Compliance: One law, one return system (through GSTN portal).
 Destination-based Tax: Tax goes to the state where goods/services are consumed.
 GST Council (Art. 279A): Centre + States decide tax rates together.

4. Benefits of GST
 Removed multiple indirect taxes.
 Reduced tax burden on consumers.
 Promoted “Ease of Doing Business.”
 Boosted inter-state trade by creating one common market.
 Increased transparency in taxation.

✅ In Short:
 Pre-GST → Many taxes, complex, cascading effect.
 Post-GST → One unified tax, simpler system, no tax-on-tax, uniformity across India.

Direct and Indirect Taxes

1. Direct Taxes
➡️Tax directly paid by the person on whom it is imposed.
 Burden cannot be shifted to others.
Examples:
 Income Tax
 Corporate Tax
 Wealth Tax (abolished in 2015)
 Capital Gains Tax
 Gift Tax
Features:
 Paid directly to government.
 Progressive in nature (higher income → higher tax).
 Increases equity in taxation.

2. Indirect Taxes
➡️Tax collected from one person but burden is passed on to the final consumer.
 Paid indirectly when buying goods/services.
Examples:
 Goods and Services Tax (GST)
  Customs Duty (imports/exports)
 Excise Duty (before GST)
Features:
 Included in the price of goods/services.
 Burden is shifted to consumers.
 Regressive in nature (same rate for rich & poor).
 Easier to collect from businesses.

3. Key Difference (Easy to Remember)

Basis Direct Tax Indirect Tax

Burden Cannot be shifted Can be shifted to others

Paid by
Payer Paid by consumer through seller
individual/entity

Income Tax,
Examples GST, Customs Duty
Corporate Tax

Nature Progressive Regressive

Collection Collected by Govt Collected via intermediaries

Method directly (shops/businesses)

✅ In Short:
 Direct Tax → Paid directly (Income Tax).
 Indirect Tax → Paid indirectly through goods/services (GST).