Tax. One of the most common and overused words in Indian Households, which also happens to be one of the least understood ones. Think about it, when you are taxed for literally everything from a toothbrush to the apartment you own to the roads you travel, it would be a useful exercise to see how many types of taxes even exist and how can you minimise your tax by wise consumption and investment.

And that is what we will talk about today.  

Currently, the Indian taxation system is composed of two main types of Taxes- Direct and Indirect.

Direct tax

The formal definition of Direct Tax is – Direct tax is a form of collecting taxes applicable on the general public by means of their personal income and wealth generated and gathered through formal channels and excellent government credentials such as Permanent account number and bank account details.

In simple terms, it is what you pay directly to the authority imposing tax and is charged on income, salary and profits of individuals or corporates, to name a few. Here, the burden of tax can not be shifted by the taxpayer to someone else. The Central Board of Direct Taxes (CBDT) administers Direct Tax in India.

Some of the significant types of Direct Taxes are:

1. Income Tax: Filed at the end of the financial year in India, this arises out of the income through professional activity, business proceeds, owning real estate and investments in the stock market.
2. Wealth Tax: Applicable to individuals earning over INR 1 crore per annum and companies gaining revenue of over INR 10 crores per annum are liable to pay this 2% surcharge.
3. Gift Tax: Monetary gifts in the form of cash, draft, cheque, etc., and worth more than INR 50,000 is taxed when gifted by people other than direct family.
4. Capital Gains Tax: This tax is levied on individual gains from the sale of capital assets such as investments in the stock market and real estate. It is further divided based on short-term and long-term.
5. Property Tax: Owners of immovable assets like buildings and houses are liable to pay this local tax to the respective state municipal corporations for the upkeep of local surroundings.
6. Corporation Tax: This covers the tax paid by companies and organisations that have incorporated in India or have operations here and is calculated using revenue earned.
7. Expenditure Tax: Individuals exceeding their expenses beyond INR 3,000 at a restaurant or a hotel have to pay this tax. The government collects Expenditure Tax from the person operating the hotel or restaurant business that is providing the services that fall under the definition of chargeable expenditure.

Indirect tax

By definition, an indirect tax is a tax collected by an intermediary from the person who bears the ultimate economic burden of the tax. The intermediary later files a tax return and forwards the tax proceeds to the government with the return. The incidence and impact of taxation do not fall on the same entity. The burden of tax can be shifted by the taxpayer to someone else. Indirect tax has the effect of raising prices of products on which they are imposed.

Some of the significant types of Indirect Taxes are:

1. Goods and Services Tax (GST): GST is a comprehensive, destination-based, multi-staged tax levied at each stage of value addition. It is an effort to do away with multiple indirect taxes and help the government in achieving the goal of ‘One Nation One Tax’.
2. Customs Duty: This tax is paid by an individual on purchase any item imported into India by any means of transport.
3. Value Added Tax (VAT): This consumption tax imposed by State Governments on products whenever its value increases throughout the supply chain. GST has mostly eliminated VAT with a few exceptions.

Direct Vs Indirect: The Comparison

Direct Tax:

Benefits:

1. The incidence of tax can be easily discerned as the incidence and impact of the direct tax fall on the same person.
2. Progressive nature of tax implying people in the higher income group pay a more significant percentage than poorer people, thus maximising goal of equity.
3. Fundamental for the government’s economic policy as income tax is altered to establish a balance between Inflation and unemployment.
4. Inflation can be curbed by increasing direct tax rates to reduce demand for goods and services.
5. Inequalities are reduced as money collected from the rich is used for launching new initiatives for the poor.

Disadvantages:

1. It is considered a Burden as they are to be paid as a single lump-sum every year. The documentation process is generally complicated and time-consuming.
2. Evasion is Possible as people employ many fraudulent practices to avoid or pay lower taxes than they should.
3. It restrains Investments as direct taxes like securities transaction tax, and capital gains tax make a lot of people avoid investing.
4. Direct taxation may be a disincentive to hard work. High rates of income tax, for example, may discourage people from working over­time or trying to gain promotion at work.

Indirect Tax:

Benefits:

1. Ensures that every individual contributes towards a nation’s development as the poor also pay indirect taxes.
2. Easier to pay as it is collected in small amounts (like GST) and already included in the price, unlike Direct tax which is paid in lump-sum.
3. Easy collection. Unlike direct taxes, there are no documents or complex procedures involved in paying indirect taxes. You are required to pay the tax right when you purchase a product or service.
4. The government can use it to discourage certain types of consumption. A high rate of tax on tobacco can, for example, affect smoking habits.
5. Consumers can avoid paying by not consuming the goods which are being taxed. Also, there is no disincentive at work.
6. Tourists spend money on goods and services. This adds to the tax revenue of the government, which otherwise would not be possible as tourists do not pay direct tax.

Disadvantages:

1. Indirect taxes are regressive tax which levy the same percentage on products or goods purchased regardless of the buyer’s income and hence not equitable and very difficult on low earners.
2. As indirect tax is added to the price of goods and services, it makes them more expensive.
3. Consumers are generally unaware of the tax they are paying as it is added to the price. This is opposite to direct taxes where the taxpayer clearly knows the taxed amount.
4. The high price arising as a result of indirect tax may result in Inflation.

From this analysis, we see that each tax has its share of advantages and disadvantages.

Abividyaa