This article has been written by Sunil Kumar Pathak pursuing an Executive Certificate Course in Corporate Governance for Directors and CXOs from Skill Arbitrage.

This article has been edited and published by Shashwat Kaushik.

Introduction

Taxation is not just an avenue for filling up the state exchequer but also a pivotal element of the economic governance of the country. In India, both the central and state governments levy taxes. The goal and main aim of taxation are to simplify investment for companies and individual tax payers by eliminating inconsistencies that provide preferential benefits to particular persons or organisations, streamlining progressive tax regimes, and eliminating gaps that benefit particular groups. Through tax reforms, the government can provide impetus and boost economic activity by increasing private investment capital and foreign investment in the market.

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The government introduced a new tax reform known as the Goods and Services Tax with the aim of simplifying taxation in India. Tax reforms were a challenge for the unification of the tax code in the whole country. In recent times, India has introduced some important  economic reforms to streamline tax code, increase compliance, the corporate tax rate, phase out of exemptions, reduce tax evasion, the black money Act, etc. The local state government body, like a municipality, also levies taxes in India. In India, reforms have been ushered in with the goals of encouraging investment and stimulating the country’s economy.

GST has greatly given impetus to the compliance framework for businesses, drastically reducing compliance costs and thus helping companies in the development and growth of their businesses. The GST collection for February 2024 was Rs. 168337 crore, a 12.5 percent increase from the previous year.

 One way of doing this is to reduce marginal tax rates, as it increases people’s disposable income and encourages investment by way of FDI & HNI in enterprises. Increasing the amount that firms can deduct from taxes is another way to encourage investments, make them more affordable, and provide parity between sectors that require a lot of capital and those that don’t, both of which can deduct the entire cost of their investments from taxes.

A reduction of 5% in corporate income tax for domestic businesses in 2019 and 2020 resulted in a notable rise in investment, particularly for larger businesses. In developing countries, a cut in tax  encourages foreign investment, with larger local enterprises benefiting more than smaller ones. Thus, a simplified tax regime has the ability to broaden the tax net and bring workers and enterprises into the tax system. This can be accomplished by offering incentives to companies so they register and abide by the tax regulations, as well as by streamlining the tax code to make compliance simpler.

Understanding tax reforms in India

Indian fiscal policies have traditionally relied on tax reforms as a primary tool to influence economic outcomes and achieve government objectives. Tax reforms encompass a broad range of measures aimed at modifying the structure, rates, and administration of taxes. These reforms can have significant impacts across various economic sectors, affecting businesses, individuals, and the overall economy.

In the context of India, where economic development and growth are top priorities, tax reforms become imperative for several reasons. Firstly, tax reforms can help create a more conducive environment for investment. By introducing measures that reduce tax burdens on businesses and individuals, the government can incentivize investment and promote economic growth. For example, lowering corporate tax rates or offering tax incentives for research and development can encourage businesses to invest more in India, leading to job creation and increased economic activity.

Secondly, tax reforms can play a role in addressing income inequality and promoting social justice. Progressive tax systems, where higher earners pay a larger proportion of taxes, can help redistribute wealth and provide resources for government programmes that support low-income individuals and communities. By ensuring that the tax burden is shared equitably, tax reforms can contribute to social stability and inclusivity.

Thirdly, tax reforms can improve the efficiency and effectiveness of government spending. By streamlining tax collection and administration, governments can reduce tax evasion and increase revenue collection. This can provide additional fiscal space for the government to invest in infrastructure, education, healthcare, and other public services, which are essential for long-term economic growth and development.

However, it’s crucial to note that tax reforms need to be carefully designed and implemented to avoid unintended consequences. Sudden or drastic changes in tax policies can create uncertainty and disrupt economic activities. Therefore, tax reforms should be based on sound economic principles, consider the impact on different stakeholders, and be implemented gradually to allow for adjustments and minimise disruptions.

Overall, tax reforms can be a powerful tool for achieving economic development and growth in India, particularly when they are aligned with broader economic policies and development goals. By promoting investment, addressing inequality, and improving government efficiency, tax reforms can contribute to a more robust and inclusive economy. The effects of tax reforms are decisive for all economic activity, big and small, to make judicious investment decisions that promote prosperity and growth. This paves the way for a mutually beneficial connection between the state and its people, and taxation blends that relationship together.

Reforms like decreasing corporate tax rates and providing sops by way of waivers or tax holidays for particular industries have also been put in place to encourage investment and increase economic activity.

Impact on investment decisions

The impact of tax reforms on investment decisions is a complex and multifaceted issue. A number of factors must be considered when evaluating the potential impact of tax reforms on investment, including the type of tax reform, the specific provisions of the reform, and the economic context in which the reform is implemented.

One of the most important factors to consider is the type of tax reform. There are two broad categories of tax reforms: those that increase taxes and those that decrease taxes. Tax increases can have a negative impact on investment, as they reduce the after-tax returns to investment. Tax decreases, on the other hand, can have a positive impact on investment, as they increase the after-tax returns to investment.

The specific provisions of a tax reform can also have a significant impact on investment. For example, a tax reform that reduces the corporate tax rate may encourage businesses to invest more in new equipment and facilities. A tax reform that eliminates a particular tax deduction may discourage businesses from engaging in certain types of investments.

The economic context in which a tax reform is implemented can also affect its impact on investment. For example, a tax reform that is implemented during a period of economic growth may have a more positive impact on investment than a tax reform that is implemented during a period of economic recession.

In addition to these factors, there are a number of other considerations that must be taken into account when evaluating the potential impact of tax reforms on investment. These include the impact of tax reforms on other economic variables, such as consumption and saving, and the impact of tax reforms on government revenues.

Overall, the impact of tax reforms on investment decisions is a complex issue that depends on a number of factors. It is important to carefully consider all of these factors when evaluating the potential impact of a tax reform on investment.

Corporate investments

Any taxation revisions or reforms have a direct impact on any corporate capital infusion decisions because they affect expected earnings and the cost of equity. For example, lower corporation tax rates encourage businesses to hold onto their profits by increasing cash reserves. This includes company expansionary investment and R&D projects, all of which support economic growth.

Take the case of the CFO of a well-known manufacturing company, Mr. Rajesh Sharma. He highlights, “Our investment decisions have been greatly impacted by tax revisions.”. This impacted his company’s decision to leverage more money for market penetration tactics, technical advancements, and capacity development thanks to the recent reductions in the corporation tax rate.

Small and medium enterprises (SMEs)

Small and medium enterprises (SME), which greatly boost GDP growth and job creation in the Indian economy. Tax measures, such as lower tax rates and simplified compliance procedures, are tailored to support small enterprises and SME. Which have a significant impact on their investment decisions. These reforms make them more competitive and support their growth in the process.

The CEO of a tech start up, Ms. Neha Singh, discusses her experience: I am a small business owner, and tax reforms directly affect the investments I make. My tax burden under the new GST regime was greatly reduced. The tax rates and compliance burden were greatly reduced.

This saved her money helped her with resources that she could use for product development and marketing campaigns.

Foreign Direct Investment (FDI)

A better tax regime in India can hugely impact the country’s economy through investment. Any FDI investment can only be lured by a favourable tax climate by implementing tax reforms. The new Indian government has shown its commitment to promote an open and friendly investor tax regime with the introduction of the Direct Tax Code (DTC) plan and the revocation of the Dividend Distribution Tax (DDT).

CEO of a MNC, Mr. John Smith, says, “Their company has made better investment decisions as a result of the tax reforms in India. For overseas investors like them, the Indian market is more alluring due to the lower corporate tax rates and more straightforward tax laws.”

Empowering entrepreneurs

A reduction in tax by way of tax reforms allows entrepreneurs to boost their income and the economy.  Tax reform is the process by which taxes are managed and collected by the government. By offering tax advantages to the business communities for an equitable economic field. It is entrepreneurs who play a decisive role in driving economic growth and innovation.

Young business queen Ms. Priya Khanna describes her experience: “That tax incentives offered under the Startup India initiative provided her the confidence to turn her creative ideas into a successful business.”

Though taxes are not the only issue, achieving her goals and generating jobs are also important.

Creating opportunities

By lowering the tax slab on individuals and business ventures and improving the fairness and equity of the tax system , it can help create opportunities for economic growth. This way, tax reforms open a plethora of opportunities for citizens and business entities.

A small-scale startup Mr. Anand Gupta recollects that “he was able to concentrate on growing his  business since the GST regime made tax compliance easier and lessened the cascading effect of taxes. It serves as evidence of how changing policies can drastically alter lives.”

Tax reforms promote economic activity more if the burden is lowered on individuals and businessmen. Just by simplifying the tax code, it helps streamline tax payers compliance with all legal requirements without much legal hassle.

Fostering inclusive growth 

Tax reforms greatly affect employment rates, foster economic growth stories, pump investments, and all support inclusive growth of the economy. A reduction in corporate tax, for instance, provides a boost and an incentive to business houses to leverage their economic investment, thus augmenting the country’s GDP. But it has other sides too; a tax cut may boost the earnings of entrepreneurs, but it may lower the coffers of the government . This may impact government spending on infrastructure and social welfare schemes and programmes. Some ways to implement tax reforms for inclusive growth include bringing more entities into the tax bracket, ensuring neutral taxation on entrepreneurial income, and minimising tax evasion.

Tax policies that are inclusive guarantee that everyone in society benefits from economic expansion. A recipient of the government’s housing  programme, Mrs. Reena Devi says, “I was able to realise my ambition of owning a home thanks to the tax incentives for affordable housing. For me, it’s about giving my family security and dignity, not just a tax advantage.”

This sums up the glaring example of tax reforms in India.

Tax reforms serve as an inclusive guarantee that everyone benefits from the expansion of economic activity. A beneficiary of the government housing programme, Mrs. Reena Devi says that she was able to realise her ambition of owning a house thanks to the tax incentive  for affordable housing. For her, it was the stepping stone for providing her family security and dignity, not just a tax advantage”. This sumps up tax reforms in India.

Conclusion

In India, tax reforms have a big impact on investment decisions, which affects how the economy flourishes and develops. To uplift the economy of India as a manufacturing hub, it becomes paramount to bring parity to all categories of corporate tax and other taxes. With a slash in corporate tax, more money is being infused into the economy, thus strengthening the private sector. The private sector is getting  more incentives and influxes of money for their businesses. Tax reforms bring prosperity through innovative jobs, and their ripples are felt across from small business owners to big businesses.

The economic impact of these amendments in tax rates will slowly become visible, as reduced corporate tax would leave companies with excess cash to fund their expansions and bring in more growth stories. This, in turn, will help improve the competitiveness of Indian companies in the global market.

On the other hand, a high tax regime on corporate tax may shift investment to lower tax jurisdiction for HNI investors. Which indirectly goes a long way in impacting a country’s growth . The policymakers continue to make the tax system on par with the market and investor  friendly to boost the economy. So that all citizens are part of the progress of the country. 

References

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