Indirect Tax, Meaning, Types, Features, Advantages & Disadvantages.

Indirect Taxes are an important part of a country’s Taxation System and Fiscal Policy. It is a major source of government revenue that helps regulate the economy. Money collected by these taxes helps fund important public services. In this article, we are going to cover Indirect taxes in detail, along with its meaning, types, features, advantages and related terms. 

Tax  

• Taxes are compulsory payments made by individuals, businesses or corporations to the government at local, state and national level. 
• It is the main source of government income, used to fund defence, healthcare, education and infrastructure like roads, highways and dams. 

Indirect Tax

• Indirect Tax is the tax paid where the burden of the tax and the person who ultimately pays it are different. 
• This tax is usually imposed on goods and services. 
• While direct taxes are paid straight to the government, indirect taxes are not paid straight to the government by the taxpayer. It is collected by sellers and passed on to the government. 
• In India, Indirect Taxes are managed by the Central Board of Indirect Taxes and Customs under the Ministry of Finance. 

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Indirect Tax Features

Features of Indirect Taxes include: 

• Tax on Consumption: This tax is levied on goods and services instead of the income of the person. 
• Paid Indirectly: collected by intermediaries like sellers/service providers.
• Regressive Nature: Indirect taxes affect rich and poor equally for the same product/service as both have to pay the same tax despite the income difference. 
• Broad Base/; These taxes cover a wide range of goods and services.
• Impacts Spending :  Indirect Taxes affect consumer behavior since tax is included in final prices.

Indirect Tax Types

Indirect Taxes are of the following types: 

• Excise Duty
• Customs Duty
• Sales Tax
• Service Tax
• Goods and Services Tax (GST)
• Octroi and Entry Tax
• Toll Tax
• Stamp Duty

Excise Duty

• Excise Duty was a tax charged on goods for their production, licensing and sale in India. It was the charge that the manufacturers had to pay on certain goods they made.
• While the manufacturer paid it at first, the tax was eventually collected from customers through higher prices by retailers and intermediaries. 
• The tax was imposed by the Central Government and hence also known as Central Excise Duty or Central Value Added Tax (CENVAT). 
• Excise Duties were also collected by the state government like on Alcohol and Narcotics. 
• At present, almost all excise duties have been merged in Goods and Services Tax while some excise duties have been still kept independent. This include: 
  • Excise Duty on Liquor (charged by state government)
  • Excise duty on Petroleum Products (charged by Central Government)

Customs Duty

Custom Duty is charged on goods that are either imported or exported. This applies to all goods brought into India, and levied on only some goods that are exported that are mentioned in the Second Schedule of the Customs Tariff Act, 1975. This duty is levied and collected by the Central Government. The key objectives of Customs Duty are:

• To stop illegal trade of goods.
• To protect domestic industries.
• To control imports and maintain a stable exchange rate.

Customs Duty Types in India

Some important types of Customs Duty charged in India are given below.

• Basic Customs Duty

This is the duty charged on imported goods under the Customs Act, 1962.

• Additional Customs Duty or Countervailing Duty (CVD)
  • This is an extra import duty charged on goods that receive benefits like subsidies or tax reliefs in their country of origin.
  • It is applied only on selected imported goods, not on all.
  • The Ministry of Finance decides its use based on the recommendation of the Director General of Trade Remedies (DGTR).
• Anti-Dumping Duty
  • Dumping happens when goods are exported at prices lower than those charged in their home market.
  • This creates unfair competition and harms trade.
  • Anti-Dumping Duty is a tax imposed on such dumped goods to correct the imbalance.
  • It differs from Countervailing Duty in this way:
    • Countervailing Duty offsets the effect of subsidies.
    • Anti-Dumping Duty checks artificially low prices set to capture markets.
      The WTO allows Anti-Dumping Duty as a tool for fair trade.

Export Duty

Export Duty is a customs duty charged on goods leaving the country. Its main purpose is to limit the export of certain items.

Sales Tax

Sales Tax was an indirect tax on the purchase of goods and services.
It was charged at the point of sale, collected by retailers, and passed on to the government.

In India, both central and state governments collected sales tax:

State Sales Tax

Charged by state governments on sales happening within their boundaries.

Central Sales Tax (CST)

• Applied to sales of goods between states.
• It was levied by the central government to ensure smoother trade across states.Most Sales Taxes have now been merged into the Goods and Services Tax (GST).

Service Tax

Service Tax was a tax imposed by the Central Government on certain services provided or promised within India.
It was collected by service providers and then deposited with the Central Government.
Now, this tax has also been merged into the Goods and Services Tax (GST).

Goods and Services Tax (GST)

• The Goods and Services Tax (GST) is an indirect tax charged on most goods and services consumed in India.
• It works on the principle of Value Added Tax (VAT) and applies across the entire country.
• Though paid by consumers, it is handed over to the government by the sellers.
• GST was launched nationwide on 1st July 2017.
• It has replaced multiple indirect taxes earlier levied by central and state governments.

Entry Tax and Octroi

• Entry Tax was charged when goods entered a state or area from another state for sale, use, or consumption.
• Octroi was a local tax collected on goods when they entered a municipal area for sale, use, or consumption.

Toll Tax

Toll Tax is a fee charged for using roads, bridges, tunnels, or similar infrastructure.
It helps cover the cost of building, maintaining, and running the infrastructure, ensuring users contribute to its expenses.

Stamp Duty

• Stamp Duty is a tax charged by state governments on legal documents linked to property transactions.
• It is named so because a stamp is affixed on the document as proof that the duty has been paid.

Indirect Tax Advantages

Implementation of Indirect Taxes have the following advantages: 

• Indirect Taxes are easier to collect because they are collected at the point of sale or consumption. This reduces administrative costs and compliance burdens for both taxpayers and government. 
• Taxes are included in prices of goods and services and hence cannot be skipped by the consumers. This helps decrease the evasions. 
• Indirect taxes ensure revenue stability as it is not impacted by individual income levels and corporate profits. 
• Promotes transparency in taxation systems as the prices are mentioned on the price tags. 

Indirect Tax Disadvantages 

Despite the advantages, indirect taxes have the following disadvantages as well: 

• Indirect tax is charged equally on a product or service, no matter the income of the buyer. Hence, it affects poor people more. 
• These taxes are often added into the prices of goods and services, which increases their cost for buyers. 
• Indirect taxes can change consumer habits by making some goods and services costlier.
• Sometimes, indirect taxes lead to a situation where tax is added on an amount that already has tax, thus increasing the overall burden on buyers.
• Heavy indirect taxes make Indian goods more expensive, reducing their competitiveness in foreign markets. This ultimately harms exports.

Cascading Effect

• The Cascading Effect happens when a tax is charged on an amount that already includes a previous tax.
  This causes a chain reaction where the tax burden grows at every step of production or sale.
• Example includes Cotton Shirt Production:
• First, a spinning mill owner buys cotton and pays sales tax on it.
  Purchasing cost = cotton price + sales tax on cotton.
• The mill spins yarn and sells it to a weaver. The weaver then pays sales tax on the total value.
• Purchasing cost = cotton price + sales tax on cotton + value added by spinner + sales tax on whole value.
• Thus, the tax already paid also gets taxed again at every step until the final product. This is known as the Cascading Effect.

Principle of Value Added Tax or VAT Principle

• The Value Added Tax (VAT) principle prevents the cascading effect by giving refunds to producers in the chain for taxes paid on inputs. This refunded tax is called Input Tax Credit.
• Example: In the cotton case, the spinner gets back the sales tax already paid on cotton.
  So, the weaver pays tax only on the value added by the spinner, not on the whole amount.

Central Board of Indirect Taxes and Customs (CBIC)

The Central Board of Indirect Taxes and Customs (CBIC) is the top authority managing indirect taxes and customs duties in India. It works under the Department of Revenue in the Ministry of Finance. The CBIC frames and enforces policies for the collection of indirect taxes like GST, Central Excise duty, Customs duty, and Service Tax.