Forget a levy on commodity deals, the Finance Minister should do away with securities transaction tax itself.

The Budget for 2013-14 is probably all sewn up and the documents are being printed right now. Yet, that has not prevented various interest groups from lobbying with the Finance Minister for their respective proposals even at this late stage. Commodities exchange traders and their brethren from the stock markets have locked horns on whether a Commodities Transaction Tax (CTT), on the lines of the Securities Transaction Tax (STT), is desirable or not.

Stock market operators, brokers and officials want the STT withdrawn as they feel it is an unfair levy. They also point out that there is no transaction tax on commodities trading and therefore, the playing field is not level between them. Either withdraw the STT or impose a transaction tax on commodities as well, they say.

The commodities market players and exchanges are seeing red at this suggestion that they be slapped with the CTT. They managed to have the CTT, which was first imposed on them in 2008, withdrawn within a year and without it being implemented. Their arguments against the tax now are familiar. Those playing the stock market have the benefit of setting off their losses from derivatives transactions against their business income under Section 43 (5) of the Income Tax Act. This is because profit/loss from derivatives trading is treated as business income.

However, commodities traders don’t enjoy this benefit. Income from commodities trading is treated as speculative income and taxed under a different section of the Income Tax Act where the tax is higher. Besides, commodities players point out that after imposition of the STT, long-term capital gains tax has been brought down to zero. So, how can stock market players claim that the playing field is not level, is their refrain.

Out in the open

The battle between the two groups is so heated that industry association ASSOCHAM took out full page advertisements in newspapers last week arguing against the imposition of CTT and pointing out inconsistencies in the data and arguments of the ‘other side’. And yes, there is so much spin being put on the arguments by both sides that it would put Shane Warne to shame!

The truth of the matter though is that given the yawning hole in government finances, it must be tempting for Finance Minister P. Chidambaram to consider imposing CTT. The numbers look juicy indeed. Average daily turnover from commodity trading as per latest available data is Rs.55,781 crore, according to ASSOCHAM. This is more than double the value that was recorded three years ago. The business is clearly catching on and Big Brother can certainly do with a slice of the pie.

The commodity trading segment helpfully has pointed out to Mr. Chidambaram that if rising turnover were the criterion then other derivatives segments such as currency trading and interest rate futures also need to be taxed. The danger from this suggestion is that the finance minister could say “more the merrier” and tax all of them.

An unfair tax

But will that be a good thing to do? Not necessarily. Though transaction tax was first mooted by depression economist John Maynard Keynes and several countries have a financial transaction tax in their statutes, the fact is that it is not an equitable tax. By its very nature, tax should be collected only on profits or gains from business activity. Transaction tax though, as the name suggests, is imposed on the transaction value irrespective of whether such transaction results in profit or loss. So, if you sell a share in the stock market and incur a loss, you still have to part with a portion of the proceeds of the sale to the government. It is small comfort that you can set off your losses against business income and don’t have to pay long-term capital gains tax.

Most retail investors are salaried and don’t have business income which means that the set-off provision is useless. Similarly, it is rare these days for investors to hold their shares for the long-term as people churn their portfolios and also park short-term surpluses with mutual funds and in selected safe stocks. So the capital gains exemption is also useless. It is not surprising, therefore, that stock market trading data reveal that retail investors are exiting. In a time of dour market sentiment, having to pay a transaction tax certainly does not help. Again, day-traders and jobbers, who play the critical role of market-makers, operate on wafer-thin price spreads which are rendered unattractive by the STT.

No justification

So, instead of succumbing to the temptation of an additional revenue stream from CTT, the Finance Minister would do well to do away with STT itself. Especially if he desires to see the retail investors and household savings back in the financial markets. Data on STT collections in the last few years also don’t justify its continuation in the statute books.

The highest collections from STT — Rs.8,071 crore —were in 2007-08 and that was when the market was on a bull run. In the last three years though, collections have been declining. So, a simple cost-benefit analysis should lead to the conclusion that the STT has to go. The Finance Minister could consider re-introducing long-term capital gains tax instead.

If the arithmetic doesn’t add up still, Mr.Chidambaram can consider a return to the old system of taxing dividends in the hands of the shareholder. That was the case until a few years ago till the Dividend Distribution Tax (DDT) was introduced. Of course, it could be argued as regressive given that there are small investors in the 10 per cent tax bracket who will also be liable. But then, even in the DDT system, companies do consider the tax liability while deciding the pay-out to shareholders. So, what difference will it make?

In the end, let’s remember that all this is an academic exercise. The collective fates of STT, CTT and DDT are all determined already and come Thursday we will know!

raghuvir.s@thehindu.co.in

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