Chapter 17

Direct and Indirect Taxes

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J.S. Mill defines a direct tax as “one which is demanded from the very
persons who, it is intended or desired, should pay it”.

A tax which is paid by the person on whom it is legally imposed and the
burden of which cannot be shift ed to any other person is called a
“Direct Tax”.

Indirect tax, on the other hand, is a tax, the burden of which can be shift
ed to others. Thus, the impact and the incidence of in direct taxes are
on different persons.

An indirect tax is levied on and collected from a person who manages

to pass it on to some other person or persons on whom the real burden
of the tax falls.

In the case of indirect taxes, the tax-payer is not the tax-bearer.

Commodity taxes are generally indirect taxes, as they are imposed on
the producers or sellers, but their incidence falls upon the consumers
as such taxes are wrapped up in the prices.

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 Types of Direct & Indirect Taxes

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 Nature of Tax and the Supporting Govt. Act and
the Authority

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 INCOME TAX

Income tax was introduced in India in 1860 but was discontinued after a few
years in 1873. It was reintroduced in 1886, and since then it has been an
integral part of the Indian tax system. In 1939, the rate structure was shift ed to
a slab system. Since then, the rates, exemptions, and other dimensions of this
tax have undergone endless revisions.

In the Indian constitution, taxation of agricultural income is reserved for the

states, while the Central government can tax non-agricultural incomes only.

The Indian IT Act, 1992 which was in force up to and including the assessment
year 1961–62 was repealed with effect from April 1, 1962 and in its place, a new
Act called the IT Act, 1961 was introduced which is the operative Act for and
from the assessment year 1962–63.

Since its introduction, various new provisions were and are being included that it
is difficult to keep track of the frequent changes that were made and make them
understandable in relation to the assessment year 2001–02 and subsequent
years.

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Assessment
• The IT Act is a machinery for computing the total income of the previous year from
various
• sources as classified in Section 14. Such computation or assessment is made after
allowing various exclusions, exemptions, and deductions as provided in the Act.
The IT Act does not, however, prescribe the rates at which the tax is to be charged.

Assessment Year [Section 2 (9)]

• The question then arises as to what an assessment year is? In the IT
Act, the “income tax year” is described as an assessment year, that
is, the year in which the income of the previous year which ended
before the commencement of the assessment year is to be
assessed.
• The “assessment year” comprises of a period of 12 months
corresponding to a financial year, commencing from April 1 and
ending on March 31.

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Previous Year [Section 3]

There will be only one previous year for all assesses

ending on March 31 for all sources of income. In other
words, the financial year immediately preceding the
assessment year shall be the uniform previous year. In the
case of a newly set-up business or a profession during the
financial year, the previous year will end on March 31, even
though the period comprised in the previous year may be
less than 12 months.

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Assessee [Section 2(7)]
The assessee is a person by whom any tax or any other sum of money (such as interest, penalty)
is payable under the IT Act or in respect of whom any proceeding under the Act has been taken
for the assessment of his income or loss or of the income or loss, of any other person in respect of
which he is assessable, or of the amount of refund due to him or to such other person.
• Under Section 2(31) of the IT Act, persons (i.e., assesses) are divided into the following
categories:
• i. Individual.
• ii. Hindu undivided family (HUF) which consists of all persons lineally descended from a common
male ancestor and is assessable in respect of the income that is derived from the joint family
corpus, and not being the income that is earned by its individual members in their individual and
personal capacity.
• iii. Company. (As defi ned under Section 2[17] of the IT Act [e.g., any Indian company].)
• iv. Firm. (A partnership of two or more persons [but not exceeding 20 persons] carrying on a
business or a profession constituted under the Indian Partnership Act, 1932.)
• v. Association of persons or a body of individuals (i.e., a combination of persons formed for
promoting a joint venture or a joint enterprise, executors of an estate, trustees of a trust, etc.).
• vi. Local authority (e.g., municipality, local boards, etc.).
• vii. Every artifi cial juridical person, not falling in any of the preceding categories (i.e., a Hindu
deity).

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Residential Status of an Assessee

The income liable to tax in the hand of an assessee

is determined on the basis of residential status.
For this purpose, the assessees are divided into the
following two categories:
i. Resident in India and
ii. Non-resident in India.
Individuals and HUFs, who are resident in India, are
again classifi ed as:
• a. Ordinarily resident and
• b. Not ordinarily resident.

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Resident in India

In respect of “Individuals”: Taxation of individuals is

determined by their residential status.

• An individual is “resident” if he stays in India in the fiscal

year (April 1–March 31) either for 182 days or more, or

• for 60 days or more (182 days or more for NRIs), and

has been in India in aggregate for 365 days or more in
the previous four years.

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Heads of Income [Section 14 of IT Act]

Save as otherwise provided by the IT Act, 1961, that all income shall,
for the purposes of charge of income tax and computation of total
income, be classifi ed under the following heads of income:
• Salaries
• Income from house property
• Profits and gains of business or profession
• Capital gains
• Income from other sources

Taxability of Individuals

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 Individual Tax Rates
• Up to Rs 150,000—NIL.
• From Rs 150,001 to Rs 300,000—10 per cent.
• From Rs 300,001 to Rs 500,000—20 per cent.
• Above Rs 500,001—30 per cent.

The table of income tax rates in India for an individual in the year 2008–09
is as follows:

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Th e table of tax liability in India in the year 2008–
09 is as follows:

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For women other than senior citizens
Th e exemption for women assessees has been raised from Rs 145,000 to Rs
180,000.

• Up to Rs 180,000—NIL.
• From Rs 180,001 to Rs 300,000—10 per cent.
• From Rs 300,001 to Rs 500,000—20 per cent.
• Above Rs 500,001—30 per cent.

The table of income tax rates in India for women other than senior citizens in
the year 2008–09 is as follows:

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For senior citizens
As far as the exemptions are concerned, the senior citizens get a further
reprieve. The Senior Citizens Savings Scheme and some other post
office products have been brought under the ambit of Section 80C, and
any investment made in these instruments will qualify as a deduction
from the senior citizens’ total income.

• Up to Rs 225,000—NIL.
• From Rs 225,001 to Rs 300,000—10 per cent.
• From Rs 300,001 to Rs 500,000—20 per cent.
• Above Rs 500,001—30 per cent.

Th e table of income tax rates in India for senior citizens in the year 2008–
09 is as follows:

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Permanent Account Number (PAN)

Permanent Account Number (PAN) is a number by which the AO can

identify any person. Presently, the income tax department is allotting
PAN under the “new series” to all assessees that consist of 10 alpha-
numeric characters and is issued in the form of a laminated card. The
PAN is ultimately meant to supplant the General Index Register Number,
which is currently in use.

As per Section 139A of the Act, obtaining PAN is a must for the following
persons:
1. Any person whose total income or the total income of any other
person in respect of which he is assessable under the Act exceeds the
maximum amount which is not chargeable to tax.
2. Any person who is carrying on any business or profession whose total
sales, turnover, or gross receipts are or is likely to exceed Rs 5 lakh in
any previous year.
3. Any person who is required to furnish a return of income under
Section 139(4) of the Act.
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Usefulness of PAN

• If PAN is quoted in all documents, it would be very

convenient to locate the AO holding jurisdiction over the
person concerned.

• If PAN is quoted in all challans, the credit for payment of

taxes can be quickly granted to the tax-payer.

• If PAN is quoted in all specifi ed transactions, the

department can exercise a greater control over
unregulated and undisclosed transactions.

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 CORPORATE TAX
• The tax levied on the taxable income of a company is called “corporate
tax” (also named “super tax”).

• Th e income tax liability of a shareholder does not reduce on account of

the company having paid a tax on its own income.

• Of course, a company may deduct tax at source from the dividend

payments and deposit the same with the authorities on behalf of its
shareholders.

• This payment is adjusted against tax liability of the shareholders.

Corporate tax is levied at a flat rate but may be subject to a number of
rebates, exemptions, and so on.

• Inter-corporate dividends are distinguished from the other corporate profi

ts, and companies are also classifi ed on the basis of size, ownership
(widely or closely held), and nationality (Indian and foreign).

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The taxability of a company’s income depends on its
domicile:

• Indian companies are taxable in India on their worldwide

income.

• Foreign companies are taxable on income that arises out

of their Indian operations, or, in certain cases, income
that is deemed to arise in India. Royalty, interest, gains
from the sale of capital assets that are located in India
(including gains from sale of shares in an Indian
company), dividends from Indian companies, and fees
for technical services are all treated as income arising in
India.

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 Domestic Corporate Income Tax Rates

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 Foreign Companies Tax Rates

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 WEALTH TAX
• Wealth tax is levied on non-productive assets whose value exceeds
Rs 1.5 mn. Productive assets like shares, debentures, bank
deposits, and investments in mutual funds are exempt from wealth
tax.
• The government levies wealth tax on non-productive assets like
residential houses, jewellery, bullion, motor cars, aircraft s, urban
land, and so on.
• Foreign nationals are exempt from wealth tax on non-Indian assets.
Net wealth up to Rs 1.5 mn is exempt from wealth tax and any
amount in excess of this is taxed at a fl at rate of 1 per cent.

• In arriving at the net taxable wealth, any debt incurred in acquiring

specifi ed assets is deductible.

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 Excise Duty
Excise duty is a tax on the manufacture of goods within the country.
Excise duties are levied under the Central Excise and Salt Act,
1944, the Excise Tariff Act, 1985, and the Modified ed Value Added
Tax (MODVAT) scheme. Th e rates of excise duty leviable vary
depending inter alia on the nature of the item manufactured, the
nature of the manufacturing concern, and the place of ultimate sale.

Highlights of the Union Budget 2008–09 on Central Excise

• Step down of excise on paper and its products

• Reduction of excise duties on buses and their chassis
• Excise on small cars stepped to 14 per cent
• Reduction of excise duties on anti-AIDS drugs
• Excise duty reduced to 8 per cent on water purifi cation items
• Excise duty of Rs 1.35/litre applied on unbranded petrol
• Excise duty of Rs 4.6/litre applicable on unbranded diesel

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 Customs Act

The Customs Act was formulated in 1962 to prevent illegal imports and
exports of goods. Besides, all imports are sought to be subject to a duty
with a view to affording protection to indigenous industries as well as to
keep the imports to the minimum in the interests of securing the
exchange rate of Indian currency.

Types of Duties:

Export duties are levied occasionally to mop up the excess profi tability
in the international prices of goods in respect of which domestic prices
may be low at the given time. But the sweep of import duties is quite
wide. Import duties are generally of the following types :

•Basic Duty
•Additional Customs Duty
•True Countervailing Duty or Additional Duty of Customs
•Anti-dumping Duty/ Safeguard Duty
•Education cess

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 CENTRAL SALES TAX (CST)

“Sales tax” is a tax, levied on the sale or purchase of goods. Th ere are two kinds of
sales tax, that is, central sales tax (CST), imposed by the Centre, and sales tax,
imposed by each State. Sales tax is levied on the sale of a commodity which is
produced or imported and sold for the fi rst time. If the product is sold
subsequently without being processed further, it is exempt from sales tax.

When is Sales Tax Payable

Central sales tax is generally payable on the sale of all goods by a dealer in the
course of inter-state trade or commerce or, outside a state or, in the course of
import into or, export from India.
Inter-state Trade or Commerce
According to Section 3, a sale or purchase shall be deemed to take place in the
course of inter-state trade or commerce in the following cases:
• when the sale or purchase occasions the movement of goods from one state to another,
and
• • when the sale is eff ected by a transfer of documents of title to the goods during their
movement from one state to another.

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 VALUE ADDED TAX (VAT)
• VAT is essentially a form of sales tax. It is a multi-point and multi-
stage tax, levied only on the value addition to a product, at each stage
of production and distribution chain.
• There will be a deduction from taxes that were paid earlier in the
chain. At present, sales tax is levied at a single point either at the
hands of a producer, distributor, or a wholesaler.

• VAT has been defined as a tax on the sale of a commodity at every

point in the series of sales by the registered dealers, with the provision
of credit of input tax paid at the previous point of purchase, there of.
As such, the VAT paid by the registered dealer would be deducted
and the balance be paid.

• As said by the Chairman of Madras School of Economics that in a

country with a federal constitution, the constituent states have to adopt
a consumption (or destination) type of indirect tax if a common market
is to be precluded, and inter-state tax exportation is to be minimised.

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 Benefits of VAT

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Computation of VAT

Suppose a prime producer supplies sugarcane and the fi nal consumer

buys sugar. In this process, the sugarcane passes through various
processes, requiring a payment of VAT at the rate of 10 per cent. In
this supply chain, the payment of VAT would be as in Table 17.8. Th
e Central government has agreed to compensate the states for a
100 per cent loss in the fi rst year, 75 per cent loss in the second
year, and 50 per cent loss in the third year of the introduction of
VAT.

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