Car import racket

Indian Express, 17 September 2005

Veteran CPM leader Jyoti Basu's son Chandan Basu is not the only one who may want to avoid paying high custom duties on cars. Anybody who wants to own a car would like to do so. After all, the first principle of economics is that people respond to incentives. And, here, the problem lies in fact that the structure of custom duties in India provides an incentive as well as a framework to avoid duties. It can be done legally because there exist loop-holes in the law that can be exploited.

Note that in the spirit of reforms the "peak rate" of customs duty, which applies for almost all manufactured goods, has dropped from 150 percent in 1991 to 15 percent in 2005. But we have to be careful in the interpretation of the term "peak rate", since in India, it is perhaps a "median rate" and not the peak rate applicable for manufactured goods. Numerous tariffs for manufactured goods continue to be well above the "peak rate" of 15 percent. In the case of imported cars the custom duties is 150(CHECK) percent.

Remember that gold smuggling in India did not go down by the police chasing smugglers. It went away when Manmohan Singh and Chidambaram reduced custom duties. Lower tax rates change the cost-benefit calculations of evading taxes. If the custom rate on imported cars had been 15 percent there would have been much greater compliance. However, in the name of protecting domestic industry, which ironically consists primarily of foreign manufacturers, India keeps custom duties rates on cars 10(CHECK) times the "peak rate".

Even if the custom duties on all imported cars had been 150(CHECK) percent, it would have been one matter. Here the issue is further complicated by the fact that when two different consignments of the same model of a car are imported into India, they could encounter very different tariffs. This is because there are a large number of exemptions. These exemptions are based on who is importing, or why he is importing. If the imports are for the travel industry, which promises to earn foreign exchange, the car is allowed to be imported at a rate of 5 percent.

Rules allow items to be imported for defence, police, training, education, oil exploration, exhibitions, expeditions, for export purposes such as packaging materials, durable continers, by charitable institutions, for handicapped persons or for sports related activities, exemptions from custom duty after due paper work. The list of items where such exemptions exist runs into nearly 2000. The importer gives the appraising officer the relevant literature and a certificate from one of the 33 approved certifying agencies such as the Director General of Foreign Trade, the Director of Vanaspati, Vegetable Oil and Fat, the Council for Leather Exports or the Sports Authority of India.

The importer has to get a Bill of Entry from the appraising officer. These steps involve multiple contact points with the government, and enormous costs of compliance, since appraising officers have to get engaged in questions of both valuation and end-use. This means that even when the importer does not have a genuine business, as alleged in the case of Sanjay Bhandari, the man Chandan Bose is reported to have bought his car from, it can be possible for him to bribe his way to getting the required exemptions.

What is really required is not the police going after those who find loop-holes in the structure of custom duties, but to change this structure. As long as the law is unchanged, the practice will continue, as did gold smuggling until the duties were changed. The minimal agenda in reforms is the elimination of exemptions, which should ensure that no two consignments of a given product encounter different taxation rules or procedures. This would also serve to remove the involvement of agencies such that those which certify end use. It will remove the involvement of customs officers who can today choose who qualifies for the exemption and who does not. By reducing discretion in the interaction between government officials and citizens transparency can be increased and corruption reduced.

The second issue in reforms is identifying all goods with a rate above "the peak rate" and bringing them down to the peak rate. This will reduce the incentive for evading or avoiding duties, especially since we are progressively moving towards reducing tariffs every year.

The third issue is the removal of rate dispersion. The structure of tariffs is presently biased towards providing higher protection to final goods. As a consequence, the duties on raw materials, intermediate inputs and capital goods is generally lower than that on final products. As is well known, modest differences in apparent tariffs can imply very big differences in the effective rates of protection. This results in immense lobbying by firms, and a complex structure of tariffs. The government uses highly detailed control of the tariff structure to promote one or the other industry.

A uniform rate is the best way to avoid the large dispersion of effective rates of protection, and the consequent political economy of tariff reform. Deficiencies of domestic taxation, however, pose an impediment against the move to uniform rate. There is a case for differential taxation of "raw materials" and "finished goods" -- even though these terms are imprecise -- given that domestic producers face state-level taxes which are not imposed on imports as part of VAT on imports.

As a compromise between the first best solution of one rate and what exists at present, the Vijay Kelkar FRBM Implementation Report has suggested that duty rates should be 5, 8 and 10 percent for "raw materials", "intermediates" and "finished goods" respectively. This is proposed as an interim solution, until India is able to implement the Goods and Services Tax (GST) in place of the various State sales tax, State VAT, and so on. After the GST is in place, the next phase of tariff reform can commence, of moving to a uniform rate, and of going further down to a uniform rate such as 2%.

So even though the Directorate of Revenue Intelligence may presently be on the job, the one who really needs to act to avoid such cases in is Chidambaram himself. He did it for gold, now he should do it for cars.

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