What are the factors responsible for the narrow tax base in India? Explain in brief.

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Ghissu Editorial · Accepted Answer

India's tax base is narrow because of high exemption thresholds, numerous concessions, a large informal cash economy, untaxed agricultural income and weak tax administration. Only about 4% of the voting-age population pays taxes, and Andhra Pradesh's 2021-22 CAG audit found revenue losses of over ₹1,800 crore.

**Introduction**

India’s narrow tax base constrains fiscal capacity despite growth, impacting states like ==Andhra Pradesh⟦3⟧⟦2⟧⟦1⟧== where resource mobilisation influences development and equity. Expanding the tax base is crucial for financing welfare and infrastructure, especially in regions with significant social needs.

**Institutional Design and Capacity Constraints**

SKETCH: fishbone | Factors Narrowing India’s Tax Base  
effect: Narrow Tax Base in India  
- Institutional Design  
- Implementation Challenges  
- Informal Economy  
- Legal and Compliance Issues

1. **High Exemption Thresholds**: Making income up to ₹12 lakh⟦4⟧ effectively tax-free under the new regime excludes many taxpayers, shrinking the tax base and reducing direct tax revenues despite rising incomes.

2. **Tax Administration Gaps**: The ==Andhra Pradesh CAG audit (2021-22)== found ₹1,806 crore revenue losses in tax and land departments due to enforcement weaknesses and underassessment, highlighting institutional inefficiencies.

**Implementation Challenges**

4. **Informal Economy and Revenue Shortfalls**: Large informal sector and cash transactions cause evasion; ==Andhra Pradesh Mining Revenue⟦5⟧== shows 16% shortfalls and data gaps, reflecting difficulties in formalising economic activities.

5. **Low Taxpayer Penetration**: Only 4% of voting-age Indians pay taxes, far below the 23% expected based on political development, limiting revenue mobilisation and fiscal capacity.

**Policy and Structural Barriers**

8. **Excessive Reliance on Indirect Taxes**: Heavy dependence on indirect taxes reduces progressivity and voluntary compliance, weakening the link between taxpayers and the state.

**Way Forward**

9. **Tax Reforms and Digitalisation**: Initiatives like Transparent Taxation⟦6⟧ – Honouring the Honest and SPICe+⟦7⟧ improve transparency, reduce compliance costs, and enhance data analytics to capture informal incomes.

10. **Local Government Empowerment**: Enhancing local taxation powers and property tax collection, including in ==Andhra Pradesh==, can boost subnational revenues and fiscal decentralisation.

**Conclusion**

Addressing institutional, structural, and enforcement issues with targeted reforms and empowering local governments is key to broadening India’s tax base and supporting inclusive, sustainable growth.

What are the factors responsible for the narrow tax base in India? Explain in brief.

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