India’s taxation system must broaden its revenue base while ensuring equity, compliance and minimal distortions to investment and consumption.” Critically examine. (10 Marks) (GS 3: Indian Economy — Resource Mobilisation)

Introduction

An effective taxation system must generate adequate revenue for public expenditure while ensuring horizontal and vertical equity, voluntary compliance and economic efficiency. India’s challenge is to expand the tax base without disproportionately burdening low-income households or discouraging productive investment.

Key challenges in India’s taxation system

1. Narrow direct-tax base: A limited share of the population pays personal income tax, reflecting income distribution and compliance challenges. Implication: The revenue burden can fall disproportionately on compliant taxpayers.
2. Regressive effects of indirect taxation: Consumption taxes can absorb a larger share of poorer households’ incomes. Example: GST on essential consumption can have distributional implications if rates are not appropriately calibrated.
3. Tax evasion and informality: Cash-based transactions, under-reporting and incomplete records weaken revenue mobilisation. Example: Undisclosed business turnover reduces tax collection.
4. Complexity and compliance costs: Multiple procedures and frequent interpretative disputes can impose disproportionate costs on smaller firms. Example: MSMEs may face difficulties in meeting tax-filing and reconciliation requirements.
5. Tax incentives and exemptions: Poorly designed exemptions can narrow the tax base and create unequal treatment across taxpayers. Implication: Similar economic activities may face different effective tax burdens.
6. Investment and consumption trade-offs: Excessive or unpredictable taxation can affect investment decisions, formalisation and household demand. Example: High transaction costs can discourage small businesses from entering the formal economy.

Measures to improve tax revenue mobilisation

1. Broaden the tax base: Bring more eligible individuals and businesses into the tax net through formalisation and improved reporting. Data: Economic Survey 2025–26 reports that income-tax returns filed increased from 6.9 crore in FY22 to 9.2 crore in FY25.
2. Improve tax compliance through technology: Use data analytics, third-party information and risk-based scrutiny to detect evasion while reducing unnecessary taxpayer harassment. Example: Faceless assessment and technology-enabled compliance nudges.
3. Rationalise indirect taxation: Simplify GST rates and reduce classification disputes while protecting essential consumption. Data: Economic Survey 2025–26 reports that GST-registered taxpayers increased from approximately 60 lakh in 2017 to over 1.5 crore.
4. Improve tax administration: Simplify returns, reduce litigation and provide greater certainty in tax interpretation. Policy: The Income-tax Act, 2025, seeks to simplify and restructure direct-tax legislation.
5. Strengthen tax equity: Improve progressivity, review exemptions and ensure comparable taxpayers receive consistent treatment. Principle: The ability-to-pay principle supports a fairer distribution of the tax burden.
6. Maintain a growth-oriented tax regime: Ensure stable tax policies and avoid unnecessary compliance costs for productive enterprises. Example: Simplified GST compliance for eligible small businesses can encourage formalisation.

Conclusion

India’s taxation strategy must combine revenue buoyancy with fairness and economic efficiency. A broader tax base, simpler laws, technology-driven compliance and predictable policies can strengthen fiscal capacity without undermining consumption, investment or inclusive growth.