Cajoling black money to come out of hiding

Only 1% of Indians pay income tax.

That’s the one fact which stayed in my mind amidst the buzz created by Indian PM Modi’s demonetisation drive to crackdown on the country’s huge black money economy. ₹3590 billion ($56 billion) was deposited in the banks in the first three days but a good part of that could be passed off as white money.

Instead of treating the symptoms, maybe the cause should be tackled. Like we don’t know how successful the crackdown will be. But what we do know is Indians still have no intention of paying taxes.

Cash is untraceable

68% of all transactions in India are in cash, which can’t be tracked. Whereas in the West, purchases are almost never by cash and so can be traced, forcing people there to either stick to the straight and narrow path or risk the taxman calling up with uncomfortable questions. Modi’s goal is to move India to a cashless economy.

But cash is ingrained into the Indian psyche and it’s not going to be easy to break the addiction. Modi needs to first tackle the root of the problem. How can he make Indians give up their birthright to to generate black money and not pay taxes?

The blurred line between right and wrong

When given a choice to pay or avoid taxes, people will choose the latter. So Indians naturally prefer dealing in cash as it’s untraceable and so untaxable.

Let’s consider that pillar of society, the doctor. Most Indian doctors have a day job with a taxable salary. But once they return home in the evening, they often run a private practice where consultation fees are in cash, with no receipts. That income may be several times their salary but it’s unaccounted and hence tax-free black money.

The doctor is a symbolic of the ethical issues involved. When such a respected figure says it’s okay to cheat the government of taxes it’s rightfully owed, the rest of society sees nothing wrong in what they are doing. The doctor’s family members, patients, employees and all others who look up to him, get the message: being dishonest with the government is acceptable.

If society accepts that it’s fine to cheat the government, then the difference between right and wrong becomes blurred. Take downloading movies and music of the Internet. Indians don’t see this as wrong, and everyone indulges in it. We rationalise it by saying Hollywood and the music industry are rich enough to allow residents of poorer countries to rip them off.

The only way to change this is to clearly define right and wrong. Taking what belongs to someone else is wrong. Be it taxes owed to the government or copyright owed to the film and music industry. There are no exceptions.

It will take time but these values have to be inculcated back into Indian culture by every Indian. To use our example of the doctor, he has to set an example by insisting on traceable and taxable cheque or online payments.

The question is will the doctor do it?

Tax money is being pocketed by the corrupt

Let’s assume we can convince the good doctor that it’s ethically wrong not to pay taxes. But he still most probably wouldn’t pay it. Why? Because he firmly believes that most tax money is being misused or misappropriated.

Let me illustrate with an example. Indian roads are among the worst in the world. They invariable crater and develop potholes within a few days of being laid. Why does this happen? The government is supposed to award contracts for road building based on tenders advertised in public media. In reality, the contract is awarded to the contractor who pays the largest bribe to the government department awarding the contract.

The contractor drastically reduces quality in order to make up for the large bribe, confident that the government department officials who have been bribed will certify the road quality. This vicious cycle leads to government resources being swallowed by corrupt officials on one hand, and the honest taxpayer being deprived of his right to safe and functional roads.

This is a major obstacle to progress. Nothing happens in India’s government offices without paying under the table. Officials earn much more through corruption than from their salaries. Easy money is what attracted these officials to a career in the government. The private sector pays much higher salaries but the workload is much higher, and these are not people who like to work. That huge bribe chunk of their income is not going to be given up without a fight. But finally it all comes back to the cash transactions.

Black money is everywhere

Consultation fees have become an euphemism for black money. Any individual who can offer a service, will charge consultation fees. Not just that doctor, but the architect who designs your house, the lawyer who settles any legal issues to building it, the engineer who supervises the work, the skilled and unskilled workers who build it, the astrologer who advises you on the right time to move in, the interior designer, the electrician, the plumber, the carpenter, even the maid… the list is long. Small businesses also operate on cash payments, including the local grocer, barber, auto mechanic, roadside shops, food stalls, the meat and fish markets.

70 years later

Black money has been a way of life in India since it won independence in the last century. Modi was elected with a landslide majority to effect change, and turn India into a developed country. He must have soon realised that the solution is made of many parts, much like a jigsaw puzzle.

Four pieces of a jigsaw puzzle

Part 1: Demonetisation - The Stick Modi’s demonetisation drive is the stick that punishes people for having black money. But Indians are very innovative and they will find new ways to keep their ill-gotten wealth. I heard of a company that paid huge bonuses and advance salaries in cash using the banned currency notes. Since it’s regular salary, the employees do not lose out on taxes and the bonus keeps them happy. In one stroke, this company salvaged most of its black money at the cost of a bonus to their employees. The big cats are even more resourceful. There is this Chief Minister of one of the Indian states whose PA collects a bribe directly from builders who want permission to construct buildings with over 350 flats. There are no middlemen and the bribe has to be in new currency. The stick will bring in some black money into the system but it’s just one small step.

Part 2: Cashless transactions - Transparency Pushing people to cashless transactions will let every payment be traced and taxed. Credit and debit cards, netbanking, payment banks, cheques are being popularised with the active support of the government as it means more revenue for the nation.

Part 3: Bank accounts for all - Cutting out the corrupt Modi realised the poor are not getting the benefit of taxes and subsidies. So he had very early in his term as PM pushed through a scheme of making every Indian including the poorest farmers, open a bank account. The benefit of this was quickly seen when the subsidy on cooking gas which is heavily subsidised by Indian government is paid directly into the bank account of those poor and needy. The government middleman who usually takes a fat cut was cut out.

Part 4: National Identity - a friend in need India’s Aadhar Card is a unique National Identity program that is based on biometrics and enables the government to prevent corruption to some extent. The gas subsidy for instance, goes straight to the farmer’s bank account which has been verified by his Aadhar Card.

The Carrot that Apple Found

A stick alone may not be enough to persuade our doctor friend to declare his actual income and pay taxes on it. Modi needs to tempt him with a carrot and maybe has to look elsewhere for a solution.

Modi did offer one such carrot during the demonetisation drive. He pointed out that Pakistan was printing fake currency to finance terrorism. The implication was that if counterfeit currency is allowed unchecked, it would ruin India’s economy and cause financial losses to all Indians. This was a convincing argument but I’m not sure if patriotism will drive the doctor to sacrifice all his unaccounted income. We need a better carrot.

One model may be the global music industry and how its piracy issue was solved. Around the turn of the century, music CDs used to cost ₹500 or more, which was a lot in those days. So people began to download music from the internet or rip music from CDs and share it with friends. The music industry went after piracy with a big stick but it failed. CD sales began to plummet, and the music industry was heading for a major crisis.

Enter Steve Jobs, Apple CEO, and out-of-the-box thinker. He worked out a deal with the beleaguered music industry whereby individual songs from an album could be downloaded in digital format for a far more palatable 99 cents. Suddenly the need to pirate songs disappeared. The price was reasonable enough to persuade customers to consider buying songs legally. (It’s now even more affordable. This morning, I got Titanium by David Guetta/Sia for just ₹15 or 22 cents on GooglePlay Music). Besides there’s the feel-good factor of helping musicians earn a living. We need to give the doctor a similar reason to make him fine with paying taxes.

The Micro Payments Solution

What India needs is such out-of-the-box thinking, and micro payments may be the way to go. Paying ₹500 for a CD was a big deal but ₹15 for a song is peanuts. Our good doctor won’t like paying 30% tax on his extra income through consultation. But what if he has to pay a tax of 2% on all monetary transactions he makes throughout the year? Like if he buys a music album for ₹100, he will pay ₹2 as tax making the album cost ₹102.

I think the doctor won’t mind paying this. As far as he’s concerned, he’s just paying 2% tax as against the 30%. But will the government go bankrupt? No, it may work the other way around as instead of just 1% of Indians paying income tax, every single Indian is paying taxes.

The truth is if every transaction of the doctor is taxed, he will probably end up parting with much more of his income to the government than he’s currently doing. Think about it. What will the doctor do when he makes a lot of money? Buy more stuff. Say he buys a Merc worth ₹50 lakh. That’s ₹1 lakh in taxes.

Will it be fair to a poor farmer who also has to pay this tax? Let’s say the farmer spends say ₹10000 a month. He’s only pays ₹200 as tax. The doctor on the other hand may spend ₹100000 a month, and will pay ₹2000 as tax. The richer you are, the more taxes you pay. That seems fair. In any case, the government can always subsidize stuff that is only of use to the farmer, like seed grain for instance.

But all this will only work if India moves to a cashless economy as every transaction has to be taxed.

The Zero Income Tax Proposal

In fact, there have been rumours of a proposal to impose a tax of say 2%, on all bank transactions. If this happens, this tax will be more than the government earns through all taxes, and there will be no need for an income tax, and this will in turn kill the need for black money. Sounds too good to be true but the numbers from banking transactions indicate it’s feasible.

Of course, there are flaws. Indian jewellers for instance, usually refuse credit card payments because the 2% commission to the card issuers is a sizable amount in jewellery transactions. Again, maybe the solution is in sight as there is a proposal to do away with the card issuer’s fee.

Another bigger issue is if this will lead to concentration of wealth in the hands of a few. If this does happen, there are solutions like a 30% inheritance tax on inheritances worth over ₹100 crores. Okay, I just pulled that last one out of a hat. But my point is everything has a solution. We just have to look hard for it.

Interesting days ahead!