[Tejaswini and Vrinda are students at Dr Ram Manohar Lohiya National Law University.]
The idea of "One Nation, One Tax" was first proposed by the Kelkar Committee on Indirect Taxes in the year 2000 with the intent to unify the fragmented tax structure and promote economic integration. With the law's implementation in 2017, numerous issues have emerged concerning its ramifications on consumers and businesses. One such concern that arose was whether businesses would be willing enough to pass on the benefits to innocent consumers. To guarantee that business entities pass on the benefits that arise due to a reduction in tax rates, the government introduced anti-profiteering measures under Section 171 of the Central Goods and Services Tax Act 2017 (CGST Act). As per this section, whenever the rate of GST is reduced on certain goods and services, the business entity is obligated to reduce the price of the goods proportionate to the reduction of the rate of tax and pass on this benefit to the consumer.
Though enough scope was incorporated to safeguard the interest of innocent consumers, the law failed to construct its cornerstone from the perspective of small and micro businesses, which contribute to almost 40% of the country's overall industrial production and represent 42% of India's total exports. India hosts a substantial 633.9 lakh MSMEs, with small companies constituting a significant 96% of the total industrial units. In light of this, the current article aims to articulate the impact of the anti-profiteering mechanism on micro, small, and medium enterprises (MSMEs) and how it adversely affects the operational efficiency of MSMEs.
The Interplay of Plight of MSMEs and the Ease of Doing Business Landscape
The government, since times immemorial, has been trying to create a friendly business environment for MSMEs by introducing numerous schemes and benefits plans that would propel growth and turn their fortune around from a small or medium enterprise to a full-fledged corporation capable of competing with other giant companies in the competitive regime. However, a proactive implementation of Section 171 of the CGST Act presents a mixed bag for these MSMEs.
First, the section does not establish a definite threshold for determining the occurrence of profiteering. For instance, in Australia, the legislature has formulated a net-dollar approach for anti-profiteering, where if, due to the imposition of GST, the production cost is lowered by $1, the price of the commodity should also fall by $1. In such a scenario, it makes an MSME paranoid about its existing pricing strategies and burdens them to compulsively adjust their prices to concur with anti-profiteering guidelines, leading to reactive resource-intensive measures, such as the employment of tax experts and more efficient computation and detection mechanisms.
Owing to the crunch in labour and financial resources, Section 171 makes it extensively unprofitable for MSMEs to function at their current valuation. A study conducted in Malaysia revealed that GST imposition leads to increased compliance costs due to the requirement for increased documentation to avoid prosecution and investigation.
Furthermore, MSMEs are more likely to face difficulties in negotiating favourable terms with their suppliers, unlike sizable enterprises, which have a greater purchasing power owing to their scale of operation and long-term contractual commitments and derive benefits such as volume discounts and extended payment periods owing to such long-term commitments. On the other hand, MSMEs find it more feasible to determine a prospective supplier based on the amount they charge to save costs and nurture profit generation and future operations.
A parallel issue stemming from a lack of a determined threshold is that a small enterprise with an annual turnover of INR 50 crores will be judged with the same yardstick as that of a larger enterprise having an annual turnover 10 times that of a smaller enterprise. The section overlooks the aspect concerning inflationary pressures, which impose greater production costs on smaller enterprises owing to limited capital, labour, and production inventories compared with their larger counterparts. Owing to this inflationary rise in the price of intermediate or unfinished goods, there is a proportionate increase in the cost of the final product.
Though the issue is burdensome for all enterprises, big or small, bigger corporations are better equipped to absorb the inflationary pressure through their revenue reserves without compromising on much profit. Conversely, smaller corporations, which often run on thin profit margins and limited revenue, are left with no alternative except for shifting this inflationary pressure on the consumers, which ultimately increases the cost of the final product. Hence, Section 171 fails to consider the ground realities of retail inflation, which is often the prime cause of the increase in prices rather than the manufacturers playing the deceit card to aggravate profits.
Second, the National Anti-profiteering Agency (NAA), was established with a three-tier mechanism to look into the issue of anti-profiteering. The Government further announced that such provisions would apply only to cases of mass impact with a waiver of liability for minute breaches. Comparing the scale of production of an MSME with a large enterprise, it cannot be denied that a profiteering detection in sales of a larger corporation is more likely to create an adverse impact owing to its larger absorption of consumer base and greater impact on its gross revenue through sales.
However, the CGST Rules 2017 have faulted in not having established guidelines for computing accurate calculations distinguishing a mass from a minute impact or establishing a statutory appellate authority as a forum for appeal against the decision of the NAA. Without accurate calculation formulas or guidelines, it will most certainly lead to MSMEs being subjected to investigations even though the overpricing was merely a minute breach.
What has made this issue worse is the dissolution of NAA and delegating its authority to the Competition Commission of India (CCI), which is most certainly a competition watchdog rather than a price regulator, having little sense of balancing the economic interest of corporations in an economy. The need for an independent body for looking into cases of anti-profiteering is well recognised across jurisdictions. For instance, Malaysia has established altogether a distinct law overseeing profiteering practices under the Price Control and Anti-Profiteering Act.
Third, big enterprises that have established their presence in the market for years are more competent to tackle the blow to their public image by the initiation of an investigation owing to their established loyal consumer base and multiple sources of revenue owing to diversification in the production process. However, MSMEs initially begin with a small consumer base without a popular brand name, and the initiation of such investigation leads to scepticism amongst consumers and gives them the discretion to switch to larger enterprises, which any day provide better quality and cheaper goods attributable to their efficient production techniques. This tarnish of public confidence in the MSME is likely to impact its ability to access credit from lending entities such as banks and non-banking financial institutions, thus adversely impacting its ability to settle previous loans and invest in future capital. Further, additional litigation burdens divert funds from the production process and trigger paranoia amongst investors, who often exit to safeguard their pecuniary interests.
Conclusively, the imposition of 18% interest on the returnable amount as a penalty will propel MSMEs to further hike the price of the product to better absorb this liability, causing a ripple effect on consumer welfare.
Looking Forward
The Organization for Economic Cooperation and Development (OECD) has acknowledged that barriers in the business environment significantly impact the productivity of MSMEs. Consequently, burdensome tax procedures and inefficient business regulations impose substantial costs on MSMEs, discouraging investments and potentially leading to increased informal economic activity. In light of the challenges discussed above, a few ambiguities require more deliberations.
First, the CCI should acknowledge an explicit threshold for twofold reasons. First, it needs to ascertain beyond what amount will an enterprise attract liability for anti-profiteering, as observed in jurisdictions such as Australia and Malaysia.
Second, the government needs to determine whether all enterprises, whether big or small, would be judged with the same yardstick, even when smaller enterprises face greater economic repercussions due to inflationary pressures. The Delhi High Court has even issued a notice to CCI to set a minimum profiteering quantum, however, there is little progress on this front.
Lastly, though the law aims to safeguard consumer interest, it has been able to achieve little in this regard, considering the business tactics of smaller enterprises to pass off the liability cost onto the consumers by an increase in the price of the goods manufactured.
Conclusively, in light of the recent Delhi High Court judgment upholding the legality of Section 171, it becomes even more imperative to resolve the ambiguities surrounding the law and create a more business-friendly environment for MSMEs. This pronouncement of the court will lead to a proactive implementation of anti-profiteering measures. Given the case has more recently moved to the Supreme Court of India and is pending decision there, the court’s conclusion will have significant ramifications for business operations and adherence to GST regulations for MSMEs.
With such entities contributing roughly around 40% in industrial production, it becomes imperative to align the tax regime regulating such entities to promote more sustainable and profitable growth and foster the ease of doing landscape in the country.