The common explanation offered by businesses for the widespread slowdown is acute shortage of liquidity in terms of formal business capital to finance GST transactions. This mismatch arising from disruption in circulation of unaccounted business capital/funds is creating unprecedented liquidity crisis across businesses.

Concerns –

  • This capital carries the stigma of black money. Its use in formal transactions carries risk and fear of income tax scrutiny, harassment and retrospective tax.
  • Many small firms accumulate business capital over the years out of incomes which may fall below the tax-paying slab. Tax-evasion at the individual business level becomes a necessity due to prevailing industry practices and tax evasion by competitors.
  • Stiff competition forces the entrepreneur to pass on gains from tax evasion into lower prices. In general, MSMEs/small traders don’t earn a fair economic return on the present value of their investment.
  • Further, during demonetisation, a part of unaccounted business capital got deposited in bank accounts with relaxed KYC norms. Now, with withdrawal requiring full KYC compliance, a part of this business capital remains invested in bank deposits. This adds to reduction in funds’ availability for businesses.

A way out

  • It is an imperative for policymakers to appreciate that this money cannot be treated at par with black income generated through a dubious manner, or by indulging in anti-social/anti-national activities. Low penalty is thus justified.
  • Restoring full circularity of business funds increases velocity of money. This boosts liquidity, businesses’ confidence and activities.

What should be done?

  • Conversion of business capital in the forms of unaccounted cash/bank deposits into formal funds may be allowed to GST-registered firms only with 10-20 per cent progressive penalty structure.
  • Conversion may be restricted to deposits up to ₹2 crore. This may facilitate a business to have an annual turnover of ₹8-10 crore with four to five working capital cycles in a year. It may cover a majority of the firms.
  • Nitty-gritties of the scheme, penalty rates and conversion amount can be fine-tuned/changed after discussions with trade and industry. This will enormously help businesses to increase their business under GST.
  • Employment will increase. Tax revenue may surpass the estimates. It must be recalled that in the past this money was used in financing economic activities.

Explaining the conditions –

To bring informal businesses under GST, it would be practical to have such a scheme with the following indicative conditions:

  • All the unaccounted funds/cash holdings/bank deposits of a business need to be deposited in a designated current account of a bank linked to business activities under GST;
  • The deposit can be used for business transactions only;
  • A graded penalty upfront on the total declared deposits/cash may be imposed; example, 10 per cent up to ₹50 lakh and 20 per cent for ₹50 lakh to ₹2 crore.
  • Even if some black money flows, the saving grace is that this money will then be used for productive purposes. It may be considered a small evil to achieve larger national goals in terms of business growth, employment and formalisation of business transactions.

Advantages of the move –

  • The supply chain financing network can be boosted without loss of time.
  • Revival of the unorganised sector will be faster, steady and efficient.
  • Increased funds flow helps in better farm prices. Earlier use of informal funds in purchasing of farm output by millions of traders/grain merchants during harvest time and selling these during lean season did help in holding the price-line.
  • GST revenue will leapfrog with steady growth in turnover.
  • Formalisation of business transactions will be easy, faster and widespread.
  • Higher growth will mitigate NPA problems and lead to better NPA asset value.

SourceThe Hindu Business Line