India’s Goods and Services Tax (GST) came into effect over the weekend. Notwithstanding the potential for short-term disruption, the medium to long term impact should be positive.
India’s new Goods and Services Tax (GST) marks the next stage of the Modi administration’s plan for the modernisation and rationalisation of India’s financial system, simplifying a complex system of regional taxes. India consists of 29 states, and before GST every time an Indian company wanted to sell goods or services across those state borders there would be taxes to pay – GST will replace 17 state and federal levies. The complexity of the previous system made logistics very onerous and costly in itself, and unofficial bribes were commonplace. The result was that the cost of logistics in India was among the highest in the world, at 13%-14% of GDP compared to an average of 9%-10% in Brazil, Russia and China, and 7%-8% for developed countries.
GST replaces that state-by-state system and, for the first time since its independence in 1947, India is now one common market.
What does GST mean in practice?
In addition to reducing the logistics costs for companies, GST will also change the rate at which Indian consumers are taxed when they pay for goods and services. There are a few different bands ranging from GST-exempt activates such as basic foods and hospital bills, to the highest flat rate of 28% on consumer electronics and cinema tickets.
Companies will have to file tax returns electronically, which means the opportunities for tax avoidance will decrease. Companies that are already complying with tax regulations will be at an advantage, and we think there will be a shift in business from the informal sector to these companies.
Who are the winners and losers?
For many companies, the introduction of GST means a net reduction in the taxes they have to pay – these include companies in sectors such as basic foods, smart phones, and luxury cars. Elsewhere, GST will mean an increase in overall taxation for sectors like consumer electronics and personal care products.
It is our view, however, that it is too simplistic to say that those sectors seeing lower taxes are the winners, while those paying more are the losers. India has anti-profiteering rules, for example, that require companies to pass tax reductions onto consumers, while there are plenty of well-run companies with solid brands that we believe can continue to grow sales and earnings despite them facing a higher tax bill.
As for any direct impact on the Jupiter India Select fund, the direct impact should be approximately neutral as the fund has diverse exposure to the Indian economy and invests in companies from across the GST tax-band spectrum. Long term, we think the implications will be positive for the companies in our portfolio, as business should shift from the informal sector towards businesses that are already tax-compliant.
Is this good news for India?
We definitely feel that the mid to long term impact of GST on India will be positive. We think India could get up to 2% more of GDP in tax intake, and we also believe that GST will help combat inflation in India, as lower logistics costs and less tax leakages in the system should mean that cost-savings can be passed onto consumers over time.
Still, we appreciate that this is uncharted territory so there could be a temporary slowdown as consumers adapt to new pricing. September marks the start of the festive season in India, however, so that should be a good yardstick for measuring the consumer reaction and we expect to see strong sales. It should also be noted that consumption has been strong ahead of GST’s implementation, as stores offload their old stock under the old tax regime, so that will have created a one-off economic boost that could go some way to off-setting any subsequent slowdown.
So, although the introduction of GST doesn’t alter our investment strategy in any notable way, it does underline our key economic thesis: that the modernisation and reforms of Modi’s administration are helping to lay the foundation for strong growth in India’s economy over the long term.
Avinash Vazirani - manager of the Jupiter India Select fund - JupiterBLOG COMMENTS POWERED BY DISQUS