Are the United States of Southern India financing the North?

Every few months I get WhatsApp forwards that claim that the taxes paid in South India are what finance the Northern part of the country. The Northern part of the country referred to in these forwards, as we shall see, isn’t exactly North India. This time the fury around the Narendra Modi government’s handling of the Kerala floods has led to another round of forwards.

. Typically, these forwards are accompanied by a chart which looks somewhat like Figure 1, which follows. Figure 1 plots the income tax collected in various states. The income tax includes corporation tax or the tax that companies pay on their profit. It also includes personal income tax, the tax that individuals pay on their income. A small amount of wealth tax is also a part of income tax. We are considering the year 2016-2017, the latest data for which a breakdown of income tax collected by various states is available.

. Figure 1:

. Source: Income Tax India

. What does Figure 1 tell us? At its very basic level, it tells us that much more income tax is collected from the Southern states of India in comparison to some of the states like Bihar, Jharkhand, Odisha, Uttar Pradesh etc.

. But it is worth remembering something that the government told the Rajya Sabha in July 2014: “ Income-tax is collected by the Income Tax Department from the assessees falling under the jurisdiction of a particular office, irrespective of the State or place where the activity which occasioned the tax liability took place .” Let’s try and understand this in simple English through an example. Let’s take the case of West Bengal, which collected Rs 35,176 crore in income tax in 2016-2017. A significant portion of this income tax was paid by ITC, a company which is based out of Kolkata, the capital of the state. In 2016-2017, ITC paid Rs 5,286 crore of income tax. This tax was paid on profits derived from various businesses of ITC, from cigarettes to hotels to agriculture. Take the case of cigarettes. People smoke cigarettes all over the country, which helps ITC earn revenues. On this revenue, the company earns a profit, on which it pays income tax, which is collected in the state of West Bengal. Nevertheless, the revenue from which the company earns a profit and pays tax on it, is earned from all over the country and not just the state of West Bengal. Hence, saying that West Bengal paid Rs 35,176 crore of income tax in 2016-2017, simply doesn’t make any sense. Along similar lines, take the case of Haryana and Tamil Nadu. Both the states are home to car manufacturing companies. While these companies may pay their taxes in these states, they earn their income by selling cars all over the country, and large parts of the world. In the case of Haryana, car manufacturing came up in and around Gurgaon, simply because Sanjay Gandhi’s car project (the early version of Maruti), was set up in the state. This happened because a large amount of land was needed near Delhi to establish the factory and the then chief minister of Haryana Bansi Lal, wanted to be in the good books of Sanjay Gandhi. Once the factory was established, other factories to support car manufacturing also came up around the place. And once a solid backend was in place, other car manufacturing factories were also set up. A pure matter of chance, if ever there was one.

. Instead of Gurgaon, if Maruti had chosen to go to what is now known as Noida in Uttar Pradesh, the story would have been totally different. Similarly, in Chennai and Tamil Nadu’s case, the fact that the state is near the sea, played a role in car companies setting up factories in the state, to cater to the export markets. On the flip side, in the case of Chennai, the possible access to a disciplined workforce would have also played a role in the decision. The labour in India’s original car manufacturing hubs in Kolkata and Mumbai, did not have the best possible reputation going around. Or let’s take the case of Kerala. A good amount of income earned in the state is through tourism. A recent report in the Mint points out that tourism accounts for 12 per cent of Kerala’s gross domestic product (or the size of the economy). And tourists who come to Kerala actually earn the money they spend in the state, outside the state and not in the state. When tax is paid on this income, it is a tax paid on income actually earned outside the state. The same can be said about Goa, India’s richest state after Delhi. This is a clear case of a geographical luck of the draw. Or let’s take the case of Maharashtra. Rs 3,14,056 crore of income tax was collected from the state in 2016-2017. This made up for close to 38 per cent of the total income tax collected in the country. What does this mean? It just means that many corporates, are headquartered in Mumbai and hence, pay the tax in the state of Maharashtra. Mumbai, along with Kolkata and Chennai (originally known as Bombay, Calcutta and Madras), were Presidency towns under the British rule. Also, being near the sea, came with its share of advantages. A city-state like Delhi collected Rs 1,08,883 crore of income tax in 2016-2017. This was a little over 13 per cent of the income tax collected. Like Mumbai, many corporations are headquartered in the city-state, and hence, the income tax collected is larger here than other states. The larger point here is that it is very difficult to estimate the income which was actually earned due to consumption in the state of Maharashtra (in fact, as we shall see, even that is not enough). It is only tax paid on such an income which can really be said to have come from the state. What is true for Maharashtra is true about other states as well. Also, a bulk of India’s rich live in cities like Mumbai, Delhi, Bengaluru, Chennai, Kolkata, Ahmedabad, etc. Given that, they pay income tax in these cities and that gets counted as income tax collected in the respective states. Nevertheless, the income that they pay tax on, is earned across India and even across the world. Hence, charts like the one that follows, do not make much sense. Take a look at Figure 2. It basically plots, the total amount of income tax collected from different states in 2016-2017 and the total amount of income tax which the central government has distributed to the state governments for spending.

. Figure 2:

. Source: Income Tax India , India Budget

. What does Figure 2 show us? It shows us that the United States of Southern India collect much more income tax, than is distributed to them by the central government for spending. But this chart does not make much sense given that it is difficult to establish, how much of the income on which tax is paid, has originated from within these states. Now to take care of this problem, we can look at a breakdown of the amount of Goods and Services Tax collected by various states, between August 2017 and March 2018. GST is ultimately a consumption tax. Only when people consume, is GST finally collected. Take a look at Figure 3.

. Figure 3:

. Source: Unstarred Question No 561 Answered on July 20, 2018, Lok Sabha

. The Southern states collect more GST than the other states in Figure 3. GST is a consumption-based tax. This means that southern states consume more than the other states in Figure 3. Hence, to that extent, they pay a greater amount of GST than the other states. Also, you can only consume more if you earn more. Nevertheless, there are a few points here as well, especially when it comes to the services part of the GST. Here’s my example. I live in Mumbai and make a living by writing on finance and economics, for various publications. Let’s say I write for a Mumbai-based newspaper, which has editions in eight other Indian cities. In this scenario, I collect GST and the newspaper pays me a GST. The GST is collected in the state of Maharashtra. But how does the publication pay me? It pays me from the money it makes by publishing advertisements in its editions all over India. In this scenario, how does it matter if the GST is collected in the state of Maharashtra? The newspaper is earning money on the basis of advertisements in its editions spread across different parts of India. The consumption of the newspaper (i.e. it is being read) is happening throughout the country, which is why it gets advertisements in the first place.

. Mumbai has a huge film industry. Many people working in the film industry are self-employed. And during the course of their business, they collect GST from their customers (let’s say film studios) and hand it over to the government. Where does a film studio get money to pay GST to a director who directs a movie for the studio? A film studio producing Hindi films, makes money from selling the movies that it makes, in various ways, all across India and all over the world. Even though the GST the film studio pays to the director, is being collected in Maharashtra, the service is being consumed all across the world. Hence, how does it matter if the GST is collected in the state of Maharashtra? What does this tell us? It tells us that just because GST is being collected within a certain state, doesn’t mean that the state has had a role to play in it. Let’s consider another example here, of someone who works for a car manufacturer in Chennai. He goes for dinner to a restaurant and pays a GST of 5 per cent. He pays this GST out of the salary, the car company he works for, pays him. The car company, in turn, makes money out of all the cars it sells across India, and other parts of the world.

. Even though the consumption is happening in the state of Tamil Nadu, it is difficult to narrow down where the income that financed the consumption, has been earned. And that being the case, the fact that the GST was collected in the state of Tamil Nadu, doesn’t mean much.

. What this basically means is that it is not so easy to show that the United States of Southern India are financing other parts of the country. We have looked at one side of the story, now let’s take a look at the other side. Let’s get back to the GST collections shown in Figure 3. We also need to track how much GST was distributed per state by the central government. Let’s take a look at Figure 4, which plots the GST collected in different states in 2017-2018, and the GST distributed to them for spending, during the same year.

. Figure 4:

. Source: Unstarred Question No 561 Answered on July 20, 2018, Lok Sabha and India Budget

. What does Figure 4 tell us? It tells us that southern states get back very little of the GST that they collect. In the case of other states, the difference is not as huge as it is in the case of the Southern states. What does this mean? This means that the GST collected in the Southern states finances the central government expenditure, a large portion of which is, in turn, spent in the states. GST is a consumption-based tax and GST collections will be higher only if consumption is higher. And consumption can only be higher if the income is higher. The GST collected in the Southern states, despite the issues I have highlighted above, finances the expenditure of the central government and in turn expenditure of the states as well (the states WhatsApp forwards tend to call Northern states). But it is not easy to draw this conclusion. And it is almost impossible to say to what extent Southern states finance the other parts of the country. There are too many ifs and buts to it.

. (Vivek Kaul is the author of the Easy Money trilogy).

Are the United States of Southern India financing the North?

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