Budget 2014: Will Arun Jaitley impose estate duty?

R Jagannathan
Firstpost.com

Will Arun Jaitley impose estate duty - a duty levied on assets and wealth passed on after death to heirs - in his very first budget?

Business Standard seems to think he won't, even though the global political debate on wealth and inheritance has moved away from the capitalist consensus of the past to the need for greater inter-generational equity. The huge success of Thomas Piketty's book Capital in the 21st Century calls for a global tax on capital since return on capital has been higher than the economic growth rate and inequality is rising.

He writes: "When the rate of return on capital significantly exceeds the growth rate of the economy (as it did through much of history until the nineteenth century and as is likely to be the case again in the twenty-first century), then it logically follows that inherited wealth grows faster than output and income."

If Piketty is correct, this cannot but cause social discontent. There is little doubt that after liberalisation , the wealth of India's businessmen has grown at a fantastic pace, but we have no estate duty - though we do have a marginal wealth tax payable yearly. We have had no estate duty since 1985, when it was abolished because it was fetching too little by way of tax revenue compared to the efforts put in.

America, which is often thought of as the ultimate bastion of capitalism and the super wealthy, currently imposes a top wealth tax rate of 40 percent.

Despite my earlier reservations, I have changed my views on estate duty (read my earlier view here ) for two reasons.

One, if we want to move towards a more market-oriented economy, it has to be seen as fair and working for both rich and poor. If this is not visible to ordinary people, we will have the mindless kind of populism under the UPA that killed off growth and investment.

Two, an estate duty reduces the amount of inherited wealth the already privileged get without working for it. While this may not directly result in giving the poor more opportunities than before - that depends on other policies of empowerment - it at least tries to level the field by reducing the amount of raw wealth and power available to people who merely got lucky by being born in the right family. It will be seen as just and fair. And that is not a small thing to achieve in an unequal society.

Put simply, an estate duty is an essential feature of fair capitalism. If it isn't there, there is no hope in hell that the aam aadmi will buy into the idea of freer markets and less state interference in their affairs.

The real question is: if we do have an estate duty, how should we legislate it, and what is the level we should start with?

#1: Start with a simple 10-15 percent estate duty, with reasonable exemptions. The basic exemption could be, say, Rs 10 crore of wealth and one house. This is more than a good enough start for any individual residing in India.

#2: Avenues should be provided for the wealthy to redistribute their wealth in directions that are desirable, so that the tax can be avoided on death. Wealth could thus be transferred to trusts which social purposes (education of Dalits, the disabled, etc) that the government can designate as acceptable objectives. Private trusts can also be created for inheritors (to pay for schooling, for inheritors who are differently abled, etc). These can be exempt from estate duty. Critics may see these are loopholes, and they are partially that. But if a good end is achieved, one should not quibble over some sweeteners.

#3: The implementation and efficacy of the estate duty law should be evaluated every two years, and the rates can be raised after that. If the law works well, over time the estate duty can be raised to the same level of the highest income tax rate - currently 30 percent.

#4: Most importantly, the estate duty should not be judged by the amount of revenue collected, but whether it is achieving a larger purpose of shifting the resources of the wealthy to helping the poor - and away from pure inheritors. In fact, if the estate duty becomes a good source of revenue, it can be used as an argument for reducing income tax. The income tax is a tax on productive activity and wealth creation; the estate duty is a tax on inert wealth being handed over to someone who may not have done much to create it.

While Arun Jaitley may not want to ruin the market's current optimistic mood by imposing an inheritance tax or estate duty on 10 July, he should bit the bullet on it. A slow and steady approach is the best.

His boss Narendra Modi said the first charge on the state's resources will be for the poor. An estate duty will emphasise that point even while allowing him to sell the idea of reforms and markets.