Goods and Services Tax (GST) is a comprehensive, multi-stage, destination-based tax regime that has been levied on every value addition throughout India from July 1, 2017. This has replaced the earlier regime of service tax & VAT. This new system will definitely change the economy and will GST impact investments? Yes, and let me tell you how- step by step.
Your investment will change in 2 ways:
- Visible impact due to change in tax rates, the inputs cost & valuations will change. We know these changes as we can calculate it using the new rates. So it will impact Mutual Funds, Insurance, Banking, Real Estate & Equity Broking. Details below.
- Invisible changes will also happen as it is a major economic event like demonetization. Perhaps larger than that as major business small to big is getting impacted and in a state of confusion. The sales figure of corporate India will be less hence it will impact prices which will impact NAVs. So brace for a turmoil here.
Will it impact the economy?
Debates have been filling in prime time & newspaper columns the extent of damage and long-term benefits of GST. Yes, the economy will change. In very brief, the major impacts will be:
Impact on inflation
- My estimate is that the Government in line with its guidance has succeeded to a large extent in keeping the changes in tax rates inflation neutral from a Consumer Price Index (CPI) standpoint.
- However, in the near CPI inflation would see some increase but would be within manageable range.
Impact on growth and fiscal deficit
- The impact of GST could be marginally disruptive in the near term as inventory destocking and restocking takes place, and GDP growth is likely to be adversely impacted to that extent in 1HFY18.
- I expect real GDP growth to be in the range of 7-7.5% in FY18. This is less by .3% as per ongoing estimates.
- Over time the tax – GDP ratio of the country which would be positive from the perspective of fiscal consolidation.
Impact on policy rates
- With CPI inflation expected to remain largely benign especially in HIFY18, I expect RBI to keep policy rates on hold or maximum one rate cut.
- The key to watch out for will include (a) the actions of the US Federal Reserve (b) trajectory for the commodity prices (c) progress of the monsoons and the impact on food inflation (d) hike in HRA under the 7th Pay Commission.
GST Impact on Investments
As discussed visible impact is that in financial services the existing service tax rate of 15% has been increased to 18%. This will impact the premiums in insurance, NAVs of Mutual Funds and Banks service related charges.
Let’s discuss them one by one:
MFs get hit by additional 3% GST in 2 ways.
First, the expense ratio will go dearer by the 3% as earlier 15% was charged. This is illustrated as below.
Secondly, it is a rule that the amount collected as exit load is again put in the fund corpus to benefit the long-term investors. Now, this amount will also go less by 3%.
As an example, let’s say we used to collect Rs. 100 as exit load from an Investor and the Service Tax on the same is 15%, this means that Rs. 15 would be paid to the government as tax and the remaining Rs. 85 would be credited back into the scheme. In the GST regime, since the percentage of tax is moving up from 15% to 18% the outflow to the government will be Rs. 18 now instead of the earlier Rs. 15. Therefore only Rs. 82 will be credited back into scheme instead of the earlier Rs. 85.
The premiums in insurance all had service tax component. Now this will also go up marginally. Look at the impact:
A bank charges service tax on most transactions – online money transfers, merchant payments like IRCTC or withdrawals from ATMs beyond specified limits. With GST, these services will now attract a tax of 18 per cent instead of 15 per cent service tax, charged currently.
For instance, if you withdraw from another bank’s ATM after exceeding the free transaction limit, you are charged Rs 20 plus service tax which comes to around Rs 23; post-GST, this will go up to Rs 23.60.
There are 2 expenses in direct equity. First, the brokerage attracts service tax. This will be 18% from the earlier 15%. Secondly, the annual DEMAT charges/dematerialisation charges all will go up to 18% on GST implementation.
Construction of a property is considered as a service the builder or developer provides to home buyers. Therefore, a service tax is levied on the under-construction property till now. While in the case of fully-constructed houses, service tax is not charged as stamp duty is levied.
Service tax was paid on the cost of providing the service of construction and not on the value of the land. So one builder needs to separate the land cost and construction cost.
Since it is not always possible to segregate the two components, abatement (moderating value) has been given. The current rule is – service tax at the rate of 15 per cent is levied on 25 per cent of the value of property in case the property is worth less than one crore rupees and less than 2,000 sq. ft. in the area. In case the property is valued at more than one crore rupees and the area is more than 2,000 sq. ft., service tax is charged on 30 per cent of the value of the property.
Now GST will be charged at the flat rate of 12 per cent on under construction properties. However, abatement clarification in this regard is awaited.
What should you do as an Investor?
The most important question is are you a long term investor? Do you believe that country is going through structural changes which were pending since last 60 odd years? Do you think it is wise to buy when the things are shaping up and progressing or when the development has already happened? Because after a few years the market will go the usual phase of saturation. So if not today? When?
The events will happen at their pace but ultimately one who seed his farm in the rains, get benefits of a prosperous crop.
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