Commodities Transaction Tax

12.1.  Commodity  Transaction  Tax

Commodity transaction tax (CTT) is a tax levied in India on transactions done on the domestic commodity futures exchanges. It is similar to a Financial Transaction Tax (FTT), which is commonly associated with transactions done in the financial sector.

On February 28, 2013, India introduced a transaction tax on the commodity futures trading under the direct tax provisions in the Union Budget 2013-14. CTT is levied at 0.01 percent (Rs.10 for transaction worth Rs.1 lakh). CTT is levied only on non-agricultural commodities futures contracts (e.g., gold, copper and oil) traded in the Indian markets. While the agricultural futures contracts are exempted from CTT. The tax is payable by the seller of futures contract. The finance ministry’s rationale for introducing CTT was to bring commodity markets on par with the securities market where a securities transaction tax is being levied since 2004.

India is the second country in the world to introduce a tax on commodity futures trading. In 1993, Taiwan imposed a transaction tax of 0.05 percent on the value of the commodity futures contract.

12.2.   What  are  main  benefits  of  CTT?

Based on the current trading value of non-agricultural commodities in the Indian exchanges, a back-of-the-envelope calculation suggests that CTT (at 0.01 percent) could fetch Rs.15,950 million (about $300 million) to the cash-starved exchequer every year. This is a substantial amount in the present times when tax revenues are under severe pressure and the government’s attempts to reduce fiscal deficit through other measures are not yielding positive results.

The revenue raised through CTT could be utilized in several ways. Since the central government is concerned over the deteriorating fiscal situation, it could use a part of this tax revenue to reduce fiscal deficit. Equally important, a portion of proceeds of CTT should be utilized to enhance the regulatory and supervisory capacities of the Forward Markets Commission (FMC), which is grossly understaffed and underfunded. A part of proceeds could also be deployed to install price ticker boards at local markets and post offices across the country for displaying commodity futures prices. This would help farmers and producers to access information on a real-time basis in their local languages and benefit from the futures price movement.

Apart from revenue potential, CTT would enable authorities track transactions and manipulative activities that undermine market integrity. Currently, large information gaps exist and a centralized database of money flows is almost nonexistent. With the implementation of CTT, the government would be better equipped to track the inflows and outflows of money into the commodity derivatives markets. This could be particularly valuable to the Indian tax authorities as there are no effective mechanisms in place to track the flow of illicit money that it finding its way into the commodity futures markets. The audit trail is considered to be a key factor behind the prevailing opposition against CTT.

Another key benefit of CTT lies in its progressive outlook. It would only affect speculators and non-commercial players who often use algorithmic trading to transact a large number of commodity futures contracts at very fast speeds. In contrast, a sales tax is generally considered to be regressive because it disproportionately burdens poor people.

In addition, the CTT would be a more efficient revenue source than other taxes. It would be collected by the commodity futures exchanges from the brokers and passed on to the exchequer, thereby enabling the authorities to raise revenue in a neat, transparent and efficient manner.

12.3.  Can CTT Trigger A Sharp Fall In Futures Trading?

It is too early to judge the impact of CTT on the trading volumes as the tax came into force only on July 1, 2013. There is no denying that the cumulative value of trade during April-December 2013 is lower than the corresponding period of the previous year but it would be erroneous to blame CTT for it as other important factors such as weak domestic market sentiments, the NSEL payment crisis involving the MCX, and adverse price developments in the global commodity markets cannot be overlooked.

During April-December 2014, CTT collection was Rs.3,750 million at the MCX, the country’s largest commodity exchange, despite the drastic decline in futures trading volume during this period. The initial market trends suggest that CTT had no major negative impact on genuine hedgers – consisting of producers, processors and consumers of the underlying commodity – who use futures markets primarily for hedging purposes.

Similarly, there is no evidence to prove that CTT has shifted futures trading to an illegal platform (popularly called ‘Dabba’ trading), as anticipated by many market participants.

12.4.   Is  CTT  a Panacea?

No. Despite numerous potential benefits, a levy of 0.01 percent alone cannot fix the myriad problems plaguing the Indian commodity futures markets. CTT should not be viewed as a substitute for effective regulation and supervision of futures markets.

If CTT is used in conjunction with other measures  it does offer an attractive mechanism to reform the Indian commodity derivatives markets. Hence, it should be part of policy measures to ensure that commodity futures markets function in a fair and orderly manner. In the larger interest of the macro economy, the economic and developmental gains of taxing speculative investments in the commodity futures markets are more than the private gains of speculators and day traders.