June 30: A good tax system must have certain characteristics for it to become truly effective: it should have a broad base, a low single rate or minimum rate differentiation, low compliance cost and the ability to create the least distortions in the economy.

The Goods and Services Tax (GST), in its current form, fails on most counts.

It has a rate structure that stretches from zero to 43 per cent, if you work in the cess that has been imposed on certain goods to compensate states for any loss of revenue in the first five years.

Although it claims to have four slabs - 5, 12, 18 and 28 per cent - a bagful of exemptions and lowball rates on gold and rough precious and semi-precious stones (3 per cent and 0.25 per cent, respectively) mean that ordinary customers will be left wondering whether they have exchanged one cat's cradle of taxes for another.

Although the first faltering steps towards indirect tax reform took place in 1986 when Vishwanath Pratap Singh introduced a modified value added tax that covered only a few commodities, the real jump off point began with the late Amaresh Bagchi report in 1994 which hashed options for a reform of domestic trade taxes.

The Bagchi report argued that there was a "strong case for bringing services under the tax base and VAT facilitates a comprehensive approach to the taxation of goods and services".

"Ideally, all taxes on goods and services should be integrated into a single tax," the Bagchi report said.

Move ahead to 2009 and the task force on goods and service tax set up by the thirteenth finance commission had suggested that the rate of central GST and state GST on all non-sin goods and services should be fixed at "a single positive rate of 5 per cent and 7 per cent, respectively". That suggestion was broadly in line with existing rates in Singapore and Malaysia.

Several countries such as the UK and France have a standard rate of 20 per cent, a lower rate on some goods of 5 per cent, while a few others are exempt.

One of the biggest advantages of a goods and services tax is the opportunity to crank up the combined Centre and states tax-to-GDP ratio, which has stubbornly stayed at just a tick above 16 per cent - a level seen since 1991.

The GST regime holds out the promise that India now has the opportunity to break out of that straitjacket. But it will not happen unless compliance costs are low and the rigours of tax filing are simple. That would help crank up the tax base without which the tax-to-GDP ratio cannot rise.

Experts have said that the GST regime will have an initial tax base of around 90 lakh assessees. The current base of excise, service tax and VAT taxpayers is 80.91 lakh. But only 66 lakh assessees have registered with the GST Network, which may have been one reason why the government chose to relax the compliance requirements in the first two months.

While large tax payers may seamlessly switch to the GST Network, traders who have stayed outside the tax radar will be reluctant to comply and will hold out for as long as they can.

But the GST regime has an ingenious method of ferreting out the tax dodgers: it disincentivises the practice of doing business with those who do not register with the network above a turnover threshold of Rs 20 lakh a year. Although it does provide for a reverse charge mechanism that allows a GST assessee to shoulder the tax burden of someone outside the system, it is unlikely that people would want to do business with someone who breaks the chain for the seamless flow of input tax credits.