DIRECT TAX AND INDIRECT TAX-ALL YOU NEED TO KNOW

Tax is a financial obligation, payable to the government for the cost of living in a society. It is a fee levied by the government of the respective country or territory on income, activities, goods, and services. It is broadly classified into direct tax and indirect tax.

DEFINITION OF DIRECT TAX

Direct tax is that kind of tax, whose flow is direct, from the taxpayer to the Government. When the liability of tax falls on the same person who has to make payment of it, then the tax is said to be direct. That is to say, the individual on whom tax is levied, also bears the burden of it, in case of a direct tax. Thus such taxes cannot be shifted to another person.

• Direct Taxes are the primary source of government revenue.
• It is progressive in nature i.e. it increases with an increase in income or wealth and vice versa.
• It operates on the notion of the ability to pay.

Meaning that it levies according to the paying capacity of a person. And so, the ones who earn more, pay more. In this way, the tax liability on the rich is more in comparison to the poor.

DEFINITION OF INDIRECT TAX

Indirect tax is one whose flow is not direct, i.e. implied, as it flows through others. When the taxpayer is the hands that deposit tax to the authorities, and at each stage, the incidence keeps on shifting until it reaches the ultimate consumer, who actually bears its burden, it is called an indirect tax.

Here, one should note that indirect taxes are not paid by the assessee directly to the government, rather it is imposed on goods and services, which is collected by the intermediaries on behalf of the government and then deposited by them.

These taxes are levied on the price of goods and services when they are produced and sold. So, it is the consumers who consume the product and bears the incidence at the end, but the immediate liability for the payment of tax falls upon the intermediary, i.e. manufacturer or retailer.

As it is not based on the principle of ability to pay, it is regressive in nature, as the burden of tax is borne by each class of people equally.

Stages of Imposition of Indirect Taxes

• Stage 1 – Levy: Those liable for tax are identified and charged.

• Stage 2 – Assessment: Process adopted for the ascertainment of indirect tax liability.

• Stage 3 – Collection: Tax collected by the Revenue department from the assessee.

DIFFERENCES BETWEEN DIRECT TAX AND INDIRECT TAX

As of now, we have discussed the basics of the two types of taxes, now we will move forward to understand the difference between direct tax and indirect tax:

1. Direct Tax refers to the tax which is paid directly to the government by the person on whom it is imposed. On the other hand, Indirect tax is a form of tax that is paid by the taxpayer to the government, but the amount of tax is recovered from another person, who gets the benefits, i.e. the final consumer.
2. The Central Board of Direct Taxes (CBDT) functioning under the Department of Revenue is the authority that administers Direct Taxes in India. Conversely, the Central Board of Indirect Taxes and Customs (CBIC) is the authority responsible for the administration of Indirect Taxes.
3. While Direct tax is levied on the assessee, which may include Individual, HUF, Company, AOP, BOI, etc. Indirect Tax is paid by the final consumer.
4. Direct Tax is progressive in nature, as it is based on the percept of ability to pay. So, the tax is imposed more on the rich and less on the poor. Oppositely, Indirect Tax is regressive in nature, as every person contributes equally to the payment of taxes.
5. Direct Tax is one in which the incidence and impact of the tax fall on the same person, whereas Indirect tax is a tax in which the incidence and impact of the tax fall on different persons. Here incidence refers to the liability for the payment of tax, and impact means actual payment of tax.
6. In the case of a direct tax, it is the taxpayer who bears its burden, i.e. it cannot be shifted to or recovered from another person. Conversely, in indirect taxes, the burden of tax can be shifted to another person.
7. Direct taxes are when the assessee on whom the tax is imposed, is liable for its payment. Contrastingly, indirect taxes is when the person receiving the benefits is liable for its payment and not the person on whom it is imposed.
8. Tax evasion is a practice of deliberately avoiding the payment of taxes while taking recourse to unlawful means. In the case of direct taxes, tax evasion is possible, whereas, in the case of indirect taxes, tax evasion is not possible as the amount of tax is hidden in the price of the goods and services itself.
9. While direct taxes help in controlling inflation, by absorbing excess liquidity from the market, indirect taxes give rise to inflation or deflation.
10. Direct taxes are imposed on and collected from assessees, which includes individuals, HUF, companies, etc. whereas indirect taxes are imposed on and collected from consumers of goods and services but paid and deposited by the assessee to the government.
11. Direct tax is charged on individuals, HUF, and business entities, and the burden cannot be shifted to others. As against, Indirect tax is charged on commodities and services, and its burden can be shifted to others.
12. The taxable event in the case of direct tax, when the income of the assessee reaches the maximum limit specified under the law, the exceeding amount will become taxable. Contrarily, whenever there is a purchase/sale/manufacture of goods and provision of services, it is a taxable event in the case of indirect taxes.
13. Talking about administrative cost, the administrative cost of direct tax is greater in comparison to indirect taxes.