Difference Between Direct and Indirect Tax

Every earning individual in India is required to pay income tax based on the various slab rates. Similarly, when individuals buy products or use services, they must pay tax on those purchases or services. It is at this point that the necessity to grasp various sorts of taxes and their distinctions arises.

These taxes are broadly classified into two categories – Direct tax and Indirect tax.

Direct Tax and Indirect Tax

Here is a brief distinguish between direct tax and indirect tax

• Direct Tax

Direct tax is paid by an individual directly to the government. A taxpayer cannot transfer this liability to another entity or person. The Central Board of Direct Taxes (CBDT), which is governed by the Department of Revenue, administers direct taxes in India. CBDT also contributes to the planning stages concerning the implementation of direct taxes. 

• Indirect Tax

An individual pays indirect tax to the government but through an intermediary. This intermediary then passes it on to the government. The Central Board of Indirect Taxes and Customs (CBIC) is responsible for administering indirect taxes in India. The Department of Revenue governs the CBIC as well.

Difference Between Direct and Indirect Tax

The fundamental categorisation of taxes is premised upon who collects the taxes from taxpayers. An overview of direct tax and indirect tax difference is given below –

Types of Direct Tax and Indirect Tax in India

There are several types of these taxes, which further accentuate the difference between direct tax and indirect tax. These types are as follows –

- Types of Direct Tax

The following are some common types of direct taxes imposed in India –

• Income Tax

An individual pays an annual income tax based on their income in a particular fiscal year. Under the ITA, the term ‘individual’ also encompasses Co-operative Societies, Trusts, HUFs or Hindu Undivided Families, and any artificial juridical person. 

• Wealth Tax

Wealth tax is levied on individuals, HUFs, or companies on the value of their assets in a financial year. It applies to a variety of asset types such as cash, shares, real estate, fixed assets, bank deposits, pension plans, etc. 

• Corporation Tax

It is paid by businesses or companies that operate in India based on their earned income in a financial year. The rate of taxation varies based on whether an enterprise is incorporated in the country or anywhere abroad.

• Capital Gains Tax

The profits generated on the property sale are taxed under the purview of Capital Gains Tax. The term ‘property’ includes residential property, stocks, bonds, precious metals, etc.

- Types of Indirect Tax

Prior to the introduction of GST in India, there existed the following types of indirect taxes –

• Sales Tax

The government levied sales tax on the sale of movable goods.  

• Service Tax

All service providers are required to pay this tax to the government except those covered under the negative list of services.

• Value Added Tax

It was a consumption tax placed on a product, which was added at each stage of its manufacture or distribution.

The government introduced the GST regime intending to streamline the taxation proceedings in India. 

Benefits of Direct vs Indirect Tax

These are some key benefits of direct taxes-

• Curbs Inflation: When the economy is faced with monetary inflation, the government subsequently raises tax rates. This increase pulls down the demand for goods and services, thereby condensing inflation.
  
  
• Social and Economic Balance: There are well-defined tax slabs and exemptions in place, which helps to balance out income inequalities. Therefore, individuals with lower income pay lower taxes and vice versa. 

The benefits of indirect taxes are-

• Equal Contribution: Indirect taxes ensure that every individual pays some amount, however little, to the state. It also reaches people in lower-income groups, who are exempted from direct taxes.
  
  
• Non-evadable: These taxes exist within the price of a commodity. So, an individual can only evade an indirect tax if he/she does not consume the taxed item.

Drawbacks of Direct and Indirect Tax

Direct taxes are accompanied by some drawbacks, which are as follows-

• Tax Evasion: Although stringent laws are in place, individuals use fraudulent practices to evade taxes completely or pay lower amounts than they should.
  
  
• Burdensome: Direct taxes are paid in a single lump sum every year. As a result, they are often considered a burden. Additionally, the documentation is extensive and time-consuming, which adds to the inconvenience. 

A few downsides of indirect taxes include – 

• Regressive: Since indirect taxes are the same for all economic classes, it can be deemed unfair for those with lower incomes.
  
  
• Increased Product Price: An indirect tax is added to the cost of goods and services in the country, which makes these commodities more expensive.