THE EXCHANGE. Of debt and taxes

Every economic downturn brings a call for debt forgiveness. Income to service debt evaporates and collaterals lose value. In fact, creditor-debtor conflict has existed for ages, but convention upholds sacred rights of creditors while economic reality frequently emphases relief for debtors.

Simultaneously, people can be classified into two categories — those who do not pay taxes and those who grudgingly do. Law lexicons describe tax as a “pecuniary burden on individuals” which is “not voluntary but an enforced contribution exacted pursuant to legislative authority”.

Private gain must not translate into public pain. Still, let us also recognise that taking positions or emotional outpourings neither solve the problem nor lay a sound basis for the future.

Liza Minnelli, the famous singer, put it so well “somebody loses, somebody wins, but the planet spins, and the world goes round”. Yes, the world indeed goes round. It was precisely two years (and some days) ago the then finance minister P Chidambaram asked banks to focus on recovery of bad loans (calling it banking system’s biggest challenge), then itself seen at around ₹2.4 lakh crore. No surprise then on the latest estimates going around.

At the time, as the president Ficci, I voiced an opinion that banks may not have taken swift action. I concede they may have sincerely anticipated better times but stern measures were required — in essence, effective enforcement of contracts. We believed that if NPAs were classified into three categories, there could be solutions that could mitigate build-up of pain.

Step one was to prudently tackle projects stalled due to policy/administrative laxity or external circumstances and slowdown, but where the company and its business model were not impaired and hand holding or last mile support would go a long way.

Step two was to address instances where the business model was faulty or losses had weakened the company; deep restructuring along with promoter/shareholder commitment by way of asset sales and sharing of pain — or friendly management changes — could be viable options.

Certainly, some infra and other projects were resolved but large pain points persisted in industry.

Remaining cases would mostly be wilful defaults and remedy would lie in strict interpretation of contracts and due action, including but not limited to forced management change or liquidation. We believed it was vital that high-level reviews of such loans took place including at the Finance Ministry and RBI. Banks themselves may have been unable to take dispassionate stances.

It has also become important to take a harder look at definitions of wilful defaults to avoid unintended consequences of fine technical interpretations.

NPAs were humungous years ago and it was obvious that with indifferent corporate profitability the position would deteriorate. On the hope of revival, many banks would have restructured many loans. But an unintended effect was sometimes to burden effectively non-performing loans with further interest burdens.

So, one cannot be 100 per cent certain what portion of NPAs being discussed today are, in fact, interest build-ups on what were already suspect loans. It requires bravery to separate wheat and chaff in such circumstances.

Failure will make our existing NPA’s gallop at 10-15 per cent per year and soon double.

It is safe to conclude that all bad loans are not outcomes of bad decisions or behaviour. Many have their origins in pure business risk. Therefore, high-pitched debates in media, financial markets, Parliament or administration can rapidly turn counter productive.

The last things we need are good faith judgments questioned and probed in hindsight. In the bargain business is viewed by society as inherently deviant. Anyone then trying to assist troubled businesses on merits will be suspect, despite bonafide intent.

All this cannot be good at a time when the economy is in dire need of a fresh investment cycle and the need to bring assets back into a productive one. Even if the financial problems are sorted out by then, I do not foresee that all will be well. There may be a decision-making paralysis, or lenders will play tough with terms and covenants so as to deter honest borrowers.

Limited liabilities of shareholders are a well-accepted principle. The age of personal guarantees to secure corporate loans is passé . Rather than hold on to such uncertain collateral banks could enforce much higher borrower discipline and governance by holding out the threat of removal from management, or promoter equity being rendered valueless in the event of uncorrected wilful misdemeanour.

For a nation’s finances to be sustainable robust, all national incomes need to fall within the tax framework to promote equity and shared burdens, and avoid misuse and shades of grey. No less than our chief economic adviser is reported to have suggested tax above a threshold income.

This can be, and must be, scientifically done without hurting small farmers at the lower rungs or those who have endured agrarian distress. A narrow taxpayer base always compels exploitation of the artificially curtailed pool. Exemptions create opportunities for misuse.

Kautilya’s Arthashastra advocated expansion of the tax base rather than play on tax rates. There can be many ways to tax-incentivise all sections to expand productive capacities to augment the future tax base. The government must be urged to write laws with an eye not centred on bolstering revenue but on ensuring fairness, preferably aligned with well-respected global principles.

Bad choices usually compound themselves and add to grief, be the decision maker a borrower, a banker, a taxpayer or the government. Quoting Minnelli again, “sometimes you’re happy, sometimes you are sad, sometimes you lose every nickel you had, but the world goes round”.

The writer is an entrepreneur and former president of Ficci. The views are personal