The tax-free status of agricultural income has been a contentious issue amongst the urban middle class of India for a long time. The issue is raked up every year close to the budget presentation. It is also commonly used as an argument against farm subsidies, MSP, and other farm sector reforms.
In my view, the whole debate and discussions around the taxation of agriculture income in India amongst the urban middle class is driven by misunderstanding and ignorance about agriculture economics in India.
Constitutional status of the Agriculture Income
It is important to understand the constitutional and legal status of the agriculture income in India, before discussing the taxation aspect.
· Agriculture is a state subject as per the Constitution of India (Entry 46 in the State List of Schedule VII). The power to tax agriculture income vests in the respective state government. The central government cannot tax agricultural income. A few state governments, like, Assam, Odisha, Tamil Nadu, and West Bengal, have enacted legislation to tax the agriculture income in their respective states. Most of these legislations tax only orchards and plantations and exempt staple food crops like wheat, rice, and vegetables, etc.
· Agriculture income is exempt from Income-tax under section 10(1) of the Income Tax Act, 1961. As per section 2(1A) of the Act, agriculture income that is exempt from tax is defined as:
i. Rent (cash or in kind) earned from any land in India which is used for agricultural purposes, or
ii. Any income from the production of agricultural goods; from activities necessary to make agriculture produce fit for selling (e.g., removal of husk from paddy), and from sale of such agriculture goods by the cultivator or receiver of rent in kind.
iii. Income from building owned and occupied by the cultivator or receiver of rent, provided the building is on or near the land and is required as a dwelling house, or as a store-house, or other out-building.
· Income from livestock, fisheries, forestry, etc. (commonly referred to as allied activities) is not considered part of the agricultural income.
· Income from Coffee and Tea plantations is subject to presumptive taxation. 40% of such income is considered taxable income.
· Agriculture income is considered for determining the marginal rate of tax for assessees, and all non-agriculture income is taxed at such marginal rate of taxation.
Quantum of agriculture income
As per the second advance estimate of national income for FY24, total GVA from Agriculture and Allied activities is estimated to be Rs46.92 trillion (About 18% of total GVA). The share of crops (agriculture activity as per the Income Tax Act) in this GVA is approximately 55% (Economic Survey FY23). Hence, the GVA from Agriculture is roughly Rs25.81 trillion.
As per the last agriculture census (2015-2016), the total number of operation holdings in the country was 146 million. It is most likely that the number of holdings now is higher than this. However, if we take this number only, the average income per farm is approximately Rs1,76,700.
It is pertinent to note here that during AY2022-23, a total of 74 million income tax returns were filed. Out of this, 51.6 million (appx 70%) income tax returns declared zero or negative (refund) tax liability. In the case of farmers, over 99% of farmers would have total income less than the threshold of Rs7 lacs.
Agriculture economics
The last agriculture census divided the operational holdings
as per their sizes in the following categories.
· The average size of an operational holding was 1.08 hectares (approximately 2.67 acres).
· Small and Marginal holdings (0 to 2 hectares or less than 5.3 acres) accounted for 86.2% of total operational holdings. This accounted for appx 47.3% of the total operational area.
· Semi Medium and Medium holdings (2 to 10 hectares) were 13.2% of total holdings accounting for 43.6% of the total operational area.
· The large holdings (10 hectares or above) were only 0.57% accounting for 9% of the total operational area.
Now consider farming economics.
The largest part of the operational holdings is used for growing staples like wheat, rice maize etc. The maximum a large farmer can earn from these crops is Rs200000 to Rs2,50,000/hectare per year, assuming he takes two full crops. For small and marginal farmers these earnings are limited to Rs125000 to Rs175000/hectare per year. (Assuming average productivity of 3.5 tons per hectare)
For Sugarcane average earnings is Rs140000 to Rs165000/hectare per year. (Assuming average productivity of 85 tons per hectare).
For Pulses, and oilseeds the average earnings per year could range between Rs2,50,000 to Rs3,00,000. (assuming average productivity of one ton for pulses and 1.2 tons for oil seeds)
For vegetables and fruits, average earnings could range between Rs4,00,000 to Rs5,00,000 in good years.
Tax revenue potential
As per the above optimistic earnings estimates and assuming only one bad crop in three years, the total tax collection potential from farmers could be projected as follows:
· Small and marginal farmers (46% of operational holdings) assuming an average holding of one hectare per family of two adults – NIL
· Medium farmers (43.6% operational holdings), assuming an average holding of 5 hectares per family of 2 adults growing one staple crop and one cash crop- NIL
· Large farmers (9% of operational holdings), assuming an average holding of 15 hectares divided equally between staples & cash crops and 50% given on rent or crop share, accounting for 15% of crop GVA, four adults per family, and effective tax rate 20% - Rs40000cr.
Of course, these are back-of-the-envelope calculations with very optimistic estimates of crop productivity and prices. If we consider one bad crop in three years (which is the normal case) the potential tax collection will diminish materially. Also, if we adjust it for the taxes already been collected by the states, the potential will be even less.
For context, during FY23, the government collected Rs19,72,248 crore in gross direct taxes. The top potential for tax on agriculture is just 2% of this amount.
Trivia
Many people might be using agriculture income for laundering money. They may be showing exaggerated income from their farmlands just to convert their black money (cash) into white money. If we start taxing agricultural income, they will just stop this practice. Nothing will get added to the revenue kitty. Rather, the cash will stay in the parallel economy, and the interest income (which would have been otherwise fully taxable if the principal amount was declared as legal money), will also escape the taxation.
In conclusion, this whole discussion about taxing agriculture income is much ado about nothing.
