Solution to black money and perhaps world poverty

By Vishal Gupta

 

Abstract

The profit generated through government or consumer spending is converted into black money by tax evasion and ends up getting parked in the real–estate market. Thus starving the financial instruments or the financial market, which creates sustained jobs and forms the supply curve of an economy. Such inelastic supply of an economy results in inflation and is usually met with increase in interest rates from RBI. Eventually further starving the mass-market, thin-margin businesses, with higher capital costs, more risk and less capital for growth. People would rather save a 30% direct tax and another 10-20% indirect tax by not making invoices and straight away park the money in real estate for immediate gains without getting noticed while corrupting and derailing the entire system of sustained business expansion. The inherent risk of getting caught at a larger scale of manipulation is a further deterrent to scale up businesses.

 

 

 

 

 

 

 

Sir Winston Churchill –

64 years ago

reason for not giving Independence to India.

“Power will go to the hands of rascals, rogues, freebooters; all Indian
leaders will be of low calibre & men of straw. They will have sweet tongues
& silly hearts. They will fight amongst themselves for power & India will be
lost in political squabbles. A day would come when even air & water would be
taxed in India ”

One must not underestimate our human species and its immaculate power.

India will not only wipe out black money and eradicate poverty but also lead the world on how to run an economy and development both secularly and democratically.

“Few tiny atoms have changed the world

Only few simple thoughts are needed to transform humanity.”

 

 

 

Table of Contents

Why black money needs to be eradicated?                                                                     4

Why real estate is important?                                                                                                   5

It is the cause for lower GDP and poverty                                                                                        5

Cause for high Inflation                                                                                                                               7

How does it cause more corruption?                                                                                                      8

How does it create poverty?                                                                                                                      9

What has government tried so far?                                                                                  12

A simple fix for real estate transparency                                                                  13

Why should we care about world poverty?                                                              15

Conclusion                                                                                                                                                     17

Annexure I                                                                                                                                                      18

 

 

 

 

Why black money needs to be eradicated?

 

At a five-day anti-corruption convention in 2009 at Doha, United Nations said the cost of political corruption to governments around the world is about 1.6 trillion dollars[1] each year. This does not include the black money generated by the businesses and the tax losses there off. The loss due to this has a spiraling impact on public welfare and public policy.

 

The black money in India alone is stated to be 50%[2] of the GDP of India i.e. another 750 billion dollars a year. It means $250 billion in taxes. It is roughly equal to the Indian budget of $278 billion[3].

 

 

 

 

Why real estate is important?

 

India has 88%[4] assets as non-financial and the debt being as low as 3%. The financial assets only account for 13% of the total wealth of the nation. It shows that out of the 3.5+ trillion dollar wealth of the country, most of it is in the real estate market.

 

It is non-worthwhile to prove how rampant the black money is in the real-estate sector. Indian Prime Minister Mr. Manmohan Singh at the Today Conclave admitted “I think as far as black money in real estate is concerned, unfortunately that is a reality and one way out of this would be to lower the stamp duties,” [5]

 

Tata Housing Development Company Managing Director and CEO Brotin Banerjee in the same meeting remarked – “There has been rampant use of black money in the real estate sector.”

 

The problem is reaching epidemic proportions can be judged from the recent news coverage it has been receiving:

 

The Economic Times reported – “Property market: Biggest sink of black money” – 7^th November 2010

 

The Times of India in Goa reported – “Goa real estate boom fuelled by black money” – 20^th July 2011

 

The Business Today Mumbai reported real estate as – “The black money vault” – 20^th March 2011

 

The Business Standard reported: “Black money trail: Dubious real estate deals under I-T scanner” –19^th April 2011

 

It is a well-documented fact that the secondary market real estate deals today are generally done in more than 50%[6] hard cash.

 

It is the cause for lower GDP and poverty

 

The development of the economy is directly linked with the development of the financial markets as evidenced by the below mentioned comments in the Global Wealth Data Book 2010 by Credit Susie.

 

 

“Other features of the survey evidence from developing countries capture important real differences. Very high shares of non-financial wealth are found for the two low-income countries in our sample, India and Indonesia, reflecting both the importance of land and agricultural assets and the lack of financial development. On the other hand, the share of non­financial assets in China is relatively modest, possibly because the value of housing is reported net of mortgage debt, and because urban land is not privately owned. In addition, there has been rapid accumulation of financial assets by Chinese households in recent years. Debts are very low in India and Indonesia, again reflecting poorly developed financial markets.”

 

Also the complex mechanism for investment preferences is well presented in a paper in 2008 “Financial Repression, Bank Deposits, Real Assets and Black Money” in which Mr. Gurcharan Das elaborates why the black money influences the investment choices of individuals. It may appeal to common sense that how people would get stuck to an asset class due to inability to park the black money. This puts an artificial ceiling on the investments available to the Primary and secondary financial markets which are the growth factory for jobs and production (GDP) in the economy.

 

The profit generated through government or consumer spending is converted into black money by tax evasion and ends up getting invested in the real–estate market to park black money. Thus starving the financial instruments or the financial market, which creates sustained jobs and forms the supply curve of an economy. People would rather skip 30% direct taxes and another 10-20% indirect taxes and straight away park the money in real-estate for immediate gains without getting noticed while corrupting and derailing the entire system of sustained business expansion. The inherent risk of getting caught at a larger scale is a further deterrent to scale up businesses. A promoter ends up spending substantial time in managing the transaction personally without delegating to maintain secrecy. Lower profits and turnover in books further restricts objective view of business, opportunities for Debt and equity participation.

 

 

Inelastic Supply due to parking of black money

 

Cause for high Inflation

 

Every year, there is a developmental effort from the government like building roads or schemes like rural employment, which may be very well conceived.

It ends up playing havoc with the economy. The 10,000s of crores ends up pushing the demand which then in turn temporarily increases prices and the profit from the inflation ends up getting parked in the real estate as apposed to the financial market, thus starving the supply of capital and making it very inelastic in long term. These developmental efforts are normally met by increase in real estate prices that can very easily be seen from the history of our economy.

 

The government ends up controlling the inflation with increase in interest rates and further reducing the access to capital and negatively impacting supply. The increase in interest rates directly decreases the profitability of businesses and increases the risk of expansion. They especially make the mass-market, low-price, non-branded businesses vulnerably due to already being on thinner margins. The ineffective strategy can be very well be correlated with the fact that India is a global anomaly in terms of having persistent high inflation. The Economist in its article “Bringing tears to Indian eyes” remarks – “In rich countries (with the possible exception of Britain), deflation remains the bigger worry, but India’s inflation is also substantially higher than in other emerging economies.”

 

It continues to say –

 

{Indian policymakers tend to underestimate this trend. In April 2009, the governor of the country’s central bank was quoted as saying that he expected WPI inflation to be at 4% in March 2010. In fact, it was 10.2% that month, and stayed at or above 10% in every month till July. And while the RBI does not formally target inflation, there are plenty who think that it has been too slow to tighten monetary policy. It has in fact been raising rates regularly since March last year, but only very gradually. Some reckon it should have tightened faster. The RBI is, of course, wary of choking off India’s rapid recovery from the slowdown in growth during the global economic crisis. Its governor, D Subbarao, said on January 17th that “For the Reserve Bank the challenge is to calibrate monetary policy taking into account the demands of inflation management and the demand of supportive recovery”.}

 

“The shift of the Indian household sector from deposits to inflation hedges such as property and gold is creating a liquidity crunch in the banking sector that’s unlikely to be solved in the near future,” Kristine Li, senior director of Asia-Pacific credit strategy at Royal Bank of Scotland Group Plc, told Bloomberg. “If banks’ loan growth decelerates, asset quality concerns are likely to return.”

 

 

How does it cause more corruption?

 

The situation may be better understood by an analogy of honeybees. There are several types of opportunities for corruption spread across the country like how different types of flowers exist in an area. There may be multiple colonies of honeybees that prefer different types of flowers. It may include businessmen, legislative, executive, judiciary, NGOs and people from all walks of life. The bees are uncountable and difficult to catch. The nature of bees is to collect honey or create wealth. There are always honeycombs where all the honey gets parked.

 

Examples from Current Scenarios

• Honeycomb – People buy large areas of agricultural land by parking black money just before a government acquisition and end up converting in white.
• Flower – In listed companies promoters sell company properties and pocket black money, evade tax and dupe shareholders.

 

We have already established that Real-estate is the biggest honey-comb of the economy and especially India with 87.6% of India’s wealth stored in it. It also is the biggest sink for black or corruption money.

 

How much honey can be parked in gold or cash?

A 25,000 crore scam is equal to 10 tones of gold. It’s very difficult to store such huge quantities of gold without the fear of getting caught or killed.

 

How much honey has been parked in Swiss banks ?

A very well made out empirical study was published recently by Dev Kar from the Global Financial Integrity, Centre for International Policy, Washington DC. He dispelled many myths about the illicit money flows to Swiss banks.

 

“It is estimated that a total of $213.2 billion was shifted out of India between

1948 and 2008, or about 17.7% of India’s GDP at end-2008. Applying rates of return on these assets based on the short-term US Treasury Bill rate, the total gross transfers of illicit assets by Indian residents amount to $462 billion at the end of 2008.”[7]

 

The outflow compared to real estate parking is quite small if we see it on per year basis. So it can easily be inferred that most of the black money is being parked within India and that too in the Real Estate.

 

Easy access and ability to park black money makes honeybees multiply. It attracts honeybees to the top positions.

 

Since one cannot control the spread of flowers or catch the honeybees, it is only wise to remove the honeycombs in the area and the honeybees will have no choice but to go.

 

How does it create poverty?

 

An economy is measured by the GDP of the country. GDP is broadly the demand and supply of the country. Lets take a new perspective on how economy can grow.

 

Lets assume that majority of the people if given the ability to buy and consume a product/service (non luxury) that they can afford would normally choose to consume if given enough wealth. It is also then fir to assume that the majority of demand is a function of income or wealth the people have. Some as such the demand or need to products is either latent or active at any given time depending on their income.

 

So basically, if the economy can provide enough jobs then there is enough demand to consume any products and services. So the bottleneck is really the jobs or the wealth spread.

 

Now if the government starts creating jobs and the demand starts rising then the prices should start increasing and also the profit opportunities. There should then be a matching response by increase supply and book profit. The increase in supply should also lead to job creation and thus create a powerful self-sustained reaction of growth of economy.

 

However in reality, an increase in supply would always need access to cheap capital. India only has $3.5 trillion[8] dollars of capital over a population of 1.2 billion as compared to $54.6 trillion[9] in America for 300 million populations. There is a difference of astonishing 223 times when we also take into account the financial component only. The disparity in wealth is only 23.48 times if we only take non-financial wealth as comparison.  This stark disparity in our asset classes throws the economy off balance when it comes to job creation through further investments.

 

Further to make it worse the debt taken by the public in India is mere 4% of the total wealth. So majority of the capital remains locked away in the real-estate sector and does not even get deployed as collaterals or loans. With high interest rates the risk of doing business goes up and profitability in the stock market goes down. Real-estate becomes an even more attractive option as a safe heaven and especially for tax evasion. This disrupts the chain reaction for job creation. It leads to less spread of income, less taxes, less public welfare projects and only concentration of wealth into properties in established cities and no jobs for the homeless.

 

GDP of a nation should normally be 25% to 32% of the country’s financial wealth. What has perhaps remained unnoticed is that India it is already running at 127%, which is several magnitudes higher. It only shows the lack of capital in the economy.

 

It has some of the following implications:

 

Stock Market or financial assets are under performing as compared to GDP.

• Businesses not getting listed.
• Investment in stock market comparatively low.
• Valuations of businesses listed are very low.
• Lower valuations or margins are either because of
  • Black money being squeezed out.
  • Interest rates are too high.
  • Low pricing mentality due to price sensitive demand.

 

It is to be noted that the GDP does not include the 50% transactions done in black money. So, the ratio is actually over 200% and almost 10 times normal.

 

Developing the financial wealth

 

To create more businesses or employment we need to either increase the profitability to increase corresponding valuations by plugging leakages of black money or redirect investments into financial assets. The wealth or the capital of the country seems too small compared to GDP in India. It’s therefore needed that the black money portion of the real estate be recognized and made available for loans and capital.

 

 

Developing the non-financial wealth

The capital or the fuel of the supply curve is embedded in the real estate as already seen. So, it is apt for government to allow development of this asset class through FDI. However, with the rampant corruption and involvement of black money in this ever so important sector, it is natural for the foreign investors to find other destinations, which they can deal with easily and remotely.

 

So, it is most important to clean up this sector to unclog the hidden potential and develop it further at all costs for a smoother expansion of the economy and creating jobs.

 

Poverty a closer look 
The figures for India are disturbing. At number 16th on the rankings of poverty gaps, and housing almost 41% of the world poor (World Development Indicators database), there is a lot to be concerned about. There are 1,26,700 Indians who are classified as millionaires (Capgemini, Merrill Lynch Wealth Management), yet a sickening 80% who lives on less than two US dollars a day. The stark contrast between the rich and the poor is probably our biggest challenge in terms of designing effective social and economic policies. India’s priority must become its poor because it is poverty that affects the majority of the population.

 

 

What has government tried so far?

 

The government has done a brilliant job in the stock market by way of demat accounts, policies, procedures and electronic exchanges. It has also tried many ways to control the black money in the real-estate sector.

 

20C. There was a form 37i required under Chapter XXC. It used to act like a crude check on self-reporting on real estate transactions by inducing fear of government take over in case of under reported prices. It was introduced in 1986. It gave powers to the government to acquire the land if it thought it was being sold below the market price.

It was removed in 2002 in the budget as a tax friendly measure by the BJP government under 269UP.

 

Once gone, the real estate has become the major parking method for all money collected in black by either corruption or tax evasion with no way of tracing it. The percentage of black/white being quoted in the property deals has substantially risen in the last decade and so has properties linked with corruption cases (10 times)[10].

 

Why it was really removed is attached under Annexure I – a circular from CBDT on the reasoning behind the change in policy.

 

50C. (1) Where the consideration received or accruing as a result of the transfer by an assessee of a capital asset, being land or building or both, is less than the value adopted or assessed ⁹¹ [or assessable] by any authority of a State Government (hereafter in this section referred to as the “stamp valuation authority”) for the purpose of payment of stamp duty in respect of such transfer, the value so adopted or assessed ⁹¹ [or assessable] shall, for the purposes of section 48, be deemed to be the full value of the consideration received or accruing as a result of such transfer.

 

This section however only applies capital gains tax at the circle rates and still does not prevent the black money being part of the transaction.

 

 

A simple fix for real estate transparency

 

Short comings of XXc

• Requires government funds
• Requires monitoring and not automatic.
• Does not use market forces and is subjective.
• Open to corruption and misuse

 

How to over come shortcomings

• Allow public to bid on transactions once published on net for 14 days in 10% increments. It will act as price check.

 

 

It is proposed that we reenact the chapter XXc and also involve the public in bidding to make the process completely automatic. The mechanism will completely erase the black money being quoted in the real estate transactions.

 

Today’s technology is fully capable to make the whole process online with all documents scanned and made available to public for intervention to make sure that the deal is not priced too low.

 

Some of the Benefits:

• It will be a deathblow to big corruption.

–     It will make it difficult to store the dirty money.

–     It is too risky to store 1000s of crores in cash of kind at home.

• Properties will stop trading in black.
• Will reduce wealth divide by having high-income people to pay more taxes.
• Banking will be healthier in long term.
• Tax collections from capital gains and declared income will both go up substantially.
• Land revenue will go up.
• Cleans up the majority of the game and encourages fair play across both business and government sections of the society.
• The businesses will find it hard to park dirty money.
• Cash in the system will reduce and so will counterfeit notes and shift towards digital economy.
• All transactions and ownership of land going forward will become traceable.
• Will result in less property disputes and thus access to more capital in the economy.
• It benefits the overall economy by making access to capital easier.

 

 

 

Ensuring Price Stability

 

It is recommended that the property transaction be listed on the website as a price check once an approval request is received from the seller and buyer of an agreed transaction like the way it was done in XXc. It is necessary to maintain price stability by making the public bidding mechanism as a price check and not an upfront public auction.

 

 

Ensuring Reliability of deals

 

The paper trail for land ownership and proofs should be made available to public for inspection before the bidding/price-check process. A standard needs to be laid on the documents needed to proceed for sale of a real estate.

 

The government may also choose to mediate the payment process of the winning bidder. There may be a requirement for security deposit before a person or a licensed property dealer can bid.

 

In future the land recorder should be dematerialized or at least maintained electronically to reduce fraud and disputes and increase transparency like the stock market.

 

Ensuring privacy

The buyer and bidder details should be kept confidential till the deal gets finally approved.

 

 

 

Comparison	20c	50c	Proposed
Description	Government can acquire properties valued lower	Properties can not be registered below circle rates	Public bidding will ensure there is no black money in a transaction.
Status	Discontinued in 2002	Active	New
Price Discovery/check	Through self-reporting	Region wise Circle Rates	Allow public bidding on all private transactions.
Method	Fear of loosing property	Controlled rate cards.	Market forces to discover real price.
Government Effort	Valuation required	Circle rates have to be revised	Very little –Automatic
Short comings	Valuations are cumbersome process.   Government funds can be misused by collusion.   Subjective.   Title’s might be disputed and impact the value.	Circle rates do not get revised timely.   Rates are always lower than market rates   Does not account for value construction or design.   Does not include special features of plot like corner, park facing etc.   Title might be disputed	Rates may temporarily reduce.
Government funds	Required	Not required	Not required
Control on black money.	70-80%	30-60%	90-100%
Tax collections	High	Low	Very high
Possibility of corruption/ inaccuracy	High – government may choose not to acquire or wrong valuation	Low – A state government may choose an area not to be revised in collusion with builders like greater noida.	Not possible.
Tax declarations	Medium	Low	Very high (because properties will be going cheap)

 

It is not important that we adopt the proposed prognosis (solution) but what is important is to have the right diagnosis of the problem. Only then an appropriate prognosis can be created.

 

Why should we care about world poverty?

 

When we wake up everyday in the morning and even brush our teeth. We fail to realize, how the developed world impacts us. Our new and improved brush designs come from one country. The sink was invented in another. The colgate formulae to secure our teeth, and the technology to supply clean water into the tap our things we depend on but do not see. Even the hot water mix comes from a hot water-gyser that in turn needs electricity and the distribution network. The drains remain functional with the waste management technology in treatment plants and the list never ends.

 

When we drink a glass of water that uses reverse-osmosis technology. We should also realize that the water we think is cleaned with the latest advanced technology is actually in need of an overhaul. We need ionized water (not filter water) which is just coming through and have many disease prevention properties. This is true with the several thousands small things, which touch our daily lives and in turn depend on thousands more. Even when our loved ones get terminally sick, it is only the latest medicines and clinical trials, which come to the rescue. These medicines and genetics are being developed from studying various tribes, nations and diversity of nature. The clinical trials involve many countries including the poor nations. Our luxuries today basically come from a highly integrated society.

 

All this is being accomplished by just 15% of the world population. The more people we have dedicated to developing and delivering products & services the better our lives are going to be. Personally we all have a choice of either trying to be the rich people in a village or a happy citizen of a powerful civilization. Our civilization has a choice of either being divided and harbor poverty that revolts with terrorism and huge military spending. Or we can advance the civilization by being inclusive and take it to places where we have never been before.

 

Today when we choose to agree or objectively disagree on this subject, we either become more aware or find an area where this thought can improve. Both ways the movement gains strength. If we do not take a stand today then we may or may not be able to help our loved ones, 20 years from now, when they fall sick. Lets not try to be the richest person in a village but have the whole village to support each other.

 

Why our 5-minutes a day and not money is more than enough?

 

To understand how we operate and do things is a much deeper discussion and is beyond the technical scope of this particular chapter. But till that time, lets go with the below arguments.

 

 

Even if we formally understand that why we really care for world poverty (which most of us only intuitively do). It is powerful enough to for us to automatically subtly aligning all our thoughts, words and actions towards what we want to achieve. It does not matter if we do something proactively or not. It only matters that we know that what we want. And how important it is for us.

 

“An idea is like a virus that spreads from one head to another.”

 

Our stand on the issue is good enough to have the desired impact. After all we are all connected by only six-degrees of separation[11].

Conclusion

 

Indian economy currently is like a very highly powered agricultural truck with its plow stuck too deep in real estate black money.

 

Automatic price discovery in real estate transactions has potential to eradicate black money and corruption to a large degree. It will not only, increase tax collections but also strengthen the capital markets, reduce inflation and fuel the growth of India.

 

Once the black market gets fixed, it would be possible to sustain a high double-digit growth for the next few decades due to availability of capital and higher valuations. There will be more inclination to invest in financial markets and will help new IPOs.

 

The question we should ask ourselves is that how long can India live without a super strong stock market? Why should FDIs and FIIs trust Indian businesses if we ourselves choose not to invest in it?

 

It is foreseeable that once the framework and policy implications are adopted and the benefits realized then all other developing nations would adopt the same. This does have the potential to uplift billions from poverty. All we need is more powerful economies that spread prosperity and development for a better future of humanity.

 

 

“Few simple policies can transform a nation

as much as how small atoms can tilt the balance of power.”

vishalguptadwrt50@gmail.com

 

 

Annexure I

Extracts of  Circular No.8/2002 dated  27.08.2002 issued by CBDT

The scheme of pre emptive purchase of immovable properties under Chapter XX C abolished.

75.1 Under the existing provision contained in Chapter XX C of the Income tax Act, any person intending to transfer immovable property in specified areas at values exceeding specified amounts is required to file a statement in form 37 I before the Appropriate Authority within the prescribed time before the intended date of transfer. The transfer can be registered only if the Appropriate Authority does not pass an order of pre emptive purchase of the property, and issues a no-objection certificate.

75.2 Since these provisions were causing procedural delays in registration of transfers, and with a view to remove source of hardship for the tax payers, the Finance Act, 2002 has, by inserting a new section 269UP in the Income tax Act, made the provisions of the Chapter XX-C inapplicable in respect of any transfer of immovable property effected on or after 1st July, 2002.

75.3 This amendment will take effect from 1st July, 2002

 

50C

37.1 The Finance Act, 2002, has inserted a new section 50C in the Income tax Act to make a special provision for determining the full value of consideration in cases of transfer of immovable property.

37.2 It provides that where the consideration declared to be received or accruing as a result of the transfer of land or building or both, is less than the value adopted or assessed by any authority of a State Government for the purpose of payment of stamp duty in respect of such transfer, the value so adopted or assessed shall be deemed to be the full value of the consideration, and capital gains shall be computed accordingly under section 48 of the Income tax Act.

37.3 It is further provided that where the assessee claims that the value adopted or assessed for stamp duty purposes exceeds the fair market value of the property as on the date of transfer, and he has not disputed the value so adopted or assessed in any appeal or revision or reference before any authority or Court, the Assessing Officer may refer the valuation of the relevant asset to a Valuation Officer in accordance with section 55A of the Income tax Act. If the fair market value determined by the Valuation Officer is less than the value adopted for stamp duty purposes, the Assessing Officer may take such fair market value to be the full value of consideration. However, if the fair market value determined by the Valuation Officer is more than the value adopted or assessed for stamp duty purposes, the Assessing Officer shall not adopt such fair market value and shall take the full value of consideration to be the value adopted or assessed for stamp duty purposes.

37.4 This amendment will take effect from 1st April, 2003 and will, accordingly, apply in relation to the assessment year 2003 04 and subsequent years.