A member of Niti Aayog, Bibek Debroy, said recently that agricultural income should be taxed. However, Finance Minister Arun Jaitley clarified that the government had no plans to tax agricultural income.

As per Section 10(1) of the Income Tax Act, agricultural income earned by the taxpayer in India is exempt from tax. Note that agricultural income is considered for rate purposes while computing tax liability.

Section 2 (1A) of the Income Tax Act defines agricultural income as rent/revenue from land used for agricultural purposes, income derived from this land through agriculture and income derived from buildings on that land provided the building is required as a dwelling house, a store-house or other out-building and the land is not situated in any area which is comprised within the jurisdiction of a municipality or a cantonment board and which has a population of not less than 10,000.

Article 246 of the Constitution read with The Seventh Schedule states that Parliament can levy taxes on income other than agricultural income. Agriculture, land, land revenue, taxes on agriculture income come under the purview of state legislatures. So only states can tax agricultural income.

Prerequisites for agricultural income are agricultural operations which mean "efforts induced for the crop to sprout out of the land" and include processes undertaken to make the product fit for the market and for sale of agricultural produce, rent received from land used for agriculture, and income from farmhouse and nursery operations built on agricultural land.

Since I make a broad argument here, I will leave out Rule 7 of Income Tax Rules (income partially from agriculture and partially from business) and Rule 8 (income from manufacture of tea).

Since agricultural income is tax exempt and accrues to a farmer, it is surprising that the Income Tax Act does not define who is a farmer. Currently, the definition varies from state to state. You need a farmer's certificate which you get if your ancestor was a farmer.

Debroy wrote recently: "In 2002, the Vijay Kelkar Task Force on direct taxes made the point that not taxing agricultural income violates horizontal and vertical equity and it "encourages laundering of non-agricultural income as agricultural income, that is, it has become a conduit for tax evasion".

Not too long ago, a PIL was filed in the Patna High Court where concerns were raised that a few assesses might be routing their unaccounted money in the garb of agricultural income, thus claiming exemptions and indulging in money laundering. Subsequently, in March 2016, the Central Board of Direct Taxes asked assessing officers to verify the genuineness of agricultural income where more than Rs 1 crore was shown in tax returns by assesses for assessment years 2011-12 to 2013-14.

Here's the moot point: did it require a PIL to make the CBDT aware of the potential misuse of this exemption?

In order to make tax evasion consistently difficult, CBDT must make it mandatory for all individuals, who disclose agricultural income in excess of, say, Rs 12 lakh (limit for family Rs 25 lakh), to provide the following information in their income-tax returns: break-up of agricultural income into sale value of produce; rent from land and farm house; acres of agricultural land owned and leased with location, crops grown, yield and sale realization per acre; and details of fertiliser, seeds and pesticides purchased. Since every state has a land ceiling act, this information would ascertain if the assessee is showing income from more land than prescribed under the act.

Such assessees should be asked to file returns in a separate section manned by officers from a farming background who would have a better understanding of agricultural operations.

If the assessing officer rules that the income shown as agricultural income is disproportionate to the details declared, then the difference could be included under the head 'Unexplained Income' and taxed at 60%.

To rule out complicity between a corrupt tax officer and the assessee, the interface should be less human and more technical such as on email. Section 2 (1A) of the Income Tax Act should be amended to exclude from agricultural income rent received from letting out a farm.

The suggestions above fall in the domain of the Centre. The next suggestion would need concurrence of state governments.

The Income Tax Act defines agricultural income but not who is a farmer. Since the two are intertwined, the act should be amended. A farmer is one who owns agricultural land or gives or takes it on lease for growing and sale of agricultural produce, or receives rent from buildings on that land. There could thus be three categories of farmers.

One, a farmer who has inherited or acquired agricultural land and has only agricultural income. Two, when an individual, say a doctor, acquires agricultural land and declares agricultural income subsequent to filing tax returns as a doctor and continuing with professional practice. Three, where a farmer becomes a government servant, say revenue officer, stops full-time farming but continues to own land and consequently has agricultural income.

Every person showing agricultural income must specify the category under which he falls. Income of category one farmer would be tax-free up to a certain limit beyond which there could be a presumptive tax. Farmers falling in category two and three would not be provided any exemption and taxed at existing rates. This way poor and marginal farmers would be excluded from the tax net.

Incremental tax revenues (net of costs) generated from suggestions above should be assigned to the state government. This revenue should be exclusively used for the benefit of farmers.

Getting states to agree to the last suggestion would be tough. However, the revenue potential and benefits of the proposal should be discussed with states. A public debate might throw up creative solutions.

First published Click here to view

Also read a very good article 'The Farmtax controversy'

The author is an independent columnist and chartered accountant. He tweets @sanjeev1927