Context

India has slashed the windfall tax on the export of crude oil from Rs 11,000 to Rs 9,500 per tonne and has hiked it for Aviation Turbine Fuel (ATF) and diesel.

About

About Windfall Tax:

• Windfall taxes are designed to tax the profits a company derives from an external, sometimes unprecedented event— for instance, the energy price rise as a result of the Russia-Ukraine conflict.
• These are profits that cannot be attributed to something the firm actively did, like an investment strategy or an expansion of business.
• A windfall is defined as an “unearned, unanticipated gain in income through no additional effort or expense”.
• Governments typically levy a one-off tax retrospectively over and above the normal rates of tax on such profits, called windfall tax.
• One area where such taxes have routinely been discussed is oil markets, where price fluctuation leads to volatile or erratic profits for the industry.

Impacts of Windfall tax:

• On External Trade: For India, which imports 85% of its requirements, costlier oil implies a higher import bill and inflation, besides straining the current account, the broadest measure of India’s goods and services transactions with the rest of the world.
• Less Investment: Investments in the Oil sector and related industry hit hard after the spur in Windfall tax.

Issues with Imposing Windfall Tax:

• Uncertainty in the Market: Since windfall taxes are imposed retrospectively and are often influenced by unexpected events, they can brew uncertainty in the market about future taxes.
• Populists in Nature: It is believed that such taxes are populist and politically opportune in the short term.
• Reduces Future Investment: Introducing a temporary windfall profit tax reduces future investment because prospective investors will internalize the likelihood of potential taxes when making investment decisions.
• Not Defined Precisely: It is not defined what exactly constitutes true windfall profits and how it can be determined what level of profit is normal or excessive.