MARCH 19, 2025

By Vijay Kumar

SOME pundits believe that GST is the biggest Tax reform that happened in India, but can you forget something equally massive, confusing and controversial that started it all 165 years ago - The Income Tax Act 1860? The Mutiny of 1857 had nearly bankrupted the Indian Government. New revenue had to be mined from a people recently at war with their colonial masters. There was no choice.

The story actually begins on a battlefield. In 1757, the East India Company emerged victorious at the Battle of Plassey, transforming itself from a trade corporation into the de facto ruler of Bengal. The real prize of this victory? Not just land but the right to collect taxes - a power previously held by local rulers. Taxes, after all, were the lifeblood of any empire, and the East India Company knew that as well as anyone. But managing a vast and diverse land like India would eventually overwhelm the Company's resources and abilities.

In 1857, what began as a localised uprising of Indian troops soon engulfed northern India in a year-long war, known as the Mutiny or first war of independence depending on which side you were in. The uprising left northern India in chaos and the State coffers in a catastrophic state. By 1858, the Crown formally took over, ending the East India Company's rule. However, the treasury was almost empty. Britain, reeling from the costs of suppressing the rebellion, needed a new revenue stream - and fast. Quelling the mutiny did not come cheap.

Some say necessity is the mother of invention; others say it's James Wilson. Amidst this financial wreckage, James Wilson was dispatched to India in 1859. Wilson had been a hat-maker, the founder of "The Economist", and a self-taught financier. Now, he was tasked with pulling India out of its fiscal hole, armed with nothing more than his audacious intellect and a pressing deadline.

And he imposed the Income Tax!

He was very confident. In a letter to his daughter, he mentioned,

The country is everywhere extremely quiet, the people feel themselves completely beaten, are annoyed at their folly and failure, and more than ever look with astonishment upon British courage, intrepidity, and power. They are ready to submit to anything and to pay any taxes we impose; they are only astonished at our generosity and leniency.

He reported to his bosses in England that his proposal is the best that can happen:

The merchants have declared publicly and privately that they are all in favour of it. The press has done the same. It would give us far more money. Above all, it would introduce a principle of taxation which, being just and general, may lay the foundation for a sounder financial system and a revenue to the State that is flexible and adapted to emergencies.

He explained his scheme:

Firmness and justice are the only policy for India: no vacillation, or you are gone. They like to be governed; and respect an iron hand, if it be but equal and just. I have, I think, more confidence than ever that the taxes will be established and collected, and without disturbance. I have set myself five great points of policy to introduce and carry out:

1. To extend a system of sound taxation to the great trading classes, who have chiefly benefited by our enormously increased civil expenditure.

2. To establish a paper currency.

3. To reform and remodel our financial system, by a plan of annual Budgets and estimates, with a Pay Department to check issues and keep them within the authorised limits, and an effective audit.

4. A great police system of semi-military organisation, but usually of purely civil application and by which we shall be able to reduce our native army to at least one-third, and by which alone we can utilize the natives as an arm of defence without the danger of congregating idle ` masses.

5. Public works and roads, with a view to increased production of cotton, flax, wool, and European raw materials.

Maybe like all great tax administrators he was arrogant or ignorant or both. Anyway, Wilson believed he had hit upon a fair and equitable solution to India's financial woes.

The Income Tax Act of 1860: Bold, Basic, and Brutal

Wilson's brainchild - the Income Tax Act of 1860 - was revolutionary in both its intent and its structure.

To justify the tax, he smartly cited Manu as he believed that " their sacred writings give us ample latitude of choice - enough - for the most needy exchequer and for the most "voracious minister ", but he conveniently forgot Manu's limits on voracious ministers.

The Tax Rate was a uniform 3 per cent with an additional 1 per cent for the purposes of "reproductive public works", maybe something like a cess or a tax for a special purpose.

How was the tax collected? There was no CBDT; no Income Tax Department. Large notices in Urdu, Hindi, and English were placed at police stations and other conspicuous places informing the public that they were required to submit statements of income to local assessors. Assessors were well known and had existed under Company rule to collect land taxes. In 1860 they started collecting income tax. Anyone who earned more than 200 rupees per year had to pay Income Tax. Evaders were liable to transportation to Andaman Islands for fourteen years, or imprisonment for seven.

Financially, Income Tax was not a great success - the collections were just half of what they expected.

Resistance and Rebellion: The North-South Divide

There was a North-South divide - 165 years ago. Sir Charles Trevelyan, Governor of Madras revolted and called the income tax as wrongheaded in every respect; a desperate "leap in the dark". In effect, he declared, "Madras will not pay income tax" His reason was - why the South, which had played little part in the Revolt of 1857, should be burdened with a tax that was necessary to restore the economy.

And he promptly lost his job, but Trevelyan was too big to lose his job just like that. He returned to India and was the Finance Minister from 1862 to 1865 and allowed the Income Tax Act 1860 to lapse.

Thus, the first Income Tax Act lasted all of five years!

Sir Charles Trevelyan is famous for something else - he is known as the father of the Permanent Civil service, the original version of IAS.

Incidentally, Wilson was not the first choice as Finance Member - Trevelyan was, but fate reversed the roles. After several ‘seasoned British administrators' refused the job of Finance Member, it was offered to Wilson who gave us Income Tax.

Maybe providence had created James Wilson to introduce Income Tax in India. He came to India in 1859, launched Income Tax in 1860 and hastily died in India in 1860.

In his Budget Speech on 18th February 1860, Wilson remarked,

Unhappily, sir, the tragic events which have happened in British India within the last three years have been too extensively and too severely felt to be soon forgotten. But severe as was the storm, and numerous as were the wrecks strewed over the land, it is now restored to complete tranquillity, and the Indian political atmosphere was probably never at any former time so settled and clear. But though this is undoubtedly the case, though by the power of our arms and the courage of our civil administration a well- founded feeling of greater security pervades India than at any former time, yet it is, unfortunately, no State secret that an evil of the greatest magnitude is corroding the very core of our political existence.

It would be in vain that we could boast of the success of our arms, of the restoration of peace and tranquillity, if we could see no end to that financial disorder which so notoriously prevails at this moment. That our situation is serious, that it is even worse than we expected, I am bound to admit.

Sir, it is true we have no representative assembly to satisfy, and it would be only idle to speculate upon the time when India might have such institutions; but, sir, we have a public opinion, an enlightened public opinion, both native and European, and above all we have a free press and free discussion .

Wilson visualised a democracy for India in 1860!

Continuing his Budget speech, he said,

But, sir, there is another element of secure prosperity which India especially enjoys. Almost everything she produces is in constant and boundless demand in Europe, and almost every article of importance required in Europe is to be found increasing in India, so varied are her products. Sir, in this fact there is great security for the future.

Sir, it is undoubted that, at the present time, India enjoys a prosperity far beyond comparison with any former times.

I believe it to be undoubted that India is, and will remain, the lightest taxed country in the world, in proportion to the good government which it enjoys.

On Centre - State row:

Sir, our fellow subjects in Madras and Bombay claim exemption from increased taxation. And on what ground? It seems incredible. Because they say our financial difficulties have been occasioned by the mutiny; the mutiny took place in Bengal and, therefore, we in Madras and Bombay are not liable for its consequences. Sir, are we all one people, one united dependency under our gracious Queen, or are we not?

Let us ask our friends in Madras and Bombay to consider to what logical conclusion their argument would lead? If they are to be exempt, are those only to be subjected to the penalty who, unfortunately, living near the scene of these occurrences, had not all their earthly property destroyed by fire, but who suffered more serious losses by the sword? Surely not. That is the logic which, if applied to Government, would show that the whole cost of the criminal law should be defrayed by the convicts which fill our jails. The Supreme Government of India is as much the government of Bombay and the government of Madras as it is the government of Bengal. Our duty, and that of this Council, is the same to all alike. We want greater combination and unity, not greater severance - that is the end.

Was he talking of co-operative federalism?

Wilson believed that Necessity has no law and All who enjoy the protection of the State must pay for it in accordance with their means.

It is said, "The British were cunning, not stupid".

Until next week

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