UPSC CSE Prelims
Public Finance & Fiscal Policy Previous Year Questions (PYQs)
Showing solved Previous Year Questions for Chapter: Public Finance & Fiscal Policy
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With reference to India's decision to levy an equalization tax of 6% on online advertisement services offered by non-resident entities, which of the following statements is/are correct?
- It is introduced as a part of the Income Tax Act.
- Non-resident entities that offer advertisement services in India can claim a tax credit in their home country under the "Double Taxation Avoidance Agreements".
Select the correct answer using the code given below:
Detailed Explanation:
Answer: Option 1 — None
Both statements regarding India's equalization tax of 6% on online advertisement services are incorrect.
❌ Statement 1 – Incorrect: The equalization levy was introduced under the Finance Act, 2016 as a separate tax, not as a part of the Income Tax Act, 1961.
❌ Statement 2 – Incorrect: Since the equalization levy is not classified as an income tax but as a separate levy on specified transactions, non-resident entities cannot claim tax credit in their home country under Double Taxation Avoidance Agreements (DTAAs), which typically apply only to income tax.
📝 Short Notes: Equalization Levy
| Aspect | Details |
|---|---|
| Introduction | Finance Act, 2016 (effective from June 1, 2016) |
| Legal Framework | Separate tax levy, not part of Income Tax Act, 1961 |
| Initial Rate & Scope | 6% on online advertisement services and related services by non-resident entities |
| Expansion (2020) | 2% levy on e-commerce transactions exceeding ₹2 crore annually |
| Threshold | Applicable when annual payment exceeds ₹1 lakh (for advertisement services) |
| DTAA Applicability | No tax credit available under DTAAs as it is not an income tax |
| Objective | Tax digital economy transactions where service provider has no permanent establishment in India |
| Recent Development | 6% levy on online advertisements abolished from April 1, 2025 |
What is/are the most likely advantages of implementing ‘Goods and Services Tax (GST)’?
- It will replace multiple taxes collected by multiple authorities and will thus create a single market in India.
- It will drastically reduce the ‘Current Account Deficit’ of India and will enable it to increase its foreign exchange reserves.
- It will enormously increase the growth and size of the economy of India and will enable it to overtake China in the near future.
Select the correct answer using the code given below:
Detailed Explanation:
Answer: Option 1 — 1 only
The Goods and Services Tax (GST) is a comprehensive indirect tax reform that replaced multiple central and state taxes, creating a unified national market. This simplifies tax compliance, reduces cascading effects, and promotes ease of doing business across India.
✅ Statement 1 – Correct: GST replaced numerous indirect taxes levied by central and state authorities (like excise duty, VAT, service tax, etc.), creating a single unified market by removing inter-state barriers and simplifying the tax structure.
❌ Statement 2 – Incorrect: GST is a domestic indirect tax reform and has no direct mechanism to reduce Current Account Deficit, which depends on trade balance, foreign investments, remittances, and exchange rate dynamics.
❌ Statement 3 – Incorrect: While GST can contribute to economic efficiency and growth, it alone cannot drastically increase economy size to overtake China, as economic growth depends on multiple complex factors including capital formation, technology, demographics, and global economic conditions.
Consider the following statements :
- Tax revenue as a percent of GDP of India has steadily increased in the last decade.
- Fiscal deficit as a percent of GDP of India has steadily increased in the last decade.
Which of the statements given above is/are correct?
Detailed Explanation:
Answer: Option 4 — Neither 1 nor 2
Both statements are incorrect because neither tax revenue nor fiscal deficit as a percent of GDP has shown a steady increase over the last decade. Instead, both indicators have fluctuated significantly based on economic cycles, policy changes, and external shocks like the COVID-19 pandemic.
❌ Statement 1 – Incorrect: Tax revenue as a percent of GDP has fluctuated over the last decade rather than steadily increasing. While there were periods of growth, years like 2019–20 and 2020–21 saw declines due to economic slowdown and pandemic-related disruptions, making the overall trend non-linear.
❌ Statement 2 – Incorrect: Fiscal deficit as a percent of GDP has not steadily increased either. It actually narrowed from around 4.5% in 2013–14 to about 3.4% in 2018–19, then spiked dramatically to 9.2% in 2020–21 due to COVID-19, and has since been declining, showing a fluctuating rather than steadily increasing pattern.
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The term ‘Base Erosion and profit shifting’ is sometimes seen in the news in the context of
Detailed Explanation:
Answer: Option 2 — curbing of the tax evasion by multinational companies
Base Erosion and Profit Shifting (BEPS) refers to tax planning strategies used by multinational companies to artificially shift profits from higher-tax jurisdictions to lower-tax jurisdictions, thereby eroding the tax base of countries where actual economic activity occurs. The OECD/G20 BEPS Project aims to curb such tax avoidance practices through international cooperation and common standards. Governments worldwide have adopted BEPS measures to prevent multinationals from exploiting gaps and mismatches in tax rules across different countries, ensuring fair taxation where value is created.
There has been a persistent deficit budget year after year. Which action/actions of the following can be taken by the Government to reduce the deficit?
- Reducing revenue expenditure
- Introducing new welfare schemes
- Rationalizing subsidies
- Reducing import duty
Select the correct answer using the code given below.
Detailed Explanation:
Answer: Option 3 — 1 and 3 only
✅ Statement 1 – Correct: Reducing revenue expenditure (salaries, interest payments, administrative costs) directly lowers total government spending without affecting asset creation, thereby reducing the budget deficit.
❌ Statement 2 – Incorrect: Introducing new welfare schemes increases government expenditure, which widens the budget deficit rather than reducing it.
✅ Statement 3 – Correct: Rationalizing subsidies through better targeting (DBT, eliminating leakages) reduces wasteful expenditure while maintaining benefits for intended beneficiaries, thus helping to narrow the deficit.
❌ Statement 4 – Incorrect: Reducing import duty decreases tax revenue for the government, which increases the deficit when expenditure remains constant.
With reference to ‘Financial Stability and Development Council’, consider the following statements:
- It is an organ of NITI Aayog.
- It is headed by the Union Finance Minister.
- It monitors macro-prudential supervision of the economy.
Which of the statements given above is/are correct?
Detailed Explanation:
Answer: Option 3 — 2 and 3 only
❌ Statement 1 – Incorrect: The Financial Stability and Development Council (FSDC) is not an organ of NITI Aayog. It is an apex-level independent body constituted under the Ministry of Finance to strengthen and institutionalize the mechanism for maintaining financial stability.
✅ Statement 2 – Correct: The FSDC is chaired by the Union Finance Minister. The Council includes heads of financial sector regulators (RBI, SEBI, IRDA, PFRDA), Finance Secretary, and other senior officials.
✅ Statement 3 – Correct: The FSDC monitors macro-prudential supervision of the economy, including the functioning of large financial conglomerates. It assesses and addresses systemic risks to financial stability and coordinates among various financial sector regulators.
Which of the following is/are included in the capital budget of the Government of India?
- Expenditure on acquisition of assets like roads, buildings, machinery, etc.
- Loans received from foreign governments.
- Loans and advances granted to the States and Union Territories.
Select the correct answer using the code given below.
Detailed Explanation:
Answer: Option 4 — 1, 2 and 3
The Capital Budget of the Government of India includes all transactions that either create assets or liabilities. It comprises both Capital Receipts (loans received, recovery of loans, etc.) and Capital Expenditure (acquisition of assets, loans granted, etc.).
✅ Statement 1 – Correct: Expenditure on acquisition of assets like roads, buildings, and machinery is Capital Expenditure as it creates physical assets for the country and is long-term in nature, hence included in the capital budget.
✅ Statement 2 – Correct: Loans received from foreign governments constitute Capital Receipts as they create a liability (repayment obligation) for the government, forming part of the capital budget.
✅ Statement 3 – Correct: Loans and advances granted to States and Union Territories are Capital Expenditure since they create financial assets for the central government (recoverable with interest), thus included in the capital budget.
What is/are the purpose/purposes of Government’s ‘Sovereign Gold Bond Scheme’ and 'Gold Monetization Scheme'?
- To bring the idle gold lying with India households into the economy
- To promote FDI in the gold and jewellery sector
- To reduce India’s dependence on gold imports
Select the correct answer using the code given below:
Detailed Explanation:
Answer: Option 3 — 1 and 3 only
✅ Statement 1 – Correct: The Gold Monetization Scheme (GMS) allows individuals and institutions to deposit their idle physical gold (jewellery, coins, bars) with banks. This gold is melted, refined, and brought into the formal economy, where it can be lent to jewellers and goldsmiths, thereby mobilizing household gold reserves.
❌ Statement 2 – Incorrect: Both schemes focus on managing domestic gold demand and supply. They are not designed to attract Foreign Direct Investment (FDI) in the gold and jewellery sector. FDI policies operate separately from these domestic gold management initiatives.
✅ Statement 3 – Correct: Reducing gold imports is a core objective of both schemes. The Sovereign Gold Bond (SGB) Scheme offers a financial alternative to physical gold, thereby reducing import demand. The GMS increases the availability of recycled domestic gold for jewellers, reducing their need for imported gold. Since gold imports significantly impact India's Current Account Deficit (CAD), these schemes help improve the balance of payments.
A decrease in tax to GDP ratio of a country indicates which of the following?
- Slowing economic growth rates
- Less equitable distribution of national income
Choose the correct code:
Detailed Explanation:
✅ Statement 1 – Correct: A decrease in tax-to-GDP ratio often indicates slowing economic growth, as lower incomes and profits reduce tax collections, or reflects economic contraction where tax revenues fall faster than GDP.
❌ Statement 2 – Incorrect: The tax-to-GDP ratio measures government revenue collection efficiency, not income distribution equity. A decreasing ratio could occur with progressive tax cuts benefiting all income groups, or with regressive taxes declining – it provides no direct information about income inequality or distribution patterns.
There has been a persistent deficit budget year after year. Which of the following actions can be taken by the government to reduce the deficit?
- Reducing revenue expenditure
- Introducing new welfare schemes
- Rationalizing subsidies
- Expanding industries
Select the correct answer using the code given below.
Detailed Explanation:
✅ Statement 1 – Correct: Reducing revenue expenditure (salaries, pensions, subsidies, interest payments) directly decreases government spending and helps narrow the fiscal deficit.
❌ Statement 2 – Incorrect: Introducing new welfare schemes increases government expenditure, thereby widening the budget deficit rather than reducing it.
✅ Statement 3 – Correct: Rationalizing subsidies (targeting, reducing non-merit subsidies) controls unnecessary revenue expenditure and improves fiscal management.
❌ Statement 4 – Incorrect: Expanding industries may increase tax revenue in the long term but requires initial capital expenditure and does not immediately reduce the deficit.
The sales tax you pay while purchasing a toothpaste is a
Detailed Explanation:
Sales tax (before GST) was levied and collected by State Governments under their constitutional powers over intra-state trade.
The Constitution (Entry 54, State List) empowered states to impose taxes on the sale or purchase of goods, making it a state subject for both imposition and collection.
With reference to Union Budget, which of the following is/are covered under Non-Plan Expenditure?
- Defence expenditure
- Interest payments
- Salaries and pensions
- Subsidies
Select the correct answer using the code given below.
Detailed Explanation:
All four items listed were covered under Non-Plan Expenditure before the classification was abolished in 2017-18.
Non-Plan Expenditure included: Defence expenditure (capital), Interest payments (revenue), Salaries and pensions (revenue), and Subsidies (revenue). These were committed/obligatory expenditures not routed through Planning Commission.
In India, deficit financing is used for raising resources for
Detailed Explanation:
Deficit financing in India refers to the government meeting its budgetary gap by borrowing from the Reserve Bank of India (RBI) or through money creation.
It is primarily used for economic development purposes—financing infrastructure projects, five-year plans, and other capital expenditure—not for debt redemption or balance of payments adjustment, which are managed through other fiscal and monetary instruments.
Which one of the following is likely to be the most inflationary in its effect?
Detailed Explanation:
Creating new money (Option 4) is the most inflationary method because it directly increases money supply without any corresponding increase in goods and services production, leading to demand-pull inflation.
Repayment of public debt reduces money supply; borrowing from public merely transfers existing money; borrowing from banks has moderate inflationary effect through credit creation, but printing new currency has the strongest direct impact on excess liquidity and price levels.
Under which of the following circumstances may ‘capital gains’ arise?
- When there is an increase in the sales of a product
- When there is a natural increase in the value of the property owned
- When you purchase a painting and there is a growth in its value due to increase in its popularity
Select the correct answer using the codes given below:
Detailed Explanation:
❌ Statement 1 – Incorrect: Increase in sales of a product generates revenue or business income, not capital gains. Capital gains arise only from the sale of a capital asset (property, shares, etc.), not from regular business operations.
✅ Statement 2 – Correct: Natural appreciation in the value of property or land creates capital gains when the asset is sold at a price higher than its original purchase cost.
✅ Statement 3 – Correct: Paintings, jewelry, and other movable assets are treated as capital assets under the Income Tax Act; increase in value due to popularity or demand results in capital gains upon sale.
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