Centre’s GST default: Betrayal of federalism
Dr Santosh Kumar Mohapatra*
In the 41st GST council meeting held on August 27, via video conferencing, the finance minister, Nirmala Sitharaman, announced that the central government was unable to pay the Goods and Services Tax (GST) compensation amount to the states in 2020-21 as there was a big deficit in the compensation cess collected and the revenue accruing to the government due to corona pandemic. The rebuttal by the Central government to pay the GST compensation due to the states is blatantly illegal, irrational and is in contravention of spirits of cooperative federalism.
Oppositions have dubbed it as a betrayal of federalism, the decimation of trust and a “sovereign default” The finance minister described this crisis especially Coronavirus pandemic as an “Act of God” in order to evade responsibility. However, the invocation of an “Act of God” does not absolve a government from its basic responsibility and commitment. Actually, the economy has been destroyed, devastated by draconian demonetization, flawed GST and poorly planned lockdown.
The Goods and Services Tax (GST) was implemented from July 2017 with the underlying vision of “one nation, one tax, one nation, one market”. The tax came into effect from 1 July 2017 through the implementation of the one hundred and first amendment of the Constitution of India by the Indian government.
The GST is also considered as the most significant tax reform since independence. The GST was launched at midnight on 1 July 2017 by the President of India and Prime Minister Narendra Modi with fanfare. The launch was marked by a historic midnight (30 June – 1 July) session of both the houses of parliament convened at the Central Hall of the Parliament. It is one of the few midnight sessions that have been held by the parliament – the others being the declaration of India’s Independence on 14-15 August 1947, and the silver jubilee 14-15 August 1972 and golden jubilee on 14- 15 August 1996 and the 50th anniversary of Quit India movement against the British rulers in 1942(August 9, 1992).
The GST replaced existing multiple indirect taxes levied by the central and state governments. In other words, the single GST subsumed several taxes and levies, which included central excise duty, services tax, additional customs duty, surcharges, state-level value-added tax and Octroi. Other levies which were applicable on inter-state transportation of goods have also been done away with in GST regime. GST is levied on all transactions such as sale, transfer, purchase, barter, lease, or import of goods and/or services.
India adopted a dual GST model, meaning that taxation is administered by both the Union and state governments. Transactions made within a single state are levied with Central GST (CGST) by the Central Government and State GST (SGST) by the State governments. For inter-state transactions and imported goods or services, an Integrated GST (IGST) is levied by the Central Government.
It was argued by the government that goods and services tax (GST) would ease a cumbersome tax system, help goods move seamlessly across state borders, curb tax evasion, improve compliance, raise revenues, spur growth, stimulate investment, and make investing and doing business in India easier. But none of the objectives has been realized. The government had promised that it would reduce tax slabs as soon as the system sinks in properly. While prices of some products have witnessed a decrease, a majority of the products are now available at higher prices.
During the time of GST implementation, we had not opposed GST but pointed out that the way GST is being implemented with more slabs, higher tax rates is tantamount to imposing complexity by another name and it will impoverish masses and lead to the rise of prices of goods and services. We have raised the compensation issues after five years. The World Bank, in its bi-annual India Development, released on March 2018 had dubbed the goods and services tax (GST) implemented by the Narendra Modi government from 1 July last year is one of the most complex with the second-highest tax rate in the world among a sample of 115 countries which have a similar indirect tax system.
India’s GST structure has five tax slabs of 0, 5 per cent, 12 per cent, 18 per cent, and 28 per cent. Separately, gold is taxed at 3 per cent rate, precious stones at 0.25 per cent, while alcohol, petroleum products, stamp duties on real estate and electricity duties are excluded from the GST and continue to be taxed by the state governments at state-specific rates
Before the implementation of GST, it as was opposed by various states because of their ability to impose the tax was squeezed. Further, GST is a consumption-based tax/destination-based tax, therefore, taxes are paid to the state where the goods or services are consumed not the state in which they were produced. IGST complicates tax collection for State Governments by disabling them from collecting the tax owed to them directly from the Central Government.
However, states were persuaded to voluntarily give up their unilateral powers to tax some areas to create a common market. The compensation guarantee was part of the grand bargain as the States were apprehensive not just about the loss of power to tax but also of revenue. For five years, starting from July 1st, 2017 to July 1st, 2022, the states have been guaranteed 14 per cent annual growth in GST revenue over the base year of 2015-16. Any shortfall has to be compensated by the Centre.
Compensation Cess was imposed on selected commodities that attract a GST of 28 per cent Compensation cess is was levied on five products considered to be ‘sin’ or luxury goods. For example, SUV vehicles (more than 4 metres) are charged 50 per cent GST, of which the GST tax rate is 28 per cent and the compensation cess is 22 per cent. The collected compensation cess flows into the Consolidated Fund of India and then transferred to the Public Account of India, where a GST compensation cess account has been created. States are compensated bi-monthly from the accumulated funds in this account.
The Centre had released over Rs 1.65 lakh crore in 2019-20 as GST compensation. However, the amount of cess collected during the 2019-20 was Rs 95,444 crore. The balance of about Rs 70,000 crore was paid from the excess cess collected in 2017-18 and 2018-19. The GST cess collection in 2017-18 — the first year of GST implementation — was Rs 62,596 crore, out of which Rs 41,146 crore was released to States. In the subsequent year, 2018-19, cess collection was Rs 95,081 crore and Rs69,275 crore was released to States.
This shows that states are gradually losing more with the passage of time. But the pandemic has aggravated the matter. But since the economy was slowing down and there was a sort of growth recession, GST collection has been adversely affected by 2019-20. It was further aggravated in the current financial year due to Covid19. As Centre has failed to generate resources by way of GST cess, it is reluctant to pay compensation to state which is tantamount to betrayal of federalism. The Centre has claimed that it is under no obligation to pay compensation if there is a shortfall in GST collections. On the face of it, there seems to be a breach of sovereign guarantee by the Centre, which under the GST scheme has to ensure equitable distribution of tax revenue to the states.
The Government expects to collect a total GST of over Rs 1, 00,000 crores per month but GST collections during April-July have been Rs 32,172 crore, Rs 62,151 crore, Rs 90,917 crore and Rs 87,422 crore. “As per the Centre’s calculation, as pointed out by Finance Secretary Ajay Bhushan, the compensation requirement by states in the current fiscal would be Rs 3 lakh crore, of which Rs 65,000 crore is expected to be met from the cess levied in the GST regime. Hence, the total shortfall is estimated at Rs 2.35 lakh crore,” He pointed out that of this amount, only about Rs 97,000 crore is attributable to the implementation of GST, while the rest in on account of the coronavirus pandemic hitting the economy.
However, many economists differ from this calculation. First states will incur a loss of revenue around Rs 6 lakh crore in 2020-21 from which around Rs 4 lakh crore may be due to GST. If Centre paid compensation of Rs 1.65 lakh crore in 2019-20, that contains only 7 days of lockdown, how, it will be Rs 97,000 crore in 2020-21.
Finance Minister Nirmala Sitharaman said the Centre has less headroom to meet the gap. Referring to the Attorney General’s advice, finance Minister said the Union government can also not dip into the Consolidated Fund of India to pay off states. The A-G’s clear opinion was that the compensation gap cannot be met from the Consolidated Fund of India. He suggested the compensation cess levy can be extended beyond five years to meet the shortfall.
After reneging on its commitment, the Centre had detailed two borrowing options proposed to states for meeting the compensation shortfall of Rs 2.35 lakh crore to meet the shortfall in the compensation due to them. Both these proposals are iniquitous and boil down to the states being burdened with interest payments. The finance ministry said states can individually choose the option according to their compensation, borrowing and repayment capacities.
In the first option, state borrowing will be limited to Rs 97,000 crore – the shortfall owing to GST implementation as calculated by the finance ministry – which will be provided through a special window. This window will be facilitated through the Reserve Bank of India. The cost of borrowing will be close to G-Sec yield, and the loan will not be considered state debt which means that the principal and interest will be paid from the compensation cess. Levy of cess will be beyond the transition period, for as long as required. “In case the cost is higher, GOI will bear the margin between G-secs and average of State Development Loan (SDL) yields up to 0.5 per cent (50 basis points) through a subsidy.
An additional 0.5 per cent of states’ Fiscal Responsibility and Budget Management borrowing limit will be permitted unconditionally, giving states an aggregate of Rs 1 lakh crore. “States can carry forward unutilised extra borrowing ceilings to the next financial year.
In the second option, state borrowing will be for the full Rs 2.35 lakh crore – shortfall owing to GST implementation (Rs 97,000 crore) and impact of COVID 19 pandemic induced economic slowdown –which will be provided through market borrowing. Centre has specified that interest will be paid from states’ resources, while the principal will be paid from the cess fund. Also, Rs 97,000 crore will not be counted towards state debt, while the rest will be.
For each state, 3 per cent of gross state domestic product (GSDP), plus the shortfall and up to 1percent of GSDP for meeting reform-linked criteria or 4 per cent of GSDP and up to 1 per cent of GSDP for meeting reform-linked criteria, whichever is higher will be provided. But in this option, the unconditional increase of 0.5 per cent of states’ FRBM borrowing limit would not be available, and states would not be able to carry forward unutilised extra borrowing ceilings to the next financial year.
Actually, there was no provision that states centre cannot pay from consolidated fund. But while presenting 2020-21 budget, finance minister has announced that only GST compensation can be met from resources collected from GST cess. This was unilateral decision.
Various state governments especially non-BJP ruled state governments have rejected the government proposals. Actually, the strength of the centre lies with the strength of states. If state governments are dragged into debt quagmire, it will pose more problems to the Centre. Centre must adhere to its commitment. It should borrow from the market or from RBI ( i.e, monetization of deficit/debt) and provide more than GST compensation to states.
*The author is an Odisha-based eminent columnist/economist and social thinker. He can be reached through e-mail at [email protected]
DISCLAIMER: The views expressed in the article are solely those of the author and do not in any way represent the views of Sambad English.