Basics of GST
- GST launched: July 1, 2017, as a destination-based, indirect tax subsuming central (excise, service tax, CST) and state taxes (VAT, entry tax, octroi).
- Current structure: Multiple slabs (0%, 5%, 12%, 18%, 28%) + special rates (gold, precious stones) + cess (luxury/sin goods).
- Revenue sharing: GST collected is split between Centre and States (CGST + SGST; IGST for inter-state).
- Compensation principle (2017–2022): Centre guaranteed States 14% annual revenue growth, bridging losses via Compensation Cess on luxury/sin goods (cars, tobacco, aerated drinks).
Relevance : GS 3(Economy – Taxation)
Proposed Reform
- Move from 4–5 slab system → 2-tier (5% & 18%), with essentials exempt or 0% rated.
- Higher tax (40%) to continue on luxury/sin goods.
- Target average GST rate: reduce from ~11.5% (current) to ~10%.
- Objective:
- Simplification → compliance ease.
- Lower rates → boost consumption, formalisation, investment.
- At par with developed economies (average GST/VAT 10–12%).
Likely Revenue Impact
- Short-term dip inevitable:
- Estimated ₹60,000–1,00,000 crore/year loss (~0.2–0.3% of GDP).
- FY2025–26: ~₹45,000 crore hit (partial year implementation).
- Medium/long term gains:
- Wider tax base: More consumption under formal economy.
- Leakage reduction: Simplified slabs reduce classification disputes.
- Demand boost: Lower rates on consumer durables/essentials → higher sales volume → more GST.
- Luxury/sin cess: Higher rates (40%) to partly offset revenue fall.
Impact on States
- Unequal effect across States:
- Manufacturing/urban States (Maharashtra, Karnataka, Tamil Nadu): Larger revenue hit as bulk of GST collections come from industrial goods and services.
- Agrarian/consumption-heavy States (Bihar, UP, NE States): Smaller impact since their GST base is narrower and skewed towards essentials (already exempt/low slab).
- Past experience: July 2018 GST cuts → Maharashtra/Karnataka collections dipped 3–4%, but NE states unaffected.
- Revenue distribution remains unequal: Richer States lose more; poorer States less affected.
Compensation Question
- Legal status: 5-year compensation period (2017–2022) ended; technically Centre has no liability now.
- Arguments against further compensation:
- Perpetual transfers unsustainable.
- States should expand their tax base, plug leakages, attract investment.
- Alternative: allocate funds for infrastructure or contingency, not continuous GST gap-filling.
- Arguments for compensation:
- Asymmetry in GST revenue distribution → small states structurally disadvantaged.
- Global precedent: Countries like Australia/Canada initially provided both GST-linked compensation + consolidated fund support.
- Equity demands special packages for less industrialised states.
- Possible middle ground:
- Create Contingency/Equalisation Fund from part of GST or Consolidated Fund of India.
- Use mechanism like Kerala Flood Cess for State-specific needs.
- Time-bound compensation, not indefinite.
Political & Institutional Dimensions
- GST Council: Consensus-based so far (except ~2 votes). Likely to approve reform since announced by PM.
- Potential friction: Product classification disputes (whether certain goods fall in 5% or 18%), timing of implementation, and transitional compensation.
- Consensus outlook: Strong — reforms likely passed in next Council meeting (may require vote, but government has majority).
Macro Implications
- Average GST rate falls to ~10% → competitive with OECD economies.
- Ease of doing business improves: Simple two-rate GST system boosts investor confidence.
- Formalisation accelerates: lower rates + better compliance → more firms enter GST net.
- Revenue trajectory: Dip in Year 1–2, stabilisation by Year 3, higher buoyancy thereafter.
- State fiscal independence: Pushes states to strengthen own tax (property tax, excise, stamp duty) rather than rely on GST transfers.
Summary Judgment:
- Reform = Simplification + Ease of doing business + Long-term revenue buoyancy.
- Short-term revenue dip of ₹45,000–1,00,000 crore inevitable, disproportionately hitting industrialised states.
- Compensation debate: Centre unlikely to extend blanket GST compensation; instead, targeted equalisation fund or special packages may balance inequities.
- Net effect = Moderate tax regime (~10% avg), stronger compliance, higher consumption, improved investor sentiment.
