Editorial: Address concerns of States on GST compensation

The success of the GST reforms will depend on how well the States are compensated for the losses they are bound to incur

No reform can yield the desired results if the concerns of the States are not addressed in accordance with the spirit of federalism. This applies to the latest move to rationalise the Goods and Services Tax (GST) structure. While the GST rate cuts must be welcomed as they would ease the burden of the common man, the Centre must address the legitimate concerns of the States over the potential revenue losses. There is a strong case for compensation because the GST rate cuts would disproportionately affect the finances of the States, which are more dependent on the GST revenues compared to the central government. The anticipated revenue foregone due to proposed tax cuts is estimated to be around Rs 50,000 crore during the current financial year and nearly Rs 1.4 lakh crore in the next financial year. Since 70% of the burden would fall on the States, the demand for compensation is perfectly legitimate. The success of the GST reforms would, therefore, depend on how well the States are compensated for the losses they are bound to incur. The onus is now on the Centre to evolve a proper mechanism to safeguard the States from the adverse impact of the GST reform. The 56th meeting of the GST Council has approved the revised two-tier tax structure — consisting of 5% and 18% rates, while an additional 40% slab has been created for certain ‘sin’ and luxury goods. The previous slabs of 12% and 28% have been removed altogether.

The non-NDA ruled States, including the southern States of Telangana, Karnataka, Tamil Nadu, and Kerala, have been vociferous in their demand for adequate compensation for the revenue losses. They have also suggested levying an additional duty on sin and luxury goods, over and above the proposed 40%, which should be proportionately distributed among the States. The idea behind the joint approach by the opposition-ruled States is to ensure that the States should get their compensation and the consumers get full benefits of the rate cuts. The effort is to see that the corporates should not be allowed to convert the GST cuts into windfall profits. Another long-term concern of the southern States is that the post-GST tax devolution formula, based heavily on population, could end up penalising States with effective population control policies. The rationalisation of the GST regime is premised on the expectation of significant medium- to long-term revenue gains, driven by efficiency improvements and higher consumption. However, each round of rationalisation has hurt State revenues as the buoyancy expected to compensate for these revenue losses has not materialised. The non-NDA ruled States are right in demanding that any new proposal for rate rationalisation must be tempered by a realistic assessment of the extent to which buoyancy can compensate for revenue losses, and clear safeguards be built into the GST framework to protect the fiscal interests of the States.

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