Centre plays foul on GST compensation

TM Thomas Isaac | Updated on December 13, 2019

Integral feature The compensation is provided to insulate State finances from the shortfall in revenues   -  undefined undefined

It is spoiling for a fight by holding up payments owed to financially-strapped States, hurting the scope for a fiscal push to the economy

The GST Council has been hailed as a model federal institution, where both the States and the Centre are represented and consensus is arrived through a detailed deliberative processes. So far, there has not been a single instance of voting, despite strong differences of opinion voiced on many issues. They were settled in a spirit of give and take.

But today, the Council is on the brink of a serious disruption of its tradition, with the Centre and States sharply diverging in their stand regarding the payment of GST compensation. The Central government has defaulted on the bi-monthly compensation payment, due in October, without any notice or explanation. Now, in December-end yet another bi-monthly instalmentis due which would make total unpaid compensation to the States around ₹35,000 crore. This has created a serious imbalance in the resources position of States. For day-to-day cash management, States are borrowing from the Reserve Bank of India through ways-and-means advances or by taking overdraft. Due to this denial of compensation, States are forced to cut many essential expenditures.

For those who are unfamiliar, the GST compensation is an integral part of the GST Constitutional Amendment Bill passed by Parliament. The compensation is not an act of kindness; it is provided in the law to insulate State finances from the shortfall in revenues during the transition to GST, especially since most of the States’ powers in commodity taxation were subsumed in the GST.

Introduction of the GST also implied serious erosion of States’ fiscal autonomy, and there were also serious doubts regarding how much revenue from the new tax will be available during the initial years. The States finally agreed to the GST after being guaranteed a 14 per cent GST revenue per annum. Any shortfall from this revenue path would be compensated by the Centre. For this purpose, a cess was imposed on selected luxury and sin goods, from which compensation would be paid to the relevant States in bi-monthly instalments. In fact, on the suggestion of the GST Council, even the wording in the draft Constitutional Amendment was changed to categorically assert payment of compensation for five years.

The Compensation Act passed by Parliament provided that: “The compensation payable to a State shall be provisionally calculated and released at the end of every two-month period, and shall be finally calculated for every financial year after the receipt of final revenue figures, as audited by the Comptroller and Audit General of India...”

Available funds

During 2017-18, the cess collection amounted to ₹62,612 crore, from which ₹41,146 crore was released as compensation payment, leaving a closing balance of ₹21,466 crore. In 2018-19, ₹95,081 crore was collected as cess, and ₹69,275 crore was released as compensation, leaving a fund balance of ₹47,272 crore. And, during the first six months of the current financial year, ₹41,574 crore was collected as cess and ₹65,151 crore released as compensation. So, at the end of the half-year period, there would be a fund balance of ₹23,695 crore.

This, together with the collection for September-October, should have been more than sufficient to pay for the compensation for that bi-monthly period. Instead, the Central Government has chosen to default on the payment, saying that the compensation collected would not be sufficient for the payment for the subsequent bi-monthly periods. It would appear as if the Centre was itching for a fight with the States.

The whole controversy could have been avoided if the October bi-monthly payment had been made and the GST Council had convened to discuss how to tackle a payment crisis that might occur. In fact, at the last GST Council meet in Goa we had a strange experience; the Union Finance Commission Chairman addressed the Council and suggested that we revisit the compensation package. Small wonder, all States — irrespective of political affiliation — outright rejected the suggestion in the most vehement manner.

Future compensation

Now, by defaulting on the payment, the Centre has succeeded in making the future of the compensation package an agenda of the Council, the suggestion of which was unanimously rejected in the last meet. All I wish to say is that there was no need for the Centre to trek down this painful and controversial route. The payment for October could have been made without any problem, and nobody in the Council could have objected to a discussion regarding a possible shortfall in the compensation fund, if the Centre so desired. This has been the spirit in which the Council has so far functioned.

The simplest solution would be to, if necessary, take a short-term loan to fill up the gap in funds. The compensation cess collection can be extended for an additional year or so, till the borrowed amount is recouped. However, the Central government seems to be toying with the idea of another rejig of the GST rates. Newspaper reports say that the raising of the 5 per cent lower slab has been proposed. This would be a travesty of justice. After drastically cutting the upper slab of 28 per cent on consumer goods to 18 per cent and 12 per cent on the eve of the elections without any regard for the revenue impact, now the suggestion is to raise the rates for necessities to make up for the loss in revenue. The canon of equity in taxation seems to be unfashionable to the ruling dispensation.

What is the outcome of this irresponsible policy of confrontation with the States? These antics are going to convert the slowdown into a great recession. Elementary macroeconomics teaches you that governments must pursue a fiscal expansionary policy. But today, we are seeing a strange spectacle of the Central government enforcing a cut in the expenditure of the States, that account for nearly 60 per cent of overall government expenditure in India.

The writer is the Finance Minister of Kerala

Published on December 13, 2019

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