Will GST be structurally overhauled at the Council's meeting in Lucknow?

Apart from fewer slabs, the council will do well to take on issues like bringing petroleum under GST, addressing conflicting rulings of AARs and the issue of compensation to states beyond 2022

12 min read Last Updated : Sep 15 2021 | 4:15 PM IST

The GST Council will meet in Lucknow on Friday to discuss a host of issues, including extending the exemption given to medicines and equipment used in Covid treatment, and levy of the Covid cess on pharmaceuticals and power sector for intra-state supplies in Sikkim.

While the Council, chaired by union finance minister Nirmala Sitharaman, takes up these issues, it should also consider reforming GST structurally. Precisely, it should consider merging the 12 per cent and 18 per cent tax slabs initially, while moving to fewer rates in the next few years. Tt should also take up operationalising the central authority for advance rulings (AARs) to address the issue of conflicting orders by the state-level authorities. It may, in any case, consider including petroleum in GST with natural gas and aviation turbine fuel (ATF) to begin with and extending compensation to states beyond 2022 at the Lucknow meeting.

Fewer slabs

When the GST system was being finalised, a committee headed by then chief economic advisor Arvind Subramanian had come out with a revenue neutral rate (RNR) of 15-15.5 per cent, depending on the rates adopted by the GST Council. He had recommended three rates of two, four and six per cent on precious metals, a 12 per cent rate on goods, and a high rate of 40 per cent on non-GST goods under both options. However, he suggested three standard rates on goods and services: 16.9 per cent, 17.3 per cent and 17.7 per cent. These would give an RNR of 15 per cent. The other three rates recommended were: 18 per cent, 18.4 per cent and 18.9 per cent. These would will give an RNR of 15.5 per cent. While an RNR of 15 per cent was preferred, 15.5 per cent was an alternative one.

The GST regime currently has four main rates -- 5 per cent, 12 per cent, 18 per cent and 28 per cent. Besides, it has lower than 5 per cent rates for bullion and additional cess for items attracting the peak rate of 28 per cent, such as automobiles and cigarettes. These rates are equally divided between the Central GST and the State GST. For instance, 12 per cent GST means six per cent CGST and SGST each.

After GST was rolled out on July 1, 2017, the Council has been modifying rates on various goods and services, and has been mostly lowering the rates. However, the slabs remained at 5, 12, 18 and 28 per cent.

GST collections have been robust and in fact, none of the months till August this year, save June, has yielded less than Rs one trillion collections each. In this regard, it becomes critical to review the rate structure and merge at least the 12 per cent and 18 per cent rates, which was the demand of many.

Currently, 242 goods and seven services are taxed at 12 per cent, while 453 goods and nine services attract 18 per cent.

Says M S Mani, partner at Deloitte India, "It is necessary to plan a shift to fewer GST rates over the next few years. A beginning that could be considered is to integrate the 12 per cent and 18 per cent slabs and have a mean rate that can prevail for most of the goods and services."

Abhishek Jain, tax partner at EY, says if the 12 per cent and 18 per cent slabs are merged to form a new slab somewhere in between, the tax burden on items currently attracting 12 per cent will go up. "It remains to be seen how businesses and consumers will respond to this change. On the other hand, tax on items currently taxed at 18 per cent will come down, which is an upside for consumers," he opines.

As cited above, there are more goods attracting 18 per cent than those taxed at 12 per cent.

Including petroleum in GST

With petrol prices crossing Rs 100 a litre in three of the four metro cities -- Delhi, Mumbai and Kolkata-- and at Rs 98.96 a litre in Chennai as on September 10, many quarters have been demanding inclusion of petrol, diesel and other products in GST, as they will get input tax credit.

Currently, crude oil, natural gas, diesel, petrol, and aviation fuel fall outside the ambit of GST and are subject to the Central excise and state-specific value added tax. However, domestic LPG and PDS kerosene attract GST of five per cent.

In fact, the Council may consider the call to include petrol and diesel in GST. This is because the Kerala High Court has directed the Council to consider the demand, as sought in a writ petition filed by Kerala Pradesh Gandhi Darshanvedhi, Thiruvananthapuram. The court asked the council to take a decision within six months of the receipt of the order dated June 21 this year.

However, it is not so easy due to its contribution to the states' and the Centre's exchequer. For instance, central taxes on various petroleum items stood at Rs 4.19 trillion in 2020-21, constituting about 21 per cent of total tax collection by the union government at Rs 20.25 trillion.

Earlier this year, BJP leader Sushil Kumar Modi had said in the Rajya Sabha that it is not possible to bring petrol and diesel under GST for the next 8-10 years as it would cause an annual revenue loss of Rs 2 trillion to all states. The Centre and states collect over Rs five trillion tax on petroleum products cumulatively, Modi had told the Upper House.

He explained that if petroleum products are brought under the GST, 28 per cent tax would be collected on them as that is the highest slab in the tax regime.

"At present, 60 per cent tax is being collected on petroleum products. This would result in a shortfall of Rs 2-2.5 trillion (to both the Centre and states)," he had explained in the House.

He further explained that if petrol or diesel price is priced at Rs 100 per litre, then the tax component is Rs 60 which includes Rs 35 for Centre and Rs 25 for states. Besides, of the Rs 35 tax per litre, 42 per cent goes to states, Modi added.

"If we collect 28 per cent tax on petroleum products, then only Rs 14 would be collected (per litre) against Rs 60 at present," he pointed out.

However, many feel that a beginning could be made by including aviation turbine fuel (ATF) and natural gas in GST. For instance, Abhishek Rastogi, partner at Khaitan & Co, says, "After four years of GST, it is hoped that the GST Council would pragmatically look to include at least a couple of the petroleum products such as aviation turbine fuel within the purview of GST which industry feels will assist in reducing tax cascading effect.”

He points out that the inclusion will reduce a lot of compliance burden on the sector, which has patiently waited to get the relief offered by the new tax regime.

He says the inclusion of petroleum products under the GST regime will have a positive impact on price reduction, provided there is no credit restriction on eligibility of credits after inclusion under GST.

Bringing petroleum under the GST-fold would not be difficult so far as legislative work is concerned. This is because the Constitution Amendment Act for GST has a provision that petroleum would be brought under GST when the Council so decides.

Conflicting rulings of AARs

While state-level AARs were established to clear the applicability of GST on various goods and services, they have sometimes been giving divergent rulings on the same subject. For instance, there was an issue of whether or not recoveries made by employers from employees on account of canteen facility, medical insurance premium, and notice pay would draw GST. On this issue, while the Kerala appellate AAR said they would not be chargeable to GST, AAR Maharashtra ordered otherwise.

Also, the Karnataka AAR ruled that the income of an executive director of a company will not attract GST, but that of non-executive director will draw the tax through the reverse charge mechanism (RCM). The Rajasthan AAR, on the other hand, had ruled that services rendered by the director of the company for which consideration is paid to him under any head is liable to GST under RCM and the situation would prevail even if the director is a part-time director in another company. The AAR did not distinguish between executive director and non-executive director as done by its Karnataka counterpart.

Says Harpreet Singh, partner, indirect tax at KPMG India, "There have been multiple issues on which advance ruling authorities in states have differed. This makes life difficult for a multinational operating in several states to decide which ruling and consequent tax position should be adopted consistently across India, he says.

In fact, the GST Council had earlier decided to set up a centralised appellate AAR which would give rulings in case of conflicting orders of state level AARs. In January 2019, the Union Cabinet had even cleared the setting up of this body. But the body has not been operationalised ever since.

Says Singh: "One nation, one law, one CBIC...hence the need for one centralised authority for advance ruling, to ensure tax certainty and stability."

Compensation to states beyond 2022

The GST Compensation Act, 2017 guarantees states full compensation for any revenue loss due to implementation of the tax for the first five years ending June 30, 2022. For calculating revenue loss, 14 per cent growth over revenues of states during 2015-16 from taxes which were subsumed in GST was taken into account. For the purpose of compensation, cess was imposed on the items attracting 28 per cent rate such as automobiles and cigarettes.

For the first two financial years--2017-18 and 2018-19--compensation was more than adequate to meet the requirements. While Rs 62,612 crore was collected from July to March in 2017-18, only Rs 41,146 crore was released as compensation to the states. An amount of Rs 95,081 was collected the next year, but Rs 69,275 crore was given to the states as per their compensation requirements.

The next two years were turbulent. Even before Covid hit towards the later months of 2019-20, the slowing down of the economy had impacted GST collections. This not only widened the compensation requirements, but also meant that not enough was collected through the compensation cess. As such, while close to Rs 95,550 crore was collected through the cess, Rs 1.2 trillion was released for the states. The surplus accrued in the previous two years came handy for this purpose.

The next year was particularly difficult in this regard as Covid-induced lockdowns had slowed the economy, which contracted 24 per cent in the first quarter and over 7 per cent in the entire year. Only Rs 85,000 crore could be collected through the cess, but Rs 1.37 trillion was released. Besides, the Centre borrowed Rs 1.1 trillion and passed it on to the states as a loan, to be paid through compensation cess, which would extend beyond 2022. In the first five months of the current financial year, Rs 40,000 crore was collected through the cess and Rs 21,000 crore was released to the states. According to the Council's decision, the Centre will borrow Rs 1.59 trillion this financial year and pass it to the states. The Centre has already released Rs 75,000 crore to the states.

Now, the issue that arises is about compensation to the states after June, 2022. Aditi Nayar, chief economist, Icra Ratings, said that there was a clear case for extending compensation to the states as Covid-19 has dealt a blow to their finances. "Stopping compensation in three quarters will be a structural shock for state finances. But, at the same time the assumed growth rate for protected revenues should be more realistic for it to be sustainable," said Nayar.

Devendra Kumar Pant, chief economist, India Ratings said that the 14 per cent growth was fixed at a time when both economic growth and tax collections were more buoyant from what they were currently. “...Personally, a buoyancy of 1.1x along with a minimum threshold of 8 per cent or a different combination where compensation is based on collection rather than a fixed annual growth could be discussed in the GST council," said Pant.

Table: Buoyant GST collections make a case for fewer slabs