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Parthasarathi Shome: Pushing forward on GST

Two events suggest GST is moving back to the forefront of policy reform

Parthasarathi Shome 

Two events took place in June that should mean something in terms of moving the good and services tax (GST) forward from the back burner. The first was a frank speech by Sushil Modi, Chairman of the Empowered Committee (EC) of states’ finance ministers that oversees their preparations for GST. The second was the set of hearings on GST at the Standing Committee on Finance of Parliament chaired by Yashwant Sinha.

Mr Modi rightly pointed to why a GST is needed, among them, (1) to correct for existing limitations of the CENVAT-VAT structure, the Centre being truncated to taxing up to the manufacturing point and the states being excluded from taxing services, (2) to absorb many existing small taxes, and (3) to make India a common market such as the European Union (EU). In the process he conceded that there has been a misunderstanding that states would lose autonomy since even the Centre would have to function through the proposed GST Council (henceforth Council) and thus lose autonomy in the same vein.

Then he mentioned what more states would specifically like. The first is compensation for revenue loss of the already reduced – and eventual abolition – of the central sales tax (CST) on interstate trade. They want a five-year compensation package of Rs 50,000 crore built into the Constitution Amendment Bill (henceforth Bill).

Second, they want flexibility in the rate structure. Citing the EU, they eschew the single rate concept and prefer a floor rate and a narrow band on top, while allowing only two – standard and lower – rates within the band. Third, they want flexibility on rates during emergencies such as floods or droughts when they should be allowed to put rates of ordinary times in abeyance.

Fourth, on dispute resolution between the Centre and states, the Bill proposes a dispute resolution authority to ameliorate any action by a state or Centre that adversely affects the harmonised GST structure. States, Mr Modi asserted, are unanimous against the formation of a supra body that would have the power to dictate to states on matters of dispute resolution. The EC prefers the Council to devise an appropriate mechanism to resolve disputes rather than another body with “legislative supremacy”. The EC has been asking the Centre to incorporate this aspect in the Bill. It feels that, in the worst case, if a dispute cannot be resolved at the Council level, then the judiciary could be approached as needed.

Pushing forward on GSTFifth, the Council itself will take decisions on the basis of a consensus — but how many of the states would have to be present? The EC would like the presence to be raised to two-thirds, and that this should be in the Bill. Mr Modi said that the fourth draft has been sent to the Standing Committee on Finance and wondered aloud why the states’ concerns are still not reflected in the current version. He expressed the hope that their concerns would be met and that the Standing Committee would submit its report before the Monsoon session of Parliament. Yet he was pragmatic enough to admit that, given the constitutional amendment would need a two-thirds majority in Parliament and ratification by 50 per cent of the states, many obstacles would have to be removed “before the GST sees the light of day”. He noted that the Union finance minister had not mentioned any deadline during his 2012 Budget Speech. He concluded that the process was “inching towards a GST”. 

In summing up, Mr. Modi was nevertheless optimistic for no state had challenged the idea of a GST and that it was never a matter of politics, but one of genuine concern among states regarding revenue loss. Thus, unless the Centre was “flexible” on this count, it would be difficult to implement GST. At the same time, he recalled that there was the same fear with respect to the VAT, but that there had been high revenue gain from its introduction. He was optimistic the same would occur with GST.  

So where does the GST process stand at this point? The most obvious conclusion is the existence of a “trust deficit”, a phrase Mr Modi did not desist from using, between the Centre and states. It appears that this is the reason why the states want selective administrative and structural matters to be included in the Bill. CST compensation could be viewed in the administrative category. Their demand, and the Centre’s acceptance, of the exclusion of petroleum products – petroleum crude, high-speed diesel, petrol, ATF and natural gas – from GST through the Bill itself, could be viewed in the structural category. Unfortunately both are fallacious in principle and should be avoided.

Many appropriate design elements are yet to be assured and incorporated. First, the singularity of treatment of goods and services in terms of tax rates is not yet concluded. Not having the same tax rate for goods and services – even allowing for floor rates and a band – would comprise a major lacuna since classification problems would continue and are likely to multiply, in contrast to global practice in an ideal GST in which goods and services are not separated. By the way, it is worth pointing out here that a 12 per cent manufacturing level excise tax is not equivalent to a 12 per cent retail level service tax, as has been claimed in the 2012 Union Budget.

Second, the information-technology support needed to appropriately operate interstate trade remains nascent. A high-level task force has indeed been set up, though its outcome is yet to emerge into view. TINXSYS as a system was in development for almost a decade to manage interstate trade processes and cross-state compensation; where is it now? Without an appropriate clearinghouse mechanism in place, dealers will naturally overstate their interstate trade, knowing full well that it will be difficult for state tax administrations in the importing state to check all imports. Hence cross-state input tax credit might soar.

Third, if both petroleum products and alcoholic beverages are to be excluded from GST for reasons of revenue protection, almost half of the potential value-added or consumption base of GST would be outside. The cost to the information chain could be insurmountable. Also, input tax credit would not be available to either product, raising their tax burden. As in the rest of the world, both should be within the GST base so that the debit minus credit framework would work through the supply chain. On top of that, selective turnover based excises could be imposed on these products to protect revenue.

In the ultimate analysis, the GST that will be introduced will be judged internationally and by business as to whether business costs and compliance costs have been reduced. It must be understood that such a major tax reform such as moving to a good GST should, by itself, improve revenue performance through enhanced economic growth just as the VAT enabled, by Mr Modi’s own admission. Mr Sinha and his Standing Committee had their first GST hearing and indicated that they would like to complete their work before the Monsoon session. It can be hoped that, while the design of GST should keep implementability in mind, they will also recognise the most important economic elements of a good GST and make their recommendations accordingly. Reflecting his salient moves in his Union Budgets against tax incentives when he was finance minister, one remains hopeful.


The writer is director and chief executive of Icrier, New Delhi. These views are his own

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First Published: Mon, June 18 2012. 00:07 IST