Rationalise rates

GST Council must address the shortfall in collection

After a few months of robust performance, goods and services tax (GST) collection is expected to be back in the pressure zone in May, which will reflect economic activity in April. The impact of the devastating second wave of the pandemic is already visible in a sharp drop in e-way bill generation. The renewed revenue concern is likely to dominate the upcoming GST Council meeting on Friday. State governments, which are at the front line of dealing with the pandemic and providing relief, will also now have to spend on vaccine procurement. A decline in revenue from a lower base and increase in expenditure will make fiscal management even more difficult for states, which are raising concern about the shortfall and the compensation structure may need to be re-evaluated.

Besides overall revenue concern and compensation for the shortfall in collection, there are a number of other issues that the GST Council will be expected to consider. For instance, the issue of inverted duty structure is pending for long, which is affecting revenues. There is also a pending demand to bring petroleum products under the ambit of GST, as it will help provide input credit to users. However, it will not be possible at this stage because bringing petrol and diesel under the GST will lead to a sharp reduction in taxes, affecting the overall fiscal balance. Both the Union and state governments depend heavily on taxes from petroleum products. Bringing these products under the GST ambit with a cess to compensate for revenue loss will also not work because it will further complicate the overall tax structure. Thus, any proposal to include petroleum products in the GST net should be considered only after evaluating all such issues.

But the most important matter that the Council needs to address is rationalising rates. Revenue has increased in recent months because of improvement in compliance. While this is a welcome development, it will not compensate for the unnecessary reduction in rates over time for political reasons. As the Fifteenth Finance Commission highlighted in its report, net of the compensation cess, GST collection in 2019-20 was just about 5.1 per cent of gross domestic product (GDP). This was significantly lower than the revenue from the taxes subsumed in GST, which amounted to about 6.3 per cent of GDP in 2016-17. Therefore, the current rate is not revenue-neutral. A Reserve Bank of India study in 2019 showed that the effective weighted average rate for GST was 11.6 per cent compared to 14.4 per cent at the time of implementation. This was obviously a result of premature rate adjustments. The revenue-neutral rate issue must be addressed urgently because it is affecting tax collection worth over 1 per cent of GDP.

The Covid-19 pandemic has significantly damaged government finances and expanded India’s public debt to about 90 per cent of GDP. This ratio can worsen further if the economy doesn’t come back on track soon. Given the level of debt and deficit, both the Union and state governments will have to look for ways to ease the fiscal pressure. The Council must go beyond borrowing to compensate for the shortfall in revenue collection and address the structural issues in the GST system.