Time To Discuss Imposing Limits On Cess: NK Singh

The commission, however, chose not to make any recommendation on the issue as it was not a part of its mandate, Singh told BloombergQuint in an interview.

For now, there is a need for wider consultation on the future of such cesses.

“Because it cannot certainly be the intention of any government, the constitutional experts and the constitutional amendment (of 2000) that whatever is given by the way of the finance commission’s award is neutralised by the simultaneous rise in the incidence of cess and surcharge,” Singh said.

The Fifteenth Finance Commission chairman said cesses and surcharges are at “substantially higher levels” than earlier. As a proportion to gross tax revenue, the cess and surcharge collection has almost doubled in a gap of 10 years — from 10.4% 2010-11 to 19.9% in the budget estimate for 2020-21, Singh said.

The finance commission is a constitutional body that lays down the principles of tax distribution between the centre and the states. However, the centre levies surcharges and cesses for various purposes which are not shared with the States.

The Fifteenth Finance Commission has recommended that the central government share 42% of the taxes with states, including the Union Territories of Ladakh and Jammu and Kashmir.

Tax Devolution

Singh said the commission attempted to strike an “appropriate balance” in the tax distribution for FY22-FY26, which was kept at the same level as determined by the previous finance commission.

“We had to do a balancing act and what we have sought to do is to not bring the tax devolution down and impart stability and continuity,” Singh said.

However, he cited the comments made by former Reserve Bank of India Governor C Rangarajan to emphasise that keeping the tax devolution at 42% is appropriate till the time a cap on surcharges and cesses is also imposed through a “legal provision.”

The commission has further recommended state-specific and certain sector-specific grants worth over Rs 10 lakh crore (roughly 10% of the amount of tax that is kept for distribution between the centre and the states) in a bid to compensate for the shrinking tax divisible pool due to increased surcharges and cess and dividends, Singh said.

“That’s the best we could do,” Singh said.

Conditional Grants

Singh termed that the commission’s suggestion to impose conditions for local bodies to avail grants from their respective state governments as “practical.”

“We have substantially increased our devolution to the third-tier (local bodies), even if we were not obliged to do so,” he said.

He said the introduction of the goods and services tax has made urban local bodies “helplessly dependent only on the state governments or the finance commission.”

One of the performance conditions for the states to avail grants for local bodies is to notify minimum floor rates for property taxes followed by “consistent improvement in the collection of property taxes in tandem with the growth rate of state's own gross state domestic product.”

Singh said the idea is to increase the resources of the local bodies and make them self-sufficient through property taxes which remain opaque at the state level.

“This is in their own interest, to try and achieve long-term financial sufficiency and to move away from the helpless dependence on the state or central governments or the successive awards of the finance commissions,” he said.

According to an ICRA report dated Feb. 19, the commission has recommended Rs 4.36 lakh crore as grants for local bodies. Of this, 54.5% are conditional and tied and 29.3% are conditional and untied. “Receipt of the conditional grants during FY25-26 is based on the states setting up state finance commissions for the coming five-year period and acting on their recommendations by March 2024,” ICRA said. Another entry-level condition for availing grants by rural and urban local bodies pertains to timely availability of online accounts from FY22, the rating agency said.

Singh said the pressure created by “political apparatus” will nudge the state governments to meet the performance criteria determined by the Fifteenth Finance Commission.

During the tax award of the Thirteenth Finance Commission (from 2010-15), there were nine conditions for states to receive a ‘general performance grant’. In most cases, the centre retained the grants as states couldn’t meet some of the conditions.