A GST In Which Branded Toothpaste May Be A Luxury Good
The fourth meeting of the GST Council will begin today, in a bid to decide on critical issues including rates, cess and tax administration. While some progress has been made in the three meetings so far, the issues of compensation to states, voting rights and rate categorisation of goods and services have clouded the conversation says Praveen Chakravarty, an advisor to a state government. With the Council deliberations at a critical juncture he prefers not to identify the state.
In this conversation with BloombergQuint, Chakravarty highlights what he considers design deficiencies in the proposed GST structure, especially the Centre’s proposal to continue levying cess.
I think we must first understand that the GST transition is not one of merely efficiency in tax administration or ease of doing business. It also tugs at the heart of federalism in India. With GST, states lose their fiscal autonomy over indirect taxes. Anyway the states did not have power over direct taxes, which means after GST states have no way of raising revenues on their own. They have to go to the Centre for all their spending proposals. That, I think is a very fundamental shift in how we have evolved as a country over the last 7 decades, and what it means for states and their autonomy going forward. So, it is entirely understandable that states are apprehensive about this shift.Praveen Chakravarty, Advisor to State on GST
6 States Yet To Approve Constitutional Amendment
These are 6 large states. These states account for 40 percent population of India, 40 percent of all tax revenue, 30 percent of GDP; these are six large states. While this might be mere technicality at this point as GST is a law in this country today, it surely will have an impact on the enthusiasm with which they participate in the GST council discussions as well as raises the larger question of why? Why have these six large states not yet passed the constitutional amendment bill in their assemblies?
One State, One Vote Is Not Fair
It is important to remember a few things going into GST. First, the states lose their fiscal autonomy, they are more dependent on the Centre. Second, it is a fact that in today’s India, 6 states account for half of all economic activity compared to the 23 states combined. For example, the state of Tamil Nadu’s revenue is 10 times higher than the state of Himachal Pradesh. With such stark diversity in economic activity among states, states will be naturally apprehensive about Himachal Pradesh and Sikkim having the same vote and voice as Maharashtra and Tamil Nadu. So, there is I think an understandable apprehension about the voting structure of the GST council. If the GST council was to mirror Rajya Sabha type voting structure, which is based on population, it may have been far for more conducive to the GST council deliberations in my opinion.
4 Rates + Cess
Before we were going into GST, and as a nation when we are going into a GST regime, there were two important things that were told to us. Tax compliance will increase because of GST, economic activity will receive a boost because of GST, both of which will make the tax buoyancy really high. Also remember the states’ loss of fiscal autonomy. Hence, it is only fair that states said, we perhaps are unsure about this GST regime but if you are confident guarantee minimum revenues for us for a certain specific period of time that was agreed upon, that was five years.
Now when the GST Council discussions are ongoing and when we actually have to calculate how much tax revenue will be received by compressing all indirect taxes into four slabs there seems to be some inexplicable nervousness on the part of the Centre on the tax buoyancy aspect of GST. So something is not adding up.
If that is the case then we should be clear that perhaps there could be a shortfall but the shortfall has to be met through outside-of-GST mechanisms. Be it through a borrowing by the Centre, but not within the GST mechanism. The proposal that came was for a cess and essentially the proposal was this; they said, since the highest rate of GST was 26 percent, all goods that have a rate higher than 26 percent today will be charged a cess that will be equal to the difference between their current rate and the 26 percent slab. What that essentially means is about 38 items will attract six different cesses.
Then we might as well have the current rate structure in the country. What is the purpose of going to a simplified GST regime if the entire idea in the premise was to collapse 25 different rates into four slabs. So the idea of a cess is somewhat weak as a mechanism to compensate states for their revenue commitments.
I think if there is a shortfall there has to be ways and means by which the states and Centre should meet this shortfall.
The Constitutional amendment guarantees a five year compensation to some producing states. The moot question is as to how is this to be funded by the Central Government? If the Central Government has to borrow money to fund the compensation, it would add to its liability and increasing the cost of borrowing by the Centre, the State Governments and the private sector. There is no rationale for increasing direct tax for this purpose. Theoretically it has been argued that the compensation be funded out of an additional tax in the GST rather than by cess. Assuming that the compensation is Rs 50,000 crore for the first year, the total tax impact of funding the compensation through a tax would be abnormally high....The alternative proposal is to have a cess account and continue same existing levies as cess for a period of five years before subsuming them as tax. This would include clean energy cess and cesses on luxury items and tobacco products, which in any case, presently also pay levy higher than 26 percent. This would ensure no additional burden on the tax payer and yet be able to compensate the losing States.Arun Jaitley, Finance Minister
Is Branded Toothpaste A Luxury Good?
If the Centre’s proposal was to be implemented there would be a cess on branded hair oil. There would be a cess on branded shampoo, there would be a cess on chicken, there would be a cess on electric fans. Because these are considered luxury goods that today are taxed at the rate higher than 26 percent. Now, there are two arguments to this. One, what is a luxury good in Bihar is not necessarily a luxury good in Tamil Nadu. The fact is in Tamil Nadu the average household consumes twice as much eggs, meat and fish as the average household in Bihar. 70 percent of households in Tamil Nadu use branded toothpaste and branded soap. That may not be the case let’s say in Uttar Pradesh. So this notion that the government knows what is a luxury good and what is a necessity for all Indians is flawed. Second, if the proposal of the cess would be implemented that would necessarily be inflationary in some states and perhaps not inflationary in another state, so again it goes back to the question of diversity of states.
Fiscal Discipline Vs Simpler GST
This is the classic impossible trinity in some sense. Keeping inflation low, moving to a GST regime, and sticking to a fiscal target. And I think In my view, moving to a GST regime is incredibly complex for a large and diverse country such as ours and it is an investment for the longer term. So, If that is the case, and we cannot see inflation go up, then the only thing that can give is short term fiscal discipline. By that what I mean is instead of cesses, let’s go with the current proposal of simplified four slabs or three slabs or whatever the slabs maybe and at the end of the year, we might find that there is a short fall in tax collections for the Centre to keep its revenue commitments to the states. They cannot postpone their payments to the states as the states do to their local bodies. The states need to get money at the right time. Which means the only other option for the Centre is to indulge in some borrowing. Which means we could, for technical purposes, if we require, we can always say that this borrowing on account of GST can be outside of the calculations for the purposes of the FRBM tax. But those are merely technicalities and I admit that. I think keeping in view that this is a longer-term investment as we transition to a GST regime, borrowing by the Centre at the time when they realise there is a short fall is perhaps the cleanest solution for this.
The states that actually speak up in these meetings are pretty clear that they don’t want a cess. I think there is uniform opposition to cess from states that are large and have a voice in the Council. So let’s be very clear on that. I fully understand and support that opposition. Then the question is how one moves forward. You remove the cess part from the GST Council discussion, which also means that you remove the potential revenue shortfall outside of the GST Council discussions. The states will then also ask for a commitment that the revenues that the Centre owes the states for this five year period will come at the right time, at the time that they need and they will not be delayed or postponed payments. So I think that will be the immediate ask.
Once that is done, then we will get into the very contentious issues of which good will go into which tax bracket. I think we can arrive at a reasonable solution that will make all the states happy and I think that is entirely possible.
Then, the third issue is administration of GST. Who is going to collect these taxes? I think the current proposal that those the Centre will cover those with turnover of more than Rs 1.5 crore and the States will administer those with less than Rs 1.5 crore - I just think this is flawed. What if as a company my turnover is Rs 1.5 crore this year and next year it is Rs 3 crore and the year after that it is Rs 1 crore? Do I keep changing tax administrators? Do I deal with different set of people all the time? I just feel that we have removed fiscal autonomy of the states and the voting structure in the Council is flawed. Just let the states collect all the taxes. Let the states administer and collect taxes for both, services and goods. This argument that the states have never collected service tax so they don’t know how to do it makes it sound like collecting service tax is rocket science. It is not.
I think the states can collect GST, the Centre can perform the audit and the enforcement tasks.