The matter of compensation to states under the Goods and Services Tax (GST) regime dominated headlines in the lead-up to the June 28-29 meeting of the GST Council. And according to Palanivel Thiaga Rajan, Tamil Nadu’s Minister for Finance and Human Resources Management, it is the Council that must vote and decide whether states’ demand for an extension should be granted.

“If this is truly a federal structure, if the GST Council is really the deciding authority, then on what basis can a decision be made outside the GST Council?” Thiaga Rajan said in a conversation following the conclusion of the 47th meeting of the Council here in Chandigarh.

While the GST Council took several decisions at the June 28-29 meeting, there is little clarity on the issue of whether states will continue to be compensated beyond June 30.

Per the law, states are guaranteed 14 percent growth in their GST revenues every year for the first five years of the indirect tax regime, with any shortfall to be made up from the compensation cess fund. With the five-year period ending today, states have been asking for an extension to the compensation period as they fear their revenues will slump going forward due to a variety of reasons, including the economic weakness caused by the coronavirus pandemic.

Per the law, states are guaranteed 14 percent growth in their GST revenues every year for the first five years of the indirect tax regime, with any shortfall to be made up from the compensation cess fund. With the five-year period ending today, states have been asking for an extension to the compensation period as they fear their revenues will slump going forward due to a variety of reasons, including the economic weakness caused by the coronavirus pandemic.

The Centre has been noncommittal. At the post-meeting press briefing, Finance Minister Nirmala Sitharaman only said states’ requests regarding the extension of compensation were heard. This, Thiaga Rajan said, was an improvement as back in September 2021, Sitharaman had said compensation would not continue beyond June 2022, as per the law.

That statement, according to Thiaga Rajan, was not the view of the GST Council.

“Does the (GST) system give the Union government a separate authority to make decisions? Or is it the GST Council that should have voted on (extension of) compensation?”.

While states will not receive any compensation beyond June 30, cess will continue to be levied on certain sin goods under the 28 percent GST slab until March 2026. The cess collected will be used to repay the sum borrowed by the Centre in FY21 and FY22 and passed on to states to compensate them for lower revenues. The money had to be borrowed as the economic hit caused by the pandemic had led to a shortfall in the collection of compensation cess itself.

Compensation resolution

For several states, continuation of compensation is crucial. In a letter to Sitharaman on June 27, TS Singh Deo — Chhattisgarh’s representative on the GST Council — said the state had suffered a revenue loss of Rs 13,709 crore from FY19 to FY22 under the GST. While this loss was compensated, Deo said going ahead, the state’s finances could be in a precarious situation and leave it unable to spend on capital, social sector, and employment generation.

For Thiaga Rajan, the extension of compensation is also a matter of principle and legality.

“We live in a strange world where we have a GST Council that’s supposed to be federal and consensus-based when it comes to decision making. But were there to be any decision on compensation that’s made between today and the next GST Council meeting, how would you consider that cooperative federalism?” Thiaga Rajan asked.

The GST Council is set to next meet in August in Madurai, Tamil Nadu.

“Let’s say the Centre comes back two weeks from now and says no (compensation will not be extended). Is that within the ambit of how the GST was envisioned? Let’s say they come back and say yes (compensation will be extended). Is that also within the ambit of how the GST was envisioned? Do we even know if the Centre will get back on this? It should be a decision of the GST Council. As the Honourable Union Finance Minister pointed out in the press conference, there has only been a vote in the GST Council on one occasion. Rest of the time it has been consensus. And I have no doubt there would be a consensus (on extension of compensation) as I am telling you that almost every state has asked for it,” Thiaga Rajan said.

Not wanting to be branded a “perma critic”, Thiaga Rajan said he was happy with the improvement in the quality of the debate at this week’s GST Council meeting as well as the reduced partisanship. But the resolution of the compensation issue requires ‘good faith’.

“My own view is that there are many sophisticated ways of doing some form of compensation without it being too big a burden. But that would be a decision based on good faith — a good faith decision with good accounting and analysis could give you a solution that would be relatively low cost. For a government that was able to remove Article 370 almost overnight, making modifications to the GST constitutional amendment, in the interest of the states, should be a no brainer.”

GST review needed

Compensation aside, Thiaga Rajan sees a need to review the GST as a whole as its construct “leaves a lot to be desired”.

“It’s rushed execution for political reasons, the proclivity of certain leadership to have dramatic announcements, compounded the problem. How many modifications and changes were made in the first hundred days?”

“Now that it has been five years, I think it is time to do a reasonable review of the GST. Others suggested it (at the June 28-29 meeting) and I doubled down on it. In fact, the Honourable Finance Minister of West Bengal even brought up the recent Supreme Court judgment — that in the light of this judgment, should we not discuss what the implications are and whether it changes our effectiveness or capacity to function?”

On May 19, the Supreme Court held that recommendations of the GST Council were not binding on the Centre or states and only had a persuasive value.

As for a review of the GST, both technical and broader aspects need to be examined, he said.

“Take the rate changes that were agreed at this meeting. It has been said they will be put into effect from July 18. But for the rate changes to apply in our states, we all have to either pass bills in our assemblies or issue ordinances,” Thiaga Rajan said.

“I can guarantee you that the odds of all 31 members doing it by July 18 is very close to zero. But the GST Network, which is the effective implementer of the law, will change the rate settings on July 18 because they are told to do so. Now, if they say X percent and the law and regulations in Tamil Nadu still say Y percent, we have an anomaly,” he added.

Another pressing matter is the frequency with which the GST Council meets. This week’s meeting was the first in six months, with the last one being an emergency meeting in December 2021.

Membership of the GST Council has also left Thiaga Rajan “a bit conflicted” at times. While he wants GST collections to improve and any loopholes to be sewn shut, the nature of indirect taxation means the poor and middle-class are hit disproportionately.

“This (central) government has kept cutting direct taxes, be it income or corporate tax, and tried to make it up with GST. And at some level, I am worried that we are becoming increasingly dependent on inherently regressive indirect tax revenues. And who gets to set the direct taxes? The Centre. So they get to decide the overall philosophy of taxation, the ratio of direct and indirect taxes, in a way that we don’t have any input.”

Media: Money Control