Digging deeper: On GST compensation

With GST collections set to shrink, the Centre must find new ways to compensate States

July 29, 2020 12:02 am | Updated 01:22 am IST

Four months into FY2020-21, the Centre has finally managed to pay States the compensation due to them for the previous year under the GST regime. This may come as a breather for States seeking to finance efforts to ramp up public health-care capacity and contain COVID-19’s detrimental effects on vulnerable sections. The last instalment of ₹13,806 crore for March 2020 was paid out recently, taking the total payments for the year to ₹1,65,302 crore. To refresh, States were guaranteed compensation from the Centre for the first five years of the new indirect tax regime introduced in July 2017 , for the revenues they lost after the shift from the earlier system where States had the power to levy some indirect taxes on economic activity. This compensation assumed a 14% annual growth rate in a State’s revenue, with 2015-16 as the base year, and was to be paid out from a compensation cess levied on top of the specified GST rate on luxury and sin goods. With growth down over the previous fiscal year even before the pandemic waylaid the economy, the assumptions of the not-too-distant past are beginning to hurt. Compensation cess under GST last year was almost ₹70,000 crore less than the payments due to States.

This gap is likely to enlarge further this year with expected economic contraction denting GST collections as well. Compensation cess inflows could shrink even more with people curbing discretionary spending on luxury goods in order to conserve capital or stay afloat in the pandemic-hit economy. A little over half of the shortfall in last year’s cess kitty has been plugged by tapping cess balances from the first two years of GST implementation. The rest has been conjured up from the Consolidated Fund of India by debiting Integrated GST (IGST) funds that were lying with the Centre. IGST is levied on inter-State supply of goods and services and some of this levy collected in 2017-18 — the first year of GST when systems were still a tad ad-hoc — had not yet been allocated to States. Having thus drawn on these unintended contingent reserves, paying compensation to States this year is going to be even more daunting for the Centre. At the last GST Council meeting in June, Finance Minister Nirmala Sitharaman had said the Council would convene again in July just to discuss the possible alternatives to deal with this particular conundrum. The chief solution officials have been fleshing out is for the Centre to raise special loans against future GST cess accruals in order to help meet its compensation promise to States. There is no sign of that meeting being scheduled yet. That the pandemic’s economic havoc has thrown up multiple challenges for North Block mandarins is understandable. But with a third of the fiscal year almost over, it would help the Centre and the States to battle the virus more effectively if they had more certainty and clarity on the cash at their disposal.


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