Explained | Why has the GST compensation gap widened and what does it mean for consumers

 

States are once again expected to face a double whammy of a large shortfall in revenues from the goods and services tax (GST) and a widening compensation gap as the second wave of the COVID-19 pandemic disrupted economic activity and damaged consumer sentiment. This would necessarily mean that they will have to depend on borrowings for the second consecutive year to tide over the shortfall in GST revenues and compensation received.

The shortfall in GST revenues might rise to Rs 3 lakh crore and the compensation gap to Rs 2 lakh crore in the current fiscal. The compensation gap refers to the difference between the compensation required to be paid to states to make good any shortfall in GST revenue collections and the cess money collected and transferred to them.

The Union budget for 2021-22 had estimated the compensation cess collection at Rs 1 lakh crore, about 19% more than Rs 84,100 crore than the revised estimates for 2020-21. A rapid bounceback in economic activity and consumer sentiment as also early containment of a possible third wave can help the actual collections exceed the budget estimates.

The amount of compensation required to be paid to states widened from the third year of the implementation of the tax regime as GST collections fell short of the target with the slowing of the economy. The compensation due to states jumped about 140% to Rs 1.65 lakh crore in 2019-20 and another 42% to Rs 2.35 lakh crore in 2020-21. But, the compensation cess collection had fallen short of the requirement in 2019-20 and 2020-21.

States were promised that their protected revenues – certain taxes that were subsumed into GST – will grow 14% year-on-year in the first five years of the implementation of the tax. It was also agreed that any shortfall in the protected tax revenues will be compensated during those five years. The protection of revenue growth ends on June 30, 2022. This was done to get all states on board for a country-wide implementation of the tax with effect from July 1, 2017.

The compensation was to be transferred as grants-in-aid and the resources required to make such transfers were to be raised by imposing a compensation cess on select demerit and luxury goods. The list of items attracting the compensation cess included all kinds of tobacco products, aerated water, coal and lignite and passenger vehicles.

It was reckoned that the range of items identified and the cess on them would be enough to pay the compensation for the five years. It was also estimated that the need for compensation might not arise as the growth in the economy and tax revenues had been good in the years immediately preceding the implementation of the GST.

Sure enough, the compensation cess collected in the first two years left behind a surplus after grants were transferred to states that reported a shortfall in the collection of the protected revenues. Some states did not require compensation and notable among them were Andhra Pradesh, Telangana and Uttar Pradesh in the second year. The trouble began in the third year.

So why did the estimates go awry?

To begin with, growth decelerated sharply. The slowing of the economy had begun in 2018-19. Growth continued to lose steam in 2019-20, much before the COVID-19 infection started spreading across the world. The economy expanded just 4% during the year, with growth in the second half slowing to just about 3%.

Rural demand was hit first by the drought in the first half of the 2019 monsoon season and then by floods in the latter part. All India sales of automobiles skidded, with sales of passenger cars and two-wheelers declining by 18%. Slower growth led to lower demand and a decline in tax revenues for the Centre and states.

The GST revenues from domestic transactions grew just 8.4% from a year ago to Rs 8.56 lakh crore while that from imports fell by 8% to Rs 2.67 lakh crore. Overall, the gross GST revenues grew by 4% to Rs 11.23 lakh crore.

The compensation cess collection growth was flat at Rs 95,551 crore as sales of automobiles, tobacco products and aerated drinks fell. Yet, Rs 1.65 lakh crore was transferred to the states to make good the shortfall in their protected revenues.

The Centre apportioned the balance of integrated GST held in the Consolidated Fund of India and the unutilised cess collected in the previous years together with that year’s collection to make good the shortfall in 2019-20.

The harsh lockdown to contain the spread of the COVID-19 pandemic and the fall in incomes in urban India hurt the economy further. The Indian economy is estimated to have shrunk about 8% in 2020-21. The GST revenues from domestic transaction shrank by 8.2% to Rs 7.86 lakh crore and from imports by 2.1% to Rs 2.62 lakh crore.

Overall, the gross GST collections fell 6.7% to Rs 10.48 lakh crore. The compensation cess collection in 2020-21 might be a little more than the revised budget estimate of Rs 84,100 crore, as demand for personal vehicles among other goods came back strongly when the economy opened up.

The shortfall of protected revenue in 2020-21 climbed higher due to the assured 14% annual growth. The GST Council had in its meetings held between July and October estimated that the shortfall in protected revenues of states at Rs 2.35 lakh crore, of which nearly Rs 97,000 crore was attributed to the implementation of the tax regime and the balance to COVID-19 impact.

The compensation cess available for the year was estimated at Rs 70,000 crore at that point, which included the balance of surplus collections of Rs 11,438 crore from the first two years. That amount was released to the states by March 2021.

A large part of the shortfall was paid in form of back to back loans from the Centre to states. This was decided after bitter negotiations between the Centre and mostly the Opposition-led states. The loans will be eventually adjusted against compensation payment due to each state. The loan of Rs 1.10 lakh crore was given to states in 20 instalments.

The GST Council has already decided to extend the levy of cess beyond June 2022 to raise resources to clear the backlog of the pending compensation. Finance minister Nirmala Sitharaman had announced at a press briefing that the levy of cess will continue till the compensation for the shortfall in the protected revenues was cleared. However, revenue growth beyond June 2022 will not enjoy any protection.

The 15th Finance Commission had recommended continuing the levy of the compensation cess through the five years of its award till the fiscal year 2025-26. The Commission had reckoned that it will take that long for the states to be fully compensated and to pay off the loans given instead of compensation and interest on these loans.

The compensation has to be paid from the cess created for the purpose only. It cannot be provided from the Consolidated Fund of India or any other source. In his advice to the Centre, the Attorney General of India has said that while the states are entitled to compensation, the Centre was not required to bear the liability of making good the shortfall. It was incumbent on the GST Council to finds ways to generate enough balance in the Compensation Fund to provide grants to cover the revenue shortfall of the states.

The GST Council is expected to discuss the shortfall in revenues and compensation in the current year and weigh in on options to generate more resources. Since the decision to extend the cess has already been taken, it might want to consider extending to levy to a few more items. States may once again demand that the Centre provide back to back loans like it did in the last year.

source:https://www.moneycontrol.com/news/business/explained-why-has-the-gst-compensation-gap-widened-and-what-does-it-mean-for-consumers-6940161.html

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