GST compensation to states

Part of: GS Prelims and Mains II and III – Devolution of taxes to states; Resource mobilization; C-S relations

In news:

  • Centre finally managed to pay States the compensation due to them for the previous year under the GST regime.
  • States can utilize the compensation to ramp up public health-care capacity and contain COVID-19’s detrimental effects on vulnerable sections.

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Do you know?

  • Before GST, States had the power to levy some indirect taxes on economic activity. Therefore, after GST regime was introduced (in 2017), the Centre promised guaranteed compensation to the States for the first five years, for the revenues they lost after the shift from the earlier system. 
  • The compensation is calculated at a growth rate of 14% keeping 2015-16 as the base year.  

Concerns:

  • States have been urging the Centre to release the full compensation due to them as the decline in economic activities had adversely affected their revenue position, with some States even threatening legal action.
  • With the central government too facing financial constraints on account of the economic downturn, it had taken the position that GST compensation can only be made from the revenue that is collected as GST compensation cess.
  • GST compensation cess is levied on items like cars, tobacco and aerated drinks.
  • The shortfall in cess collection has led to delays in payment to states, often leading to friction between states and the centre.
  • This gap is likely to enlarge further this year with expected economic contraction denting GST collections as well. 
  • Compensation cess inflows is expected to shrink as people avoid spending on luxury goods in order to conserve capital or stay afloat in the pandemic-hit economy.
  • The government may have to resort to market borrowing to fulfill its commitment towards compensating states for losses due to GST.

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