Give full compensation but no exemptions or 1% tax
It is odd, though perhaps to be expected, that even after the government had finalised the GST Bill—had the Opposition not been united, the Bill would have been passed in the last session—various state governments should be upping the ante once again. This time around, states are asking the Centre to give them 100% compensation for any loss in revenues due to the GST, as compared to the existing situation where the compensation is to be 75% in Year 4 and 50% in Year 5. States have also asked for entry taxes and purchase taxes not to be subsumed in GST, and for fresh taxation rights on tobacco over the GST rate. And, not surprisingly, apart from the manufacturing states like Gujarat, Maharashtra and Tamil Nadu, several others are against the 1% additional tax that has been allowed for inter-state supply of goods.
Given that raising new demands can derail the April 2016 deadline, the Centre has reason to be upset, but it should use the opportunity provided by the Bill being before a Rajya Sabha select committee to hammer out as flawless a GST Bill as possible—a consensus over the GST design is a necessity for its implementation as the Bill needs the assent of at least 15 state legislatures and the NDA has only 12 with it and also lacks a majority in the Rajya Sabha. It is true that GST is a process, so the Bill can theoretically be fixed with the passage of time, but the structure of the GST Council is such that both the Centre and the states have the votes to block each other’s suggestions. In which case, it would be a good idea for the Centre to agree to the 100%-compensation demand in return for removing exemptions such as those on real estate and petroleum. These two exemptions will ensure a large part of duties paid during the process of production—on cement and steel, for instance, or on other petroleum products—will not get rebated, thereby reducing a large part of the ultimate benefit of a GST.
Similarly, the 1% tax, as chief economic advisor Arvind Subramanian pointed out, can result in a 4-5% cascading tax and will make it more attractive to import goods instead of producing them in India. The Centre, and the Rajya Sabha select committee, need to persuade the manufacturing states like Gujarat and Maharashtra—the 1% tax has been levied primarily based on the Gujarat government’s suggestion—that the tax serves no purpose. The tax is supposed to compensate these states for the loss they will incur once the CST is removed as part of the GST process—but if the Centre is going to fully compensate them anyway, what is the need for tax? Apart from the fact that the 1%-tax hits Make-in-India, the structure of the GST Council means there is no guarantee that it will not be extended after the initial period of two years.