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Explained: How lower mop-up has translated into delayed GST compensation

Lower GST revenues have translated into delayed and pending compensation payments to states, an issue which will be central to the discussions of the GST Council meeting slated to be held later this month.

gst, gst collection, gst collection coronavirus, coronavirus impact on GST sollection, covid 19 lockdown, GST mop-up, delayed GST compensation The Goods and Services Tax regime was launched at midnight on July 1, 2017. Parliament was lit up for the occasion. (Express Photo/File)

The COVID-19 pandemic has further deepened the country’s economic slowdown, impacting the government’s revenues, with the Goods and Services Tax (GST) collections recording a 41 per cent decline in the April-June quarter. Lower GST revenues have translated into delayed and pending compensation payments to states, an issue which will be central to the discussions of the GST Council meeting slated to be held later this month.

GST compensation issue

The concern over compensation payments started surfacing in October last year, when the payments to states got delayed as GST revenues came in lower than expected. As the required amount to pay states started rising with a compounded 14 per cent rate even as compensation collections remained around the same level for two consecutive years, the high rate of 14 per cent has been viewed as delinked from economic realities. For instance, in the ongoing financial year, the SGST revenue for June has been Rs 23,970 crore, while monthly protected revenue is Rs 63,706 crore, leaving a gap of Rs 39,736 crore (not taking into account IGST settlement). Only Rs 14,675 crore has been collected as compensation cess in April-June, out of which Rs 7,665 crore was collected in June. The Centre in June cleared payment of Rs 36,400 crore for November-February for 2019-20 and the compensation amount for subsequent months are pending.

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Discussions so far, view of states

Market borrowing has been discussed as one of the possible solutions for meeting the compensation gap in the GST Council though the legality of the Council to borrow will need to be explored. There is also an emerging view among states to hike the GST rates or go for the long overdue restructuring of GST slabs as most states concede that the current tax rates are lower than revenue neutral rates. States, however, admit that any tinkering of rates of rate structure under GST needs to be done only after few months till the effects of pandemic-induced slowdown wear off, with the same line of reasoning being used earlier to defer correction of inverted duty structure even though most states were on board for correcting it.

There are differing views among states on the Council itself resorting to market borrowing. While Kerala backs such a move and Bihar opposes it, all states are unanimous on sticking to the 14 per cent assured rate for compensation. Some states are also of the view that the compensation period should be extended beyond the stated period of five years.

Compensation fund

In the Budget for 2020-21, while announcing the transfer of balances due from the collections for 2016-17 and 2017-18 in two instalments to the GST Compensation Fund, Finance Minister Nirmala Sitharaman had said that hereinafter, transfers to the fund would be “limited only to collection by way of GST compensation cess”.

Vijay Kelkar, former Finance Secretary and 13th Finance Commission Chairman, in a paper co-authored with Pune International Centre’s Senior Fellow V Bhaskar has questioned this proposition. “While the Centre’s position appears legally tenable, it does not appear ethically defensible…its decision to restrict transfer to the Fund only to compensation cess collections seems more a fiscal aspiration than a legal compulsion. Section 10(1) of the Act allows for “other amounts” also to be credited to the Compensation fund with the approval of the GST Council,” it said.


At present, the cess levied on sin and luxury goods such as tobacco and automobiles flows into the compensation fund. Alternative sources of revenue for the compensation fund in case of a shortfall were raised by states in the GST Council meetings held in early 2017, with borrowing being considered as one of the options. Minutes of the 8th GST Council meeting state, “The Hon’ble Chairperson (then Finance Minister Arun Jaitley) that compensation to States shall be paid for 5 years in full within the stipulated period of 5 years and, in case the amount in the GST Compensation Fund fell short of the compensation payable in any bimonthly period, the GST Council shall decide the mode of raising additional resources including borrowing from the market which could be repaid by collection of cess in the sixth year or further subsequent years.”

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Options for meeting compensation gap

Hiking the cess rate or lowering of the guaranteed compensation rate have featured in the discussions of the GST Council meetings, but states are not in favour of either of the options. As per estimates shared by Bihar’s Deputy Chief Minister Sushil Kumar Modi, even if revenue collections in 2020-21 are projected to be even 65 per cent of the revenues collected in 2019-20, there would be a revenue gap of Rs 2,67,000 crore for states. Even if a 5 per cent cess is levied on high-end luxury goods, which form about 10 per cent of the overall GST base, it would only yield about Rs 22,000-25,000 crore per annum, he had earlier said.


In their paper, Kelkar and Rao have said that the Centre should promptly respond to the demand from states to pay them overdue compensation cess by borrowing from the market. “Though it does not appear to be legally liable, it has a moral imperative to do so, even if the guaranteed rate of revenue of 14% is inordinately high in the present COVID led economic downturn,” the paper said, adding that a restructuring of the GST model should be considered if the losses for states continue.

The paper has listed out five options — lowering the guaranteed rate of compensation, increasing the compensation cess, increasing the state’s share (SGST), borrowing from the market by the GST Council and borrowing by the Centre from the market and crediting it to the compensation fund — to meet the compensation requirements, though the authors state that the first four options may be unacceptable and untenable, leaving only the option for Centre to borrow to compensate states.

It has also said that the inclusion of petroleum products under GST, simplification of GST rates and minimising exemptions, review of complex structure of Integrated GST, and an independent GST secretariat which is at present dominated by the Centre’s Revenue Department officials needs to be considered. The paper cites the example of the decision to cut GST rates for 178 goods from 28 per cent to 12 per cent in the 23rd GST Council meeting having been taken based on a rough figure rather than any estimate of the tax base, the tax elasticity of the commercially important goods, the loss anticipated by such reduction and the anticipated increase in buoyancy through such measures. “Such an exercise was not professional to say the least. The GST Council needs professional and independent advice on tax matters. This can only occur through the creation of an independent GST Council Secretariat which would provide neutral, unbiased, and pertinent advice on all the matters,” it said.

First published on: 23-07-2020 at 03:21:51 am
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