Written by Amrinder Singh
The compensation cess, or lack thereof, has placed the states under a great amount of financial stress. The apparent mistrust between the Centre and states is clear for all to see. The states allege that the Centre is not honouring its commitment to compensate them. The Centre argues that the lower revenues are the result of an “act of God” for which the Centre cannot be held responsible. Inevitably, the central and state tax administrations will resort to creative means to increase tax collections, causing a great amount of paint to businesses.
There are immediate short-term implications which industry will face owing to this impasse. The state governments are desperately short of funds. Over the next year, authorities are expected to aggressively use every power to augment states’ finances. Attachment of bank accounts, blocking of input tax credit and in some cases, arrests, are bound to rise with a view to increase immediate tax collections. Information obtained under the RTI Act reveals that ITC of approximately Rs 210 crore of businesses assessed by central tax officers in Punjab, Haryana, Himachal Pradesh and J&K has been blocked. This amount excludes information from some major jurisdictions, such as Central Tax Gurugram, which claims not to maintain a record of this information.
The GST regime has over four tax slabs and umpteen exemptions. Industries enjoying exemptions and lower tax rates are the first to come under increased scrutiny. Since service tax was administered only by the Centre, state tax officers have no experience in taxing services. Issues which have long been settled for the services industry, through judicial interpretation, could be reopened to increase revenue.
Businesses carry out complex transactions where services and goods are supplied at different points of time in different states. The GST law, through a web of complex provisions, determines the state to which the business must pay the tax. State governments are bound to use this complexity to ensure that taxes are to be paid in their respective state.
How did we get here? This crisis is a result of the erosion of the states’ faith in the Centre administering GST fairly. GST was brought in with huge fanfare in 2017. It was billed as the greatest taxation reform. The Centre and states would simultaneously levy taxes on the same transaction. An executive body, the GST Council, comprising of the Union Finance Minister and finance ministers of the state governments was setup. This body had “recommendatory” powers under Article 279A of the Constitution. The assesses were divided between the Centre and state officers so that the same business does not face questions from different tax officers.
GST is a “consumption-based destination tax”, which simply means that the revenue will go to the state in which the goods/services are consumed. The relatively industrially-advanced states had raised the greatest opposition to the introduction of GST. The then BJP-ruled states were the most vociferous in their objections to the introduction of the GST during UPA II.
The Central government was confident that the states’ revenues would grow because of an increased tax base and that the states would now also tax services. The Centre enacted a law which assured that the revenue from the states will grow year on year by 14 per cent (while our economy was growing at just under 7 per cent) and the shortfall in revenues, which did not match the projected growth, would be made good by the Centre. This shortfall was to be met by the much-talked-about compensation cess, which was levied on sin goods. The lure of the compensation cess ensured that the state governments agreed to give up 70 per cent of their fiscal autonomy.
Monumental changes to federal relations and tax structures ensued. The GST Council drafted the law to be enacted by all state legislatures and under its aegis, the rules and notifications were also put in place. Having identically-worded provisions was not enough, the interpretation of these provisions and rules had to be uniform across states. It also directed issuance of necessary guidelines to ensure a uniform implementation of the GST law across the country. Accordingly, the Centre would take the lead in enacting the laws and issued relevant notifications. The states would follow suit. The state legislatures were happy to be reduced to mere post offices when it came to GST legislation as they were sitting pretty on a year-on-year 14 per cent growth in tax revenues.
Come 2019-20, the Centre’s constitutional and moral assurances were put to the test when the economy did not grow at the expected rate. The political landscape had changed. Many important states were not BJP ruled. The decisions in the GST council had always been unanimous, but there was now discord and decisions were being taken through voting. The council’s decisions were being thrust on states that objected to proposals not best suited to each state. The delay in the release of compensation cess, which caused friction, has now grown into an ugly exchange between the Centre and the states. Some states have accused the Centre of using the financial distress as an opportunity to fulfil an “ulterior agenda”.
In the long term, this fiscal desperation could lead to the emergence of varying degrees of rogue states. “One Nation One Tax” is balanced on a common set of rules applicable from Kashmir to Kanyakumari. States could refuse to adopt the administrative orders issued by the central government leading to different interpretation and implementation. Theoretically, a state government could refuse to adhere to the recommendations of the GST council and make changes in the GST law applicable in the state (including change in tax rate) to suit its finances. This would lead to an interesting constitutional crisis, where the Supreme Court will be forced to address the question of whether a state legislature, comprising of democratically-elected members, is sovereign or is it subservient to an executive body with recommendatory powers — the GST Council.
When GST was introduced, these hypothetical scenarios were simply written off and not discussed by terming them hyperbolic. With the Centre-state relations at their lowest ebb and with combative federalism in full play, the future is, to say the least, uncertain.
The writer is an advocate working with Lakshmikumaran and Sridharan, primarily handling indirect tax disputes
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