Shortfall in GST collections, transfers to States can turn into a federal crisis

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The impact of the virus and lockdown on the economy can be clearly seen in the GST collections, with the first-quarter revenues down 41 percent over last year, despite signs of an improvement in June, when the lockdown was eased. This has impacted the Centre’s revenues, as well as GST transfers to the States, which have fallen below the, mandated 14 percent annual growth rate as promised under the GST law for five years, or till 2021-22 (taking 2015-16 revenues of States as the base year).

The States’ combined annual expenditure can be expected to be higher than the Centre at 35-40 lakh crore, with the size of the Union Budget 2020-21 placed at 30.4 lakh crore. Additional health and relief spending by the States amid the revenue crunch has led to the States increasingly getting restive about their share of GST revenues.

The States get nearly half their revenues of over 30 lakh crore from SGST (20 percent) and Central tax transfers (27 percent), according to assessments made by experts as well as the RBI and India Ratings. If a growth rate of 4 percent in 2019-20 put paid to a 14 percent increase in tax revenues, slowing down collections and transfers, the pandemic has created a situation where an absolute drop in collections cannot be ruled out.

Last month, the Centre transferred GST dues for the November 2019-February 2020 period amounting to 36,400 crore, leaving the States woefully short of funds amidst the crisis induced by the pandemic. Tax calculations need to be reworked, for which the GST Council must convene at the earliest, with the 15th Finance panel members joining in the discussions. So far, the Centre and RBI have taken bold reform steps as well as liquidity measures for MSMEs, besides raising the borrowing limits for the States under the ways and means advances window.

Now, the Centre must grasp the nettle by squarely addressing the issue of the revenue shortfall and its federal implications. Its bid to impose conditionalities on States for additional borrowings seems contrary to ‘cooperative federalism’. The States need fiscal room, as a deep cutback in expenditure can derail growth.

However, it is important for States to accept that the growth assumptions underlying the 14 percent annual increase in revenues, built into the law, simply do not hold now. They should settle for a lower nominal increase with an extension of the compensation period by a few years. Instead of a 50:50 sharing of GST revenues, the SGST component can be raised for a few years till the economy overcomes the crisis. A push for infrastructure, with the Centre and States sharing costs and benefits, should act as the driving force for creating a consensus around tax sharing.

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