Goods and Services Tax (GST) Rate Structure – Alternative Policy Options
V S Krishnan
Advisor, Tax Policy Group, EY India
The GST implementation is rapidly moving forward with the government strictly adhering to its self-imposed timelines. Doubts about meeting the 1 April deadline are diminishing as the government has demonstrated political will and has created a ‘national focus’ on GST.
The GST Council is presently engaged in deciding the rate structure. This is very important but also a complex task for the government as it seeks to achieve multiple objectives –
- pro-aspirational middle-class;
- pro-States; and
- pro-Revenue overall.
1. The Centre has promised to compensate the States for any shortfall in revenue below the stipulated normative rate of growth of 14 percent calculated on the revenue base of 2015-16. The revenue growth of 14 percent represents a compromise which averages the growth rate of both the leaders and the laggards witnessed over the past five years. The Centre’s commitment therefore creates a revenue challenge which the rate structure must meet. The GST Council, in its various deliberations so far is seriously considering a rate structure of 6 percent, 12 percent, 18 percent, 26 percent and a 26 percent plus cess levied on some luxury goods or what is termed as ‘demerit goods’.
2. At the last meeting, which was inconclusive, it was decided that the exact compensation requirement would be computed to decide on the rate of cess to be levied on demerit goods, after which the rate structure could be finalised. There appears to be some consensus that the cess should only be levied on demerit goods, which are currently subject to a rate of 26 percent or more. The question that arises is whether what is on the table, proposed by the Centre and deliberated by the Council is the best option, in the circumstances. It would appear that there are some other options available.
First of all, the ‘cess idea’ is a bad idea. It would distort the duty structure and prevent the government from creating a rational rate structure free from compensation compulsions. It would be far better to go for a demerit rate of 40 percent in which the States would get an equal share of revenue, minimising in turn their compensation requirements. In the present proposal, it appears that there would in-effect be three standard rates as about 25 percent of the total revenue would accrue equally from each of the three rates – viz. 12 percent, 18 percent and 26 percent. Even the 18 percent standard rate suggested in the CEA’s report would translate to an effective rate of 19 percent as subsuming the cesses was not factored in the CEA report. Therefore, a better structure of rates could be – 5 percent, 10 percent, 20 percent, 40 percent instead of 6 percent, 12 percent, 18, 26 and 26 percent plus cess. Precious metals could carry a special rate of 6 percent, instead of the proposed rate of 4 percent or alternatively, the precious metal rate could also be raised to 5 percent and merged with the proposed 5 percent merit rate. This would leave effectively, four rates viz. 5, 10, 20, 40 percent with 20 percent being the standard rate accounting for more than 50 percent of the total revenue. The suggested rate structure would still probably leave a revenue gap to meet compensation requirements.
3. To meet this, the government could consider a new revenue option of imposing a GST on unmanufactured tobacco at rates to be decided by the Council. Presently there is no Central levy on unmanufactured tobacco but some states do collect VAT on sale of tobacco. The GST levy could be collected at the hands of the purchaser of unmanufactured tobacco much like Central Excise duty currently levied and collected from the purchaser of molasses. This levy would therefore leave the farmers completely out of the administrative domain of taxation. Tobacco taxation at the source, was an idea which was recently mooted by Mr. Vijay Chibbar, (Retd.) Secretary, Road Development, in his recent article penned in the Financial Express. Mr. Chibbar makes the point that out of a total tobacco production of 520 million kgs, hardly 100 million kgs bear local VAT levies. The remaining 420 million kgs of tobacco is largely outside the tax net. This is illustrated by the fact that a tobacco growing state like Chattisgarh hardly collects Rs. 13 Crores as VAT on sales of tobacco. The numbers presented by Mr. Chibbar would suggest that the Central government could conservatively collect an amount of Rs. 25,000 Crores annually which would be shared both by the Centre and the States (there would be no SSI exemption in this case). The GST duties on unmanufactured tobacco could be adjusted against the GST duty payments on various tobacco products creating an audit trail. Revenue would accrue to the extent the unmanufactured tobacco is used in the exempted stream of manufactured tobacco products. This would also bring down evasion in the tobacco product segment by incentivising the tobacco product manufacturers to report more transactions in order to avail the duties paid on unmanufactured tobacco in the earlier part of the supply chain. Because the GST transactions of tobacco like other GST transactions would be uploaded on the GSTN portal, these could be tracked. Tax payment not only generates revenues but creates an information trail for public policy. In this case a vigorous health policy could be built around disincentivising tobacco product consumption especially chewing tobacco which is the single biggest cause of throat cancer in large parts of the Indo-Gangetic plain and some parts of Eastern India.
4. So we have now the broad contours of the rate structure outlined below –
- rates of 5 percent, 10 percent, 20 percent, 40 percent (demerit rate) – special rate of 6 percent or alternatively, this could be merged with the 5 percent rate; and
- a new GST levy on unmanufactured tobacco in the hands of the purchaser of such unmanufactured tobacco.
5. What are the advantages of this proposed alternative rate structure, over the present one being debated. Some of the advantages are summarised below –
- The goods in the CPI basket, which predominantly drive inflation would face lower duties – 6 percent merit rate would come down to 5 percent and the 12 percent merit rate would come down to 10 percent;
- It would meet the aspirational demands of the middle-class by bringing down the incidence of duty on a wide range of consumable products from 26 percent to 20 percent – a reduction in duty of 6 percentage points.
- It would shore up the revenue of the States, by giving them an equal share in the revenue of demerit goods, instead of the cess, which would deprive them of the same.
- it explores a new revenue option in the form of GST on purchases of unmanufactured tobacco, which will help disincentivise the consumption of all tobacco products by raising prices subserving the health objectives of the government.
The only negative factor could be the rise in the incidence of duty on Services from the current rate of 15 percent to 20 percent. There would be merit in this argument, but this increase in incidence of duty, could be mitigated by having merit rates of duty on services, similar to goods. For e.g. transportation services, whether by road, rail, sea or air could be subject to a uniform merit rate of 10 percent as increased transportation costs could fuel inflation.
6. In conclusion, the alternative rate structure without the cess will find greater acceptance with the States besides shoring up government revenues through a marginal increase in the overall standard rate and a new GST levy on unmanufactured tobacco.