NEW DELHI: A group of ministers (GoM) led by the Minister of State for Finance, Pankaj Chaudhary, recently met to discuss the potential merger of the GST compensation cess into the main tax system.
The compensation cess, which is levied on luxury, sin, and demerit goods above the standard 28 per cent GST rate, was initially introduced to compensate states for revenue losses after the GST rollout in 2017.
With the cessation of the compensation period set for March 2026, discussions centered on the future of the cess. In fact, the compensation payouts to states under the GST compensation mechanism have already stopped.
The GST compensation period, which was designed to last five years from July 2017, officially ended in June 2022. This compensation was intended to make up for any revenue loss states experienced due to the transition from their own tax regimes to GST.
However, while the payments to states under this scheme have ceased, the GST compensation cess continues to be levied until March 2026.
To repay loans
The revenue collected from this ongoing cess is being used to repay the loans the central government took to compensate states during the pandemic, when revenue shortfalls were particularly high.
So, while states are no longer receiving the compensation, the levy of the cess itself has been extended for debt repayment purposes.
Transition of cess
States have suggested that during the transition, no new goods should be added to the list of luxury, sin, and demerit goods subject to the cess. States were in favor of restructuring the cess by merging it into the overall GST system, creating separate tax rates for the goods that currently fall under the cess.
Pankaj Chaudhary noted that discussions on whether to continue the cess or convert it into a tax are still ongoing. The next meeting has been scheduled for November, with a report to be submitted by December 31, 2024.
Debates open a new window
According to tax experts, the conversation around the GST compensation cess has taken an intriguing turn. Rather than focusing solely on technical aspects of merging the cess into the tax structure, this debate opens a window into how the country navigates its fiscal journey post-pandemic, as states assert their need for revenue security.
“From a unique perspective, one could view this as a case of fiscal federalism in transition,” noted financial consultant while talking to businessbenchmark.news .
He said the question is no longer just about what happens to luxury, sin, and demerit goods currently under the cess – it’s about how states can maintain autonomy in revenue generation once the compensation cushion disappears.
With states such as Tamil Nadu, Gujarat, and Madhya Pradesh suggesting no new goods be added to the cess list during this transition, it raises the issue of how state economies will innovate to replace this revenue stream.
This also reflects a shift in the fiscal dynamics between the Centre and the states, where economic recovery from COVID-19 intersects with longer-term fiscal strategies.
