The Times Are A-Taxin’

The impact of one econo­mic overhaul has rippled on to ­another in the making. Finance minister Arun Jaitley is now bracing for a delay in wrapping up negotiations to get going on the goods and services tax (GST), with states saying they can’t take back-to-back economic “shocks”. The idea itself doesn’t seem to be in jeopardy, though. It just might take longer and harder to strike a deal with the states, who think they have found a political opportunity in demonetisation to renegotiate the terms. Many who have otherwise been unable to drum up a serious offensive against the Narendra Modi government for triggering a currency shortage are preparing to toughen their stances.

Unlike demonetisation, the GST can’t be willed into existence by an overnight decree. It can only be achieved through agreements hammered out in hard-fought discussions.

A reform so fundamental that it requi­res a constitutional amendment, the GST will replace a complex patchwork of state- and local-level taxes with a single-point tax structure for all kinds of marketplace transactions.

Jaitley has all but confirmed that the Centre may miss its target of pushing through the multiple legislations needed to give effect to the GST in the current winter session of Parliament, which ends on December 16. The Opposition hasn’t let Parliament function anyway. Concluding the sixth round of talks of the GST Council—comprising Union and state finance ministers—Jaitley said he foresaw “considerable time” before everything was settled.

In all, four separate laws need to be passed for the GST to be introduced. Parliament will have to pass the central GST legislation and states need to pass their versions of the same law, apart from one integrated GST bill. Another piece of legislation that must go through provides for monetary compensation to states to make up for their initial revenue losses after the GST rolls out.

The country has time only till September 16, 2017, to implement the GST. By that date, the states are expected to have suspended their powers to levy indirect taxes. This means legislations must be passed well in advance so that the new system can be tested for a failsafe start. Negotiations for the country’s biggest reform in indirect taxes, such as sales tax and octroi, had been tidy, with stakeholders focusing on the economics, until the last meet of the GST Council that saw newer demands from the states opposed to demonetisation. Some of them want the GST to be put off, no less. Ironically, the fiercest opposition has come from the state that first mooted the GST: West Bengal, which has now joined at least three other states—Kerala, Telangana and Delhi—in demanding more compensation because the demonetisation drive will see their revenues dip beyond what they had expected from the GST’s implementation. “Tax collection can be 50 per cent lower this month as there is no business in Delhi markets,” tweeted Delhi’s deputy chief minister Manish Sisodia. “If so, it would be hard to pay salaries. Same concern being expressed by many state Finance Ministers.”

According to what was agreed so far, the GST would initially cut state earnings, which would be made good by a compensation of Rs 50,000 crore over five years. What complicates matters is that demonetisation isn’t something that the GST Council can take up.

For the Modi government, the GST is an all-important reform towards efficient markets and better investments. Its absence makes India act like 29 different economies, with separate tax structures and trade barriers for each state. When the GST becomes a reality, analysts reckon, it will be India’s ‘EU moment’ with the creation of a single market.

In the GST Council’s last meeting, states also quibbled over who gets administrative control over the assessees—i.e. millions of business firms that will be taxed in the new system. The Centre gets control over businesses whose annual worth is more than Rs 1.5 crore and wants joint jurisdiction with the states over those below that cutoff. The states, almost unanimously now, feel they should have exclusive control over those below that cutoff. “Why does the Centre need unnecessary bureaucratic control over these small businesses?” asks West Bengal finance minister Amit Mitra. “We demanded five years of compensation based on the revenue losses due to the GST. Suddenly, there came the demonetisation shock, which means further fall in tax revenues. The compensation, ­therefore, has to be more than Rs 50,000 crore. Why did they bring in demonetisation to destabilise the GST?”

Thornier issues, such as agreeing on the tax band of 6-26 per cent across goods, were hammered out quickly enough. The talks hit a hurdle when it was least expected, towards the end, and on an issue that isn’t really complicated. “Most states said the GST should be given more time because of demonetisation,” says Telangana finance minister Etela Rajender. The states will brook no ­central authority of smaller tax assessees because they see that as ­int­erference. They also want the local trading class, often politically influential and part of local patron-client relationships, to be immune to federal oversight. But the bigger reason behind springing newer demands is an attempt to rework the compensation.

Of the total tax base that the GST will take over, nearly 67.7 per cent goes to the states, while the ­Centre gets to keep 32.3 per cent. This does not include state ­revenues that form a share of central sales tax, luxury taxes, octroi and so on, which will not be part of the GST tax base. The GST Council has come up with a “much more equitable tax-sharing formula between the central government and the states,” says Sonal Varma of the ­inv­estment ­advisory firm Nomura. “For goods taxed at the high and low rates, taxes will be equally shared between the states and the central government, whereas for goods taxed at the standard rate and for services, the states will get a slightly higher share.”

With the Centre’s share of overall taxes possibly rising to 52 per cent under the GST and the share of the states falling to about 48 per cent, demonetisation has come as an opportunity to extract more from the Centre. But Jaitley, known to be someone who always has a Plan B, said after the last round of talks, “Keeping fingers crossed.” At the GST Council, the Centre has a veto and three-fourths of the states have to agree for any proposal to be accepted or rejected. Pressing the veto button, however, would be an ugly thing.

The Plan B might be nothing more than the expectation that dis­cordant states cannot hold out for long. Uttar Pradesh is an example. It chose to boycott the value-­added tax for over a year, only to accept it later ­because, as an outlier state, it was losing investments to others.