In the 2007-08 Budget speech, Union finance minister P Chidambaram announced that a goods & services tax (GST) would be introduced by 2010. GST will replace the existing CenVat and service tax at the Centre and sales tax/state Vat in the states. This would carry the reforms in GST in India a step forward.
The design of this GST, however, is not yet clear. Around the world, GST has been introduced in a large number of countries but has not been fully harmonised in any federation. Each of the federations has a different form of GST. Of about 24 federations, most have opted for a national GST collected by the central government.
The international experience regarding the imposition of GST in federal countries indicates that there are three prevalent models. The first relates to collection of GST by the federal government. It is argued that the levy of GST at the federal level and shared among states, on the basis of a transparent formula, is the best practical approach. The second model comprises federations where GST is exclusively collected by state governments. This system promotes fiscal responsibility and discipline on the part of states.
The third model includes federations imposing dual GST. This has three variants: (a) GST collected by the federal government, although the constitutional authority is vested with both tiers of government; (b) independent dual GST collected by both the central and the state governments; and (c) a single harmonised rate of GST, on a common base, to be administered by the states.
Whatever model is adopted, it is important to keep the financial ramifications of the chosen tax policy in mind. It is, therefore, vital to have a proper balance between the allocation of resources and assignment of expenditure at the federal level. Also, it is imperative to give consideration to the fiscal autonomy of states.
An analysis of the data related to the collection of taxes under the current CenVat and service tax levied by the central government and state Vat by the states shows that the share of taxes collected by each is 62% and 38%, respectively. Under the present scenario, if a national GST (where all goods and services are taxed by only the central government) is proposed, the Centre will collect 83% of the country?s total tax revenue, leaving very little for states.
However, if the Indian federation decides to have a state GST, then all goods and services would be taxed solely by the states. Under such a scenario, states would collect 61% of the total tax revenue and a relatively less amount will go to the Central government for allocation. In the context of marrying these two objectives, it is important to have a state GST in the long run, with some adjustments of sumptuary excise for the Centre.
However, in the short-run, India could have a synchronised dual GST (SDGST). Synchronisation refers to the levy of GST by both tiers of government, but collected as a single tax with two components: the central GST and the state GST. For the sake of administration ease and cost-effective compliance by taxpayers, the SDGST must be collected by one agency, either central or state. Also, the proportionate shares have to be distributed to the concerned governments according to rates decided by them. It could be the Canadian model of either a harmonised sales tax, where the SDGST is collected by the federal government, or like the Quebec sales tax, collected by the province.
Although this will entail a constitutional amendment to extend the central GST up to the retail level, it will serve the dual purpose giving states greater autonomy and the Centre more distributional responsibility. In the short run, SDGST may be the only plausible solution for the Indian system of taxes on commodities and services. We do hope that the final shape of the proposed GST will be economically rational and will help in building up of a true Indian common market.
?The writer is the director, Foundation for Public Economics & Policy Research, New Delhi