Big boost: No cut in states’ tax share till January

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Updated: Apr 28, 2020 1:42 PM

Centre to stick to convention, transfer 70% of budgeted FY21 tax share of states in 10 months

Indian economy, state taxes, covid-19 pandemicThe Centre has already transferred Rs 46,038 crore as the states’ share of central taxes in April.

Notwithstanding a massive tax revenue shortfall it is faced with, the Centre is learnt to have decided to stick to the practice of keeping the mandatory transfers to the states from the divisible pool at the same rate as budgeted for FY21, till the 10th instalment due in January 2021.

Though monthly tax transfers to states vary, the convention is that roughly 70% of the budgeted full-year transfers take place by January.

The decision to adhere to this trend would give a huge boost to the states’ ability to meet the increased expenditure requirements due to Covid-19 pandemic, without excessive front-loading of borrowings or resorting to other forms of costly fundraising.

The NITI Aayog has estimated a tax revenue shortfall of Rs 2 lakh crore in FY21 from the budgeted level. However, in a flat GDP growth scenario, the Centre’s net tax revenue in FY21 could turn out to be even Rs 3.3 lakh crore or 20% less than the budgeted level, assuming (a probable) tax buoyancy of 0.5.

The practice is that tax devolution is made in 14 instalments to states in a fiscal, one in each month, up to February and three instalments in March.

The Centre has already transferred Rs 46,038 crore as the states’ share of central taxes in April.

With the Centre’s decision, which some state governments confirmed to FE that they have been informed about, nearly Rs 5.45 lakh crore or 70% of Rs 7.84 lakh crore (BE) estimated to be transferred to states in FY21 from the divisible tax kitty, will be distributed among the states by January 2021. This would of course necessitate massive adjustments in the transfers in the final two months of the fiscal year (February-March).

The move might necessitate additional borrowing requirements for the Centre in FY21, but it may not make any material difference to the general government debt, which is seen rising in the current year. The widely apprehended shifting of debt burden to the Centre and states in the current scenario will be arrested to an extent by the move.

“The likely (extra) devolution up to January will be adjusted in the last four transfers. That means, we have to be ready to sustain on our own virtually without any tax devolution from the Centre in February and March,” a senior official from a state government told FE, on condition of anonymity.

Of course, states aren’t complaining of this arrangement as they are aware of the precarious financial position of the Centre. That could explain the Centre’s decision to avail Rs 2 lakh crore in ways and means advances (WMAs) in H1FY21, 167% more than in H1FY20, to meet expenditure commitments including planned devolution to states. The WMA facility is in addition to the Centre’s H1FY21 gross market borrowing of Rs 4.88 lakh crore or 62.6% of its full year borrowing plan. Many analysts project the Centre’s full year gross market borrowings could be much higher than Rs 7.8 lakh crore estimated for FY21.

Tax devolution to states in the past five years show that after a sharp 50% increase in FY16 (due to implementation of the 14th Finance Commission’s recommendation to increase states’ share in the divisible tax pool to 42% from 32%), the growth rate has continuously declined, partly due to rise in levy of cess and surcharge by the Centre but also because of a decline in revenue buoyancy. The receipts from cess and surcharge are not part of the divisible pool and the Centre has resorted to these imposts to mitigate the impact on its finances from the 14th Finance Commission award.

Accordingly, the share of cess and surcharge in the Centre’s gross tax revenue (GTR) rose from 9.3% in FY15 to 11.8% in FY16 and was estimated to be 15% in FY20BE. Similarly, the devolution to states from the Centre’s GTR fell from 34.8% in FY16 to 32.9% in FY20BE and it is estimated to be 32.4% in FY21.

Unable to avoid the additional spending obligations to combat Covid-19, many states are even disregarding the exorbitant costs of borrowings in a clearly risk-averse, jittery market. With many states planning to front-load borrowings in Q1FY21, the RBI also recently enhanced the WMAs for them by 60% (from the level as on March 31) to about Rs 51,560 crore for H1FY21, to encourage the states to spread out their borrowings.

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