Double Whammy: Tax slump and Central funds cut hit states

By: and |
Published: April 3, 2020 2:50:33 AM

The interim report of 15th Finance Commission for FY21 doesn’t provide for extra headroom over and above the mandated fiscal deficit ceiling of 3% of respective state GDP.

fiscal defcitThe move comes as most states are acutely cash-starved, with many including Maharashtra, Telangana and Odisha being forced to defer even salary payments.

State governments, which are at the frontline of the war against Covid-19 pandemic, have stepped up pressure on the Centre for more generous financial support on a contingent basis, including greater leeway on established fiscal rules to borrow more.

Prime Minister Narendra Modi held a meeting with chief ministers via video conferencing on Thursday, in which most states are learnt to have demanded that FRBM limit be raised for FY21, with some states even suggesting that fiscal deficit of up to 5% of state GDP be tolerated, against the mandated 3% ceiling.

The move comes as most states are acutely cash-starved, with many including Maharashtra, Telangana and Odisha being forced to defer even salary payments. States’ own tax revenues are seriously undermined due to the economic slump and delayed release, if not denial, of the monies due to them by the Centre under assorted heads has aggravated the situation (see chart).

To be sure, the GST compensation funds collected for states were short of the requirement (to meet the protected level of 14% annual growth) by as much as Rs 30,000 crore in FY20; additionally, the states’ other own tax receipts like sales tax on petroleum products and stamp duty on real estate transactions have taken a big hit.

Worse, even the mandatory tax transfers to the states are being delayed by the Centre which is struggling to make ends meet. Also, there have also been major cutbacks on fund transfers by the Centre to the states under various Central-sector and Centrally-sponsored schemes. The cut in non-tax (scheme-related) transfers to the states has been much sharper than what even the Rs 13,000 crore or 4% reduction from the budget estimate (BE) to the revised estimate for FY20 indicates, anecdotal information from state government sources reveal.

On top of all this, states are bound to witness an unprecedented decline in tax revenue in April, the crucial month in the fight against the pandemic. As against the protected monthly state GST revenue of Rs 63,700 crore for FY21, April receipts (for March transactions) might turn out to be Rs 10,000 crore or thereabouts due to the current nationwide lockdown, as per a ballpark estimate. May is unlikely to be any better either.

Clearly, unless the states get considerable additional borrowing freedom and/or the Centre accelerates release of funds to them in the short term, Covid-19 fight could weaken, with potentially disastrous consequences for the country and, ipso facto, the economy. There is a pressing need to give relief to the people with various cash transfers and the stepping up of the healthcare and other welfare infrastructure on a war footing to address the unprecedented crisis. However, the feasibility of this effort is contingent upon the funds availability with the states and local governments.

According to information gathered by FE from official sources at the Centre and with a few state governments, the low growth in their own tax revenue (OTR) has dented the states’ coffers. The problem has been compounded as they no longer enjoy the 14% annual growth in state GST (SGST) receipts due to a shrunk GST compensation kitty.

A major state like West Bengal, for instance, claims that the Centre as on date owes Rs 35,000-40,000 crore to it as its obligatory contributions to various schemes, which are either fully or partly centrally funded. Additionally, unpaid GST compensations to the state have risen from Rs 1,700 crore as at January-end to over Rs 3,000 crore now. What has come as a marginal relief to the state, however, is an enhanced limit for ways and means advances from Rs 1,800 crore to Rs 2,400 crore. An official from the state government told FE that the expected big decline in GST collections in April would hit the state hard.

(On Tuesday, the Reserve Bank of India has raised the Ways and Means Advances (WMA) limit by 30% for all states and Union Territories to enable them to tide over the crisis caused by the Covid-19 outbreak. The revised limit is effective immediately and till September 30).

Bihar deputy chief minister and finance minister Sushil Kumar Modi told FE that his state received Rs 63,406 crore as share in Central taxes in FY20 compared with Rs 73,603 crore in the previous year, whereas budgeted amount RE for FY20 was Rs 89,121 crore. However, he said, the Centre had paid Rs 5,600 crore in excess of Bihar’s tax entitlement in FY19 and while it said that this amount shall be adjusted against FY20 shortfall, an equivalent extra fiscal room is available to the states with FRBM forbearance.

Sources say that such fiscal leeway for all states could be to the tune of Rs 58,000 crore. “We had asked finance minster Nirmala Sitharaman to not adjust the excess amount this year due to unforeseen circumstance or if adjustment has to be made, it should be in instalments. However, while the amount has been set-off in FY 20 devolution, the central bank has provided a special dispensation to states to raise a loan of equivalent to this amount outside the FRBM limit,” Modi said. According to him, Bihar received Rs 24,651 crore as Central grants in FY20 (till March 31), while the budgeted amount was Rs 26,705 crore.

The interim report of 15th Finance Commission for FY21 doesn’t provide for extra headroom over and above the mandated fiscal deficit ceiling of 3% of respective state GDP. The 14th finance commission allowed a 0.5% of GDP extra fiscal headroom under FRBM for states with lower debt burden; however this window is closed for FY21.

The states’ protected SGST revenue per month in FY20 was Rs 55,900 crore; there was however a shortfall. With 14% annual growth assured, the protected SGST revenue for FY21 is Rs 63,700 crore and assuming that April collections are below Rs 15,000 crore, they are staring at a monthly SGST shortfall of a whopping Rs 50,000 crore.

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