By Dinesh Kanabar
The 56th meeting of the Goods and Services Tax (GST) Council set out to recalibrate India’s GST rate structure, lower the GST burden on the common man, and improve ease of doing business in India. The agenda of the meeting was the long-awaited rationalisation of rates, an exercise that has dominated the Council’s deliberations for years but had been protracted for a variety of reasons including political. This time the Council has demonstrated the will to tackle contentious reforms, perhaps even at a fiscal cost.
GST 2.0: A simpler structure with broad impact
Collapsing a four-plus-slab structure into a simpler three-rate model (a 5% merit rate, an 18% standard rate for a majority of goods, and a steep 40% demerit rate for a handful of sin/luxury goods), the Council has recommended what the finance minister described as “GST 2.0”. A bulk of the rate changes will be effective from September 22, and this should lower rates and address inverted duty structures across sectors; yet several categories, particularly in services, have had rate increases signalling some trade-offs were embedded in the reform.
The rate reductions, which touch the daily lives of citizens, is expected to have far-reaching implications on consumer demand and economic activity. The relief is significant for households, with many food items, medicines, and daily-use goods being exempted or shifted to the 5% slab. More than 20 categories of goods have been dropped from 12% to 5%. These changes, coupled with rate cuts on white goods, vehicles, and fertiliser inputs, should ease inflation and support consumer spending. Some increases of both rate and value-based taxation are recommended for footwear and apparels.
The compensation cess, which was introduced to make up for revenue shortfalls in the states, will soon be phased out. To balance this, the GST Council has set the highest tax rate of 40% on sin and luxury goods, making India’s indirect tax one of the steepest in the world for items like tobacco, alcohol substitutes, casinos, and even sugary drinks. At the same time, the overall tax on high-end vehicles will actually fall because the cess has been removed, while some carmakers in the small and budget segment have already announced price cuts.
Importantly, the much-debated exemption on individual life and health insurance premiums received approval although group schemes will remain taxable. The pass-down of the exemption to the consumer may not be commensurate owing to the loss of input tax credit to the insurers.
Notably, the anti-profiteering mechanism is not going to be revived; rather a trust-based approach, where businesses will pass on the benefits of lower GST rates to end consumers will be adopted by the administrators. It is expected that trade and industry will discharge this onus.
Industry challenges and state concerns
For industry, the most significant impact is the correction of the inverted duty structure (IDS), long criticised for resulting in locked working capital. Yet, each sector will have to assess the implications-for example, the pharma sector may face deepening of the inversion due to rate reduction on formulation but a higher rate for active pharmaceutical ingredients, and at the same time reduced GST rate on job-work charges. Similarly, components and inputs for tractor manufacturers will continue to witness an inversion. These situations may dent the overall attempt of reducing GST rates. While the Council has corrected IDS, new ones have emerged, and industry continues to struggle with obtaining tax refunds. The formula for computing IDS refunds remains incomplete (refund is not allowed for input services and capital goods), resulting in blocked working capital. This aspect requires a relook. Another area of concern is the compensation cess, which will not be capable of being passed down to customers/consumers, and thus become a cost for the suppliers.
The sweeping rate cuts reignited old concerns over how states will be compensated. They fear that the narrowing tax collections could upset their fiscal position, especially once the compensation cess is discontinued. Yet, allaying these concerns, the GST Council, with representation from both the Centre and states, has acted in unison, ensuring cooperative federalism.
The structure rejig and rate changes should ease inflation and improve liquidity, while also delivering the Prime Minister’s Independence Day pledge to simplify GST as a pre-festival gift to voters. The reduction in tax collections is estimated to be `96,000 crore. Yet, it will likely be offset due to tax buoyancy, better compliance, and increase in consumer spending. The GST Council can be appreciated to launch GST 2.0 and, augment the efforts aimed at achieving Viksit Bharat goals.
Beyond rates, the GST Appellate Tribunal (GSTAT) will commence hearings before the end of this year, which will help address the backlog of litigation.
A long-standing recommendation relates to the determination of place of supply for “intermediary” services, which after the amendment will be based on the recipient’s location as opposed to the provider’s location today. This proposal would make Indian service exporters more competitive in the global market; conversely, import of intermediary services shall be subjected to reverse charge of GST.
Other recommendations comprise implementation of the revised system of grant of 90% provisional refunds arising out of IDS; a trust-based, risk-driven mechanism for faster refunds, and simplified GST registration schemes for small and low-risk businesses as well as small e-commerce suppliers.
The recommendations from the 56th meeting is one more turn of the page in India’s indirect tax landscape; recommendations that simplify the rate structure, lower the tax burden on households, and address some distortions that were weighing on industry.
The writer is CEO, Dhruva Advisors LLP.
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