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First Mega Decision of GST Council - Service Providers & Manufacturers exited from Composition Scheme

TIOL - COB( WEB) - 520
SEPTEMBER 23, 2016

By Shailendra Kumar, Editor

UNTIL a couple of weeks back, the proposed Goods & Services Tax (GST) used to look like a distant reality. But, going by the seamless deliberations at the historic first day of the two-day-long FIRST meeting of the GST Council, it has become more than certain that April 1, 2017 is going to be the most eventful day in the history of indirect tax reforms in India. Contrary to general perceptions and also the views of political pundits, there was almost 100% attendance of all the States, including those which did not ratify the Constitutional Amendment Bill. Right from West Bengal and Tamil Nadu to Karnataka and Kerala, the Finance Ministers of all the States were present along with their Finance Secretaries / VAT Commissioners. And, surprisingly, notwithstanding the fact that all the stakeholders would get barely six months to put in place a brand new tax system migrating from the origin-based to destination-based tax incidence, almost all the States agreed to April 1, 2017 deadline. Such an unprecedented consensus has indeed pleased the heart of the Union of India which has certainly been the torch-bearer of this reform and is also going to pay for it for at least five years in terms of recouping the revenue loss of States if they report so post-introduction of GST.

So, the loud and clear message for Corporate India is that they need to hurry up and gear up to prepare themselves for this game-changer reform. Whatever little hope they had in terms of getting a peep into the polished model law and Draft Rules, that is likely to be stubbed out. Since the GST Council itself would not have much time to discuss and finalise the legislations at leisure, it cannot dole out the luxury of time to India Inc. All the major components of the new reform are going to be finalised within 60 days.

To begin with, in a record one-day proceeding of about three-hour duration, the Council debated, discussed and finalised the Draft Rules and Procedures for conduct of its business by consensus. As expected the Council Members discussed the draft rules, hurriedly prepared by a sub-committee of officials, and approved the same with some minor changes. Now, the amended rules would be circulated among the Members and by the time they meet again next month, the rules would stand notified and procedures well laid out for recording. Only when they meet again, the Council is going to elect its Vice-Chairman from the lot of State Finance Ministers. One of the State officials told TIOL that they are going to take most decisions by consensus and the option of voting as per Clause 9 of Article 279(A) is going to be exercised only in an extreme circumstance.

What may evidence such an unprecedented federal spirit and bonhomie which was seen and recorded yesterday was the decision relating to the Composition Scheme. At the very first meeting, the Council Members albeit did not agree to Rs 25 lakh exemption threshold but did approve the upper limit of Rs 50 lakh for the Composition Scheme. What it has also decided is that service providers and manufacturers are going to be kept out of this Scheme. In other words, only the TRADERS are going to be eligible for this Scheme. A debate was kicked off on this issue and by consensus, it was decided that both manufacturers as well as service providers are to be excluded from the ambit of this scheme. However, what tax rate is going to be applied to them is to be decided later. It is either going to be one per cent or two per cent.

So far as the issue of threshold limit goes, no decision could be taken yesterday and a follow-up discussion is to be initiated at the next meeting next month. It is learnt that the Centre resolutely displayed its willingness for Rs 25 lakh limit but the States were divided in two camps. A stiff opposition, largely from the poor Eastern States, flooded the floor. They favoured Rs 10 lakh as the maximum limit. And the key trigger point for their opposition is the statistics that they would lose a large number of VAT assessees. It seems the extant VAT-oriented attitude would take some time before it paves the way for a dynamic GST system. They continue to see more merits in large number rather than quality tax base. Although in terms of revenue, they would lose only about 6-7 per cent by accepting the hiked exemption limit but they perhaps cannot see a large number of small businesses going out of their tax net. Such stout was the opposition from them that those who favoured the proposal of the Union of India, decided to defer the discussion to the next meeting and take up the next item of discussion on the agenda.

Another agenda item which was discussed and agreed upon was, what the Union Finance Minister described as the time-table for finishing legislative works. Since the consensus was achieved with respect to April 1-deadline, based on backward calculations, all the legislative items are to be approved within 45 days. With the Centre deciding to advance the Winter Session of the Parliament by at least a week or so, very little time is left for the Council to take up the Model GST Laws. I believe, since the Ministry of Finance has received tonnes of suggestions to improve the Model Laws, the polishing work is still on, and it may be put up before the Council at its next meeting next month. Once the Council approves the Model Laws, the States would also have to call for special sessions or may go up to their Budget Sessions for approval of the State laws. As soon as the Model Laws are approved by the Parliament, the Draft Rules would be finalised and it is too early to hazard a guess whether the Centre would have the time to make the same public for discussion.

The two items on the agenda for the Council which is going to resume its discussions today are the issues of compensation to States and the cross-empowerment of tax administrations. Both the issues are contentious and may require two or three sittings before a consensus is achieved. Since compensation is a sensitive issue, the Ministry of Finance wants to tread safely on this path and may concede a few points over the framework of parameters which is going to be presented today. The Centre is likely to detail the parameters which are going to be resorted to for working out the revenue loss for which compensation is to be paid. Selection of base year is going to be one of the key points of disagreement in this case. As regards the cross-empowerment of tax administrations for assessees below the threshold of Rs 1.5 crore, many States are of the view that the Centre had earlier agreed on their demand to hand over the reign of administration to the States except for the preventive dimension but it is now going back. The Ministry of Finance is of the view that since the GST is all about widening of the taxbase it cannot be asked to leave some turf for exclusive administration of the States.

Let's now go to the most vital agenda item of fixing the GST rate. Since it comes much later as the Council first needs to develop consensus on the exemption threshold, list of exempted items and then the RNR, it is likely to be the last issue to be discussed sometime next month. However, the Union Finance Minister has been quite forthright in sharing his mind two days back when he said that if there are going to be more exempted commodities and services, the GST standard rate is going to be higher. But what goes in favour of opting for a lower GST rate is the intrinsic strength of the GST system. Since, in the GST system, every stage of production is going to be taxed and it would even make a dent into the black economy, its taxbase is in any case going to be much larger. And that is what calls for a bold experiment, at least for the first two years when the Centre may agree to a lower tax rate, even less than RNR. Since the Centre has agreed to compensate them for their losses they would have a very low stake in any discussion on the GST rates. And for the Modi Government, the actual political wisdom lies in going for a lower GST rate, to begin with. Let's see how much the tax base grows based on its own elasticity and higher compliance index. A lower rate would definitely bring hordes of small businesses into the tax net and much better compliance costs. In a couple of years it would become clear, to what extent the lower GST rate ropes in the shadow economy to buoy up the GDP size. In addition, it would also ensure NO inflationary pressure which is being commonly feared. Most industries feel that once the credit chain becomes seamless, the prices would go down but the GST may push up prices during the initial years.

In this background, given the fact that the Prime Minister, Mr Narendra Modi, is a person of bold experiments, he should not miss this historic opportunity to root the tradition of making a beginning with a low tax rate, which can always be hiked next year if it does not work. After all, the average GST rate in most Asian economies is not more than 12%. Let's not draw a parallel with the EU as EU members are small economies and they have small tax base. That is the reason they have gone for 18% VAT rate. India can also do some experiment with almost 50-60 lakh assessees who would be pleasantly surprised and may love to discharge their tax liabilities more happily!!

Also See: Small Businesses - Allowing States to collect IGST & CGST may warrant another Constitutional Amendment?

First Meeting of the GST Council