JULY 14, 2022

By Shailesh Sheth, Advocate, M/s. SPS Legal

A humble attempt is made here to identify the defects [in GST law as detailed in Part I] and the possible remedies to eliminate or at least control their ill-effects.

a. Multiplicity of tax rates - Old genes continue to rule!

One sutra that caught - or was allowed to catch - the fancy of all on the introduction of GST was 'One Nation, One Tax, One Market'. Suddenly, this sutra started appearing on the walls of government offices, government stationery and elsewhere! While ' One Nation' in this sutra had a patriotic tone about it, it is also a fact that 'One Market' has become a reality over a period of time. However, what about 'One Tax'? The new tax regime at its inception only was besieged with multiple tax rates and unfortunately, it still remains under their attack.

The notion of ' One Tax' , in reality fructified only in the description of the new tax i.e. GST !No doubt, it would be unjustified to call 'CGST, ST/UTGST and IGST' three different taxes since, given the federal nature of the Indian Republic and its Constitutional framework, this was inevitable. However, the biggest disappointment shave been the multiple tax rates. Four main rates (5, 12, 18 and 28), two special rates (0.25 and 3), Compensation Cess at varying rates, full or partial exemption subject to conditions or unconditional and with or without ITC…. the list is endless!

No wonder then that the rate structure under GST makes one reminisce about the rate structure prevalent under the erstwhile tax regime. As if the problem of multiplicity of rates is not enough, there is a complex rate structure in vogue for a few select sectors like Real Estate and Infrastructure, Hospitality sector (Hotels and Restaurants), Textiles, Transportation sector, to name a few. The complex, irrational and artificial differentiation carved out for prescribing varying rates of tax for these and a few other sectors borders on absurdity. There is no gainsaying the fact that multiplicity of rates not only makes the structure complex but also breeds tax evasion through misclassification. Moreover, it also subjects the genuine taxpayer to unnecessary classification disputes, which were, otherwise brought under the control in the erstwhile tax regime to a greater extent after decades of painful litigation.

Yet another consequence of the multiplicity of tax rates is that it has resulted in an 'inverted tax structure' for a few sectors, for example, Textiles, with all its attendant harmful effects. Aside from the above, the widespread rate differentiation substantially increases both,the administrative costs and the compliance costs.

Before we ponder over the remedy for this malaise of 'multiplicity of tax rates' plaguing the new regime, let us remain grounded and accept certain realities. First, the levy of CGST, SGST/UTGST and IGST, even if erroneously labelled as 'three taxes' will continue to exist. One may accept it as a compulsion of the federal character of Indian Republic and the Constitutional framework. Therefore, it is futile to expect a single, pure and pristine tax called 'GST' , shorn of the prefixes ' C' (Central), 'ST' (State), 'UT' (Union Territory) and 'I' (Integrated) that define the nature of the tax at present. Secondly, it is equally futile and myopic to seek a single rate of tax in respect of supplies of all types of goods and services across the country. Howsoever a single rate of tax may look desirable and attractive, revenue considerations, societal preferences and priorities and political acceptability only will influence and determine the tax rate structure. Considering these limiting factors, expectations for a 'single tax rate' is not only impractical and futile but such a tax regime may remain a utopia.

Having said this, the pitfalls of a structure afflicted with an excessive tax rate differentiation can be ignored only at one's own peril! The remedy probably lies in gradually but firmly moving towards a two-rate structure which would operate as standard rates, each encompassing a substantial number of goods and services. Considering all aspects and even while the debate still goes on unabated over an ideal 'mean rate', I feel that '8% and 16%' can be considered as two standard rates (besides bare minimum exemptions). Simultaneously, a special lower rate arrived at in a prudent and pragmatic manner may be prescribed for precious metals, diamonds and the like goods as well as a few selected services closely associated with this sector. Insofar as the rate of tax on 'Demerit' or 'Sin' goods is concerned, first, the list of products placed under this bracket needs a serious re-look and requires conscious, bold and ruthless trimming! Second, the rate of '28%' itself calls for serious reconsideration. It is now time to subject the goods which are identified as 'demerit goods' or ' sumptuary goods ' (whose consumption is considered harmful for the society as a whole and, therefore, to be discouraged) also to the highest standard rate of GST as prevalent and over and above that, to excise levy at whatever rate is deemed fit by the Central Government. The ' demerit goods' or ' sumptuary goods' also presently attract the compensation cess at varying rates. The option of subsuming or replacing the compensation cess by a sumptuary excise levy may need serious consideration. Will the GST Council ('Council') bite the bullet?

To conclude, while 'GST' with its three avatars as 'CGST, SGST/UTGST and IGST' may have to be accepted as inevitable, the multiplicity of tax rates is certainly a drag on the system besides reflecting a mind set steeped in the past. Misclassification, legal disputes, tax evasion, inverted tax structure are, but a few, of the ills that can be attributed to this birth defect of multiplicity of rates. While the calibration of the existing number of rates and settling finally for two (or three) standard rates may not be an easy task, nor can it be achieved overnight, the Council, which is already seized of this serious issue may have to revamp the rate structure on a war footing!

b. Compensation Cess- I am here to stay!

Another serious defect was the levy of 'Compensation Cess' on certain select goods and services.

The idea of levy of compensation cess on the 'demerit goods' and 'luxury goods' can solely be attributed to the Central Government's commitment to compensate any shortfall in revenue arising on account of the implementation of GST as compared to their actual revenue from the merged taxes as on 2015-16 (base year) and increased by 14 per cent every year for a period of five years. The compensation to the States was to be financed by the levy of a separate cess called 'Compensation Cess' on the 'demerit' and (perceived to be) 'luxury goods' at varying rates.

However, no one cared or dared to ask for any justification for presuming a '14 per cent' y-o-y growth rate of revenue from GST for the initial five years when the average growth rate exhibited by the States over a five-year period 2012-13 to 2016-17 was much lower at 11.7 per cent for the non-special category States and 12.4 per cent for the Special category States. The analysis of the trends in the state tax merged in GST shows that in order to secure the agreement with the States, the Central Government settled for a generous scheme of taking 14 per cent growth on the 2015-16 base year collections although the actual growth was much lower [Rao, 2019]¹. It is, therefore, evident that the Centre's gracious commitment on this count was merely intended to bring the States on board with GST! It was, in a way, a ' fiscal compromise' between the Centre and the States so as to keep each other happy regardless of the empirical data presenting an entirely different picture which was staring them in the face !

So the levy of Compensation Cess, as expected, made its entry without any major hiccups. The life of the levy was perceived to be 'five years' and the proceeds therefrom were to be utilized for the purposes of providing compensation to the States for loss of revenue arising on account of implementation of GST as provided in law. [See S.8 of GST (Compensation to States] Act, 2017.] However, it was a forgone conclusion that as the 'expiry date' approached, the States would raise their tempo for extension of the period for this levy, for a variety of reasons. Unsurprisingly, reflecting a true spirit of ' Cooperative Federalism', the Council appears to have agreed upon the extension of the levy which was to expire on June 30, 2022 by nearly four years, that is, upto March 31, 2026! The extension has been notified by Notification No. 01/2022-Compensation Cess dated June 24, 2022.

While there are many debatable and disturbing aspects surrounding the levy of compensation cess, these are intended to be dealt with in a separate article. For the purpose of this article, suffice it to say that the decision to levy compensation cess was a retrograde one, at its very inception, and merely reflected an 'age old mind set' to generate yet another source of additional revenue by any means! 

"When a new source of taxation is found it never means, in practice, that the old source is abandoned. It merely means
that the politicians have two ways of milking
the taxpayer where they had one before." 

[ Henry Louis Mencken quotes - American humorous journalist and critic of American life who influenced US fiction through the 1920s, 1880-1956]

In the end, since the levy is here to stay, the least that can be expected from the Council is that it would lessen the pains of the taxpayers.

- Notification No. 1/2017-Compensation Cess (Rate) dated June 28, 2017 originally contained 56 entries notifying the goods which were subjected to the cess at varying rates. Out of these 56 entries, 38 entries related only to the 'tobacco industry' and its various products, each carrying its own different rate of cess! Where is the need for such a complex and cumbersome differentiation? Obviously, this is a legacy from the past but can't we come out of the shadow of the past and move on with the changing times?

- The next contender for occupying the maximum space in the Notification is the 'Automobile Industry' to which 12 entries were originally devoted. It is indeed incongruous to witness the age-old mentality of considering 'cars, motor cycles, etc.' as 'luxury goods'! Regrettably, after all these decades, we have still not been able to draw any realistic distinction between necessity, comfort and luxury! Moreover, one look at these entries and it will be evident that the traditional mindset that hitherto dominated the classification and exemption relating to this sector continues to wield its influence even under GST.

Will the Council be able to unshackle itself from the chains of the past and relieve the automobile sector of the burden of cess altogether or at least, consolidate the numerous entries and the corresponding rates of cess applicable in a rational and pragmatic manner?

- While the levy has been extended till March 31, 2026, it is a almost a given that a clamour for its further extension will start once the expiry date approaches. What can or will the Council do at that time? One easy option will be to extend the levy for such additional period as deemed fit and needless to say, there will be reasons aplenty to justify the decision. The alternative is to bury this levy for good and if the exigencies of the situation demand, then find some other way to ensure that the States do not find themselves at the losing end and at the same time, the fundamental principles and objectives of GST are not compromised.

- Finally, as Mukherjee (2021) ² suggests, post 2026-27, casting a design of additional tax in lieu of GST compensation cess on some demerit or sin goods either as a concurrent tax between the Union and States or as the Union tax may help States to mobilize additional resources [Mukherjee 2020c] ³ . If the GST Council agrees to any of the designs (Concurrent or the Union tax), it will be an example of cooperative federalism and help in stabilization of the GST system in India. Under the alternative design of additional tax on top of GST rates,a certain set of States will benefit. States that receive a higher share in tax devolution, according to the award of the Finance Commission, will benefit the most if the additional tax is placed as the Union tax [Mukherjee 2020c].

"A government with the policy to rob Peter to pay Paul
can be assured of the support of Paul".

[George Bernard Shaw]

[To be Continued...]

References:

1. "Goods and Services Tax in India: Progress, Performance and Prospects " - Working Paper No. 2019-02 - by M. Govinda Rao, Former Director, NIPFP.

2. " Revenue Shortfall and GST Compensation: An Assessment" [ No. 356 dated 08 October, 2021] by Sacchidananda Mukherjee (NIPFP).

3. "Possible Impact of Withdrawal of GST Compensation Post GST Compensation Period on Indian State Finances " (NIPFP Working Paper No. 291 -January, 2020) by Mukherjee S.

[The views expressed are strictly personal.]