CENTRE-STATE TAX TUSSLE 

Context

Key points

• State's financial health had taken a turn for the worse with the implementation of the Ujwal DISCOM Assurance Yojana, farm loan waivers, as also the slowdown in growth in 2019-20.
• But, heightened expenses during the pandemic and a revenue shortfall further strained their finances.
• It is in this context that it becomes important to understand who raises the revenue and who carries the bulk of expenditure.
• The Constitution grants the Union Government more revenue-raising powers while the States are tasked to undertake most of the development and welfare-related responsibilities.
• According to the 15th Finance Commission's report, in FY19, the Union government raised 62.7 per cent of the total resources raised by the Union Government and States, while states had borne 62.4 per cent of the aggregate expenditure.

Centre and State's share 

• This allocation of taxation powers and expenditure responsibilities results in an imbalance and hence the Constitution provides for sharing of the Union Government's revenue with the States.
• Successive Finance Commissions (FC) have attempted to reduce the imbalance by increasing the State's share in Central taxes.
• Although the 14th and 15th FC raised the share of States in gross taxes to over 40 per cent of the actual share never reached this mandated level.
• After reaching a peak of 36.6 per cent in FY 19, the state's share fell and has since stagnated at around 29 per cent.
• At the same time, the gap between the share recommended by the FC and the actual devolution has widened to more than 11 percentage points, the highest in at least two decades.

State's share in taxes 

• So, even though FC raised the State's share in Central Taxes, it didn't translate into an increase in the actual share devolved as the divisible pool shrank.
• This can be explained by illustrating the revenue sharing during the pandemic.
• As the Gross tax revenues took a hit during the pandemic, the State's share of the Union Government's taxes recorded a steep fall of 15 per cent and 9 per cent in FY20 and FY 21, respectively.  But, The Union Government's share continued to rise.
• This is because the Centre beefed up its revenue by levying cesses and surcharges which are not shareable with the States.

Share of gross tax revenue

• In the past few years, the share of cesses and surcharges in gross tax revenue has risen significantly.
• From 10.4 per cent in FY 12, their share climbed up to 20 per cent by FY 21, suggesting the Union government's excessive reliance on these instruments to raise revenue.
• While the surge in cess or surcharge revenue, largely through duties on fuel has swelled the Union Government's coffers, this has also shrunk the divisible pool of resources.

Share of cesses and surcharges

• Various cesses and charges are imposed by the government to raise resources.
• They are transferred to Reserve Funds to ensure that they are being used for the intended purpose.
• Worryingly, in FY20, about 40 per cent of the cesses levied worth ₹78, 000 crore were not transferred to the Reserve Funds.
• Between FY10 and FY20, ₹1.28 lakh crore was collected as a cess on crude oil.
• However, not a single penny was transferred to the Oil Industry Development Board (OIDB).

Issues 

• The shrinking of the divisible pool despite a higher burden on expenditure on States suggests that the Chief Minister's grouse appears to be valid and requires redressal.