GST 2.0: Time to Take the Next Big Leap in Tax Reform

The GST redesign should go beyond simplifying tax rates. The new regime must reduce the burden on small businesses and the poor. States deserve larger, predictable shares of the receipts

- AJIT RANADE

On Independence Day, the Prime Minister announced reforms to the goods and services tax regime that amount to a historic redesign. The GST regime, rolled out seven years ago, is considered a landmark reform. It is a destination-based consumption tax that aims to unify the country into a common economic market, with one system of indirect taxes. It eliminates interstate frictions. It is fully electronic and has in-built incentives to file taxes and claim credit on taxes paid in the value chain and, hence, is supposed to reduce leakages. It was also expected to be buoyant due to increased compliance.

But some shortfalls have become evident over seven years. The need for GST 2.0 was felt mainly because of the multiplicity of tax slabs, frequent changes in classifications leading to disputes, the lack of coverage of significant parts of GDP, and the huge compliance burden it has placed, especially on small businesses. It fails to fully reimburse exporters for all the domestic taxes paid, making exports uncompetitive. The new scheme will hopefully address all these shortcomings.

Another apprehension of the state governments is about shortfall in revenue. The GST reform was achieved as a grand bargain between the Union and state governments. The former gave up its right to impose excise and service taxes, and all states surrendered their right to impose state-level sales tax, value-added tax, and other sundry taxes such as octroi. The states were persuaded to surrender their tax autonomy by a legally binding promise to make up the revenue shortfalls. This is the GST compensation clause in the original Act of 2017, which expired in 2022. Now, the states are afraid that they will face a steep fall in their tax shares. GST 2.0 will, hopefully, also address this.