Finance Minister Nirmala Sitharaman has left the decision on whether to include petrol and diesel under goods and services to states, saying the central government has been more than ready.
Most states may, however, resist, reluctant to cede the few remaining lucrative levies after losing significant taxation rights with the GST’s implementation on July 1, 2017.
Petrol and diesel are not yet taxed under GST, along with natural gas and aviation turbine fuel (ATF). Instead, they are subject to VAT (value-added tax), central excise duty, and central sales tax. Petrol and diesel prices vary from state to state.
After the implementation of the GST, both states and Centre gave up the right to unilaterally impose taxes on various sectors with the former left with three crucial avenues to raise revenues — liquor, land and fuel.
Consequently, many states rely on fuel taxes to fund key schemes. Taxes on petroleum comprise about 15 percent of states’ own tax revenues.
For example, the Karnataka government’s decision to hike sales tax on petrol and diesel on June 15 increased fuel prices by Rs 3.
According to the state government’s notification, Karnataka Sales Tax (KST) has been increased from 25.92 percent to 29.84 percent on petrol and from 14.3 percent to 18.4 percent on diesel. The fuel hikes come amid an additional spending of Rs 50,000 crore to Rs 60,000 crore annually by the Congress-led state government to implement five guarantees, including free travel for women across the state in non-AC state-run buses and 200 units of free power per month.
The Goa government too hiked VAT on fuel with effect from June 22, which will reportedly raise the price of petrol by 1 rupee and diesel by 36 paise.
Data from the Petroleum Planning and Analysis Cell (PPAC) show that states impose an average VAT of 21 percent on petrol and nearly 16 percent on diesel. Telangana imposes the highest levy on petrol, at 35.20 percent, followed by Andhra Pradesh at 31 percent and Kerala at 30.08 percent.
When it comes to diesel, Telangana again tops the chart with a 27 percent VAT followed by Maharashtra at 24 percent.
The wide variation in VAT charges on petrol and diesel across the country will make it difficult to bring it under the GST, according to a tax expert who spoke on the condition of anonymity. It would be especially tough to convince states that charge higher fuel sales tax than others, the person said.
The highest slab under GST is 28 percent and given that under this regime collections are equally shared between the Centre and states, the latter is set to get 14 percent if passenger fuels are included, lower than what it collects on average as per the existing system. This calls for a system that ensures that state governments do not lose revenues in such a scenario.
To be sure, the Centre did have a system to compensate states for any revenue loss during the five-year period when the GST was implemented.
This five-year compensation period ended on June 30, 2022, despite demands to extend it by 3-5 years. Instead, the Centre extended the timeline for the cess imposed for this purpose to March 2026 in a bid to repay the interest and principal of the Rs 2.69 lakh crore that was borrowed during COVID-19 to tide over the gap in collections.
According to the expert cited above, once fuel is included in the GST regime a similar arrangement may have to be worked out to compensate states for any loss in revenues on account of giving up the right to levy VAT on petrol and diesel.
Natural gas and aviation turbine fuel (ATF), given their minimal revenue implications, may be easier to include under GST than petrol and diesel.
VAT rates on natural gas in India vary from 5 percent to 24.5 percent in different states and are subject to rebates for certain industries in each state. Only a few states impose higher levies, such as Andhra Pradesh at 24.5 percent and Gujarat at 15 percent.
“Natural gas would be the easiest to bring under GST since the current tax system is less complicated. GST has to be expanded and one can start with natural gas and then move on to the others," according to DK Joshi, Chief Economist at CRISIL.
And, when it comes to ATF, 31 states and union territories impose a levy between 1-5 percent and only five charge a higher 20-30 percent tax. VAT collections on ATF are minuscule compared to the total tax revenues of individual states with Delhi being an outlier, as 21 percent of its own revenues comes from aviation turbine fuel.
“For passenger fuels, a larger debate is required to build consensus. But for ATF and natural gas, since revenue implications are minimal, there is a higher possibility of bringing them under the GST soon,” said Pratik Jain, leader, indirect tax at PwC India.
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