The government will not impose any further Goods and Services Tax (GST) levy on tobacco products, but plans to maintain the existing overall tax burden by introducing an additional central levy. The move comes as the GST Compensation Cess regime approaches its sunset, prompting the Centre to explore alternative fiscal mechanisms to preserve revenue from sin goods, government officials said.
“One thing is clear that there will be no additional GST on tobacco and related items. The second thing is that the tax incidence will be kept the same using an additional central tax levy,” a senior government official aware of the discussions told Moneycontrol.
“There is no proposal to increase the GST rate on tobacco. However, the Centre will ensure that the effective tax incidence remains unchanged by introducing an additional central levy outside the GST framework,” the source added.
Tobacco products currently attract the highest GST rate of 28 percent, along with a compensation cess that varies across product categories. The cess, which earlier financed compensation to states for revenue shortfall, is expected to remain in place at current levels until repayment of the loans taken to bridge the compensation gap is completed.
“By adjusting central levies, the government can achieve the same fiscal outcome without reopening rate discussions at the Council level,” the source explained.
Sunset of compensation cess
The GST Compensation Cess was initially introduced for five years after the rollout of GST in July 2017 to compensate states for any shortfall in revenue under the new indirect tax regime. While the compensation period formally ended in June 2022, the Centre has continued collecting the cess to service loans of nearly Rs 2.7 lakh crore borrowed to pay states during the pandemic years. The cess collection may continue till March 2026, after which the regime will be phased out entirely.
This impending sunset has prompted the Centre to assess alternative fiscal instruments for high-yield demerit sectors such as tobacco and pan masala to ensure continuity in revenue collection.
No revenue loss expected
Officials said that with consumption improving and GST rates on luxury and sin goods already raised from 28 percent to 40 percent, the Centre does not expect any significant revenue loss to states. As a result, it is likely to rely on fiscal tools beyond the GST route to sustain collections from demerit goods such as tobacco and pan masala.
“The tax incidence on tobacco-related items is about 53 percent, while it is 88 percent on pan masala, comprising 28 percent GST and a compensation cess. The overall implication of GST rate rationalisation was initially estimated at Rs 48,000 crore of annual revenue loss based on 2023–24 returns, but that may not be accurate,” the source said.
He added that improved compliance and higher consumption could offset much of the estimated shortfall. “This Rs 48,000 crore figure is a very linear calculation. Compliance will improve, more people may start paying taxes, and there will be buoyancy as consumption rises. To my mind, there will be no loss,” the official said.
An email seeking comments from the Finance Ministry has been sent. The story will be updated once a response is received.
What is the current GST structure on tobacco products?
Tobacco products attract the highest GST slab of 28 percent, along with a compensation cess that varies by product type – such as cigarettes, bidis, or chewing tobacco. This results in a total tax incidence often exceeding 60–70 percent on most products.
What is the GST Compensation Cess regime?
Introduced in July 2017 with the rollout of the GST, the compensation cess was designed to help states make up for any revenue loss due to the new tax system. It was initially set to expire in June 2022, but was extended till March 2026 to repay loans taken by the Centre during the pandemic to fund compensation payouts to states.
How will the government maintain tax incidence without additional GST?
With the compensation cess nearing its sunset, the Centre plans to introduce an additional central levy outside the GST framework to maintain the current overall tax burden on tobacco products.
Will this new levy impact tobacco prices?
While there may not be an immediate price hike, the effective burden on consumers will remain unchanged. Prices could adjust marginally depending on how the new levy is structured and implemented.
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