GST Council meet | States now have 7 days to decide between two options to bridge compensation gap

Sitharaman said that under the first option, the Centre in consultation with the Reserve Bank of India (RBI) will provide a special window to states to borrow Rs 97,000 crore at a reasonable rate of interest and this money can then be repaid after 5 years from the collection of cess.

When GST was implemented in 2017, the Centre had promised to compensate states for any revenue loss for five years from a pool created by levying cess over and above the GST on luxury and sin goods. This pool generated a surplus in the first two years and had a deficit in FY20 as well as in FY21.

The other option given to the states was that the entire GST compensation gap of Rs 2.35 lakh crore in FY21 could be to borrow in consultation with RBI. The states have seven days to decide which option they want, Sitharaman said.

"Interest from borrowing would be repaid from the cess collected in the years beyond the first five years of GST implementation. There will be no additional burden on states," she said.

She added that states have been suggested to borrow from RBI to ensure they do not rush to borrow and there is no hardening of bond yields.

It was also decided that by the GST Council that the borrowing arrangement would be for FY21 and a review would be done at the beginning of the next financial year to decide on the continuation of the arrangement, depending on what the situation then warrants.

A detailed note on the two options would be shared with states. The latter will submit their views after seven working days. Post this, there could be another GST Council meeting.

The minister said as soon as this arrangement is agreed on by the Council, the Centre will clear the pending bi-monthly compensation. The compensation amount due for April-July period stands at Rs 1.50 lakh crore.

"This year we are facing an extra ordinary situation... we are facing an act of God which might even result in a contraction of the economy, to what percent I am not getting into that. Therefore, we said that portion (of compensation), which strictly is hardwired in the Act, we will arrange, give it to you...," Sitharaman said.

She said both options hinge upon the fact that borrowing will be done by the states. "We explained why it would be preferable for states to borrow and not the Centre. We said if states are going to borrow instead of crowding out people, we will facilitate the process through the central bank."

The Centre had released over Rs 1.65 lakh crore in 2019-20 as GST compensation. However, the amount of cess collected during 2019-20 was Rs 95,444 crore. The balance about Rs 70,000 crore was paid from the excess cess collected in 2017-18 and 2018-19. The compensation payout amount was Rs 69,275 crore in 2018-19 and Rs 41,146 crore in 2017-18.

"It seems compensation cess will have to be continued for a longer time period to make good this gap. This is the first year of COVID and hopefully things will look better from here. State finances will have to be managed one way or the other through increased borrowing," said Archit Gupta, Founder and CEO, ClearTax.