Finance minister Nirmala Sitharaman has said that the tax rate for five petroleum goods - crude oil, natural gas, petrol, diesel and aviation turbine fuel (ATF) – can be fixed under the Goods and Services Tax (GST) as soon as the states give their consent at a GST Council meeting. GST is a ‘single tax’ applied all over India with a set-off provision for tax paid on inputs. The Constitutional Amendment Act, 2016 on GST while providing for the inclusion of petroleum products under its ambit, had kept them ‘zero-rated’. These goods continue to attract central excise duty and state-level value-added tax (VAT).
When will the ‘zero-rated’ tag go? The Act has given the power to the GST Council to decide. Rate setting for natural gas under GST – a major input used in the manufacture of fertilisers – has been on the Council’s agenda ever since the tax regime was adopted on July 1, 2017, but a decision was deferred. Will the Council follow up on FM assurance at its next meeting?
Cost Of Zero Rating
Meanwhile, let us assess the cost of keeping natural gas zero-rated. At present, natural gas attracts ‘nil’ central excise duty on supplies to fertiliser plants and VAT varying from a high 24.5 percent in Andhra Pradesh to a low 5 percent in Rajasthan. This not only leads to wide variations in the price of natural gas supplied to plants from state to state but also has a cascading effect on its delivered cost.
The fertiliser industry gets nearly two-thirds of its natural gas requirement from imported liquefied natural gas (LNG). During October-December 2022, India paid around $35 per million British thermal units (mmBtu). After adding import duty of 2.75 percent (basic 2.5 percent and 10 percent social welfare surcharge), the cost of re-gasification and other charges such as terminal charges, vessel-related charges and port charges, the price rises to $37 per mmBtu. There are other additional costs such as charges for transportation of re-gasified LNG, marketing cost and marketing margins of around $ 2 per mmBtu. The price comes to $39 per mmBtu at the delivery point in a state. The share of imported LNG in total gas supply being two-thirds, its weight in price comes to $26.1 per mmBtu.
As for domestic supplies, two-thirds of gas comes from legacy fields given under the new exploration licensing policy (NELP) and to ONGC and OIL on a nomination basis. These carry a basic price tag of $8.57 per mmBtu and $2 per mmBtu toward various charges. Thus the cost of delivering such gas is $10.57 per mmBtu. For the balance one-third from deep/ultra-deep and high-pressure/high-temperature fields, the price on delivered basis is $14.6 per mmBtu (basic price of $12.6 plus $2 of charges).
Juxtapose the two sources, and the effective price of domestic natural gas is $12 per mmBtu (10.57x0.67+14.6x0.33). With its share in total supply (imported plus domestic) being one-third, its contribution comes to $4 per mmBtu. After adding the contribution of imported LNG of $26.1 per mmBtu, the effective price of gas from all sources is $30.1 per mmBtu. The state government collects VAT on this price.
The VAT Impact
In Andhra Pradesh, VAT on natural gas at 24.5 percent is around $7.4 per mmBtu. Assuming that 24 mmBtu of gas is needed to produce a tonne of urea, the VAT component alone in the cost of producing urea in this state would be $178 or about Rs 14,600 per tonne. In Gujarat where the rate is 15 percent, the contribution of VAT to natural gas prices is $4.5 per mmBtu. Correspondingly, its contribution to urea production cost would be $108 or Rs 8,900 per tonne.
At present, the maximum retail price (MRP) of urea is controlled at a low level unrelated to the cost and the difference is reimbursed to the manufacturer as a subsidy on an ‘actual’ basis. Against this backdrop, the high VAT levied by states results in high subsidy payments by the Centre. This also tantamounts to the transfer of funds to states outside the Finance Commission award, which is unfair.
Fertilisers attract GST at the rate of 5 percent. This together with low MRP results in a scenario where output tax liability is insufficient to offset taxes paid on inputs such as natural gas. This results in ‘unabsorbed’ tax credit and there is no provision in the law whereby manufacturers can claim it. Hence, the Centre has to compensate them using its fertiliser subsidy budget.
Bringing natural gas under GST can end the extant differential taxation regime/varying urea cost and subsidy payments across states. It will eliminate the cascading effect of tax on tax. The rate should be fixed at 5 percent (CGST and SGST 2.5 percent each). It will yield ‘low’ and ‘uniform’ tax costs in all states. For instance, it will be Rs 2,900 per tonne of urea, down from Rs 14,600 per tonne in Andhra Pradesh and Rs 8,900 per tonne in Gujarat. On the basis that the current average VAT is around 15 percent and domestic urea production of 26 million tonnes, the government could save about Rs 15,600 crore annually in fertiliser subsidy by levying 5 percent GST on natural gas.
But it will not be easy to get the states to agree.
Uttam Gupta is a Policy Analyst. Views are personal, and do not represent the stand of this publication.
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