Overview of GST Debate in India

India’s Goods and Services Tax (GST) has come under scrutiny with critiques and proposed reforms. The critique highlights the complexity of the current system, its impact on MSMEs, issues of fiscal federalism, and the exclusion of petroleum products. In response, the prime minister has proposed simplifications in the GST structure.

GST Rate Structure

• The current GST system includes seven slabs (0.25, 3, 5, 12, 18, 28, and 28+ percent, plus cess), leading to economic distortions and compliance challenges.
• The new proposal includes collapsing the slabs into two main rates, 5 percent and 18 percent, and reducing items in the higher slabs.
• For instance, almost 99 percent of items taxed at 12 percent would move to 5 percent, and 90 percent of items at 28 percent would move to 18 percent.
• The proposal aims to consolidate the 28 percent slab with cess into a single 40 percent rate, maintaining concessional rates for high-value items.

Ideal GST System

• An ideal GST would be a low, single-rate system with full input tax credit (ITC), estimated to boost GDP revenue by 0.7 to 1.4 percent.
• Current ITC restrictions negate the GST's vision, causing a higher effective tax burden and complexity without increasing net revenue.

MSMEs and Cronyism

• GST is criticized for disproportionately burdening MSMEs, perpetuating crony capitalism due to compliance and liquidity challenges.
• Reforming the rate structure by reducing inputs from 18 to 12 percent could facilitate MSME growth and formalization.

Fiscal Federalism

• The existing GST fund transfer issues highlight structural flaws in fiscal federalism.
• Splitting IGST into Union-IGST and state-IGST could streamline transfers, reducing political conflict and design flaws.

Petroleum, Electricity, and Broader Reforms

• Inclusion of petroleum in GST is not feasible, as current excise taxes address environmental externalities.
• A unified “eco” or carbon tax on petroleum and coal is suggested, making these items part of a single-rate GST eventually.
• Electricity should be part of GST to avoid cascading taxes that harm exports.
• Reforming the 3 percent GST on gold and bullion to treat bullion as a savings instrument is advised, whereas jewelry should be taxed at the new rate.
• Luxury goods should face separate excises to maintain GST as a broad-based consumption tax.
• All GST exemptions should be removed, with redistribution achieved through cash transfers.

Conclusion

While the current proposals are steps forward, significant reforms are needed, such as adopting a single GST rate and including key sectors like electricity within the GST framework.