The Finance Minister should proactively engage with states to speed up the process of taxing petroleum goods under the GST

Finance Minister Nirmala Sitharaman has exhorted the states to give their concurrence for fixing the tax rate for five petroleum goods—crude oil, natural gas (NG), petrol, diesel, and aviation turbine fuel (ATF)—under the Goods and Services Tax (GST) to enable the GST Council to give its stamp of approval to this pending proposal.

GST is a single nationwide tax with a provision for set-off tax paid on inputs. It subsumes within it more than a dozen taxes from the pre-GST era, namely central excise duty (CED), service tax, and sales tax/value added tax (VAT). Besides, a host of local taxes exist, such as octroi, purchase tax, turnover tax, etc. The Constitutional Amendment Act of 2016 on GST, while providing for the inclusion of petroleum products under its ambit, kept them 'zero-rated'. Hence, these goods continue to attract CED and state-level VAT.

The multiplicity of taxes widely varying across states under the pre-GST dispensation led to the criss-cross movement of goods and services, lopsided development, regional disparities, and so on. It was also afflicted by the ‘cascading’ effect of ‘tax-on-tax’ and high transaction costs due to businesses having to deal with several authorities involved in the administration of a host of taxes. Above all, that regime was prone to massive tax evasion. The GST is intended to be free from all these maladies.

Petroleum being the prime source of energy, petroleum goods are used in almost all sectors of the economy. Given this and the fact that the GST holds the promise of yielding unprecedented benefits in terms of reining in price rises and making the industry more competitive, the case for taxing them under this regime was all the more compelling. Yet, these continue to be subject to being governed by the pre-GST era. 

As per the Constitutional Amendment Act of 2016, the GST Council has the mandate to fix the rate under GST. But it has been dragging its feet. While, it has put fixing the rate for NG and ATF on its agenda umpteen times only to defer it, for other products it hasn’t even thought it fit to consider it.

Apart from the Union finance minister, who is also the chairman of the Council, it has finance ministers (FMs) of all states, wherein all decisions are generally taken by consensus. For both the Centre and states, revenue from taxes, particularly on gasoline and diesel, acts like a ‘milch cow'. During 2020–21, the Centre collected Rs 335,000 crore from taxing them, whereas the states got Rs 203,000 crore.

The transition to taxing these products under the GST will result in a substantial decline in their tax collection. To get a sense, let us look at some numbers.

In Delhi, the pump price of around Rs 97 per litre (as of February 4, 2023; the price has remained unchanged since May 22, 2022) includes the ex-refinery price plus freight of Rs 47 plus a buffer of Rs 10 for the so-called ‘future inflationary aspect etc’, dealer commission of Rs 4, CED, Rs 20, and VAT, Rs 16 (@ 19.4 per cent). The taxes alone make up Rs 36 per litre or 37 per cent of the pump price ((in the case of diesel, it accounts for 32 per cent).

The buffer of Rs 10 per litre for the so-called ‘future inflationary aspect etc’ is inexplicable. This could have been inserted to enable the oil marketing public sector undertakings (PSUs), viz., Bharat Petroleum Corporation Limited (BPCL), Indian Oil Corporation Limited (IOCL), and Hindustan Petroleum Corporation Limited (HPCL), to generate some surplus, which they could use in times when international prices of these products rise but they won’t be able to raise the pump price (courtesy, elections). Excluding this and taking the pump price at Rs 87 per litre, the tax component would be 41 per cent.

The CED of Rs 20 per litre includes Rs 8 due to the Road and Infrastructure Cess (RaIC), which is entirely retained by the Centre. Of the balance of Rs 12, it retains 59 per cent or Rs 7, and gives Rs 5 to the states (41 per cent under the 15th Finance Commission or FC devolution formula). On a net basis, therefore, the Centre gets Rs 15 (8+7), while a much higher amount of Rs 21 (16+5) goes to the states.

Expressed as a percentage of ERP (ready to send to petrol pump), or Rs 47, the tax component would be 77 per cent of which 32 per cent accrues to the Centre and 45 per cent to the states.

If petrol and diesel are taxed under GST and placed in the highest slab of 28 per cent (as proposed by NITI Aayog last year during a discussion with economists and industry experts on the ‘transition of energy products into the GST’), the Central government and states will get to tax it at 14 per cent each.

As per the FC devolution formula, out of its collection, the Centre can retain only 59 per cent implying that it will have to contend with only 8.26 per cent (14×0.59) even as the state will get 19.74 per cent (14+14×0.41). The shift to GST will thus result in the Centre’s tax collection plunging from 32 per cent to a low of 8.26 per while the collection of the states dips from 45 per cent to 19.74 per cent.

It is this fear of substantial loss of revenue for both states and the Centre that has deterred the Council from even taking up the subject matter for consideration. But, deferring it indefinitely will defeat the very purpose of including these products under GST. If the intent was to keep them zero-rated ‘perpetually’ then why keep stakeholders in a make-believe world? Instead of leaving it entirely to the states, Nirmala Sitharaman should proactively engage with them to speed up the process of taxing the products under the GST.

To help get over the main stumbling block (read: revenue loss), NITI Aayog had suggested that states could be compensated for the loss of revenue resulting from the shift ‘partially’ and mooted levying a 50 per cent cess. This is not workable, as compensation to the states for the loss of revenue consequent to the introduction of the new regime was available under the GST Compensation Act, 2017 only for five years, from July 1, 2017, to June 30, 2022.

As for the cess (it is levied on the supply of demerit goods such as automobiles, tobacco, drinks, etc. and the proceeds thereof are used to compensate the states), this provision is not available under an amendment to the GST Compensation Act (2018), this could be collected only for five years from July 1, 2017, to June 30, 2022 (extension of this levy beyond June 30, 2022, is only for the limited purpose of ‘servicing the loan taken by the Centre for funding the shortfall in proceeds from the cess vis-à-vis the compensation requirement during those five years’). That apart, NITI Aayog's proposal fell far short of what was needed as it provided only ‘partial’ compensation to the states; besides, it was silent on making up the loss incurred by the Centre.

The Centre and states need to broaden their vision. Given the long-term benefits of taxing these products under GST, they should take the revenue loss in the near term in stride. Even in the short term, the surge in GST collection during 2022–2023 (it has seen an average monthly collection of Rs 150,000 crore) should give the much-needed confidence. Additionally, there is scope for increasing tax collection by plugging various loopholes.

(The author is a policy analyst)