13 States opt for Centre's borrow plan to fund GST shortfall

By Shailesh Yadav
New Delhi [India], September 13 : At least 13 states have given their borrowing options proposed by Goods and Services Tax (GST) Council to meet their compensation shortfall so far.
Of the 13 states, Manipur opted for the borrowing option 2, sources said on Friday adding that six more states will give their option in a day or two.
"At least 13 States have given their borrowing options proposed by the GST Council to meet their compensation shortfall so far. Six more states - Goa, Assam, Arunachal Pradesh, Nagaland, Mizoram and Himachal Pradesh - will be giving their option in a day or two," sources said.
"The 12 States which have preferred to opt for borrowing option 1 are-- Andhra Pradesh, Bihar, Gujarat, Haryana, Karnataka, Madhya Pradesh, Meghalaya, Sikkim, Tripura, Uttar Pradesh, Uttarakhand and Odisha. Only one state, namely, Manipur has so far opted for the borrowing option 2. Also, a few states instead of expressing their option preference have submitted their views to the Chairperson of the GST Council and are yet to decide on the options," sources added.
GST Council in its 41 meeting on August 21 had given two borrowing options to its member states to enable them to meet their compensation shortfall at the lowest possible single rate of interest at the RBI's single window facilitated by the Finance Ministry as per their individual choice.
The Council meeting took place in the backdrop of the opinion of the Attorney General for India on the compensation cess issue where he has opined that there is no obligation on the Centre under the GST laws to compensate for the loss of revenue. According to the Attorney General, it is the GST Council which has to find ways to meet the shortfall in compensation and not the Central government. Therefore, after the meeting the GST Council offered two options to the States to borrow.
It was discussed in the recent GST Council meeting that in the current economic scenario it may not be possible to increase tax rates or do rate rationalisation to meet up the compensation shortfall. However, borrowing could be an option to address this challenge. Thus, the Central government is committed to help the States to the utmost to meet the compensation shortfall through borrowing.

The Option 1 offered the States to borrow the shortfall arising out of GST implementation, estimated at Rs. 97,000 crores approximately to be borrowed through issue of debt under a special window coordinated by the Ministry of Finance. The Option is to ensure steady flow of resources similar to the flow under GST compensation on a bi-monthly basis.
Further, under option 2, a special borrowing permission will be given by the central government under Article 293 for this amount, over and above any other borrowing ceilings eligible under any other normal or special permission notified by the Department of Expenditure. Also, under this option, the GOI will endeavour to keep the cost at or close to the G-secs yield, and in the event of the cost being higher, will bear the margin between G-secs and average of State Development Loan yields up to 0.5 per cent (50 basis points) through a subsidy. This option, also, offered suitable arrangements in respect of Union Territories (including National Capital Territory) to ensure flow of resources under the special window to them.
The main feature of Option 1 is that the interest on the borrowing under the special window will be paid from the Cess as and when it arises until the end of the transition period. After the transition period, principal and interest will also be paid from proceeds of the Cess; by extending the Cess beyond the transition period for such period as may be required. The State will not be required to service the debt or to repay it from any other source. Moreover, States will also be given permission to borrow the final instalment of 0.5 per cent even without meeting the pre-conditions. This will enable borrowing of approximately Rs.1 lakh crore in aggregate. The borrowing under the special window will not be treated as debt of the State for any norms which may be prescribed by the Finance Commission.
The Compensation Cess will be continued after the transition period until such time as all arrears of compensation for the transition period are fully paid to the States. The first charge on the Compensation Cess each year would be the interest payable; the second charge would be the principal repayment. The remaining arrears of compensation accrued during the transition period would be paid after the interest and principal are paid.
The Option 2 has offered the States to borrow the entire compensation shortfall of Rs. 2.35 lakh crore (including the Covid-impact portion) through issue of market debt. Appropriate enhanced special borrowing permission will be given by the government of India under Article 293 based on a methodology, in the modification of the scheme notified earlier under the Department of Expenditure's on May 17.
The central government under option 2 will issue an order committing to the repayment of principal on such debt from Cess proceeds, to the extent of the shortfall arising due to implementation of GST (i.e., Rs. 97,000 crore approx.) the borrowing will not be treated as debt of the State for any norms that may be prescribed by the Finance Commission. Also, The States will not be required to repay the principal from any other source. However, the interest shall be paid by the States from their own resources.
Further, the Compensation Cess will be continued after the transition period until such time as all arrears of compensation for the transition period are paid to the states. The first charge on the future Cess would be the principal repayment. The remaining arrears of compensation accrued during the transition period would be paid after the principal is paid.

This may also be noted that there was open discussion in the 41st meeting between members of the GST Council as to who should borrow whether the Centre or the States as the notion of borrowing by the GST Council is neither practically desirable nor legally feasible.
The finance ministry cleared the financial scenario that the prevailing economic situation is such that Central revenues are under greater strain than the GST revenue. While indirect taxes are linked to transactions, and recover in proportion to the economic activity, the direct taxes on profits are disproportionately reduced in the present financial situation. Also, direct taxes on wages and salaries are seriously affected and customs revenues are hit by the slowdown in imports.
"The central expenditures are stretched not only by the pandemic response but also by the needs of national security. Hence, this needs to be looked into as a national problem and not as a central Government problem alone. There is no room at this critical financial juncture of trying times of an unprecedented historical pandemic induced lockdown period to look at the compensation revenue shortfall in GST as Centre vs States," the Finance ministry had stated.
Later, it was also cleared by the central government that under the GST law, the compensation cess is a tax owned by the states and under Article 292 of the Constitution of India, Centre can borrow on the security of its own taxes and resources which is Consolidated Fund of India. It cannot borrow in the security of the tax which it does not own. Also, the compensation cess has to be transferred to the Compensation Fund and released to States in the form of compensation. It is not really a resource of the Central Government on the strength of which it can borrow under Article 292 of the Constitution of India.
Compensation Cess is actually a resource dedicated to States and only States can borrow on the strength of future flows from cess which will eventually get credited to the Consolidated Fund of States.
Furthermore, there was enough space for the States to borrow as on an average the states have borrowed so far only about 1.25 per cent of the Gross State Domestic Product (GSDP) and only a few states have reached around above 2 per cent of the GSDP; besides, the central government has already enhanced the borrowing limit from 3 percent, which goes up to 5 per cent of GSDP.
Centre's argument was that since borrowing by the Centre would have higher impact on the market and push the G-Sec rate which becomes the benchmark rates for other borrowings including borrowing by the state governments, therefore any borrowing by the Central Government would crowd out borrowings by private sector and would make borrowings costly for entrepreneurs.
Therefore, in the current scenario, it may be a safer option for States to raise the additional resources to meet the resource gap due to non-availability of compensation, centre stated.