Above: An ONGC offshore field

A wish list to the new government would include bringing key petroleum products, alcohol, electricity and real estate within the ambit of GST and further rationalisation of GST rate slabs

By Sumit Dutt Majumder

Now that the new government is on its way to starting a fresh term, the focus has turned to the urgent need for economic reforms. The previous NDA government had executed a major economic reform through the implementation of GST in July 2017. In the course of almost two years of implementation, a few important course corrections were also done to make GST effective and acceptable to the people. More will have to be done. One low-hanging fruit is the inclusion of petroleum products in GST. This will be the first step to energise the hydrocarbon sector. Other steps would be increasing third-party access to gas pipelines, easing of licensing requirements, etc.

Petroleum products may broadly be classified into three categories:(i) Industrial fuels such as crude oil which are basic inputs for most industries; (ii) Transportation fuels like petroleum, high speed diesel, aviation turbine fuel; and (iii) Household fuels like kerosene and LPG. While industrial fuels are indisputably intermediate inputs in industry, transportation and household fuels, collectively referred to as “emission fuels”, are used more in final consumption and to a large extent as intermediate inputs as well.

The entire range of petroleum products is subject to multiple taxation in India—central excise and state VAT. Further, there is no input tax credit in the supply chain of these items. Consequently, the incidence of tax on products essentially used as intermediate inputs cannot be estimated, and it leads to a cascading effect on downstream products. However, emission fuels referred to above generate negative externalities and their consumption would need to be checked. The problem is that in a large number of cases, such emission fuels are used as intermediate in industries. As a result, the cascading effect of embedded input taxes becomes significant. One possible solution suggested by economists is to have dual levy of GST with the benefit of input credit as well as the traditional excise duty on emission fuels and to subject all industrial fuels to only GST.

Natural gas is akin to petroleum products and derived from the same source. But unlike petroleum products, natural gas does not generate negative externalities. The general view of economists, therefore, is that the tax regime for natural gas should be necessarily different from the one applicable to other petroleum products, and therefore should be subjected only to GST, with the applicable benefits of input credit.

When the issue of including petroleum products came up before the empowered committee of state finance ministers, all the aforesaid arguments for their inclusion were set aside by the states basically for fear of revenue loss. At that time, the states were collecting on an average between 50 to 55 percent of their total state VAT revenue through these petroleum products. Being uncertain at that time about the possible revenue loss on this count, the centre also did not pursue the matter further and agreed to keep these out of the GST ambit at the initial stage. Later, Arun Jaitley, the Union finance minister, persuaded the states to agree to their inclusion within GST in a Constitution Amendment Bill with a proviso that the date of inclusion and application of GST rates on these items would be decided later by the GST Council, which was formed as a constitutional authority for taking various decisions on GST.

In the above perspective, the time has now come for the GST Council to give its nod for effective inclusion of these products in GST. Much will depend on the persuasive efforts of the finance minister in the new government. As explained before, industrial fuels like crude which are basic inputs or intermediates for most industries may be subjected to GST rates in the appropriate slab to be decided by the Council.  Emission fuels may be subjected to a dual levy, i.e. GST and an additional tax. By this measure, the revenue concerns can be taken care of even when the petroleum products come within the ambit of GST with full benefit of input tax credit.

It may not be difficult for the new government at the centre to give a push for inclusion of petroleum products because the Congress, the main Opposition party, had also promised in its manifesto to bring petroleum products within the ambit of GST. The imposition of an additional tax on emission fuels should give further comfort in respect of revenue collections.

There are other reforms needed for energising the hydrocarbon sector. India’s energy needs are heavily dependent on imports. Thus, the health of the Indian economy is sensitive to global conditions like the price of crude oil. It creates volatility in external balances and growth expectations. The solution can only lie in a rapid increase of domestic energy production, improving energy efficiency and encouraging substitution by locally produced energy sources.

No doubt, the government has already undertaken a few important reforms in the exploration and production sector. The gas prices for new discoveries have been freed up; companies have been given a free hand to carve out their own blocks; importantly, the companies have also been offered a single licence to extract all forms of hydrocarbons. The new government will have to take forward these reforms and add some more to it so as to encourage big investment from private and foreign investors which is yet to happen.

More ways of easing licensing requirements will also help in expediting the pace of upstream projects. For example, the government may extend more marketing freedom to current commercially producing fields. Currently, another pain point is double taxation through royalty and cess; this leads to higher costs and lower investible surplus. The new government will have to take a hard look at sorting this out.

Further, in order to turn India into a gas-based economy, the government will have to enhance third party access to gas pipelines and build a gas grid and trading platform. The growth of natural gas consumption has been a paltry 1.5 percent in 2018-19, mainly because of higher price of imported gas and inadequate infrastructure. The foregoing reforms in the natural gas sector, particularly providing an effective trading platform, would help energise the domestic gas market.

Thus, the solutions to the problems of energy reforms would lie in a rapid increase of domestic energy production, improving energy efficiency and encouraging substitution by locally produced energy sources. There should be a natural preference for domestic energy and the new government policies will need to accelerate this transition. Some of the reforms discussed above could lead the way in that direction.

In addition, the government can include alcohol, electricity and real estate within the ambit of GST. Constitutionally, “alcohol for human consumption” has been kept outside GST. Article 366 (12A) of the Constitution has defined GST as any tax on supply of goods or services or both except taxes on the supply of alcoholic liquor for human consumption. So, inclusion of alcohol will require an amendment of the Constitution. While alcohol is demerit goods, the raw materials used in manufacturing it are not.  But by keeping alcohol out of GST, the credit chain for the entire supply chain for manufacturing it gets broken, and it brings in distortion. Inclusion of alcohol will rectify this default. As the process of amendment will take time, the government will have to start the process on a priority basis.

While most of the sectors of real estate like construction materials, services related to construction, sale and purchase, renting, etc, are already under GST, matters relating to land like stamp duty on transactions in real estate are still within the jurisdiction of states. Bringing of all sectors, including those relating to land, within GST will bring great relief to the real estate sector.

The next in line for inclusion in GST would be electricity which is an essential input for manufacturing. Currently, it is within the jurisdiction of states. By bringing all these within GST, its tax base would be substantially widened. This, in turn, will provide the opportunity to bring down the GST rates at each slab.

Another step that should be taken is further rationalisation of rates. Currently, GST has four rate slabs—28, 18, 12 and 5 percent. It would be quite sensible and feasible too to merge the two GST rates of 18 percent and 12 percent into one rate in between. Once that is done, there would be three GST rates—one standard rate at 15 or 16 percent for most goods and services, one higher rate of 28 percent for demerit and luxury goods and a lower rate of 5 percent for the goods of consumption by the poor. This rationalisation will also reduce the classification disputes.

As for small businesses, the benefit of threshold exemption should be extended without fetters; interstate supply of goods and services should not disentitle small business from the threshold exemption. Similarly, for purchases from small business enjoying threshold exemption, there should not be any GST liability on the purchaser through reverse charge mechanism. These two simple steps by way of relief from GST, which won’t have much revenue consideration, would go a long way in reviving small businesses.

As a part of procedural simplification, the GST Council has been continuously bringing in changes in return formats.  The Council had decided to have simplified return forms named “Sahaj” meant for businesses which make supplies only to consumers (B2C) and “Sugam” meant for businesses making supplies to both businesses (B2B) and consumers (B2C). The new return formats will have to be rolled out, first on a pilot basis. The finalised return format will also take care of matching of invoices between those of suppliers of inputs and their recipients.

The process of implementation of GST has always been a “work in progress”. Now, at the end of the second year of implementation, the time has come to expedite completion of important pending work on GST reforms.

—The author is former Chairman, CBEC, and author of GST Explained for Common Man