The Government has announced several stimulus measures, to deal with the staggering impact of the Coronavirus, including launching a Rs 20 lakh crore package to revive the economy and make India self-reliant. However, there is a significant downturn in tax collection in the domestic market, with declining consumption, a startled GDP and the overall plateauing of the nominal GDP.
Compensation cess is part of the GST framework to compensate manufacturing states for loss in tax revenue. As GST is a destination based tax (consuming state gets the revenue), manufacturing states lose out on the tax which was earlier collected by them. To compensate the manufacturing state, a guaranteed five year cess formula was implemented into the GST framework. The additional cess would be imposed on items like pan masala, cigarettes and tobacco products, caffeinated beverages, motor vehicles etc. and this cess is pooled in a fund used for compensation.
As indirect taxes are levied on the transaction value of supply of goods and services, a plateau in GDP will result in significant shortfall for states from assured tax collections. The Central government is constitutionally bound to compensate States for loss of revenue for five years which means that the Government will have to persevere to raise extra revenue to pay the compensation in the near future.
One sector in India which could help boost revenues is the tobacco industry. Tobacco (cigarettes, bidis, smokeless tobacco etc.) is taxed at the highest slab of GST at 28 percent, being ‘sin goods’ and further attracting levies of additional duties like National Calamity Contingent Duty (NCCD). Further, as mentioned, the imposition of additional compensation cess on tobacco products by virtue of the Compensation to States Act, 2017, is already in effect in the GST regime.
It is pertinent to note that India has the second largest number of tobacco users (approximately 268 million or 28.6% of all adults in India) in the world. While the Union Budget 2020-21 increased the NCCD on tobacco products, most of the GST compensation cess on cigarettes is specific in nature and has not been revised in the last two years. The GST Council (the highest decision making body of representatives from both Federal Government and State Finance Ministers) in June 2020 had decided to limit the rate of cess on tobacco products at approximately Rs 4000 per 1000 sticks (around 290% ad-valorem). However, the decision to levy cess on bidis was deferred due to the lack of consensus among the states.
The Coronavirus outbreak has presented the Government with somewhat of an advantage. Smokers and smokeless tobacco users may be at greater risk of severe illness when confronted with Coronavirus since it attacks the lungs and causes pulmonary stress to which a deterrence is mandated. And, experts estimate that an imposition of Covid Cess on tobacco products can provide revenue of approximately INR 49,740 crore, which could cover a substantial portion of the stimulus package announced by the Government to combat the impact of Coronavirus on the economy.
The imposition of an additional compensation cess (like the short lived cess on alcohol, by some states) will lead to the increase in the prices of tobacco products in all forms, which may discourage the consumption and buying of such products, especially when purse strings are tightened across the board. On the other hand, the imposition increases collection towards the tax kitty, providing a channel to the Government to bring in substantial revenue from the domestic market.
The World Health Organization (WHO) recommends taxes to represent at least 75% of the retail price for all tobacco products. In perspective, the total tax burden is 49.5% for cigarettes, and 63.7% for smokeless tobacco in India, well below the minimum recommended. Bidis, on the other hand, enjoy an extremely low tax burden of 22%, despite being at least as harmful as cigarettes.
Public health experts have been arguing with the Government, for some time, to raise the compensation cess uniformly on all cigarettes, irrespective of their sizes. An imposition of at least additional Re 1 cess per stick of bidi and a significant imposition of Covid Cess on cigarettes and smokeless tobacco has been suggested. To counter the sluggish economic growth, this deterrence cess may be quiet necessary to gather funds to stabilize the economy.
Contributed by: Rajat Bose, Partner; Neeladri Chakrabarti, Consultant
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