Renew the Centre-State Bargain for GST to Deliver on its Promise

Key Highlights & Summary 

• End of Compensation Era: The GST compensation cess, extended until March 2026 to repay the ₹2.69 trillion Centre-borrowed debt during pandemic-era shortfalls, expired on 31 March 2026, leaving states fully exposed to revenue volatility without statutory shortfall guarantees. 

• Fiscal Asymmetry Post-GST 2.0: With GST 2.0 rate restructurings reducing rate slabs and tax bases, states surrendered major tax agency (VAT, octroi, entry tax) while the Centre retains an effective veto (one-third voting weight) in the GST Council. 

• Divisible Pool Shrinkage via Cesses: The central divisible pool is increasingly constrained by cesses and surcharges outside state sharing, leaving only about 81% of the Centre gross tax revenue shareable with states in 2025-26. 

• Proposed Revenue-Floor Mechanism: Authors advocate a formula-based stabilization fund triggered when a state\'s GST collection falls below a pre-defined threshold, providing structural fiscal insurance without open-ended commitments.

 • Capping Non-Shareable Levies: The 16th Finance Commission retained state devolution at 41% but did not cap cesses; legislative statutory ceilings on non-shareable cesses are urged to protect state revenue share.

• Reconsidering Borrowing Autonomy: States adhering to fiscal responsibility targets should be granted market borrowing autonomy based on risk-adjusted spreads rather than relying on annual discretionary approvals under Article 293. 

Essential Definitions 

• GST Compensation Cess: A temporary levy imposed under the Goods and Services Tax (Compensation to States) Act, 2017 on sin and luxury goods to guarantee states a 14% compound annual revenue growth for five years post-GST rollout. 

• Divisible Pool of Taxes: The portion of central tax collections that is mandatorily shared with state governments as per the recommendations of the Finance Commission under Article 270. 

• Fiscal Federalism: The division of governmental functions and financial powers among central, state, and local tiers of government to maintain balance between revenue autonomy and unified national growth.

 Legal and Constitutional Framework

• Article 270, Constitution of India: Governs the distribution of union taxes between the Centre and States, excluding cesses and surcharges levied for specific purposes under Article 271.

 • Article 279A, Constitution of India: Establishes the GST Council, defining its decisionmaking structure where the Central Government holds one-third of total votes cast and States collectively hold two-thirds. 

• Article 293, Constitution of India: Grants the Centre administrative control over fresh state borrowings if a state has outstanding debts owed to or guaranteed by the Union Government.

 • Goods and Services Tax (Compensation to States) Act, 2017: Statutory act providing legal backing for state revenue shortfall compensation following the GST transition. 

Conclusion Transitioning to the next phase of GST reform requires renewing the Centre-state grand fiscal compact. Implementing revenue stabilization funds, capping non-shareable cesses, and granting borrowing autonomy to fiscally disciplined states will strengthen cooperative federalism and ensure the long-term success of the \'one nation, one tax\' architecture.

 UPSC Relevance 

• GS Paper II: Issues and Challenges Pertaining to the Federal Structure, Devolution of Powers and Finances up to Local Levels, Centre-State Relations.

 • GS Paper III: Indian Economy (Goods and Services Tax Reforms, Fiscal Federalism, GST Compensation Cess Expiry, 16th Finance Commission Devolution). 

• Key Focus: Article 270 and 279A Dynamics, Non-Divisible Pool Cesses, Revenue-Floor Stabilization Models.