Font size:
Print
Tax Devolution
Context:
The central government has released Rs 1.78 trillion to states in tax devolution, including an advance instalment of Rs 89,086.50 crore, to support the upcoming festive season and boost capital spending, according to a statement by the finance ministry.
More on News:
- Uttar Pradesh received the highest devolution, followed by Madhya Pradesh and West Bengal.
- The government is projected to share 32.5% of central taxes with states in FY25, lower than the 15th Finance Commission’s recommendation of 41%, due to cess and surcharge not being shared with states.
- Despite a lower share, the amount devolved to states in FY25 is projected to rise to Rs 12.5 trillion from Rs 11.3 trillion in FY24.
What is Tax Devolution?
- Definition: Tax devolution refers to the distribution of tax revenues between the central government (Union) and state governments in India.
- Constitutional Basis: It is a mechanism established to ensure a fair allocation of tax proceeds as mandated by Article 280(3)(a) of the Constitution of India.
- Divisible Pool: The tax proceeds shared include all taxes except surcharges and cess levied for specific purposes, net of collection charges.
Role of the Finance Commission (FC) in Maintaining Fiscal Federalism
- Distribution of Tax Proceeds: The FC recommends how net proceeds of taxes are shared between the Union and states.
- This distribution considers the fiscal capacities and needs of individual states to ensure fairness.
- Allocation of Taxes Among States: The FC determines principles for grants-in-aid to states requiring financial assistance.
- It assesses states’ financial needs to recommend fund allocations from the consolidated funds of the states.
- Augmenting Resources of Local Governments: Suggestions are made to enhance the consolidated fund of states to supplement the resources of local bodies (Panchayats and Municipalities).
- Promoting Cooperative Federalism: The FC engages in consultations with the central and state governments, fostering a collaborative approach to decision-making.
- Public Spending and Fiscal Stability: The FC’s recommendations aim to improve public spending quality and ensure fiscal stability by evaluating the financial positions of governments.
Current Status of Tax Devolution in India
- Constitutional Framework: Article 270 outlines the distribution of net tax proceeds between the Union and states.
- Finance Commission’s Role: Established under Article 280 of the Indian Constitution, the Finance Commission is constituted every five years and offers recommendations for the vertical and horizontal distribution of funds from the divisible pool.
- Grants-in-Aid: States receive additional grants-in-aid as per FC recommendations.
Concerns Regarding Tax Devolution
- Exclusion of Cess and Surcharge: Cess and surcharges collected by the Union are not part of the divisible pool, reducing states’ shares.
- Inadequate GST Compensation: States express concerns over insufficient compensation for revenue losses incurred during GST implementation, seeking a fairer compensation mechanism.
- Lack of Flexibility: States advocate for greater flexibility in using devolved funds to address local priorities and needs.
Way Forward
- Review of Fiscal Federalism Framework: Conduct a comprehensive review of the fiscal federalism framework to identify gaps and inefficiencies in the devolution process.
- Performance-Based Incentives: Consider linking additional devolution to performance indicators in governance and development outcomes to encourage responsible resource management.
- Strengthening Institutions: Empowering oversight institutions like the Comptroller and Auditor General of India (CAG) to ensure accountability in managing devolved funds.