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India's GST Reform Takes Step Forward

In a significant development on July 22, an Indian parliamentary committee approved the majority of the provisions of the constitutional amendment bill that will allow the proposed goods and services tax (GST) to be introduced in 2016.

However, as opposition parties hold out for a better revenue compensation package for state governments, pushing the bill through Parliament is going to be far from straightforward for the ruling BJP Party.

The proposed GST will represent one of the largest shake-ups of the Indian tax system for decades. By replacing a plethora of indirect taxes charged at state and federal level, the GST is designed to make India's consumption tax system far more efficient, boosting inter-state trade and economic growth.

Proponents of the GST say that the tax will remove obstacles to the free movement of goods and services in the country. As things stand, an interstate transaction is subject to both central sales tax and VAT, while a transaction that takes place in a single state is only subject to VAT. The introduction of GST will also significantly simplify the tax regime, enable exporters to recover input tax, and remove distortions caused by cascading taxes.

This reform has been problematic from the start however, with state governments, fearing they will lose out in revenue terms and jealously guarding their tax jurisdiction.

After more than a decade of drawn-out negotiations, the lower house of Parliament on May 6, 2015, passed the Constitutional Amendment Bill to enable states to levy the GST on services, which was seen as a major step towards the adoption of GST in India. However, many issues remain to be resolved, including agreeing a revenue-neutral rate (currently proposed to be as high as 27 percent), rates for different goods and services, place of supply rules, and, crucially, a compensation package for the states.

The endorsement by the Rajya Sabha (upper house) select committee on GST of almost all of the 21 clauses in the constitution amendment bill on July 22 represents a significant step forward for the GST reform. However, the panel proposed that the Central Government fully compensate the states for revenues lost as a result of the reform for a period of five years, whereas the Government has proposed that states should be given 100 percent compensation only for three years, and 50 percent for the following two years.

Encouragingly for the Government, Bhupendra Yadav, the head of the select committee, told reporters in Parliament that committee members foresee the legislation's adoption by the Lok Sabha, describing it as "the right Bill." However, the Government still faces an uphill battle to introduce GST on time in April 2016. Not only do the outstanding issues need to be ironed out, but the ruling BJP Party lacks a majority in the Rajya Sabha, where the bill will need the approval of at least two thirds of the members before it can be signed into law by the President. Ironically, it is the opposition Congress Party, which originally drew up the GST legislation, that is standing in the way.

Finance Minister Arun Jaitley has made the introduction of the GST his top priority, and the Government has worked hard to push the reform as far as it has in Parliament. However, the final hurdle may yet be the highest, and there are certainly no guarantees that India will have its GST by April next year.

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