Tax distribution between the Centre and states in India is a fundamental aspect of fiscal federalism, designed to ensure equitable allocation of resources. The Constitution of India provides a structured framework for this distribution, detailing the powers of taxation and the mechanisms for sharing revenue. Recent developments, such as Kerala's appeal to the 16th Finance Commission for increasing the states' tax share to 50%, have reignited the debate over the adequacy and fairness of the current system.
The Indian Constitution divides taxation powers between the Centre and states through the Seventh Schedule, which categorizes subjects into three lists:
The Centre has exclusive powers to levy taxes such as:
States can impose taxes on:
Both the Centre and states can legislate on matters like:
In case of conflict, the Centre's laws take precedence.
The Constitution, under Article 280, mandates the establishment of a Finance Commission every five years to recommend:
The 15th Finance Commission recommended that 41% of the divisible pool be shared with states, adjusted from the earlier 42% due to the bifurcation of Jammu and Kashmir.
The divisible pool comprises net proceeds from central taxes, excluding surcharges and cesses, which are retained entirely by the Centre. This exclusion has become contentious due to the increasing reliance on these levies.
Under Article 275, the Centre provides grants to states in need of financial assistance.
Implemented through the 101st Constitutional Amendment, GST subsumed various indirect taxes. Revenue sharing is overseen by the GST Council, established under Article 279A.
The exclusion of surcharges and cesses from the divisible pool reduces states' share in central taxes. For instance, the Centre collected ₹4.5 lakh crore through such levies in 2021-22, which were not shared with states.
With the expiry of the GST compensation mechanism in June 2022, states face revenue shortfalls, highlighting the need for robust fiscal autonomy.
The Centre retains a larger share of revenue, while states bear significant expenditure responsibilities, creating a mismatch in fiscal capacity.
Disparities among states in resource mobilization and development levels necessitate equitable allocation criteria by the Finance Commission.
Kerala has demanded an increase in the states’ share of the divisible pool from 41% to 50%, citing the growing financial burden on states. The state has also advocated for:
Amend Article 271 to include surcharges and cesses in the divisible pool, ensuring transparency and fairness.
Empower states through greater revenue autonomy by revisiting the taxation powers under the Seventh Schedule.
Enhance horizontal equity by revising allocation criteria to account for:
Address gaps in GST implementation by reintroducing compensation mechanisms or creating a stabilization fund for states.
The constitutional and legal framework governing tax distribution in India reflects the delicate balance between centralization and federalism. However, the increasing fiscal challenges faced by states call for a re-examination of existing provisions. Kerala’s appeal to the 16th Finance Commission highlights critical issues, such as the exclusion of cesses and surcharges from the divisible pool and the need for a larger state share. Strengthening fiscal federalism requires collaborative reforms that uphold the spirit of cooperative governance while addressing the diverse needs of states.
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