Centre seeks to reduce the share of States in federal tax revenues

  • February 28, 2025
  • Posted by: OptimizeIAS Team
  • Category: DPN Topics
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Centre seeks to reduce the share of States in federal tax revenues

Sub : Eco

Sec : Fiscal Policy

Why in News?

  • The Union Government plans to reduce the States’ share of tax revenues from 41% to at least 40%.
  • This proposal will be sent to the Finance Commission of India, led by Arvind Panagariya, which will submit its binding recommendations by October 31, 2025.

Proposed Reduction in States’ Tax Share

  • Current share: 41% of federal tax revenues go to States.
  • Proposed reduction: At least 40% (1% reduction).
  • Reason: To provide the Centre with greater fiscal flexibility.
  • Impact: A 1% reduction would allow the Centre to retain approx. ₹35,000 crore based on current tax projections.

Finance Commission’s Role

  • The 16th Finance Commission (2026-2031), headed by Arvind Panagariya, will evaluate and make recommendations and recommendations are binding and will take effect from FY 2026-27.

Fiscal Impact

  • Increased funds for the Centre could be used for infrastructure, welfare schemes, and fiscal consolidation.
  • States may oppose the move, arguing that it reduces their ability to finance development projects.

Potential Implications

Centre’s Perspective

  • More funds available for national projects, fiscal deficit management, and flagship schemes.

States’ Concerns

  • Reduced fiscal autonomy and lower allocations for State-led welfare schemes.
  • Potential strain on State budgets, affecting healthcare, education, and infrastructure spending.
How Indian States Earn Revenue

States’ Own Tax Revenue

Taxes collected directly by state governments.

Major sources:

  • State GST (SGST): A share of GST given to states.
  • State Excise Duty: Mainly on alcohol.
  • Sales Tax / VAT: On petrol, diesel, and alcohol (not under GST).
  • Stamp Duty & Registration Fees: Charged on property transactions.
  • Vehicle Registration Tax: Paid when buying a new vehicle.
  • Entertainment Tax: On movies and amusement parks (in some states).

States’ Non-Tax Revenue

  • Income from sources other than taxes.
  • Includes:
    • Money from natural resources (e.g., mining, forests).
    • Fees for government services (e.g., irrigation, health, education).
    • Lottery sales (in states where lotteries are legal).
    • Interest from loans given to local bodies or government companies.

 Grants given by the Central Government

  • Used for:
    • Welfare and development schemes (e.g., health, education, rural projects).
    • Disaster relief (e.g., floods, earthquakes).
    • Special grants for smaller or poorer states.

Share of Central Taxes

  • A fixed percentage of tax collected by the Union Government is given to states.
  • Includes Income Tax, Corporate Tax, GST, Customs Duty, and Excise Duty.
  • Decided by the Finance Commission (currently, states get 41%, but it may be reduced to 40%
Centre seeks to reduce the share of States in federal tax revenues economy