GST rate cuts risk deepening federal asymmetry, as states foot 50 per cent losses

The 56th meeting of the Goods and Services Tax (GST) Council opened in New Delhi on Tuesday amid sharp tensions between the Centre and states. On the table is a sweeping rate rationalisation plan, pitched as consumer-friendly but viewed by many state governments as a direct assault on their fiscal independence.

At the heart of the proposal is the Centre’s plan to replace the current complex multi-slab system with two broad rates of 5 per cent and 18 per cent, while keeping a steep 40 per cent “sin tax” for demerit goods such as tobacco and luxury vehicles.

If cleared, the move will slash rates on nearly 175 items — from packaged food, dairy and toiletries, to refrigerators, air-conditioners and cars. Goods currently taxed at 28 per cent would fall to 18 per cent, while items in the 12 per cent bracket could drop to 5 per cent.

For households, the benefits are obvious. Butter, cheese, snacks, fruit juices and even shampoo could become cheaper.

The automobile sector, textiles, hospitality and healthcare are also set to gain.

The timing, just ahead of the festive season, is no accident.

But the real story lies in the numbers. Shifting goods from the 12 per cent slab to 5 per cent is projected to wipe out around Rs 80,000 crore in annual revenues, a loss that both the Centre and states must absorb. With the compensation window for states now shut, the revenue shock could hit state finances hard.

GST reforms: Why consensus depends on Centre compensating states

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— AKASH SINGH (@akash_214) September 3, 2025

Some state leaders have cautiously supported the reform, framing it as a relief measure for citizens. “Compensation for state revenue losses is less important than providing relief to citizens,” one state finance minister said, speaking off the record.

But others have sounded alarm.

Telangana deputy chief minister Mallu Bhatti Vikramarka has warned that exempting health and life insurance premiums alone could deprive the exchequer of nearly Rs 9,700 crore every year.

Industry reactions reveal both winners and losers.

The Indian Beverage Association has lobbied for a cut in GST on aerated drinks to 18 per cent, citing rural demand and investment worth Rs 85,000 crore.

In sharp contrast, electric vehicle manufacturers are rattled by a proposal to hike GST on EVs priced above Rs 20 lakh from 5 per cent to 18 per cent, with top-end models facing a punitive 40 per cent slab.

Automakers including Tata Motors, Mahindra & Mahindra and Tesla fear the move could stall India’s fragile EV momentum.

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Beyond rate tweaks, the Centre is pushing its so-called “Four-Pillar Strategy”, boosting revenue buoyancy, modernising dispute resolution, strengthening institutions, and simplifying compliance.

While billed as reforms to strengthen GST, the approach also centralises tax powers and narrows fiscal space for states. For many, this marks a further tilt in favour of the Union government in an already uneasy balance of fiscal federalism.

The political undertones are impossible to ignore. Cooperative federalism may be the Council’s formal ethos, but the arithmetic of power is skewed.

With no compensation cushion left, states are expected to shoulder half the revenue pain while continuing to fund welfare and infrastructure. The Centre, meanwhile, hopes that higher compliance and a wider tax net will eventually offset the losses, projecting an overall shortfall of at least Rs 50,000 crore.

Economists warn that while cheaper goods may boost consumption and private investment, the fragile fiscal arithmetic risks undermining state capacity. “The consumer may gain, but the state may shrink,” one analyst put it bluntly.

As the Council deliberates over two days, the stakes extend beyond tax policy. The question is whether India’s most ambitious tax reform since independence can deliver simplicity and growth without hollowing out state finances or whether the lure of lower rates will leave a deeper structural asymmetry between the Centre and the states.

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