Indirect Taxes and the Goods and Services Tax

The remedy. One tax on supply, levied at every stage, with credit for the tax paid at the previous stage, so that the tax falls only on the value added at each stage and, ultimately, only on final consumption.

The constitutional architecture

Set out in [Public Finance and the Shape of the Indian Tax Structure] and repeated here in three lines because the statute cannot be read without it.

• Article 246A(1): Parliament and every State legislature may make laws on goods and services tax. The same field, two legislatures.
• Article 246A(2) and article 269A(1): for inter State supply, Parliament alone legislates, the Government of India levies and collects, and the proceeds are apportioned between the Union and the States as Parliament provides on the Council's recommendation.
• Article 279A: the Goods and Services Tax Council, which coordinates the two legislatures, treated in [The GST Council, Grants and State Borrowing].

The structure of the tax

Introduced with effect from 1 July 2017.

So an intra State supply bears two taxes on the same transaction, one Union and one State, each on the same value at the same rate, which is what article 246A makes possible. An inter State supply bears one, the integrated tax, which the Union collects and apportions.

It is a destination based tax. The revenue accrues to the State where the goods or services are consumed, not where they are produced. This is the single largest change from the old structure and it is why manufacturing States resisted the reform and were compensated for a transitional period.

The statute: the CGST Act 2017

Section 7: the taxable event is supply. The expression supply includes all forms of supply of goods or services or both, such as sale, transfer, barter, exchange, licence, rental, lease or disposal, made or agreed to be made for a consideration by a person in the course or furtherance of business; the import of services for a consideration, whether or not in the course or furtherance of business; and the activities specified in Schedule I made without consideration.

Notice how wide that is. The old law had different taxable events for different taxes: manufacture for excise, sale for value added tax, provision for service tax. The new law has one taxable event, supply, which covers sale, barter, exchange, licence, lease and disposal alike. A student who can say that has understood the reform's method.

Section 9(1): the charge. There shall be levied a tax called the central goods and services tax on all intra State supplies of goods or services or both, except on the supply of alcoholic liquor for human consumption, on the value determined under section 15, at such rates not exceeding twenty per cent as may be notified by the Government on the recommendations of the Council, collected as prescribed and paid by the taxable person.

Three things to take from section 9(1). The exclusion of alcoholic liquor for human consumption is in the charging section itself, so it is outside the tax altogether. The statutory ceiling of twenty per cent on the central rate means the effective ceiling on an intra State supply is forty per cent when the State tax is added. And rates are notified on the Council's recommendation, not by the Government alone.

Section 9(2): the five petroleum products. The central tax on petroleum crude, high speed diesel, motor spirit commonly known as petrol, natural gas and aviation turbine fuel shall be levied with effect from such date as may be notified on the Council's recommendations.

The distinction between the two exclusions is the most examinable point in the chapter. Alcoholic liquor for human consumption is outside the tax, by the charging section and by the Constitution. The five petroleum products are inside it constitutionally and statutorily, but the levy has not been brought into force; the Council may bring them in on a notified date. So they are excluded for the time being, not permanently, and they continue to bear Union excise and State value added tax meanwhile. That is why Union excise duties still yield 3,88,910 crore rupees on the Budget Estimates for 2026-27.

Section 9(3): reverse charge. The Government may, on the Council's recommendation, specify categories of supply on which the tax is paid by the recipient, all the provisions applying to that recipient as if he were the person liable.

Section 15: value. The value on which the tax is charged is determined under this section, generally the transaction value where the supplier and recipient are unrelated and price is the sole consideration.

Section 16(1): input tax credit, which is the mechanism that removes cascading. Every registered person shall, subject to prescribed conditions and in the manner specified in section 49, be entitled to take credit of input tax charged on any supply of goods or services or both to him which are used or intended to be used in the course or furtherance of his business, and that amount is credited to his electronic credit ledger.

Section 16 is the whole reform in one provision. Without credit for tax paid at the previous stage, a tax at every stage is simply cascading with a new name. With it, each supplier pays tax only on the value they added, and the burden accumulates to a single tax on final consumption.

A worked example: working the credit through the chain

The chain. A manufacturer sells to a wholesaler for 1,000 rupees; the wholesaler sells to a retailer for 1,400; the retailer sells to a consumer for 1,800. Take a combined rate of 18 per cent.

Read three things off it.

1. The total tax is 324 rupees, which is 18 per cent of the final price of 1,800. The tax on the whole chain equals the tax on final consumption, which is what a value added tax is meant to achieve.
2. Each stage paid tax only on its own value added: 1,000, then 400, then 400, at 18 per cent.
3. Under the old cascading structure the total would have been higher, because the wholesaler's tax would have been charged on a price already containing the manufacturer's tax, with no credit available across the Union and State boundary.

The rates and the Council

Rates are notified on the recommendation of the Council. The structure has used a small number of slabs, with a nil rate for essentials, lower rates for goods of mass consumption, a standard rate for most goods and services, and a higher rate with a cess for demerit and luxury goods. The rate structure is a Council decision and it has been revised repeatedly, so a student should describe the design, several slabs decided by the Council, rather than quote a set of numbers that will date.

Customs duty

The other principal indirect tax, levied on the import of goods into and export from India under the Customs Act 1962, with rates in the Customs Tariff Act 1975.

Its two purposes, which are in tension: revenue, and protection of domestic industry, which is the trade policy question of [Commercial Trade Policy]. Integrated goods and services tax is also levied on imports, so an importer pays customs duty and integrated tax together.

Yield: 2,71,200 crore rupees on the Budget Estimates for 2026-27.

What the indirect taxes yield

From the Union Budget 2026-27, crore rupees.

Note that the GST figure in the Budget Estimates for 2026-27 is entirely central goods and services tax, the compensation cess having ended, so the composition of the line is not the same across years and the figures should not be compared without saying so.

Merits and criticisms of the goods and services tax

Merits.

1. Cascading removed, by input tax credit under section 16.
2. One tax in place of many, so the compliance burden of separate Union and State taxes on the same transaction is reduced.
3. A common national market. With a destination based tax and no entry tax or check post, goods move across State borders as they do within a State.
4. Transparency. The consumer can see the tax on the invoice, which the old embedded taxes concealed.
5. A wider base and better data. The invoice matching and returns system generates a record of business to business transactions, which, as [The Difficulties of Measuring National Income in India] notes, has improved the measurement of the unorganised sector.
6. Exports are relieved properly, because the tax on inputs is identifiable and refundable.

Criticisms.

1. The exclusions defeat the object in part. Petroleum products and alcohol are the largest items of consumer spending outside the tax, so cascading survives for them: a manufacturer cannot take credit for the tax on the diesel used to move goods.
2. Compliance is heavy for small enterprises, which must file returns and match invoices, and this is one of the burdens identified in [The Problems of MSMEs].
3. Rate complexity. Several slabs, with classification disputes about which applies, reproduce a familiar source of litigation.
4. Loss of State autonomy. A State can no longer set its own rate on most goods, since rates follow the Council's recommendations.
5. Regressivity remains. A consumption tax with a nil or low rate on essentials mitigates but does not remove the objection.

What beginners get wrong

"Alcohol and petroleum are both outside GST." They are outside differently. Alcoholic liquor for human consumption is excluded by the charging section, section 9(1), and by the Constitution. The five petroleum products are within the Act by section 9(2), and the levy is merely not yet notified, so the Council can bring them in.

"GST replaced all indirect taxes." Customs on imports remains; Union excise survives on the five petroleum products and on tobacco; State excise on alcohol remains; and stamp duty and property tax are untouched.

"GST is a Union tax." On an intra State supply the Union and the State levy it simultaneously under article 246A. Only the integrated tax on inter State supply is levied and collected by the Union, and it is apportioned under article 269A.

"The taxable event is sale." It is supply, defined in section 7 to include sale, transfer, barter, exchange, licence, rental, lease and disposal for consideration in the course or furtherance of business, and the import of services.

"The rate is fixed in the Act." Section 9(1) sets a ceiling of twenty per cent for the central tax and leaves the actual rates to notification on the Council's recommendation.

Limits

The claim that a single tax simplified compliance is contested by small taxpayers, for whom monthly returns and invoice matching are a real cost.

The revenue effects are hard to isolate, because the reform coincided with other changes and with the pandemic.

Rate figures date fast. Describe the structure, not the current slabs.

Quick revision

1. Indirect tax: impact and incidence on different persons. Merits: convenience, difficulty of evasion, wide coverage, selectivity, elasticity. Demerits: regressivity, inflationary effect, uncertain yield, no civic awareness, and cascading in the old structure.
2. Cascading was tax on tax, because credit could not cross the Union and State boundary. The remedy is one tax on supply with input tax credit.
3. Constitutional basis: article 246A(1), both legislatures; article 246A(2) and 269A(1), inter State supply levied and collected by the Union and apportioned; article 279A, the Council.
4. Structure from 1 July 2017: CGST and SGST on an intra State supply, IGST on an inter State supply and on imports. Destination based.
5. CGST Act, section 7: the taxable event is supply, including sale, transfer, barter, exchange, licence, rental, lease and disposal for consideration in the course or furtherance of business, import of services, and Schedule I activities without consideration.
6. Section 9(1): levy on all intra State supplies except alcoholic liquor for human consumption, on the value under section 15, at rates not exceeding twenty per cent notified on the Council's recommendation, paid by the taxable person. Section 9(2): the five petroleum products, petroleum crude, high speed diesel, motor spirit, natural gas and aviation turbine fuel, to be levied from a notified date. Section 9(3): reverse charge.
7. Section 16(1): every registered person is entitled to credit of input tax on supplies used or intended to be used in the course or furtherance of business, credited to the electronic credit ledger. This is what removes cascading.
8. Yield, Budget Estimates 2026-27: goods and services tax 10,19,020 crore, Union excise 3,88,910 crore, customs 2,71,200 crore, together 16,79,130 crore, about 38 per cent of gross tax revenue.
9. Criticisms: the exclusions preserve cascading for fuel; compliance is heavy for small firms; rate slabs cause classification disputes; States lose rate autonomy; and regressivity remains.

Test yourself

1. What was cascading, and how does the goods and services tax remove it? Cascading was the charging of tax upon tax. Under the old structure the Union levied excise on manufacture and service tax on services while the States levied value added tax on sale, and neither authority could give credit for the other's tax, so the value added tax was charged on a price that already contained the excise. The consequences were that the final price contained an unknown quantity of tax, that a longer supply chain bore a heavier burden than a short one, and that exports could not be relieved of a tax that could not be identified. The goods and services tax removes it by imposing one tax on supply at every stage while allowing every registered person, under section 16(1) of the CGST Act, to take credit of the input tax charged on supplies used in the course or furtherance of business. Each supplier therefore pays tax only on the value it adds, and the tax on the whole chain equals the tax on the final consumption price.

2. Explain the constitutional basis of the goods and services tax. Article 246A(1), inserted by the Constitution (One Hundred and First Amendment) Act 2016 with effect from 16 September 2016, provides that notwithstanding articles 246 and 254, Parliament and, subject to clause (2), the legislature of every State have power to make laws with respect to goods and services tax imposed by the Union or by such State, so that the same field is conferred on both legislatures simultaneously. Article 246A(2) gives Parliament exclusive power where the supply takes place in the course of inter State trade or commerce. Article 269A(1) provides that goods and services tax on inter State supplies shall be levied and collected by the Government of India and apportioned between the Union and the States in the manner Parliament provides by law on the recommendations of the Goods and Services Tax Council, and article 279A establishes that Council.

3. What is the taxable event under the CGST Act, and why does it matter? The taxable event is supply. Section 7(1) provides that supply includes all forms of supply of goods or services or both, such as sale, transfer, barter, exchange, licence, rental, lease or disposal, made or agreed to be made for a consideration by a person in the course or furtherance of business; the import of services for a consideration whether or not in the course or furtherance of business; and the activities specified in Schedule I made without consideration. It matters because the old law had different taxable events for different taxes, manufacture for excise, sale for value added tax and provision for service tax, which produced disputes about which event had occurred and therefore which tax applied. A single wide taxable event removes that class of dispute and makes it possible to tax goods and services under one law.

4. How are alcoholic liquor and petroleum products treated, and why is the distinction important? They are excluded differently. Alcoholic liquor for human consumption is excluded by the charging provision itself: section 9(1) levies the tax on all intra State supplies except on the supply of alcoholic liquor for human consumption, and the exclusion is reflected in the Constitution, so it is outside the tax altogether and continues to bear State excise. The five petroleum products, petroleum crude, high speed diesel, motor spirit commonly known as petrol, natural gas and aviation turbine fuel, are dealt with by section 9(2), which provides that the central tax on them shall be levied with effect from such date as may be notified on the recommendations of the Council. They are therefore within the Act, and the levy is merely not yet brought into force, so the Council may bring them in without any further amendment. The distinction matters because it determines whether their inclusion requires a constitutional or statutory change or only a notification, and because their present exclusion means that tax paid on fuel cannot be taken as input credit, so cascading survives for a major input into every supply chain.

5. State the merits and criticisms of the goods and services tax. Merits: it removes cascading through input tax credit; it replaces a multiplicity of Union and State levies with one tax on supply; it creates a common national market, since it is destination based and entry taxes and check posts have gone; it makes the tax visible on the invoice instead of embedding it in the price; it generates a continuous record of business to business transactions which has improved the measurement of the unorganised economy; and it allows exports to be relieved properly because the tax on inputs is identifiable and refundable. Criticisms: the exclusion of petroleum products and alcohol leaves cascading in place for major inputs, since credit cannot be taken for the tax on fuel; compliance through monthly returns and invoice matching is burdensome for small enterprises; multiple rate slabs reproduce classification disputes; States have lost the power to set rates independently, since rates follow the Council's recommendations; and a consumption tax remains regressive in effect even where essentials are exempt or lightly taxed.

6. Work out the tax paid at each stage where a manufacturer sells at 1,000, a wholesaler at 1,400 and a retailer at 1,800, at a combined rate of 18 per cent, and state what the exercise demonstrates. The manufacturer charges 180 rupees of tax on 1,000 and has no input credit, so it pays 180 to the Government. The wholesaler charges 252 on 1,400 and takes credit of the 180 already paid, so it pays 72. The retailer charges 324 on 1,800 and takes credit of 252, so it pays 72. The total paid to the Government is 324 rupees, which is exactly 18 per cent of the final consumer price of 1,800, and each stage has paid tax only on the value it added, being 1,000, 400 and 400 respectively. The exercise demonstrates the two defining properties of the tax: that the burden accumulates to a single tax on final consumption regardless of the number of stages in the chain, and that no stage is taxed on tax already paid, which is precisely what the old cascading structure could not achieve because credit could not cross the boundary between Union and State levies.