Public Finance and the Shape of the Indian Tax Structure

The distinction between a tax and a fee is not academic in India: it decides which legislative entry authorises the levy and whether a quid pro quo must be shown.

The canons of taxation

Adam Smith's four canons, from the Wealth of Nations, and they are still the standard by which a tax is judged.

1. Equality. Subjects should contribute in proportion to their respective abilities, which is the ability to pay principle.
2. Certainty. The tax each person is to pay ought to be certain and not arbitrary: the time, manner and amount should be plain.
3. Convenience. Every tax should be levied at the time and in the manner most convenient for the contributor, which is the justification for deduction at source.
4. Economy. The cost of collection should be small in relation to the yield.

Later canons usually added: productivity, that a tax should yield enough to be worth having; elasticity, that its yield should rise with income; flexibility, that it can be changed when needed; simplicity; and diversity, that a State should not rest on a single tax.

The two principles of a just tax, which are alternatives rather than additions:

• Benefit principle: pay according to the benefit received from the State. It fails for the services the poorest use most.
• Ability to pay principle: pay according to capacity. This is what modern income taxation rests on, and it is what makes progression defensible.

The constitutional foundation

Article 265: no tax without law. "No tax shall be levied or collected except by authority of law." This is the first sentence of any answer on Indian taxation. It means an executive order cannot impose a tax and that an unauthorised levy is recoverable.

Article 266: the Consolidated Fund. All revenues received by the Government of India, all loans it raises by treasury bills, loans or ways and means advances, and all money received in repayment of loans, form one Consolidated Fund of India, and there is a corresponding fund for each State. Money may be withdrawn only under appropriation made by law.

Article 246 and the Seventh Schedule: who may tax what. Parliament has exclusive power over the Union List, State legislatures over the State List, and both over the Concurrent List. Under article 248, subject to article 246A, Parliament has exclusive residuary power, including the power to impose a tax not mentioned in the State or Concurrent Lists.

The taxation entries are separate entries. A power to legislate on a subject does not carry a power to tax it; the Constitution lists taxation entries distinctly. That is why a tax must be traced to a specific entry.

The goods and services tax amendment

The Constitution (One Hundred and First Amendment) Act 2016, with effect from 16 September 2016, changed the division fundamentally, and three articles carry the change.

Article 246A(1): notwithstanding anything in 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.

This is a departure from the whole scheme of the Seventh Schedule. Ordinarily a subject belongs to one list or another. Here the same subject is given to both legislatures at once, which is why the goods and services tax required a constitutional amendment rather than an ordinary statute and why it needs a Council to coordinate the two.

Article 246A(2): Parliament has exclusive power to make laws with respect to goods and services tax where the supply takes place in the course of inter State trade or commerce.

Article 269A(1): goods and services tax on supplies in the course of inter State trade or commerce shall be levied and collected by the Government of India, and shall be apportioned between the Union and the States in the manner Parliament provides by law on the recommendations of the Goods and Services Tax Council.

Article 279A: the Goods and Services Tax Council, treated in [The GST Council, Grants and State Borrowing].

The other assignment articles

These are the provisions that decide who keeps the money, as distinct from who levies the tax, and they are the bridge into [Fiscal Federalism: How the Constitution Divides Money].

• Article 268: duties levied by the Union but collected and appropriated by the States. The stamp duties mentioned in the Union List are levied by the Government of India but collected by the States within which they are leviable, and by the Government of India within a Union territory.
• Article 269: taxes levied and collected by the Union but assigned to the States, namely taxes on the sale or purchase of goods and on the consignment of goods, except as provided in article 269A.
• Article 269A: inter State goods and services tax, levied and collected by the Union and apportioned.
• Article 270: taxes levied and distributed between the Union and the States, which is the divisible pool from which the Finance Commission recommends devolution.

The shape of the Indian tax structure

Three tiers. The Union, the States, and local bodies, the last deriving their powers from State legislation.

Direct and indirect, which is the division MU prints and which the next two chapters take up.

The proportions, from the Union Budget 2026-27. Gross tax revenue is estimated at 44,04,086 crore rupees. Of that:

That ratio is the single most useful fact in the topic, and it reverses the older textbook position. India's Union tax revenue now comes predominantly from direct taxes, and an answer that says India is an indirect tax country is describing the position of the 1990s. The shares are computed here from the Budget's own receipts table and the arithmetic can be checked.

What the Union keeps. Of the gross tax revenue, 15,26,255 crore rupees is the States' share, and 10,910 crore rupees is the National Calamity Contingent Duty transferred to the disaster response funds, leaving the Centre's net tax revenue at 28,66,922 crore rupees.

A worked example: tracing one levy through the Constitution

The levy. A tax on the sale of a washing machine made in Pune and sold to a buyer in Nagpur, and the same machine sold to a buyer in Bengaluru.

Before 16 September 2016. The State levied value added tax on the intra State sale under its own entry in the State List; the Union levied central excise on manufacture under the Union List; and the inter State sale attracted central sales tax levied by the Union under article 269 and assigned to the States. Three levies, two legislatures and a cascade, because tax was charged on a price that already included tax.

After the 101st Amendment.

• The Pune to Nagpur sale is intra State. Both the Union and the State levy goods and services tax on the same supply, under article 246A(1), as central and State goods and services tax.
• The Pune to Bengaluru sale is inter State. Only Parliament may legislate, under article 246A(2); the tax is levied and collected by the Government of India under article 269A(1) and apportioned between the Union and the States as Parliament provides on the Council's recommendation.

What the example shows. The 101st Amendment did not merely replace several taxes with one. It rewrote the constitutional method: it gave the same field to two legislatures simultaneously, created a body to coordinate them, and made the destination of an inter State supply, rather than its origin, the basis of the levy.

What beginners get wrong

"A tax is a payment for government services." It is compulsory and carries no specific return. A payment for a specific service is a fee or a price.

"Article 265 means the government can tax anything." It means the opposite: no tax without the authority of a law, so an executive levy is bad.

"Goods and services tax is a Union tax." Under article 246A both Parliament and every State legislature may levy it on the same supply; only the inter State levy is exclusively Parliament's, under article 246A(2) and 269A.

"India is an indirect tax country." On the Budget Estimates for 2026-27, direct taxes are about 61 per cent of gross tax revenue and indirect taxes about 38 per cent.

"The power to legislate on a subject includes the power to tax it." It does not. The Seventh Schedule lists taxation entries separately, and a levy must be traced to a taxing entry.

Limits

A high direct tax share is not by itself a sign of equity. It depends on who pays it and at what rate, and a corporation tax is ultimately borne by shareholders, employees or customers in proportions that are hard to determine.

Budget estimates are estimates. Every figure above is a Budget Estimate for 2026-27 and will be revised.

The Union's tax structure is not India's. States levy their own taxes, principally State goods and services tax, stamp duty, excise on alcohol and taxes on vehicles and property, and a complete picture requires them too.

Quick revision

1. Public finance studies public revenue, public expenditure, public debt and financial administration. Musgrave's three functions: allocation, distribution and stabilisation.
2. A tax is a compulsory contribution imposed by a public authority irrespective of the exact service rendered. Distinguish it from a fee, a price, a special assessment and a fine.
3. Adam Smith's four canons: equality, certainty, convenience, economy. Later canons: productivity, elasticity, flexibility, simplicity, diversity. Benefit principle against ability to pay principle.
4. Article 265: no tax shall be levied or collected except by authority of law.
5. Article 266: the Consolidated Fund. Article 246 and the Seventh Schedule: Union, State and Concurrent Lists; article 248, residuary power with Parliament subject to article 246A. Taxation entries are separate entries.
6. The Constitution (One Hundred and First Amendment) Act 2016, from 16 September 2016. Article 246A(1): both Parliament and every State legislature may make laws on goods and services tax. Article 246A(2): Parliament alone for inter State supply. Article 269A(1): inter State goods and services tax is levied and collected by the Union and apportioned on the Council's recommendation. Article 279A: the Council.
7. Assignment articles: 268, levied by the Union, collected and appropriated by the States; 269, levied and collected by the Union, assigned to the States; 269A, apportioned; 270, distributed, which is the divisible pool.
8. Budget Estimates 2026-27: gross tax revenue 44,04,086 crore rupees; direct taxes 26,97,000 crore, about 61 per cent; indirect taxes 16,79,130 crore, about 38 per cent; States' share 15,26,255 crore; Centre's net tax revenue 28,66,922 crore.

Test yourself

1. What is public finance, and how does it differ from private finance? Public finance is the branch of economics concerned with the revenue and expenditure of public authorities and the adjustment of one to the other, comprising public revenue, public expenditure, public debt and financial administration. It differs from private finance in the direction of the adjustment: a household or a firm determines its expenditure by reference to its income, whereas a public authority determines first what must be done and then raises the revenue to do it. It differs also in objective, since a private agent seeks its own advantage while a public authority pursues allocation, correcting the failure of markets to supply public goods; distribution, adjusting the pattern of income and wealth; and stabilisation, using the budget to steady output, employment and prices.

2. Define a tax, and distinguish it from a fee and from a special assessment. A tax is a compulsory contribution imposed by a public authority irrespective of the exact amount of service rendered to the payer in return, and levied for a public purpose. A fee is a payment for a specific service rendered to the payer, such as a passport fee or a court fee, and it is payable only if the service is taken, so a quid pro quo can be shown. A special assessment is a compulsory levy on a class of property owners whose property has increased in value because of a public improvement, so it is compulsory like a tax but carries a specific benefit to the payer's property like a fee. The distinction between a tax and a fee matters in India because it determines the legislative entry under which the levy is authorised and whether a corresponding service must be shown.

3. State Adam Smith's canons of taxation and give one Indian illustration of each. Equality, that subjects should contribute in proportion to their respective abilities, illustrated by the progressive slab structure of the income tax. Certainty, that the tax each person is to pay should be certain and not arbitrary as to time, manner and amount, illustrated by the statutory prescription of rates and due dates. Convenience, that a tax should be levied at the time and in the manner most convenient to the contributor, illustrated by deduction of tax at source from salary, which collects the tax when the income arises. Economy, that the cost of collection should be small relative to the yield, illustrated by the shift to electronic filing and payment, which reduced the administrative cost of collection.

4. Explain the constitutional basis of taxation in India. Article 265 provides that no tax shall be levied or collected except by authority of law, so that an executive order cannot impose a tax. Article 246, with the Seventh Schedule, distributes legislative power: Parliament has exclusive power over the Union List, State legislatures over the State List, and both over the Concurrent List, while article 248 gives Parliament the residuary power, subject to article 246A, including the power to impose a tax not mentioned in the State or Concurrent Lists. The taxation entries in the Lists are separate from the entries conferring general legislative power, so that a power to legislate on a subject does not carry with it a power to tax it and every levy must be traced to a taxing entry. Article 266 requires all revenues received by the Government to form the Consolidated Fund, from which money may be withdrawn only under an appropriation made by law.

5. How did the Constitution (One Hundred and First Amendment) Act 2016 change the scheme of taxation? It inserted article 246A, which 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, and that Parliament has exclusive power where the supply takes place in the course of inter State trade or commerce. That is a departure from the ordinary scheme of the Seventh Schedule, under which a subject belongs to one list or another, since the same field is conferred on both legislatures simultaneously. It inserted article 269A, providing 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 as Parliament provides by law on the recommendations of the Goods and Services Tax Council. And it inserted article 279A establishing that Council, which is the body required to coordinate two legislatures occupying the same field. The amendment took effect from 16 September 2016.

6. Is India an indirect tax country? Answer with figures. No longer. On the Budget Estimates for 2026-27, gross tax revenue of the Union is estimated at 44,04,086 crore rupees. Direct taxes account for 26,97,000 crore of that, being corporation tax of 12,31,000 crore and taxes on income of 14,66,000 crore, which is about 61 per cent. Indirect taxes account for 16,79,130 crore, being goods and services tax of 10,19,020 crore, Union excise duties of 3,88,910 crore and customs of 2,71,200 crore, which is about 38 per cent, the balance being taxes of Union Territories and other taxes. The description of India as an indirect tax economy reflects the position of the 1990s and earlier, and the composition has since reversed. The qualification to add is that these are Union taxes alone; the States levy their own, principally State goods and services tax, stamp duty, excise on alcohol and taxes on vehicles and property, and a complete picture of the Indian tax structure requires those as well.