In the last issue of GST Café, we discussed the issues surrounding the high Revenue Neutral Rate (RNR). In this issue, we inspect the issues surrounding an additional levy of 1% on inter-state supply of goods. This issue attempts to discuss the i s sue s r e lating the additional GST of 1% being proposed to be levied on inter-state supply of goods. Clause 18 of the 122nd Constitutional Amendment Bill proposes to impose an additional tax of 1% on inter-state supply of goods.

The objective of the levy of the additional GST at the rate of 1% is to compensate the states which have a developed manufacturing base such as Maharashtra, Karnataka etc. Such states consequently have a high CST collection. It is a common fear among these states that the states would lose the CST col l e c t ion on the good manufactured in such states causing revenue loss. Unlike destination based taxation regime in GST, this additional tax is envisaged to be an origin based tax wherein the proceeds would go to the State Government from where the supply originates.

As an example, goods supplied from Gujarat to Karnataka will be subject to levy of 1% additional tax as well as taxed at the GST rate (CGST plus SGST). This 1% additional tax would be collected by the Government of India, however, rather than forming part of the Consolidated Fund of India, it would be assigned to the state of Gujarat. No credit of this tax shall be available to the consignee of the goods. Further, if the same goods are supplied to another state from Karnataka, the supply would again be subject to levy of 1% additional tax which would be assigned to the state of Karnataka.

Do you Know:
The additional tax of 1% on Inter-state supply of goods is only one of the means proposed to fulfil the objective of compensating the states. The states will also receive cash compensation over a period of 5 years for the projected loss of CST revenue.

However , following concerns  rise surrounding the proposal of this additional tax:

  • Unlike the present taxation regime, wherein CST is only levied on inter-state sale of goods, this additional tax is proposed to be levied on inter-state supply of goods. 

​In the proposed regime, supply of goods appears to also include inter-state branch transfer of finished goods and inter-state stock transfer of inputs and semi-finished goods for job-work. Under the present regime, stock transfer of goods is zero rated subject to submission of declarations. The recent Rajya Sabha Select Committee Report has also identified this issue and has suggested supply made for consideration to be only included under the ambit of 1% additional GST.

  • This additional tax becomes a cost in transactions, since it is understood that the additional tax will not be available for set-off. 

The primary objective of GST is to create an eco-system with zero cascading effect. Since, this additional tax will not be available as a set-off, it is bound to create cascading effect. Further, since this additional tax will be levied on inter-state  branch transfer, there is a possibility of multiple levy of this tax in case of multiple branch transfers of the same goods. The non-availability of the tax in any form of credit further aggravates the issue.

  • This creates the requirement to create an elementary distinction between supply of goods and provision of services. 

In the current regime, requirement to create distinction between supply of goods and services forms a pre-text to various tax disputes. As an example, the distinction would be required to be made distinct for supply of software and other intangibles. Also, the terms 'supply of goods' or 'supply' have not been defined under the Constitutional Amendment Bill. However, the definitions are expected to be present in the GST legislation. It is suggested that such definition is exhaustive to prevent any future dispute with respect to levy of additional tax of 1%.

Hence, contrary to popular belief, issues similar to issues currently prevalent in the current regime may also be foreseen in the GST regime 

Conclusion: One has to consider that the need for taxing inter-state supply of goods has been a key cornerstone of the introduction of levy of GST. The primary  reason for the same as has been discussed in earlier editions of GST Cafe is to ensure seamless flow of credit of taxes among states. Under the current regime, VAT credit of taxes paid in the state of manufacture does not get passed on to the ultimate consumer if the finished goods are supplied out of state. This causes cascading effect. 

GST proposes to extend the levy to supply of goods as opposed to sale of goods under the present regime to bridge the gap. Taxing interstate supply of goods at the GST rate (CGST plus SGST) presents solution to this issue as tax paid at the GST rate (CGST plus SGST) on inter-state supply in the origin state would be available as credit in the destination state.

However, the proposal in its current form of an additional levy of 1% on inter-state supply of goods regardless of whether such supply is in course of sale or otherwise is visibly retrograde especially considering that the tax paid cannot be claimed as Credit.

It may be noted that the Canadian GST model at the time of its introduction also levied a similar additional tax. However, such additional levy came with its own expiry date. However, in the Indian situation, the GST Council has the power to extend the levy beyond the proposed interim period of 2 years. This presents a major concern of the additional levy remaining over a long period of time.