High tax buoyancy, led primarily by fuel taxes, and an increase in grants from the Centre under the Finance Commission package will help revenue growth of states cross the pre-pandemic level in the current financial year, provided there is no third COVID wave, according to a report.

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Given the higher prices of fuels, revenue from this segment is set to grow 50 percent to 30 percent in the current financial year from 20 percent it clipped last financial year, even though the overall volume will fall, CRISIL said in a report on Thursday.

The tax on fuels constitutes 10 percent of the revenues of states. Revenue of the top 10 states had plunged 600 basis points (bps) last financial year but is set to exceed the pre-pandemic level this financial year, driven by higher tax buoyancy, rise in sales tax collections from petroleum products coupled with an increase in grants following 15th Finance Commission recommendations, it said.

The assessment is based on projections for 10 large states -- Maharashtra, Gujarat, Karnataka, Tamil Nadu, Uttar Pradesh, Telangana, Rajasthan, West Bengal, Madhya Pradesh, and Kerala -- which account for almost 70 percent of the aggregate gross state domestic product. The key revenue components of the states are central taxes (25 percent), state GST (21 percent,) central grants (17 percent), sales tax from petrol and alcohol (13 percent). Non-tax revenues, excise duty, stamp duty and others make up the rest.

It can be noted that despite petrol crossing the Rs 100 mark in many states and also diesel in some places, the Centre and the states have not lowered the taxes on these fuels. In fact, almost 65 percent of the retail prices of these fuels are made up of VAT as petroleum products are not under the GST.

Aggregate Goods and Services Tax (GST) collections, which account for a fifth of the states' revenues, have recovered well in the fourth quarter of FY21 as economic activity sprung back. The momentum continues this financial year, with April and May collections averaging Rs 0.93 lakh crore (April being the highest ever at Rs 1.41 lakh crore), marking an 11 percent growth over fiscal 2020 so far, it said.

While the second wave of the pandemic may moderate GST collections in June and July, CRISIL said it expects a recovery in GST mop up to the pre-pandemic levels by August. Following its parent S&P Ratings cutting the GDP forecast earlier in the day to 9.5 percent, CRISIL also slashed its growth forecast to 9.5 percent.

Another factor that will provide a fillip to the states' revenues is sales tax. The price of crude has jumped to USD 70 a barrel from USD 60 on average in fiscal 2020, leading to higher petrol and diesel prices. That combined with the Rs 10-13 per litre increase in central excise duty imposed last year will increase the taxable value of fuel for levy of sales tax, which accounts for 10 percent of states' revenues, the report said.

Most of these 10 states had hiked sales tax on fuel sales by 6-7 percent or Rs 1.5-1.8 a litre last financial year. Consequently, the agency expects sales tax revenue for the states to increase 30 percent this fiscal from fiscal 20 levels, even as fuel volume remains 2-3 percent lower than the pre-pandemic levels. Crude price is likely to average USD 70 per barrel this fiscal.

In addition to own taxes, the states have a share of the central taxes, which forms a quarter of their overall revenues. While the proportions are determined by the Finance Commission, the overall kitty is linked with GDP growth. This kitty, which declined 9 percent last financial year, should recover to pre-pandemic levels with a growth of 9-10 percent this financial year, in line with the Union Budget.

States are also dependent on various grants provided by the Centre, including grants towards centrally-sponsored schemes, the Finance Commission grants, GST compensation, and revenue deficit.

Despite the muted economic activity, these grants grew 10 percent last financial year on the Finance Commission stipulations, and are seen robust this financial year as well, as per the report. Further, the report said that while overall revenue may grow 600 basis points over the financial year 2020, they will still lag the budget estimates of states by a good 17 per cent. That's because most states didn't factor in the impact of the second wave and have pencilled in way higher tax buoyancy.

If a more intense third wave hits the country, leading to a re-imposition of stringent lockdown, the projections could be revised downwards. CRISIL said.