In a significant late-night development on June 25, the Central Government has notified extension of the levy and collection of cess under the Goods and Services Tax (Compensation to States) Act 2017 up to March 31, 2026. The notification has been issued in exercise of the powers vested with the Central Government under the Act ibid.

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The Compensation Cess Act was enacted to provide for compensation to the states for the loss of revenue on account of implementation of the Goods and Services Tax in pursuance of the provisions of the Constitution (one hundred and first Amendment) Act.

Section 8 of the Compensation Cess Act provides for collection of cess on intra-state and inter-state supplies of goods and services as may be prescribed. The section states that such compensation to the states is for loss of revenue arising on account of implementation of goods and services tax. The period is also specified — the compensation is to be given for a period of five years ‘or such period as may be prescribed on the recommendations of the Council’.

By way of background, it may be mentioned that Clause 18 of the Constitution (one hundred and first amendment) Act states that the Parliament shall by law ‘on the recommendations of the Goods and Services Tax Council provide for compensation to the States for loss of revenue arising on account of implementation of the Goods and Services Tax for a period of five years. The Compensation Cess Act was a consequence of this express provision. It is a moot point whether the period specified in the Clause 18 ibid would also have to be extended for the present notification to have legal force. It is a different issue that no State will be challenging this extension.

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The terse notification does not throw any light whether the extension of levy and collection of compensation cess will be to meet financing a loan arrangement as was agreed to earlier. In other words, if the states will be extended a back-to-back loan on the same terms as earlier. It may be recalled that discussions in the 42nd GST Council meeting had resulted in an arrangement whereby loan was to be extended to the states, and that the borrowing would be done by the Centre.

What is interesting is that the notification suggests that this extension has been done on the recommendations of the GST Council,which is the only way that the Central Government could have extended the cess period. While undoubtedly the GST Council meetings have discussed at length the need for extension of the compensation, I could not find any GST Council minutes recording an express recommendation to extend the period of compensation.

The 43rd meeting of the Council for instance records the fact of shortfall in compensation. It mentions the decision taken to meet the compensation by raising Rs 1.1 lakh crore of debt and passing it on to the states on an average rate of interest of 4.85 percent. It highlights the fact that the amount of borrowing would depend on the monthly gross revenue.

It may be recalled that the issue of compensation was a matter of deep concern to all states across the political divide with the opposition states being more vocal about it. The indication that the Central government had given all along was that it was not inclined to extend the period.

The decision to extend the compensation beyond the period of five years coming on the eve of the scheduled GST Council meeting would mean that a major grievance of the states has been addressed. This was an issue which threatened to disrupt the proceedings of the GST Council. What should not be lost sight of is that extension of imposition of cess would mean an increase in costs on these supplies. It would be inflationary.

It is a moot point if the decision to increase the compensation period beyond the deadline is a tacit admission that the implementation of GST has resulted in loss of revenue. Or was it a political call to ease strained federal relations. To place the blame on implementation of GST would be unfair-more so when GST revenues have been doing very well and there are many external factors at play.

But it does show maturity and sagacity on the part of the Centre. The only grouse, if any, is that it would have been better had the decision been taken as an outcome of the GST Council meeting scheduled to be held on 28th and 29th. A discussion would have also helped in arriving at a compensation rate lesser than the absurdly high 14 percent rate. In fact, this was an opportunity missed of reducing the rate of compensation to a more realistic number of 9-10 percent.

The decision to increase compensation thus should ensure that the 45th GST Council meeting would be held in a cordial atmosphere. This would help in discussion of issues. For as Timsy Jaipuria of CNBC-TV 18 has in a series of scoops pointed out, the agenda for this meeting is likely to be heavy. Issues relating to levy on crypto currency, increase in rates on some goods and services, correction of inverted duty structure are all on the cards.

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This is apart from the discussion regarding the fall out of the Supreme Court decision in the Mohit Metals matter, which raised a fundamental issue — are the recommendations of the Council binding. The decision made the distinction that recommendations of the GST Council ‘are made biding on the government when it exercises its power to notify secondary legislation’. Secondary legislation refers to delegated legislation. The implication of this would mean that all other recommendations of the GST Council are not binding.

The 45th GST Council meeting does promise to be an action-packed affair!

— Najib Shah is a former chairman of the Central Board of Indirect Taxes & Customs. Views expressed here are personal.