GST Rate Reforms Must Benefit People - States Demand Fairness and Transparency
K N Balagopal
PRIME Minister Narendra Modi announced a drastic change in the GST rates on August 15 during his Independence Day speech at the Red Fort, calling it a ‘Diwali Gift’ to the people of India. In fact, the responsibility for decision-making related to GST rates constitutionally rests with the GST Council, comprising the union finance minister and the finance ministers of all states. The prime minister’s unilateral announcement undermines federal principles and established procedures.
The prime minister’s GST proposals bypassed the Group of Ministers (GoM) formed in 2021 – of which Kerala is also a member – tasked with recommending rate reforms. On August 29, 2025, eight non-BJP states, including Kerala, met in Delhi to raise concerns about fiscal federalism and transparency. A joint document was prepared and presented to the GST Council. However, the issues highlighted in the document remained unaddressed.
Before the reform, GST operated with four primary rates: 5 per cent, 12 per cent, 18 per cent, and 28 per cent, in addition to special rates. Following the prime minister’s announcement, the central government pushed through a decision in the GST Council on September 3, 2025, to rationalise the structure into two main slabs: 5 per cent and 18 per cent. Additionally, a 40 per cent “demerit rate” was introduced for luxury and sin goods such as tobacco and paper lotteries.
While states broadly supported the idea of rate rationalisation, the central government ignored several key concerns raised in the GST Council, particularly demands for compensation for the expected revenue losses.
KEY SUGGESTIONS
Kerala put forward the following suggestions in the GST Council:
· Reduced tax rates must translate into lower consumer prices so that the benefits reach the public, rather than simply increasing companies’ profits – especially in the absence of effective anti-profiteering provisions.
· The state anticipates revenue losses between Rs 8,000 crore to Rs 10,000 crore annually and has requested compensation for this shortfall. All states should be protected from huge revenue loss.
· Kerala has sought a special tax rate for its government-run lottery sector to safeguard the livelihoods of around 2 lakh people dependent on it.
· The state strongly advocated for a taxation system that imposes higher rates on luxury items and lower rates on essential goods consumed by ordinary citizens. This principle of cross-subsidisation is crucial to reducing the burden on the common man while ensuring that luxury goods contribute a fair share to state revenues, which in turn support vital social security expenditures and responsibilities.
Despite these rate cuts, there are no measures to ensure price reductions proportional to tax cuts. States, irrespective of political affiliations, have raised this demand. Historical evidence shows that tax reductions may not be reflected in prices as expected; in fact, some companies had already increased prices in anticipation of GST reduction. The Insurance Regulatory and Development Authority (IRDA) also expressed doubts about whether the tax reduction in the insurance sector would actually reduce premiums for policyholders. Without safeguards, corporations stand to gain the most, not consumers.
More importantly, the union government has made no assessment of the potential implications of the rate rationalisation.
REVENUE LOSS
Kerala’s tax revenue has not significantly grown since the introduction of GST eight years ago. In 2015-16, before GST, Kerala earned Rs 30,737 crore from sales tax, of which Rs 16,821 crore came from items later subsumed under the GST system. The annual growth rate of state’s tax was 15.2 per cent over the ten years prior to GST and 12.1 per cent over the last five years before GST’s inception.
The union government had committed to ensuring 14 per cent annual tax growth through GST, with a revenue-neutral rate of 14.4 per cent. However, successive rate rationalisations since November 2017 have reduced the revenue-neutral rate to 11.6 per cent, significantly lowering state revenues.
If Kerala had maintained a 12 per cent growth rate under the earlier system, it would have earned Rs 51,892 crore in 2024-25. Instead, the actual revenue was only Rs 32,773 crore. With the dismantling of the revenue compensation mechanism for states in June 2022, Kerala has been left vulnerable. If the promised 14 per cent growth (revenue-neutral rate of 14.4 per cent) had been maintained, Kerala’s GST collection for 2024-25 would have reached Rs 54,000 crore.
Uncertainty remains about how GST rate changes will impact central and state finances. Unlike other states and all India pattern, Kerala’s consumption pattern is distinct. The state derives 78 per cent of its GST revenue from goods previously taxed at 18 per cent and 28 per cent. Since both slabs have been cut significantly, Kerala faces an amplified revenue shock.
The state has also flagged inefficiencies and a lack of transparency in IGST settlement – an issue it has consistently raised before the GST Council.
Proponents of rate rationalisation argue that revenue growth from increased consumption will offset initial losses. But this assumption need not hold true. Rate cuts in November 2017 and subsequent years dealt severe blows to Kerala’s revenue, as reflected in rising compensation demands: from Rs 2,102 crore in 2017-18 to Rs 12,841 crore in 2020-21.
Despite stable economic performance, Kerala’s tax revenue from IGST has dropped substantially compared to pre-GST levels, due to systemic issues and a reduced share in central divisible taxes.
States gave up extensive tax powers on assurances of mutual benefit through GST. Yet, after eight years, many of those promises remain unfulfilled. Protecting state revenue is essential for preserving federalism and sustaining trust in GST. Eight states, including Kerala, have repeatedly voiced concerns in the GST Council, but these continue to be ignored – warranting strong protest.
FISCAL STRAIN ON SOCIAL SECURITY
A significant drop in GST revenue, combined with minimal grants and a low share from the Finance Commission, could severely impact a state’s ability to fund essential expenditures. The state will be forced to increase public spending to address the needs of an ageing population, climate change adaptation, natural calamities, and ongoing social and infrastructure projects. Mid-financial-year rate cuts will further disrupt budget execution and financial planning.
Central policies affect states disproportionately. Kerala derives approximately 41 per cent of its revenue from GST, whereas the centre relies on more diverse sources, including direct taxes and cesses. Consequently, revenue shortfalls resulting from GST reforms burden states far more heavily.
Kerala has urged the GST Council to:
· establish additional levies to safeguard state revenues,
· permit special cesses to cover shortfalls,
· shift the revenue-sharing ratio to 60:40 in favour of states, and
· differentiate tax rates by imposing higher taxes on luxury goods and lower rates on essentials.
However, these proposals have not received serious consideration.
Kerala’s government-run paper lottery, which supports around 200,000 livelihoods, is now taxed at 40 per cent under the new “sin goods” category, threatening both ticket sales and dependent livelihoods. The state has been running the paper lottery as means to support these people rather than considering it as revenue generating sector. A large share of lottery sales revenue is distributed back to the people through prize money and commissions. For this reason, Kerala requested that the earlier rate of 28 per cent be maintained.
At first glance, GST rate reductions and US President Donald Trump’s tariffs may appear unrelated. However, they are connected. Trump’s tariffs are not only about imposing import duties on Indian goods but also about pressuring India to reduce its internal tax rates, making it easier for American companies to sell their goods and services in the Indian market. On one occasion, Trump referred to India and Russia as “dead economies,” pointing to their high internal tax rates. It is possible that the prime minister’s Independence Day announcement on GST rate cuts may also be due to some international pressures.
