A recall on States taxation powers - Part I

April 08,2017
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P. V. Srinivasan (Corporate Advisor)

“It is not the strongest of species that survive, nor the most intelligent, but the one most responsive to change”. This quote of Charles Darwin, best known for contributions to the science of evolution, is also apt in the world of commerce, of which indirect taxes constitute a weighty component. Businesses are inevitably unviable if the burden of indirect taxes is not optimally passed on to the consumers. In this context, Goods and Services Tax (“GST”), India’s most significant tax reform since 1947, is expected to be a game changer. As the States have swapped their source of tax revenues[1], the ones who are most responsive to this change would survive.

The transformation to GST has not been uncomplicated. The final design of dual GST with dual control is to alleviate the concerns of the States losing both control and revenues. It is apparent that the Constitution (One Hundred and Twenty-Second Amendment) Bill, 2016[2] for the introduction of GST in India not only preserves the States’ sovereignty but also grants the power to levy tax on all services for the first time. Following the principle in value added tax, both the Union and the States have the power to tax the entire supply value chain for goods and services. As India takes a leap into a new era with the advent of GST, one may ponder as to why the levy of service tax was kept outside the domain of States’ power. To trace the answer, it is pertinent to take a glance through the sepia texts that laid a foundation for the tax structure of the present day.

Sovereignty of States had started seething long before the Indian landscape could imbue with the hues of the Tricolour. On 2nd August, 1858, the British Crown took over the administration of the entire territory of India from the East India Company. While the British India was under the direct rule of the Crown, the Indian States remained under the personal rule of their Chiefs under the suzerainty of the Crown. The States were sovereign in their domestic affairs and bound to the Crown by treaties, engagements, grants, usage and practice. The rights, authority and jurisdiction exercised by the Crown in British India did not extend to Indian States unless express provision was inserted to that effect in their treaties or the right was an inherently paramount.

Then came the Government of India Act, 1935 which, though introduced as a political solution to safeguard the financial interests of the British in India, marked a decisive turning point in India’s constitutional history regarding taxation powers. The said Act, coincidentally passed on the second day of the same “August” month of the year 1935, provided the entire scheme of distribution of legislative powers between Federal and Provincial Legislature. The Provinces in British India were empowered to levy taxes on the sale of goods and on the advertisements, as per Entry 48 in List II – Provincial Legislative List.

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