Tax devolution: Centre sticks to Budget estimate in May despite revenue shortfall

Despite a likely slowdown in tax revenues in May, likely the worst affected month of this fiscal due to Covid-induced lockdown, the Centre has maintained tax devolution to states in line with the budget estimate (BE) for the month.
Like in April, the state governments have received Rs 39,175 crore as tax devolution in May, a senior finance ministry official told FE.

Going by the previous year’s trend, the Centre may stick to BE for devolution in the initial months and do the adjustments towards the end of this fiscal, to factor in a shortfall in receipts.

The Centre has set a devolution target of Rs 6.66 lakh crore in FY22, an annual increase of 12%. In FY21, tax devolutions were normal in April-May, but it was lowered a bit from June onwards as revenues were hit by Covid-induced lockdown. Thanks to buoyancy in tax revenues in Q4FY21, the Centre had released in total Rs 5.95 lakh crore or 8.2% more in devolution over the revised estimate (RE) for FY21. Yet, the devolution was Rs 1.89 lakh crore lower than the FY21BE of Rs 7.84 lakh crore. Devolution in FY21 was down 8.5% year-on-year while the Centre’s gross tax revenue (GTR) saw an increase of 0.6% on-year (at Rs 20.16 lakh crore).

The Centre’s aggressive use of the cess route to bolster its tax revenue has in recent years decelerated the growth of the divisible tax pool, thereby adversely impacting the states’ tax revenue. Though the trend was there throughout the 14th Finance Commission award period (FY16-FY20), it was most visible in FY20, with tax transfers declining, unconventionally. In FY20, tax transfers to states were down 15% per year.

The 14th Finance Commission upped states’ share in divisible tax pool to 42% from 32%. Ironically, augmented use of the cess/surcharge route by the Centre since then has resulted in a decline in states’ share in Centre’s gross tax receipts or GTR (including cess/surcharge proceeds).