States to bear interest burden for borrowing Rs 2.35 trn shortfall in GST

States will have to bear the interest burden if they decide to borrow the entire Rs 2.35 trillion shortfall estimated in goods and services tax (GST) revenue: that’s the second option proposed the central government has proposed to raise resources to compensate states amid inadequate cess collection.

The finance ministry, in a letter to states, Saturday shared the details of the two options, which states will examine over seven days. The Council, which met Thursday, will convene again after for discussions.


The centre gave states two options at the Council meeting for compensation: they can either borrow up to Rs 97,000 crore, which is a shortfall arising out of implementation or the entire Rs 2.35 trillion, which accounts for the Covid-19 situation.

States, if they take up the first option, will have to borrow Rs 970,00 crore through issue of debt under a Special Window coordinated by the Ministry of Finance. In case of the second option, the entire shortfall of Rs 235,000 crores may be borrowed by states through issue of market debt.

As second option, “the interest shall be paid by the States from their resources,” said the finance ministry’s letter. The principal on the amount after the transition period will however be paid from proceeds of the cess. States will not be required to repay the principal from any other source.

However, in case of the first option, the interest on the borrowing under the Special Window will be paid from the Cess as and when it will arise until the end of the transition period. “After the transition period, principal and interest will also be paid from proceeds of the Cess, by extending the Cess beyond the transition period for such period as may be required. The State will not be required to service the debt or to repay it from any other source,” it said.

While in the first case, borrowing under the Special Window will not be treated as debt of states, in case of second option, only the amount up to Rs 97000 crore, which is the shortfall arising due to GST implementation, will not be treated as debt.

In case of first option, the Fiscal Responsibility and Budget Management (FRBM) Act limit will be raised by an additional 0.5 per cent of gross state domestic product. Another 0.5 per cent, currently intended as a bonus for completing at least three of the four specified reforms, will be given without meeting the pre-conditions. “This will enable borrowing of approximately Rs. 1 lakh crores in aggregate,” it said.

This unconditional 1 percentage points hike in borrowing limit iwill also be allowed to be carried forward.

In view of Covid-19, the Centre had in May raised FRBM limit of states by 2 percentage points in total, of which 0.5 percentage points was conditional and the remaining was linked to meeting reforms conditions. Of this, 1 percentage points was linked to reforms in four areas such as universalization of “one nation one ration card”, ease of doing business, power distribution and urban local body revenues. The last 50 basis points of extra borrowing was allowed if milestones are achieved in at least three out of four reform areas.

In case of Option 2, Centre has offered at least 0.5 per cent of GSDP as additional unconditional borrowing. The bonus 0.5 per cent of GSDP, currently available on completing at least three of the four specified reforms, will be subsumed under the GST borrowing scheme, taking the total to at least 1 percentage points. It will be either 1 per cent of GSDP or amount allowed for shortfall, whichever is higher.

The states are guaranteed full compensation for the first five years of the GST roll out if they do not record 14 per cent growth in revenues from GST on the base year of 2015-16.

States have not got even a rupee of compensation during the current financial year so far against the requirement of Rs 1.5 trillion for the first four months

In case of first option, the ministry of finance said that it will endeavour to keep the cost at or close to the G-sec yield, and in the event of the cost being higher, will bear the margin between G-secs and average of State Development Loan yields up to 0.5% (50 basis points) through a subsidy.

In case of Union Territories (including National Capital Territory), finance ministry said that suitable arrangements will be made to ensure flow of resources under the Special Window to them.

The Council’s meeting was called to discuss the one point agenda of compensating states in view of muted compensation cess collections. The Centre also took the opinion of Attorney General K K Venugopal on the issue

The governments, both the Centre and the states, have collected Rs 21,747 crore from the compensation cess in the first four months of the current financial year, which was one-third less than Rs 32,796 crore mopped up in the corresponding period of FY20.

In fact, the collections were muted last financial year as well. The collection was Rs 95,000 crore but the states were given Rs 1.65 trillion after dipping into the excess collections from the cess of the previous years.