The Centre has no immediate plan to enhance the monthly devolution to states from the budget estimate (BE) level, in anticipation of a higher-than-budgeted growth in gross tax revenue (GTR). Adjustments, if any, would be done only in the last quarter.
The GTR grew at a robust 70% on year in the first five months of FY22 and was 30% higher than the corresponding period in the pre-pandemic year, FY20.
The targeted growth rate (BE) for GTR in the current fiscal year is 9.5%.
After the pandemic hit tax revenues in FY21, the Centre had retained the budget transfers for the first two months as per BE before lowering the monthly transfers from June onwards till February, which resulted in the states receiving a quarter of their annual share in central taxes in March alone, compared with just 14% in the year ago month.
A senior finance ministry official told FE that the devolution is as per standard formula and that the adjustments would be made in the fourth quarter only.
While dip in revenues may have forced the Centre to adjust devolution from Q1FY21 itself, some analysts are of the view that it should reciprocate by enhancing monthly devolution now, instead of waiting for the fourth quarter of the current financial year.
The Centre’s GTR stood at Rs 8.6 lakh crore in April-August 2021, compared with Rs 5.04 lakh crore in the year ago period and Rs 6.6 lakh crore during the period in FY20.
As per extant norms, tax devolution is made in 14 instalments to states in a year, one in each month up to February and three installments in March. The monthly devolution to states were Rs 39,175 crore during April to June and Rs 47,540 crore during July to August.
“The Centre should do opposite of what it did in FY21 and make available a portion of extra tax tax collections to states to step up spending, which will help the economy,” said NR Bhanumurthy, vice-chancellor of Bengaluru’s Dr. B. R. Ambedkar School of Economics University. It could also reduce the borrowing requirement of some fiscally stressed states like Kerala.
With economic recovery after the second Covid wave hit April-May, the states’ own tax revenues have shown improvement in recent months, reducing their borrowing requirements.
After the 12.6% contraction in the gross state development loan (SDL) issuance to Rs 3.1 lakh crore in H1 FY22, the Reserve Bank of India has pegged the SDL issuance at Rs 2 lakh for Q3 FY22, similar to the level in Q3 FY21.
However, Telangana (by Rs 9,500 crore), Andhra Pradesh (by Rs 5,800 crore) and Kerala (by Rs 4,000 crore) together borrowed Rs 19,300 crore more than indicated in H1 FY22, rating agency ICRA said in a report. A senior Kerala finance ministry official said a mid-course correction in devolution in light of the higher central tax collections would help the state’s finances.
According to ICRA, the Centre’s tax devolution to states for the full year is expected to exceed FY22BE of Rs 6.66 lakh crore by about Rs 60,000 crore, boosting states’ cash flows in Q4FY22 (February-March).
“Factoring in our expectation of higher-than budgeted Central tax devolution in FY2022,we project the net SDL issuance at Rs 1.7 lakh crore in Q4 FY22, 15.3% lower than Rs 2 lakh crore in Q4 FY21. For FY22, we estimate net and gross SDL issuance at Rs 5.5 lakh crore and Rs 7.6 lakh crore, respectively, 15.3% and 4.7% lower than the year-ago levels,” ICRA said.
If the pace of GTR growth in the first five months of this year continues throughout the year, GTR will rise to Rs 25.93 lakh crore as against the BE of Rs 22.17 lakh crore.
This could drive up the tax-to-GDP ratio to 11.6% in FY22, the highest since FY08, far exceeding the budgeted level of 9.9%. This, of course, assumes that the nominal GDP for this year will touch the budgetted level of Rs 222.87 lakh crore, recording an annual expansion of 12.9% upon the provisional estimate for FY21. Tax buoyancy, too, will shoot up to as high as 2.2 in FY22.