Distribution of Taxes: Federalism and Centre-State Relations
The distribution of taxes is a cornerstone of federalism, defining the financial autonomy and intergovernmental fiscal relations within a country. In India, this distribution is crucial for maintaining the balance of power and ensuring equitable development across states. This module delves into the constitutional framework and practical mechanisms governing the division of tax revenues between the Union and the States.
Constitutional Framework for Tax Distribution
The Indian Constitution, under Part XII, specifically addresses the distribution of legislative powers and the consequent financial powers between the Union and the States. This division is primarily outlined in the Seventh Schedule, which enumerates the Union List, State List, and the Concurrent List. Taxes are allocated to either the Union or the States based on these legislative competencies.
The Constitution assigns specific taxing powers to the Union and the States.
Article 246 of the Constitution, read with the Seventh Schedule, demarcates the taxing powers. The Union has exclusive power to levy taxes on subjects in the Union List, while States have exclusive power over subjects in the State List. Some taxes are shared or have their proceeds distributed.
Article 246 of the Constitution of India, along with the Seventh Schedule, is the primary source for understanding the division of taxing powers. The Union List (List I) contains subjects on which the Parliament has exclusive power to legislate, including taxes like income tax (other than agricultural income), corporation tax, customs duties, excise duties on manufactured goods (except alcoholic liquors and narcotics), etc. The State List (List II) grants States the power to levy taxes on subjects like agricultural income tax, land revenue, excise duties on alcoholic liquors, sales tax, stamp duties, etc. The Concurrent List (List III) contains subjects where both Parliament and State Legislatures can legislate, though in case of conflict, Union law prevails. However, most direct taxing powers are exclusively vested in either the Union or the States.
Key Taxes and Their Distribution
| Tax Type | Levied By | Collected By | Distribution Mechanism |
|---|---|---|---|
| Income Tax (Non-agricultural) | Union | Union | Shared between Union and States (Article 270) |
| Corporation Tax | Union | Union | Wholly retained by the Union |
| Customs Duties | Union | Union | Wholly retained by the Union |
| Excise Duties (Union) | Union | Union | Shared between Union and States (Article 272, now subsumed under GST) |
| Goods and Services Tax (GST) | Union & States | Union & States | Integrated GST (IGST) collected by Union, apportioned between Centre and States; Central GST (CGST) and State GST (SGST) levied and collected by respective governments. |
| Agricultural Income Tax | State | State | Wholly retained by the State |
| Land Revenue | State | State | Wholly retained by the State |
| Excise Duty on Alcoholic Liquors | State | State | Wholly retained by the State |
The Role of the Finance Commission
While the Constitution specifies the powers to levy taxes, the actual distribution of net proceeds of certain taxes between the Union and the States, and the allocation of the States' share among the States, is a matter for recommendation by the Finance Commission. This independent body plays a pivotal role in ensuring fiscal federalism and addressing vertical and horizontal imbalances.
The Finance Commission recommends the distribution of tax revenues.
Article 280 mandates the President to constitute a Finance Commission every five years. It recommends the principles governing the distribution of the net proceeds of taxes to be shared between the Union and the States (vertical devolution) and the allocation of the States' share among themselves (horizontal devolution).
Article 280 of the Indian Constitution establishes the Finance Commission, a quasi-judicial body. Its primary functions include recommending the distribution of the net proceeds of taxes that are to be divided between the Union and the States (vertical fiscal imbalance) and the allocation of the respective shares of such proceeds among the States (horizontal fiscal imbalance). The Commission also makes recommendations on principles that should govern grants-in-aid of revenues to the States from the Consolidated Fund of India and measures to augment the Consolidated Fund of a State to supplement the resources of the Panchayats and Municipalities. The recommendations of the Finance Commission are advisory but are generally accepted by the government.
Goods and Services Tax (GST) and its Impact
The introduction of GST in 2017 marked a significant shift in India's indirect tax structure. It subsumed most central and state indirect taxes, creating a unified market. The GST Council, a constitutional body, decides on all matters relating to GST, including the distribution of tax revenues.
The GST regime involves a dual structure: CGST (Central GST) and SGST (State GST) are levied on intra-state sales, with both revenues going to the Centre and the respective State governments. IGST (Integrated GST) is levied on inter-state sales, collected by the Centre, and then apportioned between the Centre and the destination State. This ensures that the revenue remains with the consuming state, promoting fiscal equity.
Text-based content
Library pages focus on text content
Understanding the distinction between vertical and horizontal fiscal imbalance is key to grasping the role of the Finance Commission. Vertical imbalance refers to the mismatch between the revenue-raising capacity and expenditure responsibilities of different levels of government, while horizontal imbalance refers to disparities in fiscal capacity among states.
Other Forms of Financial Transfers
Beyond the divisible pool of taxes, the Union government also provides financial assistance to states in the form of grants-in-aid, as recommended by the Finance Commission. These grants are crucial for addressing specific needs and promoting balanced regional development.
Article 280
To recommend the distribution of net proceeds of taxes between the Union and States, and among States.
Income Tax (on non-agricultural income)
Learning Resources
Direct access to the constitutional articles governing financial relations between the Union and States, including tax distribution.
Provides reports, recommendations, and background information on all Finance Commissions, offering deep insights into tax devolution.
The official portal for GST, offering information on its structure, administration, and implications for revenue sharing.
A detailed explanation of GST, its components, and how it impacts tax collection and distribution.
An analysis of the fiscal relationship between the Union and States, including discussions on tax powers and grants.
A blog post detailing the constitutional provisions and evolving dynamics of financial relations between the central government and states.
While not a direct URL, this is a highly recommended book for UPSC preparation, with comprehensive coverage of Centre-State relations and fiscal matters. (Note: Direct access to specific chapters online is often restricted due to copyright).
A video explaining the constitutional mandate and functions of the Finance Commission in India's federal structure.
A video discussing the historical development and current state of fiscal federalism in India, including tax distribution.
Provides a clear overview of the legislative lists that define the powers of the Union and States, including their taxing jurisdictions.