Two new GST levies may replace compensation cess, but at what cost?

India Today

21-06-2025

With the compensation cess set to expire by March 1, 2026, the Centre is likely to propose two new levies — a Health Cess on tobacco and other harmful substances and a Clean Energy Cess on coal and automobiles, as part of the discussions at the upcoming GST Council meeting in July.The move aims to fill the revenue gap that will open up once the transitional compensation cess is phased out. While these cesses are still under consideration, experts say they may introduce fresh complexity into the GST regime, especially for businesses and the broader Centre-State revenue-sharing equation.advertisementPOSSIBLE IMPACT'GST was a landmark tax reform which then sought to replace a complex web of fragmented state taxation systems that were in existence before 2017,' said chartered accountant Siddharth Surana.
'Prior to 2017, states and union territories implemented and administered their own system of Value Added Tax, and the revenues from these taxes fell directly within their purview with no major need for fiscal co-operation and Centre-State harmony,' he added.'To offset the loss by the introduction of GST and the harmonisation of GST rates, the state governments were provided with compensation cess, which was a tax in addition to GST, and was applicable on certain demerit goods and sin products such as aerated beverages, automobiles and tobacco. The compensation cess was introduced only for a temporary period of time as a transitional measure, which was to end in 2022. However, with several extensions, this is likely to expire on 1st March 2026," Surana said.advertisementHe explained that the new cesses being discussed are unlikely to compromise the structural integrity of the GST system. 'In our understanding, as these levies are centrally proposed and are likely to follow the structure proposed by the central government, they are likely to be standard levies and do not pose a risk to return to the fragmented pre-GST tax structure,' he said.'Also, the taxes are targeted at very few products, mostly falling within the present 28% GST slab. Thus, while they may not affect the structure of GST, the major cause of concern would be distribution. The central and state governments would have to work out the method of distribution of proceeds of these cesses and this will require cooperative federalism,' Surana added.Surana also pointed out that businesses are likely to feel the impact of any new levy on three key fronts.'In our opinion, the introduction of any new levy does have an impact on businesses on three fronts – costs, compliance and supply chain. The introduction of 2 new cesses are likely to increase the compliance burden on industry. It will also entail a change in the return formats and companies will have to adapt to the changing presentation and disclosure norms,' he said.advertisementBeyond compliance, Surana suggested that the policy intent behind these cesses is to influence corporate behaviour.'Further, it appears that the purpose of introducing these taxes is to increase the cost of products that are harmful to the environment and, therefore, may put more pressure on corporates to become more sustainable,' he said.He added that the Clean Energy Cess, in particular, aligns with the government's push toward green energy. 'The use of coal as a source of power has tremendous ecological costs, and the replacement of coal with renewable sources of energy has been an objective of the government. We believe that the levy of cesses on products like automobiles will create ecological consciousness and force companies to revisit their supply chain and adopt sustainable practices.'