In a festive season bonanza, the Union Government has released Rs 1,78,173 crore to state governments as part of tax devolution. This includes the regular instalment due in October, as well as an advance instalment of Rs 89,086.50 crore. In a statement on October 10, the union government announced that the release had been doubled to enable states to accelerate capital spending, finance welfare-related expenditures, and manage their finances more effectively during the festive period.
Uttar Pradesh received the largest allocation, totalling Rs 31,962 crore, followed by Bihar at Rs 17,921 crore, Madhya Pradesh at Rs 13,987 crore, West Bengal at Rs 13,404 crore, Maharashtra at Rs 11,255 crore, Rajasthan at Rs 10,737 crore, Odisha at Rs 8,068 crore, Tamil Nadu at Rs 7,268 crore, Andhra Pradesh at Rs 7,211 crore, Karnataka at Rs 6,498 crore, and Gujarat at Rs 6,197 crore.
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The Union Government’s decision comes at a critical juncture during the festive season. This substantial fiscal support aims to bolster states’ ability to manage their finances, accelerate capital spending, and fund welfare-related activities during a time of heightened economic activity. This release comes amid the government’s push for higher public spending to stimulate investment, particularly as India is facing the economic challenges posed by moderating growth. The government’s proactive move highlights its commitment to ensuring that states, especially those grappling with natural disasters, can respond effectively to local demands while contributing to national growth objectives.
How is tax devolved to states?
Under Article 270 of the Constitution, net tax proceeds collected by the Union Government are divided between the Centre and the states through a divisible pool of taxes. The allocation formula, recommended by the Finance Commission—which is reconstituted every five years—takes into account factors such as per capita income, population, forest cover, demographic performance, and tax effort. The divisible pool includes taxes like corporation tax, personal income tax, Central GST, and the Centre’s share of IGST.
One key component of this allocation is the concept of income distance, which refers to the gap between a state’s per capita income and that of Haryana, the state with the highest per capita income. States with lower per capita incomes receive a larger share of resources to maintain equity. The population data used in this calculation is from the 2011 Census.
While states receive 41% of the divisible pool, the distribution prioritises equity and need over efficiency. Although states generate approximately 40% of revenue, they bear around 60% of the expenditure. The Fifteenth Finance Commission emphasised that tax devolution should help uplift India’s poorer regions.
Issues with the tax devolution formula
Tax devolution has long been a point of contention between the central government and the states. Critics argue that the current formula rewards states with higher population growth and slower economic development, leaving wealthier, higher-performing states dissatisfied. States like Karnataka, Kerala, and Tamil Nadu have repeatedly voiced frustration, as their contributions to tax collections far exceed the revenue they receive in return. The share of southern states in the divisible pool has steadily declined over the last six Finance Commissions.
Recently, Finance Ministers from five opposition-ruled states demanded an increase in the divisible pool from 41% to 50%. They also advocated for a cap on the Centre’s collection of cesses and surcharges, which are currently excluded from the divisible pool and used to fund specific central government projects. The Sixteenth Finance Commission’s recommendations on tax devolution, expected by October 2025, will be highly anticipated.
Since the implementation of the GST regime, many states have felt that they’ve lost autonomy in tax collection. Moreover, they argue that the current devolution framework penalises states with better economic performance. For instance, states have expressed dissatisfaction with the meagreallocations in the 2024-25 Union Budget for major projects like Bengaluru’s Suburban Rail Project and the lack of central funding for Kerala’s Vizhinjam Port.
Policymakers, the upcoming Finance Commission, and the government must recognise that many of the dissatisfied states are industrial and economic powerhouses that require tailor-made capital and social expenditures to fuel their progress. These states have unique developmental, climate, and industrial needs, and the constraints of the current GST framework and low devolution rates hinder their ability to make bold, progressive decisions. The tax devolution framework must be updated to allow states greater autonomy, as a one-size-fits-all approach is inadequate. All eyes will be on the 16th Finance Commission’s recommendations to address these concerns.