GST reforms: The Goods and Services Tax, introduced in 2017 as India’s most ambitious indirect tax reform, has undergone a steady redesign. The move towards a two-slab structure — 5% and 18% — and recent changes in compliance procedures signal a serious attempt at simplification. Yet the system continues to struggle with legacy distortions. The e-way Bill, the Inverted Duty Structure (IDS), blocked input credits, and a range of special dispensations dilute the promise of a clean, consumption-based tax. Each of these issues undermines the neutrality principle that anchors a modern value-added tax.
The e-way bill was intended to replace physical checkpoints and enable seamless movement of goods across states. It has succeeded on that front. But it has replaced one friction with another — digital compliance. Studies by the Central Board of Indirect Taxes and Customs show that businesses frequently face penalties for clerical mistakes, portal issues, or delays in generating the bill. For small and medium enterprises, the cost of errors is disproportionately high. Delays cascade through supply chains, making logistics more expensive than necessary.
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Recent reforms have made incremental improvements: simpler forms, quicker generation, and better portal stability. But the core issues persist. A more trade-friendly system will require automated generation from e-invoice data, higher thresholds for intra-state movement, and a shift away from penalising minor procedural lapses. Enforcement should target evasion, not errors born of urgency or scale.
GST reforms and inverted duty structure
The IDS problem remains one of GST’s most pressing design flaws. When inputs are taxed at 18% but final goods attract 5%, companies accumulate unusable input tax credit (ITC). Their working capital gets locked with the government, affecting cash flow and competitiveness. Refunds are available on paper, but industry submissions to the GST Council highlight delays, complex paperwork, and uncertainty in approval. In many sectors, these inefficiencies are built into the final price, raising consumer costs—precisely the cascading effect GST was meant to eliminate.
Recent rate rationalisation has corrected IDS in some sectors such as textiles and chemicals. A risk-based provisional refund system is also being tested. These are positive steps, but a structural solution demands aligning input and output rates or permitting seamless credit flow across the chain.
Blocked credits: Breaking the VAT chain
Input Tax Credit is the backbone of any value-added tax. But Section 17(5) of the CGST Act blocks credit on a wide range of goods and services—motor vehicles (with exceptions), food and beverages, club memberships, and most construction-related works. These exclusions disrupt the credit chain and embed taxes into business costs. Firms pass these costs forward, raising final prices. This contradicts the GST’s anti-cascading design.
The government’s rationale is to prevent misuse and avoid revenue leakage. Those concerns are legitimate. But blanket denial of credit penalises legitimate business expenditure. Tax neutrality is compromised, and compliance becomes a negotiation between policy intent and economic reality. A narrower, risk-based approach to blocking credits would better align with VAT principles.
Deviations from a pure consumption tax
India’s GST incorporates multiple dispensations that depart from a uniform consumption-based system. The Composition Scheme, meant to ease compliance for small businesses, does so by excluding them from the ITC framework. Composition dealers cannot issue tax invoices that allow buyers to claim credit, creating breaks in the value chain.
The Reverse Charge Mechanism (RCM) shifts tax liability to recipients for notified goods and services. RCM is used globally, but it adds compliance steps—paying tax in cash before claiming credit—temporarily blocking working capital.
The most distortionary measure remains lower GST rates without ITC, such as the 5% rate for restaurants or certain contracts. Denying credit on inputs reintroduces cascading and embeds higher costs into final prices. The measure protects revenue but undermines tax neutrality.
A mature GST system requires fewer exemptions and stronger credit flow, not more special rules.
Towards a simpler, neutral, consumption-based GST
India has travelled a long way since 2017. Rates are more rational, compliance is more predictable, and the system is more stable. But the GST still bears the imprint of compromise—between revenue protection and tax neutrality, between administrative convenience and economic efficiency.
Fixing the inverted duty structure, reducing blocked credits, and phasing out special dispensations will strengthen the ITC chain and restore the purity of the value-added tax system. A cleaner GST will improve competitiveness, reduce cost pressures, and support the shift towards a more efficient national market.
India’s next phase of growth will rely on a tax system that rewards production and consumption without hidden burdens. The GST has the foundations. It now needs the finishing touches.
Dr Badri Narayanan Gopalakrishnan is Fellow, NITI Aayog. Views expressed are personal.