ISAS Briefs

Summary

The Indian government has introduced a major set of reforms in the Goods and Services Tax structure designed to simplify tax slabs, reduce compliance costs, boost consumption and support key sectors like manufacturing, agriculture, education and healthcare. The reforms profess to prioritise long-term growth over short-term revenue maximisation.

The Goods and Services Tax (GST), introduced in India on 1 July 2017, was widely regarded as a landmark reform. It unified 17 taxes and 13 cesses into a single tax system, eliminated cascading taxes and established a common national market with uniform rates and procedures – greatly improving compliance and transparency.

Now, the GST regime is undergoing a significant transformation. Following a decision by the GST Council – a joint forum of central and state finance ministers – a comprehensive set of reforms has been announced. These aim to simplify the tax structure, reduce compliance burdens, boost consumption and accelerate economic growth. The new regime will take effect from 22 September 2025.

The reforms are built on three key pillars: structural changes, rate rationalisation and ease of living and doing business. Structural changes address long-standing issues such as the inverted duty structure and classification disputes. Rate rationalisation seeks to move from a complex multi-slab system to a simpler two-rate structure for most goods and services. Meanwhile, process reforms will make compliance more streamlined and predictable, particularly for micro, small and medium enterprises and exporters.

Importantly, the focus is not just on lowering tax rates, but on fostering a more efficient and growth-oriented tax ecosystem.

Compression of Slabs and Reduction in Rates

The most significant decision is the compression of tax slabs. The current regime of five per cent, 12 per cent, 18 per cent and 28 per cent (plus cess on certain items) has been largely reduced to a two-tier system: five per cent Merit Rate (for essential and common-use items); 18 per cent Standard Rate (for most other goods and services) and a new 40 per cent ‘Special Rate’ that replaces the old 28 per cent plus cess slab for a handful of ‘sin’ and luxury goods. The compression of slabs was accompanied by a major exercise to bring down the GST rates on goods and services. As many as 391 items saw changes in rates, with 357 items seeing a lowering of GST rates charged in the current regime. The most significant relief in the process is to the common man, with a wide array of daily-use items that have been moved into the five per cent slab. These include food items (namkeen, sauces, pasta, instant noodles, chocolates, butter, ghee); personal care goods (toilet soaps, shampoos, hair oil, toothpaste, toothbrushes); household goods (kitchenware, tableware, bicycles); agriculture inputs (tractor components, irrigation equipment, harvesting machinery); health products (diagnostic kits, reagents, spectacles, and vision-correcting goggles); and renewable energy equipment (solar panels and other devices). The lower rate has made these goods cheaper, effectively improving the purchasing power of consumers.

Another significant decision, which offers a major relief to the automotive sector and aspirational consumer durables such as automobiles (small cars, motorcycles up to 350cc, buses, trucks, ambulances and all auto parts); consumer durables (televisions of all sizes, air conditioners, dishwashers, monitors); and batteries (all batteries, including lithium-ion), are now proposed to be uniformly taxed at 18 per cent.

The New ‘Sin’ Goods Tax Rate

A new rate of 40 per cent has been introduced by subsuming the old tax and compensation cess. It applies to ‘sin’ goods (pan masala, cigarettes, chewing tobacco); aerated beverages and caffeinated drinks; high-end luxury items like large cars and sport utility vehicles (SUVs), aircraft for personal use, yachts; and actionable claims like lottery tickets, betting, gambling, casinos, and admission to high-value events like Indian Premier League matches.

Though larger cars and SUVs are now put under the 40 per cent slab (against 28 per cent earlier), yet they are expected to attract lower taxes, as currently mid-sized and big cars attract 28 per cent GST and compensation cess ranging from 17 to 22 per cent, with the overall tax incidence being in the range of 45 to 50 per cent. The new GST rate on mid-sized and big cars will be 40 per cent with no compensation cess. Auto makers have already started announcing rate reductions on popular SUVs to make them cost less. Luxury cars like BMW and Mercedes could also see a reduction in prices.

A Move to Improve the Ease of Doing Business

A two-rate structure is expected to reduce disputes, lead to quicker decisions, and, hence, make compliance simpler. Besides the reduction in the slabs, the new regime is projected to introduce significant process reforms to reduce the compliance burden. The reform includes a simplified registration automated system for small and low-risk applicants, promising registration within three working days. A risk-based system will be put in place to provisionally release 90 per cent of refund claims for exporters and those under the inverted duty structure, with only high-risk cases facing scrutiny.

Challenges: Revenue Impact and State-Level Reservations.

Opposition-ruled states such as Kerala, West Bengal and Tamil Nadu have raised concerns about potential revenue loss, suggesting a cess on ‘sin’ goods to offset the impact. However, the GST Council did not accept this proposal. While estimates of revenue loss vary – due to slab compression and more items attracting lower rates – the actual impact will become clear only with new data. The fiscal deficit is expected to be minimally affected, as broader tax coverage, reduced distortions, and improved compliance are likely to boost tax buoyancy. This aligns with public finance principles that a well-designed tax system can balance efficiency, equity, and revenue adequacy.

The reform aims to increase consumer purchasing power, stimulate demand, and support a virtuous cycle of growth. Its success will hinge on effective implementation, state cooperation and public trust.

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Mr Vinod Rai is a former Distinguished Visiting Research Fellow at the Institute of South Asian Studies (ISAS), an autonomous research institute at the National University of Singapore (NUS). He is also a former Comptroller and Auditor General of India. He can be contacted at isasvr@nus.edu.sg. The author bears full responsibility for the facts cited and opinions expressed in this paper.

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