The GST Council, which is responsible for tax rate decisions, has not resolved the tax inconsistency despite many discussions and recommendations
For more than five years now, the fertilizer industry has been dealing with a ‘distorted job structure’. An inverse duty structure refers to a situation where raw materials (RMs) are taxed at a higher rate than the finished products in which these are used. But, the Budget presented by Union Finance Minister (UFM) Nirmala Sitharaman on July 23, 2024 could do little to fix it.
Fertilizers and RMs used in your production are generally taxable under GST (Goods and Services Tax). The GST Council – chaired by the UFM comprising finance ministers from all states and UTs – has the authority to fix tax rates without deciding the procedures for registration, payment of taxes, filing of GST returns, and other related matters. Therefore, the responsibility of correcting any anomalies in their taxation also lies with the GST Council.
The issue was discussed in the 45th (September 2021) and 47th (June 2022) meetings of the GST Council; but no decision could be taken.
Meanwhile, on August 9, 2023, the Standing Committee on Chemicals and Fertilizers recommended that the Union Government propose to the GST Council to reduce the tax on fertilizers and RMs used in their manufacture. In its 53rd meeting held on June 22, 2024, the Council referred the matter to the Group of Ministers (GoM) regarding the revision of the standard to address everything.
First, let’s look at the current structure of taxable fertilizers.
In order for farmers to buy fertilizer, the government controls its maximum selling price (MRP) at a low level, which does not correspond to the cost of production and distribution, and returns the excess money to the MRP as a subsidy to producers. In the case of urea, the MRP is about one-tenth of the cost, while for all other fertilizers, the price is about one-third.
When the Government spends a lot of money in its budget to make fertilizers available to farmers at a minimal cost, it does not make sense to tax them. This increases costs, only to be returned as additional aid, to producers. It is a simple matter of taking from one hand and giving back to the other.
Two major parts of the fertilizer supply chain are taxed under two different regimes: one under GST and the other under the pre-GST regime. All finished fertilizers like Urea, di-ammonium phosphate (DAP), ammonium sulphate etc are taxed under GST at 5 percent. Many RMs like sulfuric acid, ammonia, phosphoric acid etc (these are used to make DAP and other complex fertilizers) are also covered under GST. While sulfuric acid and ammonia are charged 18 percent GST, phosphoric acid attracts 12 percent tax.
However, natural gas (NG), which is used for the manufacture of all domestic urea, is taxable under the pre-GST regime. Electricity, which is a utility in the fertilizer manufacturing process, is also kept free of GST.
GST is a single national tax with a provision of excise duty paid on inputs. It implements between them more than a dozen taxes from the pre-GST era, namely central excise duty (CED), service tax, and sales tax/value-added tax (VAT). The GST Amendment Act 2016, while providing for the inclusion of NG (except other petroleum products like petrol, diesel, ATF etc) under its purview, kept it ‘zero-rated’ meaning that it continues to be subject to pre- GST system. The GST Council has put fixing the NG rate (excluding ATF) on its agenda only ten times to reverse it.
Taxation under pre-GST results in lower cost of NG and electricity. Gas companies such as Oil and Natural Gas Corporation (ONGC) and Oil India Limited (OIL) are outside the GST ambit and cannot claim credit for taxes paid on their purchases of inputs, consumables, and equipment, resulting in higher prices. Even as NG attracts CED absent from supply of fertilizer plants, its delivered cost is increased by VAT, which can be as high as 24.5 percent in Andhra Pradesh (AP).
Other local taxes, for example, Gujarat’s “purchase tax” on that part of the revenue used to make urea sold outside the state, also add to the cost. In the case of electricity, electricity companies do not get tax credit paid on inputs i.e. machinery, shops, etc., used in their production and distribution, resulting in higher costs.
Furthermore, under the Constitution, entry 53 in the List of States in the Seventh Schedule empowers the states to impose a tax (or electricity tax) on the sale and consumption of electricity, except when it is used by the Union Government or the Railways. As for the electricity tax, the electricity companies get nothing. This increases the cost of energy provided by fertilizer plants.
Even in areas where inputs are covered under GST and therefore, there is no cost-cutting effect, the inverse tax structure plays havoc. The higher GST levied on ammonia/sulfuric acid/phosphoric acid compared to the much lower GST on finished fertilizers results in an ‘unabsorbed’ income tax credit (ITC), as the output tax falls far short of the input tax. The situation is becoming difficult because the government controls the MRP of fertilizer at a low level.
Given that the cost of making fertilizer available to farmers (excluding taxes) is itself much higher than the price the Federal Government wants to pay, it should not charge any tax as the proceeds of that money should be paid. returned as an additional aid. Even if it wants to charge, ideally, all parts of the supply chain should be brought under GST and fertilizers, and all inputs and RMs should be in the lowest tax slab of 5 percent.
Although the tax rate on fertilizers is already five percent, this will require a reduction in the tax rate for all RMs viz. ammonia/sulfuric acid/phosphoric acid from 18/12 percent to 5 percent. Tax on micronutrients like zinc (Zn), boron (B), manganese (Mn), iron (Fe) etc should also be reduced from the existing 12-18 percent to 5 percent accordingly. and Standing recommendation. Committee as their importance in plant growth and ensure the use of nutritious food. NG and power should be included under GST and taxed at @5%.
Lowering the tax on RMs alone will not address the problem of unwithheld ITC. This is because the MRP of the finished fertilizer is much lower than the cost, even with the same GST, the tax payable on RMs/inputs will still be higher than the output tax liability. This can only be solved if the government provides subsidies to farmers under direct benefit transfer (DBT) and allows producers to charge full prices to farmers.
Reducing the tax on ammonia/sulfuric acid/phosphoric acid in the supply of fertilizer manufacturers to meet their special needs but leaving the GST on supply to other industries such as detergents, paints, dyes, plastics, etc. unchanged would lead to diversion and misuse as it is impossible to trace every grain of supply and ensure that it is used for the intended purpose. We have seen this happen in the case of urea where setting its MRP at a low level causes deviation.
Diversion/abuse is inevitable for any tax/price differential based on the end use of the product. The only way to prevent it but meet the intended purpose is DBT. Well, this is shaping up!
(The author is a policy analyst; opinions are personal)
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