All About GST Compensation Cess: Rates and Applicability

All About GST Compensation Cess: Rates and Applicability. The GST Compensation Cess is levied under Section 8 of the Goods and Services Tax (Compensation to State) Act, 2017. Its primary purpose is to compensate states for revenue losses arising from the implementation of GST. This cess applies to both intra-state and inter-state supplies of specific goods and services. Below is a detailed examination of its applicability, rates, and calculation method.
What is GST Compensation Cess?
The term "cess" in the GST context refers to a compensation mechanism introduced to aid states in managing revenue deficits due to the tax system transition. This cess replaces the earlier Central Excise and Service Tax framework post-July 2017. It is primarily imposed on luxury goods, tobacco products, aerated beverages, and certain motor vehicles to ensure states are financially supported during GST implementation.
Key Features of Compensation Cess under GST
1. Applicability: Compensation Cess is applicable to all registered taxable persons under GST engaged in supplying notified goods or services, except exporters and GST Composition Scheme dealers.
2. Additional Levy: It is levied in addition to the regular GST payable on specified goods and services.
3. Calculation Basis: The cess is calculated on the value of goods/services before GST is applied, meaning it is not imposed on the GST amount.
4. Implementation Period: Initially, the cess was implemented for a transitional period of five years starting from the introduction of GST, ending on 30th June 2022.
5. State Compensation: The cess revenue is used to compensate states for revenue losses due to GST implementation. Compensation is disbursed every two months.
6. Cess Rates: Rates for notified goods and services are prescribed under two main notifications (Notification No. 1/2017 and Notification No. 2/2017, dated 28th June 2017) and vary depending on the specific item or service.
Utilization of GST Cess
All collections under this cess are deposited into the Goods and Services Tax Compensation Fund. These funds are then distributed among states facing revenue shortfalls. Any surplus at the end of the transition period is shared equally between the central and state governments, with state shares allocated based on their respective revenue contributions.
Goods and Services Attracting GST Cess
GST Cess applies to goods and services specified by the central government. It is mandatory for all taxable persons except those registered under the composition scheme. Key goods attracting cess include:
-Tobacco Products: Cigarettes, cigars, hookah tobacco, and chewing tobacco.
-Luxury and High-Value Items: Motor vehicles, yachts, and aircraft for personal use.
-Carbon-Based Fuels: Coal, briquettes, and similar products.
-Aerated Drinks: Beverages containing added sugar or flavoring.
Calculation of GST Cess
The cess is calculated based on the taxable value of the supply as per the applicable cess rate schedule. For imported goods, it is levied alongside IGST and customs duty. For example:
-Assessable Value: Rs. 100
-Customs Duty: Rs. 10
-Value for IGST Calculation: Rs. 110
-IGST at 18%: RS. 19.80
-Total Taxes: RS. 29.80 If applicable, the cess is calculated on RS. 110.
GST Compensation Cess Rates for Goods and Services
The following table outlines the GST Compensation Cess rates for various goods and services as per the GST (Compensation to States) Act, 2017, with amendments:

Goods/Services

GST Compensation Cess Rate

Cut Tobacco

Rs. 0.14 per unit

Unmanufactured tobacco (with lime tube)

Rs. 0.36 per unit

Unmanufactured tobacco (without lime tube)

Rs.. 0.36 per unit

Branded tobacco refuse

Rs. 0.32 per unit

Tobacco extracts and essences (branded)

Rs. 0.36 per unit

Tobacco extracts and essences (unbranded)

Rs. 0.36 per unit

Jarda scented tobacco

Rs. 0.56 per unit

Filter khaini

Rs. 0.56 per unit

Cigarillos

21% or Rs. 4,170 per thousand, whichever is higher

Cheroots and Cigars

21% or Rs. 4,170 per thousand, whichever is higher

Cigarettes (≤ 65mm, unfiltered)

5% + Rs. 2,076 per thousand

Cigarettes (65–75mm, unfiltered)

5% + Rs. 3,668 per thousand

Filtered cigarettes (≤ 65mm)

5% + Rs. 2,076 per thousand

Filtered cigarettes (65–70mm)

5% + Rs. 2,747 per thousand

Filtered cigarettes (70–75mm)

5% + Rs. 3,668 per thousand

Cigarillos made of tobacco substitutes

12.5% or RS. 4,006 per thousand, whichever is higher

Cigarettes made of tobacco substitutes

Rs. 4,006 per thousand

Branded hookah or gudaku tobacco

Rs. 0.36 per unit

Smoking mixtures for pipes and cigarettes

290%

Unbranded hookah or gudaku tobacco

Rs. 0.12 per unit

Unbranded water pipe smoking tobacco

Rs. 0.08 per unit

Branded smoking tobacco

Rs. 0.28 per unit

Unbranded smoking tobacco

Rs. 0.08 per unit

Homogenized or reconstituted tobacco (branded)

Rs. 0.36 per unit

Chewing tobacco (with/without lime tube)

Rs. 0.56 per unit

Preparations containing chewing tobacco

Rs. 0.36 per unit

Pan masala with tobacco (gutkha)

Rs. 0.61 per unit

All other goods except gutkha

Rs. 0.43 per unit

Snuff and snuff preparations

Rs. 0.36 per unit

Solid fuels from lignite or coal

Rs. 400 per tone

Lemonade and aerated waters

12%

Motorcycles (>350cc engine capacity)

Aircraft for personal use

Yachts and vessels for amusement or sports

Motor vehicles (

15%

Input Tax Credit for Compensation Cess
Input tax credit (ITC) of the cess paid is available but can only be utilized for payment of Compensation Cess on outward supplies of notified goods or services.
Distribution of Compensation to States
1. Base Revenue: Calculated based on the state’s tax revenue in FY 2016-2017.
2. Projected Revenue: Assumes a 14% annual growth rate.
3. Compensation Formula:  
Compensation Payable=Projected Revenue−Actual Revenue Earned\ {Compensation Payable} = \ {Projected Revenue} - \ {Actual Revenue Earned} Compensation Payable=Projected Revenue−Actual Revenue Earned
Extension of Compensation Cess
Although the initial period for the levy ended on 30th June 2022, several states have urged the Centre to extend it for an additional five years. This issue was discussed during the 47th GST Council Meeting held in June 2022.
Important Notes
-The cess is governed by Section 8 of the Goods and Services Tax (Compensation to States) Act, 2017.
-Any surplus from the Compensation Fund at the end of the transition period is distributed between the Centre and states based on a predetermined formula.
Challenges in Cess Implementation in India
1. Calculation Complexity: Determining the cess amount is intricate as it depends on several factors, including the tax base, varying tax rates, exemptions, deductions, and applicable rebates. Frequent changes in cess rates further complicate calculations, requiring taxpayers to update tax returns and payments regularly, increasing the chances of errors.
2. Increased Compliance Burden: Taxpayers face additional administrative work to manage separate records, returns, and payments for multiple cesses, such as health and education cess or infrastructure cess. This adds to their compliance costs and impacts tax authorities, who must ensure accurate collection and allocation.
3. Refund Limitations: Unlike standard taxes, cesses are non-refundable, creating cash flow challenges for taxpayers, particularly exporters who pay upfront without refund eligibility. This non-refundability can result in cascading tax effects, inflating the total tax burden across production and distribution stages. 
Recent Developments in Cess Policy
The government has extended the GST compensation cess until March 31, 2026, to assist states in addressing revenue losses from GST implementation. Initially set to end by June 30, 2022, this extension allows continued financial support to states adjusting to the GST framework.
Additionally, the 2023-24 Union Budget introduced revised cess rates for select goods:
-Automobiles: Mid-sized cars saw a cess hike to 17% (up by 2%), large cars to 22% (up by 5%), and SUVs to 25% (up by 7%).
-Tobacco and Liquor: Cess on tobacco increased to 20% (a 10% rise), and liquor saw a 5% hike to 15%.
These changes aim to generate an estimated additional revenue of Rs. 50,000 crore.
Conclusion
 This measure addresses the fiscal challenges states continue to face due to GST adoption and the economic strain caused by the COVID-19 pandemic. To uphold commitments made by the GST Council, the Centre has taken on borrowing responsibilities to compensate states, adding strain to its fiscal capacity and borrowing limits. The adjustments aim to increase revenue for critical sectors such as health and infrastructure. The introduction of the Agriculture Infrastructure and Development Cess (AIDC) on items like petrol, diesel, and precious metals is targeted at bolstering agricultural development. However, these changes may lead to higher consumer prices, impacting inflation and altering demand and consumption patterns.
FAQs
1. What is the purpose of a cess?
Ans. Cess is an additional tax levied by the Central Government to generate funds for specific objectives. It is primarily used when there is a need to finance particular public welfare initiatives.
2. Which goods are subject to cess?
Ans. Cess is typically levied on products considered luxury, harmful, or demerit goods, as well as items that have negative environmental or health effects. Common examples include tobacco, aerated drinks, vehicles, and coal.
3. Is compensation under GST taxable?
Ans. Compensation paid to allottees due to cancellation is not considered a supply for GST purposes, as the allottees had no choice but to accept the cancellation. Therefore, such compensation is not subject to GST.
4. Is it compulsory to pay cess?
Ans. The cess is not applicable to individual residential houses with a total cost of less than Rs. 10 lakhs. In all other cases, the payment of cess is mandatory.
5. What is the GST compensation limit?
Ans. In India, businesses with an annual turnover of up to Rs. 1.5 crore can opt for the composition scheme under GST. This scheme allows small businesses to pay a fixed tax rate instead of the regular GST rates.
6. Which country has the highest GST tax rate?
Ans. India has the highest GST rate among more than 140 countries, with a maximum rate of 28%. Other countries, such as Argentina, have a rate of 27%, while the UK and France apply a 20% rate, and Singapore has a 7% rate.
7. What is the GST Compensation Act?
Ans. The GST Compensation Act ensures that states are compensated for any loss in revenue caused by the implementation of the Goods and Services Tax. States will receive compensation for a period of five years from the time they implement their State GST Act.

The GST Compensation Cess is levied under Section 8 of the Goods and Services Tax (Compensation to State) Act, 2017. Its primary purpose is to compensate states for revenue losses arising from the implementation of GST. This cess applies to both intra-state and inter-state supplies of specific goods and services. Below is a detailed examination of its applicability, rates, and calculation method.

What is GST Compensation Cess?

The term "cess" in the GST context refers to a compensation mechanism introduced to aid states in managing revenue deficits due to the tax system transition. This cess replaces the earlier Central Excise and Service Tax framework post-July 2017. It is primarily imposed on luxury goods, tobacco products, aerated beverages, and certain motor vehicles to ensure states are financially supported during GST implementation.

Key Features of Compensation Cess under GST

1. Applicability: Compensation Cess is applicable to all registered taxable persons under GST engaged in supplying notified goods or services, except exporters and GST Composition Scheme dealers.

2. Additional Levy: It is levied in addition to the regular GST payable on specified goods and services.

3. Calculation Basis: The cess is calculated on the value of goods/services before GST is applied, meaning it is not imposed on the GST amount.

4. Implementation Period: Initially, the cess was implemented for a transitional period of five years starting from the introduction of GST, ending on 30th June 2022.

5. State Compensation: The cess revenue is used to compensate states for revenue losses due to GST implementation. Compensation is disbursed every two months.

6. Cess Rates: Rates for notified goods and services are prescribed under two main notifications (Notification No. 1/2017 and Notification No. 2/2017, dated 28th June 2017) and vary depending on the specific item or service.

Utilization of GST Cess

All collections under this cess are deposited into the Goods and Services Tax Compensation Fund. These funds are then distributed among states facing revenue shortfalls. Any surplus at the end of the transition period is shared equally between the central and state governments, with state shares allocated based on their respective revenue contributions.

Goods and Services Attracting GST Cess

GST Cess applies to goods and services specified by the central government. It is mandatory for all taxable persons except those registered under the composition scheme. Key goods attracting cess include:

-Tobacco Products: Cigarettes, cigars, hookah tobacco, and chewing tobacco.

-Luxury and High-Value Items: Motor vehicles, yachts, and aircraft for personal use.

-Carbon-Based Fuels: Coal, briquettes, and similar products.

-Aerated Drinks: Beverages containing added sugar or flavoring.

Calculation of GST Cess

The cess is calculated based on the taxable value of the supply as per the applicable cess rate schedule. For imported goods, it is levied alongside IGST and customs duty. For example:

-Assessable Value: Rs. 100

-Customs Duty: Rs. 10

-Value for IGST Calculation: Rs. 110

-IGST at 18%: RS. 19.80

-Total Taxes: RS. 29.80 If applicable, the cess is calculated on RS. 110.

GST Compensation Cess Rates for Goods and Services

The following table outlines the GST Compensation Cess rates for various goods and services as per the GST (Compensation to States) Act, 2017, with amendments:

Goods/Services	GST Compensation Cess Rate
Cut Tobacco	Rs. 0.14 per unit
Unmanufactured tobacco (with lime tube)	Rs. 0.36 per unit
Unmanufactured tobacco (without lime tube)	Rs.. 0.36 per unit
Branded tobacco refuse	Rs. 0.32 per unit
Tobacco extracts and essences (branded)	Rs. 0.36 per unit
Tobacco extracts and essences (unbranded)	Rs. 0.36 per unit
Jarda scented tobacco	Rs. 0.56 per unit
Filter khaini	Rs. 0.56 per unit
Cigarillos	21% or Rs. 4,170 per thousand, whichever is higher
Cheroots and Cigars	21% or Rs. 4,170 per thousand, whichever is higher
Cigarettes (≤ 65mm, unfiltered)	5% + Rs. 2,076 per thousand
Cigarettes (65–75mm, unfiltered)	5% + Rs. 3,668 per thousand
Filtered cigarettes (≤ 65mm)	5% + Rs. 2,076 per thousand
Filtered cigarettes (65–70mm)	5% + Rs. 2,747 per thousand
Filtered cigarettes (70–75mm)	5% + Rs. 3,668 per thousand
Cigarillos made of tobacco substitutes	12.5% or RS. 4,006 per thousand, whichever is higher
Cigarettes made of tobacco substitutes	Rs. 4,006 per thousand
Branded hookah or gudaku tobacco	Rs. 0.36 per unit
Smoking mixtures for pipes and cigarettes	290%
Unbranded hookah or gudaku tobacco	Rs. 0.12 per unit
Unbranded water pipe smoking tobacco	Rs. 0.08 per unit
Branded smoking tobacco	Rs. 0.28 per unit
Unbranded smoking tobacco	Rs. 0.08 per unit
Homogenized or reconstituted tobacco (branded)	Rs. 0.36 per unit
Chewing tobacco (with/without lime tube)	Rs. 0.56 per unit
Preparations containing chewing tobacco	Rs. 0.36 per unit
Pan masala with tobacco (gutkha)	Rs. 0.61 per unit
All other goods except gutkha	Rs. 0.43 per unit
Snuff and snuff preparations	Rs. 0.36 per unit
Solid fuels from lignite or coal	Rs. 400 per tone
Lemonade and aerated waters	12%
Motorcycles (>350cc engine capacity)	3%
Aircraft for personal use	3%
Yachts and vessels for amusement or sports	3%
Motor vehicles (	15%

Input Tax Credit for Compensation Cess

Input tax credit (ITC) of the cess paid is available but can only be utilized for payment of Compensation Cess on outward supplies of notified goods or services.

Distribution of Compensation to States

1. Base Revenue: Calculated based on the state’s tax revenue in FY 2016-2017.

2. Projected Revenue: Assumes a 14% annual growth rate.

3. Compensation Formula:

Compensation Payable=Projected Revenue−Actual Revenue Earned\ {Compensation Payable} = \ {Projected Revenue} - \ {Actual Revenue Earned} Compensation Payable=Projected Revenue−Actual Revenue Earned

Extension of Compensation Cess

Although the initial period for the levy ended on 30th June 2022, several states have urged the Centre to extend it for an additional five years. This issue was discussed during the 47th GST Council Meeting held in June 2022.

Important Notes

-The cess is governed by Section 8 of the Goods and Services Tax (Compensation to States) Act, 2017.

-Any surplus from the Compensation Fund at the end of the transition period is distributed between the Centre and states based on a predetermined formula.

Challenges in Cess Implementation in India

1. Calculation Complexity: Determining the cess amount is intricate as it depends on several factors, including the tax base, varying tax rates, exemptions, deductions, and applicable rebates. Frequent changes in cess rates further complicate calculations, requiring taxpayers to update tax returns and payments regularly, increasing the chances of errors.

2. Increased Compliance Burden: Taxpayers face additional administrative work to manage separate records, returns, and payments for multiple cesses, such as health and education cess or infrastructure cess. This adds to their compliance costs and impacts tax authorities, who must ensure accurate collection and allocation.

3. Refund Limitations: Unlike standard taxes, cesses are non-refundable, creating cash flow challenges for taxpayers, particularly exporters who pay upfront without refund eligibility. This non-refundability can result in cascading tax effects, inflating the total tax burden across production and distribution stages.

Recent Developments in Cess Policy

The government has extended the GST compensation cess until March 31, 2026, to assist states in addressing revenue losses from GST implementation. Initially set to end by June 30, 2022, this extension allows continued financial support to states adjusting to the GST framework.

Additionally, the 2023-24 Union Budget introduced revised cess rates for select goods:

-Automobiles: Mid-sized cars saw a cess hike to 17% (up by 2%), large cars to 22% (up by 5%), and SUVs to 25% (up by 7%).

-Tobacco and Liquor: Cess on tobacco increased to 20% (a 10% rise), and liquor saw a 5% hike to 15%.

These changes aim to generate an estimated additional revenue of Rs. 50,000 crore.

Conclusion

This measure addresses the fiscal challenges states continue to face due to GST adoption and the economic strain caused by the COVID-19 pandemic. To uphold commitments made by the GST Council, the Centre has taken on borrowing responsibilities to compensate states, adding strain to its fiscal capacity and borrowing limits. The adjustments aim to increase revenue for critical sectors such as health and infrastructure. The introduction of the Agriculture Infrastructure and Development Cess (AIDC) on items like petrol, diesel, and precious metals is targeted at bolstering agricultural development. However, these changes may lead to higher consumer prices, impacting inflation and altering demand and consumption patterns.

FAQs

1. What is the purpose of a cess?

Ans. Cess is an additional tax levied by the Central Government to generate funds for specific objectives. It is primarily used when there is a need to finance particular public welfare initiatives.

2. Which goods are subject to cess?

Ans. Cess is typically levied on products considered luxury, harmful, or demerit goods, as well as items that have negative environmental or health effects. Common examples include tobacco, aerated drinks, vehicles, and coal.

3. Is compensation under GST taxable?

Ans. Compensation paid to allottees due to cancellation is not considered a supply for GST purposes, as the allottees had no choice but to accept the cancellation. Therefore, such compensation is not subject to GST.

4. Is it compulsory to pay cess?

Ans. The cess is not applicable to individual residential houses with a total cost of less than Rs. 10 lakhs. In all other cases, the payment of cess is mandatory.

5. What is the GST compensation limit?

Ans. In India, businesses with an annual turnover of up to Rs. 1.5 crore can opt for the composition scheme under GST. This scheme allows small businesses to pay a fixed tax rate instead of the regular GST rates.

6. Which country has the highest GST tax rate?

Ans. India has the highest GST rate among more than 140 countries, with a maximum rate of 28%. Other countries, such as Argentina, have a rate of 27%, while the UK and France apply a 20% rate, and Singapore has a 7% rate.

7. What is the GST Compensation Act?

Ans. The GST Compensation Act ensures that states are compensated for any loss in revenue caused by the implementation of the Goods and Services Tax. States will receive compensation for a period of five years from the time they implement their State GST Act.