8 Years of GST: Why petroleum and alcohol are still outside its scope —and what lies ahead

The Goods and Services Tax (GST), introduced in India on 1 July 2017, marked a significant tax reform aimed at creating a unified indirect tax system. As the nation celebrates the eight-year milestone of this ambitious yet challenging reform, several issues continue to dominate debates among industry stakeholders, the public, and policymakers.

One of the most prominent concerns is the exclusion of key revenue-generating items such as petroleum products and alcoholic liquor for human consumption from the ambit of GST. This exclusion has led to a fragmented indirect taxation system, raising concerns among policy experts, businesses, and state governments.

A simple analysis of the reasons behind keeping these products outside the GST framework reveals several constitutional, economic, and legal dimensions. 

A. Constitutional and legal provisions

Article 366(12A) of the Constitution, as amended by the GST Act, excludes alcohol for human consumption from the definition of GST.

For petroleum products, Entry 54 of the State List allows states to continue levying VAT on five petroleum products: crude oil, motor spirit (petrol), high-speed diesel, natural gas, and aviation turbine fuel (ATF) until a date decided by the GST Council.

B. Revenue concerns of states

States derive a significant portion of their revenue from VAT on alcohol and petroleum. For many states, these contribute over 25-30% of their tax revenue.

Inclusion in GST would require sharing this revenue with the Centre, thus reducing the financial autonomy of states.

C. Political and fiscal autonomy

Alcohol taxation is a politically sensitive issue with strong cultural and social implications.

States fear losing control over taxation policy, pricing, and the ability to influence consumption patterns through excise duty and VAT.

D. Price volatility and revenue uncertainty

GST is a destination-based consumption tax, and prices of petroleum products are subject to international crude oil prices. Bringing them under GST could cause frequent changes in tax revenue, affecting fiscal planning.

Impacts of Exclusion

Fragmentation of the tax system: The GST was intended to create a seamless credit chain. Exclusion of petroleum and alcohol disrupts input tax credit (ITC) mechanisms for businesses using these as inputs (e.g., airlines, transport companies).

Cascading effect of taxes: Since ITC is not available on these inputs, there is tax on tax, increasing costs and hurting economic efficiency.

Compliance complexities: Businesses must comply with multiple tax regimes—GST for most goods/services and separate VAT/excise systems for petroleum and alcohol.

Suggestions and Proposals for Inclusion

However, economists, as well as tax and legal experts, acknowledge these practical challenges but suggest several approaches the government and GST Council could consider for inclusion.

Gradual inclusion approach: The GST Council may consider a phased inclusion of petroleum products, starting with natural gas or ATF, which are used primarily in industrial sectors.

Several industrial bodies have lobbied for natural gas to be brought under GST to enable input credit and reduce energy costs.

Revenue neutral rates: The government can work on a revenue-neutral GST rate for petroleum products to ensure that neither the Centre nor states lose revenue.

Compensation mechanism: A temporary compensation fund, similar to the original GST compensation scheme, could be created to make up for state revenue losses during the transition.

Alcohol inclusion through devolution: Constitutional amendments would be required to include alcohol for human consumption under GST.

A proposal could involve keeping alcohol under a separate GST slab with flexibility for states to add surcharges, thus retaining partial control.

Political consensus: The GST Council, comprising Union and State finance ministers, must build a political consensus, emphasising long-term economic gains over short-term revenue considerations.

In recent meetings of the GST Council (2023–2024), several states and industry bodies reiterated the need to bring natural gas and ATF under GST. While the Centre has shown interest in gradually including petroleum, though no timeline has been formally announced, the debate over alcohol remains largely politically contentious with little forward movement.

The exclusion of petroleum products and alcohol from GST undermines the objective of a comprehensive and unified tax system in India. While state revenue concerns and political sensitivities are real, the long-term benefits of inclusion—such as reducing cascading taxes, improving ease of doing business, and enhancing compliance—outweigh the short-term drawbacks.

Hence the government can consider prioritising inclusion of natural gas and ATF under GST to test implementation impacts. The GST Council could preferably design a flexible GST structure for petroleum and alcohol that allows state-level surcharges or additional levies, while establishing a time-bound roadmap for full inclusion with a clear compensation mechanism. Meanwhile, the authority can promote stakeholder consultations to build consensus and address political resistance.