High Fuel Prices in India — Should Petroleum Products be Brought under the GST Regime?

Introduction

Ever wondered why the Goods and Services Tax (GST) Council keeps petroleum products out of the GST regime? In light of petroleum products reaching sky high prices, the financial discomfort makes people question the Government’s inaction towards such inclusion. Many ordinary folks unaware of the provisions, whether or not, blame the three democratic tiers for their insensitive approach towards the public outcry. The Government has blamed rising international crude oil prices for the increase in domestic fuel prices. India imports more than 80% of its oil supplies¹ and the price of crude oil in the international market does have a significant impact on domestic fuel prices.² The current drop in international crude oil price does not promulgate the same in the country. Our emancipator, Kerala High Court, comes up to our rescue slamming the “washing off hands” act of the Government and encouraging the riveting debate among the populace.

Taxation structure in India

Fuel plays a pivotal role in driving India’s socio-economic progress, and its pricing structure has a complex historical background. The cost of petrol and diesel at retail outlets in India is primarily determined by three main factors: Excise duty imposed by the Central Government, value added tax (VAT) enforced by individual State Governments, and the commission earned by fuel dealers. Without these factors, the basic cost of both fuels remains slightly above Rs 30 per litre. However, due to the inclusion of these taxes, consumers often end up paying more than Rs 70 for petrol and Rs 58.70 for diesel.³

As of 1-4-2014, the excise duty on unbranded diesel was Rs 3.56 per litre, and for petrol, it was Rs 9.48 per litre. Over the next three years, these rates increased significantly. By 2017, the excise duty on diesel had risen by over 380% to Rs 17.33 per litre, while the duty on petrol had grown by over 120% to Rs 21.48 per litre. These sharp increases substantially boosted the Government’s excise revenue, which grew from Rs 99,184 crores in 2014-2015 to Rs 2,42,691 crores in 2016-2017, significantly aiding the Government in reducing its budget deficit. By 12-9-2017, fuel prices had seen a noticeable rise, with petrol costing Rs 70.38 per litre in Delhi and diesel priced at Rs 58.72, while in Mumbai, during the same period, petrol was priced at Rs 79.48 per litre, and diesel was sold at Rs 62.37 per litre.⁴

A significant point of debate regarding fuel taxation in India has been the exclusion of petroleum products from the scope of GST. While the Central Government advocates for a uniform national tax on these fuels, State Governments, benefiting from the substantial revenues generated from petroleum products, resist this change. Their hesitation is further justified by the direct revenue collection mechanism facilitated by public sector oil companies, which minimises losses related to corruption that can occur with other State taxes.

Hence, comprehending the pricing of fuel in India necessitates navigating through the intricate web of Central and State-level taxation, which not only influences the economic structure but also becomes intertwined with political strategies and priorities.

Rangarajan Committee Report

In February 2006, the Committee on Pricing and Taxation of Petroleum Products⁵ was established. This initiative followed the Government’s decision to terminate the administered pricing mechanism (APM) starting from 1-4-2002. Despite this change, subsidies for PDS kerosene and domestic LPG, aimed at assisting economically disadvantaged groups, were retained.

Reasons for forming the Committee⁶

(i) A proposal was put forth to continue subsidies for PDS kerosene and domestic LPG at a fixed rate, financed from the budget and phased out within 3 to 5 years.

(ii) Simultaneously, Oil Marketing Companies (OMCs) were assigned the task of aligning retail prices of these products with international rates. However, no adjustments were made for PDS kerosene and domestic LPG.

(iii) Losses incurred from these products were shared equally between upstream entities such as ONGC, OIL, GAIL, and the OMCs.

(iv) Subsidies led to significant expenses, with PDS kerosene costing Rs 15,000 crores and domestic LPG at Rs 11,000 crores.

(v) OMCs collectively experienced declining profits, with profits decreasing from Rs 10,818 crores in 2003-2004 to Rs 7193 crores in 2004-2005, and further to Rs 2898 crores in the initial 9 months of 2005-2006. This occurred despite receiving Rs 9750 crores from upstream and a budgetary subsidy of Rs 2000 crores.

(vi) The issuance of oil bonds raised fiscal concerns and did not effectively address OMCs’ challenges.

(vii) Given the projection of stable international crude prices, there was an urgent need to address pricing and subsidy modifications due to the deteriorating financial state of oil companies.

Primary recommendations⁷

(i) Shift refinery gate prices from import parity price to trade parity price (80% IPP and 20% EPP) also applied for determining retail prices.

(ii) Post this shift, the Government should distance itself from pricing decisions, allowing OMCs to set retail prices with flexibility, fostering competition.

(iii) OMCs should maintain transparency about pricing methodologies and share them publicly through their websites.

(iv) Abolish the freight equalisation principle, exploring alternative solutions for managing freight impacts.

(v) Maintain 5% customs duty on crude and reduce duty on petrol and diesel from 10% to 7.5%, lowering the effective protection rate for refining from 40% to 20%.

(vi) Standardise excise duties on petrol and diesel, with regular revisions included in annual budget considerations.

(vii) Address the issue of sales tax and VAT, which heavily relies on the oil sector for a third or more of total state sales tax collections, causing an unhealthy dependence on a single sector.

(viii) Restrict subsidies for kerosene exclusively to below poverty line (BPL) households.

(ix) Enhance rural electrification initiative (Rajiv Gandhi Grameen Vidyutikaran Yojana) as a significant portion of PDS kerosene was used for lighting.

(x) Increase the price of domestic LPG cylinders by Rs 75 immediately and gradually align further increase with market rates.

(xi) Discourage the issuance of oil bonds due to their inefficacy in addressing core issues.

Analysis of Expert Group’s Report on a viable and sustainable system of pricing of petroleum products

Significant difficulties have been brought about by India’s growing reliance on imported oil products and the sharp rise in crude oil prices on the world market to $148/bbl in July 2008 before they sharply declined. The Government’s efforts to protect consumers’ interests have placed a heavy financial load on the Government and created serious financial issues for oil firms. And the economy’s growth trajectory will be disrupted as a result of the sharp decline in crude oil prices. Due to these problems, it was necessary to develop a workable and long-term pricing strategy for the four major oil firms’ petrol, diesel, kerosene and LPG products. Therefore, in this context, the Expert Group was set up by the Ministry of Petroleum and Natural Gas on 31-8-2009.⁸

Analysis and what was recommended⁹

(i) Owing to the growing reliance on imported oil, the volatility of oil prices on the global market posed challenges for predicting future prices. The domestic costs of petroleum products needed to align with international prices.

(ii) The market witnessed reduced competition, leading private entities to exit due to government restrictions preventing PSU OMCs from passing on global price hikes to consumers.

(iii) A suggestion was made to allow market forces to determine petrol prices both at the refinery entrance and retail levels, considering that vehicle owners could absorb these costs.

(iv) Similar market-based pricing for diesel was recommended at both refinery entry points and retail, given the absence of compelling reasons for subsidisation.

(v) Encouraging similar retail prices for petrol and diesel was advised to discourage diesel use in passenger vehicles, as petrol is cleaner.

(vi) A well-functioning distribution system for PDS kerosene and LPG through UID/Smartcard mechanisms was proposed. Rationalising kerosene allocation across States could reduce nationwide allocation by 20%, further curtailed by promoting PNG, LPG, and rural electrification.

(vii) Advocating a Rs 6 per litre increase in PDS kerosene price, followed by annual adjustments matching per capita agricultural GDP growth.

(viii) Proposing a Rs 100 per cylinder hike in domestic LPG prices, with revisions linked to paying capacity based on per capita income. Subsidies should persist for BPL households.

Analysis of expert group’s advice on pricing methodolgy of diesel, domestic LPG and PDS kerosene

The shifting dynamics within the global oil market, characterised by significant and fluctuating changes, notably exemplified by the surge to $148 per barrel in July 2008 followed by a sharp decline, posed intricate challenges for India. As the nation grappled with an increasingly profound reliance on imported oil, the consequences unfolded in two distinct ways. On one hand, the Government faced amplified fiscal pressures due to its protective stance toward consumers, while on the other, oil corporations wrestled with escalating financial complexities. These financial stressors, coupled with the downturn in oil prices, presented a potential obstacle to the country’s economic advancement. Consequently, these complexities spurred the necessity to establish a robust and sustainable pricing strategy for fundamental petroleum products, encompassing petrol, diesel, kerosene, and LPG. In response, the Ministry of Petroleum and Natural Gas formed an Expert Group in August 2009 to thoroughly explore this matter.

Upon careful examination, the Expert Group recognised that the growing dependence on oil imports, combined with the unpredictability of global oil price trends, posed challenges in forecasting future prices. It became imperative for domestic petroleum prices to align with international trends. A notable observation highlighted the diminishing competition within the market, largely attributed to the Government’s policy of preventing Public Sector Unit Oil Marketing Companies (PSU OMCs) from passing on global price increases to end consumers. This policy stance inadvertently discouraged private entities from participating in the market.

The key observations and findings by the group, on the basis of which the aforementioned recommendations were made, include capability of petrol prices to accommodate cost fluctuations due to its predominant consumption by vehicle owners, lack of justifiable reasons for subsidies on diesel prices, petrol’s superior environmental impact as compared to diesel, as well as requirement for a comprehensive restructuring of the distribution mechanisms for PDS kerosene and LPG.¹⁰

Examination and recommendations¹¹

(i) To secure the nation’s energy requirements and ensure the long-term sustainability of the petroleum sector, India must maintain self-sufficiency in the refining domain. This necessitates the development of a robust refining sector for India’s future.

(ii) In regard to the pricing mechanism, the group explored various pricing methods and observed that no single, exclusive mechanism could accurately represent the appropriate pricing approach for domestic rates in the country. Hence, the most appropriate course of action was to transition towards a free market model by liberating price control.

(iii) For diesel prices, the recommendation was to immediately increase the price by Rs 5 per litre, while capping diesel subsidies at Rs 6 per litre. The remaining under-recovery should be offset by a subsidy of Rs 6 per litre to PSU OMCs, gradually phasing it out.

(iv) Regarding PDS kerosene, the group suggested fast-tracking and completing the DBT subsidy transfer scheme for below poverty line (BPL) families within 2 years. Concurrently, an immediate Rs 4 per litre increase in kerosene price was advised, followed by periodic revisions. Its pricing might continue based on import parity price (IPP).

(v) To reduce the allocation of PDS kerosene, rural electrification and increased availability of LPG and PNG were recommended to cater to customer needs.

(vi) For domestic LPG, it was proposed to reduce subsidised cylinder entitlement from 9 to 6 cylinders per year. The DBT scheme could be confined to specific families identified through exclusion criteria.

(vii) The immediate suggestion was to raise the price of subsidised LPG by Rs 250 per cylinder, with a gradual phasing out of the remaining subsidy over the next 2 years.

(viii) Rapid promotion of Piped Natural Gas (PNG) in urban areas was advised. Given the nation’s dependence on imported LPG, the refinery gate price of domestic LPG should continue on an IPP basis.

(ix) Recommending that GAIL’s contribution not exceed the gross profit margin from LPG sales due to the reduced availability of administered price mechanism (APM) gas.

(x) The recommendation was to grant OMCs the freedom to procure crude oil and petroleum products through a mix of spot purchases and long-term contracts from available sources.

Pricing mechanism of alternatives of petrol, diesel and LPG

Examining the pricing mechanisms for ethanol in the EBP Program

In the present scenario, the pricing framework for 1st generation molasses-based ethanol, integral to the Ethanol Blended Petrol (EBP) Programme, is primarily governed by State directives. These prices are set based on recommendations from a Designated Committee, tasked explicitly for this purpose. The Government’s commitment to bolster the biofuel industry is evident, with a clear intention to either maintain directed prices or transition to market-determined rates. Such decisions will be contingent upon a myriad of factors, ranging from prevailing economic climates, domestic biofuel availability, requirements to offset imports, among others.

Furthermore, there is a distinctive emphasis on promoting advanced biofuels. Recognising their potential and inherent benefits, these biofuels are set to be priced differentially, aiming to provide them with a competitive edge and stimulate their uptake. The specific modalities and strategies for determining these differential prices will fall under the purview of the National Biofuel Coordination Committee. Through such mechanisms, the Government aims to ensure a robust biofuel ecosystem, balancing both economic and environmental imperatives.

The current price of bioethanol extracted from various sources are as feedstocks as decided by the Cabinet Committee on Economic Affairs (CCEA) headed by Prime Minister is as follows —

Feedstock	Price (Rs/litre)
Sugarcane juice	Rs 62.65
C-heavy molasses	Rs 45.69
B-heavy molasses	Rs 57.61

Pricing structure for biogas within the Sustainable Alternative Towards Affordable Transportation (SATAT) Scheme¹²:

(i) The purchase rate of compressed biogas (CBG) from 1-10-2018 to 31-3-2024 stands at Rs 46 per kilogram plus relevant taxes.

(ii) The procurement rates will undergo periodic revisions starting from 1-4-2024. However, the minimum procurement price during the period from 1-4-2024 to 31-3-2029 will not be set lower than Rs 46 per kilogram along with applicable taxes.

(iii) The retail cost of biogas remains consistent with compressed natural gas (CNG) prices, as observed in sales at retail fuel outlets and distribution through city gas distribution (CGD) pipelines.

(iv) Pricing mechanism for hydrogen fuel.

(v) Hydrogen’s current cost is relatively high, but there exists the potential for cost reduction.

(vi) In India, grey hydrogen presently costs around INR 150-200 per kilogram (equivalent to approximately 2 USD per kilogram plus significant transportation expenses). Consequently, it becomes economically viable for on-site applications.

(vii) Green hydrogen, utilising the most budget-friendly renewable power available in India, is priced at approximately Rs 350 per kilogram.

(viii) Additionally, the Government of India has not established a tax framework specifically for hydrogen as a fuel for transportation or any other purposes.

Significance of GST on economy

GST, in its essence, embodies the concept of “one nation, one market, one tax”. The purpose of this initiative has been unifying India’s vast population of 1.3 billion under a single indirect taxation framework. To comprehend the impact of GST on the broader Indian economy, it is important to understand its scope and various types. GST is levied at each stage of production and sale of goods and services across India. This tax is collected at the point of consumption. GST is divided into three sub-categories: CGST (Central goods and services tax), which the Central Government collects for inter-State trade of goods and services; SGST (State goods and services tax), collected by State Governments for intra-State transactions; and IGST (integrated goods and services tax), imposed on the supply of goods and services from one State to another. The revenue generated from these taxes is shared between the Central and State Governments.¹³

Impact of GST on the Indian economy

(i) Simplified taxation: The introduction of GST streamlined India’s tax structure by replacing numerous levies with a single tax. This enhanced transparency ensures consumers understand the tax components in their purchases, which holds implications for India’s GDP trajectory.

(ii) Resource allocation: The implementation of GST led to a reduction in the total tax burden, allowing resources to be reallocated more efficiently for production activities.

(iii) Empowerment of SMEs: The composition scheme under GST offers differential tax rates based on annual turnover. This supports small enterprises, as businesses with turnovers of 50 lakhs and 1.5 crores are subject to 6% and 1% GST, respectively.

(iv) Increased export volume: A significant economic impact has been the reduction in custom duties on exported goods. Lower production costs and export duties incentivise businesses to increase exports, thereby enhancing trade volumes.

(v) Facilitated Pan-India operations: A uniform tax structure has simplified the movement of goods across State borders, improving national operational efficiency.

(vi) Elimination of tax cascading: The amalgamation of State and Central taxes under the GST umbrella mitigates the cascading tax effect, resulting in more transparent and often reduced tax burdens for both consumers and sellers.

The implementation of GST marks a transformative phase in India’s economic landscape. By simplifying tax structures, supporting SMEs, and creating an environment conducive to trade and business, GST has laid the groundwork for a more resilient and unified Indian economy. Further research should delve into the long-term effects and potential areas of improvement within this taxation system.

Should petroleum products be within the purview of GST?

Certainly, below is a comprehensive overview discussing the inclusion of petroleum products within the goods and services tax (GST) framework, as of my last update in September 2021.

The incorporation of petroleum products into the ambit of the goods and services tax (GST) has been a topic of prolonged deliberation in India. While initially kept outside its purview, the feasibility of such an inclusion has gained renewed attention in light of contemporary global and domestic developments.

Advantages of incorporation¹⁴

(i) Uniform price structure: Encompassing petroleum products under the GST umbrella could potentially usher in a standardised tax rate, thereby mitigating price disparities between different States.

(ii) Simplified taxation: Rationalising the tax structure could alleviate administrative complexities, fostering greater transparency and efficiency in the taxation process.

(iii) Economic stimulus: With regulated fuel costs, sectors reliant on petroleum derivatives (such as transportation and logistics) might observe cost reductions, potentially fueling economic expansion.

(iv) Inflation management: Consistent and uniform fuel prices might aid in controlling inflation, contributing to stabilisation in the prices of goods and services reliant on fuel.

(v) Boosting electric vehicle transition: A potential reduction or rationalisation of fuel prices could provide the Government with the flexibility to reallocate resources and incentives towards promoting the adoption of electric vehicles.

Obstacles and considerations¹⁵

(i) Loss of revenue: Several States heavily rely on revenues generated from petroleum products. The implementation of a uniform GST rate might adversely impact this income, particularly for States where petroleum products constitute a substantial portion of their economy.

(ii) Determining tax slabs: Establishing the appropriate GST slab for petroleum products could be contentious. A lower slab could lead to revenue deficits, while a higher slab might not necessarily yield the intended price rationalisation.

(iii) Surge in demand: Lower prices might induce higher consumption of petroleum products, potentially contradicting India’s environmental aspirations and commitments towards carbon emissions reduction.

(iv) Transition challenges: Effecting this transition necessitates substantial administrative and infrastructural alterations, which could potentially result in temporary disruptions.

In the context of the global emphasis on sustainable energy sources and the commitment of nations to reducing their carbon footprint, policies surrounding petroleum products are undergoing increased scrutiny. Many argue that rather than extending subsidies or tax concessions on fossil fuels, Governments should channel efforts towards cleaner energy alternatives.

The decision regarding the inclusion of petroleum products under the GST regime is multidimensional. While there are conceivable economic advantages, the associated challenges cannot be disregarded. Given the global push for sustainability and India’s desire for post-pandemic economic rejuvenation, a balanced, phased, and well-informed approach is imperative. Engaging in multi-stakeholder consultations, studying models adopted by other countries, and assessing the long-term environmental and economic implications will be pivotal in shaping this decision. Application of GST to all petroleum products would supplant VAT and excise duty. Imposition of GST on fuel would substantially impact the petroleum prices. Even if the highest GST tax slab of 28% were imposed on fuel, it would potentially narrow down the tax range by around 10%-20% as compared to the current VAT and excise duty regime, thereby indicating a relative decrease in tax rate leading to tax savings that would directly impact the disposable income of households.¹⁶

Conclusion

After extensive research conducted through primary and secondary methodologies, several critical insights have emerged. Currently, two primary petroleum products, namely, petrol and diesel, remain excluded from the ambit of the goods and services tax (GST) framework. These commodities serve as substantial sources of revenue for both the Central and State Governments.

Simultaneously, the energy sector is undergoing a transformative shift, with a discernible shift away from conventional fuels like petrol and diesel towards sustainable and alternative energy sources. Nevertheless, State Governments are showing reluctance to bring petrol and diesel under the purview of GST, primarily due to the significant revenue generated by these products. Additionally, the Central Government lacks a well-defined strategy and roadmap to transition these fuels into the GST system, considering the potential revenue deficits that such a move might entail.

The persistent issue of high fuel prices is having a twofold effect: discouraging consumers from using petrol and diesel while inadvertently incentivising the exploration and adoption of alternative energy solutions. However, challenges remain. Emerging alternative fuels, such as hydrogen, are still in developmental stages and currently cost prohibitive. Thus, paradoxically, maintaining higher prices for traditional fuels might stimulate innovation and adoption in the alternative energy sector.

Importantly, India heavily relies on crude oil imports to meet its energy demands, which places substantial financial burdens and strains on the nation’s fiscal deficit. The inclusion of petrol and diesel into the GST regime could potentially lead to increased consumption, exacerbating fiscal deficits and contributing to environmental degradation due to elevated pollution levels.

Considering these various factors, it can be concluded that incorporating petrol and diesel into the GST framework may not be the optimal strategy for the foreseeable future. Striking a balance between fiscal health, environmental concerns, and the push towards alternative energy sources suggests that retaining the current pricing mechanisms for petrol and diesel is advisable. Hence, it is prudent to keep them outside the GST ambit in the long-term, ensuring stability and fostering sustainable growth.

Currently, petrol and diesel remain excluded from the GST regime, serving as significant revenue sources for both Central and State Governments. The energy sector is transitioning towards alternative fuels, but State Governments exhibit reluctance to include petrol and diesel in GST due to revenue apprehensions. The Central Government lacks a clear strategy for their GST inclusion. While high petrol and diesel prices discourage use, they drive exploration of alternatives. Hydrogen and other alternatives are costly and under development, necessitating higher traditional fuel prices. Encouraging cleaner alternatives should be a priority. India’s dependence on crude imports impacts fiscal deficits. Integrating petrol and diesel into GST could raise consumption and deficits, exacerbating pollution. Therefore, maintaining current pricing mechanisms is advised for long-term stability and sustainable growth.

The debate surrounding the integration of petroleum products into the GST framework remains central in India’s fiscal policy discourse. This discussion has gained urgency due to fluctuating global crude prices and industry demands. The crux of the matter involves striking a delicate balance between State Revenue considerations and broader economic dynamics.

Since its inception, GST has aimed to establish a uniform taxation system across the nation. However, the incorporation of petroleum products into this structure has faced resistance, mainly due to its potential impact on State Revenues. States are generally inclined to observe revenue stabilisation under the current GST system before considering structural changes.

Despite State caution, several industries advocate for early inclusion of petroleum products in GST. Their rationale centers on the ability to claim input tax credits, providing fiscal relief, particularly given volatile oil prices. This urgency gained momentum when the average cost of the Indian crude basket surged to $75.31 per barrel in May 2018, a substantial rise from the averages of $47.56 and $56.43 in FY 2017 and 2018, respectively.

The imposition of GST on petroleum, oil, and lubricants (POL) has been contentious since the GSTs inception. Each State in India maintains a distinct tax structure for these products. Incorporating them into the GST system raises concerns about potential fiscal autonomy losses. Petroleum products significantly contribute to State Revenues, and there is apprehension about potential shortfalls in revenue if these products are subsumed into GST.

Recognising the complexities, the Central Government, in the phased approach it has been contemplating, the proposal is to include natural gas and aviation turbine fuel within GST, as a precursor to broader inclusion of petrol and diesel. However, certain States, including Bihar and Kerala, have expressed reservations. These States have declined the Central Government’s appeal to include petrol and diesel in GST, particularly in the face of escalating global prices.

The potential integration of petroleum products into GST represents a multifaceted challenge with substantial economic and political implications. Achieving consensus demands a nuanced understanding of State-specific fiscal concerns and broader economic imperatives. The coming months are likely to witness intensive discussions, potentially shaping the trajectory of India’s GST framework.