Recent changes in GST and its impact
Rohit Agarwal
Hello, I’m Rohit Agarwal, a seasoned Chartered Accountant with over 12 years of specialized experience in Goods and Services Tax (GST) and indirect taxation. Based in Kolkata, I am a Partner at AAN Associates LLP, where I provide expert guidance and support to clients navigating the complexities of GST and indirect tax laws.
The Goods and Services Tax (GST) was launched in India in July 2017, with the aim of unifying various indirect taxes under a single, destination-based tax framework. Over time, various rate slabs and cesses were introduced, making the structure relatively complex. In 2025, the government undertook a major rationalization of GST slabs — often dubbed “GST 2.0” or “Next-Gen GST” — with the objective of simplifying the tax regime, relieving burden on households, and stimulating demand.
What changed: The new GST slab structure
The old slab structure
Before the 2025 reform, the GST system had multiple slabs (for goods and services) — commonly 5%, 12%, 18%, and 28% — plus additional cesses (often called “compensation cess”) on certain luxury or sin goods.
This multi-slab design, while intended to reflect differences in necessity, value, and capacity to pay, also led to overlaps, classification disputes, inverted duty structures, and compliance burden.
The new slab structure (effective September 22, 2025)
In its 56th GST Council meeting (held 3 September 2025), the government approved sweeping slab rationalization.
Key changes:
- The intermediate slabs of 12% and 28% are eliminated.
- A two-slab system is now adopted:
• 5% (lower)
• 18% (standard) - A special 40% slab is introduced for sin goods / luxury / demerit goods (e.g. tobacco, cigarettes, pan masala, gutkha, etc.).
- Certain goods are moved into exemption / 0% category (for essentials) — e.g. UHT milk, paneer, stationery, etc.
- Also, life & health insurance premiums have been made GST-exempt (i.e. removed from 18% previously) under the reform.
- Some exceptions: items like cigarettes, etc., which still attract compensation cess, may temporarily remain under older rate until cess obligations are settled.
Slab | Applicable to | Notes / examples |
5% | Many essential goods, daily use consumer goods | Items moved from earlier 12% to 5%; soaps, toothpaste, packaged foods, medicines, etc. |
18% | Most goods and services, including those earlier taxed at 28% | Consumer durables, electronics, cement, automobiles (small cars), etc. |
40% | Sin / luxury / demerit goods | Tobacco, pan masala, gutkha, high-end luxury goods |
0% / Exempt | Basic essentials | Some food items, UHT milk, paneer, stationery moved to exempt category |
One estimate suggested the shift would involve reclassifying about 440 items — e.g. 255 from 12% to 5%, 54 from 18% to 5%, 38 from 12% to zero, 29 from 28% to 18%.
Another summary states that by scrapping 12% and 28%, many items will now clearly fall into either 5% or 18%.
These changes take effect from 22 September 2025.
Thus, the new GST structure is much leaner: essentially two broad slabs plus a high sin slab and exemptions for certain essentials.
Why the change?
The government and economists have cited several interrelated reasons for this rationalization. Broadly, they fall into categories of simplification, demand revival, tax efficiency, fiscal balance, and equity.
1. Simplification & reduction of compliance burden
One of the consistent criticisms of the multi-slab regime was the classification complexity. Sometimes, very similar goods would be taxed at different rates, causing disputes over headings, interpretations, and litigation.
Smaller businesses and MSMEs often struggled with such gray zones, leading to inadvertent misclassifications, penalties, and inefficiency. The new two-slab regime is intended to reduce these ambiguities and ease compliance.
2. Stimulate consumption / revive demand
A key driver is the desire to boost aggregate demand, especially since in recent years consumer spending has been somewhat sluggish in certain segments. Reducing GST on many daily-use items is expected to leave more disposable income in households, thereby increasing consumption.
By lowering tax on consumer goods, the government hopes to trigger a “multiplier effect” — more sales, higher production, more jobs. This is especially relevant ahead of festive seasons, when consumer demand tends to surge.
3. Address inverted duty structures and distortions
Under the older regime, there were cases where input goods had a higher GST rate than the output goods, leading to inverted duty problems. E.g. some component goods taxed at 18–28% being used to produce final goods taxed at a lower slab. Such mismatches hamper industry profitability and create refund burdens. The rationalization can help correct some of these distortions.
Similarly, the shift ensures more consistency between raw materials and finished goods in many sectors, reducing cascading incidence of taxes.
4. Fiscal and revenue considerations
While the changes involve rate cuts (for many goods), the government has sought to balance this with:
- The 40% sin/luxury slab, which channels higher revenue from inelastic categories (tobacco, etc.) to make up some of the revenue loss.
- Expectation of higher economic growth and higher overall base to help revenue buoyancy.
- Improving compliance and reducing leakages, which may partially offset revenue losses.
Indeed, the government’s estimate (as reported) suggested that revenue shortfall may be ₹93,000 crore or so from the rate cuts.
5. Political and social equity optics
Tax cuts on essentials tend to be politically popular, especially in a country with a large lower and middle-income population. Reducing the tax burden on everyday items like soaps, toiletries, packaged foods, and medicines helps in terms of perceived fairness and easing inflationary pressures.
Moreover, with inflation being a recurring concern, this move helps to partially cushion consumer prices and provide relief.
6. Long-term vision: move toward single rate?
Some commentary sees this as a stepping stone toward a more “flat” or unified GST rate structure in the future, once the system stabilizes.
In sum, the rationale is an interplay of alleviating burden on consumers, streamlining tax design, correcting distortions, and achieving better compliance, while cautiously balancing revenue needs.
Impact on the economy
Implementing such major tax reform will have ripple effects across sectors, households, government finances, and macroeconomic variables. Below we explore the likely impacts — positive, negative, and uncertainties.
1. Impact on consumers / households
Benefit from lower prices on many consumer goods:
Because many items are moving from 12% to 5%, or from 28% to 18%, the tax component for those goods reduces significantly. This should translate into lower retail prices (or at least curb future price increases).
Kotak Securities estimated that middle-income families might see savings of ₹3,000–₹5,000 annually in household expenditure.
Improved real incomes and purchasing power:
With a lower GST burden on essentials, households will have more residual income to spend or save, which could particularly aid lower-income and middle-income segments. This boost in purchasing power may stimulate consumption, especially for discretionary goods.
Differential benefit across segments:
Those who spend more on consumer goods will benefit more. But for households with consumption leaning heavily toward exempt or zero-rated goods, the gains may be modest. Also, for sin goods (like tobacco), their tax burden increases. Thus, consumption patterns might shift.
Inflation moderation:
By lowering indirect tax incidence, inflationary pressures—especially for FMCG, personal care, packaged foods—may moderate. This is relevant in an environment where food inflation often dominates the inflation basket. Some of the reductions may pass through to consumers, easing cost of living pressures.
2. Impact on businesses, industries & sectors
Reduced compliance cost and complexity:
With fewer slabs, classification is simpler, fewer disputes, faster audits and refunds, less litigation. Especially helpful to small & medium enterprises, which often struggle with tax administration.
Stimulus to consumer-facing sectors:
Sectors such as FMCG, consumer durables, automobiles, electronics may see a boost from lower consumer prices and increased demand. For instance, small cars have moved from 28% to 18%, electronics from 28% to 18%, etc.
Real estate and construction cost benefits:
Materials like cement, building inputs, etc., which earlier attracted higher rates, now being taxed at 18% may reduce construction costs marginally. This might help reduce margins or be passed to buyers.
Benefit to MSMEs:
Many small firms will face lower administrative burden, fewer disputes, better compliance. Also, refund and input credit processes might become smoother, improving working capital.
Competitive pressure and margin compression:
For goods moving into lower slabs, companies may feel pressure to pass on tax savings (instead of absorbing them), especially if margins are tight. Some businesses in high GST segments will see reduced margins unless efficiency improves. Also, competition may intensify in segments where tax differential becomes less.
Logistics, supply chain efficiency:
With lower rates, the cost of freight and shipping may reduce (if transport services or fuel components get taxed lower), also possibly encouraging further optimization. Some studies argue that the declared reduction in freight GST from 12% to 5% helps logistics margins and reduces overall transport costs.
3. Impact on government revenues and states
Revenue shortfall concerns:
Rate cuts imply loss of tax revenue in the short run. The government estimates a loss of about ₹93,000 crore from the slab rationalization.
To partially compensate, the 40% sin/luxury slab is expected to recoup some portion, especially since such goods tend to have inelastic demand.
Furthermore, improved compliance and reduced leakages may partly offset losses.
Burden sharing between center & states:
Since GST is a shared tax, states will be sensitive to revenue shortfalls. The challenge is to ensure that states are compensated or assured revenue adequacy, especially since some states are dependent on GST (and cess) revenues. The removal of compensation cess (for many goods) complicates state compensation mechanisms.
Long-run revenue buoyancy through growth:
If consumption and economic activity pick up significantly, the enlarged tax base and higher volumes may eventually lead to higher aggregate GST collections (even at lower rates). That is part of the government’s bet.
4. Macro and growth implications
Boost to GDP growth / demand multiplier:
Lower indirect tax burden leads to higher consumption, which can drive industrial and services output. Some analysts expect growth uplift of 0.7–0.8% in GDP due to this reform.
The RBI bulletin itself anticipates that the reforms will “reduce retail prices and stimulate consumption.”
Inflation and monetary policy interplay:
With slower inflation, the central bank gains more flexibility. Lower cost push inflation helps manage price stability, giving space for accommodative policy if needed.
Formalization and better tax compliance:
Simpler slabs and reduced complexity may encourage better compliance, reduce black market transactions, and bring more economic activity into the formal sector. Over time, this deepens the tax net.
Sectoral rebalancing:
Growth may shift more to consumption-led sectors (consumer goods, electronics, auto) and less burden on capital-intensive heavy industries. This might help job creation in labor-intensive sectors.
Risks to fiscal stability and crowding out:
If the revenue shortfall is large and persistent, it could force higher borrowing, reduce public investment, or crowd out private investment. Managing this balancing act is critical.
Conclusion
The 2025 GST slab overhaul in India marks one of the boldest reforms in the country’s indirect tax architecture since GST’s inception. By collapsing multiple slabs into a simpler 5% and 18% structure (with a 40% slab for sin goods), the government aims to ease the tax burden on households, stimulate consumption, reduce complexity, and position the economy for higher growth.
All eyes will be on the upcoming budgets, the GST collections months ahead, state reactions, and sectoral growth. For consumers, this could mean lower prices on many everyday goods. For businesses, a simpler system with fewer disputes. For policymakers, it’s a gamble: simplifying tax structure while preserving fiscal balance.
For any clarifications or queries, please feel free to reach out to us at admin@fintracadvisors.com
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