The Indian government's troubled effort to streamline the nation's bloated and inefficient tax system has received a major boost with a parliamentary panel approving a compromise formula, including a commitment to compensate states for five years in case of loss of revenue after the introduction of the goods and services tax (GST).
Prime Minister Narenda Modi wants to create a unified national tax system and end the myriad state and local taxes that are a bureaucratic nightmare. This is part of his efforts to streamline the economy and end red tape.
But getting parliamentary approval for his plans has been a struggle because his ruling Bharatiya Janata Party (BJP) needs a two-thirds majority in the Upper House, where it is in minority.
In the compromise plan, the panel, which included 21 MPs from different parties, endorsed on Wednesday an additional 1 per cent tax above the GST rate to accommodate manufacturing states that fear revenue losses. The panel also endorsed exempting alcohol and five petroleum products, including high-speed diesel.
The 1 per cent tax is a flat tax and will go to the state from where the supply of goods originated. The federal government will collect it at the point of sale and then disburse it to the state.
Mr Modi now faces the challenge of persuading dissenters such as the Left parties, Tamil Nadu's All India Anna Dravida Munnetra Kazhagam and the Congress, to support the Bill.
The BJP, though, is confident.
The Bill, which needs to be ratified by at least half of the state assemblies, passed through the Lower House in May.
"Now, after the panel has given its report, we are confident it will sail through Parliament, hopefully in this session," said Mr Gopal Krishna Agarwal, BJP spokesman on economic issues. "We have consensus with many of the state governments and regional parties."
India has a complicated tax structure, ranging from an entry tax at each state border, federal sales tax, local sales tax and excise duty to a host of other taxes.
Each of the 29 states fixes its own rates, resulting in different levels of taxation on each product and service. A unified tax is expected to boost manufacturing, improve tax collection, reduce the scope for corruption and increase revenues.
A study by the National Council of Applied Economic Research said the GST could raise growth by 0.9 per cent to 1.7 per cent.
But many believe having two taxes - including the 1 per cent tax - would create distortions in the effort to create a unified market.
"The 1 per cent tax is a retrograde step. But, with the system we have now, we should go ahead with the Bill and try to fix the limitations in the future," said Mr Yashwant Hanumant Gharpure, former president of the Indo-Japan business council.
The Congress has opposed the 1 per cent tax and asked that the GST be capped at 18 per cent, while the panel has recommended 20 per cent.