Coal in the Next-Gen GST Reforms: Sustainability or Structural Strain?

The author is Srushti Mangesh Khule, a Fourth Year Student from NALSAR University of Law, Hyderabad.

Abstract 

The Next-Gen GST reforms introduced in September 2025 mark a major restructuring of India’s indirect tax system. The policy reform significantly alters the coal sector by increasing the tax slab from 5% to 18%, and eliminating compensation cess. This article raises the question of whether this reform projected as a step towards simplicity and sustainability in fact poses deeper structural challenges. It begins by analysing the impact on coal-producing states, and subsequently examines the implications for consuming states, industries, and broader inflationary trends. It further interrogates whether these reforms substantively advance the objective of “One Nation, One Tax”, or whether they risk entrenching new asymmetries within India’s fiscal federal framework. In doing so, it underscores the serious risk that the reforms may generate new fiscal strains, and intensify existing economic imbalances across states. 

The Next-Gen GST Reforms

At the 56th GST Council meeting held on 4th September 2025, the Council approves a major reform under the framework of the Next-Gen GST reforms. The reform shifts India to a simplified two-slab structure of 5% and 18%, removing the earlier rates of 12% and 28% and introducing a new rate of 40% on luxury and sin goods. It places most food products, household essentials, and life-saving drugs under NIL rates.  A significant component of this broader reform pertains to the energy sector. It reduces GST on renewable energy sources such as solar, wind, and biogas, while increasing the rate on coal and lignite from the 5% to 18%, alongside the removal of the ₹400/tonne compensation cess on coal. The critical question that arises is whether this reform presented as sustainable, remains viable in the coming years or instead masks deeper structural obstacles that remain largely overlooked. 

Coal as the Backbone of India’s Energy Basket

Coal plays a pivotal role in India's energy economy. India ranks as the world’s second-largest producer of coal, after China, and remains one of the largest consumers globally.  During the FY 2023-24, coal production in India reached 997.83 million tonnes, marking an increase of 11.71% from 893.19 million tonnes in FY 2022-23. Coal serves both as a primary energy source and as a critical raw material in diverse industrial processes. Coking coal is indispensable for steel production, while non-coking variants serve as thermal fuel in cement, paper, and chemical industries. Its by-products support a range of downstream industries, forming basis for chemicals such as benzene, dyes, plastics, and even pharmaceuticals. Most significantly, coal remains the dominant fuel for electricity generation, constituting the backbone of India’s power sector. It remains the pillar of India’s energy basket, providing about 60% of its entire energy usage.   Unsurprisingly, states rich in coal reserves such as Odisha, Jharkhand, and Chhattisgarh collectively account for 69% of coal production, with their economies relying heavily on the revenue generated from coal. Jharkhand alone derives nearly 17% of its revenues from coal, while Chhattisgarh follows at about 8%. 

Revenue Loss for Coal-Producing States

Against this backdrop, the new GST reforms generate a fiscal structural dilemma. In 2017, the compensation cess was introduced to compensate states for revenue losses due to the transition from the previous indirect tax system to the GST. Initially introduced as a temporary measure set for five years, by Gazette Notification it was extended till March 2026, in the wake of the COVID-19 pandemic. Its removal under the Next-Gen reforms deprives coal-producing states of a predictable revenue stream, as economic growth of the coal producing states in India is closely linked to coal production and the revenue generated from it (see The Economic and Fiscal Effects of Coal Production in India: A Panel ARDL Study of Seven Major Coal-Producing States). State revenue receipts comprise revenue generated from tax and non-tax sources, as well as transfers from the central government such as compensation grants or other grants. Mineral-rich states such as Chhattisgarh, Jharkhand, and Odisha rely heavily on non-tax revenues, particularly mineral royalties and extraction-based royalties. In the absence of compensation transfers, these states must increasingly depend on their own fiscal instrument to meet expenditure commitments. Moreover, because GST operates as a destination-based tax, the increase in coal rate from 5% to 18% accrues primarily to consuming states rather than producing states (see Does GST (Goods and Services Tax) in India Hurt Producing Regions? A New Estimate of the Tax Base Under GST of Select States). Consequently, coal-producing states do not directly benefit from the higher GST rate. This asymmetry may incentivise them to increase mineral levies or royalties on coal extraction in order to stabilise their fiscal position. While such measures could partially offset revenue losses, they are also likely to raise production costs. Given the role of coal as a critical intermediate input in electricity generation and core industrial sectors, higher extraction costs are likely to be transmitted downstream, thereby exerting broader cost-push inflationary pressures across the economy. 

Rising Costs in the Power Sector and Inflationary Pressures

Arguably, the consuming or industrial states will be able to absorb the higher input costs arising from the increased GST rate on coal. This argument rests on two principal assumptions: first, consuming states stand to gain from higher GST inflows under the revised 18% slab; and second, industries operating within these states may claim input tax credit (ITC) on coal purchases, thereby mitigating the impact of the rate increase. On the surface, these factors appear to cushion the fiscal and industrial burden. However, this claim does not stand firm in reality and overlooks structural constraints within the framework. 

The foremost and pressing concern arises in the power sector, which accounts for nearly 69% of India’s total coal consumption. State governments allocate a substantial portion of their subsidy expenditure to providing free or subsidised electricity for agriculture, domestic consumers, and specific industrial categories. Electricity, however, remains exempt from GST pursuant to Notification No. 02/2017-Central Tax (Rate) dated 28 June 2017.  Section 17(2) of the CGST Act, 2017, read with Rule 42 of the CGST Rules, prohibits the availment of ITC on inputs used for exempt supplies. Therefore, power producers cannot claim credit for GST paid on coal. This exemption breaks the credit chain entirely and converts the GST into a non-creditable cost. Power generators must therefore bear the brunt of the higher GST rate as well as any additional mineral levies imposed by producing states. 

Apart from power, coal is also indispensable for energy-intensive industries such as steel, cement, aluminium, and other heavy manufacturing sectors. In theory, these industries can claim ITC on coal, and the recent reduction in GST rates for many of their outputs might suggest lower prices for end consumers. However, this relief may remain illusory. These industries require coal as a direct input but also consume substantial electricity, both of which fall outside the GST credit framework.  Therefore, the net result is higher input and energy costs, which constrain the transmission of reduced GST rates onto the end-product prices.  

Moreover, even where ITC remains available, its benefits remain fragile. If coal-producing states respond to revenue pressures by increasing mineral levies or royalties, the base price of coal rises before the GST is imposed. ITC applies only to the tax component and does not offset an increase in the underlying raw material cost. As a result, industries cannot thoroughly mitigate the escalation through credit claims.  Over time, industries are likely to pass these accumulated cost increases onto consumers. Consequently, despite the GST rate rationalisation for certain goods, the net effect on end-product prices may remain limited, and inflationary pressures may persist across the broader economy. 

This situation points towards a cost-push inflationary trend, whereby rising essential input costs increase overall production expenses. As these higher costs spread across sectors the resulting cost increases tend to push prices upward throughout the economy (see Inflation: Prices on the Rise, IMF Finance & Development). Consumers may initially be led to believe that lower GST rates on certain goods will make them cheaper. In reality, the claim that GST rate rationalisation will reduce market prices risks being turned into a misleading statement. The fueling inflation undermines both consumer welfare and industrial competitiveness. 

It is essential to highlight the concern that has resurfaced in the light of Mohit Minerals v UOI, 2022. Industrialists have cautioned that higher mineral levies would ripple through all sectors. According to Business Standard report, higher levies will directly affect the company's profitability and reduce its investment capacity. Many have also pointed out that India already ranks among the highest in the world in terms of mineral taxation. Adding further to this burden could discourage production rather than encourage expansion.

What happens to One Nation, One Tax?

In 2017, GST was introduced to replace the messy patchwork of state and central levies with a uniform and predictable system. The first pillar of the new Next-Gen GST reforms reiterates this vision of one nation, one tax. In 2024, a nine-judge Constitutional Bench of the Supreme Court, with an 8:1 majority, held that states have the power to collect royalty and impose tax on mines and minerals. With the removal of the compensation cess, the new reform will require each state to collect mineral levies and royalties at different rates. It will lead to variations in coal prices and tax burdens across states, contradicting the vision behind the introduction of GST. It will further complicate the compliance procedures and increase the administrative burden. 

Conclusion

Coal remains the cornerstone of the Indian economy, yet in the current debate it often seems overlooked. The Next-Gen GST reforms have arrived  promising simplicity, sustainability, and a renewed vision of “one nation, one tax.” However, when we look at coal, the emerging picture is far more complex. Beyond the surface, deeper challenges emerge regarding federalism, uneven tax burdens, and inflationary pressures that cannot be ignored.  Policymakers intended this reform as a step toward rationalisation, yet it may instead create new structural obstacles. This leaves us with a sobering question of whether the slab shift is truly a sustainable path for India’s energy and fiscal future, or is it merely covering up vulnerabilities bound to resurface in the years ahead?