Financial Relations Between the Union and the States (Articles 268–293)
Indian Polity › Centre-State Relations · Topic 22.9
Articles 268 to 293 allocate taxes, regulate borrowing (Centre within or outside India, states only within India with consent rules), provide reciprocal tax immunities and let emergencies change revenue sharing and impose directions on states.
5 min read · UPSC Prelims · Polity · Centre-State Relations
At a Glance
- What it is Borrowing, tax immunities, grants and the effect of emergencies on finances
- Articles Articles 268 to 293 in Part XII
- Taxation heads Covered in the Funds category
- Focus here Borrowing, immunities, protection of states, emergencies
- Exam link UPSC Prelims, Polity: Centre-State Relations
Where Does It Fit?
This is the ninth topic of the category on Centre-State Relations. The allocation of taxing powers and the distribution of tax and non-tax revenue were discussed in the category on Funds with the Government of India. This topic completes the picture with borrowing, tax immunities, protection of state interests and the effect of emergencies.
Allocation of Taxing Powers in Brief
Parliament has exclusive power to levy taxes on the Union List subjects (13 taxes), the state legislature on State List subjects (18 taxes); there are no tax entries in the Concurrent List except for GST after the 101st Amendment; the residuary power of taxation rests with Parliament. The Constitution distinguishes between the power to levy and collect a tax and the power to appropriate its proceeds. Restrictions on states’ taxing powers include: a limit of Rs 2,500 per annum on taxes on professions, trades, callings and employments (raised from Rs 250 by the 60th Amendment of 1988); no tax on supply of goods or services outside the state or in the course of import or export; no tax on electricity consumed by the Centre or for railways; and a law taxing water or electricity stored or distributed by an inter-state river authority needs the President’s assent.
Borrowing by the Centre and the States
| Point | Rule |
|---|---|
| Centre | Can borrow within India or abroad on the security of the Consolidated Fund, within limits fixed by Parliament; no such law has been enacted so far |
| States | Can borrow only within India, on the security of the state Consolidated Fund, within limits fixed by the state legislature |
| Loans from the Centre | The Centre can make loans to, or give guarantees for loans of, any state; sums are charged on the Consolidated Fund of India |
| Consent | A state cannot raise a loan without the Centre’s consent if a Centre loan to it, or a guarantee, is still outstanding |
Inter-Governmental Tax Immunities and Protection of States
The property of the Centre is exempt from all taxes imposed by a state or any authority within a state, but Parliament can remove the ban; corporations or companies created by the Centre are not immune because they are separate legal entities. The property and income of a state are exempt from central taxation, from sovereign or commercial functions, but the Centre can tax commercial operations of a state if Parliament so provides, and local authorities and state-owned corporations can be taxed by the Centre. In an advisory opinion of 1963 (In Re Sea Customs Act) the Supreme Court held that the state’s immunity does not extend to customs or excise duties. To protect state interests, certain bills can be introduced in Parliament only on the President’s recommendation: bills imposing or varying a tax in which states are interested, varying the meaning of agricultural income, affecting the principles of distribution to states, and imposing a Central surcharge. Net proceeds means proceeds minus the cost of collection, as certified by the CAG.
Effects of Emergencies
| Emergency | Effect on finance |
|---|---|
| National Emergency (Article 352) | The President can modify the constitutional distribution of revenues, reducing or cancelling tax sharing and grants-in-aid to the states; the modification lasts till the end of the financial year in which the emergency ceases |
| Financial Emergency (Article 360) | The Centre can direct states to observe canons of financial propriety, to reduce salaries and allowances of all classes serving in the state, and to reserve all money bills and other financial bills for the President |
Grants-in-aid are of three kinds: statutory grants under Article 275, discretionary grants under Article 282, and the temporary grants for jute-producing states. The Finance Commission recommends tax sharing and principles of grants, and the GST Council coordinates the new tax regime. The Articles on the topic include 268 to 293 in Part XII, with Article 290 on adjustment of certain expenses and pensions, Article 290A on Devaswom Funds, and Articles 292 and 293 on borrowing.
Why Is This Topic Important?
- Completes the finance picture Links to Funds category
- Borrowing rules Frequently asked
- Emergency effects Link to the Emergency category
What Came Next?
The next topic covers trends in Centre-State relations.
Key People and Terms
- Tax immunity Exemption from the other level’s tax
- Guarantee Backing for a state loan
- Sovereign function Governmental function
- Commercial operations Business activity of a government
- Net proceeds Proceeds minus cost of collection
Exam Corner
Points to Remember
- Centre may borrow abroad; states only within India.
- Profession tax limit Rs 2,500.
- Customs and excise not covered by state immunity.
- National Emergency can cut state transfers.
Do Not Confuse With
- Article 292 and 293 Centre versus state borrowing
- Property of Centre and of a state Immunity rules differ
- Statutory and discretionary grants Articles 275 and 282
Memory Hook
Centre borrows abroad, states only at home, loans need consent, emergencies cut the flow.
Mains Angle
Questions on this topic usually ask about fiscal federalism. Use these points to add depth.
- Vertical imbalance Centre’s fiscal dominance
- Borrowing control Consent for state loans
- Immunities Reciprocal exemptions
- Emergency centralisation Revenue sharing can be changed
A Question You May Face
An original practice question, not a past paper question.
“Examine the financial relations between the Union and states with reference to borrowing and tax immunities.”
How to Answer
- Introduction Part XII.
- Borrowing Rules.
- Immunities Reciprocal.
- Conclusion Emergency effects.
GS Relevance
Frequently Asked Questions
Can states borrow from abroad?
No. A state government can borrow only within India, on the security of the state Consolidated Fund and within limits fixed by the state legislature, while the Central government can borrow within or outside India within limits set by Parliament.
When does a state need the Centre’s consent to borrow?
A state cannot raise any loan without the Centre’s consent if any part of a loan made to the state by the Centre, or in respect of which the Centre has given a guarantee, is still outstanding.
Is Central property exempt from state taxes?
Yes. The property of the Centre is exempt from all taxes imposed by a state or any authority within it, though Parliament can remove the ban. Companies or corporations created by the Centre are not immune, as they are separate legal entities.
How does a National Emergency affect Centre-state finances?
During a National Emergency the President can modify the constitutional distribution of revenues, reducing or cancelling tax sharing and grants-in-aid to the states, until the end of the financial year in which the emergency ceases.
What can the Centre do in a Financial Emergency?
The Centre can direct states to observe financial propriety, to reduce salaries and allowances of all classes serving in the state, and to reserve all money bills and other financial bills for the consideration of the President.
PYQ Practice — Statement Analysis
1 States can raise loans abroad.
Only within India.
2 State immunity from Central taxation covers customs and excise duties.
1963 opinion: it does not.
3 The profession tax limit for states is Rs 2,500.
Since the 60th Amendment.
4 Parliament has fixed limits on the Centre’s borrowing.
No such law so far.
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