Compensation CESS ends in 2026; What next for the car market?

The rationale behind the Compensation CESS was to give relief to the State's that were badly effected with introduction of GST, considering more than half the taxes were collected by state's in form of VAT

BHPian carjack3090 recently shared this with other enthusiasts:

To a purchase a new Motor vehicle in India, a Common man has to go through several ordeals and pains. One of them is the high tax that is charged on an average car.

For example- a Factory cost of 8 Lakhs on a SUV balloons past 14 lakhs in states like Karnataka due to high Tax structure
(28 percent GST + 20 Percent CESS + 17 Percent Road Tax)

This has always diverged India into a slow growing market against the potential it has. Ford has broadcasted Indian car market at 10 Million in 2020, it finally crossed 4 million in 2023

What is the GST Structure on Cars

GST on cars is levied at flat 28 Percent with varying CESS Rates

(Note: EV's are taxed at 5 percent)

Why the Compensation CESS?

The rationale behind the Compensation CESS was to give relief to the State's that were badly effected with introduction of GST, considering more than half the taxes were collected by state's in form of VAT.

It was originally proposed for 5 years till 2022 but got extended for another 5 considering the losses state's had to undergo in Covid because of the lack of economic activity

So come 2026, the Compensation CESS will expire and this means that there would be a vacant tax space for Government and it would have choices to make

1. Cars be taxed at flat 28 Percent (Unlikely): Without the compensation CESS, Cars will be taxed at 28 percent which will be a huge relief to both carmakers and buyers but this is unlikely to happen as this would mean 2 things
(a) Small cars will lose any edge they have
(b) Government will have a huge loss in revenue and it will take 2 years to get back to older levels of revenue

2. New Slab at 35 Percent for Cars above Sub 4m rule & Sub 4m cars be taxed at 28 Percent (Highly likely):
The Government may introduce a 35 percent slab for Cars and other luxury items where cars above sub 4m will be taxed at this slab where as the sub 4m cars will be taxed at 28 percent. This will provide impetus to cars above 4m as taxes will come down by 8-15 percent, thus pleasing the car makers and buyers, and also not let the losses get significant for Government (which they will recover through extra sales generated)

3. Compensation CESS be extended (Highly Unlikely):
Since the purpose of CESS will be served, any continuation will spoil plans for automakers and create a negative image among carmakers for future Investment in Capital or any FDI

4. Cars be moved to 18 percent slab (Highly unlikely):
Considering that a huge part of revenue that government generates comes from auto sales, this is unlikely to happen. Although this can be considered for 2 wheeler segment considering it is highly elastic on demand with relation to the price.

5. New CESS be introduced to replace Compensation CESS (Likely):
The Government can introduce a new Agriculture CESS on Cars after Compensation CESS expires but the likely rates will be lower than that for Compensation CESS (considering that the revenue will only be shared with Central Government), although it will give an opportunity for Opposition to question Government policy

Other Macros to consider

1. Inflation will raise the prices of products including that of cars
2. Government would want to provide support to EVs to hit their Goal of EV Adaptation by 2030
3. CAFE 3 Norms will be introduced in 2027 making the Carbon emission goals a lot stricter and thus making the process of producing cars more expensive
4. State Governments would want to raise Road Taxes to meet the need for their budgeted revenue

What will happen if Car prices drop due to 35 percent Slab?

Here is a rough calculation

1. Price of Base Hyundai Creta will drop to 10.3 Lakhs (45 to 35)
2. Price of Base XUV 700 will drop to 12.5 lakhs (48 to 35)
3. Price of Base Fortuner will drop to 30.5 Lakhs (50 to 35)
4. Price of Base X5 will drop to 67 lakhs (48 to 35)
5. Price of Base Innova Hycross will drop to 28 Lakhs (43 to 35)

(Note: I have only considered drop in GST Prices to come at nominal amount)

What is the Opinion of other Team BHPians on what is next?

Check out BHPian comments for more insights and information.