Finance Commission of India: Structure, Roles and Impact on Fiscal Policy

The Finance Commission (FC) mentioned under Article 280, is a constitutional body formed by the President of India every fifth year or at such earlier time as he considers necessary. It is a Quasi-Judicial body mandated to make recommendations for horizontal and vertical sharing of the divisible pool of taxes between the Union and the States and determine the principles for central grants-in-aid to states and other such matters referred to it by the President.

The Finance Commission of India

Composition: The Finance Commission consists of a chairman and four other members to be appointed by the President. They are eligible for reappointment. 

• Parliamentary Authority: The Constitution authorizes the Parliament to determine the qualifications of members and how they should be selected. 
• Legislative Framework: Parliament hence enacted the Finance Commission (Miscellaneous Provisions) Act, 1951 to provide for the qualification criteria, service conditions of members, powers, and procedures of the Commission.

Key Aspects of the Finance Commission (Miscellaneous Provisions) Act, 1951

Qualification: This act entails the qualifications required for the chairman and 4 other members of the commission:

• The chairman must possess experience in public affairs, while the other four members can be selected from the following categories:
• A high court judge or someone eligible for the position.
• An individual with expertise in government finance and accounting.
• Someone with extensive experience in finance and administration.
• An individual with specialised knowledge in economics.

• • Tenure and Reappointment:
    • Every member of the Commission shall hold office for such a period as may be specified in the order of the President appointing him. 
      • However, a member may resign by addressing a letter to the President.
    • Members are eligible for reappointment. 
  • Disqualification for Membership: A person shall be disqualified from being appointed as a member of the Commission:
    • If he is of unsound mind.
    • If he is an undischarged insolvent.
    • If he has been convicted of an offence involving moral turpitude.
    • If he has such financial or other interest as is likely to prejudicially affect their functions as a member of the Commission.

• Conditions of Service and Salaries of Members

• • • Service Specification: Members of the Commission may render whole-time or part-time service as specified by the President.
    • Salaries and Allowances: Fees or salaries and allowances for members are determined by the Central Government through rules notified in the Official Gazette.

• Parliamentary Oversight:

• • • Every rule made regarding salaries and allowances is laid before each House of Parliament for thirty days.
    • If both Houses agree to modify or annul a rule within this period, the rule is affected accordingly without prejudice to prior actions taken under it.

• Procedure and Powers of the Commission

• • • Procedure Determination: The Commission decides its own procedures.
    • Civil Court Powers: The Commission has the powers of a civil court under the Code of Civil Procedure, 1908, in the following matters:
      • Summoning and enforcing the attendance of witnesses.
      • Requiring the production of documents.
      • Requisitioning any public record from any court or office.

• Information Requirement:
• • The Commission can require any person to furnish information relevant to its considerations.
  • Such a person is legally bound to provide the information, overriding the provisions of the Indian Income-tax Act, 1922, or any other law.
• Civil Court Status: The Commission shall determine their procedure and in the performance of their functions shall have all the powers of a civil court under the Code of Civil Procedure, 1908. Thus, the Finance Commission is a quasi-judicial body
• Jurisdiction Limits: For enforcing witness attendance, the Commission’s jurisdiction extends to the entire territory of India.

Roles and Responsibilities

• Presidential Submission: Article 281 of the Constitution provides that the President shall cause every recommendation made by the Finance Commission together with an explanatory memorandum as to the action taken thereon to be laid before each House of Parliament. 
• Revenue Allocation: The Finance Commission’s responsibilities include providing recommendations to the President of India on the following matters:
• Tax Distribution:
• • Between Union and States: Recommending the distribution of net proceeds of union taxes.
  • Among States: Recommending the distribution of shares among states.
• Grants-in-Aid Principles: Allocating the net tax proceeds shared between the Central government and the states, as well as determining how those proceeds are divided among the states.
• Local Body Funding: Establishing the principles governing grants-in-aid from the Consolidated Fund of India to the states.
• Augmenting State Funds: Following the 73rd and 74th Constitutional Amendments in 1993, recommending measures to augment the Consolidated Fund of a State to supplement the resources of panchayats and municipalities.
• Additional Matters: Addressing any other financial matters referred by the President in the interest of fiscal stability.
• Over the years, additional matters have been increasingly referred to the Finance Commission.
• The inclusion of specific considerations for the Commission’s work started with the second Finance Commission and has expanded since.
• Advisory Body: The recommendations of the Finance Commission are advisory in nature and do not carry any constitutional recognition as legal rights for recipient states.
• It is up to the Union Government to implement its recommendations on granting money to the states.
• Expansion of Terms of Reference (ToR): The constitutional mandates are reflected in the ToR of the Finance Commissions.

Normative Approach and Recommendations

• Normative Approach of Finance Commissions: The Finance Commissions use a normative approach to assess the expenditure needs and revenue-raising capacities of the Union and States for vertical tax distribution.
• Duration of Recommendations: Recommendations are typically provided for a period of five years.
• Tax Devolution and Additional Recommendations: In addition to tax devolution, Finance Commissions recommend:
  • Revenue Deficit Grants: For states with deficits after tax devolution.
  • Grants for Calamity Relief and Local Bodies: Assistance for dealing with natural disasters and supporting local governance.
  • Other Specific Purposes: Grants for other specific purposes as required.
• Contributions of Finance Commissions: So far, 15 Finance Commissions have been appointed, each contributing to the fiscal stability and equitable resource distribution in India.

Reports of the 13th-15th Finance Commissions

• 13th Finance Commission

• • • Tax Devolution: Increased the share of States in sharable Central taxes from 30.5% to 32%.

• Distribution Criteria:

• 14th Finance Commission

• • • Approach: Focused on tax devolution as the primary resource transfer to States, increasing it from 32% to 42%.

• Criteria and Weights:

• 15th Finance Commission

• Reports:

• • • • First Report for 2020-21
      • Final Report for 2021-26
    • Tax Devolution: Recommended 41% of the net proceeds of divisible Union taxes.
    • Special Grants: Recommended for Karnataka, Mizoram, and Telangana, but not accepted by the Union Government.

• Criteria and Weights for Horizontal Devolution:

• State-Specific and Sector-Specific Grants: Recommended but not accepted by the Union Government.

Conclusion

The Finance Commission plays a vital role in maintaining fiscal balance in India, ensuring equitable distribution of financial resources between the Union and States. 

• While its recommendations have fostered fiscal discipline, there is still a need for improved devolution of fiscal powers to local bodies to achieve balanced development.

Constitutional Provisions Pertaining to Finance Commission

Finance Commissions Appointed So Far

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