15th Finance Commission, Recommendations

The 15th Finance Commission was constituted by the Government of India with the President’s approval in November 2017, in accordance with Article 280 of the Indian Constitution. Chaired by N.K. Singh, the Commission was tasked with recommending revenue-sharing mechanisms between the Union and state governments, starting from April 1, 2020, with a specific focus on the fiscal years 2021-22 to 2025-26.

The primary objectives of the 15th Finance Commission included strengthening cooperative federalism, enhancing the quality of public spending, and safeguarding fiscal stability across the country. By addressing these goals, the 15th Finance Commission aimed to create a more balanced and equitable financial framework that supports both the Union and state governments in their developmental efforts.

Finance Commission 

The Finance Commission, established under Article 280 of the Indian Constitution, is a constitutional body that periodically defines the financial relationship between the central government and individual state governments. Since the first Commission was formed in 1951, a total of 16 Finance Commissions have been constituted to recommend the distribution of tax revenues and ensure equitable fiscal arrangements. Each Commission operates under specific terms of reference that outline its qualifications, appointments, and powers.

• Article 280 of the Indian Constitution: Article 280 of the Indian Constitution outlines the commission's responsibilities, functions, and compositions. The President shall establish a Finance Commission within two years of the Constitution's commencement and every five years thereafter, or sooner if deemed necessary, through an order.
  • Composition: The Finance Commission shall include a Chairman and four additional members, all appointed by the President.

15th Finance Commission Recommendations

The 15th Finance Commission, chaired by N. K. Singh, submitted its initial report for the financial year 2020-21 in February 2020 and its final report for the period 2021-26 on February 1, 2021, containing several key recommendations. These recommendations covered various aspects of fiscal allocation, evaluated economic effects, and encouraged state governments. Below are the suggestions made by the 15th Finance Commission:

Vertical Devolution

The 15th Finance Commission recommended that the share of states in the central taxes (vertical devolution) for the 2021-26 period be set at 41%.

• Less than 42%: This figure was lower than the 42% share suggested by the 14th Finance Commission for the 2015-20 period.
• Adjustment to 1%: The Commission adjusted to 1% to account for the newly formed Union Territories of Jammu and Kashmir and Ladakh from the central resources.

Horizontal Devolution 

The 15th Finance Commission recommended specific weightage for horizontal devolution (distribution among the states) based on various criteria, which are as follows:

• Income Distance: Income distance refers to the gap between a state's income and that of the state with the highest income. 
  • States with lower per capita income will receive a larger share of resources to promote equity among them.
  • 15th Finance Commission suggested a weightage of 45% for this criterion.
• Demographic Performance: Demographic performance was evaluated using the 2011 population data, as mandated by the Commission's Terms of Reference.
  • The 15th Finance Commission utilized this data to recognize states that have made significant efforts in population control, with those having a lower fertility rate scoring higher on this criterion.
  • In this context, the Commission recommended allocating 12.5% weightage to demographic performance.
• Forest and Ecology: Forest and ecology are assessed by determining the proportion of a state's dense forest area compared to the total dense forest across all states.
  • For this criterion, a weightage of 10% had been assigned to reflect the importance of ecological preservation.
• Tax and Fiscal Efforts: Tax and fiscal efforts are measured to acknowledge states with greater efficiency in tax collection.
  • This criterion is calculated as the ratio of the average per capita own tax revenue to the average per capita state GDP during the three years from 2016-17 to 2018-19.
  • A weightage of 2.5% was designated for tax and fiscal efforts.
• Area: With a larger area, the expenditure requirement increases to provide similar services effectively. A 15% weightage has been assigned to the area.
• Population: The population of a state indicates the demand for resources to cover the expenditure needed to provide services to its residents. A weightage of 15% is allocated to the population criterion based on the 2011 census.

15th Finance Commission Grants

The 15th Finance Commission had established a comprehensive framework for grants in aid to the states for the 2021-26 period. This framework included various forms of financial assistance designed to address revenue deficits and enhance sector-specific programs, while also aiming to strengthen local governance.

• Revenue Deficit Grant: Revenue deficit grants are intended to address the fiscal needs of states that remain unmet after accounting for their own tax and non-tax resources, as well as tax devolution. 
  • In 2021-22, the 15th Finance Commission proposed revenue deficit grants for 17 states.
• Sector-Specific Grants: Sector-specific grants were to be allocated to states across eight areas, including health, school education, higher education, agricultural reforms, maintenance of PMGSY roads, judiciary, statistics, and aspirational districts and blocks.
  • A portion of these grants would be linked to performance outcomes.
  • Sector-specific grants are essential for addressing targeted developmental needs, improving service quality, and fostering accountability.
• Grants to Local Bodies: A significant allocation was to be made to local bodies with a performance-linked component. This funding focused on rural and urban initiatives, as well as health-related projects aimed at transforming rural and urban health services. 
• Non-health grants: Non-health grants were to be distributed based on population and area, with respective weightage of 90% and 10%.
• States should meet specific criteria, such as publishing audited accounts and establishing minimum property tax rates, to access these funds.
• Disaster Risk Management: The 15th Finance Commission had recommended keeping the existing cost-sharing arrangements for disaster management funds.
• These were set at a 90:10 ratio for northeastern and Himalayan states, and a 75:25 ratio for all other states.

Fiscal Roadmap

The 15th Finance Commission proposed a fiscal roadmap aimed at reducing the fiscal deficit to 4% of GDP for the centre by 2025-26. It also established a phased reduction for states, targeting limits of 4% in 2021-22, 3.5% in 2022-23, and 3% from 2023-26. The following are the key recommendations:

• Review of the FRBM Act: The 15th Finance Commission recommended forming a high-level inter-governmental group to review the Fiscal Responsibility and Budget Management Act (FRBM).
  • This group would also propose a revised FRBM framework for both the centre and states and oversee its implementation.
• Utilization of Borrowing Limits: States that did not fully utilize their sanctioned borrowing limits within the first four years should carry forward the unutilized amount to later years.
• Extra Borrowing for Power Sector Reforms: Additional borrowing of 0.5% of GSDP will be allowed for states that implement power sector reforms.
• Decrease in Total Liabilities: The roadmap anticipated a decrease in total liabilities for the centre from 62.9% of GDP in 2020-21 to 56.6% by 2025-26 and for states from 33.1% to 32.5%.
• Enhancing Revenue Mobilization: The 15th Finance Commission emphasized enhancing revenue mobilization through strengthened income and asset-based taxation.
• Addressing GST Challenges: It also highlighted the need to address the inverted duty structure in GST and rationalize the rate structure.
• Establishment of an Independent Fiscal Council: Finally, the 15th Finance Commission recommended establishing an independent Fiscal Council to oversee public financial management.
• Harmonizing Fiscal Responsibility Laws: Additionally, it recommended that states align their fiscal responsibility laws with those of the centre.

15th Finance Commission Other Recommendations

The 15th Finance Commission recommended that states allocate over 8% of their budgets to health by 2022, with two-thirds of total health expenditure focused on primary healthcare.

• Health: It emphasized flexibility in centrally sponsored health schemes, suggesting these focus on outcomes rather than inputs.
  • An All India Medical and Health Service was also recommended for establishment. 
• Funding of Defence and Internal Security: For defence and internal security, the 15th Finance Commission advised creating a non-lapsable fund to support modernization efforts.
• Centrally-Sponsored Schemes (CSS): The 15th Finance Commission suggested setting a minimum funding threshold for CSS, phasing out those with limited impact.
• It also recommended regular third-party reviews of CSS and stable, transparent funding patterns.

15th Finance Commission UPSC PYQs

Question1. How is the Finance Commission of India constituted? What do you know about the terms of reference of the recently constituted Finance Commission? Discuss. (UPSC Mains 2018)

15th Finance Commission FAQs

Q1. When was the 15th Finance Commission established, and who chaired it?

Ans. The 15th Finance Commission was established in November 2017 and chaired by N.K. Singh.

Q2. What was the primary purpose of the 15th Finance Commission?

Ans. The primary purpose of the 15th Finance Commission was to recommend revenue-sharing mechanisms between the Union and state governments while ensuring fiscal stability and enhancing the quality of public spending.

Q3. How does the 15th Finance Commission allocate funds to states with lower per capita income?

Ans. The 15th Finance Commission allocates funds to states with lower per capita income by providing them a larger share of resources based on the criterion of income distance, which has a weightage of 45%.

Q4. What role did the 15th Finance Commission propose for an independent Fiscal Council?

Ans. The 15th Finance Commission proposed the establishment of an independent Fiscal Council to oversee public financial management and ensure states align their fiscal responsibility laws with those of the central government.

Q5. Why did the 15th Finance Commission recommend sector-specific grants?

Ans. The 15th Finance Commission recommended sector-specific grants to address targeted development needs and improve service quality in critical areas like health and education.