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Bifurcation of Andhra Pradesh and the Reorganisation Act 2014 · Chapter 5

State Finances and Revenue Impact

What to remember

  • Andhra Pradesh lost a major source of revenue when Hyderabad went to Telangana. The residuary State started life with a large revenue gap and a heavy need for capital spending on a new capital.
  • The Act and the Centre promised help in the form of grants, special assistance and a development package, but the form, size and timing of this help have been a subject of long discussion between the State and the Union Government.
  • The Finance Commission is the constitutional body that recommends how taxes are shared and which grants are given. After the 14th Finance Commission, the special category status system ended for most States, and that changed the debate.

Basic terms

Understanding the terms first makes the chapter easy.

TermMeaning
Revenue receiptsMoney a Government earns through taxes, non-tax receipts and grants, which does not create a liability
Revenue expenditureSpending on salaries, pensions, interest, subsidies and running costs
Revenue deficitRevenue expenditure minus revenue receipts, when it is positive
Fiscal deficitTotal expenditure minus total receipts other than borrowing; it shows how much the Government must borrow
Capital expenditureSpending that creates assets such as roads, dams and buildings
DevolutionThe share of Union taxes given to States
Grant-in-aidMoney given by the Centre that does not have to be repaid

A revenue deficit is considered unhealthy because it means that the Government borrows even to meet its day-to-day costs.

Why revenue fell: the concept

Before 2014, Hyderabad was the main centre of trade, services, information technology and industry in the old State. A large part of the State's own tax revenue, such as sales tax or VAT, State excise, stamps and registration, came from the city and its surroundings. When the State was divided, Andhra Pradesh lost this base, while it kept a large share of the employees, pensioners and debt. This made the revenue gap larger.

Four ideas explain the impact:

  • Narrower tax base: the residuary State had more agriculture and less urban service income.
  • Fixed commitments: salaries, pensions and interest payments did not fall in line with revenue.
  • New capital cost: a State without a capital had to spend on offices, roads and basic services.
  • Debt share: the residuary State took a part of the old debt, which raised its interest burden.

These ideas are about direction, not numbers. Do not quote figures in answers unless they are given.

What the Act and the Centre provided

The Act and later Union decisions contained several kinds of support.

  • Support for the revenue gap in the transition: the Act recognised that the residuary State could face a revenue gap and allowed the Centre to help in the early period. The precise formula should be checked in the Act.
  • Support for a new capital: the Act said the Centre would help to build essential infrastructure for the new capital of the residuary State, such as buildings for the Raj Bhavan, High Court and Secretariat, and roads and services.
  • Special development package for backward regions: the Act provided for a special package for the backward regions of Rayalaseema and North Coastal Andhra, in the same spirit as the Bundelkhand and Koraput-Bolangir-Kalahandi schemes.
  • Fiscal incentives: the Act provided for tax incentives for industry, such as the promise of incentives for new units in the residuary State.
  • National project status for Polavaram: the Union Government took on the responsibility of completing the project, which affects State finances.

Special Category Status: the concept

Special Category Status (SCS) was a classification of some States by the Centre, based on the recommendation of the Fifth Finance Commission (the Gadgil formula period). It was meant for States that are hilly, have difficult terrain, a low population density, a weak resource base, tribal groups or a strategic border position.

Benefits of SCS were mainly:

  • A higher share of central assistance as grants (not loans).
  • Tax concessions for industry (excise and customs).
  • A larger share of central spending in Centrally Sponsored Schemes.

The Prime Minister said in Parliament during the passage of the Act that the residuary State would be given special status. But the Act itself did not include this promise. This difference between a statement in Parliament and a clause in the Act is why the topic is called contested.

The 14th Finance Commission recommended a much larger tax share for all States and did not treat SCS as a separate category for most States. The Planning Commission was replaced by NITI Aayog in 2015. After that, the Centre said that SCS was no longer possible and offered other forms of help. Positions on this still differ and the matter remains political, so write about it in neutral words.

Finance Commission treatment

ItemPoint to remember
Constitutional basisArticle 280 creates the Finance Commission, appointed every five years
Main tasksShare of Union taxes between Centre and States; principles of grants-in-aid under Article 275; help to local bodies
14th Finance CommissionChaired by Y. V. Reddy; period 2015 to 2020; raised devolution to States and gave revenue deficit grants to some States
15th Finance CommissionChaired by N. K. Singh; period 2021 to 2026 (16th FC under Arvind Panagariya covers 2026 to 2031)
Residuary Andhra PradeshReceived revenue deficit grants as recommended by the Commission for the award period

The 14th Commission accepted that the Act had left AP with a gap and gave it a post-devolution revenue deficit grant. This was a grant under Article 275, not special category status. Later the 15th Commission also made recommendations on grants.

Note that the Finance Commission recommends; the Union Government decides whether to accept. The Finance Commission is a constitutional body but not a court.

Special assistance and disputes

  • In 2016 the Centre announced a Special Assistance Package (also called the Special Assistance Measure) as an alternative to SCS. It was linked to externally aided projects and a special-purpose arrangement.
  • The State asked for a bigger and faster flow of funds; the Centre said it was acting under its fiscal rules.
  • Common points of dispute were: whether the gap in the first year was fully met; whether the support for the new capital was enough; how Polavaram costs were counted; whether the backward-region package was released as promised; and how to treat the State's borrowing limits under the fiscal responsibility rules.
  • Borrowing by States is regulated under Article 293 and by net borrowing ceilings set by the Centre.

Always use neutral language: "the State sought", "the Centre stated", "the matter remained under discussion". Do not take sides.

Three ways to read the finance story

  • Structural view: the State lost a rich urban tax base and kept a rural economy with high needs. The gap is therefore built into the division itself.
  • Transition view: the State had to build a capital, move offices and settle shared debts all at once. These are one-time costs that fall over time.
  • Federal view: the dispute is also about how a Union of States treats a State formed by an Act of Parliament. The Constitution gives Parliament the power to form and change States under Articles 3 and 4, and the Act is the instrument of that power.

Good answers in an exam name the cause (loss of Hyderabad revenue), the tool (grants, package, Finance Commission award) and the dispute (form and timing of support), in that order.

Exam traps

  • Revenue deficit is not the same as fiscal deficit. Revenue deficit compares revenue items only.
  • Special Category Status is not the same as a special package. A package is a one-time or time-bound set of measures; SCS was a permanent classification.
  • SCS came from the Fifth Finance Commission period and the Gadgil formula, not from the Act of 2014.
  • The Act of 2014 did not contain a clause granting Special Category Status.
  • Article 280 is the Finance Commission; Article 275 is grants-in-aid; Article 293 is State borrowing.
  • The 14th Finance Commission was chaired by Y. V. Reddy; the 15th by N. K. Singh.
  • The Finance Commission recommends; the Union Government accepts.
  • Revenue loss was caused by loss of the Hyderabad tax base, not by a fall in agricultural output alone.

One-liners

  • Revenue deficit means revenue spending exceeds revenue receipts.
  • Fiscal deficit shows how much the Government has to borrow.
  • Hyderabad was a leading source of State tax revenue before 2014.
  • The residuary State kept a large share of employees and pensioners.
  • The Act promised help to build a new capital.
  • The Act provided a package for backward regions of Rayalaseema and North Coastal Andhra.
  • Special Category Status was linked to the Gadgil formula.
  • The Act itself does not grant Special Category Status.
  • Article 280 provides for the Finance Commission.
  • Article 275 provides for grants-in-aid to States.
  • The 14th Finance Commission was chaired by Y. V. Reddy.
  • A Special Assistance Package was announced in 2016 as an alternative to SCS.

Practice questions

  1. A revenue deficit occurs when

    1. capital expenditure exceeds capital receipts
    2. total expenditure exceeds total receipts excluding borrowing
    3. tax receipts exceed expenditure
    4. revenue expenditure exceeds revenue receipts
    Answer

    D. revenue expenditure exceeds revenue receipts

    Revenue deficit compares revenue items only; the other options describe fiscal deficit or unrelated ideas.

  2. Fiscal deficit measures

    1. only the salary bill
    2. only the interest bill
    3. the amount the Government must borrow
    4. the total tax collected
    Answer

    C. the amount the Government must borrow

    Fiscal deficit is total expenditure minus receipts other than borrowing.

  3. Which constitutional article provides for the Finance Commission?

    1. Article 262
    2. Article 275
    3. Article 293
    4. Article 280
    Answer

    D. Article 280

    Article 280 creates the Finance Commission.

  4. Grants-in-aid from the Centre to States are provided for in

    1. Article 263
    2. Article 280
    3. Article 356
    4. Article 275
    Answer

    D. Article 275

    Article 275 provides for grants-in-aid on the Finance Commission's recommendation.

  5. State borrowing is regulated by

    1. Article 280
    2. Article 293
    3. Article 275
    4. Article 3
    Answer

    B. Article 293

    Article 293 deals with borrowing by States.

  6. A main reason for the revenue loss of the residuary Andhra Pradesh was

    1. fall of rainfall in all years
    2. loss of the Hyderabad tax base
    3. closure of all ports
    4. loss of the High Court
    Answer

    B. loss of the Hyderabad tax base

    Hyderabad was a leading source of own tax revenue for the old State.

  7. After division, the residuary State kept

    1. no debt
    2. no employees
    3. a large share of employees, pensioners and debt
    4. only urban revenue
    Answer

    C. a large share of employees, pensioners and debt

    Fixed commitments did not fall in line with revenue.

  8. Which Finance Commission was chaired by Y. V. Reddy?

    1. 12th
    2. 15th
    3. 13th
    4. 14th
    Answer

    D. 14th

    The 14th Finance Commission (2015-20) was chaired by Y. V. Reddy.

  9. Which Finance Commission was chaired by N. K. Singh?

    1. 13th
    2. 14th
    3. 11th
    4. 15th
    Answer

    D. 15th

    The 15th Finance Commission was chaired by N. K. Singh.

  10. Who recommends the sharing of Union taxes between Centre and States?

    1. NITI Aayog
    2. The Supreme Court
    3. The Election Commission
    4. The Finance Commission
    Answer

    D. The Finance Commission

    The Finance Commission makes this recommendation under Article 280.

  11. Special Category Status was linked to the formula named after

    1. Gadgil
    2. Sivaramakrishnan
    3. Bachawat
    4. Srikrishna
    Answer

    A. Gadgil

    The Gadgil formula guided central assistance and the special category classification.

  12. Which of the following is typically a feature of Special Category Status?

    1. No role for the Centre
    2. Higher grant share in central assistance
    3. Exemption from audit
    4. Separate currency
    Answer

    B. Higher grant share in central assistance

    SCS gave a higher grant share and tax concessions for industry.

  13. Does the Andhra Pradesh Reorganisation Act, 2014 itself contain a clause granting Special Category Status?

    1. Yes, in Schedule X
    2. No, it does not
    3. Yes, in Section 1
    4. Yes, in Schedule IX
    Answer

    B. No, it does not

    The promise was made in Parliament but is not a clause of the Act.

  14. The Planning Commission was replaced by NITI Aayog in

    1. 2015
    2. 2010
    3. 2020
    4. 2005
    Answer

    A. 2015

    NITI Aayog replaced the Planning Commission in 2015.

  15. Revenue deficit grants after tax devolution are given under

    1. Article 3
    2. Article 360
    3. Article 275
    4. Article 280
    Answer

    C. Article 275

    They are Article 275 grants recommended by the Finance Commission.

  16. The special development package under the Act was meant for

    1. border areas of Telangana
    2. Hyderabad city
    3. the Union Territory of Delhi
    4. backward regions of Rayalaseema and North Coastal Andhra
    Answer

    D. backward regions of Rayalaseema and North Coastal Andhra

    The Act provided a package for backward regions of the residuary State.

  17. Which earlier scheme was cited as a model for the backward-region package?

    1. MGNREGA
    2. Bundelkhand and KBK type packages
    3. Rashtriya Gram Swaraj
    4. Green Revolution
    Answer

    B. Bundelkhand and KBK type packages

    The Act referred to packages like those for Bundelkhand and Koraput-Bolangir-Kalahandi.

  18. A Special Assistance Package was announced by the Centre in 2016 as

    1. an alternative to Special Category Status
    2. a new tax
    3. a Finance Commission award
    4. a new schedule to the Act
    Answer

    A. an alternative to Special Category Status

    It was offered as another route of support, linked to externally aided projects.

  19. Capital expenditure refers to spending that

    1. pays salaries
    2. creates assets
    3. pays pensions
    4. pays only interest
    Answer

    B. creates assets

    Roads, dams and buildings are examples of capital spending.

  20. Devolution refers to

    1. loan to the Union
    2. division of a State
    3. share of Union taxes given to the States
    4. transfer of a State to the Centre
    Answer

    C. share of Union taxes given to the States

    Devolution is the tax share that States receive from the divisible pool.

  21. Which institution examines and decides to accept the Finance Commission's recommendations?

    1. The Governor
    2. The Speaker
    3. The High Court
    4. The Union Government
    Answer

    D. The Union Government

    The Commission recommends; the Union Government accepts and tables its report.

  22. Which is a source of the revenue pressure on a new capital-building State?

    1. Lack of any debts
    2. No salary commitments
    3. One-time cost of new offices and services
    4. Surplus from the old capital
    Answer

    C. One-time cost of new offices and services

    A new capital needs a large initial spending.

  23. The Fifth Finance Commission era is connected with the introduction of

    1. the special category classification
    2. FRBM Act
    3. Panchayati Raj
    4. GST
    Answer

    A. the special category classification

    The classification came after the Fifth Finance Commission and the NDC approved the Gadgil formula.

  24. Which pair is correctly matched?

    1. Article 280 - borrowing by States
    2. Article 262 - taxes
    3. Article 275 - Finance Commission
    4. Article 293 - borrowing by States
    Answer

    D. Article 293 - borrowing by States

    Article 293 concerns borrowing; 280 the Commission; 275 grants.

  25. The power of Parliament to form new States rests on

    1. Articles 280 and 281
    2. Articles 352 and 356
    3. Articles 14 and 15
    4. Articles 3 and 4
    Answer

    D. Articles 3 and 4

    Articles 3 and 4 enable Parliament to form States and change boundaries.

  26. Which of these is a revenue expenditure?

    1. Payment of salaries
    2. Buying land for a campus
    3. Building a dam
    4. Constructing a new bridge
    Answer

    A. Payment of salaries

    Salaries are running costs; the others create assets.

  27. Which term means money given by the Centre that need not be repaid?

    1. Bond
    2. Grant-in-aid
    3. Loan
    4. Treasury bill
    Answer

    B. Grant-in-aid

    A grant is not repayable.

  28. The post-devolution revenue deficit grant to Andhra Pradesh was recommended by the

    1. Sarkaria Commission
    2. Srikrishna Committee
    3. 14th Finance Commission
    4. Planning Commission
    Answer

    C. 14th Finance Commission

    The 14th Commission recognised the gap after division.

  29. A key point of dispute on special assistance has been

    1. language of the Act
    2. number of High Courts
    3. name of the capital only
    4. form, size and timing of support
    Answer

    D. form, size and timing of support

    The State and Centre have discussed these aspects over time.

  30. Net borrowing limits of States are set by

    1. the High Court
    2. the Election Commission
    3. the Union Government within fiscal rules
    4. the Governor alone
    Answer

    C. the Union Government within fiscal rules

    The Centre sets ceilings under Article 293 and fiscal responsibility rules.

  31. Statements: 1. Revenue deficit and fiscal deficit mean exactly the same thing. 2. Fiscal deficit shows the borrowing requirement.

    1. 1 only
    2. 2 only
    3. Both 1 and 2
    4. Neither 1 nor 2
    Answer

    B. 2 only

    Revenue deficit compares revenue items only; fiscal deficit shows borrowing need.

  32. Statements: 1. The Finance Commission is appointed under Article 280. 2. Article 275 provides for grants-in-aid.

    1. 1 only
    2. 2 only
    3. Both 1 and 2
    4. Neither 1 nor 2
    Answer

    C. Both 1 and 2

    Both are correct.

  33. Statements: 1. A promise on special status was made in Parliament. 2. The Act of 2014 contains a clause on Special Category Status.

    1. 1 only
    2. 2 only
    3. Both 1 and 2
    4. Neither 1 nor 2
    Answer

    A. 1 only

    The Act has no such clause; the promise was a statement in Parliament.

  34. Statements: 1. Hyderabad was a major source of the old State's tax revenue. 2. The residuary State lost this base.

    1. 1 only
    2. 2 only
    3. Both 1 and 2
    4. Neither 1 nor 2
    Answer

    C. Both 1 and 2

    Both are correct and form the core of the revenue loss concept.

  35. Statements: 1. The 14th Finance Commission was chaired by N. K. Singh. 2. The 15th Finance Commission was chaired by Y. V. Reddy.

    1. 1 only
    2. 2 only
    3. Both 1 and 2
    4. Neither 1 nor 2
    Answer

    D. Neither 1 nor 2

    The chairs are reversed: Y. V. Reddy chaired the 14th and N. K. Singh the 15th.

  36. Statements: 1. The Finance Commission's recommendations are binding orders of a court. 2. The Union Government decides whether to accept them.

    1. 1 only
    2. 2 only
    3. Both 1 and 2
    4. Neither 1 nor 2
    Answer

    B. 2 only

    The Commission recommends; it is not a court.

  37. Statements: 1. Special Category Status was a permanent classification. 2. A special package is a time-bound set of measures.

    1. 1 only
    2. 2 only
    3. Both 1 and 2
    4. Neither 1 nor 2
    Answer

    C. Both 1 and 2

    Both describe the usual difference.

  38. Statements: 1. This happened before the Act of 2014 came into effect. 2. The Planning Commission was replaced by NITI Aayog.

    1. 1 only
    2. 2 only
    3. Both 1 and 2
    4. Neither 1 nor 2
    Answer

    B. 2 only

    The replacement happened in 2015, after the appointed day.

  39. Statements: 1. The Act provided for fiscal incentives for industry in the residuary State. 2. The Act provided help for building a new capital.

    1. 1 only
    2. 2 only
    3. Both 1 and 2
    4. Neither 1 nor 2
    Answer

    C. Both 1 and 2

    Both are among the support measures of the Act.

  40. Statements: 1. Salaries and pensions are revenue expenditure. 2. Construction of a dam is revenue expenditure.

    1. 1 only
    2. 2 only
    3. Both 1 and 2
    4. Neither 1 nor 2
    Answer

    A. 1 only

    A dam is capital expenditure.

  41. Statements: 1. It was identical to Special Category Status. 2. A Special Assistance Package was announced in 2016.

    1. 1 only
    2. 2 only
    3. Both 1 and 2
    4. Neither 1 nor 2
    Answer

    B. 2 only

    It was offered as an alternative, not the same as SCS.

  42. Statements: 1. Article 293 relates to borrowing by States. 2. Article 3 gives Parliament power to form new States.

    1. 1 only
    2. 2 only
    3. Both 1 and 2
    4. Neither 1 nor 2
    Answer

    C. Both 1 and 2

    Both are correct.

  43. Statements: 1. The debt share of the residuary State increased its interest burden. 2. A new capital reduced the need for capital spending.

    1. 1 only
    2. 2 only
    3. Both 1 and 2
    4. Neither 1 nor 2
    Answer

    A. 1 only

    A new capital increases capital spending needs.

  44. The residuary State's revenue gap is best described as arising from

    1. abolition of taxes
    2. a lack of Finance Commission
    3. a ban on borrowing
    4. a narrower tax base and fixed commitments
    Answer

    D. a narrower tax base and fixed commitments

    Loss of urban tax base with fixed salary, pension and interest costs created the gap.

  45. Which of these is a federal-view question raised by the finance debate?

    1. Whether the State can print money
    2. Whether the Act can be repealed by a State
    3. Whether the Governor can levy tax
    4. How the Union treats a State formed by an Act of Parliament
    Answer

    D. How the Union treats a State formed by an Act of Parliament

    The finance dispute includes the question of Union support after reorganisation.

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