Cess

Also called: Education cess, Health and Education Cess · Topic: Taxation: Direct and Indirect Taxes, GST and Global Tax Issues · NCERT: Class 11, Ch 4 "Human Capital Formation in India"

Meaning

A cess is a tax that the Union government collects for one specific, named purpose, such as health, education or roads. Its money is earmarked, which means it may be spent only on that purpose. Cesses are kept out of the divisible pool (the part of central taxes that the Centre must share with states), so the Centre keeps 100% of the money.

This matters for two reasons:

• The share of cesses and surcharges in the Centre's revenue has grown a lot.
• That growth quietly reduces what states receive, even when their percentage share stays the same.

Formula (Health and Education Cess on income tax):

• Cess = 4% × (Income tax + Surcharge)
• Total tax = Income tax + Surcharge + Cess

Explanation

How a cess works

• Gross tax revenue (GTR) is all the tax the Union collects before giving anything to states.
• Most of the GTR goes into the divisible pool. The Finance Commission advises how the Centre should share this pool with states.
• Divisible pool = GTR − cost of collection − cesses and surcharges [3].
• Art. 270 covers the taxes the Union shares with states. It leaves out cesses levied for specific purposes. So no cess revenue is ever devolved (passed down) to states [2].
• How the money should flow:
• It first goes into the Consolidated Fund of India (the government's main account).
• It should then be moved to a dedicated fund in the Public Account.

• It should be spent only from that fund, and only on the stated purpose.

• Direct or indirect: a cess can be charged on income (direct tax) or on goods and services (indirect tax).

Types: the main cesses in India

• Health and Education Cess (2018):
• Rate: 4% on income tax plus surcharge.

• It replaced two older cesses: the 2% education cess and the 1% secondary and higher education cess (3% in total).

• Road and Infrastructure Cess: charged on petrol and diesel. The money pays for road and infrastructure projects.

• Agriculture Infrastructure and Development Cess (AIDC), 2021: pays for farm infrastructure.
• GST compensation cess: pays states for the revenue they lost after GST came in.
• Health Security se National Security (HSNS) Cess (2025):
• The Bill was introduced in Lok Sabha on 1 December 2025 and passed by Parliament [4][5].
• Base: the production of pan masala and any other goods the Centre notifies later. The tax falls on the person who owns or runs the machines or processes, not on each packet sold [4][5].
• How it is calculated: per machine installed, or per unit of manual production. It is collected every month [4].
• Rates:
  • ₹1.01 crore per month per machine, for machines with a top speed of up to 500 pouches a minute where each pouch weighs up to 2.5 g [4].
  • ₹25.47 crore per month per machine, for machines running at 1,001 to 1,500 pouches a minute where each pouch weighs more than 10 g [4].
  • ₹11 lakh per month per factory where all production is manual [4].
• Use of the money: public health and national security [4][5].
• Why it taxes capacity and not sales: machine capacity is hard to hide, but declared sales are easy to under-report.

Worked example: where the cess sits in an income tax bill (illustrative)

• A person earns ₹60 lakh. The income tax on it is ₹15 lakh.
• Surcharge (10% of tax, for income above ₹50 lakh) = 10% × ₹15 lakh = ₹1.5 lakh
• Cess = 4% × (₹15 lakh + ₹1.5 lakh) = ₹66,000
• Total tax = ₹15 lakh + ₹1.5 lakh + ₹0.66 lakh = ₹17.16 lakh
• Who keeps what:
• The Centre keeps the full ₹2.16 lakh of surcharge and cess.
• States get a share of only the ₹15 lakh base tax.

Why the cess share rises or falls

• Long-term trend: cesses and surcharges were 2.3% of the Centre's GTR in 1980-81 and 15% in 2019-20 [2].
• 2020-21 to 2022-23: more than 15% of GTR came from cesses and surcharges each year [6].
• Why the share rose:
• The 14th Finance Commission raised states' share to 42% (2015-20).

• The Centre then relied more on levies it did not have to share, especially cesses on fuel.

• What would push it down: a cap on cesses and surcharges, or a rule that moves them into the divisible pool after a fixed time. The 16th Finance Commission did not recommend a cap [3].

In India

• Legal basis: Art. 270 keeps cesses out of the shared taxes. Parliament creates each cess by law, for example the HSNS Cess Bill, 2025 [4].
• Who manages it:
• The Union government collects the cess.
• The Finance Commission decides states' share of the divisible pool. It has no say over cess money.

• The CAG (Comptroller and Auditor General, who audits government accounts) checks whether cess money reaches its dedicated fund.

• Weak earmarking:

• The CAG found that in 2016-17, ₹31,156 crore of cess revenue was not moved to the dedicated funds in the Public Account [7].

• That money stayed in the Consolidated Fund and was used like general revenue, which defeats the point of earmarking.

• Effect on states (the "devolution gap"):

• Formula share: states get 41% of the divisible pool. The 16th Finance Commission kept this share for 2026-31 [3].
• 2019-20: only 85% of GTR formed the divisible pool, so the 42% share worked out to 35.7% of GTR [2].

• 2024-25 (Budget Estimates): the 41% share worked out to only 32% of GTR [6].

• Simple illustration:

• GTR = ₹100, and cesses plus surcharges = ₹15 (collection cost ignored).
• Divisible pool = ₹85.
• States get 41% × ₹85 = ₹34.85, which is about 35% of GTR and not 41%.

Don't confuse with

• Surcharge: a surcharge is an extra tax charged as a % of the tax already payable ("tax on tax"), under Art. 271. It is not earmarked and goes to the general fund. A cess is earmarked. Neither one is shared with states.
• Social Welfare Surcharge (SWS), 2018: despite the "social welfare" name, it is a surcharge, not a cess. It is levied on customs duty, so it is an indirect tax.
• Shared central taxes (divisible pool): ordinary income tax and corporation tax are shared with states on the Finance Commission's advice. Cess revenue never enters this pool [3].
• Health and Education Cess vs the old education cesses: since 2018 there is one 4% cess. The older 2% + 1% (3% total) cesses no longer exist.

Prelims Hooks

• A cess is earmarked and a surcharge is not. Neither is shared with states under Art. 270.
• The Health and Education Cess (4%, 2018) is charged on income tax plus surcharge, not on income. It replaced the 2% education cess and the 1% secondary and higher education cess.
• Divisible pool = GTR − cost of collection − cesses and surcharges. Under the 16th Finance Commission (2026-31), states get 41% of this pool [3].
• The HSNS Cess (2025) is levied on machine capacity or production of pan masala, not on each packet sold. Its money goes to public health and national security [4].
• Cesses and surcharges rose from 2.3% of GTR (1980-81) to 15% (2019-20) [2].
• Trap: the Social Welfare Surcharge sounds like a cess, but it is a surcharge on customs duty, so it is an indirect tax.

Mains Points

• Fiscal federalism (GS-II/III):
• Because more revenue is raised through unshared cesses and surcharges, the headline 41% share shrinks to about 32% of GTR (2024-25 BE) [6].
• This cuts states' money without any change to the Finance Commission formula, and it weakens the Commission's role.
• The 16th Finance Commission made no recommendation to cap cesses [3].

• Possible fixes: cap cesses and surcharges at a set % of GTR, move them into the divisible pool after a time limit, or amend Art. 270.

• Accountability and earmarking:

• A cess can be justified only because it is tied to a purpose.
• The CAG found ₹31,156 crore (2016-17) of cess money was not moved to the dedicated funds [7]. In practice, the cess then works like an unshared surcharge.

• Possible fixes: automatic transfer to Public Account funds, a sunset clause (a fixed end date) for each cess, and yearly reports to Parliament on how the money was spent.

• The case for cesses, and the cost:

• For: cesses can fund national priorities such as health, education, roads and defence when the Centre has little spare money.
• For: the HSNS cess also works as a Pigouvian tax (a tax that discourages a harmful product), and taxing production capacity makes evasion harder [4].
• Against: many layers of cess make the tax system harder to understand. This goes against the aim of a simple, broad-based tax system with low rates, which was the idea behind GST and the new income tax regime.

Related concepts

• Surcharge

Read more

• Cesses and surcharges: earmarked and unshared levies