The report, presented by Kelkar to Finance Minister P Chidambaram on Tuesday, has also said the revenue-neutral rate for states under the proposed value-added tax regime, expected to be in place from April 1, 2005, should be set at 8 per cent. In their deliberations, the states had arrived at a revenue-neutral rate of 12 per cent.

According to government sources, the Kelkar task force has suggested that states, too, should be allowed to tax the pool of goods and services that is currently allowed to be tapped only by the Centre. The 12 per cent Cenvat, together with an 8 per cent revenue-neutral rate by the states, will take the total tax incidence to 20 per cent.

The task force has argued that allowing a double incidence of taxation on the same pool of goods and services would not hurt business. This is because the projected combined rate will still be lower than the present 28 per cent rate of tax on most goods, if one combines the central and state levies.

The report has also asked for merging the Cenvat rate of tax on goods with the rate on services. The two are at present 16 and 10 per cent, respectively.

The task force's recommendations are significant given the Centre's commitment to the FRBM Act, which calls for the elimination of the revenue deficit by March 31, 2009, and an annual 0.3 per cent reduction in the fiscal deficit.

The Kelkar report has juxtaposed the projected growth rate of the Centre's revenue stream with the trend in government expenditure over 2004-05, till 2008-09.

In the Budget 2004-05, Chidambaram said, "Excise duties are stuck rather stubbornly, at around 3.3 per cent of the GDP." This is not in tune with the expansion of manufacturing in the country.

If the recommendations are implemented in the next Budget, Chidambaram will face the prospect of losing at least Rs 4,400 crore (Rs 44 billion) on account of the excise duty foregone.

To ensure a sound delivery system of government expenditure, the task force has said that all devolution to panchayats and municipal bodies should be routed through the state governments.

It has said the Centre should insist on incorporating a provision to ensure that such sums must be released to the local government bodies within seven days of the devolution of the fund.

The Kelkar formula

• Centre and states should be allowed to tax the same pool of goods and services.
• Eliminate the tussle on the allocation of service tax.
• No new law required for the service tax list.
• Reduce overall tax incidence to 20 per cent.