16th Finance Commission retains states’ tax share at 41%

Key facts

• The sixteenth Finance Commission recommended retaining the state’s share in the divisible tax pool at 41% for the five-year period beginning April 1, 2026.
• The commission recommended ending revenue deficit grants for the states.
• The commission added states’ contribution to GDP among its horizontal devolution criteria.
• The commission recommended stricter fiscal discipline for states and annual disclosure of net proceeds of Union taxes certified by the Comptroller and Auditor General.
• States are required to disclose their off-budget borrowings.
• The commission enhanced disaster grants and enforced stricter timelines for fund transfers to local governments with higher penalties for failure.
• For horizontal devolution, the commission will give 15.5% weightage to population based on 2011 census, 10% to demographic performance, 10% each to area and forest cover, 42.5% on per-capita income distance, and the rest on states’ contribution to GDP.
• Of total grants of Rs 7.91 lakh crore to rural and urban local bodies, 60% is earmarked for rural local bodies and 40% for urban local bodies, with 20% grant to be performance-linked.
• Half of the basic grant is tied to sanitation, solid waste management, and water management.
• The commission proposed an urbanisation premium of ₹10,000 crore to incentivise merger of peri-urban villages into larger urban local bodies.
• A ₹56,100-crore special infrastructure window is proposed for comprehensive wastewater management in select urban growth centres.
• States must transfer funds to local bodies within 10 working days of receipt from the centre, failing which interest will be payable.
• The commission recommended a combined ₹2.04 lakh crore corpus for State Disaster Response and Mitigation Funds over five years with an 80:20 split between response and mitigation.
• The centre’s share is capped at ₹1.56 lakh crore for disaster management.
• The commission proposed separate allocations of ₹79,406 crore for the National Disaster Response and Mitigation Funds.
• From 2027-28 onwards, states must fully upload and validate data on the National Disaster Management Information System portal to access disaster grants.
• The commission called for strict enforcement of a 3% gross state domestic product (GSDP) cap on states’ fiscal deficits and discontinuation of off-budget borrowings.
• The centre accepted the borrowing cap for states in principle and will examine other fiscal recommendations separately.