Why the government raised excise duty on cigarettes and brought in a machine-based cess on pan masala

The Union government’s decision to restore excise duty on cigarettes and introduce a machine-capacity-based cess on pan masala marks a decisive shift in India’s sin-tax strategy, nearly a decade after the rollout of GST. Officials argue the move is meant to close long-standing tax loopholes, prevent revenue erosion as GST compensation winds down, and re-anchor taxation of harmful products in public-health and national-security objectives. Industry, however, has questioned both timing and design. Here is why the Centre believes the changes were unavoidable.

Why cigarette taxes were revised after years of stability

When GST was introduced in 2017, cigarette taxation was split between GST, a Compensation Cess, and a residual basic excise duty (BED). While GST and the cess continued, the BED remained virtually frozen for seven years. In some categories, it fell to around ₹5 per 1,000 sticks — a negligible amount compared to the pre-GST regime, when excise duties ranged from ₹1,585 to over ₹4,000 per 100 sticks, depending on cigarette length and filter type.

During this period, neither GST rates nor the Compensation Cess were revised, despite rising incomes and inflation. Studies tracked by bodies such as the World Health Organization and the World Bank show that cigarette affordability in India either stagnated or improved, diluting tobacco taxation as a deterrent to consumption. With the Compensation Cess now nearing its sunset, the government argues that restoring excise duty was necessary to prevent cigarettes from becoming cheaper in real terms and to maintain revenue buoyancy.

Is India already taxing cigarettes too heavily?

Industry groups often argue that India risks overtaxing cigarettes and fuelling illicit trade. The government disputes this. According to World Bank estimates, India’s total tax incidence on cigarettes is about 53% of the retail price — well below the WHO’s recommended benchmark of 75%.

Globally, several countries tax cigarettes at much higher levels. The UK, Australia, France and New Zealand impose total taxes exceeding 80% of retail price. Evidence compiled by the WHO and the Organisation for Economic Co-operation and Development suggests that smuggling is driven less by tax rates and more by enforcement gaps and supply-chain weaknesses. India’s own experience indicates that lowering taxes tends to boost consumption without significantly reducing illicit trade.

Why pan masala was brought under machine-capacity-based taxation

Pan masala and smokeless tobacco have long been among the most evasion-prone sectors in India’s indirect tax system. Production typically takes place on high-speed form-fill-seal machines capable of packing anywhere between 500 and 2,400 pouches per minute. At such speeds, physical counting of output becomes impractical.

Enforcement agencies have repeatedly flagged under-reporting of production, use of undeclared machines, misdeclaration of pouch weight, and diversion of non-duty-paid stock. A machine-capacity-based levy, the government argues, offers a more objective proxy for actual production potential than value-based taxation alone. Under the new framework, tax liability is linked to parameters such as machine speed, number of tracks, motor RPM and pouch grammage, with higher-capacity machines attracting higher levies.

Does the new cess lower the overall tax burden on pan masala?

No. With the Compensation Cess ending, officials feared that the total tax burden on pan masala — currently close to 88% — could fall sharply to the GST ceiling of 40%. To prevent this, the GST rate on pan masala has been raised from 28% to 40%, while the balance is collected through a new Health Security and National Security Cess calculated on machine capacity.

The Centre maintains that the combined GST-plus-cess incidence broadly mirrors the earlier GST-plus-Compensation-Cess regime, ensuring that pan masala does not become cheaper despite its severe health impacts, including links to oral cancer.

Why a cess instead of pushing GST rates further

GST rates are capped at 40% under law, and all GST proceeds must be shared with states. Moreover, GST allows seamless input tax credit, which can dilute the intended consumption-deterrent effect of higher rates. A cess, by contrast, sits outside the input tax credit chain, can be ring-fenced for specific purposes, and does not disturb the GST structure.

The government says the new cess is designed to fund public-health spending — particularly cancer and oral healthcare — as well as national-security requirements that need predictable, long-term financing.

The constitutional and legal basis of the levy

The Centre argues that the new cess is constitutionally sound. Article 270 of the Constitution permits Parliament to levy cesses for specific purposes, while Entry 97 of the Union List provides residual taxing powers. Excise duty on tobacco continues under Entry 84 of the Union List, a position upheld by the Supreme Court of India even after GST.

For pan masala, which is no longer an excisable good, the levy is structured not on manufacture or sale but on machine capacity. Past rulings, including Mohit Minerals v Union of India, have affirmed Parliament’s wide latitude in designing purpose-specific levies.

How compliance will be enforced on the ground

The compliance framework relies on upfront declaration and verification of machine parameters, certified by Chartered Engineers. Once approved, machines are subject to CCTV monitoring and tamper-proof sealing during shutdowns. Rather than routine inspections, enforcement is risk-based, triggered by mismatches between declared machine capacity and GST turnover, intelligence inputs, or abnormal input-output patterns. Future plans include motion sensors and BIS-standardised machinery to further reduce discretion.

What it means for GST and states’ revenues

The Centre insists the measures strengthen, rather than dilute, GST. Higher GST rates on cigarettes and pan masala increase the GST share flowing to states, while excise duty on tobacco remains part of the divisible pool shared under the Finance Commission formula. Although the pan masala cess is not shareable, its proceeds are earmarked for public-health and national-security programmes that directly benefit states. Crucially, the machine-based cess allows authorities to triangulate physical production capacity with GST value data, making evasion harder.

The larger policy signal

Together, the excise hike on cigarettes and the machine-capacity cess on pan masala signal a return to active sin-tax policymaking after years of inertia. The government’s core argument is that demerit goods must not become more affordable over time and that taxation systems must evolve alongside technology-driven evasion. By combining GST’s value trail with a physical capacity-based levy, policymakers believe they have created a more resilient framework that aligns fiscal policy with public health and national security priorities, without unsettling the GST architecture.