The government is likely to set aside around Rs 1,200-1,500 crore (Rs 12-15 billion) in the Budget to compensate states for possible losses because of the implementation of the value-added tax from April 1, 2005.

The National Institute of Public Finance and Policy had been asked by the finance ministry to provide inputs.

Officials told Business Standard an amount of Rs 1,500 crore would include the compensation for Uttar Pradesh, which is the only state yet to introduce an enabling law for VAT.

• Run-up to Budget 2005-06
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"The National Institute of Public Finance and Policy has looked at each state and we have received an assessment from the states themselves. The figure has been finalised on the basis of these inputs. If one excludes Uttar Pradesh, the provision will be around Rs 1,200 crore," an official said.

The government had, in the last Budget, made a provision of Rs 700 crore (Rs 7 billion) for paying compensation to states but the decision to implement VAT was postponed to April, 2005.

The white paper on VAT had stated that the government would compensate for 100 per cent losses in the first year, 75 per cent in the second year and 50 per cent in the third year. The losses will be computed on the basis of an agreed formula.

The government is also considering a proposal by the empowered committee of state finance ministers to impose 4 per cent VAT on all imports.

The white paper had recognised the need to bring imports into the VAT chain. "Because of this set-off, this will not result in any cascading effect, but will only improve tax compliance," the paper had said.

The empowered committee is considering expanding the list of 550 items under VAT on the lines of the classification given under excise. Officials said the objective would be to impose a 4 per cent VAT on all inputs.

The empowered committee is also in favour of reducing the central sales tax to 2 per cent from April 1, 2006.