Every year, the Union government collects income tax in Bengaluru, customs duty at Mumbai port, and GST on your mobile phone bill in Guwahati. None of it stays with them. A large share — mandated by the Constitution — flows back to the states. For FY 2026-27, that number is ₹11.75 lakh crore.
Who decides how much each state gets? That is the job of the Finance Commission — a constitutional body convened every five years to write the formula that governs this transfer.
The constitutional backstory
Article 280 of the Constitution requires the President to constitute a Finance Commission every five years. It recommends the distribution of the net proceeds of taxes between the Union and the states, and among states inter se.
The 15th Finance Commission (15th FC), chaired by N.K. Singh, submitted its report in 2020 for the period 2021-26. Its award — a 41% share of the divisible pool for states — now governs FY 2026-27, the last year of its mandate.
The 16th Finance Commission was constituted in December 2023, chaired by Arvind Panagariya. Its recommendations will take effect from 2026-27 onward (with a likely overlap period). Watch this space.
What goes into the divisible pool?
Not all central taxes are shareable. The divisible pool includes:
- Corporation Tax — what companies pay on profits
- Income Tax — personal income tax (not surcharges)
- GST (Centre's share) — the 50% that goes to the Union
- Customs duty
- Central Excise (residual; most goods now under GST)
Not in the pool: cesses and surcharges (Health & Education Cess, Surcharge on income tax). This is a major point of contention — cesses have ballooned over the past decade, shrinking the effective share states receive.
In FY 2026-27, the divisible pool is approximately ₹28.65 lakh crore, and the 41% state share works out to ₹11.75 lakh crore.
The formula: five criteria
The 15th FC distributes this pool across states using a weighted formula:
| Criterion | Weight | |-----------|-------:| | Population (2011 census) | 15% | | Area | 15% | | Forest & ecology | 10% | | Income distance | 45% | | Tax effort | 2.5% | | Demographic performance | 12.5% |
Income distance — the single biggest factor — measures how far a state's per capita income is from the highest in the country. A poor state like Bihar, with per capita income far below Haryana's, gets a larger weight. This is by design: fiscal federalism redistributes from rich to poor states.
Demographic performance rewards states that reduced their fertility rate (total fertility rate ≤ 2.1 replacement level). Kerala and Tamil Nadu, which achieved replacement fertility decades ago, benefit here. Uttar Pradesh and Bihar, still above replacement, score lower. This criterion was introduced to avoid penalising states with already low birth rates who would otherwise lose share when the population base shifts to the 2011 census.
Why UP gets 17.6% and Goa gets 0.3%
Running the numbers:
| State | Population weight | Income distance | Forest/ecology | Area | Final share | |-------|------------------:|----------------:|---------------:|-----:|------------:| | Uttar Pradesh | 16.5% | 19.2% | 0.8% | 3.1% | 17.6% | | Maharashtra | 9.3% | 4.4% | 2.1% | 5.8% | 6.1% | | Tamil Nadu | 5.9% | 4.8% | 2.2% | 2.1% | 4.1% | | Goa | 0.1% | 0.05% | 0.6% | 0.1% | 0.3% |
Approximate calculations; actual figures from 15th FC report.
Goa has a high per capita income (income distance ≈ 0) and a tiny population. It gets almost nothing from the formula — but that's fine, because Goa's own tax revenue is proportionally larger relative to its small budget.
The cesses problem
The most persistent complaint from states is the rise of cesses and surcharges. These sit outside the divisible pool entirely and fund Union schemes directly.
From FY 2012-13 to FY 2024-25, the share of cesses in gross tax revenue rose from ~5% to ~15%. On a ₹35 lakh crore tax base, that represents roughly ₹3.5 lakh crore not going into the divisible pool.
States argue this erodes the spirit of fiscal federalism. The 15th FC noted the problem. The 16th FC will have to grapple with it.
Vertical vs horizontal devolution
There are two questions the Finance Commission answers:
- Vertical: How much of the total divisible pool goes to states (vs. the Union)? Answer: 41%.
- Horizontal: How is that 41% split among the 28 states? Answer: the formula above.
Both are contested. Southern states (TN, Kerala, Karnataka, AP, Telangana) have long argued that the vertical share should be higher and that the formula penalises them for development. The 16th FC's recommendations will be politically charged.
What to watch
- 16th FC report (expected 2026): Will it raise the states' share above 41%? Will it address the cesses problem?
- New population data: The 2021 census (delayed; now expected 2025-26) may shift the population weights significantly.
- GST Council dynamics: The Centre's GST share depends on compensation arrangements that expired in 2022.
The Finance Commission is one of the most important institutions in Indian federalism that most people have never heard of. Its five-yearly report shapes how ₹11+ lakh crore flows between the Union and the states — and determines which services get funded in which corner of the country.
Data: 15th Finance Commission Report (2020), Union Budget 2026-27 receipts annexure. Formula weights from Chapter 7, 15th FC Report.