16th Finance Commission fixed the states’ share in the divisible pool at 41%

The 16th Finance Commission has recommended retaining the states’ share in the divisible pool of central taxes at 41 percent; under the new formula, Karnataka’s share in central tax transfers has been fixed at 4.13%.

• The 16th Finance Commission has recommended retaining the states’ share in the divisible pool of central taxes at 41 percent, while emphasizing outcome-based expenditure, greater transparency in tax transfer data, and stronger fiscal discipline at the state level.
• The panel said there is a need to improve efficiency in public expenditure and strengthen the fiscal accountability framework across all states.

States with the highest share in central tax transfers

• Under the new formula, Karnataka’s share in central tax transfers has been increased to 4.13% for 2026–31, compared to 3.65% under the 15th Finance Commission.
• This would mean an additional ₹7,387 crore, increasing Karnataka’s allocation to ₹63,050 crore, whereas under the previous formula Karnataka would have received ₹55,663 crore.
• Kerala emerged as the second-largest beneficiary, with its allocation increasing by ₹6,975 crore and its share rising from 1.93% to 2.38%.
• Gujarat (₹4,228 crore) and Haryana (₹4,090 crore) also benefited significantly, as their per capita income is higher and their contribution to GDP is substantial.
• Madhya Pradesh benefited the least, with its allocation decreasing by ₹7,677 crore to ₹1.12 lakh crore. Its share in the Centre’s divisible pool declined from 7.85% to 7.35%.

16th Finance Commission

• The formal constitution of the 16th FC took place on December 31, 2023, under the chairmanship of Arvind Panagariya, with the mandate to make recommendations for a five-year period from April 1, 2026 to March 31, 2031. The Finance Commission is a constitutional body under Article 280.
• It submitted its report to the President of India on November 17, 2025, which was tabled in Parliament by Ms. Sitharaman on Sunday (February 1, 2026).
• The fiscal deficit for the next financial year has been estimated at 4.3 percent of GDP, compared to 4.4 percent for the financial year ending March 2026.
• In the Budget Estimates (BE) 2026–27, the debt-to-GDP ratio is estimated at 55.6 percent of GDP, compared to 56.1 percent of GDP in the Revised Estimates (RE) 2025–26.
• The 16th Finance Commission has recommended total grants of ₹7,91,493 crore for duly constituted rural local bodies (RLBs) and urban local bodies (ULBs) for the period 2026–27 to 2030–31.

Key recommendations

• It states that there is no longer any scope to reduce the states’ share in the divisible pool, as the Centre’s cesses and surcharges—which are not shared with the states—have reduced the size of the divisible pool from 89.1% of total tax revenue in 2014–15 to 74–80% during the period 2020–24, for which actual data are available.
• The report states, “The Commission believes that if an efficient and comprehensive system of taxation is to be implemented, a grand bargain will have to be struck between the Centre and the states, wherein the Centre will agree to subsume a large part of the revenue from cesses and surcharges into regular taxes, and the states will agree to a smaller share of the resulting larger divisible pool, ensuring that neither side suffers any revenue loss.”
• The weightage for a state’s population is now 17.5%, up from 15% earlier. The weightage for its demographic performance—i.e., how successfully it has controlled population growth—has been reduced from the earlier 12.5% to 10%. The 16th Finance Commission has given a 10% weightage to the area of a state, compared to 15% earlier.
• A state’s forest area continues to receive a 10% weightage, unchanged from before. The per capita GSDP distance of a state—i.e., the gap between a state’s average per capita income and that of the state with the highest per capita income—has been given the highest weightage of 42.5%, down from 45% earlier.

Union Budget 2026: Allocation for major central schemes

• The 16th Finance Commission has removed the earlier ‘tax and fiscal efforts’ category, which had a weightage of 2.5%, and replaced it with ‘contribution to GDP’, which has a weightage of 10%.
• Under this new formula, all five southern states—Tamil Nadu, Kerala, Andhra Pradesh, Telangana, and Karnataka—have seen an increase in their share of the divisible pool.
• According to the recommendations of the 16th FC, Andhra Pradesh will receive 4.217% of the shared amount, up from 4.047% earlier. Karnataka’s share has increased from 3.647% to 4.131%. Kerala’s share has risen from 1.925% to 2.382%. Tamil Nadu’s share has increased from 4.079% to 4.097%, and Telangana’s share has gone up from 2.102% to 2.174%.
• On the other hand, Uttar Pradesh and Bihar—the two most populous states in India and the largest recipients in tax devolution—have seen a reduction in their share. Uttar Pradesh’s share has declined from 17.939% to 17.619%. Bihar’s share has decreased from 10.058% to 9.948%.

Revenue deficit grants discontinued

• The Commission said that states’ revenue deficits primarily arise from committed and discretionary expenditures and emphasized that states have room to increase revenues and rationalize expenditure.
• Continuing the declining trend recommended by the 15th Finance Commission, which had reduced revenue deficit grants to nearly zero by FY26, the 16th Finance Commission stated that it does not recommend revenue deficit grants, nor sector-specific or state-specific grants, during its award period.

Fiscal consolidation and borrowing discipline tightened

• The Commission recommended that states’ fiscal deficit be capped at 3 percent of GSDP, while the Centre should reduce its fiscal deficit to 3.5 percent of GDP by the end of the award period.
• It also recommended that states “completely discontinue the practice of off-budget borrowing and bring all such borrowings onto their budgets.”

Emphasis on subsidy rationalization and PSU reforms

• The Commission expressed concern over the rising subsidy burden and stated that “borrowing to fund expenditure on subsidies and transfer schemes is not sound fiscal policy,” while urging states to rationalize schemes and introduce sunset clauses.