Goods and Services Tax and India's MSMEs: Compliance, Formalisation and the 2025 Rate Reform

Abstract

The Goods and Services Tax (GST), introduced in India on 1 July 2017, replaced fragmented central and state indirect taxes with a destination-based value added tax. Its effects on micro, small and medium enterprises (MSMEs) remain debated. This paper reviews international research on value added taxation and informality together with Indian evidence on GST and MSMEs, and examines the 2025 reform that rationalised GST into a two-rate structure. Using a structured narrative review of peer-reviewed studies, working papers and official data, the paper organises the evidence around three themes: the formalisation effects of value added taxes, the compliance burden on small firms, and the role of digital tax administration. The review finds that GST has expanded the formal tax base substantially: registered taxpayers rose from 65 lakh in 2017 to more than 1.51 crore by 2025, and gross collections doubled from ₹11.37 lakh crore in 2020-21 to ₹22.08 lakh crore in 2024-25. International evidence shows that the invoice trail in value added taxes encourages compliance along supply chains, but also that tax registration choices spread through supplier networks, disadvantaging unregistered small firms. Indian survey evidence points to working capital strain from blocked input tax credits and the costs of formalising informal practices. The 2025 reform, with rates of 5 and 18 per cent and faster registration and refunds, addresses some of these concerns. The paper proposes a research agenda on supply chain inclusion, working capital, e-invoicing and the effects of the rate reform.