Defence Minister Rajnath Singh is poised to raise with Finance Minister Nirmala Sitharaman the contentious issue of the 18% Central Goods and Services Tax (GST) imposed on grants awarded to private companies—including MSMEs and start-ups—for military research and development (R&D). 

This matter has gained urgency following a series of GST notices sent to private sector innovators who received funding under the Defence Research and Development Organisation’s (DRDO) Technology Development Fund (TDF) and the Innovations for Defence Excellence (iDEX) scheme.

Policy Disparity And Industry Impact

The controversy stems from a policy discrepancy: while state-owned research associations, universities, and other entities registered under the Department of Scientific and Industrial Research (DSIR) were exempted from GST on R&D grants by a GST Council notification in October 2024, private sector players remain subject to the 18% levy.

This has created a significant imbalance, as private MSMEs and start-ups—key drivers of defence innovation—are forced to pay GST on government grants intended to foster indigenous technological development. Industry bodies and affected companies argue that this amounts to a “tax on innovation,” undermining the Modi government’s Atmanirbhar Bharat (self-reliance) initiative in the defence sector.

Escalation And Parliamentary Review

The DRDO has escalated the issue to both the Ministry of Defence (MoD) and the GST Council, contending that the tax is discriminatory and discourages private sector participation in critical defence R&D. The Defence Ministry, recognizing the limitations of defence public sector undertakings (PSUs) in meeting modern technological requirements, relies increasingly on MSMEs and startups for innovation through schemes like iDEX, which has seen its budget nearly triple in two years to ₹449.62 crore for FY 2025-26.

The matter has also reached the Parliamentary Committee on Defence, which is expected to submit a report concurring with the DRDO’s position that the 18% GST on innovation funding for MSMEs and start-ups is unjustified and detrimental to national interests.

Financial And Strategic Implications

For FY 2025-26, the DRDO’s budget allocation rose to ₹26,816.82 crore, with ₹14,923.82 crore earmarked for capital expenditure and R&D projects. Despite these increased investments, the GST burden on private R&D grants erodes the intended financial support, constraining cash flows and potentially stalling the development of next-generation military technologies. MSMEs, which contribute significantly to India’s defence production and technological advancement, argue that the GST liability not only strains their finances but also contradicts the government’s strategic objectives.

Legal And Policy Considerations

Legal experts and industry representatives point out that grants for research and innovation should not be treated as taxable services unless they involve direct commercial transactions. The GST Council holds the authority to reclassify such grants under exempted categories, and there is growing consensus among stakeholders—including the Society of Indian Defence Manufacturers (SIDM)—that urgent policy reform is needed. Proposed measures include reclassifying defence R&D grants as capital contributions, extending DSIR exemptions to private MSMEs, and allowing conditional GST relief until project completion.

Government Response And Outlook

The issue gained national attention after media reports in March 2025 highlighted industry concerns, prompting the Defence Ministry and iDEX to initiate inquiries and the Finance Ministry to launch internal investigations into the GST notices. The matter is now under active consideration at the highest levels of government, with a resolution expected soon as both the Defence and Finance Ministries deliberate on possible policy adjustments.

The imposition of 18% GST on R&D grants to private defence firms has sparked widespread concern across the industry, with stakeholders warning that it threatens to stifle innovation and impede India’s drive for self-reliance in defence technology. The government’s response in the coming weeks will be critical in determining whether private sector participation in defence R&D can continue to thrive under a supportive policy framework.

Agencies