Maximizing Benefits of Input Tax Credit (ITC) Under the GST Framework

Goods and Services Tax (GST) law has become operational on 1st July 2017 and existing laws have been repealed. GST is a significant change in the line of indirect taxes in our country. Before GST became operational, State and Central government imposed multiple taxes. But now this system is replaced by one tax known as Goods and Service Tax (GST).

GST is a multi-layered value added tax on consumption of goods or services or both. It combines multiples taxes into one including different transitional provisions to make sure that the shifting to GST regime is flexible and problem free and no ITC (Input Tax Credit) profits received during the existing regime were put in place.   

Under the Goods and Services Tax (GST) system in India, businesses can reduce their tax burden by claiming Input Tax Credit (ITC) on the taxes paid on inputs and input services used for business purposes. The ITC mechanism is vital for businesses to minimize cascading taxes and improve cash flow. To establish observance and increase the profits, it is important to know the commands and sections of the GST law governing Input Credit Tax.

Eligibility for ITC:

1.    Section 16(1): As per the section 16(1) of GST a registered taxpayer qualifies to claim ITC on imparting any goods and services used only in the course or advancement of business and not for any personal use.

2.    Section 16(2): This section of GST mentions certain rules for getting ITC which includes-

Blocking of ITC/Ineligible ITC:

1.    Section 17 of the CGST Act, 2017 specifies the below categories of goods services for which ITC cannot be claimed by any entity:

A.    Motor Vehicles and Other Conveyances: A tax payer will not be entitled to ITC on motor vehicles used for transportation of persons which has got the approval of the seating capacity of only thirteen persons which includes driver, except in following cases-  

B.    Food, Beverages, and Outdoor Catering: ITC is blocked on food and beverages (such as snacks, meals, etc.) except the below:

C.    Club, Health, and Fitness Centre Memberships: The tax payer is not entitled to get ITC on fees for membership of health, clubs and
fitness centres except in the below mentioned situations:

D.    Rent-a-Cab and Travel Services: ITC is not available on rent-a-cab services, tour operator services, or services of similar nature, except int the below circumstances:

E.    Works Contract Services (except for Construction of Immovable Property for Business): ITC is blocked on works contract services, except when they are used for the construction of immovable property for business purposes.

F.    Construction Services: ITC is not allowed on construction of immovable property, unless it is used for business purposes (e.g., construction of a factory, office building, etc.).

G.    Personal Use Items: ITC is blocked for any goods or services used for personal consumption (e.g., private consumption of goods or services).

H.    Goods Lost, Stolen, or Destroyed: ITC is not available on goods that are lost, stolen, or destroyed, or goods that become unusable and the same needs to be reversed.

I.    Goods Given as Gifts or Free Samples: ITC availed by the needs to be reversed on goods given as gifts or free samples, as they are not used for business purposes.

2.    Situations where reversal of ITC is required:

i.    The person claims ITC on goods or services listed under Section 17(5) as blocked credits.
ii.    ITC is claimed on goods/services not used for business purposes.
iii.    The tax on purchases is not paid by the supplier to the government.
iv.    There is non-compliance with GST return filings.

Time Limit for Claiming ITC:

1.    Monthly time limit: ITC can be claimed in the return GSTR-3B of the specific month. The due date for GSTR-3B (monthly return) is generally the 20th of the following month.

2.    Financial Year time limit: The taxpayers are entitled to take ITC till thirtieth day of November following the end of financial year in respect of any invoice or debit note. Such invoice or debit note possess or provide the details of relevant annual return (the annual return GSTR-9 is typically due by December 31st of the subsequent year), whichever is earlier For example, if goods or services are received in FY 2023-24, the last date to claim ITC on those purchases would be:

3.    Consequences of Missing the Deadline: If ITC is not claimed within the specified time frame, the taxpayer will lose the right to claim the credit for that period.

Matching of ITC:

As per Section 38- Communication of details of inward supplies and (ITC) input tax credit (GSTR-2A and GSTR-2B) Section 38 provides the detailed mechanism for the matching, reversal, and availability of ITC, and it refers to GSTR-2A and GSTR-2B, which are auto-generated returns containing the details of input tax credit available to the recipient based on the supplier’s returns.

1.    Auto-Populated GSTR-2A and GSTR-2B:

A.    GSTR-2A and GSTR-2B are auto-populated based on the details provided by the suppliers in their GSTR-1.
B.    GSTR-2A is a dynamic, constantly updated document that contains details of the ITC available, while GSTR-2B is a static snapshot that provides a consolidated and finalized list of ITCs available for a particular month.

2.    ITC Reconciliation:

A.    The recipient is required to match the ITC claimed in their GSTR-3B with the details in GSTR-2B to ensure the accuracy of the input tax credit.
B.    If the ITC claimed by the recipient does not match the amount shown in GSTR-2B, the recipient must reconcile and adjust their ITC claim accordingly.

3.    Matching Process:

ITC can only be claimed if the details in GSTR-1 (supplied by the seller) match with the GSTR-2B (received by the buyer). The buyer will be unable to claim the corresponding ITC if the seller does not upload the invoice or makes errors in their GSTR, until the issue is resolved. Under Section-16(2) (aa) no ITC shall be allowed the recipient in case the same is not reflected in the auto-populated GSTR-2B.

How to claim ITC:

1.    Only after the settlement of entries in Invoice Management System  and GSTR-2B is completed with the purchase register, the taxpayer can claim ITC. In the monthly GST returns of form GSTR-3B in Table 4, the taxpayers must disclose the amount of (ITC) Input Tax Credit. The summary figures of all ineligible ITC, eligible ITC, ITC reclaimed during tax period and ITC revoked are needed in the table 4.  

2.    Since July 2022, the format of the table-4 of the GSTR-3B has modified. Now, the Table 4(A)(5) auto-completes the total ITC summary figure the GSTR-2B, including ineligible/unavailable ITC. If the total ITC is not properly segmented and  revoked in Table 4(B), the same will unjustifiably collected as a proportion of the net ITC claims of the taxpayer. Hence, it is important to rightfully revoke  and identify  ineligible/unavailable ITC figure. If the summary figures recovered from the earlier tax periods in the current period then it should also be disclosed to get the accurate and exact net eligible ITC figure.

3.    Government’s correct calculation of net tax liability and the dues of GST can only be possible it the values in Table-4 are correct. Wrong values in the table and failure to report it could result in disparity with the GSTR-2B which leads to penalties and notices.

Reversal of ITC    

1.    Non-payment of invoices in 180 days: If the taxpayer fails to pay for invoices with the duration of 180 days from the date of issue, then the ITC will be revoked for invoices.

2.    Credit note issued to recipient – This is for ISD. If a credit note issued to Ho by the seller, then the ITC subsequently decreased will be revoked.

3.    ITC used partly for business purpose and partly for exempted supplies or for personal use – Businesses which use inputs, Input services or Capital goods for outward supply of both Taxable Goods/services and exempt Goods/services can use ITC. ITC used in the portion of input goods/services used for the exempt goods/services must be reversed proportionately.

4.    ITC used partly for business and partly for personal use – This is for businesses which use inputs, capital goods and input services for personal as well as business use. ITC used in the portion of input goods/services used for personal use must be reversed proportionately.

ITC on Capital Goods (Section 18 of the CGST Act):

1.    ITC on Capital Goods at the Time of Purchase [Section 18(1)]: The full ITC on capital goods can be claimed immediately in the year of purchase, regardless of whether the capital goods are used solely for taxable supplies or partially for exempt supplies.

2.    Reversal of ITC on Capital Goods [Section 18(2)]: If the capital goods are used for both taxable and exempt supplies, the ITC claimed needs to be reversed proportionately.

3.    Adjustment of ITC (Section 18(4)): If there is any change in the use of capital goods (from taxable to exempt supply or vice versa), the ITC must be adjusted accordingly.

4.    ITC in Case of Sale, Transfer, or Discarding of Capital Goods (Section 18(6)): If a registered taxpayer sells, transfers, or discards capital goods (e.g., through sale, or when the goods become obsolete), the ITC claimed on the capital goods must be reversed.

5.    ITC on Capital Goods in Case of Exempt Business Activity (Section 18(7)): If the capital goods are used to manufacture or provide exempt supplies, the ITC on those capital goods is not available. However, if the goods become used for taxable supplies later, the taxpayer can reclaim the ITC by reversing the earlier reversal.

Input Tax Credit for Exporters:

There are two primary options for exporters to claim ITC or the refund of ITC:

1.    Option 1: Export Under Bond/Letter of Undertaking (LUT)

A.    Exporters can export goods and services without paying any GST by executing a bond or Letter of Undertaking (LUT) - it can be filed electronically on the GST portal. LUT needs to be filed for each financial year and is valid for the whole year.

B.    No payment of outward tax on export is required when goods or services are exported under LUT, and the exporter can claim refund of ITC on inputs used for the export.

C.    Conditions for Refund:

D.    Refund of ITC for Exporters (Section 54 of the CGST Act): the exporter needs to apply for refund electronically on the GST portal in the form RFD-01. The exporter needs to upload the below documents:

2.    Option 2: Export with Payment of Tax; Alternatively, exporters can pay GST on their export supplies (i.e., export goods or services) and later claim a refund of the outward tax paid on the export sale.

A.    Payment outward tax on export is required when goods or services are exported, but the exporter cannot charge the outward tax from the foreign customer can claim. The outward tax paid by the exporter is refunded by the GST Department.

B.    Conditions for Refund:

C.    Refund of ITC for Exporters (Section 54 of the CGST Act): the exporter needs to apply for refund electronically on the GST portal in the form RFD-01. The exporter needs to upload the below documents:

ITC on Job Work:

A job worker will get the goods for further processing by the principal manufacturer. For example, a manufacturer of shoe will partially send a shoe to a job worker for sole fitting. In this the principal manufacturer is entitled to get ITC on the tax paid on the goods which are sent to job worker. ITC is acceptable whether goods are delivered from the main place of business i.e. place of business or directly from the place of supplier. However, to be eligible for ITC, the principal must get the goods with in one or three years for capital goods.

ITC provided by Input service distributors (ISD):

1.     If a taxpayer receives invoices for services used by its branches, then it’s known as an input Service Distributer (ISD). It issues ISD invoices to the branches on proportional basis to give Input Tax Credit (ISD). The branches must have same PAN as that of ISD but are allowed to have different GSTINs.

2.    Let’s understand with an example:

A.    The head office of M/s ABC Limited is in Bangalore which have branches in Chennai, Mumbai and Kolkata. The head office carried the expense of annual software maintenance (service received) on behalf of all its branches and received the invoice for the same.

B.    Since all the branches have used the software, Bangalore will not be the only place to be credited for input tax credit for entire services. All three locations such as Chennai, Mumbai and Kolkata will get input tax credit. The Input Service Distributer in this case is the head office at Bangalore.

C.    Rule to Distribute ITC by ISD

Conclusion:

You need to understand the clear legal commands and framework to increase Input Tax Credit under GST. By complying with the rules, it will help businesses to effectively manage business transactions. If businesses maintain proper records and follow all the provisions, then it will also help them to reduce tax burden and increase cash flow. The main provisions which need to be followed which also contains the eligibility criteria under Section 16, Section 17 restrictions, Section 37 and 38 matching mechanism and Section 39 filing of returns. By warranting correct and timely filings along with the settlement of purchase details, the businesses will be able to completely optimize the advantages of ITC under GST.