GST: Imposition of New Input Tax Credit Restrictions Every Year is Reducing Ease of Doing Business

In July 2017, India’s Goods and Services Tax (GST) was implemented with great enthusiasm. The legislation’s Input Tax Credit (ITC) mechanism was supposed to be stable, with credits being fully fungible and resulting in favorable cash flows. However, even four years after its inception, ITC’s voyage has been rough, with additional regulations added each year, increasing the compliance burden significantly.

The receipt of ITC was originally envisioned as a two-way communication in which the supplier would upload the supply invoice data on the common site and the recipient would accept or reject the same in real-time. The two-way communication system, however, could not be established because the system functionalities were not in place. In addition, the legislative provisions to formalize two-way communication, namely Sections 41, 42, 43, and 43A of the CGST Act, are planned to be deleted in Finance Bill 2022, effectively killing the ambitious ‘credit-matching’ concept.

It’s apposite to analyse the major amendments made in the ITC provisions:

Rule 36(4) of the Central Goods and Services Tax Rules, 2017 (CGST Rules) has been amended [effective October 2019].

• The procedure for obtaining ITC is outlined in Section 43A of the Central Goods and Services Tax Act, 2017 (CGST Act). Rule 36(4) limited the total credit to 120 percent /110 percent /105 percent of the credits matched with GSTR-2A (as amended from time to time).
• Prior to the addition of Rule 36(4), taxpayers could claim the entire eligible input credit based on their invoices, and GSTR-2A was merely a convenience measure that had no bearing on the taxpayer’s ability to claim ITC on a self-assessment basis.
• The legitimacy of Rule 36(4) was questioned because it is enforced through Rules that are not part of the CGST/SGST Act.
• Furthermore, Rule 36(4) places an onerous and unattainable task on the buyer to guarantee that the supplier uploads the details of outward deliveries to the common site, failing to do so exposing the buyer to the danger of ITC disallowance.

Section 16(2)(aa) of the CGST Act, as amended by Rule 36(4) of the CGST Rules [effective January 22, 22]

• ITC cannot be claimed unless the details of invoices have been communicated on Form GSTR-2B, according to Section 16(2)(aa) read with revised Rule 36(4).
• The availability of ITC in GSTR-2B continues to be marred by ambiguity, which has yet to be resolved. While the invoices are recorded in the GSTR-2B for a month, the recipient is not eligible for ITC since certain other conditions set forth in Section 16 of the CGST Act have not been met, such as goods in transit not received by the buyer, invoice not received by the buyer, and so on.

Proposed amendment to Section 16(2)(ba) of the CGST Act, as well as Section 38 [included in Finance Bill 2022]

• It is critical to note that the list of limits on ITC availment stated in Section 38 is based on supplier default, such as non-compliance with registration provisions, supplier default in tax payment, excess ITC availment, and so on.
• Imposing such limits on the recipient as a result of the supplier’s noncompliance is onerous for the recipient, who has no recourse or influence over the supplier; these conditions appear regressive, arbitrary, and unreasonable, and run opposed to a sound value-added tax policy.

Proposed amendments to Section 49 of the CGST Act, as well as Rule 86B of the CGST Rules [Amendment to Section 49 – included in Finance Bill 2022; Rule 86B effective January’21]

• The use of ITC for payment of output liability is restricted under Rule 86B of the CGST Rules. The Gujarat High Court is debating the constitutionality of Rule 86B. While the case is pending, the Finance Bill 2022 proposes to amend section 49 of the CGST Act, giving the government the authority to limit the use of electronic credit ledgers for payment of output tax liabilities.
• The aforesaid enabling provision undermines the goal of seamless credit utilization. The combination of ITC buildup and cash payment to discharge tax debt will be a double whammy for taxpayers.

The installation of restrictions on ITC availability and use appears to have been imposed with the goal of reducing false invoicing and increasing revenue. However, frequent legislative changes and the implementation of new restrictions will have a negative impact on taxpayers, particularly MSME and small businesses that lack the resources and automated tax compliance tools. In ITC, the ‘ease of doing business’ is diluted by stringent, complex, and arbitrary conditions.

The government is likely to take a pragmatic approach to enacting the budget measures, removing onerous compliances and needless limits on ITC and aiming for a balance between facilitation and enforcement, resulting in better compliance and removing confusion for honest taxpayers.