GST Advisory

GST Council brings stricter rules for provisional ITC claims: Section 16(2)(aa)

Several decisions were made by the Goods and Services Tax (GST) Council during its 45th meeting held on September 17, 2021. One of the decisions is to limit the amount of Input Tax Credit (ITC) claims that can be made. In this blog, we take a look at that decision and its consequences on taxpayers. The GST Council decided that once the proposed Section 16(2)(aa) of the CGST Act, 2017 is notified, Rule 36(4) of the CGST Rules, 2017 will be amended to limit the availability of ITC in respect of invoices/ debit notes to the extent that the details & information of such invoices/ debit notes are furnished by the supplier in FORM GSTR-1/ IFF and that they are appropriately communicated to the registered person in GSTR-2B.

Section 16(2)(aa) of the CGST Act – New section

Section 16(2)(aa) was added to the Finance Act of 2021. However, it has not been notified as of yet, even though it has received presidential assent.

Section 16(2)(aa) requires the supplier to include invoices or debit notes referred to in Section 16(2)(a) in the GSTR-1. Such information should also have been communicated to the recipients in accordance with Section 37. In other words, the supplier must include information about all invoices and debit notes in GSTR-1, i.e., in the statement of outward supplies. The same information will then be reflected in GSTR-2B.

As per Section 37, every registered person, except an Input Service Distributor, a non-resident taxable person, and a person who has been paying tax in accordance with the provisions of sections 10 or 51 or 52, shall mention, electronically, in such form and manner as may be prescribed, the details of outward supplies of goods or services or both that are being put into effect during a particular tax period on or before the tenth day of the month succeeding the aforesaid tax period and the above-mentioned information must also be rendered to the recipient of such supplies of goods or services or both within such time and in such manner, as may be specified.

What is the likely impact of Section 16(2)(aa) of the CGST Act on Rule 36(4) of the CGST Rules, 2017?

The CGST Rule mentions provisional ITC, which is nothing but claiming more ITC than what is available in GSTR-2A/ 2B. The GST Council stated that once Section 16(2)(aa) is notified under the Act, Rule 36(4) of the CGST Rules, 2017 will be amended to keep them both in sync.

Once this occurs, the concept of provisional ITC will be obsolete, and a taxpayer will be unable to obtain ITC in excess of what is available in the GSTR-2B. There might be a need for digitization of vendor ecosystems in order to ensure that vendors timely comply with GST rules and so that no ITC is lost by businesses.

How will the taxpayer be impacted?

The government intends to match the supplier’s sales information with the ITC claimed by the recipient. This action would ensure that any ITC claimed by the recipient is fair or genuine and that the suppliers had appropriately deposited the taxes collected from the buyer with the exchequer.

The government has reduced the limit of provisional ITC from 20% to 5% since October 2019.

The announcement on aligning Rule 36(4) of the CGST Rules, 2017 with Section 16(2)(aa) of the CGST Act sheds light on the intention of the government to limit ITC availability to matched credit only.

When the federal and state governments are unable to increase tax rates to increase revenue, they focus on tightening the rules & conditions. Furthermore, denying ITC claims for vendors’ errors would also force businesses to deal only with law-abiding vendors and suppliers.

How can digitization of suppliers/ vendors help?

Obtaining appropriate ITC is critical in a number of ways. There are also compliance issues to consider in addition to the financial impact. Any error of judgment or omission could result in financial and reputational consequences. Furthermore, the GST department’s attempt to locate fake ITCs is in full swing, and very few people are being spared.

When the GST was implemented, many businesses amended their vendor contracts to include indemnity clauses that stated that any vendor default that resulted in a liability on the business would be tolerated by the vendor. Businesses, however, are still concerned about vendor compliance and ITC availability.

This worry and fear of non-compliance can be addressed and resolved with the help of technology adoption, not only at the business level but also at the vendor level. Most businesses have a procurement system in place where a portion of their purchases is made from a small number of vendors. For example, ABC Ltd. obtains 80 percent of its material in terms of value from only 5 percent of its vendors. This means that ABC Ltd. can protect 80 percent of its ITC by simply ensuring that the specified 5 percent of its vendors file returns and pay taxes on time.

Businesses are not only implementing technology products within their organizations, but they are also having them implemented at the vendor’s organization, according to a noticeable trend that technology companies are seeing. These technology solutions also include the incorporation of specific modules between the vendor and the company, allowing the company to assess whether the vendor is compliant or not. This is done explicitly in large corporations where the vendor only supplies to that particular corporation. Within their vendor ecosystems, it is relatively easier for MNCs or large companies to engage in technology solutions. Smaller businesses, on the other hand, are more likely to enter into supply contracts if vendors use a certain level of technology that can provide convenience to them and their businesses. They will do business with such vendors if this condition is met and their ITC is not compromised.

In India, the idea of vendor digitization is still in its early stages. Also, while the phenomenon may appear to be costly at first, a cost-benefit analysis may reveal otherwise. The ITC that the organizations will save, combined with the convenience of avoiding vendor follow-ups, will more than cover the cost incurred by organizations.

Takeaway

The Finance Bill recently added Section 16(2)(aa) on Input Tax Credit. And, as a result of this insertion, Rule 36(4) of the CGST Rules 2017, which was already in place, has been strengthened. The reason for inserting Section 16(2)(aa) is that Rule 36(4) was inadequate and had been challenged numerous times before various authorities and high courts. As a result, it was necessary to add a new rule to supplement the existing Rule 36(4).

According to the amendment to the CGST Act^[1], a buyer can only claim tax credits owed to him if the details of taxes collected by the vendor are reported in his sales return and such details are communicated to the buyer. This may also call for vendor digitization to be employed by businesses.

Further, for the past three years, GST has been a driving force behind technology adoption. As a result, whether taxpayers like it or not, GST has undoubtedly managed to push them into the digital space. While taxpayers may have grown accustomed to completing compliance forms online, the next step is to use technology to create synergies in vendor processes. One such process is vendor digitization, which will soon become the next big thing.

Read our article:Is blocking of ITC by the GST Department legal – Rule 86A?