Introduction: Input Tax Credit

What is Input Tax Credit? Well, while a business entity pays taxes to India’s government on any output products, it can avail the open to claim the tax amount earlier paid on the input used in the manufacturing or selling them. This means at the time of paying tax on output, the business entity gets to reduce the tax it has already paid on the inputs and requires to pay only the balance amount. Let’s understand this with an example, just imagine you’re a toy maker and make a purchase of raw material, let’s say wooden logs from a registered dealer and pay the appropriate tax amount on it, which we can assume is Rs. 300. And now on selling the final products (Toys), you collect Rs. 500 from the buyer. Here, instead of paying the entire tax amount of Rs. 500, you can avail the benefit of the Input Tax Credit and reduce the already made tax on input (Rs. 300) from the tax amount levied on the selling of the final product (Rs 500) and pay only the remaining amount (Rs. 200) to the Indian Government. Now, the question arises, what about the wrongly claimed Input Tax Credit, either intentionally or accidentally? What should the business entity do under such an event? Well, answering these questions to you in lucid and layman’s terms is the motive of this article, with a special emphasis on Rules 42 and 43 of CGST Rules. So, make sure you read it till the end.

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Input Tax Credit Reversal (ITC Reversal)

When a registered taxpayer of the country wrongly claims ITC, the Input Tax Credit Reversal comes into the picture, which requires it to reverse/return excess ITC claimed during the filing process of GST Returns. In the Reversal of the Input Tax Credit, also referred to as ITC Reversal, the tax amount earlier claimed on the input gets included in the tax liability on the output, hence zeroing down the effect of earlier claimed tax saving under ITC. The taxation authority may also require the responsible business entity to pay interest on the ITC tax saving amount depending upon when such a reversal is done. 

Now, there are certain rules, especially Rule 42 of CGST/SGST rules, which make the reversal of the Input Tax Credit mandatory for the country’s taxpayers as per the circumstances. Let’s take an overview of them to give you a brief understanding. 

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CGST Rules For Input Tax Credit Reversal

• Rule 37 of CGST

As per this rule, any registered business entity which has already claimed Input Tax Credit on the acquired goods or services but hasn’t paid for the supply and the tax applicable on it within 180 days from the invoice date, is required to reverse ITC, that too with interest.

• Rule 37A of CGST 

This rule mandates the GST-registered buyers to reverse the ITC claims on taxes, which their suppliers fail to submit through the GSTR-3B form by 30th September of the following year. This ITC reversal needs to be made by November 30th of the next financial year. However, the rule also offers a mechanism to claim back Input Tax Credit when the supplier finally pays the required tax amount.  

• Rule 38 of CGST

As per the provision of this rule, any banking company or financial institution, including a Non-Banking Financial Company, involved in offering financial services needs to reverse half of the Input Tax Credit under certain conditions. This reversal of ITC needs to be done while filing the GST returns. 

Rules 42 and 43 of CGST Rules

• Rule 42 of CGST/SGST Rules

ITC reversal becomes mandatory, If a business entity has claimed Input Tax Credit on the input, which has been used for manufacturing supplies that were used not entirely for business but partially for personal purposes as well or to make an exempt supply.

Note:- Exempt Supply is the supply of goods and services, which don’t attract GST or are fully exempted from tax. 

• Rule 43 of CGST/SGST Rules

Under the provisions of this rule, if a business entity has availed Input Tax Credit on the capital goods, which were used exclusively for non-business purposes or to make exempt outward supplies, then it calls for ITC reversal. 

Note:- Capital goods are physical assets, including buildings, vehicles, tools, machinery, etc. that a business entity utilizes in the production process of products and services that consumers will later take into use.

• Rule 44 of CGST Rules

Under this rule, the reversal of ITC becomes mandatory when a business entity cancels its GST registration or gets registered under the GST composition scheme. It intends to reverse all the

Input Tax Credit that a business entity has claimed in the case it opts to pay taxes under the composition scheme or its GST registration gets canceled. This ITC reversal needs to be done during the filling of the REG-16 form for cancellation of GST registration or the ITC-03 form for registration under the composition scheme. 

• Rule 44A of CGST 

Under the rule, a business entity requires to reverse the fifth-sixth part of the Input Tax Credit availed on gold dore bars in stock as of 1st July 2017. The ITC reversal has to be done during supplying either the gold dore bar or the gold/gold jewelry. 

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Process to Calculate ITC Reversal Under Rule 42 of CGST

Before we take a direct dive into the calculation, we need to understand the parts under which Input Tax Credit can be divided:-

• Specific Credit
• Common Credit

Specific Credit 

Specific Credit is nothing but an Input Tax Credit that is associated with the supplies used for a single purpose, which can be taxable, non-taxable, or personal. In simple terms, under Specific credit, ITC either will be attributable to the taxable supplies or to the supplies which are exempted from tax/intended to use for personal consumption.

Common credit

Common Credit is ITC that cannot be associated with the supplies which are used for partly taxable and partly non-taxable or personal consumption. Here, the business entity has to calculate and reverse the proportionate ITC amount to the extent of supplies that are non-taxable/used for personal consumption. The rest of the ITC left can be used for claims.

Calculate Input Tax Credit Under Rule 42 of CGST/SGST Rules

• The very first task for a business entity is to sort out the specific credits (explained above), which can’t be used for ITC claims from the total Input Tax Credit. Do this by following the below instructions:-

1. The total Input Tax levied on inputs (both goods and services) during a tax period is donated as ‘T.’
2. The amount of specific credit associated with the inputs, which are to be used for non-business purposes, is denoted as ‘T1.’
3. The amount of specific credit associated with the inputs, which are used for exempt supplies, is represented as ‘T2.’
4. Out of the total Input tax, the part which comes under ‘Blocked Credits’ as per Section 17(5) is denoted as ‘T3’
5. ‘T4 ’ is used to denote the amount of Input tax associated with inputs, which are intended to be used exclusively for effective supplies, including zero-rated stores but don’t include exempted ones.

Note: A business entity must declare T1, T2, and T3 at a summary level in the GSTR 3B form for every tax head. 

• Out of the total Input Tax Credit, exclude T1, T2, and T3 and calculate the common credit by following the below instructions:-

1. The amount of Input Tax Credit (ITC) that is credited to the electronic credit ledger of the registered person is represented as ‘C1.’ To derive C1, you need to subtract the total sum of T1, T2, and T3 from T.
2. To calculate the Common credits (explained above) which are denoted as C2, reduce T4 from C1.

• Assess the amount of Input Tax Credit out of Common Credit that needs to be reversed by following the below instructions:-
• The total value of exempt supplies made during the tax period is represented as ‘E.’
• Total turnover in the State of the registered person during the tax period is represented as ‘F.’
• ‘D1’ represents the ITC attributable to exempt supplies out of common credit. To calculate D1, you need to first divide ‘E’ by ‘F’ and multiply the resultant by C2.
• ‘D2’ represents the ITC attributable to non-business purposes out of common credit. To calculate D2, you need to find out 5 percent of C2.
• ‘C3’ denotes the left ITC eligible for a claim out of common credit. To calculate C3, you need to deduct the sum of D1 and D2 from C2.

After going through the instructions mentioned in the above steps, the D1 and D2 you get in the last will be Input Tax credits that must be reversed.

Conclusion

Hope, you have liked this article and found it interesting enough. Our motive with this article is to enlighten you about the concept of Input Tax Reversal and the ways it can be calculated under the rules with a major focus on rules 42 and 43 of CGST rules. For more such content, feel free to explore Corpseed. which is India’s most-trusted business and legal consultancy service provider and has already catered to the needs of thousands of companies to date.