SEPTEMBER 11, 2018

By Dr G Gokul Kishore

AUTHORS tend to believe that they have limitless thoughts and readers have equally limitless patience. With this belief, I have penned the second instalment in this series.

ITC on capital goods helpful in employment generation

Rule 43 of CGST Rules requires reversal of input tax credit availed on capital goods whenever the same is used commonly for taxable and exempted output supplies (partly used for business and partly for other purposes, in GST parlance). While only inputs and input services were covered under similar provision in the CENVAT credit regime, the present GST law has sought to cover capital goods as well. Under the earlier law, credit was not available only on those capital goods which were exclusively used to manufacture exempted goods and the rationale for not restricting credit on capital goods when they are commonly used was that capital goods do not get used up or consumed in manufacture or providing service and they continue to serve the business for a fairly longer time period. During such life time of capital goods, various situations may arise wherein they may be used commonly for some time and they may be used only for dutiable goods later, etc. But GST law discards consumption or long-term use factors and seeks reversal of ITC, along with interest, on proportionate basis every month ('tax period') when capital goods are used commonly. The only solace is that useful life of capital asset is deemed as five years and therefore, such reversal is not required after five years of such use.

To ascertain the quantum of reversal on each capital item every month and to fully comply with such provisions seeking reversal of ITC, manufacturers having regular purchase of capital goods (whether parts or components or spares) may need dedicated human resource(s). Leaving aside return related compliances, such reversal related requirements are bound to increase compliance cost significantly for suppliers. Increase in cost apart, the complexity of computation for every item can hardly justify the slogan of GST being a simple tax. Let us hope the powers that be will take note of the pains of industry and bring appropriate amendments to rules to ensure compliance is less complicated.

Costly troubles with free samples

Free sample distribution is a centuries-old practice of industry. Whether it is for promotion or for testing the efficacy, not only pharma but every other sector piously plans and implements such programmes. The taxman could never reconcile to such free schemes and the practice has been objected on various grounds including those contained in celebrated judgments in central excise on valuation of physician's samples. The legacy is carried forward in GST regime in the form of provision restricting input tax credit in respect of goods disposed of by way of free samples [Section 17(5)(h) of CGST Act]. After manufacture, a portion of the goods are packed for the purpose of distribution as free sample and, therefore, input tax credit availed on inputs and input services on such quantity is reversed. The nature of restriction under the above provision is ambiguous. It can be argued that ITC is ab initio not available on such goods and subsequent reversal does not constitute sufficient compliance. On the other hand, a contra argument could be, since goods are not manufactured initially for free distribution, reversal of ITC attributable to such free samples will suffice.

Schedule-I of CGST Act is a unique piece of legislation as the title itself is subjective. It uses the term 'even' to emphasize the legislative intention that even if certain supplies are made without consideration, yet they are to be treated as supplies. This essentially means that tax will be payable unless exempt on such activities. As entry no. 2 of the above schedule covers supplies between related persons or distinct persons, a conclusion is, therefore, drawn that if supplies between unrelated persons are made without consideration, then no tax is payable. This, of course, is rooted in the basic provision viz., Section 7(1)(a) according to which consideration is one of the essential ingredients to attract GST levy as taxable supply.

Do free supplies constitute an independent transaction not connected to business? The answer is obviously no as they are meant for business purpose and they are made in furtherance of business. This is the fundamental test for input tax credit as per Section 16. Once free samples are admittedly used for business purpose, denial of ITC in respect of such goods by enacting contrary provision in Section 17(5) reveals the revenue mindset of treating ITC as largesse granted out of mercy which otherwise the trade does not deserve. The tax administration may reason that when something is disposed as free, it is taken out of business and, therefore, when particular goods do not remain in business, credit in respect of such goods become liable to be reversed. But disposal of goods when a taxpayer is going out of business is different from disposing goods for furtherance of business. If furtherance of business is the test, then credit reversal on free samples is contradictory and unreasonable.

Transitional credit - Why deny cesses?

The discussions made in the above paragraph may give an impression that the provisions are fine but the author is unreasonable. But the amendment made to Section 140 of CGST Act dealing with transitional credit reveals a different story. Not only AED (T&T) has been expressly omitted from eligible duties and taxes appearing in explanation under Section 140, a new explanation has been inserted to expressly exclude cesses on which credit was availed under the earlier law. By excluding such cesses, credit of KKC get the tag of being ineligible for transition and the provision is effective from 1 st July, 2017. Such retrospective amendment makes it clear that such duties and cesses were eligible for transition as per the provisions originally enacted and the tax administration by creating an artificial discrimination among the taxes and duties to be transitioned to GST regime, has not helped the industry. Letters and show cause notices are being issued seeking reversal of such credit and the trade is clueless as what was eligible and validly earned under earlier law has suddenly become taboo and sacrilegious.

It is ad nauseam harped that retrospective amendments will not be made, validly earned credits will be protected and GST is founded on the basic premise of seamless credit. All such claims stand exposed by such amendments just as the law completes one year. We can only hope that the second year will be used to bring beneficial amendments that the industry has been requesting, to resolve host of issues.

…to be continued

GST - Agenda for the second year - Part I

(The author is an Advocate & Joint Partner, Lakshmikumaran & Sridharan, New Delhi. The views expressed are strictly personal.)