MAY 22, 2019

By Gayathri S Praveen, CA

INDIAN taxpayers are familiar with the concept of Input Service Distributor (ISD). It was previously introduced under Service tax regime with the sole intention of facilitating avoidance of excess credit accumulation and making available such credits for utilisation by recipient units. Similar provisions have been borrowed into GST for optimum credit utilisation.

As ISD mechanism was only a matter of convenience in the Service tax regime, it was presumed as optional under GST too. However, upon various discussions and insights, it is now clear that common credits distribution is inevitable as each unit of an entity has its own identity vide its GSTIN and would be assessed independently. As the outward supply pertaining to the common expense incurred is attributable to all the eligible units of a company, if common credits are not distributed, it is most likely that the undistributed amount would stand ineligible for the unit incurring it and be disallowed during audits/assessments. Pragmatically, despite the law not mandating, it is wise to distribute the common credits incurred. Further, as ISD mechanism involves tedious compliances, the industries looked for a simpler method and transfer of credit by Cross Charge seemed the most viable option.

Largely, Cross Charge is a mechanism for raising an outward supply invoice on a related party and an ISD invoice, on the other hand, is meant for merely transferring the common credits. Conversely, it may be argued that one unit is incurring the common expenses on behalf of other units to support the other units' business and thereby raises a cross charge invoice under the head "Business Support Service". Also, as second proviso to Rule 28 of the CGST Rules, 2017 accepts any value charged as open market value if the recipient is eligible for full input credit, there is no requirement of adding mark up.

However, on deeper analysis, below points are noteworthy:

1. It is a well-accepted legal principle that legislature is deemed not to waste its words or say anything in vain and construction attributing redundancy is unacceptable except for compelling reasons such as obvious drafting errors. It is not a sound principle of construction to brush aside words in a statute if it is possible to have appropriate application in circumstances conceivably within the contemplation of statute. The provisions of ISD are neither a drafting error nor a fictional circumstance imagined by the statute. Thereby, when the law has specifically prescribed a methodology and taken efforts to implement the same vide GSTR-6 return, it is imprudent to completely dismiss ISD itself and adopt other method such as cross charge.

2. The main point of difference between Cross Charge and ISD is that, unlike cross charge invoice, ISD invoice specifies that it is issued only for the purpose of credit distribution. Even if cross charge is opted, the value of cross charge invoice would be equal to the total invoice value of all common expenses incurred. Due to such similarities, during audits/assessments, it can be easily proved that cross charge invoice is nothing but a disguise of distribution of common credits and the provisions of mandatory ISD registration as in Sec. 24(1)(viii) of the CGST Act, 2017 has been violated with. This means that a company distributing credit should register as ISD and opting for any other method may not be justified.

3. Most commonly, cross charge invoice is raised as Business Support Service. As GST does not define this service, referring to erstwhile Service Tax law, the Service Profile for Business Support Services terms it to be any service provided in relation to business and includes evaluation of customers, marketing, purchase processing, logistics and any other expense that are inevitable and directly related to the operational activity of the business. As a matter of fact, the most common expense getting cross charged is the Director's expenses and Companies' Act compliance expense, and the operational activity cannot be directly related to such expense. In such cases, a cross charge invoice under Business Support Service cannot be substantiated and ISD is the only way out.

From the above, it is evident that disregarding the ISD provisions maybe practically convenient but it carries tantamount risks. GST being a young law with fewer case laws, any deviation adopted is highly litigative and uncertain. The cost and effort expected to be saved by not opting for ISD may not be greater than the cost of litigation and consequential demand. Thereby Cross Charge, though not expressly prohibited by law, does not have a strong backbone to stand on its own.

Simultaneously, during GST's initial phase, taxpayers faced difficulty in distributing the RCM paid for common expenses. The law requires RCM payment to be made by non-ISD registration, but there was no clarity regarding how such RCM credit would be distributed to other units. For eliminating this ambiguity, the government vide Notification No. 03/2018-CT dated 23.01.2018, inserted sub-rule (1A) to Rule 54 of CGST Rules, 2017.

Sub-rule (1A)(a), portion extracted thereof, reads:

"A registered person, having the same PAN and State code as an Input Service Distributor, may issue an invoice or a credit note or debit note to transfer the credit of common input services to the Input Service Distributor, which shall contain…".

This Rule can be advantageously used to ease ISD compliance. Though the prime intention behind this amendment was to accommodate transfer of common credit of RCM, there is no specific mention of the same. The Rule can be leniently interpreted to transfer any common credit by a Unit of the company to its ISD registration, provided both are registered in the same state.

This method does not completely rule out the ISD compliance burden but diminishes the complexity involved in being compliant. Generally, ISD registration is taken on the Head Office and often, the vendors providing common services also provide services that are not common and pertains to any specific unit of the company. It is a very recurrent error that the vendor provides service to a specific unit but quotes the ISD GSTIN and vice-versa. Ensuring that the vendor quotes the appropriate GSTIN in each invoice is a task in itself. This error leads to incorrect flow of expense into the GSTR 6A and mismatch with credit distributed in GSTR 6. The reconciliation and rectification of such difference would be a herculean and never ending process. In order to simplify this, the amendment implied in Rule 54(1A) can be taken benefit in following manner:

1. Identify vendors providing common services.

2. Ensure the vendor quotes only the Head Office's GSTIN in all invoices irrespective of whether service provided is common or not.

3. As all ISD credits are now received completely by Head Office, transfer them to the ISD registration vide invoice under Rule 54(1A).

4. Analyse the total credits and identify the below -

- Credits exclusively attributable to specific units

- For common credits, the units to whom it should be distributed

- Eligible and Ineligible credits

5. Distribute the exclusive credit to the specific units and the common credits should be distributed pro rata basis the unit's turnover as per Sec 20 of CGST Act, 2017 and Rule 39 of CGST Rules, 2017. Raise invoice per Rule 54(1) and ensure eligible & ineligible credits are distributed separately.

The above method eases compliance but may not hold good in case of location based service like hotel services. If the service provider and Head Office are registered in different states, Head Office's GSTIN cannot be quoted as the invoice can contain only CGST/SGST on it. If the company has an establishment in state of service provider, an ISD registration can be taken to receive the invoice for further distribution. If ISD registration cannot be taken at the location of service provider, the credit will be an expense to the company.

The above mechanism may not be as simple as merely raising a cross charge invoice, but companies are relieved from the pain of reconciliation and ensuring that the vendor quotes correct recipient's GSTIN. Apart from being compliant, the company would also be advantaged by the time and cost saved on elimination of reconciliation. Rule 54(1A) may have been introduced for distribution of RCM paid but there is no specific rebuttal for using it to distribute forward charge invoices. No part of the Act or Rule is being violated and adoption of this method only supports a comparatively simpler compliance procedure. Until the Government publishes a notification validating Cross charge, the same remains unjustified. The method elaborately discussed above is only a suggestion to enhance simplification coupled with compliance. It is purely the choice of individual companies to adopt it, if it suits their requirements.

(The author is working with a leading pharmaceutical company and the views expressed are strictly personal.)