APRIL 29, 2020

By Monil Parikh, Partner, NMAH & Co., Mumbai

THE ISD Mechanism is a method provided to suppliers of goods or services or both to have a centralised GST number acting as an "Input Service Distributor" who can receive invoices towards various services provided by vendors. The Input Service Distributor can distribute such credit to respective recipients having the same PAN as the Input Service Distributor as per the prescribed procedure in GST Law.

Let us discuss some common issues concerning ISD Mechanism wherein the on-going practices of various companies apparently deviate from the actual provisions mandated by the GST Law.

1. Manner of Distribution of Credit by Input service distributor

Often the entire credit received on ISD number is distributed amongst all the states of the entity based on the turnover ratio of the states of the previous year. However, there must be instances that the services are actually not received by all the states but only by a few states. In such cases, credit must be allocated to those specific states only, that is, the credit available shall be distributed only amongst those states where the services have been actually received.

a.) When the expense pertains to one state(recipient) only-

Section 20(2)(c) of the CGST Act, 2017 states that if the services are used only by one of its recipient/state and none other, then the input tax credit of such bills that are specifically attributable to one state must be allocated to that state entirely.

b.) When the expense pertains to few states (more than one but not all states)-

Section 20(2)(d) states that if the services are used by more than one recipient/state but not all, then the input tax credit should be distributed to those states on pro rata basis of turnover in state to the aggregate of the turnover of all such recipients to whom such input service is attributable and which are operational.

Example:

X Ltd has GST registration in total 5 states i.e. Maharashtra, Gujarat, Rajasthan, Delhi, Assam.

X Ltd receives invoices from supplier ‘A' with an input tax credit of Rs. 1,80,000/-, wherein the services are used by all states other than Gujarat and Delhi.

Calculation of Distribution: -

Total Ratio

Distribution Ratio

Input Tax Credit Distribution

The above method of distribution is important because if credit is distributed to those states where services are actually not received, then that is a violation of the basic principle which entitles a registered person to claim the credit. As per Section 16(2)(b) of the CGST Act, 2017, credit can be taken by only the one who has received the services. Hence, if credit is distributed to a state where it has actually not received the services, then the authorities shall deny that credit, and it shall result in loss of credit along with interest and penalty exposure.

c.) When the expense pertains to all the states-

Section 20(2)(e) states that if the services are used by all recipients/states then the input tax credit should be distributed amongst all the states on pro-rata basis of turnover in state to the aggregate of the turnover of all recipients/states and which are operational.

Taking the same example as above, the Input Tax Credit of Rs.1,80,000/- would be distributed in the following manner:

It is crucial to identify the services/invoices/vendors for which credit is to be allocated to some specific states and the services/invoices/vendors for which credit is to be assigned to all the states so that distribution can be done correctly.

If any credit note is issued by a vendor on ISD number, then the GST as per credit note shall be reversed in the same ratio which was used for distribution of credit in the original invoice. This is in line with the prescribed Rule 39(j) of the CGST Rules.

Also, Rule 39(2) states that if the amount of input tax credit distributed by an Input Service Distributor is reduced later on for any other reason for any of the recipients, including that it was distributed to a wrong recipient by the Input Service Distributor, the process specified in clause (j) of sub-rule (1) shall apply, mutatis mutandis, for reduction of credit. This means that the ratio of the original erroneous distribution must be used for the correction.

Accordingly, for every credit note/reversal, the original/corresponding invoice date must be readily available in the system/reports.

3. Reconciliation of ISD entries in books with those reflecting in 6A

As per Rule 39(1)(a) of the CGST Rules, the input tax credit available for distribution in a month shall be distributed in the same month and the details thereof shall be furnished in FORM GSTR-6 in accordance with the provisions of Chapter VIII of these rules.

Currently, many companies take a lag of certain months in availment and distribution of credit. Two-way reconciliation is done between GSTR-6A and ITC Register (ISD Invoices) every month on a cumulative basis before filing GSTR-6. ITC is availed and distributed only of those invoices which are reflecting/matching in GSTR 6A.

However legally, keeping in view the words "available for distribution", in case of unmatched invoices it is advisable to follow below mentioned practice: -

- ITC reflecting in GSTR 6A but not in books - find out if booked earlier and credit taken or not, if not booked earlier then find out internally whether an invoice is available if yes and payment made take/distribute ITC, if booked in a month later than that current month, then take/distribute when invoice available + payment made.

- Available in books but not in GSTR 6A - follow up with a vendor, find out if the vendor had uploaded in any previous GSTR-6A or ask him to add the invoice in next month GSTR-1. Take/distribute when the invoice appears in GSTR 6A.

Availment of credit must be done timely as per FORM GSTR-6A, and proper reconciliation must be maintained with books of accounts.

Rule 39(g) & 39(h) state that the Input Service Distributor shall issue an Input Service Distributor invoice, clearly indicating in such invoice that it is issued only for distribution of input tax credit and an Input Service Distributor credit note, for reduction of credit in case the input tax credit already distributed gets reduced for any reason.

Proper documentation should be maintained for input tax credit distributed and reversed for every month.

CONCLUSION:

The concept of ISD Mechanism is carried forward from the Service Tax regime and must be used in the right manner to allow the respective recipients to receive credit. It must not be confused with the unique cross charge mechanism introduced in the GST regime.

[The views expressed are strictly personal.]