Five Steps To Understand How GST Input Credit Works
All the working professionals are familiar with terminologies like tax filling, Income Tax Return (ITR), TDS, and many more. Every taxpayer files Income Tax Return for every financial year. Tax is nothing but a mandatory charge imposed on individuals or organizations. Mostly, in all parts of the world, one needs to pay taxes to the country’s Government. Taxes are the means through which Government generates revenue for the government expenditures and the nation’s social welfare expenses.
Before the conception of the Goods and Services Tax (GST) in July 2017, we had various taxes like Income-tax, Corporate Tax, Sales tax, Property tax, Tariff, Purchase Tax, Luxury tax, Taxes on advertisement and Entertainment, Central Excise Duty, and many more. So instead of paying these several taxes, the idea to pay only one Tax took place, which is where the concept of GST emerged, under the objective of “One Nation, One Tax.”
Nowadays, for every item that we purchase, the receipts that we get have the presence of terms like SGST, CGST, and now we all are familiar with these two terms. Be it buying your daily items, having food at the restaurant, buying clothes, or watching a movie; we come across these terms. We had to pay more than 20 indirect taxes in the previous tax system, and now it is reduced to only one -GST. Under GST, there are only three terms CGST, SGST, and IGST.
The Central Government imposes CGST on the intra-state supply of goods or services or both as a combination. The State government imposes GST on the intra-state supply of goods and services under their respective SGST Act called SGST. IGST is Integrated GST laid on inter-state transfer of goods and services.
One more term associated with this is the UTGST which is Union Territory GST. This is applied to goods and services in any of the Union territories of the country like Andaman and Nicobar Islands, Daman and Diu, etc.
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Now let us understand how GST input credit works through these five steps:
STEP 1: Understanding the mechanism behind GST input credit.
Now let us understand some basic terms which come under GST. Purchase is always equivalent to inward supplies, and sales are equal to outward supplies. Now let us know this through a story. This story is of a shopkeeper who sells products to the customers, i.e., he is a retailer, and in return, he buys products to sell from a wholesaler.
(Buying goods or products from the wholesaler to create outward supplies)
The shopkeeper pays the cost of the items along with taxes to the wholesaler.
Also referred to as input tax.
(Selling goods or products to the customer)
Collecting the product price from the customer, including the taxes.
Also referred to as output tax.
(Paying the taxes collected to the Government)
Here, only the net tax is paid, calculated using the formula
Net Tax=Tax collected on sales- Tax paid on the purchase
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Under the input credit, all the three terms of GST, i.e., IGST, CGST, and SGST, get included. Therefore, input credit is nothing but the difference between the output tax and the input tax. The daily flow of Tax that we see in our surrounding environment is as follows:
(Pays the GST on the raw material required for the manufacturing process and this indirectly adds value to the final product)
(Pays the GST on the amount paid for buying the product. Here the Service Provider can deduce the amount which is paid as tax by the manufacturer, while he produces his share of tax amount)
(Pays GST on goods and services purchased from the distributor)
(Pays GST amount purchased on the final product)
Learn about 10 Cases When GST can be Claimed
Step 2: List of Purchases on which Input Tax Credit cannot be claimed.
Let us first understand in detail the term purchase. We can further categorize the term purchase into three parts.
- Capital Goods
- Input Services
In simple terms, capital goods can be termed as goods that add value addition or goods that help improve businesses and directly contribute to the output. Inputs are those which the supplier uses.
There is no such compulsion that these goods need to be used for outward supply. “Input Service” means any service that the supplier or the Business Owner uses. The input tax credit is applicable on all these purchases. Now let us look at the items on which Input tax credit is not applicable. These are divided into eight categories, and they are:
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1.Supplies that come under Personal Consumption.
The supplies which the businessman uses for his own personal reasons cannot be claimed under Input Tax Credit (ITC). For example, a businessman has his shop of clothes. So, the clothes which he purchases for his family members come under personal consumption.
2.Supplies that do not exist anymore.
The goods that are lost, stolen, or destroyed due to some reasons or products which are used as free samples come under this category.
3.Specific list – provided by the Government.
Food, health, beauty
Membership of a club, health, and Sports Centre.
Services on insurance like health insurance, life insurance, repair, and maintenance.
4.Taxes paid on Fraud or Error.
If an individual pays any additional taxes on Fraud or error done by that individual, then those taxes cannot be claimed under ITC. Goods transported/stored/received in a manner that is not according to the legal method, then the additional fine paid on such act, imposed by the Government, cannot be reclaimed.
Know more about GST on MRP: Included or Not?
5.Supplies related to Motor Vehicle
Motor vehicles do not directly contribute to the value addition of any business; they contribute indirectly. So, all the motor vehicles come under this list with some exceptions. If the motor vehicles are used to transport goods or are used for imparting training, ITC is allowed on such services.
6.Supplies related to Work Contract.
Other than plants and machinery which are used in industries, other works contracts on construction of immovable property cannot be reclaimed.
If any supplies are used to construct one’s property from one’s own account and not for further sale, then those supplies do not come under ITC.
To have detailed information about the goods and services which come under this list or the exception cases in each category, check out cases where Input tax credit cannot be availed
Step 3: Basic Mandatory Conditions
There are some conditions and eligibility criteria that need to be fulfilled to claim the input tax credit under the GST scheme. Let us look at these conditions in brief.
- The supplier should have paid the required amount of Tax to the Government. There is a specific process that needs to be followed while paying the taxes.
- To claim the input tax credit, a person/ business should be registered and should have a tax invoice or, in simple terms bill of sale issued by the registered supplier.
- In situations where the payment for goods is received in installments, the registered person can only claim the input credit after receiving the last installment.
- The taxpayer should have filed monthly returns.
- Input Tax Credit cannot be claimed after a time duration of 1 year from the date of issuance of the invoice/bill.
- All forms related to GST returns such as GST-1,2,3,6,7 needs to be filled.
Step 4: Information regarding different forms to be filled
Several practices can be followed to claim maximum returns and add credits. Many people are unaware of the process and how beneficial this can be if it is appropriately implemented. Let us dive into details and understand which form needs to be filled and by whom.
When a taxpayer files a monthly or quarterly return, then the GSTR-1 form is filled. This process aims to provide the details of the outward supplies, in simple terms referred to as sales, including the tax liability to the Government. Through this Government can keep a record of every transaction, which in layman terms is referred to as audit.
A person need not file GSTR-2A; it gets automatically generated when a seller files GSTR-1. It is a read-only document.
It provides information about the eligible and ineligible Input Tax Credit (ITC) for each month and has been made available from August 2020. It can be generated once a month on the 12th day of the following month.
GSTR-3B is filed by the 20th day of the following month, and it includes a monthly summary of returns filed. Information such as supplies during a period of one month, input tax credit claimed purchases on which reverse charge is applicable, etc. This acts as an added advantage for the taxpayer because a precise amount of tax payable on the sales during that period is made available through this.
GSTR-4 needs to be filed by a taxpayer who opts for the Composition Scheme. This needs to be filled annually.
GSTR-6 is filed by an Input Service Distributor (ISD). It is done on a monthly basis. In simple terms, it is an office of a supplier who supplies goods and services.
Step 5: 180 days Rule
If a buyer has to claim the input tax credit, then a complete payment must be made to the supplier within a time duration of 180 days from the date of purchase. The goods and services which are purchased must be received within 180 days from the date of invoice.
If the desired payment is not made within the given time duration, then the amount claimed under input tax credit is added back to the output liability. One needs to pay the interest amount also. If the buyer has made a partial payment, then the credit will also be made on a proportionate basis. For example, if a buyer pays 60% of the total amount within 180 days, then the credit can be claimed on that proportion of the amount only.
Many central and state taxes have been replaced with the invention of GST in India. Under the concept of GST, tax applies to the “supply” of goods and services, and more importance is given to the idea of value addition. A certain threshold set is applicable to both the SGST and CGST, which makes it beneficial for small or medium scaled businesses.
Input Tax Credit is also an advantage of GST. Many people are unaware of this information, and so such services remain unutilized. Through the invention of the GST cascading effect, the problem of double taxation is eliminated. Therefore, every individual should research, understand, and apply effectively the services or the benefits that come under this tax reform of our country: GST.