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Is Seamless Input Credit in GST a Reality?

27 January 20235 mins read by Angel One
Is Seamless Input Credit in GST a Reality?
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Most discussions on GST in the last few months have focused overly on the aspect of GST rates. However, what is less discussed and perhaps equally important, is the aspect of input tax credit (ITC). To understand the concept of ITC, you need to be first clear about the fact that the GST is a value added tax (VAT). That means; you pay tax only on the value addition done at your stage of production and avoid the duplicity of taxes that was cascading in nature to the overall tax the end consumer was paying.  Let us understand with an example…

The case of XYZ Ltd. that makes product A…

Let us understand the concept of GST with the example of a company that manufactures product A, which is chargeable to GST at 18%. Assuming that the value of the product is Rs.1000, the GST of Rs.180 will be payable on this product! But that may be a tad unfair to XYZ Ltd. as it would have already paid GST on the inputs that it has used to produce the product A. Let us assume that of the three inputs B, C, D that go into manufacturing A, entail a total GST payout of Rs.120. So, effectively, XYZ Ltd will have to pay GST of Rs.60 only (Rs.180 GST payable – Rs.120 GST paid on inputs)

When the GST has to be paid to the government, XYZ Ltd will only have to pay the net GST of Rs.60. Therefore, the company will only have to pay the net GST, adjusted for the input credit for the GST already paid on inputs. But what happens if the GST paid on inputs is more than the GST payable on the output. That is also theoretically possible and in that case the company can claim a refund of GST. Of course, there are some restrictions for claiming such input credits, but broadly that is the concept of input tax credit (ITC), wherein you only pay the tax on the value added and not on the entire value of the produce.

This reduces the cascading effect of taxes…

This is one of the most important qualities of GST and also the reason why GST is so important from the point of view of overall economic development. The reduction of cascading effect comes from two key attributes of GST. Firstly, as seen in the previous point, the GST is only chargeable on the value addition. Hence there is no incidence of double taxation on these products. Secondly, GST is applicable on goods and on services. Currently, if services are your inputs to manufacture a product, then the tax paid on the service is not available as a set-off credit against the tax payable on products. But under GST, that credit is also available. So if you are a manufacturer and have used a service as an input for that manufacture, then the GST paid on that service will also be available. Cascading happens when the product is subjected to double taxation at the input level and the output level. By ensuring full credit for taxes paid on goods and services inputted, GST ensures that the cascading effect is almost reduced to nil.

ITC will make working capital cycles more efficient…

One of the major challenges for Indian corporates has been the inefficient working capital cycles. CRISIL had estimated that nearly $50-60 billion worth of funds is currently stuck due to inefficient usage of working capital. These working capital cycles happen due to three reasons. Firstly, due to funding constraints most companies tend to run receivables longer than required. Secondly, this has a cascading effect in the form of delay in payables which tends to impact the entire corporate eco system. Thirdly, due to funding constraints and weal logistics management, most companies tend to hold inventories that are larger than normally required. All these three issues will be addressed under GST. Here is how…

Each company will be required to file the returns of GST by the second week of next month. But if they want to claim the credit for input GST, they need to ensure that the output GST is deposited on time with the government .This will force the payment and receipts cycle to become shorter and more efficient. Currently, Indian trucks move an average of 280 KM per day compared to about 800 KM per day for US trucks. GST will get rid of inter-state barriers and that will enable better inventory management. The net impact will be a more positive impact on the working capital cycle and a reduction of the funds blocked in the working capital cycle. Warehouses were created to buy

Credit: Angel Research (Crisil Research)


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