HC provides Refund of unutilized ITC on Input Services in case of Inverted Duty Structure

Introduction:

Inverted duty structure fundamentally happens when the tax chargeable on inputs is higher than the tax chargeable on outputs.

For example, Mr A is in the manufacturer of air conditioners. He pays GST of Rs 1,00,000 on acquisition of raw materials at 18%.After carrying out the manufacturing process, the finished product (air conditioner) is sold.Tax payable on the same is Rs 80,000 which is chargeable at 12%.Mr A is paying more GST on the input materials than the GST which is chargeable on the final product.This is a circumstances of inverted duty structure.

What is the unutilised input tax credit w.r.t Inverted Duty Structure?

"Input Tax" according to a taxable individual, implies the GST charged on him for any supply of goods and/or services to him, which are utilized or are proposed to be utilized, for the assistance of his business. In straightforward words, input tax credit (ITC) implies at the time of paying tax on output, you can reduce the tax you have already paid on inputs and pay the balanced sum.

Presently in a circumstance of 'Inverted Duty Structure' the GST paid on inputs surpasses the GST on the outputs which prompts unutilised ITC (Rs 20,000 in the above example). According to Section 54(3) of the CGST Act, 2017, a registered person may claim a refund of the unutilized input tax credit because of Inverted Duty Structure toward the end of any tax period.

A current genuine case of Inverted Duty Structure is the non-woven fabric bags industry. The input being non-woven fabric is being charged at 12% GST while the output of fabric bags is being charged at 5% GST.

Computation of refund of input credit

Provisions under rule 89 of CGST Rules, 2017 pertain to Application for Refund of Tax, Interest, Penalty, Fees or any Other Amount”. According to Rule 89(5), In the case of refund on account of inverted duty structure, refund of input tax credit shall be granted as per the following formula:

Maximum Refund Amount = {(Turnover of inverted rated supply of goods and services) x Net ITC ÷ Adjusted Total Turnover} – tax payable on such inverted rated supply of goods and services.

Where,

1. Net ITC shall mean ITC availed on inputs during the relevant period other than the input tax credit availed for which refund is claimed under sub-rules (4A) or (4B) or both.
2. Turnover of inverted rated supply of goods means the value of the inverted supply of goods made during the relevant period.
3. Tax payable on such inverted rated supply of goods means the tax payable on such inverted rated supply of goods under the same head, i.e. IGST, CGST, SGST.
4. Adjusted Total turnover means the turnover in a State or a Union territory, as defined undersection 2(112) of CGST Act, excluding the value of exempt supplies other than inverted-rated supplies, during the relevant period.
5. Relevant period means the period for which the claim has been filed.

Now in the above formula, Net ITC means ITC availed on inputs.

What about ITC availed on Input services? Does that formula mean that unutilized ITC on Input Services will not be available in case of inverted duty structure?

Let us refer to the case of VKC Footsteps India Pvt. Ltd. Vs. Union of India (Gujarat High Court) (2020) where a similar issue was raised

Facts of the case:-

1. Petitioner is engaged in the business of manufacture and supply of footwear which attracts GST at the rate of 5%.
2. The Petitioner procures input services such as job work service, goods transport agency service etc. and inputs such as synthetic leather, PU Polyol, etc., on payment of applicable GST for use in the course of business and avails ITC of the GST paid thereon.
3. Majority of the inputs and input services attract GST at the rate of 12% or 18%. Thus, GST rate paid by the Petitioner on procurement of input is higher than the rate of tax payable on their outward supply of footwear.
4. Therefore, in spite of utilization of credit for payment of GST on outward supply, there is accumulation of unutilized credit in electronic credit ledger of the Petitioners.
5. Respondents are allowing refund of accumulated input tax credit of tax paid on inputs such as synthetic leather, PU Polyol, etc. However, refund of accumulated credit of tax paid on procurement of input services such as job work service, goods transport agency service, etc. is being denied.
6. The Petitioners have therefore challenged validity of amended Rule 89(5) of the CGST Rule, 2017 to the extent it denies refund of input tax credit relatable to input services.

Observations of the Gujrat HC:-

1. From the conjoint reading of the provisions of Act and Rules, it appears that by prescribing the formula in Rule 89(5) of the CGGST Rules,2017 to exclude refund of tax paid on “input service” as part of the refund of any unutilised input tax credit is contrary to the provisions of Section 54(3) of the CGST Act,2017 which provides for claim of refund of “any unutilised input tax credit”.
2. “Input tax credit” is defined in Section 2(63) means the credit of input tax.
3. The word “input tax” is defined in Section 2(62), whereas the word “input” is defined in Section 2(59) means any goods other than capital goods and “input service” as per Section 2(60) means any service used or intended to be used by a supplier.
4. Whereas “input tax” as defined in section 2(62) means the tax charged on any supply of goods or services or both made to any registered person. Thus “input” and “input service” are both part of the “input tax” and “input tax credit”.
5. Therefore, as per provision of Section 54(3) of the CGST Act,2017, the legislature has provided that registered person may claim refund of “any unutilised input tax”
6. Hence, by way of Rule 89(5)of the CGST Rules,2017, such claim of the refund cannot be restricted only to “input” excluding the “input services” from the purview of “Input tax credit”.
7. Moreover, Section 54(3)(ii) also refers to both supply of goods or services and not only supply of goods as per amended Rule 89(5) of the CGST, Rules.

In view of the above analysis of the provisions of the Act and Rules keeping in mind scheme and object of the CGST Act, the intent of the Government by framing the Rule restricting the statutory provision cannot be the intent of law to deny the registered person refund of tax paid on “input services’ as part of refund of unutilised input tax credit. Gujarat HC was thus of the opinion that Rule 89(5) which denies the refund of “unutilised input tax” paid on “input services” as part of “input tax credit” accumulated on account of inverted duty structure was ultra vires the provision of Section 54(3) of the CGST Act, 2017. Net ITC should mean “input tax credit” availed on “inputs” and “input services” as defined under the Act.

The respondents were directed to allow the claim of the refund made by the petitioners considering the unutilised input tax credit of “input services” as part of the Net ITC for the purpose of calculation of the refund.

A similar issue was also raised by Daewoo-TPL JV before AAR Maharashtra where a contradictory judgement was given. Let us refer to that case too.

Facts of the Case:

1. Daewoo-TPL JV, is a joint venture between M/s Daewoo Engineering and Construction Company Limited & M/s. Tata Projects Limited, formed with the sole objective to bid & secure the contract for design, engineering and construction of Long Bridge – Mumbai Trans Harbour Link project (MTHL Project).
2. The Mumbai Metropolitan Region Development Authority (MMRDA) awarded Package 2 of MTHL project to Daewoo-TPLIV.
3. The contract in the nature of services. Execution of construction of large projects such as MTHL Project entails procurement of various inputs, input services and capital goods such as cement, concrete, steel and steel structures, bridge accessories, formworks, plant and equipment, labour, etc.
4. All such goods and services attract GST at varied rates, depending on the nature of such procurement. The ITC paid on the inputs and services are higher than output supply. Therefore, the transaction is covered under Inverted duty structure.

The ruling sought from the Maharashtra Authority of Advance Ruling (AAR) (2019):

1.Can the refund of ITC on input services also be claimed in case of an inverted duty structure scenario?

and/or,

2. In any case, could the unutilized balance (so long it does not exceed) the gross ITC availed on inputs, be still refunded in full?

Observations of AAR:-

1. The ITC paid on the inputs and services are higher than output supply. Therefore, the transaction is covered under Inverted duty structure.
2. In such cases as in the subject case, to avoid the cascading effect, Govt. has allowed relief in the form of Refund of unutilized Input tax Credit as provided in Section 54 of the CGST Act.
3. A reading of the provisions of Section 54(3)(ii) and Notification No 26 of 2018 implies that the formula prescribed (for determination of eligible refund amount) under Rule 89(5) of CGST Rules i.e. for “Net ITC” only considers ITC on ‘inputs’, for computing the amount of eligible refund. Therefore any portion of the ITC availed on ‘input services’ is not available as refund under the said Rules – thus, the refund of unutilized input tax credit (comprising of both goods and services) shall be allowed only in cases mentioned in (i) and (ii) i.e the allowance of such refund of credit is only when credit availed on goods is higher that the tax rate on output supplies.
4. Thus, there is nothing in the Rule 89 of the CGST Rules, 2017, as amended by the Notifications 21 and 26 of 2018, that overrides the Section 54 of the CGST Act, 2017 and they have to be read together harmoniously while granting refunds.
5. Rule 89(5) applies to the Applicant which prescribe the method for carrying out provisions of Section 54 (3) and therefore does not allow refund of ITC availed on input services (and remaining unutilized) in whole or part thereof, in view of the definition of ‘input’ contained in the sub-section (59) of Section 2 of the GST Act, 2017 and the definition of ‘Net ITC’ contained in Rule 89(5)

The VKC Footsteps India Pvt. Ltd judgment is likely to set a precedent for similar issues heard by courts and tribunals where refund of blocked input service credits would be available w.r.t inverted duty structure.