Reversal of Input Tax Credit | Simplified with example

Reversal of Input Tax Credit Under GST | Simplified With Example

Reversal of Input Tax Credit Under GST | Simplified With Example

GST Input Tax Credit is the crux of the GST structure & the main reason that makes GST a justified tax.

Claiming of the eligible ITC by the taxpayers is essential and the taxpayers should take proper care that they do not claim any ineligible Input Tax Credit. In case, if they have claimed any credit which was ineligible, it is necessary that the taxpayers reverse that ineligible Input Tax Credit.

One of the main intentions of introducing GST was to eliminate the cascading effect (tax on tax effect) to make the transactions simpler and taxes easier to pay! With GST you can avail the benefit of the taxes you have already paid on your purchases. This simple concept is known as the ‘Input Tax Credit under GST’.

In this short article, we will look at the complete process to reverse your ineligible ITC with simple examples.

ITC Reversal under GST | What does it mean?

To claim Input tax Credit under GST, there are certain conditions that businesses need to fulfill:

  • Pending payments with your supplier to be settled within six months (180 days) from the transacting date.
  • The input purchases & the capital goods on which ITC is claimed should be used for the business purpose and should NOT be utilized for personal consumption.
  • The input purchases or capital goods should NOT be further used for supplying the exempted goods.

There are many instances, when the businesses fail to meet either or all of these conditions and yet claim the Input tax Credit for those supplies under question.

Now is this claim on ITC valid?

The answer is undoubtedly NO!

Any claim which violates any one or either of these conditions will be classified as an ineligible ITC claim.

So what to do if a business claims any ineligible ITC for a particular month?

The taxpayers are required to REVERSE their ineligible Input Tax Credit while their GSTR-3B filing.

NOTE: When a business claims an ineligible Input Tax Credit under GST, the details of these transactions reflect in the Form GSTR-2A of the recipient business. Businesses can reverse this ineligible Input Tax Credit in their GSTR-3B based on the transaction details in their GSTR-2A.

Reversal of Input Tax Credit -Example

To understand the reversal of ITC process and the respective calculations, we need to understand two important rules:

  1. Rule 42 of CGST Act, 2017 (ITC Reversal on Inputs)
  2. Rule 43 of CGST Act, 2017(ITC Reversal on Capital Goods)

A. Rule 42 of the CGST Act, 2017

This rule is with respect to the determination of Input Tax Credit under GST on the inputs and the input services and their reversal thereof.

We will submit an example before the readers to understand the process much clearly.

Consider the following details of ‘Gaurav Enterprises’ for June 2021 for supplies made in Bangalore, Karnataka.

Heads  Details
Total ITC Available (T)₹3,30,000
ITC on supplies used for personal consumption (T1)₹10,300
ITC on inputs used to make exempted supplies (T2)₹19,000
Blocked credits (e.g. GST paid on the Personal travel fare) (T3)₹4,400
ITC on taxable supplies (T4)₹ 1,60,000
Aggregate values of exempt supplies (E)₹ 3,10,000
The total turnover of the firm ‘Gaurav Enterprises’ (F)₹35,00,000

From the above data.

ITC credit from electronic ledger (C1) = T – (T1+T2+T3);

C1 = 3,30,000 – (10,300+19,000+4,400) 

Therefore, C1 = ₹2,96,300

Common Credit (C2) = C1 – T4

C2 = 2,96,300-1,60,000 ,

C2 = 1,36,300

Now,

ITC on exempt supplies from common credit (D1) = (E/F) × C2

D1 = (3,10,000 ÷ 35,00,000) × 1,36,300

D1 = 12,072

Now,

ITC for supplies (done for non-business purposes) out of common credit (D2) = 5% of C2

D2 = 5% of 1,36,300

D2= 6,815

Now,

Left over eligible ITC from the common credit (C3);

C3 = C2 – (D1 + D2)

C3 = 1,36,300 – (12,072 + 6815)

C3 = 1,17,413

In this example of ‘Gaurav Enterprises’ we can conclude that:

Out of the total available ITC of Rs. 3,30,000

AmountAction
  C3 (Rs. 1,17,413) & T4 (Rs. 1,60,000)    Credited to electronic ledger
  D1 (12,072)& D2 (6,815)  This ITC of 12,072 + 6815 = 18,887 must be reversed.

So the total ITC reversal of the firm ‘Gaurav Enterprises’ will be ₹18,887

B. Rule 43 of the CGST Act of 2017

Based on the Rule 43 of the CGST Act of 2017, ITC should meet the following criteria to reverse the ineligible ITC on Capital Goods:

  1. The ITC is related to the capital goods used for personal or non-business use or for making exempted outward supplies.
  2. The Input Tax Credit is related to the capital goods used for making supplies other than exempt supplies, including nil-rated supplies.
AcronymMeaning
TCCommon Credit
TMAmount of ITC on capital goods during their useful life
TRAggregate value of Tm of capital goods whose useful life is left at the beginning of the tax period
TECommon credit for exempted supplies

Illustrative example:

A firm ‘Gaurav Enterprises’ in Mumbai, Maharashtra:

This firm buys four machines for business as well as personal use. While claiming the ITC for this month, the business claims ITC for all the machines.

Observe the following details to understand the example:

ITC claimed for Machine 1 purchase (used exclusively for the supply of exempted goods): ₹. 80,000;

ITC claimed for Machine 2 (used only for the supply of taxable goods):

₹. 43,000;

ITC claimed for Machine 3 (used exclusively for personal/non-business purpose): ₹25,000;

ITC claimed Machine 4 (used partly in the supply of taxable and exemptgoods): ₹ 72,000; 

Outward supplies details of the firm are given below:

Turnover of exempted supplies (E) = ₹ 10, 00,000

Turnover of taxable supplies (F)= ₹ 35, 00,000

In this example,

ITC claim forMachine1 & 2 stands invalid: (80,000 + 25,000) = 1, 05,000

ITC on Machine 2 will be allowed: ₹. 43,000 

ITC on Machine 4 will also be allowed (CommonCredit) TC= ₹ 72,000;

TM = TC/ 36 (considering the life of capital goods is 3 years i.e. 36 months).

TM = 72,000 / 60 = 2000

ITC to be reversedis calculated using the formula shown below:

(E / F) * TR

This is how the reversed ITC is calculated following Rule 43 of the CGST Act.

Reversal ofineligible ITC in GSTR-3B

Reversal of your ineligible ITC is an easy process. There is a separatededicated column in the Form GSTR-3B to furnish the details of the ITC to be reversed.

Following is a snapshot of the ITC reversal details column in the GSTR-3B form:

There are two important fields in this column as highlighted:

  1. As per Rule 42 & 43 of SGST/CGST Rules :
  • Furnish here the details of the ITC claimed on the inputs or purchases of products or services which are further used partly for business and partly for non-business purposes. They must be reversed here.
  • Input supplies includingnil-rated supplies, exemptgoods, then Input Tax Credit reversal is required. Furnish these details in this column.
  • ITC on the capital goods, which are then used to make exempted/nil-rated/taxable supplies, must be furnished. From these capital goods, the ITC on the goods which are NOT used for a business purpose must be mandatorily ‘Reversed’.

2. Others:

  • In this section of the GSTR-3B format, other ITCs that need to be reversedshould be mentioned.
  • These details can be based on his purchase registers and books of accounts.

It is an appeal to all the businesses to follow the CBIC’s clarification regarding GSTR-2B as the final and authoritative source for finding your eligible Input Tax Credit under GST for a particular month.

All the businesses must strictly follow the GSTR-2B Vs. Purchase reconciliation routine to find out the eligible ITC and avoid the further complications.

Using automatedtool like GSTHero’s ITC Reconciliation software will have many benefits as this will nullify all the errors and provide you with a complete and accurate reconciliation report of your GSTR-2B Vs. Purchase records.

To sum up

Input Tax Credit under GST is the base on which the GST structure iserected. We can understand the importance of this provision from this.

Hence, businesses are advised to act carefully while claiming the eligible Input Tax Credit under GST. Use an automated GSTR 2B & GSTR 2A reconciliation tool to get an accurate summary of your available & eligible Input Tax Credit.

Even if you claim ineligible ITC, there is nothing to worry about. You can simply reverse it with the process as discussed in the article.

Stay updated; stay ahead!

Until the next time…

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