Refund under Inverted Duty Structure - Anomaly

[CA Akash Phophalia]

1. Inverted Duty Structure – Meaning-

Inverted Duty Structure means a situation where the tax rate on inputs is higher than tax rates on outward supplies. Thus where taxes paid on inputs are at a rate higher than the taxes paid on outward supplies, such situation is an Inward Duty Structure. For instance in case of steel utensils manufacturing firm, rate of tax on inputs i.e. SS Patti/Patti is 18% whereas rate of tax on final product i.e. Utensils is 12%. This is good example of inverted duty structure.

2. Refund-

Inverted duty structure generally results in accumulation of excess taxes credit. Since rate of tax on outward supplies is lesser than rate of tax on inputs this results in accumulations of unutilized input tax credit and thus need of refund arises.

3. Legal Provisions-

Section 54(3) of the CGST Act 2017 provides (relevant extracts)

”Subject to the provisions of sub-section (10), a registered person may claim refund of any unutilized input tax credit at the end of any tax period:

Provided that no refund of unutilized input tax credit shall be allowed in cases other than-

(i) zero rated supplies made without payment of tax;

(ii) where the credit has been accumulated on account of rate of tax on inputs being higher than the rate of tax on output supplies (other than nil rated or fully exempt supplies), except supplies of goods or services or both as may be notified by the government on the recommendation of the Council:

Provided further that no refund of unutilized input tax credit shall be allowed in cases where the goods exported out of India are subjected to export duty:

Provided also that no refund of input tax credit shall be allowed, if the supplier of goods or services or both avails of drawback in respect of central tax or claims refund of the integrated tax paid on such supplies.”

An Analysis

(a) Refund- Meaning of refund is provided in the Explanation to the Section 54 which reads as under-

“Refund” includes refund of tax paid on zero-rated supplies of goods or services or both or on inputs or input services used in making such zero-rated supplies, or refund of tax on the supply of goods regarded as deemed exports, or refund of unutilized input tax credit as provided under sub-section(3).

Thus the definition of refund conveys different meaning for different situations resulting in refund of unutilized input tax credit which can be summarized as:-

Nature of Supply	Refund of taxes paid	Remarks
Zero-rated supply (With payment of tax)	Taxes paid on Zero-rated supplies	Taxes can be paid either by utilization of input tax credit or can be paid using cash. Here, input tax credit is wide enough to cover input, input services and capital goods.
Zero-rated supply (Without payment of tax)	Input tax credit of input and input services	Input tax credit of capital goods is restricted by narrowing down the meaning of refund.
Deemed Exports	Tax on supply of goods regarded as deemed exports
Inverted duty structure	Unutilized Input tax credit	Input tax credit is explained in the forthcoming paragraphs. Input tax credit is not restricted anywhere in the law and hence it will cover input tax credit on inputs, input services and capital goods also.

(b) Input tax credit-

Section 2(63) - “input tax credit” means the credit of input tax.

Input Tax

Section 2(62) – “input tax” in relation to a registered person, means the Central tax, State tax, integrated tax or Union Territory tax charged on any supply of goods or services or both made to him and includes-

(a) the integrated goods and services tax charged on import of goods;

(b) the tax payable under the provisions of sub-section (3) and (4) of section 9;

(c) the tax payable under the provisions of sub-section (3) and (4) of section 5 of the Integrated Goods and Services Tax Act;

(d) the tax payable under the provisions of sub-section (3) and sub-section (4) of section 9 of the respective State Goods and Services Tax Act; or

(e) the tax payable under the provisions of sub-section (3) and sub-section (4) of section 7 of the Union Territory Goods and Services Tax Act,

but does not include the tax paid under the composition of levy.

Thus input tax credit shall mean taxes paid on goods and services whether under direct charge or reverse charge whether on domestic procurement or on importation. But credit of composition fees shall not be admissible. Hence, the term used input tax credit is wide enough to cover all eligible input taxes paid by the registered taxable person. And wherever the said term shall be used it shall convey the same meaning of including all eligible input tax credits except where the meaning is restricted for the purpose of the particular section or rule.

(c) Eligibility

The law provides the condition/situation for eligibility of claiming refund of unutilized accumulated input tax credit and the said condition/situation is linked with the rate of taxes on inputs and the rate of taxes on outward supply. The incorporation of the condition nowhere redefines or reduces or restricts the meaning of the term input tax credit. Thus the basic eligibility criteria for determining the admissibility of the refund of unutilized accumulated input tax credit is where the rate of tax on inputs is higher than the rate of taxes on outward supplies. Once the criteria are fulfilled the eligibility to claim refund is determined. The criteria will not determine the amount of refund or will not restrict the meaning of input tax credit or the meaning of refund. Conclusively, though the eligibility criteria or situation or condition is linked with the term inputs, but the refund amount is linked with the terms input tax credit and refund and both such terms are wider enough to cover input tax credit of goods and services both.

(d) Whether any differentiations in refund of inputs, input services or capital goods - As far as provisions carved out for refund of input tax credit on account of inverted duty structure the law no where imposes any restriction as to refund of taxes on inputs, input services or capital goods. Thus under section 54(3) taxes paid on inputs, input services or capital goods are admissible. However the same is to be understood with the explanation provided for meaning of refund. Meaning of refund for inverted duty structure is wide enough to cover taxes paid on inputs, input services and capital goods.

(e) Rule 89(5) of CGST Rules 2017 - 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) * Net ITC / Adjusted Total Turnover} – tax payable on such inverted rated supply of goods and services.

Explanation:- For the purposes of this sub-rule, the expressions-

(a)”Net ITC” shall mean input tax credit 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; and

(b) “Adjusted Total Turnover” shall have the same meaning as assigned to it in sub-rule (4).”

By reading the definition of Net ITC it can be inferred that refund shall be restricted to the taxes paid on inputs only. It does not cover input services and capital goods within its purview.

4.  Anomaly - The anomaly lies in the scope of act and the procedures carved in the rules. On one part the act stated about the admissibility of refund of input tax credit and does not reduce the scope of input tax credit whereas on the other part the rule provides for the mechanism of refund of taxes paid on inputs only. This anomaly resulted in the following questions needs to be clarified-

(a) Whether the rule is ultra vires to the main provisions of the act?

(b) The rule provides mechanism for calculation of refund of input tax paid on inputs. Does that mean input tax paid on input services and capital goods is available in toto without any restriction?

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CA Akash Phophalia

9799569294

ca.akashphophalia@gmail.com