GST Rate Cut from 18% to 5%: ITC Reversal Under Section 18(4)

The GST 2.0 reforms, effective from September 22, 2025, bring substantial changes to the tax rates on goods and services across India. This article addresses the GST rate cuts, particularly the reduction of rates from 12% to 5% and 28% to 18%, and explores the related compliance considerations under Section 18(4) of the CGST Act concerning input tax credit (ITC) reversal.

Key Takeaways

• Section 18(4) requires ITC reversal only if goods or services become tax-exempt or if the business switches to the composition scheme.
• GST rate cuts, such as from 12% to 5%, do not trigger ITC reversal as long as goods or services remain taxable.
• Continue using your ITC normally for taxable supplies. Only reverse ITC if some supplies become exempt.
• Keep clear records, and check for new transitional rules or exemptions in the future

Understanding GST Rate Reduction

India’s GST rate changes in 2025 have been major and wide-reaching:

• Starting September 22, 2025, the GST Council reduced the number of tax slabs from four to two main rates: 5% merit rate for essential and priority items and 18% standard rate for most other goods and services. There is also a special 40% rate for luxury and sin goods.
• Most products previously taxed at 12% now fall under the 5% slab. Everyday items, processed foods, and farm equipment are now cheaper for everyone.
• High-value items, like cars, electronics, and electrical appliances, have seen a drop from 28% to 18% GST.
• Luxury and “sin” items such as pan masala, tobacco products, and aerated drinks are now taxed at the much higher 40% rate. (Except that the new rate on tobacco would apply at a later notified date after the compensation cess liability is duly cleared)

Key facts:

• The new rates make essentials more affordable and aim to boost both household budgets and business growth.
• Goods and services still remain taxable even after the rate cut. This means businesses can continue to use ITC for these goods and services.
• ITC on inputs claimed when output goods were taxed at higher rates (12% or 28%) can still be used now, even though outputs are taxed at new, lower rates.

Section 18(4) of the CGST Act - Explained

ITC reversal under Section 18(4) of the CGST Act is a requirement to reverse input tax credit on inputs, semi-finished goods, and capital goods whenever:

• Supplies become wholly exempt from GST, or
• The taxpayer transitions from the regular GST scheme to the Composition Scheme.

ITC reversal is not required for a mere drop in rate. The provision focuses on exemptions, not slab changes.

Businesses need only reverse ITC when the goods or services become completely exempt, or they migrate to composition. Rate reduction alone does not trigger reversal.

ITC Reversal in Case of Rate Changes

For a GST rate reduction in 2025, the following rules apply:

ITC Reversal Decision Guide

Transitional Provisions for Businesses

Transitional compliance measures for the 2025 GST rate change include:

• Continue claiming input tax credit (ITC) on supplies that shift from a higher GST rate to a lower rate as long as they remain taxable.
• Reverse ITC on supplies that become exempt from GST post the rate change, in proportion to the value of exempt supplies as per GST rules.
• Businesses should regularly check their inventory and the GST input credits they have claimed, especially if new tax exemptions for certain sectors are announced.
• Maintain complete documentation for rate transitions, eligible ITC, and reconciliations.

Official notifications and GST Council meeting notes make it clear: just lowering the GST rate doesn't mean businesses have to reverse input tax credits. However, if a business's products or services become completely tax-exempt, then input tax credits must be reversed as per GST rules.

Read more:
GST Revamp: Full List of New GST Rate Cheaper and Costlier Items