Updated on: Jan 24th, 2023
16 min read
While paying taxes to the Government, businesses can use the credit of GST paid on the purchases like raw materials/services used for manufacturing or selling products. It is known as an Input tax credit (ITC). If the input tax credit is wrongly claimed, then it should be reversed by making the payment to that extent next month.
The article dives into the meaning, purpose, and cases under which ITC reversal is required.
Latest Updates on ITC under GST
1st February 2022
Budget 2022 updates-
1. ITC cannot be claimed if it is restricted in GSTR-2B available under Section 38.
2. Time limit to claim ITC on invoices or debit notes of a financial year is revised to earlier of two dates. Firstly, 30th November of the following year or secondly, the date of filing annual returns.
3. Section 38 is completely revamped as ‘Communication of details of inward supplies and input tax credit’ in line with the Form GSTR-2B. It lays down the manner, time, conditions and restrictions for ITC claims and has removed the two-way communication process in GST return filing on the suspended return in Form GSTR-2. It also states that taxpayers will be provided information of eligible and ineligible ITC for claims.
4. Section 41 is also revamped to remove the references to provisional ITC claims and prescribes self-assessed ITC claims with conditions.
5. Sections 42, 43 and 43A on provisional ITC claim process, matching and reversal are eliminated.
29th December 2021
CGST Rule 36(4) is amended to remove 5% additional ITC over and above ITC appearing in GSTR-2B. From 1st January 2022, businesses can avail ITC only if it is reported by the supplier in GSTR-1/ IFF and it appears in their GSTR-2B.
21st December 2021
From 1st January 2022, ITC claims will be allowed only if it appears in GSTR-2B. So, the taxpayers can no longer claim 5% provisional ITC under the CGST Rule 36(4) and ensure every ITC value claimed was reflected in GSTR-2B.
In certain situations, even if the basic conditions for claiming ITC are satisfied, ITC claims must be reversed. Reversal of ITC means the credit of inputs utilised earlier would now be added to the output tax liability, effectively nullifying the credit claimed earlier. Depending upon when such reversal is done, payment of interest may also be required.
The ITC is required to be reversed under various scenarios defined in the Act. Some of those scenarios are summarised below:
|Relevant GST section/ rule||Circumstances||When is ITC reversal required|
|CGST Rule 37||The recipient fails to pay consideration to the supplier (whether fully or partly) for a particular supply||Within 180 days from the date of issue of the invoice.|
|CGST Rule 37A||The supplier fails to pay tax through GSTR-3B by 30th September of the following year||On or before 30th November of the following financial year.|
|CGST Rule 38||Reversal of 50% of ITC by banking and other financial companies under special rules||At the time of filing regular returns.|
|CGST Rule 42||Inputs used to make an exempt supply or for manufacturing supplies some of which were used for non-business or personal purposes||On a periodic basis (monthly/yearly) using a formula given below for common credits|
|CGST Rule 43||Capital goods used to make an exempt supply or for manufacturing supplies some of which were used for non-business or personal purposes||On a periodic basis (monthly/yearly) using a formula given below for common credits|
|CGST Rule 44||Cancellation of GST registration or switching to composition scheme||While filing form REG-16 under various situations explained in detail in our article on the cancellation of GST registration or through ITC-03 while opting for composition scheme.|
|CGST Rule 44A||Reversal of 5/6th of the ITC taken on gold dores in stock as on 1st July 2017||At the time of supply of either the gold dore bar or the gold/gold jewellery.|
|Section 16(3)||Depreciation under the Income Tax Act has been claimed on the GST component of capital goods purchased||Reversal is required at the time of closing books of accounts for that financial year.|
|CGST Section 17(5)||ITC has been availed on ‘blocked credits’||At the time of filing regular returns up to the date of filing annual returns.|
|CGST Section 17(5((h)||Inputs used in goods that were lost, destroyed, stolen, etc.||At the time of filing the regular returns in relation to the month in which such loss had occurred.|
|CGST Section 17(5)(h)||Inputs used in goods that were given out as free samples||At the time of filing the regular returns in relation to the month in which such free samples were given out.|
Let’s check out the different rules prescribed for calculating the amount of ITC to be reversed:
Before we proceed to discuss each rule, the total ITC can be divided into the following parts:
Specific credit: ITC that can specifically be attributable to a supply – either taxable, non-taxable, or supply consumed for personal use.
Treatment: Separate such ITC amount from the total ITC since it can be easily identified.
Common credit: ITC amount that cannot be attributable to a specific supply but is used for partly making both the taxable and non-taxable supplies/supplies used for personal consumption.
Rule 42 and 43: ITC reversal on the supplies that are exempt or used for personal consumption
The calculation of ITC to be reversed differs for:
Step-1: Businesses must first segregate the specific credits that are ineligible for the claim, from the total ITC as follows:
|Variable used||Formulae/ Explanation|
|T||Total input tax paid credit on inputs and input services|
|T1||Out of ‘T’, the specific credit attributable to inputs/input services intended to be used for non-business purposes|
|T2||Out of ‘T’, the amount of input tax attributable to inputs/input services intended to be used exclusively for effecting exempt supplies|
|T3||Out of ‘T’, the amount of input tax deemed as ‘blocked credits’ under section 17(5)|
Note: T1, T2, and T3 must be reported in GSTR 3B at a summary level for every tax head
Step-2: Reduce T1, T2 and T3 from the total ITC and derive the common credit as follows:
|C1||ITC credited to electronic credit ledger T – (T1 + T2 + T3)|
|T4||Specific credit on inputs/input services attributable exclusively for making taxable supplies. This would also include zero-rated supplies like exports and supplies to SEZ.|
|C2||Common credit C1 – T4 |
ITC on the inputs that is assumed to have been used partly in making taxable supplies and partly in making exempt supplies or used for a non-business purpose.
Step-3: Compute the amount of ITC to be reversed out of the common credit as follows:
|D1||The ITC attributable towards exempt supplies out of common credit: (E÷F) × C2|
E: Aggregate value of exempt supplies during the tax period
F: Total turnover in the State of the registered person during the tax period
Note: For building construction services, (E÷F) will be calculated on a project basis
– E stands for aggregate carpet area of exempt construction project or apartments sold after construction is over
– F stands for aggregate carpet area of the apartments in the project
|D2||Deemed to be ITC attributable for non-business purposes out of common credit: 5% of C2|
|C3||Remaining eligible ITC out of common credit: C2 – (D1 + D2)|
Based on the above calculations, D1 and D2 will be the ITC that needs to be reversed.
Consider the following scenario for the month of July 2020 in relation to supplies made in Karnataka:
|Particulars||Amount (in Rs)|
|Total ITC available (T)||1,50,000|
|ITC on inputs attributable to supply used by Director for personal use (T1)|
|ITC on inputs to be used exclusively for making exempt supply (T2)||15,000|
|Blocked credits (for example, GST portion paid in respect of taxi service obtained) (T3)||4,500|
|ITC on inputs used exclusively for making taxable supplies (T4)|
|The aggregate value of exempt supplies made in July (E)||2,25,000|
|Total turnover in Karnataka (F)||30,00,000|
C1 = T – (T1+T2+T3); C1 = 1,50,000 – (7,500+15,000+4,500), therefore, C1 = 1,23,000.
The common credit C2 = C1 – T4 , i.e., C2 = 1,23,000-1,05,000 , i.e., C2 = 18,000.
D1 = (E÷F) × C2 , i.e., D1 = (2,25,000 ÷ 30,00,000) × 18,000 , i.e., D1 = 1,350.
D2 = 5% of C2 , i.e., D2 = 900.
C3 = C2 – (D1 + D2) , i.e., C3 = 15,750.
So, out of the originally available ITC of Rs. 1,50,000, only C3 (Rs. 15,750) and T4 (Rs. 1,05,000) were credited ultimately to the electronic credit ledger and D1 (Rs. 1,350) and D2 (Rs. 900) were required to be reversed.
The first step is to find out if the ITC falls under the following criteria:
In case the ITC falls under category ‘A’ above, then credit will not be allowed in respect of the same. In case the ITC falls under category ‘B’ above, then credit will be allowed and taken to the electronic credit ledger. The useful life of capital goods is taken to be five years from the date of invoice.
This is done so that in case the capital goods were covered in category ‘A’ or ‘B’ as mentioned earlier and are now not covered under either category, then the ITC would be called ‘common credit’ or ‘Tc’ and 5% would have to be deducted from this common credit for every quarter or part quarter for the time it was covered in the category ‘A’ or ‘B’.
The useful life of the capital goods has been taken as 5 years, but our filing period relates to the supplies made/received in a particular month, so we will first find the ITC attributable to a month by dividing the credit by 60.
|Variable used||Formulae / Explanation|
|Tm||Tc ÷ 60 Amount of ITC attributable to a tax period (a month) on common capital goods during their useful life|
|Tr||Aggregate Tm of all those capital goods which have useful life remaining at the beginning of the tax period|
|Te||This is the common credit attributable towards exempted supplies, which is calculated as follows: (E ÷ F) × Tr|
-E: Aggregate value of exempt supplies made during the tax period
-F: Total turnover in the State of the registered person during the tax period
Note: For building construction services, (E÷F) will be calculated on a project basis
-E stands for aggregate carpet area of exempt construction project or apartments sold after construction is over
-F stands for aggregate carpet area of the apartments in the project
Thus, Te calculated above will be the ITC in respect of capital goods that are required to be reserved or added to the output tax liability. Note that the above calculations would slightly differ if the supply is in the nature of services covered under Paragraph 5(b) of Schedule II of the CGST Act.
A company operating in Karnataka had availed the following ITC on various capital goods purchased in the month of July 2020:
|Particulars||Amount (in Rs)|
|ITC on Machine A (used exclusively in the supply of exempt goods)||1,50,000|
|ITC on Machine B (used exclusively in the supply of taxable goods)||9,00,000|
|ITC on Machine C (used exclusively for non-business purposes)||20,000|
|ITC on Machine D (used partly in the supply of taxable and exempt goods)||4,50,000|
The company had also made the following type of output supplies in Karnataka in the month of July:
Turnover in relation to exempt supplies: Rs. 20,00,000
Turnover in relation to taxable supplies: Rs. 80,00,000
ITC on machine A and C will not be credited to the electronic credit ledger (1,50,000+20,000 = 1,70,000).
ITC on machine B will be credited to the electronic ledger: Rs. 9,00,000
ITC on machine D will also be credited to the electronic credit ledger:
Tc = 4,50,000
Tm = Tc ÷ 60 = 7,500 which is also Tr in this case.
The amount of ITC to be reversed for the month of July, 2020 would be: = (E ÷ F) × Tr = (20,00,000 ÷ 80,00,000) × 7,500 = 1,875
Thus, the total ITC credited to the electronic ledger for the month of July 2020 = Rs. 10,70,000 and total ITC reversed for July, 2020 = Rs. 1,875
The aim of this rule is to reverse all the ITC that has been availed by a registered person in the event that he chooses to pay tax under the composition scheme or his registration gets cancelled for any reason.
The calculation is done as follows:
This rule relates to ITC taken under the transitional provisions of the CGST Act.
It is based on CENVAT credit available under the earlier scheme of taxation in respect of additional duty of customs (section 3(1) of the Customs Tariff Act, 1975) paid for importation of gold dore bars.
Where stock of such gold dore bar (raw material) or gold jewellery (final product) lies with the taxpayer on 1 July, 2017, the ITC will be restricted to 1/6th of the credit availed in respect of such gold dore bar.
Hence, 5/6th of the credit availed must be reversed at the time of supply of either the gold dore bar or the gold/gold jewellery made out of it.
The amount of ITC reversal needs to be calculated by the taxpayer himself and filled up in Table 4B of GSTR-3B. The ITC reversed that needs to be reported is of two types –
GSTR-9 (annual return) will also need to be filled up with details regarding ITC reversed for the whole year. Wherever possible, the details will be auto-filled on the basis of the data entered in the monthly form GSTR-3B but changes can be made by the taxpayer wherever required.
Table 7 contains the details of ITC reversed and ineligible ITC for the financial year. The relevant details need to be provided for the whole year accordingly.
The process of calculation of the reversal ITC and reporting of the same in the relevant GST returns can be made simpler by trying out the smart calculator feature while filing GSTR-9 provided by ClearTax GST.
It downloads the entire year’s data from GSTN easily to file an accurate GSTR-9 and comes with intelligence to reconcile between GSTR-1, GSTR-3B and books of accounts to give suggestions for fixing mismatches.
In a few cases, you have to reverse the ITC as per the GST Act & rules such as payment not made to the seller within 180 days, ITC related to exempt sales, ITC related to personal purposes, etc.
You have to mention the ITC reversal amount due to Rule 42 & 43 or for any other reasons in Table 4B of the GSTR-3B. Also, you have to make annual calculations on ITC reversal and mention the same in GSTR-9.
CGST Rule 42 deals with the reversal of ITC on inputs and input services, whereas rule 43 deals with the reversal of ITC on capital goods.
No, you can not use DRC-03 to reverse the ITC. DRC-03 is a voluntary tax payment form to pay the GST liability voluntarily or in response to a show-cause notice (SCN).