A Flaw In The GST Law

In the annals of modern history, the Covid-19 pandemic will be remembered as a watershed moment that reshaped our world in unprecedented ways. As India grappled with this invisible enemy, the reverberations were felt across all sectors of society, but perhaps none more acutely than in the realm of business and taxation. The Goods and Services Tax (GST) regime, was still in its infancy, faced its most formidable challenge yet. Today, as we emerge from the shadow of the pandemic, we find ourselves confronting an unexpected aftermath – one that threatens the very businesses that fought so hard to survive.

The pandemic struck with the force of a thousand storms, bringing the bustling Indian economy to a grinding halt. Nationwide lockdowns, while necessary to curb the spread of the virus, dealt a crushing blow to businesses across the spectrum. From the smallest street-side vendor to the largest corporations, no one was immune to its impact. As the wheels of commerce slowed to a crawl, a domino effect ensued. Sales plummeted, cash flows dwindled, and the once-robust payment cycles began to falter and fail.

In this climate of economic uncertainty, businesses found themselves caught in a vicious cycle. With reduced income, many struggled to meet their financial obligations, including payments to suppliers. The 180-day payment window, once a reasonable timeframe, suddenly seemed like an insurmountable hurdle. Little did these beleaguered businesses know that this delay, born out of circumstances beyond their control, would come back to haunt them in the form of GST audit notices.

The government, recognizing the extraordinary nature of the situation, did take steps to provide relief. The Honorable Supreme Court, in a landmark judgment, acknowledged the need for leniency in legal timelines. The period from March 15, 2020, to February 28, 2022, was declared a legal twilight zone – a time to be excluded from the computation of various statutory time limits. This judicial intervention was a beacon of hope for many, offering a 90-day respite beyond March 1, 2022, for those caught in the web of pandemic-induced delays.

In the realm of GST, the authorities were not far behind in offering solace. A series of notifications flowed from the Central Board of Indirect Taxes and Customs (CBIC), extending deadlines for filing crucial returns like GSTR-3B, GSTR-9, and GSTR-9C. These extensions were a lifeline for businesses struggling to keep their heads above water while navigating the turbulent seas of compliance.

Yet, amidst these well-intentioned measures, a critical oversight has come to light – one that threatens to undermine the very relief these actions sought to provide. The second proviso to Section 16(2) of the CGST Act, 2017, stands as an immovable object in the path of true relief. This provision, mandating the reversal of Input Tax Credit (ITC) if payments to suppliers are not made within 180 days, remained untouched by the wave of relaxations. In the grand scheme of pandemic relief, this oversight now looms large, casting a long shadow over the recovery of countless businesses.

The crux of the second proviso to Section 16(2) of the CGST Act, 2017, and Rule 37 says that if a buyer doesn't pay the supplier for goods or services within 180 days of receiving the invoice, the buyer must repay the input tax credit they claimed, plus any interest. However, once the buyer pays the supplier for the goods or services and the tax, they can reclaim the input tax credit. If a registered person claims input tax credit on any received goods or services but does not fully pay the supplier within the 180-day limit specified in the GST law, they must repay or reverse the input tax credit proportional to the unpaid amount, along with any applicable interest, when filing the return in FORM GSTR-3B for the tax period immediately after the 180 days from the invoice date. These provisions of Rule 37 Reversal of Input Tax Credit in Case of Non-Payment need to be done away with.

The Devastating Impact on Businesses
The implications of this oversight are far-reaching and potentially devastating. Businesses that managed to weather the storm of the pandemic now find themselves facing a secondary crisis. The specter of ITC reversal hangs over their heads, a Damocles' sword that threatens to undo the fragile recovery many have painstakingly achieved. The irony is palpable – a provision designed to ensure timely payments has become a punitive measure against those who had no choice but to delay payments during a global crisis.

The financial impact of this oversight cannot be overstated. For businesses already walking a tightrope of liquidity, the potential loss of ITC could be the gust that sends them tumbling. This additional tax burden comes at a time when every rupee counts, when businesses are still nursing the wounds inflicted by the pandemic. The cost is not just monetary – the man-hours lost to managing these reversals, the stress of additional compliance, and the uncertainty it breeds all take their toll on the entrepreneurial spirit that India so desperately needs to rekindle.

As audit notices begin to flood in, a sense of despair is palpable among the business community.  Thousands of Audit objection paras demanding hundreds of Crores of GST from the Business community has passed shock waves throughout the fraternity.  Many feel that they are being penalized for surviving, for doing whatever it took to keep their enterprises afloat during the darkest hours of the pandemic. The question on everyone's lips is – where is the empathy in our tax system? How can we reconcile the government's calls for economic revival with actions that seem to penalize those who managed to survive against all odds?

The need of the hour is clear – a holistic and empathetic approach to GST compliance for the pandemic period. The government must recognize that the circumstances that led to these payment delays were extraordinary and deserve extraordinary consideration. A retrospective relaxation of the 180-day payment requirement under Section 16(2) for the pandemic period is not just necessary; it is the morally right thing to do.

Historical Context
In fact, if we go back a little, we find that this provision was always controversial. During the 5th GST Council Meeting held on December 2-3, 2016, the Commissioner (GST Policy Wing) from CBEC explained that reversing input tax credit was an anti-evasion measure. Initially, the credit was to be reversed if the recipient of the service didn't pay the supplier within three months. However, once the payment was made, the recipient could reclaim the credit. Later, this period was extended to 180 days.

In the 28th GST Council Meeting, GST Council addressed concerns about the financial burden on Trade & Industry due to the requirement to reverse or repay Input Tax Credit (ITC) if the supplier is not paid within 180 days. The primary issue was the interest charged under Section 50 of the CGST Act, which accumulates from the day ITC is claimed until it is reversed or repaid.

In response to challenges from Trade Associations and representations to the government, the Council decided to remove the interest levy on the ITC amount, effective from July 1, 2017. This decision was announced in a press release on July 21, 2018, indicating that the requirement to pay interest for late payments to suppliers was too burdensome and was therefore eliminated.

Press Note dated 21st July 2018
“In case the recipient fails to pay the due amount to the supplier within 180 days from the date of issue of invoice, the input tax credit availed by the recipient will be reversed, but liability to pay interest is being done away with.”

But for the reasons best known to the lawmakers, this never saw the light of day.

The Spirit of The Supreme Court's Judgment
Moreover, the spirit of the Supreme Court's judgment on limitation periods must be extended to the realm of GST compliance. The period of exclusion granted by the apex court should be applied to the calculation of payment timelines under GST as well. This would not only align with the broader legal landscape but also provide much-needed relief to businesses still reeling from the pandemic's impact.

Clear guidelines must be issued to tax authorities regarding audit proceedings related to pandemic-period transactions. Auditors need to be sensitized to the unique challenges’ businesses faced during this time and be instructed to approach these cases with a degree of leniency and understanding that befits the unprecedented nature of the crisis.

The pandemic has shown us the resilience of the Indian business community. From large corporations to small traders, everyone did their part to keep the economic engine running, often at great personal cost. Now, as we stand at the crossroads of recovery, the government has a unique opportunity to demonstrate its commitment to this resilience. By addressing the oversight in Section 16(2) and providing comprehensive relief, the government can send a powerful message – that it stands with those who stood firm in the face of adversity.

Unjust Enrichment by the Government
It is a clear case of Unjust Enrichment by the Government at the Cost of Recipients. The interest charged on unpaid amounts under the second proviso to Section 16(2) of the CGST Act, 2017, is excessively harsh on trade and industry. This provision is seen as unfair, illegal, arbitrary, unconstitutional, and harmful to businesses. The main issue for the government is ensuring the tax amount claimed as Input Tax Credit (ITC) by the recipient is legitimate. There is absolutely no benefit passed on to the supplier whatsoever.

However, under the conditions described in this proviso, the supplier has already paid the tax to the government. The recipient meets the eligibility requirements for claiming ITC. Therefore, forcing the recipient to repay or reverse the ITC if they don't pay the supplier within 180 days from the invoice date is unreasonable and unnecessary. This provision has unfortunately become a tool that law enforcement agencies can use at their discretion, often resulting in undue pressure and harassment of taxable entities.

There is a clear need for revisiting the application of this law, ensuring it is used as intended and not as a punitive tool against financially struggling businesses. This proviso does not generate additional revenue for the government nor does it aid taxable entities; it simply places an undue compliance burden on taxpayers.

Recent Changes in Indian Income Tax Law
Recent changes in Indian Income Tax Law, specifically Section 43B, ensure timely payments to MSMEs. Deductions are only allowed on an actual payment basis by the due date of filing returns under Section 139(1). Payments must be made within 45 days as per the MSME Development Act, 2006, or the expense is disallowed until payment is made. Delayed payments incur interest at three times the RBI's bank rate, which is non-deductible. Companies must disclose any unpaid principal and interest to MSMEs in their financial statements, promoting transparency and adherence to payment norms. Given that payments must be made within 45 days under existing Income Tax provisions, the 180-day requirement in GST law is redundant. Therefore, the 180-day provision should be removed. Correcting this flaw in the GST law is crucial to restoring its intended benefits and ensuring it functions as designed, making it more trade-friendly and encouraging timely compliance.

The Spirit of Economic Policy
The time for action is now. Thousands of GST assessees across India are looking to the government with hope and expectation. They are not asking for handouts or exemptions from their responsibilities. All they seek is understanding – a recognition that the delays in their payments were not by choice but by circumstance. By granting this relief, the government would not only be easing the compliance burden on businesses but also injecting a much-needed dose of confidence into the economy. The Spirit of Economic Policy must be maintained.

As we move forward, let us remember that the true measure of our economic policy is not just in the letters of the law, but in its spirit – a spirit that should embody compassion, foresight, and a genuine commitment to fostering growth. The pandemic has taught us many lessons, chief among them the importance of adaptability and empathy. It is time for our tax system to embody these lessons.

In conclusion, the oversight regarding Section 16(2) of the CGST Act is more than just a technicality – it is a litmus test for our commitment to equitable economic recovery. By addressing this issue, the government has the power to transform thousands of potential GST audit nightmares into stories of relief and renewed hope. The ball is in the government's court. It is the ultimate Litmus test of Government's willingness to resolve to correct past blunders.