GST Defaults by MSME Suppliers Worry Large Companies Claiming ITC

The coronavirus pandemic and the Great Lockdown that ensued it has caused a ripple effect across the Indian market. An action or non-action by one business can affect the working capital of its fellow business. 

Companies, with a large supplier base across industries, are now reaching out to their suppliers to check if they face any risk of default. It is because many MSMEs are facing acute shortage of working capital. Not only are they facing difficulty in depositing tax dues, but are also unable to pay salaries to their staff.

The primary advantage of GST in India is that it allows a smooth flow of Input Tax Credits (ITC) along the supply chain. It was not possible three years ago under the Central excise and VAT regime. However, the same may now prove to be a cause of concern. 

As per the Economic Times publication, many small and medium-sized enterprises are facing severe business disruptions. So, the large companies who are buying raw materials and ancillary products from them may be denied ITC if their supplier fails to pay GST. The scenario is likely to continue for the next few months. The sectors primarily affected are automotive, hospitality and manufacturing.

Any recipient cannot claim and utilise ITC under the GST law unless their suppliers have paid GST to the government. One of the conditions, under Section 16 of the CGST Act, states that the buyer will be refused ITC if a seller does not deposit GST with the government.

GST puts the onus of reconciliation of ITC upon the taxpayers. In turn, the recipient must ensure that his supplier uploads the invoices (later reflected in recipient’s GSTR-2A) and deposits GST dues, on which they can rightly claim ITC.

Also Read: New Facility for IRP/RP to Register on the GST Portal

Any failure by the supplier, the government will catch hold of the recipient who has requested such tax credits. It is a cause of concern among the trade since it is practically challenging to verify and follow up with every supplier, despite tax being paid to the suppliers. In turn, it increases the cost of compliance too.

In the current times, the MSMEs are facing a significant shortage of raw materials, labour, together with a drop in overall industry demand. Industry experts representing big companies have already placed particular requirements before the government, including suspension of GST payments for six months. The GST Council that is set to meet on 14th June 2020 may take up this matter.

The recipient companies have multiple solutions to manage this situation. They can go for business insurance policies to protect themselves from GST payment defaults of their suppliers. 

Going forward, the terms of inviting tenders from suppliers will be more rigid, including the selection process. Also, the existing contracts will be re-evaluated to include an elaborate GST default clause in the terms.

Several companies are already resorting to indemnity bonds and letter of reimbursement to keep themselves immune from any potential liability of interest and penalties. It is a legal document requiring suppliers to pay GST on time. They will be held liable for defaulting GST payments. They must reimburse any interest or penalty paid by the recipient due to their delay.

In other cases, large enterprises may also hold back invoice payments to suppliers. It is to ensure their GST dues are paid on time so that they can be assured of their rightful ITC claims. This tactic was followed even before the pandemic could ravage the Indian industries. Where a supplier was filing GSTR-1 quarterly, and his recipient was filing GSTR-3B monthly, the inconsistency in the timelines for declaring invoices and claiming the ITC had forced businesses to adopt the tactic.

As a temporary relief, the government has also allowed the recipients to claim full ITC in GSTR-3B without the need to match it with GSTR-2A from February to August 2020. It is because the respective suppliers will only be able to upload invoices by the end of June 2020, to be later reflected in GSTR-2A.

Accordingly, the rule on 10% provisional ITC claim is suspended until August 2020. Nevertheless, all businesses irrespective of size, must pay GST and file GSTR-3B by the due dates in June-July 2020. But a cash deficit may force small businesses to default these GST payments. A solution from the government for this problem is the need-of-the-hour.

For any clarifications/feedback on the topic, please contact the writer at annapoorna.m@cleartax.in