ISD vs Cross Charge: The Budget Twist

Since the inception of GST Era, we have been witnessing the confusion in the trade regarding applicability of cross charge and Input Service Distribution (hereinafter referred as "ISD") for the common input services received by taxpayer which will be used by receiving unit as well as distinct person registered under section 25 of the CGST Act, 2017.

Under the CGST, 2017, there is no specific requirement to mandate registration as an ISD unit under section 24 of the CGST Act, 2017. Accordingly, the taxpayers chose their preferred method of distribution of input tax credit received by the head office which is to be distributed to the branch offices. Though ISD and Cross charge are two distinct concepts, both the concepts have been applied as substitutes for distribution of input service credit considering the convenience of the taxpayers with regards to distribution. The recent circular issued by the CGST Department[1] validated the practices adopted by the trade. This circular also clarified on the following valuation aspect:

1. In cases where the receiving units receive full credit, the value on the invoice shall be accepted by the department as per 2^nd proviso to Rule 28 of the CGST Rules, 2017.
2. In cases where the receiving units receive full credit and no invoice has been raised, it will be considered that the invoice has been raised at zero value.
3. In cases where the receiving units does not receive full input tax credit, the value of the employees in the head office may not be mandatorily included in value of services provided by the head office. However, there is no reasoning behind the clarification given.

Based on the recent Finance Bill, 2024, the following shall be the impacts due to proposed amendments (Refer Annexure A for proposed amendments in Section 2(61) and Section 20 of the CGST Act 2017):

1. The head office receiving the input services on behest of the branch offices shall now mandatorily be required to obtain ISD registration. The Finance Bill withdraws the benefits which were there under the earlier law which allowed the tax payer to choose between cross charge and ISD.

2. The ISD units shall now be able to pay liabilities under reverse charge mechanism and distribute the credit to the branch units. This also takes care of lacking in law with regards to distribution of input tax credit for the services received under reverse charge mechanism. This was a missing provision under the law earlier law.

3. With the above amendments, the manner of distribution shall be prescribed along with restrictions and conditions. It is anticipated that the manner of distribution may change the existing practices and resolve the present issues. Under the old provisions as per the Act, there was concept of distribution based on turnover of the recipient states which would now be replaced.

Based on the above amendments, changes in the tax compliance timelines and forms are anticipated. Wherein the ISD shall be paying the liability under reverse charge and distribute the same before filing of Form GSTR 3B. With changes in the above provisions, we anticipate that the taxpayers will now be required to evaluate the present structure of distribution of Input Tax Credit under ISD. We suggest staying updated with the evolving GST law and adopt the best practices for compliance accordingly.

Annexure A

1. Section 2 of CGST Act, 2017

‘(61) "Input Service Distributor" means an office of the supplier of goods or services or both which receives tax invoices under section 31 towards the receipt of input services, and issues a prescribed document for the purposes of distributing the credit of central tax, State tax, integrated tax or Union territory tax paid on the said services to a supplier of taxable goods or services or both having the same Permanent Account Number as that of the said office including invoices in respect of services liable to tax under sub-section (3) or sub-section (4) of section 9, for or on behalf of distinct persons referred to in section 25, and liable to distribute the input tax credit in respect of such invoices in the manner provided in section 20;’.

2. Section 20 of CGST Act, 2017

"(1) Any office of the supplier of goods or services or both which receives tax invoices towards the receipt of input services, including invoices in respect of services liable to tax under sub-section (3) or sub-section (4) of section 9, for or on behalf of distinct persons referred to in section 25, shall be required to be registered as Input Service Distributor under clause (viii) of section 24 and shall distribute the input tax credit in respect of such invoices.

(2) The Input Service Distributor shall distribute the credit of central tax or integrated tax charged on invoices received by him, including the credit of central or integrated tax in respect of services subject to levy of tax under sub-section (3) or sub-section (4) of section 9 paid by a distinct person registered in the same State as the said Input Service Distributor, in such manner, within such time and subject to such restrictions and conditions as may be prescribed.

(3) The credit of central tax shall be distributed as central tax or integrated tax and integrated tax as integrated tax or central tax, by way of issue of a document containing the amount of input tax credit, in such manner as may be prescribed.".

(1) The Input Service Distributor shall distribute the credit of central tax as central tax or integrated tax and integrated tax as integrated tax or central tax, by way of issue of a document containing the amount of input tax credit being distributed in such manner as may be prescribed.

(2) The Input Service Distributor may distribute the credit subject to the following conditions, namely:-

(a) the credit can be distributed to the recipients of credit against a document containing such details as may be prescribed;

(b) the amount of the credit distributed shall not exceed the amount of credit available for distribution;

(c) the credit of tax paid on input services attributable to a recipient of credit shall be distributed only to that recipient;

(d) the credit of tax paid on input services attributable to more than one recipient of credit shall be distributed amongst such recipients to whom the input service is attributable and such distribution shall be pro rata on the basis of the turnover in a State or turnover in a Union territory of such recipient, during the relevant period, to the aggregate of the turnover of all such recipients to whom such input service is attributable and which are operational in the current year, during the said relevant period;

(e) the credit of tax paid on input services attributable to all recipients of credit shall be distributed amongst such recipients and such distribution shall be pro rata on the basis of the turnover in a State or turnover in a Union territory of such recipient, during the relevant period, to the aggregate of the turnover of all recipients and which are operational in the current year, during the said relevant period.

Explanation.- For the purposes of this section,-

(a) the "relevant period" shall be-

(i) if the recipients of credit have turnover in their States or Union territories in the financial year preceding the year during which credit is to be distributed, the said financial year; or

(ii) if some or all recipients of the credit do not have any turnover in their States or Union territories in the financial year preceding the year during which the credit is to be distributed, the last quarter for which details of such turnover of all the recipients are available, previous to the month during which credit is to be distributed;

(b) the expression "recipient of credit" means the supplier of goods or services or both having the same Permanent Account Number as that of the Input Service Distributor;

(c) the term "turnover", in relation to any registered person engaged in the supply of taxable goods as well as goods not taxable under this Act, means the value of turnover, reduced by the amount of any duty or tax levied 1[under entries 84 and 92A] of List I of the Seventh Schedule to the Constitution and entries 51 and 54 of List II of the said Schedule.