What is Input Tax Credit on Common Credit
Businesses often purchase goods for business as well as personal use. However, Input Tax Credit is only allowed on goods used for business purposes. This is where the concept of common credit comes into the picture. In this article, we will provide a thorough explanation of common credit, what it is, how it is calculated and the impact it has on your annual returns.
What is Common Credit?
ITC can only be claimed on goods and services that are used in the course of, or furtherance of business. ITC cannot be claimed for goods and services bought for personal use. The final number that is calculated after removing ineligible tax
For example, a home appliance store owner buys 10 new refrigerators of the make and model for ₹10,00,000, plus a GST of 18% i.e. ₹1,80,000. The total consideration paid by him is ₹11,80,000. So, for each refrigerator, he has paid ₹18,000 as GST. Now, suppose he decides to take one of the refrigerators home and use it. That counts as personal use and not business use. In such a scenario, he cannot claim back the ₹18,000 of GST paid for that refrigerator, since it is for personal use. On the other refrigerators however, he is eligible to claim ITC as usual.
A company may get capital goods, input commodities, and input services from outside sources. Additionally, the goods and services brought in may be employed for either personal or business purposes. Under GST, the aggregate input tax credit offered on all such purchases is referred to as the Proportionate Credit or Common Credit. The taxpayer is not eligible to claim credit for inputs utilised for private purposes. Thus, the common credit should be applied proportionately when paying the production tax liability.
The common credit can be utilised under two fundamental criteria:
- ITC is permitted only for commercial purposes. ITC cannot be claimed for the personal use of goods and services.
- ITC is eligible for selling taxable goods and services.ITC does not apply to exempted supplies.
How to Calculate Common Credit?
The methodology for dividing ITC on inputs and input services and reversing the ineligible credit is specified in Rule 42 of CGST Rules.
To calculate common credit, let’s consider the following example:
- Total Input Tax available in the tax period (T) – Rs 2,00,000
- Input Tax for inputs exclusively for personal purpose (T1) – Rs 6,000
- Input Tax for inputs exclusively for agricultural activity (purchasing seeds, soil, labour charges) (T2) – Rs 30,000
- Input Tax for inputs and services on which availing credit is not eligible (T3) – Rs 10,000
- Input Tax for inputs (transporting charges) for taxable items (T4) – Rs 20,000
- Value of taxable items sold in Riya’s shop – 6,00,000
- Value of vegetables sold (Agricultural activity) – 3,00,000
Riya’s total input tax will be distributed in four parts:
- Personal supplies- T1
- Exempted supplies- T2
- Non-eligible ITC- T3
- Normal Taxable sales- T4
First, let’s calculate the total eligible ITC
Using the formula C1 = Total ITC – (ITC for personal supplies + Non-eligible ITC)
C1 = T – (T1+T2+T3)
C1 = 2,00,00 – ( 6,000 + 30,000 + 10,000)
= Rs 1,54,000
The whole eligible credit is calculated in this phase to determine the available credit. This is obtained by eliminating all ITC from personal, exempt, and non-eligible inputs. This sum will be added to the digital ledger. In the GSTR-2, you must reverse the common ITC for personal supplies, exempt goods, and ineligible supplies.
The next step is to calculate ITC pertaining to personal and exempt supplies.
Common Credit (C2) = ITC credited to the e-ledger (C1) – ITC for taxable supplies (T4)
C2 = C1- T4
= 1,54,000 – 20,000
= Rs 1,34,000
This demonstrates how taxable, personal, and exempt supplies must distribute the common credit. It can be the shop’s rent in our scenario. The shop’s GST portion will be reversed. There will be three sections to this Common Credit: Partly personal, partly exempted, and Normal portion.
- Partly exempted
The following formula is used to determine the fraction of ITC related to exempted supplies:
D1 = (Exempted turnover divided by Total turnover) x Common Credit
= (3,00,000/ 6,00,000) x 1,34,000
= Rs 67,000
The formula uses the proportional technique to determine the amount. Vegetable-related ITC in the amount of Rs 67,000 is assumed to apply to exempt supplies and must be reversed in GSTR-2.
- Partly personal
Many regular costs, like rent, power, and water bills, are incurred for personal and professional reasons. Using this formula, you can separate the credit amount for personal use.
D2 = 5% of Common Credit.
As a result, D2 = 5 % of 1,34,000 = Rs 6,700
In order to compute the amount, the formula assumes that 5% of the inputs are used for personal gain. It is required to reverse the amount of Rs. 6,700 in GSTR-2 as it is considered ITC for personal supplies.
- Normal Portion
The amount of common credit related to the taxable supplies is then calculated (such as the rent portion for the shop).
Common Credit (C3) = C2 – [ITC on exempt materials (D1) + ITC portion for personal supplies (D2)]
= 67,000 + 6,700 = Rs. 73,700
This represents the widespread credit owed to regular supplies.
Finally, in the third step, we need to calculate the total ITC one can claim.
Total eligible ITC for the month = ITC for normal supplies + Common credit for normal supplies
Thus,
Total eligible ITC for the month = 20,000 + 73,700 = Rs 93,700
How Does Calculating ITC Impact your Annual Return?
It is necessary to calculate the total ITC for the year according to the annual return, as shown in the GSTR-2 format. If the total ITC claimed during the year exceeds the ITC of the annual return, there will either be a refund or interest, depending on the circumstances. The exact computations must be performed for the entire fiscal year before the end of the annual return filing deadline.
Let’s assume that the computations above are different from the total eligible credit in the following ways:
In the first instance, ITC, as claimed on the annual return for 2017–18, is more than the actual amount.
The total credit available at the year-end is 1,00,000. In this case, a credit of (1,00,000 – 93,700) = Rs 6,300 may be claimed for any month prior to September 2018.
In another instance, The ITC claimed that the 2017–18 annual return is lower than the actual amount.
The total allowable credit at the year’s end is 50,000. Here, the output tax liability will be increased by (93,700 – 50,000) = Rs 43,700, and interest at an 18% rate will be due from April 1, 2018, until the date of actual payment.
The calculations above show that to avoid interest and other recovery mechanisms, the ITC Rules for Common Credit under GST were intended to be carefully adhered to.
Conclusion
To sum up, ITC can only be claimed for the tax amount paid on goods and services used for business purposes, not for personal use. Where goods are being used for business as well as personal purposes, common credit needs to be calculated, and ITC can only be availed on goods and services to the extent that they are actually being used for business purposes.
As you have noticed, claiming the correct ITC can be a tricky process, requiring meticulous record keeping and adapting to changing GST laws. Consider using a powerful GST Accounting Software to ease the burden of GST compliance for your business.
