Input Service Distributor (ISD)
Input Service Distribution and Cross charge owes its existence to the concept of “Distinct Person”. It is pertinent to note that concept of ISD is relevant only for entities having multistate operations and commonly used input services are ordered and invoiced at one location. ISD concept had limited applicability in the erstwhile Service Tax era whereas, concept of ISD in GST is much wider, hence it will be appropriate to first understand meaning of the term of ISD in the context of GST.
Meaning
As per section 2(61) of the CGST Act, “Input Service Distributor” should fulfill the following cumulative conditions:
- It is an office of the supplier of goods or services or both. Such office should also be separately registered in GST in addition to normal GST Registration.
- It receives tax invoices issued under section 31 towards the receipt of input services. Credits involved in invoices for Inputs and Capital Goods cannot be distributed through ISD Mechanism.
- It issues a prescribed document (ISD Invoice/ISD Debit Note/ISD Credit Note) for the purposes of distributing / reducing the credit of GST paid on Input services.
- It transfers credits only to other units/establishment having the same Permanent Account Number (PAN) as that of ISD Office by fulfilling all laid down conditions.
In simple terms, ISD can be viewed as accumulator and transferring mechanism of ITC on input services.
Practical example of ISD
PQR Ltd is situated in Mumbai (HO) in addition to its presence in 10(ten) different states of India. Statutory Auditor of PQR Ltd is also located at Mumbai and as per terms of engagement, will raise only one single invoice towards statutory audit fees (commonly used input services) on Mumbai HO of PQR Ltd. In this case ideally PQR Ltd should obtain separate ISD registration and insist on raising of such auditing services invoice only on ISD registration.
Precautions to be taken by ISD while distributing ITC credit on Input Services
- ISD shall issue a document (ISD Invoice) in accordance with Rule 54 of CGST Rules to the recipient branch indicating that it is issued only for distribution of ITC
- The amount of the credit distributed shall not exceed the amount of credit available for distribution.
- If the ISD credit is attributable to only a particular recipient, then the same shall be distributed only to that recipient. e.g. if Chartered Accountant services are availed for filing GST return of a particular branch then ISD unit should ensure that credit is transferred only to that specific branch/recipient.
- If the IDS credit is attributable to more than one recipients, then the same shall be distributed on pro rata basis of the turnover in the relevant periodin a state or union territory to the aggregate of the total turnover of all the recipients to whom the ITC is attributable. e.g. Stock audits of 8(eight) states out of 10(ten) states are carried out by one common auditor and one single invoice is raised on ISD unit for such services. In such a situation credit involved should be transferred on the basis of ratio of total turnover of each recipient to total turnover of all 8(eight) recipients.
- If the credit is attributable to all the recipients, then same shall be distributed amongst such recipients and such distribution shall be pro rata on the basis of the turnover in a State or Union territory of such recipient, during the relevant period, to the aggregate of the turnover of all recipients which are operational in the current year, during the said relevant period. E.g. Company has spent huge amount on general advertisement, ITC involved on such advertisement shall be distributed amongst all the recipients in the ratio of their turnover to total turnover of organization.
Meaning of Relevant period
As per Explanation provided in Section. 20 of the CGST Act, Relevant period means:
- 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
- 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;
Example of Relevant period
(i) Assume a case, ISD credit of May 2021 is to be distributed amongst 8(eight) branches and if all these branches were having turnover in FY 2020-2021 then FY 2020-2021 will be considered as relevant period. To put it differently turnover of FY 2020-2021 will be considered as base for working out ratio for distribution of credit.
(ii) Assume a case, ISD credit of August 21 is to be distributed amongst 8(eight) branches and some of these branches were not having turnover in FY 2020-2021 (may be because few branches were not in existence in the FY 2020-2021 or for some other reason) but during Quarter ended June 2021 all branches were having turnover, then turnover of April 21 to June 21 will be considered as base for working out ratio for distribution of credit. Law maker’s intention seems to have more equitable distribution of credit to avoid any loss to any state/union territory, however this noble intention had led to practical challenges in working out ratios.
Meaning of Turnover
Taxable as well as exempted supply turnover of all the units whether registered or unregistered excluding taxes will form part of turnover.
Manner of Distribution of Credit
As CGST/SGST credit of a state is not fungible with CGST/ SGST credit of another state, special manner is prescribed for distribution of credit, which can be explained as under:
| Type of credit available with ISD | If ISD and Recipient are located in same state, credit to be distributed as | If ISD and Recipient are located in different state, credit to be distributed as |
|---|---|---|
| Central Tax | Central Tax | Integrated Tax |
| State/UT Tax | State/UT Tax | Integrated Tax |
| Integrated Tax | Integrated Tax | Integrated Tax |
It is also important to note that ISD unit has to distribute both eligible and ineligible credits [Refer Section 17(5) of the CGST Act] to recipients in the same tax period in which the inward supplies have been received. Recipient unit then shall bifurcate ISD credits into eligible as well as ineligible.
Distribution Formula
Rule 39 provides following formula to arrive at value of credit to be distributed.
C1 = (t1/T) * C
Where,
“C” is the amount of credit to be distributed
“R1” is one of the recipients, whether registered or not, from amongst the total of all the recipients to whom input tax credit is attributable, including the recipient(s) who are engaged in making exempt supply, or are otherwise not registered for any reason
“t1” is the turnover of R1 during the relevant period, and
“T” is the aggregate of the turnover, during the relevant period, of all recipients to whom the input service is attributable.
e.g., Total CGST Credit to be distributed by ISD unit during March 2021 (C) = INR 10 Lakhs
R1 is say Maharashtra branch
Turnover of Maharashtra branch during 1920 (t1) = 5 Crore
Total Turnover of all the branches during 1920 (T) = 50 Crore
CGST credit to be distributed by way of ISD mechanism to Maharashtra branch (C1)
= (5Crore /50 Crore)* 10 Lakhs
= Rs 1 Lakh
Separate working on above line is to be made for each type of tax viz CGST, SGST, UTGST and IGST and that too for each eligible recipient.
ISD Debit / Credit Note
Let’s take another example, common advertisement expenses were incurred by organization and invoice was raised by the supplier on ISD unit . This credit was already distributed amongst eligible recipients in the manner prescribed and corresponding credits were also availed by them. In terms of agreement vendor has subsequently issued credit note on ISD unit offering say 10% year end discount on Invoices already raised, along with GST. Since ISD credits are already transferred to eligible recipients, now question arises, how the ISD unit can show such ITC reduction in its return and how respective recipients will reverse their credits in compliance with Section 15(3) of CGST Act.
To take care of such situation, GST Law provides that if any credit is reduced by supplier to ISD unit by issuance of a credit note, such reduction in credit shall be apportioned to each recipient in the same ratio in which the ITC contained in the original invoice was distributed. Further, in case where due to reduction of credit, credit with the respective unit become negative, the amount shall be added to the output liability of recipient.
Summary of Other relevant points
Following points merits consideration in ISD compliance:
- CGST, SGST, IGST, UTGST credit shall be distributed separately by ISD units.
- Tax credit of a particular month should be distributed in same month only.
- The details of the ISD invoices/debit note/ credit note raised by ISD unit should be furnished in GSTR-6
- Invoices disclosed in GSTR-6 will auto reflect in GSTR-2A of respective recipients.
- ISD shall file monthly return on or before 13th day of following month.
- ISD credit can be distributed only to operational units having Same PAN.
- Taxpayer can have more than one ISD registration.
- As per instructions appended below GSTR-6, ISD will not have any reverse charge supplies. If ISD wants to avail any supply which is subject to reverse charge, then ISD has to separately register as Normal taxpayer.
- ISD is not required to comply with yearend compliances like Annual Return etc.
- If ISD credit is distributed in contravention of provisions of Act resulting in excess distribution of credit, it will be recovered from the recipients with interest and penalty.
- Generally, ISD will not be required to pay any Tax and only cash payment could be in the form of interest and late fees payment.
Cross charge in GST
The term ‘Cross Charge’ has not been defined under the GST Law. Under the erstwhile VAT/CST/Excise law there was a concept of Interstate branch transfer (stock transfer) of goods.
The erstwhile Service Tax law had the concept of Centralized Registration, with a option of separate registration qua each place of business. If a taxpayer has opted for centralized registration, then there was no need to cross charge for the services provided or deemed to be provided between different registration, However, in case of separate state wise registration cross charge was applicable.
The Advance Ruling of Columbia Asia Hospitals Private Limited (2018-VIL-126-AAR affirmed in 2018-VIL-30-AAAR), has sensitized taxpayer and professional community about the importance and evils of cross charge. Pos this ruling entity with multi state operations are likely to face may compliance challenges for inter state supplies. Reader would also recall that Schedule I to CGST Act deems “Supply of goods or services or both between related persons or between distinct persons as specified in section 25, when made in the course or furtherance of business “ as supply.
To take an example, a company is having common HR department at mumbai rendering services to its head office as well as inter-state branches. This HR department is functioning from the rented premises. Various credits are availed say on renting and all other expenses incurred in running and maintaining HR department. Such common credits is first accumulated and availed by HO and subsequently cross charged to all other applicable interstate branches so as to ensure fair and equitable distribution of credits amongst all inter-state branches and also comply with schedule I of CGST Act.
Valuation for Cross Charge
Rule 28 of the CGST Rules lays down the valuation mechanism for cross charge. Further second proviso to Rule 28 prescribes that where the recipient is eligible for full input tax credit, the value declared in the invoice shall be deemed to be open market value of the goods or services. However, there are various situations when recipient may not be eligible for full credits. In such a situation GST law prescribes following alternate options for valuation.
- Work out open market value,
- Work out cost of services of like kind and quality and add 10% to arrive at value (Cost + 10%)
- Where the value cannot be determined by either of the above methods then the value to be determined using reasonable means consistent with the principles and the general provisions of valuation under GST law.
Getting open market value of such support services is a daunting task and therefore, cost plus method looks more appropriate in such a situation. Presently whether salary cost forms part of cross charge is a biggest controversy and practical call to be taken in this matter based on facts and circumstances of each case. Reader’s may take note that in the ruling of Columbia Asia(supra), it was observed that as the valuation includes all costs, the employee cost also needs to be taken into consideration at the time of valuation.
Comparison between Cross charge and ISD
It should be noted that Cross Charge and ISD are two different concepts having different purpose and utility. The following table lists down major differences between these two commonly terms:
| Points for comparison | ISD | Cross charge |
|---|---|---|
| Purpose | To transfer credits involved in respect of commonly used input services e.g. audit fees and consultancy fees etc. | To account for and charge GST on the supply made between 2(two) distinct persons. E.g. Activities performed by Corporate office say in respect of IT system maintenance. |
| Separate Registration | Mandatory | No separate registration is required |
| Element of services | Service is provided by Third party to ISD. There is no direct element of service from ISD unit to eligible recipients | There is a visible element of service rendered by the unit who cross charge to other units being cross charged |
| Separate Invoice | Separate ISD Invoice/debit note/credit note is required for transfer or credit | Separate invoice /debit note / credit note as “Business Support Service” to be raised by the person who cross charge |
| Suitable for | ISD is a mechanism to transfer credits only for Input Services. ISD mechanism is not permitted to transfer credit involved in Inputs services | Suitable when one distinct person is providing output services to another distinct person |
Whether ISD registration is optional or compulsory?
This Interesting issue came up for ruling before Advance Ruling Authority of Maharashtra in the case of Cummins India Ltd. reported in [2019] 103 taxmann.com 126 (AAR – MAHARASHTRA), authority ruled that to distribute common ITC, applicant must compulsorily obtain separate registration as an ISD in terms of section 24(viii) of the CGST Act.
In another contradictory advance ruling of Tata SIA Airlines Limited, [2021-VIL-49-AAR], authorities held that credit pertaining to common input services shall be the distributed by way of ISD mechanism and credit pertaining to goods(including capital goods) shall be distributed by way of cross charge.
In the opinion of the author views pronounced by Advance Ruling Authorities needs a re-consideration and there is significant force in the argument that ISD mechanism is optional. Readers would recall stand taken by CBIC in “FAQ on Banking, Insurance and Stock-broker sector”. CBIC seems to have expressed different view on this matter. For the benefit of reader relevant question and its answer as replied by CBIC is re produced as under
“Q 17: Would Input Tax Credit (ITC) be available to a GST registrant though the services procured from third party vendor are also directly used by various ‘distinct persons’? In such cases, is distribution of ITC required to be done mandatorily through Input Service Distributor mechanism?
Answer: Yes. Input Tax Credit (ITC) can be availed by a GST registrant in respect of the services procured in a consolidated manner from third party vendor which are directly used in the course or furtherance of business in more than one State, e.g. statutory audit fees, advertisement and marketing expenses, consultancy fees, etc. The same needs to be appropriately invoiced or distributed through the ISD mechanism to the “distinct persons” who have actually used such services.“
From above FAQ it appears that common credits can be either distributed through ISD mechanism or alternatively it can be cross charged by way of raising invoice on distinct person. Though the said FAQ has no legal validity in the eyes of law, it does provide an insight into the acceptable practices prevailing in banking and finance industry. In the opinion of the paper writers, ISD as well as cross charge should be seen as enabling tools to comply with concept of supply to distinct person. Reference can also be drawn from the fact that draft circular on ‘Taxability of services provided by an office of an organization in one state to the office of that organization in another state, both being distinct persons’, was one of the agenda items on 35th GST Council Meeting held on June 21, 2019. Till that said draft circular has not seen light of the day.
Way forward
The concept of ISD and cross charge. are some of the vexatious issues of GST. Looking at the current situation, it is necessary that the government should issue an appropriate clarification to avoid unnecessary litigation. Till that happens, taxpayer should take well informed call on the issue considering their appetite for dispute and ease of doing business.
