Matching of invoice under GST is a brilliant move to check fraud and drive more businesses to the formal economy, but by taking it one step further and linking tax payment by a supplier, to the availability of Input Credit to the buyer, the beauty of the system completely breaks down.

To understand this, it is very important to know what input credit will do. One of the fundamental features of GST is seamless flow of input credit across the chain (from the manufacture of goods till it is consumed) and across the country.

In this section, let’s discuss about various conditions laid down by law to avail input credit on supply of goods or services.

All of the following conditions need to be satisfied to avail Input credit:

- The dealer should be in possession of Tax Invoice / Debit or Credit Note / Supplementary Invoice issued by a supplier registered under GST Act.
- The said goods/services have been received.
- Returns (Form GSTR-3) have been filed.
- The tax charged has been paid to the government by the supplier.

What do these conditions imply?
Once Form GSTR-1 (Outward supply details) is filed by the supplier, recipient has a visibility of the purchase through the auto populated Form GSTR-2A (Inward supplies details). After necessary modification, additions (if any) and acceptance in Form GSTR 2, the Input credit will be credited to the recipient’s electronic credit ledger on a provisional basis.

The addition and modification done by the recipient in Form GSTR-2 will be made available to supplier in Form GSTR- 1A for his acceptance.

Input credit will be available only when the Monthly returns (Form GSTR-3) are filed by the supplier along with payment tax. The final acceptance of Input Tax credit will be communicated in Form GST MIS-1.

Let us understand this with an example:
Super Cars Ltd, a manufacturer of cars purchased 30 tons of steel from Ratna Steels. Ratna Steels supplied steel and issued tax invoice on 5th July with GST of 2, 40,000.

With this example, let us examine the process to understand the flow of availing input credit:

1. On 5th July, Super Cars Ltd satisfy the condition of Receiving Goods and Tax Invoice.
2. On 10th August, Ratna Steels furnishes outward supply through Form GSTR-1 Return.
3. From 11th August, Super Cars Ltd has visibility of their purchase through auto-populated Form GSTR-2A.
4. From 11th to 15th August, Super Cars Ltd can make additions or modifications, if any. In this example, it is assumed that there are no additions or modifications and super Cars Ltd. submits the Form GSTR-2.
5. Now, ITCBSE -0.85 % of Rs. 2,40,000 is credited to Super Cars Ltd on a provisional basis.
6. Once the Form GSTR-3 (Monthly Return) along with tax payment is remitted by Ratna Steels, Super Cars Ltd is eligible for ITC of Rs. 2,40,000.
7. The final acceptance of ITC will be communicated in Form GST MIS-1.

Note
GSTR-1: Furnish all outward supply details on or before 10th of Subsequent month.
GSTR-2A: This Auto populated by System on 11th of subsequent month. This includes all inward supplies details.
GSTR-3: Monthly Return auto populated by system on 20thof subsequent month

The issue
The highlighted clause above is a major pitfall in the law. It has to do with the linkage of tax payment by a supplier, to the availability of Input Credit to the buyer - and not just the availability of a ’matched genuine invoice’.

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The origin of this provision lies in the history of tax avoidance through false representations by a tiny fraction of businesses, and the fact that it was not feasible for the Government to systematically detect this and contain the problem. With the framing of this law, the Government hopes that the market will self-weed out the bad eggs - which is not wrong.

What is wrong is not understanding the cascading consequences of doing this in practice - and the issues it will create. While the effort for driving compliance will reduce, the consequential effect of businesses shutting down, and therefore collections going down, have not been treated seriously enough.

The reasoning of the Government also is: people are today colluding (albeit in small percentages) to fraudulently take input credit when it is not due. Therefore, it is only fair to put this risk back on the citizen. It also reasons that because this is a small percentage, which will keep declining due to self-correction by citizens, it is not a ’great burden’ - that is, the ’business risk’ is small enough to be manageable.

The problem is not the ’management of a manifest risk’ - the problem is the side-effects of cash flow, improper accounting, and reduced ability for people to trade with new suppliers and new customers - since there is uncertainty about the business outcome.

Under normal business circumstances, a transaction gets ’completed’ when the goods/services are delivered, invoices received, and the payments made against them.

An Indirect Tax regime requires the Supplier to act as an ’Agent’ of the Government to charge the tax on the invoice, collect it, and remit it. In a Value Added Tax regime (like GST), the Buyer avails the Input Credit of the Tax thus paid on the invoice - which has been paid to the supplier in good faith, and as per the directions of law.

To prevent fraudulent claims, either of non-existent invoices, or for amounts which are not as per the original invoice, the concept of Invoice Matching has been proposed in the law. Not only will this almost completely eliminate fraud, but also act as an impetus to drive more taxpayers into the tax net. It is clearly a brilliant move!

However, by the additional linkage of payment the beauty of the system breaks down. No longer can a business assume that the transaction is ’over’ - and has to wait until 10 days after the return cycle (which is, 30th of the following month), to know whether they will be eligible to receive the Input Credit for the Tax they have paid.

Several market behaviours will emerge. Some will refuse to pay the Supplier until the 30th of the following month, leading to abnormal increase in working capital needs. Some will refuse to pay the tax portion - leading to multi-step transactions and increase in both working capital needs as well as cost of doing business. Some will be asked for Bank Guarantees to cover the possible risks - and most SMEs will have no simple way to respond to such a demand.

What this means for a small business?
Small Businesses typically suffer unevenness of cash flow. Even a simple one-week delay in receiving money for goods sold, throws their routine out of gear. A promising auction or offer for materials which would give them higher profitability, and they have to readjust their cash cycles for a few weeks to take advantage of it. A marriage in an employee’s family? Their desire to help out comes at a cost of their cash flow management.

While the business will have no desire to cheat the Government out of its tax, it may still have difficulties in always meeting the compliance on time. And every such difficulty will expose its vulnerability to its buyers, who may opt to change their supplier and reduce their own risk.

A related provision is that the Government intends to make public a ’Compliance Rating’ - so you will know before you buy, whether your supplier has a ’good or poor’ rating. The objective being, that since your input tax credit is dependent on this ’quality’ of the supplier, you will try to avoid buying from people with ’poor’ rating - which means, that people will do everything they can to avoid a poor rating. And the rating becomes ’poor’ not just because you delay filing your data, but because you may have delays in your payment.

In essence, when you take these provisions together, any difficulty a Small Business may have faced, will now have ’visible and public’ knowledge and corresponding snowball impact. So, the moment you face a problem, the problem magnifies the next month since your buyers will ’play it safe’ and buy from others (the fact that the market is now a ’more open market’ is a boon here). This will simply increase the problem, leading to further payment delays and/or further reduction of rating, losing even more customers.

This will slowly, but with certainty, drive almost every Small Business to eventual closure. This is not the intent of the Government, it is simply an unexpected consequence of a good intent. It is also correctible, provided the causes, and the consequences, are appreciated.

Solution
One of the greatest benefits of GST is that it is built ground-up as a technology-enabled-tax-system.

In the past, it was not feasible for the Government to systematically mitigate the risk of fraud, since there was no practical human ability to keep track of and trace the culprits - who could/would repeatedly create phantom organizations, and/or phantom invoices. Against this history, it is no wonder that the Government wants to control this menace.

However, GST gives extraordinary traceability. With Invoice Matching, all false bills disappear, and all wrong claims. Yes, the problem of false companies continue to remain - but with PAN linkage, Bank Account linkage, the traceability and discoverability is so high, that it will be close to impossible for people to commit fraud and remain undetected.

An amendment to the proposed law to the effect of de-linking payment with Input tax credit availability and connecting it to invoice upload and matching will make the desired law come alive and make it effective and useful for all.

 13 May 2017, 01:28 PM