Cenvat Credit has been an age old
concept prevalent in the Indian Indirect Tax regime. As the name suggest, it
simply means credit of indirect taxes such as Excise Duty and Service Tax paid
at the time of procurement of ‘inputs’ be allowed (as set off) against the
taxes payable on output goods and / or services. The underlying premise of Indirect
Taxes has been that in a value chain, tax is levied only on the component of value
addition made by the respective producer / service provider. This concept is
also found even in the State VAT laws where the Seller is allowed to set off
the VAT paid at the time of procurement, with the VAT it is liable to pay at
the time of sale of goods to its buyer.
To take an example, if a (manufacturing
or service provider) firm procure raw materials / services worth INR 100 and
pays Excise Duty and / or Service tax thereon at INR 20 (thereby, paying a
total of INR 120) to the seller. After making the respective value-addition,
such firm would sell the same product/services at INR 150 and charging Excise
Duty and / or Service tax thereon at INR 40. On the Rs. 40 which the firm has
collected from its Buyer on sale, it claim set-off of INR 20 paid by it at the
time of its own procurement and thereby, just pay INR 20 to the Government
Authorities in prescribed manner. Not INR 40 this time. The same series of
events qua taxes would follow with
the next leg of transaction involving our firm as seller and its respective
buyer and so on. Lets always keep in perspective the underlying nature of
Indirect Taxes – the burden is passed to the buyer.
As we can see in our example, as
the value addition happens at different stages in the value chain of goods /
services, the respective sellers and buyer in their different capacities pays
taxes (on inputs at the time of procurement through seller and later as
recovery of taxes on the value addition made by them upon sale of their output goods
/ services). For governing the set-off of taxes paid on inputs against the
taxes levied on output goods / services, the prescribed regulation in Indian
Central Laws is Cenvat Credit Rules, 2004.
The concept despite being old,
has evolved over the years and the Lawmakers have tried to make the concept
progressive with the changing times. In the good old days, credit of service
tax paid on input services was allowed only for payment of service tax on
output services, similarly, excise duty paid on inputs and capital goods was
allowed only for payment of excise duty on final products. From 2004-05
onwards, major step has been taken integrating tax on goods and services and
both manufacturer of goods and provider of output services under excise and
service tax are allowed to take credit of excise duty and service tax across
goods and services. The current talk on Goods and Service Tax or GST is another
step in the direction of providing credit for all the taxes that are still left
out from credit mechanism in the current regime. But what is the legislation on
the concept? Let’s see:
The regulation simply state that
a manufacturer / producer of (any) final product or a provider of an output
services is eligible to claim credit of: (a) Excise Duty including additional
excise; (b) Service tax, and education cess thereon which is paid on: (i) Input
and/or Capital Goods received in factory of manufacturer or Output Service
Provider; and (ii) Input Services received by manufacturer or output service
provider.
An ‘Input’ is defined to mean all
goods used in factory by manufacturer or goods used for providing any output
service. It also include specified accessories etc and goods used in steam
generation, however, it excludes items such as (i) Petrol; (ii) goods used for
construction / execution of works contract; (iii) motor vehicles; (iv) food
consumed by employees and others including the goods having no relation
whatsoever with the manufacture of final output / product. Likewise, ‘Input
Services’ would mean any service: (I) used by output service provider for
providing output service; (II) used by manufacturer directly or indirectly in
or in relation to the manufacture of final product and its clearance upto place
of removal. It includes services such as advertisement, auditing, credit
rating, recruitment and quality control, mobile phones, sales commission etc
but exclude service portion in work contracts, renting of cars services, club
membership of employees and others. Similarly, ‘Capital Goods’ would mean: a)
goods falling in prescribed chapters (82, 84, 85 and others of 1st
schedule of Excise Tariff Act); b) pollution control equipment, c) storage
tanks, d) Moduls, Jigs etc which are used in factory of manufacturer (but not
in office) or for providing output service. It also include Motor Vehicles used
by courier agency, firms providing rent a cab facility and other prescribed.
Cenvat credit may be utilized for
payment of service tax on any output service but only to the extent it is
available on last day of the month / quarter. Balance if left unutilized, can
be carried forward to future years. In case of mergers etc., the balance can be
transferred. Credit of tax / duty can be claimed only against tax / duty,
similarly, credit of education and higher education cess can be claimed against
such pay-outs. In case of capital goods received in the premises of output
service provider, 50% of duty paid on such goods can be allowed as credit in
the same year, balance can be taken in any subsequent year. Credit shall not be
allowed on that part of capital goods in respect of which output service
provider claim depreciation u/s 32 of the Income-tax Act, 1961.
Cenvat credit shall be taken by
the output service provider on the basis of invoices, supplementary invoices,
bill of entry or any other prescribed document. The records must be kept for 6
to 7 years. The outer limit of taking credit currently is one year of date of
receipt of invoice or date of payment of service tax in cases of reverse
charge. Thus, ensure that vendor invoices are received well in time and booked
in the accounting system in a regular way.
Credit is allowed on inputs when
it is used in the output goods and/or services which are taxable. If inputs are
procured to produce exempt goods and/or services, no credit of taxes shall be
allowed and such respective portion of total accumulated credit would have to
be reversed. Thus, separate accounts would have to be maintained for exempt and
taxable items. If separate accounts are not kept, then taxpayer would have to
pay tax at 7% of the value of exempt services or reverse from total, credit
entitlement in the ratio of exempt and total turnover as per last year, intimating
the authorities.
Refund of Cenvat Credit is
allowed on export and to units set up in specified areas. There is also a
concept of Input Service distributor as per Rule 2(m) dealing with the manner
in which an office of a manufacturer or output service provider receive
invoices and thereafter issues bills, invoices etc for distribution of such
credit – typically in cases wherein Head Office receive bills for services used
in factory etc.
An idea of ‘Revenue neutrality’
as upheld by Hon’ble Courts in several Courts also come into play in the
Indirect taxes disputes. Where the Tax Authorities alleges levy of any
particular taxes upon discharge of which Cenvat credit is available to the
taxpayer, it would automatically allow credit to taxpayer and sometimes lead to
revenue neutral position for the Authorities.
In view of the very nature of the
concept, the manner in which the respective tax laws are written and
administered by the Authorities, lack of clarity on several areas, different
views taken by Judicial Authorities, this is highly prone to litigation. As we
have seen, the concept of Cenvat Credit has a beautiful underlying rationale,
it involve compliances and has its own set of (often complicated) procedures
and disputes. However, it is a reality in today’s business world and calls for
a proactive and skilful handling of the subject. Thus there is a need to have a
robust accounting system in place which can properly account for and track the
necessary numbers and records such as invoices, knowledgeable people placed in
the maker-checker mechanism of the entire system and above all, a culture of discipline
and regular reviews to ensure that it turns out to be a success story.
