PROVISIONS OF INPUT SERVICE DISTRIBUTOR (ISD) MECHANISM IN GST

[RAMESH JENA]

The concept of Input Service Distributor (ISD) provisions was borrowed from the Service Tax regime and incorporated in the GST laws. Hence, the ISD provision is not new but creates confusion since implementation of GST. The very objective of Input Service Distributor (ISD) mechanism is to facilitate as an input service distributor exits to allow businesses to operate at their convenience and allow centralized procurement of goods or services or both.    

An ISD mechanism facilitates the seamless distribution of ITC where services are procured by the Head office but consumed at various branch offices across the country. There are two ways of mechanism of ITC distribution through ISD and Cross charge. In cross charge goods or services is transferred or supply by HO to Branches to another place (not involving a third party transaction). In case of Input Service Distributor (ISD), where the services are provided by a third party and ISD refers to only services.

Input Service Distributor (ISD) : The existing Section of 2 (61) of the CGST Act, 2017 defines “Input Service Distributor” means an office of the supplier of goods or services or both which receives tax invoices issued under Section 31 towards the receipt of input services and issue 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(PAN) as that of the said office.                                                                                                                                         

Therefore, the existing definition of ISD is an entity of supplier of goods or services or both that acts as a centralized point of distribution of Input Tax Credit (ITC) among various branches of business across the country. The Head office has multiple branches with separate GST registration having the same PAN as provided under Section 25(4) of the CGST Act, 2017 and all such business entities treated as ‘distinct persons’. The ISD entity follow the procedure of received invoices for input services used by different branches and by consolidating the ITC available then allocate the recipient branches by adopting the formula prescribed under Section 20(2) (d)(e) of the CGST Act read with Rules 39(1)(b)(c)(d) of the CGST Rules.

However, the Head office received common services namely security services, courier services, IT services, accounting, legal, human resources and more but existing provisions ISD mechanism does not cover the prescribed formula for transfer of credit on those common input services on which GST has been deposited under RCM. The ISD mechanism provision is not mandatory to distribute the common credit using the ISD methodology.

 Provisions of “Cross charge” mechanism: GST law does not define ‘cross charge’ and no provisions provides relating to the levy of GST as ‘cross charge’, which refers to the supply of goods or services between distinct persons or related persons located in different states having separate GST registrations under the same PAN. The supply between such ‘distinct persons’, even without consideration, is deemed as supply between such distinct person and accordingly GST is payable on the same in terms of entry 2 of Schedule I (Section 7 of the CGST Act).

Under the above circumstances, the business organisation has been following the both method for distribution of common credit either through ISD mechanism or through cross charge mechanism by issuance of a Tax invoice raised in the favour of the respective branches whom such credit is distributed. Consequently, litigations were going on over the distribution of ITC and show cause notices were issued. Hence, it is a big question as to “whether to follow method of ISD mechanism or as cross charge mechanism?

C.B.I& C, Circular: Consequent to 50th GST Council meeting, wherein it was recommended to clarify the issues through a circular that Input Services Distributor (ISD) mechanism is not mandatory for distribution of input tax credit of common input services procured from third parties to the distinct persons as per the present provisions of GST law, and also to clarify issues regarding taxability of internally generated services provided by one distinct person to another distinct person. The GST Council meeting also proposed the amendment in GST law to make ISD mechanism mandatory prospectively for distribution of input tax credit of such common input services procured from third parties. Subsequently, the Government has issued Circular No.199/11/2023-GST dated 17.07.2023, wherein clarified that Head office has an option either to distribute the common credit under ISD mechanism or by way of cross charge and as per the current provisions, it is not mandatory to follow the ISD mechanism for transferring / distributing the ITC for the past period. The said circular also clarifies that HO can also issue tax invoices under Section 31 of CGST Act to the concerned BOs in respect of common input services procured from a third party by HO but attribute to the said BOs and the BOs can then avail ITC on the same subject to the provisions of section 16 and 17 of CGST Act. In case the HO has followed method of cross charge for distribution of credit of common services to the BOs, the value of such services may be deemed to be declared as NIL by HO to BO, and may be deemed as open market value in terms of second proviso to rule 28 of CGST Rules. In case of internally generated services provided by the HO to BOs, the cost of salary of employees of the HO, is not included while computing in respect of particular services, even in cases where full input credit is not available to the concerned BO. One of the most beneficial of the Circular it’s retrospectively applicable to resolve past litigations and providing relief to the business organisation.

Interim Budget 2024:  The Finance Bill 2024 has proposed to amend the definition of ISD and procedure of distributing common credit using ISD. The proposed definition under Section 2 (61) of the CGST Act is reproduced as under:

“Input Service Distributor” means an 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, and liable to distribute the input tax credit in respect of such invoices in the manner provided in Section 20;”

And substitution of entire Section 20 of the CGST Act is reproduced as under:

Manner of distribution of credit by Input Service Distributor.-  (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.”

The impact of the said proposed amendment ISD registration is mandatory for the distribution of Input Tax Credit (ITC) on invoices procured of common input services received by Head office on behalf of other places of business. The scope of ISD provisions is widened by permitting ISD to distribute ITC of GST paid by a distinct persons registered in the same State under the RCM. The manner of distribution of ITC, corresponding amendments in the rules for procedures for distribution mechanism of ITC and documentation will be prescribed.    

Conclusion: In nutshell, the provision of Input Service Distributor (ISD) or cross charge mechanism is under ambiguity and litigation since implementation of GST.  C.B.I& C Circular dated 17.07.2023 has provided clear guidelines and facilitates compliances for the past period in respect of ISD and cross charge mechanism of ITC distribution to various places BOs by HO on invoices received against procurement of goods or services on behalf of BOs. Further, the Finance Bill 2024 also has brought proposed amendment, it has been further clarified that ISD registration is mandatory for Head office for distributing input service credit to other place of business or BOs. The procedures and the manner of distribution of ITC both for ISD and cross charge mechanism will be prescribed including GST paid by a distinct person under RCM registered in the same State. It is hoped that in light of the proposed amendment in Finance Bill 2024 litigation on account of Input Service Distributor (ISD) vs. cross charge mechanism will be avoided.