Introduction to GST Transactions
Input Tax Credit (ITC) as a concept is complex to understand even theoretically. To simplify this process, and create a seamless flow of ITC for business owners, a single indirect tax reform Goods and Services Tax (GST) was implemented in 2017. This new reform came forward as a replacement to many existing central and state levied indirect taxes. It is applicable to all transactions involving the supply of goods and services within the borders of India. There are two major types of GST transactions, ie., interstate and intrastate transactions. For all GST registered business owners, it’s essential to understand the nitty gritties of the GST transactions. Especially when they are subjected to multiple GST registrations. In this blog, we’re set out to help such users understand the key differences between cross charging in GST and Input Service Distribution (ISD) under GST law.
Understanding Cross Charging
GST Cross Charging happens when the same business having more than two business units makes a supply to one of its units. In these situations, even though they units ideally belong to the same business, they are treated as two different entities because of their different registrations. This treatment is majorly applicable when distributing Input tax Credit between different branches of a company.
Here are a few things to note about cross charging in GST transactions:
- The Indian GST tax regime does not provide a specific definition for cross charging;
- Movement of goods or services between two units of same business are “deemed as supply”, ie., considered as GST applicable transactions;
- Is an essential concept for owners with multiple GST registrations; and
- Allows the supplying business unit to recover the costs, even after treatment as separate entities.
Insight into Input Service Distribution
Input Service Distribution (ISD) in GST transactions is a mechanism that allows businesses to distribute the benefit of input tax credit on all input services received by one business unit amongst the other units of a same entity. Input tax credit is a benefit for business owners because it reduces the total tax liability.
As per the GST law, all multi-unit businesses having offices in various states need multiple GST registrations. When these different business units receive the same set of services input, it becomes difficult to distribute the ITC. So, input service distribution allows the head office to distribute the proportions of ITC on the basis of contributions by each unit.
Here are the key features of input service distribution in GST:
- You need a separate registration for ISD under section 20 of the Central Goods and Services Tax Act, 2017;
- The input service distribution process allows distribution of ITC between business units through a pre-defined system;
- It’s more useful for businesses having centralised billing systems.
Key Differences Between Cross Charging and Input Service Distribution
By now it’s evident that the concepts of cross charging vs input service distribution seem very alike in nature at a glance. Both these concepts focus on the primary benefit of tax reduction through input tax credit. However, the concepts of cross charge vs. input service distribution work differently in many various ways. Here are the key differences between cross charging and input service distribution in GST.
| Point of Difference | Input Service Distributor (ISD) | Cross Charge |
| Nature of Transaction | Transfer of ITC in input of services in a business from a third party. | GST charged on the transaction of goods or services from one business unit to another. |
| Applicability | On services provided by third person to different units of a business. | On goods and services transferred from one unit to another. |
| Inclusions | ISD includes only services. | Cross Charge is invoked for either goods or services. |
| Definition | Input Service Distributor refers to a specific office conferred with the powers to divide the proportions among various business units having the same PAN. This definition of ISD is provided in Section 2(61) of the CGST Act, 2017. | There is no specific definition in the GST law of India. However, certain provisions of the CGST Act 2017 invoke the concept of cross charge. |
| Registration | To become an ISD, there’s a mandatory registration process. | There’s no registration required for cross charge. |
| ITC Availment Process | It happens through the proportionate distribution formula provided in Section 20 read along with Rule 39. | The process of availing cross charge is through Section 15 of the CGST Act. |
| GST Return Compliance | Is applicable in ISD through GSTR 6 and GSTR 6A. | No GST return compliance is applicable. |
| Essential Feature | It’s only a process for distributing credit for input services | It provides a reimbursement of expenses. |
| Underlying Concept | No actual services are rendered. | Actual goods and services are rendered from one business unit to another. |
| Record Keeping | A special ISD invoice is issued as per the rules, for each distribution of ITC among the branches. | A regular GST invoice is required for all cross charge transactions in GST. |
| Example | Now, if a central office of a company hires a common security system for all branches, it can register as an ISD office and distribute the ITC benefits proportionally to all the branches. This helps in reducing the overall tax liabilities of all the branches. | The central office pays for the Internet Services used by all different branches of a company. This office can now cross charge the branches to pay for their share of the services rendered. |
Application and Scenarios of Cross Charging vs ISD in GST Transactions
Even with the core similarity in both the concepts of ITC distribution, we can see that there are core differences in application and various scenarios where cross charge vs input service distribution is invoked in GST transactions. The difference in application of ISD vs. cross charge lies in the following scenarios:
Scenarios for application of Cross Charge
- Organisations with multiple GST registrations and branches that do not have dedicated cost centres and common expenditure benefits all the different business units;
- Can be applied to various expenditures for goods as well as services made by the central office for all branches.
Scenarios for Application of ISD
- Best applicable to businesses where the central office provides certain services or pays for certain services like HR or legal needs of its other branches. Especially when these branch offices do not have an outward supply of these services.
- It has a very limited application, which involves the services rendered by a third party to the business.
Cross Charge vs. ISD: How to choose the application?
Choosing the right method for ITC distribution between cross charging and ISD depends on two key factors, ie., the type of expense and the business structure. These points below can help you decide which is more suitable for your organisation:
Type of Expense
If the expense is related to goods and services, cross charge is applicable. However, if the expense is only revolving around input services, ISD can be applied.
Business Structure
Cross charge is more suitable for businesses having no cost centres. Whereas, ISD is more suitable where outward supply from various branches does not happen.
Compliance
Considering the existence of outward supply in cross charge, there can be more compliance related complexities in the process of cross charge in GST. Whereas, ISD has a much simpler compliance requirement.
Administrative Burden
Before making a decision on applicability, understand which process will be more suitable for your admin team. For example, if a business has a lot of different branches across the country, it’s easier to register as an ISD and make distribution of ITC beneficial for all the branches.
Benefits and Challenges of Cross Charging
Since taxation in itself is a complex matter, there are pros and cons to each concept brought forward to help the entrepreneurs. So, first let’s take a look at the various benefits and challenges of cross charging in GST transactions:
Benefits of Cross Charing
- The process helps in ensuring that all the different branches that contributed to expenses can claim in the benefit of ITC;
- This process keeps clarity and transparency on what services and goods were utilised by which branch in a year. This eliminates the risks of internal disputes among the branches;
- Ensures that the ITC is distributed in a manner that your organisation stays GST compliant;
- It provides more scope of benefit because it is applicable for both goods and services;
- This process of Cross charging in GST indirectly leads to cost saving for your company;
- It is more beneficial when the nature of transaction is easily identifiable; and
- It can easily align with your regular accounting practices.
Challenges of Cross Charging
- The cross charging process involves issuing invoices, collecting GST and filing relevant returns;
- This method can increase the administrative costs if there are numerous branches of an organisation;
- Determining the fair value of services for distribution of ITC can be tricky;
- Outward supply in GST transactions involving cross charging can lead to increased complexities and more scrutiny from the tax authorities; and
- When receiving services from third parties, this method is not suitable.
Advantages and Limitations of Input Service Distribution
Just like cross charging, ISD also has its set of advantages and limitations. These factors come into play while you’re looking for the right method for your business. So, let’s look at the advantages and limitations of ISD.
Advantages of the Input Service Distributor
- Under the ISD process, you won’t have to issue separate GST invoices and collect the tax on distributed ITC, which reduces compliance burden;
- It gives the ISD office, ie., the central office powers to manage the ITC distribution;
- There’s a set process that helps in ensuring fair distribution through the ISD; and
- Without the involvement of outward supplies from the various units, it is simpler and attracts less scrutiny.
Limitations of Input Service Distributor
- It’s applicability is limited to input services by third party;
- There are additional registration requirements for ISD;
- You need to maintain proper records to justify the ITC distribution by the ISD; and
- You cannot use the ITC received under the Reverse Charge Mechanism, central unit has to utilise that credit.
Best Practices and Strategies for Proper Distribution
To ease up the complexities in the processes involved in both methods, we’re here to help you with some tips and best practices to follow. Here’s what they include:
Best Practices for Cross Charging
- Clearly identity all services and goods provided by the central unit to the other branches to ensure that maximum utilisation of this benefit while adhering to the legal policies and procedures; and
- Remember to keep the open market value of services in the cross charging process.
Strategies for Input Service Distribution Process
- If you have multiple business units across the country with the same PAN, you should highly consider registering as an ISD office;
- It’s important to ensure that the service you’re using is an eligible service for ISD. Considering that employee related services and certain other such services are not eligible; and
- Remember to issue an ISD invoice with all the details of ITC distribution as per the legal process.
Tips common to both methods
- Keeping clear records is important, no matter which method you’re using;
- You’ll have to maintain a proper ITC distribution policy;
- It’s important to distribute the credits within the same month of the central office receiving it;
- Regular reconciliation of all accounts is very crucial; and
- In today’s digitised world, it’s also important to consider using an automation software for managing your cross charging or ISD transactions in GST.
Compliance and Legal Aspects
Even though both of these methods provide efficient solutions for distribution of ITC in businesses with multiple business units, it’s important that you understand the legal aspects involved in both the methods. Let’s see:
Cross Charging
- There are no specific provisions for cross charging. However, many provisions under the CGST Act like Section 29 on the levy of GST and Section 7(1)(c) supply without consideration invoke this concept of cross charge in GST;
- It is important as per the legal aspects of Indian GST laws, that the invoices of goods and services rendered must be on their Open Market Value; and
- During the compliance process of cross charging, you may have to submit proper documentation including the particulars of goods and services rendered, details of recipient branch, value of services, and tax break up.
Input Service Distributor
- Ensure that you undergo the registration process as per the CGST Act to enroll as an ISD;
- Only input services received by the branch offices by a third party are included in the scope of application; and
- The ISD invoice must be issued properly with all the details of ITC distribution and receipt among the various branches.
Common Compliance Tips
Even though the concepts go cross charge vs. ISD, here are a few common tips that can help in complying with the GST laws, irrespective of the method you choose.
- In both the methods, it is vital to keep proper records of ITC distribution, the authorities can take a look at these records if they feel something is fishy;
- Regular reconciliation of statements is a must to get the best benefits and keep a clarity;
- If the authorities have provided any advance rulings for you to function on, it is your duty to adhere to such rulings. This can depend on the nature of your business, location of business, etc.
Impact on Businesses and Industries
Both of these concepts, even after having so many differences, are brought forward to help out large business units with multiple GST registrations to avail the best possible benefits of input tax credit. Especially if you are involved in the manufacturing or retail industries, these concepts of cross charge vs. ISD makes it easier to walk on the tough path of GST compliance.
Conclusion
To conclude, cross charge and input service distribution, both are framed to help businesses allocate their tax credits appropriately and fairly. The key to adhering to this GST compliance is in choosing the best suitable method for you. Today, with all the digitisation around you, you can get all of this done easily by using a GST compliance software like CaptainBiz. Connect for more information.
Also Listen: GST implications for sale on approval basis
FAQs
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Is cross charge in GST mandatory?
Cross charging in GST is mandatory when you have multiple branches of the same business making contributions or expenses for goods or services provided through the central branch.
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What is the difference between ITC and ISD?
ITC refers to a tax credited by the GST department to the businesses that have paid taxes on input. However, ISD refers to a central office of a business entity entitled to distribute the said ITC in a proportionate manner.
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Is ISD registration mandatory?
To avail the benefits of being an ISD, it is mandatory to register your office as an ISD as per the laws.
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How is cross charging helpful?
It is helpful because it provides a reimbursement to various branches for the actual expenses incurred by them.
