Old Stock, New Tax: GST Cuts Are Squeezing Sellers This Festive Season
GST rate cuts cheer consumers, but leave manufacturers and dealers struggling with blocked input tax credits, old inventories, and compliance hurdles.
The Gist
With the onset of Navratri, festive sales are set to surge due to GST cuts, but sellers face challenges.
- GST reductions for FMCG and white goods range from 28% to 18% and 18% to 5%.
- Manufacturers struggle with input tax credits, leading to potential financial strain.
- Experts warn of inventory issues affecting supply chains as consumers delay purchases.
As Navratri celebrations start, Indians are getting ready for a bumper festive sales season with lower sticker prices, due to Goods and Services Tax (GST) cuts. But the sellers — both dealers and manufacturers alike — have to dry swallow a bitter pill. With a feeble deadline at hand, dealers, distributors, and manufacturers are grappling with input tax credits, compensation cess, and, of course, the old inventory tax rates — in a new regime.
In case of a few fast moving consumer goods (FMCG) products, white goods and more, GST has been cut from 28% to 18% or even 18% to 5%. The gap between the old and the new rates — leaves companies without a mechanism to collect their input tax credit (ITC).
A Case of Blocked Credit
The GST mechanism allows companies to claim input tax credit. “Imagine a manufacturer who buys raw materials worth Rs 100, on which they pay a GST of Rs 18 (18% rate). When they sell the finished product for Rs 200, they are liable to collect GST from the customer, let's say at a new, lower rate of 5%, which amounts to Rs 10. Without ITC, the manufacturer would have to pay the full Rs 10 to the government,” explained Rohit Jain, managing partner at Singhania & Co, a law firm.
With ITC, they could have used the Rs 18 credit from the tax paid on raw materials to offset this liability. Not only would they not have to pay the Rs 10, but they would also have an excess ITC of Rs 8 to carry forward for future tax liabilities.
“In most cases, companies can claim input tax credit on their business procurements unless such credit is blocked by provisions of law. An example of such ‘blocked credits’ are motor vehicles such as cars, insurance expenses, amongst others,” said Siddharth Surana, a chartered accountant.
A few experts also believe that the changes are arbitrary, with little time for them to prepare. “When GST was introduced, a lot of time was given for companies to manage their inventory but this time, which is not the case now. They can manage better with a rollover period of two to three months,” said Krishan Arora, partner of tax planning and optimisation at Grant Thornton Bharat.
The Cess Question
The auto sector is also grappling with the compensation cess question, which remains unanswered. The cess was introduced to account for the revenue shortfall of states on account of GST. However, as the cess accumulated in auto companies’ books will lapse on September 22, which is when the new rates will come into play.
This is disastrous for high-value products like cars. Moreover, due to slow sales for the last few months, many dealers have been accumulating inventory (at old GST rates). Yet, most top companies have rolled out discounts ahead of the festive sales season.
The dealers who are sitting on old tax stock might have to swallow the profit margin or make a deal with the car manufacturers to absorb some of the shock.
“Festive sales are already impacted because after August 15 (date of GST rate rationalisation announcement by PM), a lot of consumers had deferred their purchase plan. Significant automobile inventories have piled up since this announcement coincided with festive demand stocking,” said Maulik Manakiwala, partner of indirect tax at BDO India.
If inventories are not cleared, it will affect the supply chain. So it would only be prudent for sellers to clear old inventories since they are just a quarter away from calendar year closure.
According to S Ramesh, managing director, Price Waterhouse & Co LLP, car leasing companies are in an even bigger soup than car manufacturers. “In the case of leased cars, the cost is recovered over a period of years – say five or ten years. The government has to provide transition guidance on the issue as an abrupt lapse of compensation cess has serious implications for the industry,” he said.
Free Flow Of FMCG Products
In the case of FMCG products, most experts believe that the dealers would absorb the losses, or a bit of it might hit high up in the chain. Fast moving consumer goods move from companies to wholesalers, distributors and retailers before they reach the consumers.
A few FMCG majors have already set the ball rolling with trade discounts. A few, however, also said they’d not be able to cut prices on small size packs where the price is the calling card. Instead, many of them are increasing the pack size to compensate for it.
As per Manakiwala, FMCG and white goods companies might benefit on an overall basis from the tax cuts as it will improve consumer purchasing power. After the rate reduction benefit, a few consumers might shift to premium products, which would help improve margins.
“Moreover, these sectors are highly competitive, if one company is going to pass on the benefit, others will also follow,” Manakiwala added Even consumer durables could follow the same path.
Pharma companies, too, might also see similar disruption, as taxes are rationalised on a majority of products. The catch, however, lies in the inverted duty structure because of active pharmaceutical ingredients (APIs) being in higher tax brackets as compared to the finished goods.
Health And Beauty Hit Too
On the services side, the government has cut GST on health insurance from 18% to nil. While it’s good news for consumers, in a country where insurance penetration is low, there is very little of it that’s visible – it being a classic case of ITC as explained above. Their dealer commissions, marketing, and ad spends are their costs which would now go up.
On the other hand, the government is keen on lowering prices for this sector.
Apart from a generalised warning that has come from Central Board of Indirect Taxes and Customs (CBIC), the centre directed insurance companies to pass on the benefits and undertake campaigns to publicise the GST reforms.
The secretary of Department of Financial Services (DFS) M Nagaraju, has chaired a meeting with the insurance regulator as well as chairmen of top public and private sector insurance companies for the same, on September 16. In spite of the pressure, the pass-on benefits on paper might be different than what’s expected, say experts.
“We should look at the net impact and not the pure 18% cut. The cut on paper will be what’s comfortable to the industry,” said Arora. Apart from health insurance, even salons and beauty parlours face the same issue – where the tax rate has been cut to 5% without ITC.
On an overall basis, the intention of most companies is to pass on GST benefits — to improve sales volumes. “I don’t think any of the companies want to land in an anti-profiteering issue. They are working out ways to pass on the benefits. But in cases of cess etc, it could lead to litigation if the issues are not addressed,” said Arora.
A lot of experts, however, believe that their Diwali gift, in the form of mitigation, might come further ahead, after the festive bonanza lands its bounty.
