Starting April 1, GST system is set to witness a major change as Input Service Distributor (ISD) mechanism will be made mandatory. Experts say such a change aims to ensure that state governments receive their rightful share of taxes on common services procured at a single location.
The mandatory mechanism was provided through an amendment in the CGST Act by the Finance Act (Number 1) of 2024. ISD mechanism allows business with branches in multiple states to receive invoices for common input services (domestically procured or imported) centrally at one branch or the head office, and distribute the related input tax credit amongst the branches availing such common input services.
According to Samsuddha Majumder, Partner (Tax Practice) at Trilegal, broadly speaking, input tax credit is distributed in proportion of the turnover of each such branch.
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Prior to the amendment in the CGST Act, businesses had the flexibility to distribute common input tax credits through either the ISD mechanism or a cross-charge model. ISD registration was optional, and credit could be allocated using cross charges wherever applicable. Post-amendment, ISD mechanism has been made mandatory for offices receiving tax invoices towards receipt of input services (including RCM transactions) for or on behalf of distinct persons.
Harpreet Singh, partner with Deloitte, suggested seven points as a to-do list to ensure timely compliance with the ISD provisions and smooth transition. First, taxpayers need to obtain ISD registration for offices (to be identified) receiving tax invoices towards receipt of input services (including RCM transactions) for or on behalf of distinct persons. Second, expenses incurred by the head office which are common for all locations would have to be identified. Third, post identification of common expenses, vendors to be transferred to ISD registration would have to be identified.
Fourth, once the ISD registration is obtained, the selected vendors would be informed to issue invoices on ISD registration going forward. Fifth, implementation of ISD mechanism may require some IT system modifications such as updating procurement module for purchase orders. Sixth, training session would be required regarding booking of ISD invoices, following up with the vendors, onboarding new vendors under ISD, etc. Finally, post implementation, ISD registration would be required to reconcile credit with GSTR-6A, distribute credit to the branches and file GST return in GSTR-6 on monthly basis.
Majumdar said that up until now, businesses with branches in multiple states could distribute input tax credit relating to common services either by cross-charging the common services to the relevant branches or by using the ISD mechanism. While cross-charging allowed greater flexibility to business in receiving the invoices and deciding the extent of input tax credit to be distributed without additional compliances, it also caused disagreements with the tax authorities, especially in terms of cross-chargeability of certain costs, and the valuation of the cross-charges for GST purposes. “With the ISD mechanism becoming mandatory, these issues are likely to be put to rest,” he said.
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Singh said post implementation, the standardized mechanism aims to ensure that state governments receive their rightful share of taxes on common services procured at a single location. “It is crucial for businesses to correctly identify input services to be distributed, as any errors or excess distribution of credit may be subject to scrutiny by tax authorities,” he said.
