Explained: How service sector benefited and govt lost revenue after GST

Companies were able to set off a higher share of tax liability using input-tax credit in the first year of GST

The first two years of goods and services tax (GST) have been associated with a lot of activity, from rate cuts to revenue loss and technical glitches. But when it comes to the services sector, it has changed the dynamics of tax payments and collection, official data accessed by Business Standard show.

Across ten prominent services, GST revenue paid to the government has reduced by 20 per cent in the first year of GST compared to the last year of the service tax regime. This happened despite the fact that tax liability against these services had grown by 50 per cent in one year.

The reason, government officials and experts said, is higher utilisation of input-tax credit for making tax payments under GST. They said that this benefitted the service sector firms in terms of reduced cash outgo towards indirect tax payments, improving their top line.

While companies in these sectors were able to set off around 50 per cent of their tax liability using input-tax credit available in the system in 2016-17, they paid more than 70 per cent of their tax liability using input tax credit in 2017-18, the data reveals. Input tax credit is the credit a business can claim on taxes paid on inputs.

“Increase in tax liability shows that the sectors are doing good. But services companies are now able to avail a higher degree of input tax as credit. Though this had a negative impact on government revenue, it helped reduce the prices of services to some extent,” a senior finance ministry official told Business Standard.

The list includes those services who showed a considerable jump in utilisation of credit, such as telecom and aviation, but excludes banking and insurance services. For engineering consulting companies, extent to which credit was used to pay tax liability rose from 41 per cent in 2016-17 to 77 per cent in 2017-18. It increased from 58 per cent to 78 per cent for tel-cos. Chart shows the improvement in credit utilisation for four key services.

While this observation can be held as representative neither of GST as a whole, nor across time (subsequent years), the data confirms that tax burden on services companies reduced in the year of GST transition.

Experts said that the higher utilisation of input tax credit in the first year of GST includes the transition credit—the credit available from the pre-GST regime. But economists said that a high proportion of tax payment through credit is a reason for concern.

“Typically for services, on average, the value of inputs is 30 per cent of the value of output. So a 70 per cent payment through credit earned on taxes on inputs seems exceptionally high,” said Pronab Sen, former chief statistician of India.

Under GST, services companies are able to set off taxes paid even on goods purchased as inputs. Credit on VAT or excise duty paid on goods was not available under the service tax regime. For example, say an IT/ITES company needs to buy 100 laptops to provide a service to an IT major. The former can now claim credit on GST paid on these “goods”, which was not possible in the pre-GST regime.

“Service providers have been able to get a larger pool of credits in GST compared to the service tax regime and this would have enabled them to reduce the net cash payment during the initial days of GST. However, it would differ across sectors. Certain sectors would see more inflows on account of expansion/capex etc.” said M S Mani, tax partner at Deloitte.

He added that while the utilisation of transition credit resulted in higher overall use of input tax credit in the first year of GST, it would reduce in subsequent years and push up government’s revenue to some extent.

Telecom companies are facing a dip in revenue—evident from the dropping ARPU (average revenue per user)—while their input costs such as spectrum charges and license fees are fairly the same, over the last few years. This is reflected in the reduction in the tax liability in 2017-18 (See chart).

Now, tax liability is a function of tax rates, compliance in terms of payments, and the number of transactions which is directly linked to the pace of economic growth. GST rates for most services have effectively risen from 15 per cent under service tax regime to 18 per cent under GST regime.

The increase in tax liability could also be due to improvement in tax compliance or growth in sales, experts said.