The Sin of Being Small: How GST Law will Affect you

Last updated on July 13th, 2017 at 02:29 pm

Arguably the biggest indirect tax transformation will be upon us in a few weeks from now. The law makers are deliberating on the specific clauses and contours of it – so that the appropriate legislations can be passed.

There is no doubt that this will be one of the great levelers in the market, and open out the Indian market for the businessman. The barriers of inter-state trade will disappear, and one will be able to find more customers and more suppliers than the present. Less people will be able to take undue advantage of law provisions, or by evasion of taxes, and so more businesses will flourish since competition will have a level playing field. Absorbing multiple current taxes into a single tax regime will reduce time and cost of compliance.

It is indeed time for celebration. Except for the Small Businessman

It is indeed time for celebration. Except for the Small Businessman.Click To Tweet

In general, Small Businesses are generally ‘more honest’, and generally suffering ‘more cash flow problems’.

Whether the increased relative honesty comes due to fear of social stigma, or inability to ‘settle’ when problems are detected, or the benefit of dishonesty is not large enough to be a temptation, or just the basic moral fibre not being tested with enough temptation, is actually a moot point. It is well known that the Micro Lending space sees the highest repayment ratios of any other lending business.

At the same time, the Small Business suffers frequent unevenness of cash flow. Even a simple one-week delay in receiving money for goods sold throws their routine out of gear. A marriage in the family? The cycles take several weeks to repair. A promising auction or offer for materials which would give them higher profitability, and they have to readjust their cash cycles for a few weeks to take advantage of it. A marriage in an employee’s family? Their desire to help out comes at a cost of their cash flow management.

The current statement by the Government in their Draft Model Law for GST has a few proposals which will slowly, but with certainty, drive almost every Small Business to eventual closure. This is not the INTENT of the Government, it is simply an unexpected consequence of other good intent. It is also CORRECTIBLE, provided the causes, and the consequences, are appreciated.

The provision for ‘input tax credit available to buyer only if supplier has paid tax inside a given window’ is one problem which a reasonable percentage of Small Business will face in their life-cycle. Most (if not all), will have no bad ‘intent’ of evasion or not paying. Nor will they be taking the Govt. for granted. It is just that they may sometimes need to delay payment, due to other exigencies – some of which I described above. Sometimes, the choice of ‘paying salary to my workers on time’ and ‘paying a penalty to the Govt. for delayed payment’ is a conscious call they take, otherwise they may lose their people. Sometimes, the pressure of paying their supplier becomes critical, else their material cycle is broken and they may permanently lose business of their customers – so again the ‘penalty for delayed payment’ becomes acceptable. And, they eventually pay.

A related and even more frightening provision is that the Government intends to make public a ‘Compliance Rating’ – so you will know before you buy whether your supplier has a ‘good or poor’ rating. The objective being, that since your input tax credit is dependent on this ‘quality’ of the supplier, you will try to avoid buying from people with ‘poor’ rating – which means, that people will do everything they can to AVOID a poor rating.

And the rating becomes ‘poor’ not just because you delay filing your data, but because you may have delays in your payment.

In essence, when you take these provisions together, any difficulty a Small Business may have faced, will now have ‘visible and public’ knowledge and corresponding snowball impact. So, the moment you face a problem, the problem magnifies the next month since your buyers will ‘play it safe’ and buy from others (the fact that the market is now a ‘more open market’ is a boon here). This will simply increase your problem, leading to further payment delays and/or further reduction of your rating, losing even more customers – till you eventually face closure.

The need of ‘emergency funds at any cost to pay GST and avoid bad rating’ for Small Business is going to lead to usurious scenarios, and cost burdens which they will be unable to sustainably bear. As it is, they are unable to manage costs through economies of scale. Now, just trying to keep their ‘business afloat’ in a GST regime, will become prohibitive.

And the paradox is, GST was expected to REDUCE compliance costs!Click To Tweet

There is no doubt at all that the Government has every right to deny input credit for possibly fraudulent claims on false bills. With the current provisions of suppliers needing to register their supplies with GSTN, and input credit only being available on such invoices, this is already a plugged problem. By demanding that all businesses must have uploaded their invoices fully establishes their liability, and their payment (or the right of the Government to demand/collect the payment) is almost certain.

It is rumored that the key reason for such an unsustainable provision in law is due to the problem of IGST distribution to various states, particularly when a given business fails to pay. Alternate methods to deal with this are all under consideration by the Government, but the present Draft Law continues to reflect the provisions above – but the unofficial sentiment is that this problem can be solved later, and the first implementation happen along the present Draft Law framework.

Yet, this is not a problem to solve later. There is no such thing as temporary death. Enough small businesses will be wrongly ‘branded’ as ‘why take risk in dealing with them’, and they will not be able to recover even if law changes later. The reverse is true. If the Government does not find tax fraud dramatically going down even WITHOUT this provision, they can always introduce it later as ‘the only way to control’.

The change being requested is – do not link ‘payment’ to statement of ‘valid return’. Let a ‘valid return’ be one which is correct in its computation, and defines the liability of the tax payer. Let a ‘valid return’ of a supplier be the only basis on which a customer can claim ‘input credit’ (this is already the current provision of law, except that it is treated as ‘valid’ only if the liability is ‘paid for’). This simple change will anyway unlock the businesses, improve compliance, and dramatically reduce fraud due to the triangulated nature of GST.

Linking payments to tax credit is not just a ‘flaw’, but a major ‘anomaly’. Click To TweetTaking a simple chain of 3 businesses, assume Company A raises an invoice of 1 Cr + 20 Lacs GST (total value 1.2 Cr) on Company B. Company A also discharges the tax of 20 Lacs to the Government.

Company B now raises an invoice of 1.2 cr + 24 lacs GST (total value 1.44 cr) on Company C. Company B is liable to pay 24 lacs, and take credit of 20 lacs, and therefore, needs to pay 4 lacs to the Government. However, due to some situations, it fails to pay it.
Company C now raises an invoice of 1.5 cr + 30 lacs GST (total value 1.8 cr) – and assume this is end of the chain (that is, sold to an end consumer).

Company C was liable to pay 30 lacs after taking input credit of 24 lacs – or net of 6 lacs. However, due to Company B’s inability to pay the tax on time, this input tax credit is denied, and Company C has to pay the full 30 lacs.

Now, IF Company B had paid the tax, the total tax collected by the Government would have been 20 by Company A, 4 by Company B, and 6 by Company C – or a total of 30 lacs.
However, since Company B failed to pay in time, the Government actually collected 50 Lacs! 20 by Company A, and 30 by Company C.

Suddenly, non-payment of Tax by Company B has become a bonus to the Revenue Department! Also, it is entirely possible, that Company B either voluntary, or through recovery action initiated by the Government, lands up paying a part of the 4 lacs. Making the total collections become even more than 50 lacs!

This anomaly of law will be inherently unsustainable. Suddenly, non-payment of tax by Company B will be seen (albeit wrongly) as something good for the nation, since the revenue of the country will go up!

Suddenly, non-payment of tax by Companies will be seen (albeit wrongly) as something good for the nation, since the revenue of the country will go up!Click To Tweet

That is certainly neither the intent of the law, nor can it be upheld as a valid outcome.

It is VERY IMPORTANT that all of us, as citizens, help the Government to formulate a law which will give the benefits that it has the capability of, rather than create the problems which are not required to be created.

The present laws are already giving tremendous security and protection against tax evasion, and only some minor technicalities require to be resolved (for IGST, for example) – and this artificial and unsustainable provisions can be replaced with the simpler ‘input tax credit available only on invoices registered with GSTN’. In fact, the current laws also allow for ‘provisional input credit even if the invoice is currently not registered’, and businesses will be more than happy to give up this ‘luxury’, if the ‘payment linkage’ is removed.

Let us all pray for a Great GST Law which we will welcome with open arms, and not one which we will struggle under.

Bharat Goenka
Managing Director, Tally Solutions Pvt. Ltd.

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36 Comments

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  • The article is indeed thought provoking. The rules under GST, if implemented as such, will cause great hardship to micro and SME sectors.
    Payment follow up specially with quasi government companies and big corporate is such a pain and now the small players will get labelled as “Poor” for no fault of theirs. What an irony. The government must link the receivables against the bills generated at each and every step of GST cycle and auto generate a default statement on erring companies to make them pay. The greed to do business on others money has to stop.

  • Sir, Small Businesses have already got a good news from this year’s Budget when the Corporate Income Tax Rate was reduced from 30% to 25%. Hence, it may not be a big sin to be a Small Business.

  • IN above scenario if B fails to pay ( 4 lacs) the tax , govt. will charge whole amount( 30 lacs )from C. In due course govt. recovers from B (4lacs ) THAN WHAT WILL BE THE PROVISION OF REFUND TO C (30-6=24 LACS)

  • Mr. Bharat Goenka, the last paragraph of your informative write up is as follows
    “Let us all pray for a Great GST Law which we will welcome with open arms, and not one which we will struggle under.

    Bharat Goenka

    Other countries in the world have GST tax regimes and we are simply copy pasting it. Do we not have a successful example in the world to follow.

  • This type of article needs a tl;dr section. And sub headings/sections. Keeping this great and informative article as a monolithic chunk might lead to people overlooking something important. Something like ‘GST – boon or bane / What’s great / What could cause problems / SMB challenges / Illustration (examples). Great blog though. Mr.Goenka’s ideas and justifications seem spot on!

  • I firmly agree with your viewpoints.

    It would have been better if some relaxations were given from such harsh provisions.

    Most business owners are assuming that their life would be easier after GST but it does not look like.

    The devil is in the fineprint which most people havent even read.

  • Dear Goenkaji,

    A well-written article once again. I’ve a suggestion to make here. Definitely this blog will be having some good amount of subscribers and visitors. We can take a survey on the people mindset using survey tools like Google forms/surveymonkey and we can submit to the govt. on these lines:

    “People not accepting the payment linkage provision out of 10 Lakhs (just an example) people surveyed: 9 Lakh (90%)”
    “Level of frustation on a scale of 1-10: 8”

  • It is a matter of genuine concern. The GST Council met on 04.03.2017 and it is learnt that the Council has approved the draft of the CGST Bill, SGST Bill and IGST Bill. It is expected that CGST Bill and IGST Bill are going to be tabled in the Parliament in the ongoing budget session. Let us hope that the GST Council would have addressed this issue while debating and approving the bills. If not, then, let the voice of the people reach to the Parliament and such a draconian provision is not legislated.
    The Government deserves all the praise for the untiring efforts made to make GST a reality after the wait of so many years but before it is voted in the Parliament, it is better that issues like this one are addressed.

    • As rightly said it needs to be addressed before it is tabled in the parliament. Prevention is better than cure. The people like Goyenkaji can raise his voice with the help of chamber of commerce and with the help of people like us to resolve this problem. He can create a vote ballet in Tally website and it can be highlighted to the respective forum

  • Thank you Goenka Ji for clearly expressing concerns of small businessmen. It is so much true that small businesses’ delicate financial cycle will create a viscious cycle of self destruction, if Govt. creates a one for all risky benchmarks.

    Govt. should understand that small businesses gives opportunity and create jobs to citizens, where Govt. is absolute failure.

    I trust Govt. understands the small businesses other than distrusting all for few and squeezing every possible way with one for all ideas to squeeze funds from sincere taxpayers to spend at its fancies.

  • There is a factual error in the illustration given in this article. If Company,which had defaulted to pay the net tax after deducting the ITC from the collected tax,later makes the payment along with interest, the ITC reversed in case of Company C will be re-reversed as per the proposed GST Law. There is no question of undue collection of tax by Government .Though this law looks rigid, it is required to check manipulated claims of ITC by unscrupulous people.

    • Sir,
      It is understood that Company C’s extra tax collection will be reversed but the point is that If Company B defaults its tax payment, the Company C has to shell out Rs 30 lakh immediately, which will give stress on Company C’s cash flow. Or C will also have to default it tax payments.

    • Right Mr.Hegde. When the company B makes payment to that extent ITC will be available for Company C. There is no question of
      collecting extra taxes due to default in payment of taxes.

  • Sir, Currently Tally is the voice which is being heard in the country. My gut feel is the provision you are suggesting can be implemented easily and would be implemented by the Govt. The nation needs a easy to follow easy to use GST , not a strict GST which could shut down your business within few months.
    The payment window can also be widened and warning period before penalty can be introduced. Grading of non compliance actions can be done so that violation of those norms can attract different action from mild to stern.

  • When GST was introduced in Malaysia from where we picked gst framework, same thing happened there. ALMOST all the small scale businesses faced closure.

  • Why not high light this issue to Govt and Panel under process to take a relook at it and resolve , rather than accepting it silently and than raising grievances which will be too late to correct of will get on in lighter mood, and poor sincere tax payers will suffer.

  • Dear Sir,

    Excellent article depicting facts and professing doom for small business enterprises.

    When a vendor fails to pay tax why a purchaser has to face penal action for the failure of vendor to whom he has already remitted tax. This is gross injustice and needs to be attended to. GST rating will not work as we know that there is a time lag for updating data on websites of departments.

    If the Dealer can prove that he has remitted the tax but vendor has failed to pay into Govt. Treasury, then vendor should be apprehended & punished. What we are witnessing is that these vendors collect taxes and purposely do not remit it and department sleeps on it even if the victims draw the attention of concerned authorities. They continue to thrive.

    Shri Goenkaji has rightly pointed out that small enterprises who contributes maximum to GDP are made to face difficulties.

    In GST regime unless small enterprise are not offered some relaxation, I am afraid Goenkaji’s prediction will come to be true.

    Kudos! Sir
    Keep it up I will look forward to know more from you.

    • Only reason for these type of provisions seems to be that Govt. thinks all tax payers are ‘Chors’ by default and Govt. has to extract from them

  • Mr. Bharat Goenka’s insight into GST law adversely affecting small business is really a great analysis.
    We need to take up the same with Government to remove such an anamoly.

  • It is no doubt there is a great anomaly in the GST with regard to taking input credit and it is well explained in this article. As long as the supplier invoice bears the valid GST Number, the buyer availing input credit should not be denied. Government should have better mechanism to collect the tax from the supplier or else, the supplier should be asked pay the tax in advance by way of lum sum and each invoice value of GST can be reduced from that like excise duty payment system what we had earlier.

    • Under the State VAT Act, buying dealer is eligible for the ITC,if the selling dealer is registered dealer at the time of supply of materials as per the decision of the Madras High Court in Infiniti Wholesale Limited Vs Assistant Commissioner (2015)(1) TMI 590 (Madras) and also Jinsasan Distributor s Vs CTO (2013)(4) TMI 615 (Madras) & 59 VST 256 (Madras)—also Maharashtra Vs Suresh Trading Company (1998) 109 STC 439 (SC).As the officials of Government of India do not agree with this view during the workshops,the buying dealers have to see legal remedy.After appeal,if the seller proves that the goods are exempt from GST or pays GST,is there any easy way to get refund or adjust the amount beyond the time limit if any.

  • How can it be termed as sin of being small. Is that the sin of Law. Since the End Dealer either small or big suffers with the increase cost of his product barring other cash flow crunches. THEREFORE CERTAINLY THE LAW MAKERS HAVE TO REMOVE THE “Payment Linkage” before the appointed date. Otherwise It will be more chaos for both Small and Big businesses.

  • This is really a practical problems raised by Mr.Bharat Goenka.If the problems highlighted in this subject not corrected before final implementation of GST , definitely and really small businesses/One man companies will have to shut down.Knowledgeble persons Like Mr.Bharat Goenka should bring pressure on GST COUNCIL to resolve the issues before 01.07.2017 to safeguard honest/Law abiding small business concerns.

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