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GST impact on Small Service businesses

The impending arrival of GST has been greeted with much fanfare across economic and business circles, with some estimates predicting a 2% increase in GDP thanks to the new unified tax system. In the hullabaloo around its various provisions, many are ignoring the adverse impact of some of the new regulations on small businesses.

Under the existing service tax rules, namely point of taxation rules, small businesses are allowed to pay taxes on receipt basis. This means the liability to pay tax arises only when the business has already received revenue and service tax from their customers. To illustrate this using an example,  assuming you are a small business and billed one of your customers for INR 2 lakhs ( INR 2.3 lakhs including service tax). Under the previous service tax rules you will be required to pay the service tax only when your customer paid the sum into your account. Businesses not eligible for this benefits will have to pay the requisite amount of service tax at the time of:

  1. Provision of services
  2. Receipt of advances
  3. Issue of Invoice

Whichever is earlier.

For this purpose small businesses are Individuals, HUFs and partnership firms with turnover less than INR 50 lakhs. The new provisions as per the model GST act, do not provide for any such relaxation.

Under the existing service tax rules, namely point of taxation rules, small businesses are allowed to pay taxes on receipt basis. This means the liability to pay tax arises only when the business has already received revenue and service tax from their customers. To illustrate this using an example,  assuming you were a small business and had billed one of your customers for INR 2 lakhs ( INR 2.3 lakhs including service tax) you would be required to pay the service tax only when your customer paid the sum into your account. Businesses not eligible for this benefits would have to pay the requisite amount of service tax at the time of:

  1. Provision of services
  2. Receipt of advances
  3. Issue of Invoice

Whichever is earlier.

For this purpose small businesses are Individuals, HUFs and partnership firms with turnover less than INR 50 lakhs. The new provisions as per the model GST act, do not provide for any such relaxation.

The GST punch to small service businesses

This omission by the GST council will adversely affect scores of small businesses who were hitherto able to get by without a tax strain on their cash flows. Such businesses will now have to provide up between 12 to 18 percent of their revenues to pay for GST.

In our opinion, this is going to be a strain on the finances of small businesses who are already stretched for working capital. Small businesses already find it hard to raise capital, asking them to deploy 18% of their working capital to meet government dues could seriously jeopardize many balance sheets. Especially when the model GST act provides for a compliance based rating system where businesses are to be rated on the basis of compliances made by them and any delays could adversely impact this rating. Businesses with adverse ratings may find them unable to get vendors at suitable prices. Businesses therefore will be in a perennial chase where they will have to pay GST for inputs consumed as well as to front taxes on behalf their customers.

There is also the issue of bad debts and delays in recovery of dues. The second version of the Model GST act makes no mention of treatment to be afforded to taxes paid on invoices which are thereafter rendered unrecoverable. The law only allows for reversal of taxes paid upon the raising of credit notes under specified circumstances.

Composition levy to the rescue?

The model law does provide for a scheme under which businesses with turnover below INR 50 lakhs will be have to pay merely 1% of their total turnover  ( 2.5% for manufacturers) in compliance of the tax liability upon their output. They will not have to collect any monies from their customers. On the other hand they will also not be able to utilize input credit on the goods and services availed by them.  Does this 1% assuage the fears of the small business community, or ensure that they are not adversely impacted remains to be seen.

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