Understanding the Disadvantages of India's GST Composition Scheme
The GST Composition Scheme, while offering simplified compliance for small businesses, comes with notable disadvantages. These include restrictions on inter-state and import/export activities, limiting business scope to intra-state transactions. Furthermore, composition dealers cannot claim input tax credit, nor can their buyers, potentially leading to cascading taxes and reduced business. The burden of tax payment falls directly on the taxpayer as they cannot issue tax invoices. Penal provisions for ineligibility or errors are stringent, and the scheme excludes e-commerce businesses due to their inter-state supply nature, which contradicts national digital initiatives.
The Goods and Services Tax (GST) Composition Scheme offers simplified compliance for small businesses with an annual turnover below a certain limit, which was initially ₹1.0 crore and later increased to ₹1.5 crores by CBIC effective from February 1, 2019. While this scheme presents certain advantages, it also comes with various disadvantages that taxpayers should consider before opting in. Our previous discussion covered the benefits of enrolling in the GST Composition Scheme under Section 10 of the GST law, designed to provide reduced compliance burdens and lower tax rates for eligible small taxpayers.
Recent Scheme Updates
July 5, 2022
- The deadline for GSTR-4 for FY 2021-22 was extended, with a waiver of late fees until July 28, 2022, per Notification 12/2022.
- The deadline for CMP-08 for April-June 2022 was extended to July 31, 2022, also by Notification 12/2022.
May 26, 2022
- CGST Notification No. 7/2022 granted a late fee waiver for GSTR-4 filings for FY 2021-22, applicable if submitted between May 1 and June 30, 2022.
February 24, 2022
- Taxpayers eligible for or interested in the composition scheme for FY 2022-23 needed to submit a declaration in Form CMP-02 on the GST portal by March 31, 2022.
May 28, 2021
- Following the 43rd GST Council meeting and CBIC notification, interest relief was provided for CMP-08 filings for the January-March 2021 quarter. No interest was charged until May 3, reduced interest of 9% applied for filings between May 3 and June 17, and 18% thereafter.
- The filing deadline for GSTR-4 for FY 2020-21 was extended to July 31, 2021.
- The maximum late fee for GSTR-4 was capped at ₹500 for nil returns and ₹2000 for other filings.
May 1, 2021
- The GSTR-4 filing deadline for FY 2020-21 was moved from April 30, 2021, to May 31, 2021.
- Relaxations were provided for interest charges on Form CMP-08 for January-March 2021, due by April 18, 2021. No interest was levied for filings up to May 8, a 9% rate applied between May 9 and May 23, and 18% thereafter.
- The deadline for new composition scheme registrants to file ITC-03 for FY 2021-22 was extended to May 31, 2021.
Drawbacks of the GST Composition Scheme
Limited Territory for Business
Entities enrolled in the composition scheme are prohibited from conducting interstate sales, as well as importing or exporting goods and services. This restriction forces them to engage solely in intra-state transactions, significantly confining their business operations within state borders.
No Credit of Input Tax
The scheme does not allow for input tax credit (ITC) on business-to-business (B2B) transactions. Consequently, a taxpayer operating under a B2B model cannot claim credit for input tax paid against their output tax liability. Moreover, buyers purchasing goods from a composition scheme dealer also cannot claim ITC on the tax paid, leading to potential price increases and a cascading tax effect. This scenario can result in reduced business for composition dealers, as regular taxpayers might opt to purchase from suppliers who enable them to claim ITC.
No Collection of Tax
Despite the nominal composition tax rates, typically 1% or 5%, a composition scheme taxpayer is not permitted to issue a tax invoice or collect this tax from their customers. A notification dated January 1, 2018 (01/2018) specifies that turnover for traders refers to 'Turnover of taxable supplies of goods.' As a result, the tax liability falls entirely on the taxpayer, negating the scheme's core objective of reducing both compliance and tax burden for small businesses.
Penal Provision
The scheme includes a contentious penal clause. According to GST law, if a taxpayer who was previously registered under the composition scheme is later found ineligible, or if the initial permission was erroneously granted, they become liable to pay the differential tax along with a penalty. This penalty can be as high as 100% of the total tax liability. This implies that if a small taxpayer, possibly with limited understanding of tax regulations, makes an error while operating under the composition scheme, they could face standard tax rates on their entire turnover, coupled with an equivalent penalty.
E-commerce Businesses Excluded
The rapidly expanding e-commerce sector in India, which includes both large corporations and emerging startups, often conducts business across state lines through online platforms. Since inter-state supplies render businesses ineligible for the composition scheme, e-commerce entities are excluded from its benefits. This exclusion appears inconsistent with government initiatives like 'Digital India' and 'Startup India,' which aim to foster digital growth and support the startup ecosystem in the country. The scheme specifically does not apply to suppliers engaged in e-commerce for goods.
While the composition scheme is designed to help small taxpayers by simplifying compliance, current conditions necessitate careful consideration from any small taxpayer intending to register under it.