Understanding the Input Service Distributor (ISD) Mechanism in GST

An Input Service Distributor (ISD) is a specific type of taxpayer under the Goods and Services Tax (GST) regime. An ISD is responsible for distributing GST input tax credits related to common input services among its various units or branches that operate under different GSTINs but share the same Permanent Account Number (PAN). Effective April 1, 2025, entities receiving common input service invoices for multiple GSTINs are required to register as an ISD and adhere to the regulations for Input Tax Credit (ITC) distribution and GSTR-6 filing.

Recent Regulatory Updates

Several key changes have been introduced regarding the ISD mechanism:

February 1, 2025: The Union Budget brought amendments to Sections 2 and 20 of the CGST Act, specifically addressing reverse charge mechanism provisions under Sections 5(3) and 5(4) of the IGST Act.
August 6, 2024: Previously, the ISD mechanism was optional. However, through Notification No. 16/2024-Central Tax, the government modified Sections 2(61) and 20 of the CGST Act, 2017, making ISD provisions mandatory starting April 1, 2025.
July 10, 2024: Notification No. 12/2024-Central Tax by CBIC amended Rule 39 of the CGST Rules, 2017, detailing the allocation method for ITC by an ISD. This amendment awaits official notification for implementation.

Defining an Input Service Distributor (ISD) under GST

An Input Service Distributor (ISD) is a taxable entity that receives invoices for common services utilized across its various branch offices. The ISD then allocates the Input Tax Credit (ITC), representing the tax paid on these services, proportionally to its branches by issuing specific ISD invoices. Importantly, while the branches may have distinct GSTINs, they must all operate under the same PAN as the ISD.

Consider an illustration: The main office of ABC Limited in Bangalore pays for annual software maintenance that benefits its branches in Chennai, Mumbai, and Kolkata. The invoice for this service is issued to the Bangalore head office. As the software serves all branches, the entire ITC cannot be claimed solely by the Bangalore office. Instead, it must be distributed to all three locations. In this scenario, the Bangalore head office acts as the Input Service Distributor.

Eligibility Requirements for ISD Registration under GST

For an entity to register as an Input Service Distributor (ISD) under GST, certain criteria must be met:

It must function as an office that supplies goods, services, or both.
It must receive tax invoices for input services procured for, or on behalf of, its various units or branches. These units must possess different GSTINs but share a common PAN.
The office must be situated at the location where the shared input services are obtained.
It is authorized to distribute ITC on input services as an ISD, including those where GST is paid under the reverse charge mechanism.
Multiple ISD registrations are permissible if common services are received at different offices across various states or districts.
It must commence issuing a standardized ISD invoice to distribute Input Tax Credit (ITC) for CGST (or SGST, as per State Acts) and/or IGST paid on services to its units or branches, provided they share the same PAN but have distinct GSTINs.

When ISD Provisions Do Not Apply

The Input Service Distributor mechanism does not permit the distribution of Input Tax Credit (ITC) in these specific scenarios:

ITC related to inputs and capital goods, such as acquired raw materials or machinery.
ITC designated for outsourced manufacturers or external service providers.

Legal Framework and Statutory Provisions for ISD

The regulations governing the distribution of Input Tax Credit (ITC) by an Input Service Distributor are primarily established by Section 20 of the CGST Act. This section outlines the procedures for such distribution.

The definition of an ‘Input Service Distributor’ is provided in Section 2(61) of the CGST Act. It specifies an ISD as an office of a supplier of goods, services, or both, that receives tax invoices for input services. This includes services subject to tax under the reverse charge mechanism as per Section 9(3) or 9(4) of the CGST Act. These services are obtained for, or on behalf of, distinct persons as specified in Section 25 of the CGST Act. The ISD is then mandated to distribute the related input tax credit according to the methods outlined in Section 20 of the CGST Act.

Further, CGST Rule 39 details the compliance regulations for ITC distribution by an ISD across various situations, while CGST Rule 54(1) specifies the requirements for issuing an ISD invoice.

Objectives of ISD Registration

The ISD framework offers a facility for businesses with substantial common expenditures where billing or payments are centrally managed. This mechanism aims to streamline the process of claiming tax credits for entities, thereby enhancing the smooth flow of credit within the GST system.

Essential Documents for ISD Registration

To expedite the acquisition of an ISD GSTIN and ensure vendors can issue accurate tax invoices, entities should prepare the necessary documents for GST ISD registration. The required documents typically include:

A copy of the existing GST Registration Certificate (if applicable for regular GST registration).
The Permanent Account Number (PAN) card.
Proof of the business's legal structure, such as the Memorandum of Association, Articles of Association, and Certificate of Incorporation for companies, or equivalent documents for partnership firms, LLPs, and sole proprietorships.
Proof of address for the ISD office, like a utility bill for rented property or a sale deed/ownership document for owned property.
Details of the authorized signatory, including identity proof, photograph, and an authorization letter.
Bank account information, evidenced by a bank statement or a cancelled cheque.
A description of the business activities undertaken.
If requested by a GST officer, a list of invoices, received values, input service agreements, and a summary of distributed ITC.
Financial statements and a self-declaration affidavit affirming GST compliance, if required by the GST officer.

Step-by-Step Procedure for ISD Registration

Businesses adopting the mandatory ISD compliance from April 1, 2025, can follow a straightforward registration process. The application for ISD registration is identical to that of a regular taxpayer, utilizing Form REG-01. It is important to note that an ISD cannot hold multiple registrations within a single State, and a taxpayer registered under the composition scheme is ineligible for ISD registration under GST. The process involves submitting the GST registration application and completing Aadhaar authentication.

Here is a simplified outline for obtaining ISD registration under GST:

Initiate Registration: Access the gst.gov.in website, navigate to ‘Services’ > ‘Registration’, and choose ‘New Registration’.
Complete Part-A: Provide essential business information, including legal name, trade name, email, PAN, and mobile numbers. Verify these details using a One-Time Password (OTP) to receive a Temporary Reference Number (TRN).
Complete Part-B: Log in using the TRN to furnish additional business particulars, specify the registration reason, detail promoters, authorized signatories, place of business, goods and services traded, upload required documents, and include state-specific information. During this step, under the ‘Reason to obtain registration’ dropdown within the business details section, select ‘Input Service Distributor’.
Submit and Obtain GSTIN: Submit the ISD registration application via e-verification. Upon successful submission, an Application Reference Number (ARN) will be generated, and once approved, the ISD GSTIN will be issued.

ISD: A Comparison Between Former and Current GST Regimes

A comparative analysis of the Input Service Distributor (ISD) provisions under the previous tax regime and the current GST framework reveals significant distinctions:

Aspect	Earlier Regime	GST Regime
Eligibility of Distributor	An office associated with a manufacturer, producer of final products, or provider of output services	An office of a supplier of goods, services, or both
Basis for Credit Distribution	Invoices issued under Rule 4A of Service Tax Rules, 1994, for input services	Tax invoices received from suppliers for input services
Method of Credit Distribution	Issuance of an invoice, bill, or challan to the manufacturer, producer, or service provider	Issuance of an ISD invoice to a supplier of taxable goods and/or services sharing the same PAN as the ISD office
Distributable Tax Credit Type	Service tax credit paid on specified services	CGST (or SGST) and/or IGST credit paid on the specified services
Recipients of Distribution	Internal units and outsourced manufacturers	Suppliers that share the same PAN; distribution to outsourced manufacturers or service providers is not permitted

These key differences indicate a shift, particularly in restricting credit distribution to offices sharing the same PAN. This change likely stems from the transition of the taxable event from manufacturing to supply, where tax liability arises at the point of supply and is settled by the ISD through available input tax credit.

Mandatory Conditions for ISDs

Input Service Distributors must adhere to specific conditions:

Registration: An Input Service Distributor is required to register as an “ISD” in addition to any existing GST registration as a regular taxpayer. This declaration must be made in serial number 14 of Form REG-01, as credit distribution to recipients is only permissible after this registration.
Invoicing: The ISD is authorized to distribute the eligible tax credit to its recipients by issuing an ISD invoice.
Returns: The total amount of tax credit distributed must not exceed the credit available to the ISD at the end of the relevant month. The ISD must file this information in Form GSTR-6 by the 13th of the subsequent month. Information on ITC can be obtained from the GSTR-2B return. Recipient units can view the distributed tax credit in GSTR-6A, which is automatically populated from the supplier’s return, and subsequently claim it by declaring it in GSTR-3B. Unlike regular taxpayers, an ISD is not obligated to file annual returns in Form GSTR-9.

Structure of an ISD Invoice

The GST law prescribes a specific format for ISD invoices issued by an Input Service Distributor to its various units. The essential details required, as per Section 54(1) of the CGST Act, include:

The ISD's name and address.
The ISD's GSTIN.
A unique invoice number.
The date of the invoice.
The name and address of the receiving unit or branch.
The GSTIN of the recipient branch or unit.
The total amount of Input Tax Credit (ITC) being distributed.
The signature of the authorized individual.

Rules for Input Tax Credit Distribution

Specific conditions govern the distribution of Input Tax Credit (ITC) by an ISD:

Any ITC available for distribution in a given month must be allocated within that same month, with the details reported in Form GSTR-6.
Credit for tax paid under the reverse charge mechanism, as per Sections 9(3) and 9(4), is also eligible for distribution by the ISD to its recipients.
If input services are used exclusively by a single recipient, the associated tax credit can only be assigned to that specific recipient for its utilization; it cannot be distributed to other entities.
For input services commonly used by multiple recipients of the ISD, the tax credit must be allocated proportionally to all operational recipients during the year. The allocation ratio is determined by: (Turnover in a State/Union Territory of that specific recipient during the relevant period) / (Aggregate turnover of all such recipients).
Similarly, if input services are utilized universally by all ISD recipients, the tax credit is allocated proportionally to all operational recipients throughout the year using the same turnover-based ratio.
CGST, IGST, and SGST credits are to be distributed according to the specified procedures.

Recovery Process for Improper ITC Distribution by ISD

The GST Act specifies that certain actions by an Input Service Distributor constitute an improper distribution of tax credit:

Distributing credit to any recipient in an amount exceeding the available credit.
Allocating credit to any recipient using an incorrect ratio.
Distributing credit beyond what a supplier is legitimately entitled to receive.

In such instances, the excess or improperly distributed credit, along with applicable interest, will be recovered from the respective recipient(s). The standard ‘Demand and Recovery’ provisions of the GST Act will be invoked for this recovery process.

Repercussions of Non-Compliance with ISD Regulations

Failing to secure ISD registration or adhere to its rules can lead to severe negative consequences:

ITC Loss: Utilizing a regular GSTIN instead of an ISD GSTIN for receiving input services may result in the forfeiture of Input Tax Credit.
Increased Audit and Compliance Risks: Non-adherence to ISD regulations often triggers audits and causes delays in compliance procedures.
Penalties and Interest: Incorrect ITC allocation or misapplication of cross-charge mechanisms over ISD can result in GST demand notices under Sections 73/74 of the CGST Act. This can lead to the recovery of tax with an 18% per annum interest charge, along with potential penalties of up to Rs. 25,000.