Understanding the Inverted Tax Structure within India's GST Framework

An inverted tax structure arises when the tax rate on inputs purchased by a business is higher than the tax rate on the finished goods or services it sells. This situation can lead to an accumulation of unutilised Input Tax Credit (ITC). This article explains this concept and outlines the compliance procedures involved.

Inverted Tax Structure in the Pre-GST Era

Before the Goods and Services Tax (GST) was implemented, an inverted duty structure typically occurred when the import duty on raw materials used in manufacturing finished goods exceeded the import duty on the finished goods themselves. For instance, if the import duty on finished tyres was 10%, but the duty on natural rubber (a raw material for tyres) was 20%, this created an inverted structure. Here are further examples illustrating this scenario:

Inverted Tax Structure Under the GST Regime

Under the current GST system, an inverted tax structure is defined as a situation where the GST rate applicable to inputs (purchased goods or services) is higher than the GST rate on the outward supplies (sales). Consider this example:

Claiming Refunds for Inverted Tax Structure Under GST

Registered taxpayers can claim a refund for unutilised Input Tax Credit (ITC) that accumulates due to an inverted tax structure. This refund can be claimed at the end of any tax period where the ITC has built up because the tax rate on inputs is higher than on output supplies. A tax period refers to the duration for which a tax return must be filed.

According to CGST Instruction 6/2025, issued on October 3rd, 2025, a provisional refund of 90% of accumulated ITC under an inverted duty structure is effective from October 1st, 2025, for refund applications submitted on or after this date. However, this implementation requires corresponding amendments to the CGST Act.

There are specific exceptions where a refund of unutilised ITC cannot be claimed:

• When output supplies are nil-rated or fully exempt, unless specifically notified by the government based on GST Council recommendations.
• If goods exported from India are subject to export duty.
• If the supplier claims a refund of output tax paid under the IGST Act.
• If the supplier benefits from duty drawback or a refund of IGST on such supplies.

Formula for Maximum Refund Under Inverted Tax Structure

The maximum amount that can be refunded due to an inverted tax structure is calculated using the following formula:

Maximum Refund Amount = ((Turnover of Inverted Rated Supply of Goods and Services × Net Input Tax Credit) / Adjusted Total Turnover) – Tax Payable on Such Inverted Rated Supply of Goods and Services

Illustration:

• Output Supply (Fabric Bags) Value: Rs. 1,400
• GST on Output: 1400 × 5% = Rs. 70
• Output Supply (Woven Fabric of Silk) Value: Rs. 1,500
• GST on Output: 1500 × 5% = Rs. 75
• Input Purchase (Silk Yarn) Value: Rs. 1,000
• GST on Input: 1000 × 5% = Rs. 50
• Input Purchase (Non-Woven Fabric) Value: Rs. 1,000
• GST on Input: 1000 × 12% = Rs. 120
• Turnover of inverted rated supply (Fabric Bags) in this case is Rs. 1,400.

Using the formula, the maximum refund is calculated as: {(1400 × 120) / 1400} - 70 = Rs. 50

Key Terms in Refund Calculation

Understanding specific terms is crucial for computing the maximum refund amount.

a. Turnover of Inverted Rated Supply of Goods

This refers to the total value of inverted supply of goods or services made during the relevant period, without requiring tax payment under a bond or letter of undertaking.

In the illustration above, the turnover of inverted rated supply of goods is Rs. 1,400.

b. Net Input Tax Credit

Net ITC includes the input tax credit availed on inputs during the relevant period, excluding any ITC for which a refund is claimed under sub-rules (4A) or (4B) or both.

In the given illustration, Net ITC equals 50 + 120 - 50 = Rs. 120.

c. Adjusted Total Turnover

"Adjusted Total Turnover" refers to the total turnover within a state or union territory, as defined under Section 2(112) of the CGST Act. This excludes the value of exempt supplies (other than zero-rated supplies) and turnover from supplies for which a refund is claimed under sub-rules (4A) or (4B) or both, during the relevant period.

In the illustration, the Adjusted Total Turnover is 1500 + 1400 - 1500 = Rs. 1,400.

"Turnover in a State" or "Turnover in a Union Territory" refers to the aggregate value of:

• All taxable supplies (excluding the value of inward supplies under Reverse Charge Mechanism).
• Exempt supplies made within the state or union territory by a taxable person.
• Exports of goods or services or both.
• Inter-state supplies of goods or services or both originating from the state or union territory.

This aggregate value specifically excludes central tax, state tax, union territory tax, integrated tax, and cess.

d. Tax Payable on Such Inverted Rated Supply of Goods

This is the tax amount due on the specific inverted rated supply of goods, under the corresponding tax head (e.g., IGST, CGST, SGST).

In the illustration, this is 1400 × 5% = Rs. 70.

e. Relevant Period

This denotes the specific period for which the refund claim has been submitted.

Procedure for Claiming Refund of Unutilised ITC

a. Prerequisites for Claiming Refund of Unutilised ITC

To apply for a refund of accumulated ITC, taxpayers must have filed their GSTR-1 and GSTR-3B returns for the relevant tax period.

b. Form for Claiming Refund of Unutilised ITC

Form RFD-01 is the designated application to be filed for claiming a refund of unutilised ITC. This application is submitted through an online facility available on the GST Portal.

c. Time Limit for Filing

The RFD-01 form must be filed within two years from the end of the financial year in which the refund claim originates.

d. Step-by-Step Process to File Refund of Unutilised ITC

1. Submission: Complete and submit Form RFD-01 on the GST Portal. An Application Reference Number (ARN) will be generated upon successful submission.
2. Printing: Print the filed application and the Refund Application ARN Receipt, both accessible on the portal.
3. Documentation: Submit the printed documents along with all necessary supporting documentation to the appropriate jurisdictional authority.
4. Processing & Disbursal: A tax official will review the refund application. Once approved, the refund amount will be manually disbursed.
5. Nodal Officer Contact: If the jurisdictional authority for the state or center has not yet been assigned, taxpayers should contact the Nodal Officer of the corresponding state or center.

Tracking a Filed Refund Application

To monitor the status of filed refund applications:

• Download PDFs: Access and download PDFs of filed applications (ARNs) using the "My Saved / Submitted Applications" option under the "Refunds" section.
• Track Status: Track the current status of filed applications by selecting the "Track Application Status" option, also found under "Refunds".

Common Issues and Contentions

Several complexities can arise with the inverted duty structure:

• Input Correlation Difficulty: For manufacturing industries, there may be numerous inputs with varying tax rates. Some inputs might have a lower rate than the output, some the same rate, and others contributing to an inverted duty structure. This diversity makes it challenging to accurately correlate specific inputs with outputs, leading to potential inaccuracies in refund calculation.
• Scope of Net ITC: A key question is whether the refund of accumulated credit due to an inverted duty structure applies only to inputs with a GST rate higher than the output supplies, or to all inputs. The explanation accompanying the refund formula clarifies that "Net ITC" refers to the input tax credit availed on all inputs during the relevant period, excluding ITC claimed under sub-rules (4A) or (4B) or both. This wording implies that it does not specifically limit the ITC to only those inputs with a higher GST rate than output supplies. Therefore, for calculating the refund claim under an inverted duty structure, the entire credit available for inputs can generally be considered.