The Financial Express

Input tax credit under value-added tax system: Few unexplained issues

| Updated: January 12, 2021 21:28:09

Input tax credit under value-added tax system: Few unexplained issues

Value-added Tax (VAT) is the most widely used indirect tax system in the world. Under the system, input tax credit is admissible against output tax. This input credit system makes VAT system widely acceptable. Without input tax credit, there is a 'cascading' effect of taxes i.e. double taxation (VAT on VAT) occurs. Bangladesh follows a negative list approach in granting input tax credit. It means, input VAT credit will be given for all purchases/imports except items excluded from the definition of 'inputs'. Among others, input tax credit cannot be claimed for VAT paid on acquisitions related to the exempt or non-taxable supplies and on rental payments. In claiming input tax credit, the tax payer (claimant) will have to make sure that he is claiming tax on inputs. If an item is not 'input', tax paid on the item shall not be considered for input tax credit. Usually invoice is needed to take input tax credit. For VAT paid on import of services, treasury challan in support of deposit of VAT has to be there.

The input credit system as enshrined in Bangladesh VAT regime is quite generous. It allows input credit on goods used as inputs, services and fixed assets. Except the items specified in the negative list (S. 46), tax paid on other purchases seems eligible for input tax credit. The conditions to be complied with to get input credit are easy to observe. These conditions are: (1) Registration under VAT system; (2) Output VAT to be paid at standard rate (15.0 per cent) -- those who pay VAT at specific/fixed rate will not be eligible to get input tax credit; (3) Valid documents (e.g. VAT invoice; Bill of Entry).

However, there are few areas of input tax credit which require plausible explanations. As a trainer and an analyst of VAT, this scribe has seen lack of clarity, and differences of understanding about some issues of input tax credit. This article is an attempt to illustrate, with examples, the following critical issues of input tax credit that are open to interpretation:

n In the case of imported inputs, what is the relevant date to count the date of import for input credit purpose?

n Is there any situation when VAT paid on the goods or services are under the custody or possession of another person may be granted as 'input tax credit'?

n What is the explanation of not giving 'input tax credit' for VAT paid on passenger vehicles or the repair of such vehicles?

n What is meant by 'payment of consideration through channels other than banking channel'?

n Is there any ground for granting input tax credit for purchase of inputs on credit?

n In the case of change in total input price by more than 7.5 per cent, will the total additional input tax credit to be nullified or additional input tax in excess of 7.50 per cent increase to be cancelled?

n Will tax paid on promotion materials be eligible for input tax credit?

n Is it logical to require a withholding entity to have withholding certificate in possession for claiming input tax credit?

n Does Bangladesh VAT system allow input credit on fixed (depreciable capital) assets?

THE RELEVANT DATE TO COUNT THE DATE OF IMPORT FOR INPUT CREDIT PURPOSE: If input tax credit is not availed of within the time limit (tax period or within the next four tax periods), there will be no input tax credit. If inputs are imported and cleared through bill of entry (B/E), input tax credit has to be taken in the tax period or within the next four-- tax period from the date of import. In the current VAT regime, there is no express provision from which date to count the time. The four- tax period may be counted from the date of submission of B/E or date of release of goods or from the month of import. Although it is customary to count the period (for input tax credit purpose) from the date of release (printed on the bill of entry), a clarification from the regulator may help uniform application of law.

INPUT TAX CREDIT FOR VAT PAID ON THE GOODS OR SERVICES WHICH ARE UNDER THE CUSTODY OR POSSESSION OF ANOTHER PERSON:  The negative list of input tax credit as enshrined in Sec 46 contains a provision that VAT paid on goods or services under the possession or custody of another person is not to be granted as 'input tax credit'. This provision of law is a bit harsh and at times goes against the concept of business reality. An example may clear the issue. Say a motor vehicle importer imports 500 cars by taking loan from the bank. The bank maintains control on the cars. While lying at ICD port, 50 cars out of the 500 cars have been sold and directly delivered from the port premises. These 50 cars were sold by the importer while the cars were in port's custody/bank's control and were not in the importer's possession. According to the interpretation of section 46, input tax credit will not be granted for the 50 cars. Allowing input tax credit on the supply of the said 50 cars seems reasonable, provided the importer sells his cars by issuing VAT invoice (i.e. the input tax credit is claimed against output tax)  and the description  of the goods on VAT invoice and the B/E should be the same. 

In reality, it is customary for banks to issue delivery order (DO) allowing the importer to take out the imported goods from bank's possession to the importer's possession. In this case, input tax credit may be granted once the DO is issued. The time period may be counted from the date of issuance of DO for taking input credit.

INPUT TAX CREDIT ON VEHICLE: Input tax credit shall not be paid if the acquisition or import is a passenger vehicle. Tax incurred to buy its spare parts or for the repair and maintenance services of such vehicle is also not creditable. This is a plausible provision of the law that can be explained with an example. If a person buys a microbus and uses it for transportation of his or her family members that will be the final consumption; input credit on such vehicle will not be available. The final consumer is not eligible to get input tax credit. Similarly, if the vehicle is used to carry employees of the entity, it will be treated as a non-commercial use and as there will not be any 'consideration' to receive, this invalidate the reason for rebate. However, if vehicles are acquired for renting them out, then the owner earns consideration for providing services. As such input tax paid on such vehicles shall be creditable.

PAYMENT OF CONSIDERATION THROUGH CHANNELS OTHER THAN BANKING CHANNEL: The  provision of the VAT and SD Act 2012 states that if the value of taxable supply is more than Tk. 1.0 lakh and the full consideration is paid through means other than banking channel,  input tax credit  shall not be granted (46 1 a). This is an area of input tax credit that needs critical analysis. According to this provision of the law, if the full consideration of a supply is not paid through banking  channel and if the procuring entity  takes  input tax credit on such supply receipt, the input tax credit so taken shall have to be cancelled out by giving an 'increasing adjustment' in the Return of the same tax period. 

This provision of the VAT law creates confusion among practitioners. What is meant by 'banking channel' is not equally understood across the board. According to the Rule 2 (1) (dha) of the VAT & Rules 2016, 'bank account' means the account(s) maintained with bank by a registered or enlisted person which has been communicated to the commissioner (through Registration Application, Mushak-2.1) and which has been entered into the VAT computer systems by the Commissioner. According to this rules, banking channel appears to mean payment of total consideration for any taxable supplies received exceeding Tk. 1.0 lakh through the said bank account. However, the meaning of banking channel is not well explained by any Rules or NBR explanation. Moreover, if a portion of the total consideration is paid through banking channel and the remainder is paid through cash, then what will the explanation of the transaction with regard to input credit? There are varied opinions among stakeholders/practitioners.

For instance, in January, a VAT registered firm ABC Ltd. bought input of Tk 25.0 lakh (exclusive of VAT) and paid Tk. 15.0 lakh by bank cheque and the rest Tk. 10.0 lakh in cash. In this case, input tax credit will be applicable for the amount paid through banking channel i.e. on Tk. 15.0 lakh paid by cheque i.e. VAT of Tk. 225,000.

In the same vein, input tax credit is not applicable for the part of the consideration paid in cash. A reading of section Sec 46 and Rule 29 together gives this impression. Rule 29(2)(3) stipulates that  input tax credit will not be applicable for the amount paid in ways other than banking channel. If the entity takes credit for full amount of VAT for this input purchase, the VAT authority will cancel out the input credit by giving an increasing adjustment in the Return of January.  However, there is lack of clarity about the meaning 'Payment of consideration through banking channel'. The usual understanding of 'banking channel' signifies 'payment of money from the buyers designated bank account to the suppliers' bank account'. For uniform application of law, the following questions regarding 'payment through banking channel and input tax credit' seem relevant: Does it mean to pay by bank cheque, does it include purchase by credit card issued by other banks not stated to the concerned commissioner through VAT registration application? Does it also include pay order of scheduled banks? Is it mandatory that the cheque has to be issued by the bank enumerated in VAT registration form?

VAT ON RAW MATERIALS PURCHASED ON CREDIT: With regard to input tax credit, there are differences of opinion. Some say that input tax credit is not allowable on purchase on credit as the preamble of section 46 states: input tax which has been paid can be taken as input tax credit. As the consideration (that includes tax and tax has not been paid) against purchase remains outstanding, there is no scope to allow input tax credit. However, if the tax fraction of the consideration is paid, in that case input tax credit will be allowable. If input tax credit is not granted according to the aforesaid view, this may not be at the best interest of trade.  In this context, it may be argued that input tax credit may be plausibly granted on purchase on credit if Tax invoice (6.3) is issued; the reason being that issuance of tax invoice may be interpreted as a taxable event and it results in payment of tax. The registered person will have to deposit tax to the exchequer against the invoices/supplies for each tax period. For imported goods, the VAT authority requires bill of entry. They also check if the goods are entered in the purchase book (6.1) within the time limit. 

INPUT TAX CREDIT IN THE CASE OF CHANGE IN TOTAL INPUT PRICE BY MORE THAN 7.50 PER CENT : It is the provision of law that the registered person has to file a new input-output (I-O) coefficient declaration if the total prices of input/raw material changes by more than 7.50 per cent. But if the change in total price changes by more than 7.50 per cent (Section 46 (1) (dha) say by 9.0 per cent and the registered persons fail to submit revised I-O coefficient form, VAT authority is entitled to cancel the  input tax credit. With regard to this provision of law, officials and practitioners hold different views. Some officials opine that the total input tax credit (input tax on 9.0 per cent change) is to be nullified while another section of officials think that the input tax on the price change in excess of 7.5 per cent should be cancelled.  A close examination of the law indicates that the full amount of input tax on the total change in price (i.e. in this case on the value which constitutes 9.0 per cent changes) is liable to be cancelled because the registered person did not comply with the legal requirement of submission of the revised I-O coefficient.

VAT ON PROMOTION MATERIALS: There are divergences of opinions regarding input tax credit on promotion materials. Usually, input tax credit is allowed on inputs or services which are used in the production process (including  packaging) e.g., raw materials, any materials used as fuel, service such as electricity, laboratory reagent etc. As promotion materials (e.g. gifts, foreign trip as promotional schemes/ brand reminders) are distributed free of charge, these do not qualify as taxable supplies and must therefore be regarded as non-taxable supplies. And VAT incurred to make such a non-taxable supply (having no consideration) does not seem eligible for input tax credits.  In order to claim input VAT credits, the expense must relate to deriving taxable revenue which is subject to VAT. For example, if a departmental store provides a pen or key ring with each branded shirt as a promotion material, the VAT paid on purchase of the pen should not be considered for 'input tax credit'. Moreover, as the promotion material (here pen) is a different item from the supplied item (shirt), there is no scope to declare the materials used to produce the promotion material in Mushak-4.3. In this respect, it is pertinent to mention the recent order by the Maharashtra Authority for Advance Ruling (AAR), India that states: 'Input Tax Credit (ITC) will not be available on the Goods and Services Tax (GST) paid on expenses incurred towards promotional schemes' (The Hindu Business Line, July 03, 2019). 

However, there are situations where tax on promotion materials may be considered for input tax credit. For example, if a garment trader makes offer such as 'buy one (shirt) get one free' sale, VAT paid on inputs used to produce two shirts may be given as 'input tax credit' against output VAT payable on the sale of a shirt (because in this situation, inputs for two shirts have been used and two shirts have been supplied against price of one shirt).

WITHHOLDING CERTIFICATE FOR INPUT TAX CREDIT: Section 46 requires a person to have integrated tax invoice and withholding certificate in possession in order to have input tax credit granted. If any withholding entity makes any purchase, there is a compulsion of law for the buyer (withholding entity) to deduct tax at source. Therefore, requiring a withholding entity to have withholding certificate in possession to claim input tax credit seems logical. This provision aims at enforcement of deduction at source. However, it seems to be a printing error in S. 46(3) (ga) to require a registered person to have an integrated invoice in possession. This is because the concept of 'integrated tax invoice' is no more in our current VAT law.

BANGLADESH VAT SYSTEM AND INPUT TAX CREDIT ON FIXED ASSETS: An analysis of the definition of 'input' gives the impression that the VAT & SD Act, 2012 allows input tax credit on fixed assets except office equipment and fixture. It is logical to infer that full input tax credit recovery is available if the asset is fully used for taxable activity/creditable purpose. For purchases or imports of capital goods, which are depreciable assets for income tax purposes, usually input tax credit is divided over the life of the asset or over a certain period of time. For example, in the Philippines, if the estimated useful life of a capital good is five (5) years or more, the input tax shall be spread evenly over a period of sixty (60) months. Where the aggregate acquisition cost (exclusive of VAT) of the depreciable capital goods purchased or imported during any calendar month does not exceed a specified amount (say Tk. 10 lakh), the total input taxes will be allowable as credit against output tax in the month of acquisition (Revenue Regulations No. 13-2018, Bureau of Internal Revenue, Quezon City, The Philippines). The claim for input tax credit will commence in the calendar month when the capital good is acquired. Bangladesh tax regulation may include such explicit provision for input tax credit on fixed assets.

COMMON GROUNDS FOR DENIAL OF INPUT TAX RECOVERY: Often, registered taxpayers are denied of input tax credit for different reasons. These are:  improper tax invoice, lack of serial number in the invoice, non-entry of purchase of inputs in Mushak-6.1, absence of BIN number in the invoice, lack of proper document such as failure to produce bill of entry with importers name and in support of the VAT payment on imports. If name, address and registration number of both the buyer and the seller are not mentioned in the tax invoice, input tax credit may not be approved.

Input tax credit may also be nullified by the authority if the name of the input stated in the import bill of entry is not specifically mentioned in the input-output coefficient. For example, if "other input" is stated in the input-output coefficient declaration instead of the specific name, then the input tax credit may be denied by the authority.

To conclude, the definition of 'input' also includes service. As such, VAT paid on services (used in production of goods) should be claimable as 'input tax credit' subject to declaration in the input-output coefficient. For service providers, input-output declaration is not necessary. However, limitation may be imposed in allowing input tax credit on services depending on the use of services. If any service is not at all linked with the production process of goods, input tax credit on such services may be barred. In case, any service is used for both manufacturing of goods and personal consumption, input tax on such service may be constrained or partially allowed. For instance, 80.0 per cent of VAT paid on electricity and 'transport contractor'/transport service has been made eligible for input tax credit in the VAT rule.

Dr Mohammad Abu Yusuf is a VAT trainer and analyst.

[email protected]

Share if you like