Navigating the world of Goods and Services Tax (GST) can feel like learning a new language. Terms like Input Tax Credit (ITC), outward supply, and inward supply are thrown around, leaving many business owners confused about what they actually owe to the government every month.
Let’s break down these concepts with a simple example to see how it all comes together in your monthly GST filing.
The Core Concepts: What Do These Terms Mean?
1. Sales Value (Outward Supply):
This is the total value of the goods or services you sell to your customers. It’s also known as your “taxable turnover.” The GST you charge your customers on these sales is called Outward GSTor Output GST. You collect this tax from your customers.
2. Purchase Value (Inward Supply):
This is the total value of the goods or services you buy for your business. This could be raw materials, office supplies, or professional services. When you purchase these, you pay GST to your supplier. This GST is called Inward GSTor Input GST.
3. Input Tax Credit (ITC):
This is the heart of GST and the key to avoiding the dreaded “tax on tax.” ITC is the mechanism that allows you to reduce the GST you owe to the governmentby the amount of GST you have already paid on your business purchases.
In simple terms:
- You collect GST from your customers (Output GST).
- You have already paid GST to your suppliers (Input GST).
- ITC allows you to deduct the Input GST from the Output GST.
The Monthly Tax Calculation: To Pay or Not to Pay?
At the end of each month (or quarter, depending on your scheme), you must file a GST return. The central question is: will you need to pay tax, or will you get a refund?
The formula for your monthly GST liability is straightforward:
GST to be Paid = Output GST (on Sales) – Input GST (on Purchases)
A Practical Example: The Story of “Stitch & Style”
Let’s follow a small garment manufacturer, “Stitch & Style,” for the month of April.
Step 1: The Purchases (Inward Supply)
- Stitch & Style buys fabric, thread, and other materials worth ₹1,00,000.
- The GST on this purchase is 5%, so they pay ₹5,000 as GST to their supplier.
- This ₹5,000 is their Input GST (ITC).
Step 2: The Sales (Outward Supply)
- Stitch & Style manufactures beautiful dresses and sells them to retailers for ₹2,00,000.
- They charge a GST of 5% on the sale, which is ₹10,000.
- This ₹10,000 is their Output GST.
Step 3: The Monthly Filing and Tax Calculation
Now, it’s time to file the GST return for April. Stitch & Style calculates their tax payable:
Output GST: ₹10,000
Input GST (ITC): ₹5,000
GST to be Paid = ₹10,000 – ₹5,000 = ₹5,000
Conclusion: Stitch & Style must pay ₹5,000 to the government for the month of April.
Scenarios: What If the Numbers Were Different?
The power of ITC becomes even clearer when we look at different situations:
Scenario A: High Sales, Low Purchases
- Output GST: ₹15,000
- Input GST: ₹4,000
- GST to Pay = ₹11,000
- Verdict: You have a tax liability to pay.
Scenario B: Low Sales, High Purchases (e.g., during a stock-building phase)
- Output GST: ₹6,000
- Input GST: ₹12,000
- GST to Pay = ₹6,000 – ₹12,000 = -₹6,000
- Verdict: You have an excess ITC of ₹6,000. This amount will be carried forward to your next month’s return, where you can use it to reduce your future tax liability. In some cases, you can even claim it as a refund.
Scenario C: Sales and Purchases are Equal
- Output GST: ₹10,000
- Input GST: ₹10,000
- GST to Pay = ₹0
- Verdict: No tax to pay. The GST you collected from customers is entirely used up by the ITC from your purchases.
Key Takeaway
GST is ultimately a tax on the value you add. As a business, you are essentially a tax collector for the government on the value of your sales, but you are credited for the tax you’ve paid on your inputs.
Remember:
- You collect tax when you sell.
- You pay tax when you buy.
- ITC is your discount—you simply subtract the tax you paid (on purchases) from the tax you collected (on sales).
You only pay the government the difference.
If you collected more than you paid, you pay the balance. If you paid more than you collected, you carry the credit forward. It’s that simple
Conclusion:
In the end, understanding Input Tax Credit (ITC) isn’t just about tax compliance—it’s a powerful tool for financial management. The journey from your purchases to your sales culminates in a simple monthly calculation: the GST you collect minus the GST you’ve already paid.
As we saw with “Stitch & Style,” you only pay tax to the government on the value your business adds. This system ensures transparency and prevents the cascading effect of tax-on-tax, ultimately benefiting the entire supply chain.