GST Duty Inversion Relief in India: Input-Output Tax Gaps Persist as Industry Concern Amid Reforms

Why in News

The 56th GST Council meeting has introduced significant rate reductions on inputs in key sectors like textiles and fertilizers, easing the inverted duty structure where input taxes exceed output taxes. However, persistent wide gaps between these rates continue to raise concerns among industries, primarily due to delays in input tax credit refunds and resulting working capital blockages, prompting calls for faster processing mechanisms.

Key Points

1. The GST Council has shifted to a simplified two-slab structure of 5 per cent and 18 per cent, eliminating the 12 per cent and 28 per cent slabs to streamline taxation and address distortions.
2. In the textile sector, GST on manmade fibre has been reduced from 18 per cent to 5 per cent, and on manmade yarn from 12 per cent to 5 per cent, correcting inversion but potentially deepening it in some cases.
3. For fertilizers, input taxes on sulphuric acid, nitric acid, and ammonia have been slashed from 18 per cent to 5 per cent, aiming to lower production costs which currently stand at an average of Rs 20,000-25,000 per tonne for key fertilizers like DAP.
4. A new mechanism for expedited refunds under the inverted duty structure will take effect from November 1, 2025, targeting delays that currently exceed 60 days in over 40 per cent of claims.
5. Despite relief, industries report that the input-output gap remains as high as 13 per cent in sectors like bicycles and apparel in Punjab, leading to annual refund claims worth Rs 5,000-7,000 crore being stuck.
6. The reforms are projected to provide a fiscal stimulus of 0.6-0.7 per cent of GDP, but may result in a revenue loss of Rs 1-1.5 lakh crore for the government in FY26, offset by boosted consumption.
7. Exporters and MSMEs are particularly affected, with over 70 per cent of textile units facing working capital issues due to ITC accumulation estimated at Rs 10,000 crore annually.
8. The changes apply from September 22, 2025, with provisions for handling inventory transitions and MRP adjustments to pass on benefits to consumers.
9. Tax experts caution that while the two-tier system boosts compliance, unresolved inversions could lead to a 3-5 per cent rise in prices for items like health insurance policies due to lost input credits.
10. Overall, GST collections have grown to Rs 1.75 lakh crore monthly in FY25, up 10 per cent year-on-year, but industry bodies like FICCI urge further fixes to fully eliminate inversions.

Explained

Political and Economic Context

The GST reforms come at a critical juncture amid global trade tensions, including potential US tariffs of up to 50 per cent on Indian goods, which could impact exports worth $50 billion annually. By correcting duty inversions, the government aims to enhance domestic manufacturing competitiveness and align with the Atmanirbhar Bharat initiative, reducing reliance on imports that constitute 15-20 per cent of inputs in sectors like textiles. Economically, with India's GDP growth projected at 6.5-7 per cent for FY26 by RBI estimates, these changes are designed to stimulate consumption, lower inflation (currently at 4.5 per cent), and support MSMEs that contribute 30 per cent to GDP but face cash flow strains from refund delays averaging 90 days.

GST Background

The Goods and Services Tax (GST), implemented on July 1, 2017, replaced multiple indirect taxes like VAT, excise, and service tax to create a unified national market. It operates on a multi-stage value addition principle with input tax credit (ITC) allowing businesses to offset taxes paid on inputs against output liabilities. Inverted duty structure (IDS) occurs when GST on inputs (e.g., 18 per cent) exceeds that on outputs (e.g., 5 per cent), leading to refund claims under Section 54 of the CGST Act. Historically, IDS affected 20-25 per cent of GST-registered entities, with refunds totaling Rs 2.5 lakh crore in FY24, but processing delays have blocked Rs 50,000 crore in working capital. The original four-slab system (5 per cent, 12 per cent, 18 per cent, 28 per cent) aimed at progressive taxation but created distortions; the new two-slab model simplifies this, covering 80 per cent of goods under 18 per cent.

Recent Reforms in GST

The 56th GST Council meeting on September 3, 2025, chaired by Finance Minister Nirmala Sitharaman, approved the transition to a two-tier slab of 5 per cent for essentials and 18 per cent for others, effective September 22, 2025. Key corrections include textile inputs dropping to 5 per cent, benefiting an industry exporting $40 billion annually, and fertilizer inputs aligning with output rates to support agriculture contributing 18 per cent to GDP. A 40 per cent compensation cess on luxury goods remains, but the focus is on refund automation via a new portal to reduce delays from 60-120 days. These changes follow recommendations from a Group of Ministers, addressing long-standing demands since GST's inception, with over 1,500 rate adjustments made till date.

Impact on Key Sectors

In textiles, employing 45 million people, the rate cuts on fibres and yarns are expected to lower costs by 10-15 per cent, boosting exports amid a global market of $900 billion, but residual inversions may still lock Rs 2,000 crore in ITC. The fertilizer sector, with annual production of 55 million tonnes, benefits from input reductions, potentially cutting farmer costs by Rs 5,000 per hectare, though a 13 per cent gap persists in some chemicals. Hospitality faces mixed outcomes: GST on hotels under Rs 7,500 reduced to 5 per cent without ITC, aiding tourism (8 per cent of GDP) but raising operational costs by 3 per cent due to credit losses. Overall, sectors like construction see material price drops stimulating a Rs 12 lakh crore industry.

Ongoing Challenges

Despite easing, IDS gaps lead to refund delays, with 30 per cent of claims pending beyond statutory limits, affecting liquidity for 60 lakh MSMEs. In Punjab's bicycle industry, producing 15 million units yearly, inversions cause annual losses of Rs 500 crore. Solutions include faster scrutiny by principal commissioners and inventory adjustments, but experts warn of potential price hikes in insurance (premiums up 3-5 per cent) and restaurants due to blocked credits. Compliance has improved, with evasion dropping to 2.5 per cent of collections, but full inversion elimination requires further slab rationalization.

Strategic Importance

These reforms bolster India's tax ecosystem, aiming for a revenue-neutral rate of 15 per cent by 2030, supporting Viksit Bharat goals. By promoting self-reliance, they counter import dependencies (e.g., 60 per cent of manmade fibres imported) and enhance global competitiveness, with GST contributing 6.5 per cent to GDP. Internationally, aligning with WTO norms on non-discriminatory taxes, the changes aid in trade deals like the India-EU FTA. For industries, resolving gaps could unlock Rs 1 lakh crore in capital, fostering 7 per cent revenue growth for India Inc as per CRISIL estimates, while ensuring equitable growth amid urbanization and digital economy shifts.

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