TaxTMI 
TaxTMI 
TaxTMI 
Introduction
The 56th meeting of the GST Council (3rd September 2025) marks a significant turning point for GST rate structures and Input Tax Credit (ITC) Law, impacting various sectors and everyday business compliance. This article distills scenario-based ITC implications arising from these changes, with a concise reference to the relevant statutory provisions.
Legal Foundations for ITC Reversal
Exempt Supply
As per section 2(47) of the CGST Act, “exempt supply” means supply of any goods or services or both which attracts nil rate of tax or which may be wholly exempt from tax under section 11, or under section 6 of the Integrated Goods and Services Tax Act, and includes non-taxable supply.
Section 18(4) of the CGST Act, 2017
Where any registered person who has availed of input tax credit opts to pay tax under section 10 or, where the goods or services or both supplied by him become wholly exempt, he shall pay an amount, by way of debit in the electronic credit ledger or electronic cash ledger, equivalent to the credit of input tax in respect of inputs held in stock and inputs contained in semi-finished or finished goods held in stock and on capital goods, reduced by such percentage points as may be prescribed, on the day immediately preceding the date of exercising of such option or, as the case may be, the date of such exemption:
Provided that after payment of such amount, the balance of input tax credit, if any, lying in his electronic credit ledger shall lapse.
Rule 44 of the CGST Rules
Rule 44 prescribes the mechanism for reversal of credit of input tax in respect of inputs held in stock and inputs contained in semi-finished or finished goods held in stock and on capital goods. ITC attributable to remaining useful life (standard five years, calculated at 5% per quarter or part thereof) must be reversed in such cases.
Scenario-wise ITC Impact
1. Goods Moving from Taxable to Exempt
All input tax credit in respect of inputs held in stock and inputs contained in semi-finished or finished goods held in stock and on capital goods as of the exemption date must be reversed in the September GSTR-3B return.
For capital goods, proportionate reversal applies based on remaining useful life.
2. GST Rate Reduction – Goods Remain Taxable
When the rate is reduced (e.g., 18% to 5%), but the supply remains taxable, ITC already availed and held on stock remains fully utilizable. Section 18(4) is not triggered unless supply is wholly exempt. No reversal is needed. Business cashflow is protected, though reduced output tax may affect margins.
3. Compensation Cess Removal
View 1: As the GST Council deletes compensation cess on certain categories like cars, the cess component of ITC for unsold stock as of the implementation date may have to be reversed, since the goods become 'cess exempt'. Cess ITC can never be used to pay off base GST liability—it is ring-fenced for compensation cess. Sectors impacted, especially relevant for automotives and carbonated beverages.
View 2: As per section 2(47) of the CGST Act, “exempt supply” means supply of any goods or services or both which attracts nil rate of tax or which may be wholly exempt from tax.
But section 18(4) uses the words, ‘where the goods or services or both supplied by registered person become wholly exempt, he shall pay an amount…………’
Now, there may be a possible interpretation that the goods wholly exempt from tax does not include goods liable to Nil rate of tax as the definition of exempt supply refers to these to two separately.
Thus, although the Cess may not be utilised but there is no requirement to reverse the Cess credit immediately.
4. Services – Rate Reduction with ITC Denial
For services changing from a higher rate with ITC eligibility (e.g., 12%) to a lower rate with no ITC eligibility, all ITC taken previously must be reversed as per section 18(4) read with Rule 44.
Practical Compliance Steps
- Conduct a product-wise inventory review before the change.
- Calculate and segregate ITC for different product and rate categories.
- Prepare and maintain robust reversal calculations (including Rule 44 workings for capital goods).
- Reflect reversals in September’s GSTR-3B and maintain supporting records for audit readiness.
Conclusion
The legal and procedural shifts from the 56th GST Council Meeting require businesses to scrutinize their ITC positions and align with statutory obligations. Although the Cess may not be utilised but there is no requirement to reverse the Cess credit immediately. In my view, since there is no clarity on reversal of unutilised Compensation Cess. It is better to not to reverse the same as no interest can be charged since not utilised. Further, the Government may come out with some clarification or relaxation scheme in future.