1. Why a reversal arises
A registered person who makes both taxable and exempt supplies often uses the same inputs and services for both: rent, power, professional fees, a shared office. GST allows credit only to the extent that inputs are used for taxable supplies, including zero-rated supplies. The credit on such common items is therefore apportioned, and the share attributable to exempt supplies and non-business use is reversed.
Rule 42 of the CGST Rules, 2017 sets out this apportionment for inputs and input services. Rule 43 does the same for capital goods. Both work monthly, and Rule 42 adds a final computation for the financial year.
2. Legal basis
The restriction comes from section 17(2) of the CGST Act, 2017:
“Where the goods or services or both are used by the registered person partly for effecting taxable supplies including zero-rated supplies under this Act or under the Integrated Goods and Services Tax Act and partly for effecting exempt supplies under the said Acts, the amount of credit shall be restricted to so much of the input tax as is attributable to the said taxable supplies including zero-rated supplies.”
Section 17(1) applies the same principle to use for non-business purposes. Credit blocked under section 17(5) is not available at all and is kept outside the common pool.
3. Monthly computation under Rule 42
The rule uses a set of defined amounts. The common credit (C2) is the only part that is apportioned.
| SYMBOL | MEANING |
|---|---|
| T | Total input tax on inputs and input services in the tax period |
| T1 | Input tax on items used exclusively for non-business purposes |
| T2 | Input tax on items used exclusively for exempt supplies |
| T3 | Input tax blocked under section 17(5) |
| C1 | T – (T1 + T2 + T3), credit credited to the electronic credit ledger |
| T4 | Input tax on items used exclusively for taxable supplies |
| C2 | C1 – T4, the common credit |
| D1 | (E ÷ F) × C2, the share attributable to exempt supplies |
| D2 | 5% of C2, the share attributable to non-business use, where common items are also used for it |
| C3 | C2 – (D1 + D2), the common credit that remains eligible |
E is the value of exempt supplies and F the total turnover in the State during the tax period. Where the registered person has no turnover in the period, the values for the last period in which there was turnover are used.
4. Worked numerical example
A Lucknow healthcare group operates a registered pharmacy (taxable) alongside diagnostic and clinical services (exempt). For a representative monthly tax period, it records the following transactions:
| ITEM | AMOUNT (₹) | NOTES |
|---|---|---|
| Total input tax for the period (T) | 10,00,000 | All inward invoices |
| Non-business use (T1) | 50,000 | Trustees' guest house |
| Exempt services only (T2) | 2,50,000 | Surgical consumables |
| Blocked credit under 17(5) (T3) | 1,00,000 | Staff motor vehicles |
| Credit credited to ledger (C1) | 6,00,000 | T – (T1 + T2 + T3) |
| Taxable supplies only (T4) | 3,00,000 | Medicines for OTC retail |
| Common credit pool (C2) | 3,00,000 | C1 – T4 (Rent, audit, security) |
| Exempt turnover ratio (E ÷ F) | 40.0% | ₹40L exempt / ₹100L total |
| Reversal amount (D1) | 1,20,000 | 40% of ₹3,00,000 (GSTR-3B Table 4B) |
| Eligible common credit (C3) | 1,80,000 | Retained in electronic credit ledger |
5. Annual true-up
The monthly reversal is an estimate based on each month's ratio. Before filing the return for September of the following financial year (or the annual return), the registered person must recompute the entire year using full-year turnover.
If the final annual reversal exceeds monthly reversals already made, the difference is added to output tax liability with interest. If the final amount is lower, the excess can be reclaimed as credit before the cut-off date.
6. Capital goods: Rule 43
Rule 43 applies to plant, machinery, furniture and buildings used for both taxable and exempt lines. The statutory life is presumed to be 60 months from the invoice date. The common credit is divided by 60 to determine a monthly credit amount (Tm), and the exempt proportion is reversed every month until the end of the 60-month lifecycle.
7. Practical points and common audit queries
- Interest on short reversal: Interest under section 50 runs from 1 April of the following year until payment if the annual true-up reveals a shortfall.
- Reconciliation with financial accounts: Statutory auditors reconcile turnover reported in GSTR-1 with audited P&L turnover to ensure exempt turnover is not understated.
- Excluded values: Transactions in securities, sale of land, and completed buildings are included in exempt turnover solely for reversal calculations per Explanation to Chapter V.
1. Central Goods and Services Tax Act, 2017, Sections 17(1), 17(2), and 17(5).
2. Central Goods and Services Tax Rules, 2017, Rules 42 and 43.