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September 2, 2025

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Unveiling GST Rule 86B on ITC Restrictions

GST Rule 86B Explained: Key ITC Restrictions for Businesses

The Goods and Services Tax (GST) system was introduced in India with the idea of “One Nation, One Tax”. The Input Tax Credit (ITC) is one of its main features. ITC allows businesses to reduce their tax liability. They can claim credit for the tax already paid on purchases.

Over Time, authorities noticed misuse of ITC. Fake invoices and fraudulent claims become common. To control this the government introduced GST Rule 86B in the GST framework. This rule places a restriction on how much ITC can be used by certain taxpayers.

What is Rule 86B?

Rule 86B was introduced under the Central Goods and Services Tax (CGST) Rules. It became effective from 1st January 2021. It says that certain businesses cannot use their entire input tax credit to pay GST liability. At least 1% of the GST liability must be paid in cash through the electronic cash ledger. In simple words, even if a business has enough ITC to cover its full tax liability, it cannot use it completely. A small portion must be paid in cash.

Applicability of Rule 86B

Rule 86B does not apply to all taxpayers. It applies only in specific cases.

1. The rule applies when the taxable turnover in a month is more than ₹50 lakh.

2. “Turnover” here means outward taxable supplies. Exempt supplies or zero-rated supplies like exports are not included.

So if a business has a taxable sales of over ₹50 lakh in a month, the Rule 86B applies. At least 1% of the GST liability must be paid in cash.

Example to Understand Rule 86B

Suppose a company has a GST liability of ₹20,00,000 in January.

1. The company also has an ITC balance of ₹25,00,000.

2. Normally the company would use ITC to pay the full liability of ₹20,00,000.

3. But due to Rule 86B, only up to 99% can be paid using ITC. That means ₹19,80,000.

4. The remaining ₹20,000 (1%) must be paid in cash.

This ensures that some part of the tax is always deposited in cash.

Exceptions to Rule 86B

Rule 86B does not apply to everyone. The government has given several exceptions to protect genuine taxpayers. Rule 86B will not apply in the following cases:

1. Income Tax Paid in Past Two Years

If the registered person or the proprietor, partner or director has paid income tax of ₹1 lakh or more in each of the last two financial years.

2. Refunds on Exports or Inverted Duty Structure

If the business has received GST refunds of more than ₹1 lakh in the last financial year due to exports or an inverted duty structure.

3. Government Departments and Public Sector Units

If the taxpayer is a Central or State Government department, local authority, statutory body or a public sector undertaking (PSU).

4. High Cash Payment in the Previous Year

If the taxpayer has already paid more than 1% of the total GST liability in cash in the last financial year.

Why Was Rule 86B Introduced?

The government brought Rule 86B mainly to prevent fraud. Many businesses were found claiming ITC using fake invoices. Goods or services were not actually supplied. This led to heavy revenue loss. By making at least 1% payment in cash, the government ensures:

1. Some real money always flows into the treasury.

2. Fraudsters cannot run their operations easily.

3. The GST system remains more transparent.

Impact of Rule 86B on Businesses

For genuine taxpayers, Rule 86B may cause some inconvenience. But the burden is not heavy. Many genuine businesses qualify for exceptions. Others can manage a 1% cash payment easily. For businesses with low profit margins and high dependency on ITC, this rule means a small increase in cash outflow.

Positive Impacts

1. Reduces fake ITC claims.

2. Improves trust in GST compliance.

3. Ensures minimum cash contribution to government revenue.

Negative Impacts

1. Slight cash flow burden on genuine businesses.

2. More checks and planning are needed by accountants and tax teams.

Also Read: GST Taxability on Employees' Personal Use of Business Assets.

Points to Remember

Here are a few things you should keep in mind about Rule 86B under GST:

1. Rule 86B applies when the monthly taxable turnover is above ₹50 lakh.

2. ITC can be used for only 99% of the GST liability.

3. At least 1% must be paid in cash.

4. Several exceptions protect genuine taxpayers.

5. Rule 86B was introduced to stop fake ITC and fraud.

Criticism of Rule 86B

While Rule 86B was introduced to stop fraud, many experts feel it also creates confusion and adds burden for honest taxpayers.

1. Pointless for genuine businesses - Paying 1% in cash is easy for most compliant taxpayers, so the restriction feels unnecessary.

2. Cash flow issues - For businesses with thin margins, even a small cash outflow can affect working capital.

3. Not a complete solution - Fraudsters can still find ways around the rule, like keeping turnover below ₹50 lakh.

4. Legal doubts - Courts and tax experts have questioned whether the government even has the power to block ITC when it is a taxpayer's rightful credit.

Because of these issues, Rule 86B is often seen as both interesting and necessary for catching fraud. But also unfair or impractical for genuine taxpayers.

Conclusion

Rule 86B was brought in to reduce the misuse of Input Tax Credit and to ensure that some part of GST is paid in cash. It mainly aims to stop fake invoicing and improve compliance. For regular taxpayers, the effect is small because of the exceptions. Though some may still see it as an extra step. The rule does not increase tax but it changes the way part of it has to be paid.

FAQs

1. Does Rule 86B apply to all taxpayers?

No. Rule 86B is not for every taxpayer. It applies only to those whose monthly taxable turnover is above ₹50 lakh. Small businesses and medium taxpayers below this limit are not covered under this rule.

2. Can a taxpayer with a ₹60 lakh turnover in a month still use the full ITC?

No. In such cases, the taxpayer cannot use ITC to pay the entire GST liability. They can use ITC for up to 99% of the tax amount. At least 1% of the liability has to be paid in cash. However, if the taxpayer falls under the given exceptions (like if they have paid income tax above ₹1 lakh in the last two years, or a government department, PSU, etc.), then this cash restriction will not apply.

3. Does this rule affect exports?

No. Rule 86B does not apply in the case of exports or supplies under an inverted duty structure where a refund of ITC is available. This means exporters and businesses in such cases can continue using ITC without restriction.

4. Does Rule 86B increase the tax liability of businesses?

No. The overall GST liability of a business does not increase because of this rule. What changes is only the method of payment. A small portion of tax has to be paid in cash, while the rest can still be adjusted through Input Tax Credit.

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