Purchases from unregistered suppliers: When reverse charge can apply

According to GST, usually the buyer does not worry about the tax being paid by the seller if the seller is an unregistered entity. However, there are situations where the burden of tax falls on your shoulders through the reverse charge mechanism (RCM).

This comprehensive guide will help you understand the rules for purchases made from unregistered suppliers and make sure that you are completely compliant with CBIC guidelines without incurring any additional tax liability or fines. You will learn when to use RCM for unregistered purchases, what kind of goods and services come under RCM, self-invoicing, and ITC.

When does the reverse charge apply to purchases from unregistered suppliers?

Under a normal GST transaction, the supplier pays GST to the government from the buyer. However, under the reverse charge mechanism (RCM), the whole responsibility rests with the recipient (buyer). The rule in the early years of GST, when GST was introduced in 2017, was that Section 9(4) of CGST Act would state that any purchase from an unregistered supplier would attract RCM for the registered person making the purchase.

However, today, the situation has become quite clear regarding that particular rule. The amendment to Section 9(4) clearly defined the RCM to be applicable to certain registered persons and specified goods or services.

Key scenarios where RCM applies to unregistered supplies

Goods notified in section 9(3): There are certain goods whose supply attracts GST irrespective of whether the vendor supplying the goods is registered or not. These include raw cotton, unshelled cashew nuts, tobacco leaves, and bidis when supplied directly from an agriculturist.
Services notified in section 9(3): GST on the notified services of unregistered service providers including legal services from an advocate, sponsorship services, or GTA services have to be paid by the recipient under RCM.
Real estate promoters/developers under section 9(4): The builders need to buy at least 80% of their inputs and input services from the registered suppliers. Below 80% purchases from registered suppliers, the promoter/developer will pay 18% of GST on the unregistered suppliers’ amount under RCM. Cement purchased from unregistered suppliers attracts 28% of GST under RCM.
Commercial property renting: In case of renting a commercial property by a registered business from an unregistered person, it comes under RCM through recent notifications

‍Suggested Read: Exemption from Reverse Charge

How to determine whether RCM is applicable

Whether RCM is applicable for a purchase from an unregistered supplier may be determined using the following quick checklist:

Step 1: Establish supplier's registration: Does the supplier have no registration under GST?

Step 2: Review the notifications: Is the item purchased covered under Section 9(3) or Section 9(4) notifications?

Step 3: Confirm recipient's classification: Are you a registered recipient, real estate developer, or specified recipient?

Step 4: Check specific exceptions: Does the supply have a specific exception by CBIC notifications?‍

GST compliance when RCM applies

In case you purchase any goods/services, which are covered under reverse charge mechanism, then you will have to undertake all the tax compliance obligations which are normally done by suppliers.

1. Compulsory self-billing

As per section 31(3)(f) of the CGST Act, when you receive taxable supply from an unregistered person through reverse charge mechanism, you have to issue a self-bill. Since the unregistered supplier can't issue the tax bill, the self-bill will serve as the audit purpose and claim of ITC. In addition, you have to issue the payment voucher while making the payment to the vendor.

2. Payment of tax from cash ledger

The tax payable under reverse charge will be settled using your Electronic Cash Ledger only. The existing balance in your Input Tax Credit cannot be used to pay your RCM liability.

3. Reporting RCM in GST return

You have to report your RCM purchases in your monthly or quarterly GST returns:

GSTR-3B: Mention taxable value and your RCM liability in Table 3.1(d).
GSTR-1: Mention self-invoices where necessary.

4. ITC on reverse charge mechanism (RCM)

Once you have paid the amount under RCM in cash, you are eligible to claim that precise tax amount as ITC in that or subsequent tax period if the purchase is made for business purpose and not blocked under Section 17(5).

‍Suggested Read: List of RCM Under GST

Conclusion

It is important to know how to deal with purchases from unregistered suppliers to ensure that there is no problem in maintaining a proper GST record keeping. Even though general purchases from unregistered sellers do not attract any liability for RCM, some special notified goods, services, commercial leases, and industry-specific provisions are there that would make you liable for payment of tax by the recipients.

Self-billing, RCM payment through cash ledger, and ITC claim would allow you to deal with such situations without any audit issues.

FAQs

1. Is it necessary that every purchase from an unregistered person will be subjected to RCM?

Not all purchases from unregistered suppliers are subject to RCM. Normally, purchases of goods or services from unregistered persons are not liable to RCM unless notified under section 9(3) or section 9(4) of the CGST Act.

2. What kind of purchase is liable to reverse charge?

Reverse Charges will cover notified goods (for example, cashew nuts, raw cotton or tobacco leaves from agriculturists) or notified services (for example, legal advice by advocates, sponsorship or commercial rent). Real estate promoter purchases are also notified under reverse charge mechanism.

3. Is ITC possible on tax charged under RCM?

Yes, you can claim ITC on tax charged under RCM. Once you have discharged your liability in cash using your ECL, you can claim the ITC in your GSTR-3B return, subject to the condition that the purchase is for business use.

4. Is self-invoice necessary under RCM?

Yes, a self-invoice is mandatory as per Section 31(3)(f) of the CGST Act when you purchase something from an unregistered vendor under RCM. As the supplier cannot issue a GST invoice, self-invoice is needed to record your tax liability.

5. How do businesses know about RCM?

Businesses can check whether they need to apply RCM in their transactions by verifying Section 9(3) and Section 9(4) notifications available on the CBIC website.

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