GST and Foreign Trade Policy : Effect on exemptions and incentive scrips - Part 1

GST will be rolled out sometime during April to October 2017. This would be single most radical reform of last decade. While the GST model law has been published, further procedures are being worked out in various committees formed for specific purposes. This post (and a couple more in continuation) would analyse, in a preliminary way, as to how the GST might impact Foreign Trade Policy (FTP) and the schemes therein, and some analysis based on the information available at this time.

{A small video on the topic is also available at the link below:

You may watch and leave your suggestions/comments}

Assuming that the reader is aware of FTP schemes and basics of GST as outlined in the GST model law, I would proceed. 

Currently, the duties levied at the border by customs are as follows:

Total duty = Basic Customs Duty (BCD) + Additional duty of Customs (ADC, colloquially called CVD) + various cesses + Special Additional Duty (SAD, at 4%, to offset state taxes, refundable under certain conditions), + protective duties if applicable (Anti dumping, safeguard duty etc.)

The entire duty collected by customs goes into the kitty of Central Government (Consolidated fund of India). Under GST, the duties at border would be as follows: 

Total duty = BCD + Interstate Goods and Services Tax (IGST) + Protective duties if applicable (Anti dumping, safeguard duty etc.)

The duties at the border would be collected by customs, i.e. central government, and the state share of the IGST collected at border would be transferred to the state where the imported goods are finally consumed. (Article 269 A.(1) - Explanation I). To this extent, states would also be directly getting a part of import duties levied at border, which was not the case till now. 

The IGST exemption issue

As centre and states both lay claim to IGST collected by customs at the border (as with inter state transactions), any exemption or modification in rules would have to be agreed to by the centre and the states. Border exemption of duties lie at the heart of some of the popular schemes of the current FTP. The exemption would be challenging if IGST is viewed strictly in the light of Article 269 A.1 - Explanation I. That would make any exemption at border, in the current form as outlined in the FTP unimplementable under GST regime. The problem can only be overcome with the agreement of, and a push by, the GST Council. States have an important say on the matter and to that extent the job is tough. There is no clarity as of now if it would agreeable to states. Or if such exemptions at the border are being considered at all. To that extent, the current FTP's exemption schemes' fate hangs in balance. 

The thinking in policy circles is to minimise exemptions as far as possible, and go with the refund route wherever necessary. Exports would be zero rated, which means taxes are not intended to be exported, and therefore all taxes paid on exported products would be refunded/credited (and not exempted) to the exporter. 

There is no doubt that exemptions would be preferred over refunds by the trade, due to obvious reasons of cash flow issues and time value of money. However, refunds are better from tax administration point of view. One needs to ensure that flow of refunds do not entail delays and harassment in GST regime.
In order to circumvent the cash flow issue, there can also be an alternative approach where applicable exemptions are shown as credit entry against the importer, to be offset once the export obligation is completed. This way, the revenue collection agencies may show it as deferred collection at the same time not holding to cash flow of exporters who use imported inputs.  

Duty Credit Scrip Acceptability and design of suitable mechanism

Currently, under FTP chapter 3, various duty credit scripts are issued (MEIS/SEIS) which can be used to pay/offset duty liabilities at customs, central excise or service tax. Being transferable in nature, they are near money in market. CBEC has issued suitable notifications in this regard.
There is no clarity if such scrips would be acceptable under GST. Assuming that incentive scrips would be made acceptable to offset atleast CGST and IGST part of liabilities, suitable mechanism in the GST network need  to be made. The scrip should be designed in such a way that they enter into the credit account of the firm under CGST/IGST credit head. That way, the deduction would be automatic. The current cumbersome process of paper scrip being issued by DGFT, followed by online transmission to DG systems at customs is buggy and harassing. It is better for DGFT to migrate to GST Network and leave behind the legacy NIC software that it currently uses. As GSTN is a private non-profit company with shareholding from Centre and all states, there is no reason why DGFT should not dismantle its NIC gradually and move on to GSTN completely. Given the way it is formed, GSTN might prove to be more accountable in comparison.


We may now look into the specific schemes under current foreign trade policy which might need readjustments under GST, assuming that indeed the GST council comes around to the enlightened view of exemptions at the borders for exporters. We need to also look at what other countries in similar situation are doing, but that would be in a later post.

1. Duty Exemption Schemes under GST

The current duty exemption schemes are Advance Authorisation (AA) scheme and Duty Free Import Authorisation (DFIA) scheme.

a. Advance Authorisation scheme under GST - direct import case with physical exports

Under Advance Authorisation scheme currently, the total duty is exempted for raw material, inputs and intermediaries as long as they are exported as final products, with a value addition of around 15%. The duty exemption is given at the point and time of import, usually before the exports are effected. The multistep process of exemption is outlined in brief below: 

Step 1: Get the advance authorisation issued from the DGFT and get it registered with the customs and execute a Bond/BG/LUT as applicable. 

Step 2: Import duty free inputs[This is point of exemption], incorporate into export products, and export. 

Step 3: Produce export documents to DGFT and get the export obligation discharge certificate (EODC) and produce it to customs to get the bond cancelled. 

The current interface between DGFT and DG Systems (ICEGate) is rudimentary. The advance authorisation details are transmitted to customs, but the exporter needs to produce the license physically at the port. The Bills of entry and Shipping Bills are not electronically linked to the EODC process at DGFT, leading to lot of avoidable paperwork. Two departments are involved in the process of implementation of this exemption scheme, and there is duplication in verification checks. 

Under GST regime, this scheme's survival depends on exemption agreement on various duties levied. 

If indeed total duty exemption is agreed upon, including exemption for IGST, this scheme may continue as is, with a new notification on similar lines as existing being issued in this regard. 

However, if IGST exemption is not agreed upon, or worse still, if exemption (BCD+IGST) at the border itself is not agreed to, and the council goes with only refund route, this scheme will get stunted or redundant, respectively.

Scenario A: Border Exemptions are fully agreed to:

Assuming that in the interest of exports and trade, the total duty exemptions are agreed to, and states come on board, the following changes would be warranted: 

• A new notification from GST council to replace the existing ones from CBEC with regard to this scheme. 
• Integration of DGFT system with GST network. The exemption details under AA (credit note, direct exemption as in existing scheme or any other approach) and the debiting at the customs have to move online for smooth integration. The EODC process needs to be integrated with GSTN feeding in the export data to DGFT system. This activity has to start at the earliest and should be a co-development with the same team that is working on GST network. 

Scenario B: Border exemptions are not agreed to, but refunds by Customs are agreed upon:

Assuming that all states come aboard in the interest of exports, and agree to forego their share of IGST which would then be refunded to exporters by customs (similar to drawback mechanism currenlty), a mechanism would then need to be designed to allow faster and harassment free refunds under GST Network.

• A new notification on refund process and rate of refund determination. Rate of refund may be similar to drawback or may be linked to actual duty suffered, as the data would be readily available in the network. 
• Verification method, checks to prevent diversion and documentary requirements for refund. eBRC, Shipping Bills etc. 

Scenario C: Border exemptions are not agreed to, but refund is mandated under revised FTP:

Same as Scenario B in terms of agreement, but the implementing agency would then be DGFT. 

• FTP chapter 4 needs to be revisited to devise a mechanism to refund the duties suffered at the border. 
• Refund may be upon production of Bills of entries, in the form of credit/scrip/cash, and the export obligation may be monitored by DGFT as usual post the refund. 
• EODC may be issued after export obligation fulfilment, and in case of failure, refunded amount with interest would be recovered. 

Scenario C entails minimum tweaks in the FTP, where the border exemption is replaced with refund by DGFT and all other details (EO monitoring etc) remain the same. Rather than getting duty exemption at border, the trade would pay the duties there, and come with bills of entries to DGFT to get the refund.
However, refunding through DGFT involves a different challenge altogether. Refund from DGFT would entail fund allocation for the purpose from Finance ministry, which involves budget approvals for withdrawal from consolidated fund of India. This would be tricky each year. Refund from tax collecting department is relatively easier to implement from this point of view, as the department that does revenue collection is the one that refunds, and thus it can do book accounting for refunds that flow out for a financial year. 

Scenario D: IGST exemptions are not agreed to, BCD exemption is agreed upon:

Advance authorisation scheme loses the charm as for most of the items currently the BCD is less than 10%; and if the imports are from one of the countries with which India has signed a free trade agreement, even this BCD might be near zero. This would effectively make the advance authorisation scheme redundant. 

One of the above four scenarios, or a mix of one or two above would play out in actual. The best case for the trade would be Scenario A if border exemptions are allowed, and Scenario C if refunds are chosen over exemption. 

The second part of the series can be found here.