Fake firms, fake invoices and credit fraud — how it went all wrong for GST in just 2 years

GST authorities are registering evermore tax evasion cases as tech failure, lack of oversight and a lax approach have left India’s indirect tax regime vulnerable.

Representational image | Dhiraj Singh/Bloomberg

New Delhi: Bogus firms, fake invoices and fraudulent input tax credit claims have become the biggest headaches for the tax administration of the goods and services tax (GST) regime in just over two years.

So what went wrong with India’s ambitious indirect tax regime rolled out in July 2017 that was meant to create an electronic trail of all transactions through a seamless chain to make evasion difficult?

Several things: Failure of technology to act as a deterrent against evasion, initial lack of oversight and supervision, and non-existent tax return forms that would have helped in matching invoices and weeding out any fake transactions.

Tax evasion has been rampant since GST rollout, with various instances coming to light of taxpayers using ingenious methods to evade the indirect tax. Taxmen have uncovered many modus operandi and are aggressively using technology and existing data — from e-way bills and GST returns — to check evasion.

However, the extent has taken even the taxmen by surprise. After overlooking evasion for the first fiscal of GST to help taxpayers adjust to the new regime, the Central Board of Indirect Taxes and Customs (CBIC) started an enforcement drive that saw many tax evasion cases coming to the fore.

In 2018-19, the central GST authorities registered over 1,600 cases involving an amount of Rs 11,251 crore, as against 5 cases involving an amount of Rs 13 crore in the nine months ending 31 March 2018, CBIC data showed.

Until November 2019, over 6,000 cases were filed by the authorities, showing the increasing enforcement action being taken.

Now, the Narendra Modi government has initiated the process of scrutinising all refunds since 2017 using data analytics to look for cases of unscrupulous refund claimants or shell companies that are claiming fake input tax credit, said a finance ministry official who didn’t wish to be named.

Central GST collections estimated in the Union Budget 2019-20 were at Rs 5.26 lakh crore. However, until November-end, only around Rs 3.28 lakh crore was collected, data from the Controller General of Accounts showed.

Loopholes in the indirect tax regime

GST was introduced in 2017 as a singular indirect tax reform aimed at removing all barriers across states and unifying the country into a common market. It was also meant to create a seamless chain of transactions in which all transactions are documented and backed by invoices to prevent evasion.

A destination-based tax, the regime was designed in a way to levy a tax at the point of consumption. It allowed for seamless movement of input tax credit through the entire supply chain. So a manufacturer could claim credit for taxes paid while purchasing inputs and adjust it against the final tax liability on the sale of output.

However, the GST regime suffered its biggest setback when the technological network was unable to deliver.

The GST Council, the apex governing body for the regime, was forced to recommend one simple form called GSTR 3B, doing away with the need of invoice matching — a practice where invoices uploaded by the buyer have to match with the ones uploaded by the seller — for claiming credit.

The panel also put forms like the GSTR 2 and GSTR 3 — two forms that were initially part of the plans to verify transactional details uploaded by buyer and sellers — on the backburner.

This saw many evaders using this loophole to claim input tax credit without paying taxes and without any counter verification.

Sumit Dutt Majumder, former chairperson of the Central Board of Excise and Customs (now CBIC), said the original design of GST envisaged e-invoicing using which the tax paid and credit taken can be tallied at every stage.

“However, GST was started at a time when the technological system was not fully operational and not tested. It could not take the initial load and as a knee-jerk reaction an over simplified form GSTR 3B was introduced,” he said.

Added to this, to make the new tax system acceptable to all, a lax enforcement approach was followed, he added.

‘Mushrooming’ of fake firms and invoices

In the two years since the GST was rolled out, the CBIC has come across many modus operandi to evade taxes, three officials administering the central and state GST told ThePrint.

Under one of the most rampant ways, bogus firms are registered, fake invoices produced without any actual movement of goods and then these invoices are used to claim input tax credit fraudulently, said the officials.

Another method has been under-invoicing of transactions to reduce the tax outgo.

For instance, last year, the GST intelligence arm of the CBIC unearthed a fraud wherein one individual had created 90 fake firms and issued bogus invoices worth over Rs 7,000 crore with GST involved of around Rs 700 crore. These fake invoices and the resultant fraudulent input tax credit was then utilised by some bigger firms in the cotton yarn spinning industry to offset their tax liabilities.

“Most cases unearthed so far show that though there has been no actual movement of goods, fake invoices are issued and input tax credit claimed,” said a state GST commissioner of a southern state on condition of anonymity.

“Many non-identifiable entities mushroomed. They registered under GST using PAN of some random people and through issue of fake invoices, managed to claim bogus credit,” said a central GST commissioner who didn’t wish to be identified.

The central official pointed out that besides claiming input tax credit and adjusting them against the tax liability, there have been instances wherein exporters have used fake credit to pay duty and then claim a cash refund.

“In a few recent cases, the tax authorities found how so-called ‘star exporters’ were evading taxes and were non-traceable in their registered addresses. Moreover, these entities claimed huge amounts of refund in cash but had paid taxes of only a negligible amount in taxes,” he added.

In at least 9 such cases, investigations point out to fake invoicing and fraudulent tax credits which have been encashed through the facility of integrated GST (IGST) refunds. IGST is applicable to interstate transactions.

Tax evaders also found another way of claiming cash refunds against input tax credit. The GST law allows for a cash refund in the case of inverted duty structure — where the tax paid on inputs is more than the tax applicable on the final output.

In a case from last year, authorities found that a group of people created a network of 500 firms, including fake manufacturers of ‘hawai chappals’, across states, other intermediary firms and fake retailers to claim and encash fake credit. In this case, the raw material has an applicable tax rate of 18 per cent whereas chappals are taxed at 5 per cent. The group managed to create fake credit amounting to Rs 600 crore before the tax authorities cracked down.

Haseeb Drabu, former finance minister of Jammu and Kashmir, and the state’s representative in the GST Council meetings during the rollout, said, “Technology was the biggest let down.”

Technological constraints meant that GST was never designed to become a part of the business process, he said.

Other evasion instances involved taxpayers interpreting definitions to wrongly exploit lower applicable tax rates. For instance, branded products were passed off as non-branded products to claim lower rates.

“While some taxpayers try to interpret the various product definitions to reduce the eventual tax liability, there have been many instances where the practices adopted are outright fraudulent,” said a second central GST commissioner working in Mumbai.

Plans to deal with evasion

Majumder, however, said the introduction of e-invoicing and new GST return forms in the upcoming fiscal should help in curbing evasion.

“This means that the enforcement authorities do not have to worry about business to business transactions as these will be covered by e-invoicing but will have to look for ways for business to consumer transactions,” he said.

According to a deadline set by the Modi government, e-invoicing will be mandatory from 1 April 2020. The new GST return forms are also expected to come in effect from the next fiscal.