On Tuesday, Shiv Pratap Shukla, minister of state for finance informed Parliament that 3,626 cases of tax evasion had been detected in just three quarters of FY19 under the goods and service tax (GST) regime. The total tax evaded in these cases works out to Rs 15,278 crore. Of this, Rs 9,959 crore has been recovered so far.
This comes after recent data which shows that compliance under GST is declining. The percentage of taxpayers who have not filed returns rose from 15.44 per cent in April 2018 to 28.75 per cent in November 2018. Even among the composition tax payers, the percentage of those who did not file rose from 19.28 per cent in Q1FY19 to 25.37 per cent in Q2FY19.
Why is it that almost a year and a half after GST was put in place compliance levels have not stabilised? One reason, it turns out, is a flourishing and systemic input credit scam that authorities are beginning to unravel and tackle.
Input credit frauds run by ‘briefcase companies’ have mushroomed across the GST system, indirect tax authorities are finding.
A formal admission of this problem was made in the GST council meeting in August by the Union Finance Minister.
“The Hon’ble Chairperson also made a reference to ‘briefcase companies’ who sell goods enabling the recipient to take input tax credit and vanish after 2 to 3 months. He had observed that if such companies were not traceable, then the recipient who had used the input tax credit would be liable to pay the tax even though he might have paid the tax to the seller,” was recorded in the GST council meeting.
Also Read Ahmedabad CGST officials bust fake GST invoice racket worth Rs 175 crore
Business Standard spoke to multiple serving and retired senior GST officials, as well as experts, to understand the systemic loopholes that scamsters are exploiting. Official records which documented several scams and revealed their modus operandi were reviewed to get a sense of the magnitude and nature of the evasion across the country.
“At the moment we are seeing the tip of the iceberg. The one-nation one-tax concept has perhaps also created for the first time countrywide cartels specialising in defrauding the GST system,” said one of the senior GST officials involved in detecting the frauds.
Input credit
Under the GST regime, tax paid at intermediate levels in a production chain can be claimed as ‘input credit’ which is set off against the liability incurred on sale of final products. Sellers of goods are required to upload their sale invoices to GSTN. These invoices automatically get reflected as purchases of the next tax-payer in the supply chain, allowing the latter to claim input credit. This allowed officials to cross check vouchers of inward and outward purchases in order to examine the legitimacy of the input credit claimed or what is known as voucher matching colloquially. Theoretically, this could be done online, reducing the requirement of physical inspections. This would help improve compliance as the entire chain of production could be captured in the system.
But, faced with an outcry over the consequent high compliance burden, particularly from MSMEs, granular voucher matching was deferred. Instead, taxpayers were required to provide less specific information.
“The only way the system could oversee this voucher matching was through GSTR 2 return. But, the GSTR 2 return has not been activated. We are now going by whatever taxpayers say. He claims certain input credit and then sets it off against his or her tax liability. The only way we have to catch the problem is by physically inspecting suspicious individual entities or transactions,” explained a senior GST official.
Also Read Gujarat tax sleuths bust Rs 750-mn GST racket, second in three months
A former member of the Central Board of Indirect Taxes said, “This is precisely why matching (of invoices) was contemplated. This is an issue that was dogging us in both Central Sales Tax (CST) and Value Added Tax (VAT) regimes wherein once we accept the basic principle that credit would be available for taxes paid, how would you go about verifying it?”
This lack of detailed reporting, coupled with loose KYC norms for entities to register on GSTN, has created systemic loopholes to be exploited.
Take the example of a case in the scrap iron and steel business busted in Bangalore in November 2018. It illustrates the modus operandi where a single person registered 20 fake companies on the GST network.
“Their modus operandi involved creating/floating fake companies at fake/wrong addresses, issuing fake GST invoices and generating fake e-way bills, with fake/wrong vehicle registration details without supply of any goods. The fake companies are floated with the intention to fraudulently pass on input tax credit by issuing fake invoices without any supply of goods causing loss of exchequer,” discloses a government report.
In this single case fake invoices worth Rs 1,200 crore for scrap iron and steel had been generated to avoid GST liability of Rs 200 crores. This is just one of the many instances of the input tax credit scam that Business Standard reviewed.
Business Standard reviewed records of several such cases where investigations have concluded and others which are ongoing. These records confirm that such scams are being perpetrated by cartels that operate across the country.
“A single case can involve cartels that register fake companies, generate fake invoices for industries and entities across the country in multiple locations, thereby helping entities evade taxes. We are also discovering links between these cartels and networks that run deep and wide. A large number of cases are being observed in trading,” said another official.
“In effect, by fraudulently generating input credit in the system for GST taxpayers, these cartels are literally creating illegal money out of the GST system. Yet, they are to be prosecuted under relatively lax provisions of tax evasion. If they get caught the prosecution will have to go through a circuitous judicial process,” he added.
KYC problem
In order to improve the ease of doing business, the KYC norms for registering for GST were loosened to reduce the compliance burden on taxpayers and prevent petty corruption that existed under the earlier regime. Proprietorships and others can register for GST by providing basic documents of identity and residence. There are problems in verifying this digitally. Adhaar is not mandatory. These lax requirements have been exploited by cartels to register non-existent entities on the GST network.
“PAN numbers of random people are being uploaded against ghost/fake entities. That is the biggest problem. These are available in the black market for as low as Rs 2,000. Poor people’s PAN numbers, such as those of tea shop owners etc, are being found. On physical verification even electricity bills and rent deeds are being found to be fake,” said another GST official noted, adding that “In the name of ease of business and to prevent petty corruption under GST we have now ended up with large scale fraud.”
This means that detecting these frauds requires much more than data-analytics. In all the cases that Business Standard reviewed, authorities required ground-level physical intelligence gathering, tip-offs and physical verification to catch the culprits.
And while e-way bills were meant to improve compliance, as the system is hosted on NIC servers, it is not deeply integrated with the GSTN network that hosts rest of the GST data.
Tackling the menace
The only way to catch the culprits is to dig through all the layers of transactions to the point of origin. These layers, for a single case of evasion, can involve detecting dozens of fraudulent companies, thousands of vouchers generated from entities registered in different parts of the country.
“A lot of cases are now being detected. In the initial period we moved in with a very soft manner not wanting to frighten everyone. But people took great advantage of that I think. We lost a lot of revenue in the initial months. The transitional credit too was a scam. Several lakh crores of credit was taken as transitional credit. There was no verification of the stocks,” said a retired member of the Central Board of Indirect Taxes and Customs (CBIC).
“At this stage, in the absence of granular voucher matching and in the face of a leaky KYC system for registration, the best option available for officials now is to study patterns of input credit that can legitimately exist at a point in time, in different production chains,” he added. But, while this would provide a sense of which sectors to track more closely, it is a tedious exercise.
The GST council has now decided to bring out a ‘tweaked’ version of voucher matching in the next financial year. Pilots for this would be launched in April 2019.
The government plans to allow taxpayers to upload their vouchers on a daily-basis if they find that easier.
This comes after recent data which shows that compliance under GST is declining. The percentage of taxpayers who have not filed returns rose from 15.44 per cent in April 2018 to 28.75 per cent in November 2018. Even among the composition tax payers, the percentage of those who did not file rose from 19.28 per cent in Q1FY19 to 25.37 per cent in Q2FY19.
Why is it that almost a year and a half after GST was put in place compliance levels have not stabilised? One reason, it turns out, is a flourishing and systemic input credit scam that authorities are beginning to unravel and tackle.
Input credit frauds run by ‘briefcase companies’ have mushroomed across the GST system, indirect tax authorities are finding.
A formal admission of this problem was made in the GST council meeting in August by the Union Finance Minister.
“The Hon’ble Chairperson also made a reference to ‘briefcase companies’ who sell goods enabling the recipient to take input tax credit and vanish after 2 to 3 months. He had observed that if such companies were not traceable, then the recipient who had used the input tax credit would be liable to pay the tax even though he might have paid the tax to the seller,” was recorded in the GST council meeting.
Also Read Ahmedabad CGST officials bust fake GST invoice racket worth Rs 175 crore
Business Standard spoke to multiple serving and retired senior GST officials, as well as experts, to understand the systemic loopholes that scamsters are exploiting. Official records which documented several scams and revealed their modus operandi were reviewed to get a sense of the magnitude and nature of the evasion across the country.
“At the moment we are seeing the tip of the iceberg. The one-nation one-tax concept has perhaps also created for the first time countrywide cartels specialising in defrauding the GST system,” said one of the senior GST officials involved in detecting the frauds.
Input credit
Under the GST regime, tax paid at intermediate levels in a production chain can be claimed as ‘input credit’ which is set off against the liability incurred on sale of final products. Sellers of goods are required to upload their sale invoices to GSTN. These invoices automatically get reflected as purchases of the next tax-payer in the supply chain, allowing the latter to claim input credit. This allowed officials to cross check vouchers of inward and outward purchases in order to examine the legitimacy of the input credit claimed or what is known as voucher matching colloquially. Theoretically, this could be done online, reducing the requirement of physical inspections. This would help improve compliance as the entire chain of production could be captured in the system.
But, faced with an outcry over the consequent high compliance burden, particularly from MSMEs, granular voucher matching was deferred. Instead, taxpayers were required to provide less specific information.
“The only way the system could oversee this voucher matching was through GSTR 2 return. But, the GSTR 2 return has not been activated. We are now going by whatever taxpayers say. He claims certain input credit and then sets it off against his or her tax liability. The only way we have to catch the problem is by physically inspecting suspicious individual entities or transactions,” explained a senior GST official.
Also Read Gujarat tax sleuths bust Rs 750-mn GST racket, second in three months
A former member of the Central Board of Indirect Taxes said, “This is precisely why matching (of invoices) was contemplated. This is an issue that was dogging us in both Central Sales Tax (CST) and Value Added Tax (VAT) regimes wherein once we accept the basic principle that credit would be available for taxes paid, how would you go about verifying it?”
This lack of detailed reporting, coupled with loose KYC norms for entities to register on GSTN, has created systemic loopholes to be exploited.
Take the example of a case in the scrap iron and steel business busted in Bangalore in November 2018. It illustrates the modus operandi where a single person registered 20 fake companies on the GST network.
“Their modus operandi involved creating/floating fake companies at fake/wrong addresses, issuing fake GST invoices and generating fake e-way bills, with fake/wrong vehicle registration details without supply of any goods. The fake companies are floated with the intention to fraudulently pass on input tax credit by issuing fake invoices without any supply of goods causing loss of exchequer,” discloses a government report.
In this single case fake invoices worth Rs 1,200 crore for scrap iron and steel had been generated to avoid GST liability of Rs 200 crores. This is just one of the many instances of the input tax credit scam that Business Standard reviewed.
Business Standard reviewed records of several such cases where investigations have concluded and others which are ongoing. These records confirm that such scams are being perpetrated by cartels that operate across the country.
“A single case can involve cartels that register fake companies, generate fake invoices for industries and entities across the country in multiple locations, thereby helping entities evade taxes. We are also discovering links between these cartels and networks that run deep and wide. A large number of cases are being observed in trading,” said another official.
“In effect, by fraudulently generating input credit in the system for GST taxpayers, these cartels are literally creating illegal money out of the GST system. Yet, they are to be prosecuted under relatively lax provisions of tax evasion. If they get caught the prosecution will have to go through a circuitous judicial process,” he added.
KYC problem
In order to improve the ease of doing business, the KYC norms for registering for GST were loosened to reduce the compliance burden on taxpayers and prevent petty corruption that existed under the earlier regime. Proprietorships and others can register for GST by providing basic documents of identity and residence. There are problems in verifying this digitally. Adhaar is not mandatory. These lax requirements have been exploited by cartels to register non-existent entities on the GST network.
“PAN numbers of random people are being uploaded against ghost/fake entities. That is the biggest problem. These are available in the black market for as low as Rs 2,000. Poor people’s PAN numbers, such as those of tea shop owners etc, are being found. On physical verification even electricity bills and rent deeds are being found to be fake,” said another GST official noted, adding that “In the name of ease of business and to prevent petty corruption under GST we have now ended up with large scale fraud.”
This means that detecting these frauds requires much more than data-analytics. In all the cases that Business Standard reviewed, authorities required ground-level physical intelligence gathering, tip-offs and physical verification to catch the culprits.
And while e-way bills were meant to improve compliance, as the system is hosted on NIC servers, it is not deeply integrated with the GSTN network that hosts rest of the GST data.
Tackling the menace
The only way to catch the culprits is to dig through all the layers of transactions to the point of origin. These layers, for a single case of evasion, can involve detecting dozens of fraudulent companies, thousands of vouchers generated from entities registered in different parts of the country.
“A lot of cases are now being detected. In the initial period we moved in with a very soft manner not wanting to frighten everyone. But people took great advantage of that I think. We lost a lot of revenue in the initial months. The transitional credit too was a scam. Several lakh crores of credit was taken as transitional credit. There was no verification of the stocks,” said a retired member of the Central Board of Indirect Taxes and Customs (CBIC).
“At this stage, in the absence of granular voucher matching and in the face of a leaky KYC system for registration, the best option available for officials now is to study patterns of input credit that can legitimately exist at a point in time, in different production chains,” he added. But, while this would provide a sense of which sectors to track more closely, it is a tedious exercise.
The GST council has now decided to bring out a ‘tweaked’ version of voucher matching in the next financial year. Pilots for this would be launched in April 2019.
The government plans to allow taxpayers to upload their vouchers on a daily-basis if they find that easier.
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