GST 2.0: Major Rate Structure Changes
In a move to improve the lives of citizens and simplify business operations, the 56th GST Council meeting, chaired by Union Finance Minister Smt. Nirmala Sitharaman, has approved the Next-Gen GST reforms.
The reforms, announced by Prime Minister Narendra Modi during his Independence Day address as a “Diwali gift for you,” are designed to reduce the tax burden on the common man, including farmers, small traders, and businessmen.
These next-generation reforms aim to make it easier for all citizens to do business and are specifically focused on benefiting everyday common people.
The 56th GST Council Meeting announced on September 3, 2025, a major rationalization of the GST slab structure, with the new rates effective from September 22, 2025.
The new GST 2.0 reforms, which simplify the tax structure from the previous four-slab system to two main slabs (5% and 18%) plus a special 40% rate:
New Rate Structure:
- 0%– Exempted goods
- 5%– Merit rate for essential goods and services
- 18%– Standard rate for most goods and services
- 40%– De-merit rate for luxury and sin goods
99% of items in the 12% slab will move to 5%, and 90% of those in the 28% slab will reduce to 18%
Key Rate Changes and Benefits
Items Getting Cheaper:
- Household essentials: Soaps, toothpaste, Indian breads moved to 5% or Nil
- Food Items: Condensed milk, butter, cheese, ghee, dry fruits, chocolates, biscuits and cookies, cornflakes, soya milk drinks, tomato ketchup, jams, ice cream, cakes, drinking water bottles – cut to 5 per cent from 12 per cent or 18 per cent, while that for UHT milk will be nil.
- Healthcare: Life-saving drugs and medicines reduced from 12% to Nil or 5%
- Consumer durables: Two-wheelers, small cars, TVs, ACs, cement reduced from 28% to 18%
- Agriculture: Farm machinery and irrigation equipment cut from 12% to 5%
Items Getting Costlier:
- Sin goods: Tobacco, pan masala, aerated drinks now taxed at 40%
- Luxury items: Premium goods, Luxury Cars moved to the new 40% slab
Supply Chain & Compliance Challenges under GST 2.0
GST 2.0 introduces a simplified two-slab structure (5% & 18%) aimed at easing compliance and reducing tax burden. However, the transition creates major challenges across the supply chain. Manufacturers must deal with old MRPs and pre-printed packaging, while goods in transit face tax mismatch issues. Distributors and retailers struggle with inventory bought at old rates, requiring re-sticking new rates and compensation from manufacturers or suppliers. Additionally, ITC reconciliation, credit notes, re-stocking pressures and ERP/POS updates, add to working capital strain and compliance complexity.
Challenges with Existing Inventory & Documentation
When a new GST rate is announced, the immediate hurdles involve managing inventory that was produced, priced, and taxed under the old rates.
- Goods with Old MRP:Products already manufactured and circulating in the market with old MRPs pose a serious logistical challenge. While Indian law permits selling the good at the price below the printed MRP, however, businesses are prohibited from charging more than the Maximum Retail Price (MRP) listed on a product. The Sin goods, like Tobacco, pan masala, aerated drinks & Luxury items, which are moved to the new 40% slab, face challenges of selling at the higher price over MRP.
On September 9, 2025, the Department of Consumer Affairs vide Letter (I-10/14/2020-W&M), September 09, 2025, allowed manufacturers to revise MRPs on unsold stock after GST rate changes, providing relief to the business.
Manufacturers, packers, and importers can update prices through stamping, stickers, or online printing, as long as the original MRP remains visible and revisions reflect only the GST adjustment. This move helps businesses align existing inventory with the new GST structure. This permission is valid until December 31, 2025, or until the stock is exhausted, whichever is earlier.
However, re-stickering poses a major challenge, as it requires significant time, labor, and cost to update millions of products across warehouses, distributors, and retail shelves, often disrupting supply chains during the transition.
Goods in Transit: Products that are in transit when the new rates take effect are still taxed at the old rates because GST is applied at the time of invoicing. This can cause a major discrepancy between the purchase price and the new, lower market price, requiring complicated credit adjustments.
Goods with Distributors & Retailers: This is where the most direct financial impact is felt. Distributors and retailers are stuck with inventory bought at a higher price. Without a system for compensation (like credit notes from manufacturers), they face potential losses if they sell the goods at the new, lower MRP.
Some small retailers, particularly those sourcing from large retail chains like Reliance Smart Bazar and others, may not be able to claim credit benefits under the revised GST rates. Having purchased stock at higher prices, they are now compelled to sell at reduced MRPs, directly impacting their margins.
This requires them to quickly re-tag products and update their billing systems as per GST law.
- Unlikely Chances of Passing on the Benefits to Consumers: During this transition period, most distributors and retailers are unlikely to reduce MRPs, since their existing stock was purchased at higher rates and revising prices would involve additional cost, effort, and logistical challenges such as re-labeling or re-stickering. Moreover, strict enforcement of revised MRPs in the vast unorganized retail sector remains highly challenging, if not practically impossible.
- Pre-printed Packaging Materials:A major financial concern for industries like FMCG is the vast amount of packaging material with the old MRP already printed on it. Discarding this stock would result in massive financial losses, leading companies to relabel or re-sticker MRPs, and in some cases, absorb additional costs to clear old inventory. The process itself is labor-intensive, time-consuming, and prone to errors, especially when dealing with millions of SKUs spread across warehouses and retail outlets. It also disrupts supply chains during peak demand periods (festive season), creates compliance risks if labels are not updated properly, and can trigger consumer mistrust if re-stickering appears inconsistent or manipulative.
Challenges with Financial and Accounting Processes
The financial implications of a GST rate change go beyond simple price adjustments. The entire accounting system, from credit notes to Input Tax Credit (ITC), is affected.
- Manufacturers also often have to issue credit notes to distributors and retailers to compensate for the price difference because of reduced GST rate.
- Credit Notes and Book Adjustments:When rates are reduced, manufacturers must issue credit notes to their distributors and retailers. This is a complex, multi-step process where a document is issued to reduce the amount owed, and the entire supply chain must reconcile these adjustments in their books to reflect the new sale price and tax liability.
- Input Tax Credit (ITC) Management:This is the most complex financial challenge.
- Accumulated ITC:Businesses that have accumulated ITC from inputs bought at higher rates may find themselves with a surplus of credit that they can’t fully use because their new outward tax liability is lower. This can tie up significant working capital.
- Inverted Duty Structure:An inverted duty structure arises when the GST on the finished product is lower than the GST on its inputs—for example, food products taxed at 5%, while the packaging materials used (bubble wrap, shrink film, stretch film, cling film) and labour charges attract 18% GST. This situation applies to items like fruits, vegetables, processed foods (sauces, jams, pickles), dairy products such as ghee, and packaged honey jars, which all rely on plastic packaging for cushioning, tamper resistance, and safe transport. Under the proposed GST rate of 5% for these food and dairy items, the higher tax on packaging and labour creates an inverted tax structure unless there is significant value addition. Although companies can technically claim refunds on the excess input tax credit, the refund process is often slow, cumbersome, and cash-flow intensive.
- New Exemptions (Nil Rate):If a product moves from a taxable category to a ‘Nil’ rate, businesses can no longer claim ITC on its inputs. They must also reverse any previously claimed ITC, adding a new layer of financial and accounting complexity.
Challenges with ERP & Accounting System Updates
A seamless transition is impossible without a comprehensive overhaul of a company’s ERP and billing systems, since tax codes, rates, and compliance rules must be fully reconfigured.
It also demands real-time integration across procurement, inventory, finance, and sales to avoid data mismatches and reporting errors.
Additionally, companies need to train staff and upgrade IT infrastructure to ensure accuracy, compliance, and smooth adoption under the new regime.
- Master Data and Product Classification:The most crucial and time-consuming step is updating the master data for every single product (SKU). Each product’s tax classification must be manually reviewed and re-mapped to the new GST slab (e.g., 5% or 18%). A single error can lead to incorrect invoicing and penalties.
- Pricing and Billing Logic:The ERP’s core billing engine must be reconfigured to apply the new rates automatically. This involves updating tax condition records and ensuring the system can manage transitional invoices and seamlessly sync with Point-of-Sale (POS) terminals.
- Automating Credit Notes:The ERP system must be able to automatically generate a high volume of accurate credit notes, reference original invoices, and correctly reflect these adjustments in the financial ledgers. This is essential for managing the sheer volume of transactions.
- ITC Reconciliation:The ERP must have robust features to track the flow of ITC and reconcile it with the company’s GSTR-2A data from the GSTN portal. This is critical for preventing the denial of ITC and managing working capital. It must also be able to handle the new and complex process of reversing ITC for products that move to the ‘Nil’ rate.
Cascading Effect of GST Rate Rationalization
A reduction in GST rates delivers real consumer benefit only when every stage of the value chain—inputs, packaging, processing, and distribution—aligns with the new rates and the combined savings are passed on, rather than merely reflecting the cut in the finished product’s tax rate.
For instance, GST on butter, ghee, butter oil, dairy spreads, condensed milk, and milk-based beverages has been reduced from 12% to 5%, while GST on packaging inputs such as corrugated boxes and cartons has also come down from 12% to 5%.
Similarly, Small Cars (up to 1,200 cc petrol / 1,500 cc diesel) now attract a reduced tax of 18% GST with no cess, compared to the earlier 28% + cess structure. Car Spare Parts & Accessories are also brought under a uniform 18% GST slab, down from the previous 28% rate. This dual reduction—on finished vehicles and supporting inputs & components / packaging—creates significant combined cost savings, which are expected to be passed on fully to end consumers through lower retail prices.
The combined effect of lower tax on both the finished products and their packaging should be passed on in full to the end consumers.
However, if only the finished goods tax cut is passed on while ignoring input / packing material reductions, consumers will not see the true cumulative savings intended by GST rationalization.
If businesses do not pass on the combined benefits of reduced GST on inputs and finished goods to consumers, they may unduly profit at the expense of the public. To prevent such misappropriation, the government may introduce monitoring mechanisms or compliance frameworks to ensure that tax benefits are fairly transferred to end customers.
Automotive Industry – Problem of Accumulated Cess
Currently, cars are taxed at 28% GST plus an additional compensation cess of 1–22%, which makes the total tax as high as 50% for some SUVs.
From September 22, 2025, under GST 2.0, the cess will be removed and the structure will be simplified:
- Small cars (up to 1,200 cc petrol / 1,500 cc diesel): 18% GST
- Larger vehicles: 40% GST
However, this transition creates a problem. The ₹2,500 crore worth of accumulated compensation cess credits lying with automakers and dealers will become unusable (lapse) unless the government permits adjustments or refunds. This means the industry will have to absorb the loss.
Impact on Insurance Companies:
When insurance premiums become GST-exempt, customers benefit from lower costs. However, insurance companies lose the ability to claim ITC on their expenses, putting pressure on their profit margins.
Items with Nil Rate
The system must also handle the complex process of Input Tax Credit (ITC) reversal when products move to the ‘Nil’ GST rate. Under a Nil rate, ITC cannot be claimed on inputs and the plant & machinary. This creates a significant challenge for businesses with high investments in plant and machinery, as they not only lose ITC on capital goods but also on other raw materials, consumables, and services. For example, a dairy company producing condensed milk (moved to Nil GST) would have to absorb the GST paid on packaging materials, maintenance, and equipment purchases, leading to substantial cost pressures and margin erosion.
Imports Relatively become Costlier:
Domestic goods do not attract BCD or SWS. · For imports, IGST is not just on the CIF value, but on CIF + BCD + SWS (₹116.50 in the example).
Please see the Example below:
For the Import of Automatic Components or Parts
| Customs Duty Calculation | ||||
| Prior to 22nd Sep’2025 | wef
22nd Sep’2025 |
|||
| Customs Duty | Rate of Duty (Tariff)% | Value (INR) | Rate of Duty (Tariff)% | Value (INR) |
| Ass. Value | 0 | 100 | 0 | 100 |
| Basic Customs Duty(BCD) | 15 | 15 | 15 | 15 |
| Social Welfare Surcharge (SWC) | 10 | 1.5 | 10 | 1.5 |
| IGST Levy | 28 | 32.62 | 18 | 20.97 |
| Compensation Cess (CC) | 0 | 0 | 0 | 0 |
| Total Duty | 49.12 | 37.47 | ||
| GST Reduction from 28% to 18% | 35.71% | |||
| Total Customs Duty Reduction from 49.12% to 37.47% | 23.72% | |||
This inflates the tax base and makes IGST heavier compared to domestic GST, which is charged only on the transaction value.
While the IGST reduction lowers the landed cost of imports (₹49.12 → ₹37.47), imports continue to remain relatively more expensive than domestic goods due to BCD and SWS being applied upfront, and because IGST is calculated on this inflated base. This ensures a level of protection for domestic industry.
Conclusion:
In essence, GST reforms are not just about tax-rate adjustments but a full-scale business transformation. They demand close coordination across IT, finance, supply chain, and sales to handle challenges like old MRPs, pre-printed packaging, tax mismatches on goods in transit, and distributor inventory purchased at old rates. Layered onto this are ITC reversals, credit-note management, re-stocking costs, and mandatory ERP/POS updates—all of which intensify compliance requirements, strain working capital, and test the resilience of business operations.
Author Bio
How could be corrected the inverted tax structure for manufacturing segments
For example they bought the raw materials at a higher rate now the finished product would fetch lower out put rate.
In such scenario will they get the accumulated itc otherwise their working capital will affect highly