GST law has made provision for composition scheme for small businesses in order to spare them from cumbersome compliances imposed on businesses falling under the purview of GST. Although on the face of it, the option may seem attractive, but on deeper examination, it may not be advisable for many small businesses also. Since Composition is an optional scheme and the choice will have direct impact on the profitability/ growth of the business, the decision whether to go for it or not should be looked at as a business decision considering all pros and cons and not merely as a method of bye-passing the compliance requirements.
Let us start with main features of composition scheme which are summarised below:
Now let us look at major advantages and disadvantages of composition scheme for a business.
Now even if a person satisfies all the criteria as provided under law for registration as composition dealer, the question arises regarding desirability of opting for such registration. As already mentioned above, it has to be a business decision. No doubt composition involves simplified compliances, but it may not necessarily be suitable for all persons below 75 lakhs turnover. We can summarise the main factors to be considered in this decision as under:
♣ Nature of business: Composition dealer cannot claim input tax credit even if he makes taxable purchases from a regular registered dealer. Moreover, if a composition dealer is working on B2B model, his buyers will also not get any credit of tax paid which will increase their cost. Hence such buyers will naturally avoid purchases from a composition dealer.
♣ Tax impact study: If a dealer also supplies goods which are exempt and the proportion of exempt goods is more (examples- milk, curd, salt, bread, printed books, etc.) it may be better for him not to go for composition as composition dealer has to pay fixed % on his total sales including exempt goods. If he goes for regular registration, he will pay tax as per rates applicable to each of the goods and hence he will not have to pay tax on exempt supplies. The best way to arrive at proper decision will be to compare the tax impact under the two options (Regular Vs Composition). A small exercise may be very useful here. The following inputs are required for this exercise:
A) Average tax rate on turnover of outward supplies of the dealer as per applicable regular rates. (This may be calculated on the basis of actual data if available or may be estimated.)
B) Average margin of the dealer on his outward supplies. This is based on the difference between the dealer’s purchase and sale prices of different goods. It may also be called as percentage of value addition. (This may be calculated on the basis of actual data if available or may be estimated.)
C) Multiplication of above factors (i.e., A x B), will give the average tax impact on the dealer’s outward turnover if he chooses for regular registration.
Once the above computation is made, the tax impact arrived under C can be compared with the rate of 1% or 2% or 5% as may be applicable to the dealer under composition option. Let us take a practical example.
For another trader with average tax rate of say 5% and margin of 12%, composition option may not be advisable as it will adversely impact his profit.
♣ Restrictive conditions: A person opting for composition becomes subject to restriction regarding total ban on inter-state supply and supply through e-commerce operators. Thus a dealer opting for composition will face obstruction in growth of his business. This will be much more relevant in case of businesses located near inter-state borders and catering to customers from both the states.
Based on the above discussion, it can be concluded that composition is suitable mainly for small retailers doing B to C supplies within the state provided their tax liability is not increasing substantially due to choice of composition.
Here it may be noted that a Composition dealer can come out of the scheme at any time by making an application. Hence the dealer (who is otherwise eligible for composition option) should evaluate pros and cons of composition periodically and if the choice of composition turns out to be wrong, he can change his decision.
Disclaimer: The views expressed in this article are personal and should not be considered as professional advice. The author may be contacted at firstname.lastname@example.org.