GST India: Impact on Pharma Sector:

Due to elimination of cascading effect under GST, the primary benefit to the pharma industry will be in terms of reduced cost of manufacturing. Discontinuance of CST will lower manufacturing costs as many ingredients are purchased from outside the state. This would also lower the costs of distribution on interstate sale of pharma products as currently the CST paid on interstate purchases cannot be set-off against VAT. As India would become a borderless common market inter-state sales would become cost neutral vis-à-vis intra-state transactions and branch transfers. This would result in pharma manufacturers reengineering their warehouse strategy with the current model of one warehouse per state not making any tax sense in future. Warehousing decision would be led by requirement to be located near to target market rather than tax considerations. Cost savings to the tune of 8-10% in costs resulting from centralized warehousing, reduced inventory holding and shorter transit time (due to elimination of border check posts) may accrue. A relook at the C&F model of distribution may also be necessitated.

As GST credit on input services like logistics, job work can also be used for set-off against output GST liabilities, cost of production would further reduce. Currently the Pharma industry has the inverted duty structure wherein the Excise duty on input raw material i.e API (Active Pharmaceutical Ingredient) is higher at 8.24% while the Excise on pharma end product is at lower rate of 4.12%. This deviation in Central Excise duty thus results in accumulation of credit which cannot be claimed currently. However under GST claims approval would be automated resulting in faster refund settlement.

GST being a consumption based destination tax, imports would attract IGST but Exports would not be taxable. Hence, cost of imported inputs used in manufacturing may rise. Another major negative impact for pharmaceutical manufacturers would be that certain area based exemptions and tax holidays provided by state governments may be done away with. Certain APIs (Active Pharmaceutical Ingredients) associated with life-saving drugs enjoy exemption under Excise, which under GST may become taxable unless otherwise notified.

Contract manufacturing or loan licensee model is highly prevalent in the pharma industry which is currently exempt from VAT but Service Tax is applicable. Under GST the exemption would be withdrawn, however the credits would be available for setoff. This requires clarification on treatment of supply to and from principal manufacturer to loan licensee (job worker). Movement of pharma goods for re-labelling or for destruction might get treated as supply and attract GST unless otherwise exempted exclusively.

Increased compliance requirements also needs to be factored in. Changes to chart of accounts, accounting and migrating for tax credits from Excise/VAT regime to GST need to be considered. As there is no sale during branch transfer, rules for determining the ‘value of transaction’ need to be adopted and adhered to. Changes to the ERP systems in relation to updating GSTIN of all vendors/customers, realigning of branches/regions, adapting new tax rule setup (masters) are other essential changes that need to be incorporated. 

(The views expressed in this blog are strictly personal)