Background:
Rule 89(4)(C) of the CGST Rules, 2017, as amended with effect from 23.03.2020, defined “turnover of zero-rated supply of goods” as the value of such supplies made without payment of tax under bond/LUT “or the value which is 1.5 times the value of like goods domestically supplied by the same or, similarly placed, supplier, as declared by the supplier, whichever is less”. The 1.5 times cap was struck down as ultra vires by the Karnataka High Court in Tonbo Imaging India Pvt. Ltd. (2023), and exporters faced practical difficulty in identifying the value of “like goods” supplied domestically by similarly placed suppliers. Further, “Net ITC” for refund of unutilised ITC on zero-rated supplies under Rule 89(4) excluded ITC on capital goods, while “Net ITC” for refund under inverted duty structure in Rule 89(5) excluded ITC on both input services and capital goods – a restriction upheld by the Supreme Court in VKC Footsteps India Pvt. Ltd. (2021), which nonetheless urged the GST Council to reconsider the anomalies in the formula. The exclusion resulted in permanent blockage of credit for capital-intensive and service-intensive businesses.
The 57th GST Council (08.10.2026) recommended (i) amendment of Rule 89(4)(C) to remove the restriction of 1.5 times the value of like goods domestically supplied; (ii) amendment of clause (ii) of the proviso to Section 54(3) and the Rules to allow refund of accumulated ITC on capital goods in zero-rated supply cases and on input services and capital goods in inverted duty structure cases; (iii) that refund of ITC on input services under inverted duty structure be available for ITC availed on or after 01.11.2026; and (iv) that refund of ITC on capital goods be spread over 60 months and be available for ITC availed on capital goods on or after 01.04.2027.
What the Notification provides:
Now, the CBIC vide Notification No. 05/2026-Central Tax dated 26.10.2026 has amended Rule 89(4) and substituted Rule 89(5) as under:
- Rule 89(4)(C) – Removal of 1.5 times cap (w.e.f. 01.11.2026): The words “or the value which is 1.5 times the value of like goods domestically supplied by the same or, similarly placed, supplier, as declared by the supplier, whichever is less” have been omitted. The turnover of zero-rated supply of goods will now be the actual value of such supplies made without payment of tax under bond/LUT, without any comparison with domestic prices.
- Rule 89(4)(B) – Net ITC to include capital goods (w.e.f. 01.04.2027): The definition of “Net ITC” for zero-rated supply refunds is expanded to include “the input tax credit on capital goods attributable to the relevant period”, in addition to ITC availed on inputs and input services.
- New Rule 89(4)(G) and Explanation (w.e.f. 01.04.2027): “Capital goods attributable to the relevant period” means capital goods on which ITC has been availed in any of the months not earlier than 59 months from the last month of the relevant period, provided such ITC was availed on or after 01.04.2027. The ITC on such capital goods is computed as: Aggregate of (1/60 × eligible ITC availed on capital goods × number of months) minus aggregate of ITC reversals applicable under the Act/Rules in respect of such capital goods attributable to the months in the relevant period; the number of months is the period covered within the relevant period out of the 60 months commencing from the month in which the ITC was availed.
- Rule 89(5) substituted – Inverted duty structure: Maximum Refund Amount = {(Turnover of inverted rated supply of goods and services) × Net ITC ÷ Adjusted Total Turnover} – tax payable on such inverted rated supply of goods and services. “Net ITC” now means the sum of ITC availed on inputs and “eligible input services” during the relevant period and the ITC on capital goods attributable to the relevant period. “Eligible input services” means input services on which ITC has been availed on or after 01.11.2026. The terms “Adjusted Total Turnover”, “Capital goods attributable to the relevant period” and “relevant period” carry the meaning assigned in Rule 89(4).
- New declaration – Rule 89(2)(p) (w.e.f. 01.04.2027): Where the refund claim includes ITC on capital goods, the applicant must declare that the capital goods have not been sold, disposed of or permanently removed from the business, that the ITC thereon is eligible, and that the capital goods are being used for making the relevant zero-rated or inverted rated supplies.
As clarified in the FAQs issued with the Council recommendations, the existence of inverted duty structure continues to be tested by comparing the rate of tax on inputs with the rate on output supplies; ITC on input services and capital goods is included in Net ITC only where such inversion exists, and blocked credit under Section 17(5) and reversals under Rules 42/43 are to be excluded.
Effective date:
Removal of the 1.5 times cap under Rule 89(4)(C) and inclusion of eligible input services in Net ITC under Rule 89(5) are effective from 1st November, 2026 (input services ITC availed on or after that date). Inclusion of ITC on capital goods in Net ITC under Rules 89(4) and 89(5), the 60-month attribution formula and the related declaration are effective from 1st April, 2027 (capital goods ITC availed on or after that date). Exporters and taxpayers under inverted duty structure should segregate ITC availed on input services from 01.11.2026 and maintain a month-wise register of capital goods ITC from 01.04.2027 to support refund computations.
The Notification can be accessed at: https://a2ztaxcorp.net/wp-content/uploads/2026/10/CBIC-NN-05-2026–Central-Tax.pdf
