GST ITC Reversal — Rule 42 and 43 Explained with Worked Examples

The most litigated area of GST — get the computation right

Rule 42 and Rule 43 reversals trip up even experienced practitioners. A wrong computation can mean lakhs in demand. Here's the complete framework with numbers.

ITC reversal under Rule 42 and Rule 43 of the CGST Rules is one of the most frequently audited areas in GST. Getting it wrong — even by rounding — can trigger demands with interest and penalty.

Why Reversal Exists

GST allows ITC only on inputs used for taxable supplies. When a business makes both taxable and exempt supplies (or uses inputs for personal/non-business purposes), the ITC must be proportionally reversed.

Rule 42 — Input Goods and Input Services

Rule 42 applies to ITC on inputs and input services used for both taxable and exempt supplies.

The formula:

D1 = ITC on inputs exclusively for exempt supplies (reverse fully)
D2 = ITC on inputs exclusively for non-business use (reverse fully)
D3 = ITC on common inputs = Total common ITC × (Exempt turnover ÷ Total turnover)

Worked Example:

A CA firm provides both GST-taxable services (audit, TDS compliance) and exempt services (healthcare client work).

• →Total ITC for the month: ₹1,20,000
• →ITC exclusively for taxable: ₹40,000
• →ITC exclusively for exempt: ₹15,000 → reverse fully
• →Common ITC: ₹65,000
• →Exempt turnover: ₹8,00,000
• →Total turnover: ₹40,00,000

Common ITC reversal = ₹65,000 × (8/40) = ₹13,000

Total reversal = ₹15,000 + ₹13,000 = ₹28,000

Net ITC available = ₹1,20,000 − ₹28,000 = ₹92,000

Rule 43 — Capital Goods

Rule 43 applies to ITC on capital goods used for both taxable and exempt supplies. The key difference: capital goods ITC is spread over 60 months.

The formula:

Monthly common ITC = Total capital goods ITC ÷ 60
Reversal per month = Monthly common ITC × (Exempt turnover ÷ Total turnover)

Key point: Even after the capital good is fully depreciated, you continue the reversal for 60 months from the date of first use.

The 180-Day Rule — Linked to Reversal

If you take ITC on a purchase but don't pay the supplier within 180 days, you must reverse the ITC along with interest at 18%. Once you pay, you can reclaim it.

This is separate from Rule 42/43 but often confused with it in audits.

GSTR-3B vs Annual Return

Rule 42/43 reversals must be:

• →Computed and reversed monthly in GSTR-3B (Table 4B)
• →Reconciled annually in GSTR-9 (Table 7)
• →The annual computation may differ from the sum of monthly — the difference is adjusted in the March GSTR-3B

Common Errors in Audits

1. 1Using invoice-level turnover instead of monthly/annual turnover in the formula
2. 2Forgetting that zero-rated exports go in the taxable column (not exempt)
3. 3Not tracking capital goods ITC separately for Rule 43
4. 4Reversing common ITC in GSTR-3B but not reconciling in GSTR-9

The complete ITC episode — Rules 38, 42, 43, Section 17(5) blocked credits, and the 180-day rule — is Episode 9 of GST Mastery on MentorClub.

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