Author: Ashwarya Sharma, Advocate & Co-Founder, RB LawCorp
Date: 02/03/2026
Introduction: When Procedure Is Mistaken for Prohibition
The architecture of GST rests upon the promise of seamless credit. Yet, in practice, few issues have generated as much controversy as the mechanism for distribution of common input service credit between distinct registrations of the same legal entity.
For years, businesses operating across multiple States faced a recurring question:
Was the Input Service Distributor (ISD) mechanism mandatory for distribution of common credit?
Or could Head Offices legitimately adopt the cross charge model under Section 31 of the CGST Act?
The recent judgment of the Karnataka High Court in Micro Labs Ltd – 2026-TIOL-331-HC-KAR-GST has now delivered long-awaited clarity on the pre-amendment position.
The Statutory Framework: Distinct Persons and Credit Flow
Under Section 25 of the CGST Act, each State-wise registration of an entity having the same PAN is treated as a distinct person. This federal design ensures proper apportionment of tax revenue but introduces operational complexity where services are centrally procured and consumed across States.
Section 2(61) defines an Input Service Distributor (ISD) as an office receiving tax invoices for input services and distributing such credit to its units.
The ISD mechanism:
Applies only to input services
Requires separate registration
Mandates issuance of ISD invoices
Requires distribution in the same month through Form GSTR-6
Operates on turnover-based allocation principles
However, prior to 01.04.2025, the statutory definition did not expressly mandate that all common credit must necessarily flow only through ISD.
Simultaneously, Section 7 read with Schedule I recognised supplies between distinct persons even without consideration as taxable supplies — thereby enabling cross charge through issuance of tax invoices under Section 31.
In the absence of statutory exclusivity, both mechanisms operated in practice.
The Controversy Before the Court
In Micro Labs Ltd, the petitioner, a pharmaceutical company with registrations in 20 States, was also registered as an ISD in Karnataka.
While forward charge common credits were distributed through ISD, credit pertaining to reverse charge mechanism (RCM) services was distributed by raising tax invoices under Section 31 — since the unamended ISD framework could not accommodate RCM transactions.
A show cause notice was issued alleging that distribution through cross charge was impermissible and that ISD was the only valid route.
The central question was therefore:
Was ISD mandatory during the period 2017–31.03.2025?
The Amendment and the Circular
The Finance Act, 2024 amended the ISD framework prospectively from 01.04.2025, rationalising certain structural gaps.
However, prior to this amendment, CBIC Circular No. 199/11/2023-GST dated 17.07.2023 had clarified that distribution of common ITC through ISD was not mandatory and that cross charge under Section 31 was a permissible alternative.
The controversy thus turned not only on statutory interpretation but also on the binding nature of departmental circulars.
Findings of the Karnataka High Court
The High Court examined:
The statutory scheme
The absence of exclusivity in the pre-amendment provisions
The binding Circular issued by CBIC
It held that during the relevant period:
ISD was not mandatory.
Cross charge was legally permissible.
The petitioner had distributed only eligible credit.
The Court further reiterated that circulars issued by the Board are binding upon departmental officers so long as they remain operative. Field formations cannot disregard them.
The impugned demand was therefore set aside as unsustainable in law.
Restoring the Seamless Credit Principle
The judgment restores doctrinal clarity and commercial certainty.
ISD was conceived as a facilitative mechanism — not a penal trap.
Procedural design cannot be elevated into substantive restriction.
Credit eligibility cannot be denied merely because one permissible distribution mechanism was chosen over another.
By affirming that ISD was not mandatory prior to 01.04.2025, the Court has reinforced the foundational GST promise of seamless credit flow.
Conclusion: Between Mechanism and Mandate
The ruling carries significance beyond the petitioner. It impacts all multi-State businesses that operated between 2017 and 2025.
Not every procedural framework is a condition precedent.
Not every administrative preference becomes statutory compulsion.
Not every distribution method outside ISD is impermissible.
GST was designed to promote economic neutrality — not technical rigidity.
In clarifying that ISD was optional and cross charge permissible in the pre-amendment regime, the Karnataka High Court has drawn a necessary line between mechanism and mandate.
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(The author is a practicing advocate, Co-Founder and Legal Head of RB LawCorp.
He specializes in GST law. Suggestions or queries can be directed to
ashsharma@rblawcorp.in. The views expressed in this article are strictly
personal.)
