ITC Reversal in a Rice Mill: Rule 42, Worked Through

ITC Reversal explained: this guide covers what it means, who it applies to, the step-by-step process, documents required, fees, due dates and penalties in India — so you can stay compliant with confidence and avoid costly mistakes.

The rice mill is the standard teaching case for rule 42, because a single sack of paddy produces three different tax outcomes at once: rice packed above 25 kg is exempt, rice up to 25 kg is taxable, and rice bran is taxable. The credit on the packing material, the electricity and the machinery has to be split between them.

Section 17(1) restricts credit used partly for non-business purposes; section 17(2) restricts credit used partly for exempt supplies. Rule 42 does the arithmetic for inputs and input services: the total input tax T is reduced by T1 (non-business), T2 (exclusively exempt) and T3 (blocked under section 17(5)) to give C1; T4 (exclusively taxable, including zero-rated) is taken out to give the common credit C2; D1 = (E/F) × C2 is the credit attributable to exempt supplies, D2 is 5% of C2 for non-business end use, and C3 = C2 − (D1 + D2) is the net common credit allowed.

Why a rice mill

The Handbook explains the fact pattern before the formula:

"in case of a trader of agricultural products, one good may be taxable and other exempt. Similarly… in case of rice milling, rice bran is taxable but rice if packed above 25 kgs is exempt. Here ITC in full will not be allowed and provisions of Rule 42 and 43 will come into play read with Sec. 17."

Three output streams from one process:

And the inputs divide accordingly. Packing material for 50 kg bags is exclusively exempt-use (T2); packing material for 20 kg bags is exclusively taxable-use (T4); electricity, plant repairs and professional fees serve everything and are common credit.

The Handbook's worked example, May 2023

The Handbook's own summary of the sequence:

• "Credit will first need to be identified where it is 'wholly' not allowed (T1, T2 and T3)";
• "Remainder is credit 'wholly' allowable PLUS 'common credits' (C1)";
• "Out of this, credit 'wholly' allowable is identified and allowed (T4)";
• "From the revised remainder i.e., common credit (C2) is re-allocated to: specially 'exempt supply' (D1)… Non-business end-use (D2), which is a allocation of 5% of C2; Adjusted remainder will be 'allowable' (C3)."

Two notes attach to the ratio. "If the registered person does not have any turnover for May 2023, then the value of Exempt Supplies (E) and Total Turnover (F) shall be considered for the last tax period for which such details are available." And "Aggregate value excludes taxes."

What goes into "exempt supplies" for E

The Handbook lists the inclusions:

• supplies on which the recipient pays under RCM;
• transactions in securities, valued at 1% of the sale value — Explanation 2(b) to Chapter V of the CGST Rules;
• sale of land and building, at the stamp duty value — not covering under-construction property within Schedule II para 5(b);
• Schedule III activities except sale of land and building;
• supplies at nil rate;
• supplies wholly exempt under section 11 of the CGST Act or section 6 of the IGST Act;
• non-taxable supplies.

And the exclusions:

• interest or discount on deposits, loans or advances — except for a bank, financial institution or NBFC engaged in supplying such services;
• transportation of goods by vessel from a customs station in India to a place outside India;
• Schedule III activities except those in paragraph 5;
• the value of Duty Credit Scrips notified under Notification No. 35/2017-CT(Rate) dated 13.10.2017.

The RCM inclusion catches people out. A mill that pays reverse charge on GTA freight counts that inward supply's value in E, increasing the reversal.

The annual true-up, and the interest that rides on it

The monthly computation is provisional. The Handbook is explicit about the reconciliation:

"on completion of the financial year, input tax credit shall be determined accurately based on actuals… A true up is required to be done on an annual basis… and any excess credit availed needs to be reversed along with interest in case the said has been utilized while short credit, if any, needs to be reclaimed by the 30th November following the end of financial year… or furnishing of the relevant annual return, whichever is earlier."

And the direction of adjustment determines the cost:

• Upward revision — the annual figure exceeds the sum of the monthly reversals: the additional amount is reversed with interest under section 50(1);
• Downward revision — the monthly reversals exceed the annual figure: the excess "may be reclaimed as credit in any month… but not later than returns for the month of September following end of financial year."

Note the two dates. The Handbook's text uses September for reclaiming an excess reversal and 30 November for the general re-availment limit under section 16(4) — the earlier of the two governs in practice, so a year-end reconciliation left until November may be too late for a reclaim.

T1, T2 and T3 do not change in the review. "No variation is expected in T1, T2 and T3 in this year-end review. Variation in D1 and D2 are relevant and upward or downward revision is permitted."

Key takeaways

• Rule 42 applies to inputs and input services; rule 43 handles capital goods.
• The sequence is T → less T1, T2, T3 = C1 → less T4 = C2 → less D1 and D2 = C3 → G = T4 + C3.
• D1 = (E/F) × C2, and D2 is a flat 5% of C2 for non-business end use.
• E and F exclude taxes; where there is no turnover in the month, the last available period's figures are used.
• Exempt supplies for E include RCM inward supplies, securities at 1%, land and building at stamp value, and Schedule III items.
• They exclude interest and discount (other than for banks and NBFCs), outbound vessel freight, and duty credit scrips.
• An annual true-up is mandatory: excess credit reversed with interest under section 50(1); short credit reclaimed by the earlier of the September return and 30 November.
• T1, T2 and T3 are not revisited at year end — only D1 and D2 move.

Read next

• Rule 43 and Section 18(6): Agricultural Capital Goods
• Section 17(3): What Counts as an Exempt Supply for Reversal
• Fertilisers Under GST: 5% Against 18%

Disclaimer: Positions stated as on 5 September 2026, based on sections 16, 17 and 50(1) of the CGST Act, 2017 and rules 42 and 43 of the CGST Rules, 2017, as reproduced in the ICAI Handbook on Applicability of GST on Agricultural Sector (January 2026, law updated to 31 December 2025).