HSN Code: Why It’s Not Working Properly and How It Affects GST Compliance

As part of the Goods and Services Tax (GST) system, the Harmonized System of Nomenclature, or HSN Code, is used to group goods and services into different categories. This system was made by the World Customs Organization (WCO) and makes international trade easier by classifying goods in a way that is the same all over the world. However, many companies in India and other countries are experiencing difficulties in efficiently utilizing HSN codes in the GST system. A number of compliance concerns arise when the HSN Code does not function as intended, whether due to regulatory constraints, technological difficulties with the GST portal, or a lack of familiarity.

This blog post will talk about why the HSN Code system doesn’t work, how that affects GST compliance, and what companies can do to fix the problem. We will talk about important terms like GST Rate Finder, SAC, Legal documentation, B2B tax invoices, as well as export and import procedures to give you a full picture of how the HSN Code works in the GST system.

What Is the HSN Code and Why Is It Important?

A widely accepted system for classifying goods for trade and tax purposes is the HSN Code, or Harmonized System of Nomenclature. The WCO has overseen the system since 1988, implementing it under the GST in India to simplify the categorization of goods and services for taxation. HSN in GST is the name of the system that makes it possible for deals to be consistent in both the international as well as domestic countries. A wide range of goods and services can use the system.

Using HSN codes with GST rates, it is easier to assign tax rates to a number of product categories, ensuring consistent taxation of comparable goods. This consistency is essential for GST invoices, especially B2B tax invoices, where accuracy in making tax invoices affects compliance and the credibility of the company.

How Does the HSN Code Work?

The HSN Code system serves as a global standard for product classification, assisting companies and governments in classifying goods consistently for trade and taxation. Each HSN code reflects the nature, purpose, and taxability of a good through a structured numerical sequence. These codes are usually six or eight digits long, with each group of numbers indicating a different level of item detail.

An HSN code’s first two digits indicate the chapter that the goods are in, and its next two digits indicate the heading within that chapter. The fifth and sixth digits that follow provide a more detailed description by identifying particular subheadings. India allows for even more accurate GST taxes by adding two more digits to the HSN code to indicate country-specific categories.

For instance, firms can streamline the tax assessment process and ensure appropriate taxation of goods under the designated GST rate by inputting the relevant HSN number into GST invoices. For B2B transactions, where the exact classification may affect tax credits and claims, this clarity in tax invoicing is crucial.

HSN Code Declaration for Goods and Services

All firms registered under GST in India are required to make a declaration of HSN codes, though the extent of the declaration varies depending on turnover. Companies with Annual Aggregate Turnover (AATO) under 5 crores are only required to provide HSN codes for B2B tax invoices, whereas larger companies are required to do so for both B2B and B2C invoices.

Additionally, GSTR-1 returns must specifically state the HSN code with GST rate to ensure accurate tax filing. Companies that provide services are required to provide the relevant Service Accounting Code (SAC). HSN as well as SAC declarations reduce categorization mistakes and associated penalties by keeping export and import documentation consistent.

This standardized statement precisely defines the legal and commercial status of any goods or service, assuring compliance and facilitating accurate legal documentation, certification, as well as patent applications.

Why HSN Code Fails to Work Correctly

The HSN Code system isn’t working as intended for a number of reasons, despite its importance:

Complexity in Code Structure

• Each of the thousands of categories in the HSN Code system has distinct subcategories. It might be difficult for businesses with a large range of items to find the suitable HSN code.
• The GST Rate Finder on the GST portal may not always provide accurate or updated information, leading to misclassification of goods.

Inadequate Knowledge Among Businesses

• If a small or medium-sized business has less than 5 crore Annual Aggregate Turnover (AATO), it’s possible that they don’t have the tools they need to understand complicated HSN classifications.
• Misinterpretations that lead to errors in B2B transactions may result in inaccurate tax payments and potential fines.

Challenges with the GST Portal

• Technical issues with the GST portal often make it impossible for companies to accurately look for or enter HSN numbers.
• Portal errors affect the GSTR-1 return, which causes problems with financial reporting and compliance.

The Impact of Non-Functioning HSN Code on GST Compliance

When the HSN Code isn’t working correctly, businesses face a variety of compliance issues. Some of the main consequences to take into consideration are as follows:

Inaccurate Tax Rates

• Inaccurate tax rates resulting from an inaccurate HSN number can impact the CGST and SGST calculations on a tax invoice.
• Tax authorities may conduct audits or impose penalties as a result of this misclassification, which affects tax liability.

Problems with Legal Documentation

• Compliance requires accurate legal documentation, particularly in regulated sectors where patent and certification rights are crucial.
• Misuse of HSN codes can lead to incomplete documentation, which can affect export and import procedures, particularly when transferring Goods and Services across borders.

GSTR-1 Filing Issues

Incorrect HSN codes impact a company’s overall aggregate turnover records and complicate the GSTR-1 return process. This could potentially lead to backlogs in the GST Registration and compliance process, thereby delaying refunds.

Importance of SAC in Services

The SAC (Service Accounting Code) is applicable to services, whereas HSN codes are applicable to products. Similar to HSN, SAC codes are necessary for GST service classification. However, it can occasionally be difficult for companies that offer both goods and services to determine which SAC code is appropriate for a given offering. The SAC system further complicates compliance, especially for companies providing legal services that require comprehensive legal documentation and copyright protections.

Solutions to Make HSN Code Work Efficiently

Implementing a variety of solutions can resolve the challenges associated with HSN Code. Businesses can optimize their utilization of HSN codes by following these steps:

Use Updated GST Rate Finder Tools

• Updated GST Rate Finder tools that incorporate the most recent data can significantly reduce errors. Businesses should either consult with tax professionals or invest in dependable tax software to define the appropriate HSN Code with GST rate.

Training and Awareness Programs

• Understanding HSN and Unique Quantity Code structures requires training for businesses, particularly those with lower turnover. Effective training reduces mistakes and helps companies get the most out of the HSN system.
• Attending compliance and legal documentation workshops helps improve understanding of the HS Code and SAC requirements.

Strengthening the GST Portal

• Improving the stability and functionality of the GST portal will facilitate finding and applying the appropriate HSN codes for businesses. A more intuitive GST Rate Finder and improved classification for common products are potential enhancements.

Expert Support for Compliance

• Businesses may find it advantageous to employ consultants or tax specialists to manage B2B invoicing and documentation due to the technical nature of HSN classification.

The Role of HSN in Export and Import

Proper utilization of HSN is essential for both importers and exporters. The proper use of HSN codes guarantees the smooth passage of products through customs and their appropriate taxation. Furthermore, an accurate HSN application is consistent with certification and legal documentation requirements. Misclassification can result in the delay of shipments, the imposition of penalties, as well as the compromise of international trade relationships.

When it comes to intellectual property, such as patents and copyrights, inaccurate HSN codes might possibly compromise the capacity of the company to defend its rights globally.

Future of HSN Code in India’s GST System

It’s possible that the HSN Code will work better in the Indian GST system over time. The WCO is always making changes to the HSN system, so future versions may have more accurate categories.

Also, the GST Council is looking at rules that will make it easier for businesses with an Annual Aggregate Turnover of up to 5 crores to follow the rules. Businesses might have fewer issues with following the HSN code, which means the GSTR-1 filing process will have fewer disruptions if these changes are made.

Summary

Although the HSN Code is still a crucial part of the GST system, businesses face serious compliance issues as a result of its inefficiencies. Businesses must be careful to put the correct HSN code with GST rate on their invoices, especially on GST invoices for B2B tax invoices and export and import transactions, in order to ensure seamless GST compliance.

Improving the processes for legal services and legal documentation will increase the efficiency of HSN applications while strengthening the framework for copyright, patent, and certification management. Training, trustworthy GST Rate Finder tools, and enhancements to the GST portal will help companies use HSN codes efficiently, maintaining compliance and fostering a stronger GST ecosystem.

In conclusion, companies should look for advice on how to use HSN codes correctly in order to avoid expensive compliance problems and stay up to date with GST requirements until the HSN system is streamlined and better connected with the GST portal.