By Sheena Sareen and Rajat Mahajan
India’s automotive sector recorded strong growth in calendar year 2025, supported by tax rationalization under the Goods and Services Tax (GST) framework, the continued support for electric vehicles (EVs) and the extension of incentives under the PM E-DRIVE scheme. Together, these measures strengthened the EV segment, improving affordability, encouraging first-time buyers and boosting confidence across the industry.
The Government has adopted a measured approach in restructuring the GST rate framework, retaining the concessional rate of 5% on EVs across segments, ranging from entry-level to premium models.
Further, under GST 2.0 framework, tax rates on several critical parts and components for EVs such as power electronic components, magnetic cores, brake assembly components, etc., have been reduced from 28% to 18%, which has rationalized inputs cost to some extent.
Despite these measures, structural challenges remain. EV manufacturers continue to be affected by the Inverted Duty Structure (IDS), where tax rates on inputs are higher than those on finished vehicles.
Duty mismatch
This mismatch leads to a build-up of Input Tax Credit (ITC), as tax paid on raw materials and components cannot be fully set-off against the tax liabilities on outputs. Although GST law permits refunds of such accumulated credits, the IDS for the EV ecosystem requires a holistic realignment.
While EV manufacturers are entitled to avail tax credits on procurements to offset the output liabilities, the concessional rate on EVs at 5%, alongside higher tax rates, approx. at 18%, on several critical inputs, prevents full credit utilization and leads to persistent accumulation of unutilized ITC.
From an industry perspective, this inversion is not merely a technical anomaly in rate design. It directly affects cost economics, cash-flow management and investment decisions. Higher input-side taxes directly affect vehicle pricing and thus impacts consumer affordability.
Consequence of reliance on refunds
Reliance on refunds brings friction in the system, with claims subject to procedural scrutiny, processing time lags and statutory exclusions, particularly in respect of certain input services and capital goods deployed during the manufacturing process.
That said, the Government has actively taken measures to streamline the refund mechanism, as evidenced by a recent circular that facilitates provisional sanction of up to 90% of eligible refunds. However, from an operational standpoint, IDS translates into systematic cash-flow blockages and heightened working capital requirements.
The impact of IDS is further compounded by the non-availability of refunds on ITC attributable to capital goods and input services. Under the existing framework, ITC on capital goods deployed in the EV manufacturing process is excluded from refund eligibility, despite the capital-intensive nature of the industry. This exclusion materially increases the effective cost of domestic production and leads to long-term capital lock-in for manufacturers.
Permitting refund of ITC across all categories significantly reduces credit accumulation and improves cash-flow availability, thereby lowering the embedded cost in EV manufacturing. To ensure consistency, refund of ITC on account of capital goods could be allowed in a stagged manner, aligned with the existing framework on ITC availment under the GST laws.
Similar challenges around refunds persist in case of export of domestically manufactured EVs. Under the current mechanism for zero-rated supplies, taxes paid on inputs and input services can be availed as refunds.
However, consistent with the restrictions under IDS, tax credits on capital goods utilized during the manufacturing cycle continue to remain excluded from the refund mechanism. For a capital-intensive and rapidly scaling sector such as EV manufacturing, these constraints collectively impact the cost structures and margins involved.
Looking ahead, Budget 2026 presents a critical opportunity for course correction, enabling closer alignment between the Government’s long-term green mobility objectives and the prevailing GST framework.
A focused reassessment of input-side tax treatment, particularly eligibility of ITC on capital goods for refunds, could help restore tax neutrality, ease working capital pressures, strengthen domestic manufacturing and enhance the overall effectiveness of India’s broader e-mobility agenda.
The writers work at Deloitte India. Sheena Sareen is a partner at Deloitte India, and Rajat Mahajan is a partner and automotive sector leader at Deloitte India.
Disclaimer: The views expressed are the author’s own and do not reflect the official policy or position of Financial Express.