Corporate Guarantee to Sister Concern - Is it really a supply taxable under GST?
Introduction
Related party transactions are always followed with the presumption that it is not a arm length principle and thus the provisions of tax allows prescribe that any transaction done at the market value of the good or service and is also based on the common commercial terms will be considered as a transaction made with a third party. The transactions made with the related parties has always been a subject of scrunity and thus, they require demonstration that the transactions are basically made by commercial understanding. Here, the related party can be subisdiary or a sister concern of a business.
Similarly, The GST regime also prescribes some guidelines and definition in respect of the related person to a business and its application and valuation rules, specifically as prescribed in GST in respect of transaction with related persons. The said article will provide some highlights regarding the taxability of the transactions made by a related person of a businesses in case of gurantee is being provided by the related parties.
Guarantees, as provided by a related person and its determination requires a reasonable interpretation as per the provisions of GST. This can also lead to disagreements and arrangements. Accordingly, the value of supply as determined by the parties can be opned for the assessment of tax which can be termed as an exercise that is unwarranted. Under the regime of service tax, the valuation rules were could have been triggered to disregard the service value as computed by the assesse. However, in such case, the service consideration value will be zero, then the rules for valuation will not be triggered for the assessment of a deemed value and hence no service tax will be charged on zero consideration. Whereas under the GST regime, there is no such provision, the treatment of value of service of zero is not there and to draw the rules of valuation. Hence, the price of providing guarantee, dissuading organizations from providing guarantees.
In case of non-banking finance companies (NBFCs), where there is a service tax levied on the guarantee provided, the loss of input credit is an additional cost to the transaction. Thus, the guarantee of persons relating to the provided services acts as a stepping stone in respect of payment of GST. In case there may be transactions of different states, then the interpretation will be subject to the consent of the various tax officers.
According to Section 15 of the Central GST Act, the value of supply of services and goods will be considered to be the original price payable or paid with regard to the taxation calculation, where the transaction is not between the price and related person is the exclusive consideration for supply. When the supply of goods and service is between related persons, in that case the suplies value will be determined by the rules of valuation as prescribed in the GST Act in this regard.
Who Are Related Persons/Sister Concerns?
Section 15 of the Central Goods and Service Tax Act provides the provision for the related person. According to the aforesaid section, a person will be considered as a “related persons” if, it satisfies the following conditions;
- Any such persons are directors or officers of each others business
- Any such person are legally partners in the business
- Any such person are employee and employer in the same business
- Anys such person who is directly or indirectly controlling the business or holds 25% of the shares in the company or both of above.
- Any of the person controls the other’s business directly or indirectly
- Both of the persons are being controlled by a third person either directly or indirectly
- Both of the person control the third person directly or indirectly
- Both of persons are family members.
Here, it is to be noted that the term “ person” includes legal persons. Persons who are associates in the business of each others business whether they may be working as a distributor, agnet or concessionarie. In that case, they will be deemed as related to each other. Thus, associates, subsidiary, holding etc will be regarded as related persons.
Issues In Guarantee Transactions
The Rule 2 of the Determination of Value of Supply Rules which provides the determination of of the value of supply of goods and services between the related persons exclusing the agents. The aforesaid rule provides that the value of supply btween the related person will be as follows;
- The open market value of supply provided.
- In case the open market value of supply is not there in the open market, then it will be the value of supply including the quality and kind.
- In case the value is meant to be determined by the provided mechanism, then only it will be determined with the application of Rule 4 and Rule 5 as provided under GST regime.
The Provision of Rule 2 provides that
Where the goods are supposed to further supply by the recipient, the value of goods in that case will be at the option of the supplier who is supplying the goods, that amount can be equivalent to 90% of the price already charged for the the supply of goods in terms of quality and kind by the recipient to the customer not being a related person.
Further, it provides that where the recipient is liable and eligible to get full input tax credit, the such value declared in the invoice or bill will be deemed to be the market value of the goods as well as services.
The aforesaid provision provides carve out
Where there will be regualr and continuous supply of goods or
Where the recipient will be eligibleto get full input tax credit
The value of the supply in both the cases will be based on the invoice value with regard to calculation taxability for a particular financial year.
Rule 4 and Rule 5
According to Rule 4, in case the vlaue of supply of goods and services is not determinable by any of the above-mentioned rules, then the value will be 110% of the cost of manufacture or production or acquisition cost of such goods or provision cost of such services.
In case there are guarantees available, then computation of costs is not required. Thus, the rule in such case is irrelevant.
According to Rule 5 ( Residual Method of Valuation), where the value of supply of services or goods or both cannot be determined as prescribed in rule 1,2,3 and 4, then the same will be determined with the use of reasonable methods according to the principles and general rules and guidelines provided in Rule 5.
Rule 5 provides the guideline for the determination of the value of supply according to the consent of the tax officer. The officer can apply the method as prescribed under Rule 5 to find out the value of guarantee for the taxation purpose.
The definition of rationale for valuationand and related persons is in the hands of the World Trade Organisation Customs Valuation Agreement. The introduction of GST in the Indian tax regime is a mega reform and for the corporate organization it is like a dive in the ocean to find the pearls available which may value just in pennies.
Case Study: Sterlite Industries India Ltd. Vs Commissioner of GST & Central Excise (CESTAT Chennai)
CESTAT Chennai had concluded that the comission paid or received for the issuance of the corporate guarantee to the subsidiary/associate company/sister concens were not eligible to service tax under Section 65(12)(a)(ix) of Finance Act, 1994. In this case, the tribunal noticed that the corporate guarantee is not that of the same as the bank had guaranteed. As corporate guarantee is a in-house and internal guarantee issued by the bank to protect and safeguard the financial well being and health of associate companies and that it is not issued in general means to customers. It was also decided that the services listed under Section 65(12)(a)(ix) will be eligible to service tax under the Banking and Other Financial Services. The Tribunal in this case also noticed that it is not merely a case of corporate guarantee which was issued for the procurement and to enable the bank to issue the guarantee by the bank.
Analysis and Review
A subsidiary and a holding company will be regarded as related parties under Section 15 of the Goods and Serice Tax Act. Therefore, any supply of goods or services by the subsidiary to holding company or holding company to subsidiary will be taxable according to Schedule I Clause 2, despite there is no such consideration occured between the two of them for the supply of goods or services.
Both the subsidiary and holding company can carry on their business from single premises. However, it cannot be single handedly a determinable factor of whether any of the services offered by holding company to the subsidiary company or subsidiary to holding company.
Firstly, it is very important to be noted that simple due to the falling under Schedule I Clause 2, every expenditure which invloves the related persons simply cannot be termed as the supply of the services. Goods and Service Tax Act is a tax implemented on the supply of goods or services and that it cannot be considered as an expenditure. As per Schedule I, Clause 2 also mentions the same provision as well as the state. It also provides recognition to this and states supply of the goods and services between the related persons. Thus, the transactions that are capable of being considered as supplies according to the yardstick of the common commercial significant man that will come under Schedule I, Clause 2.
When there are two persons jointly avail the services of a third party and one of the person among them pays the whole amount of the service while the other person reimburses it, in that case, the person who pays the whole amount of service will be regarded as paymaster or the agent of the other person who reimburse it. The same was decided in the case of law [Durham Aged Mineworkers’ Home Association v. CEC (1994) BVC 145].
Therefore, in case the courier expenses are being paid by the holding company for the subsidiary as well as itself and accordingly get its reimbursement by the subsidiary company and the holding company in that case will act merely as agent of the subsidiary company. This does not orginally provide any courier service to the subsidiary. The services of courier is being provided by the third party service provider directlt to the subsidiary company. The actual supply nature in the provided case is the supply of agency services by holding company to the subsidiary. Here, the holding company is mere a facilator for the supply of courier by making payment as the agent of the subsidiary.
There is no such case, the original amount that is reimbursed is the value of the agency service . In fact, there is no commission that is being charged or the margin that is being kept by the holding company in the aforseaid case. It can be said that the constitute the consideration for the gency service. However, such service is liable for taxation without any consideration as a result of the impact of Schedule I, Clause 2. However, the reimbursement value has no relaton between the agnecy service and facilitation center.
These days, when tax is being one should determine the value of the agency services. When the subsidiary is capable for the full input tax credit, of whatever price is shown in the invoice/bill raised by the holding company will anyway be accepted without any further dispute in the revenue as a result of the provision prescribed under Rule 28. Even though the value of the agency service is shown in the whole amount that is reimbursed, the same cannot be questionable.
However, in case the subsidiary is not eligible to get full input tax credir, the second provision under Rule 28 cannot be applied. In that case, other guidelines and rules under Rule 28 will be applicable. It is our opinion that the ageny services invloved in this are not allowed to be valued as per Rule 28. It is to be noted that the open market value is NIL for said services.
The facilitation services provided may not be valued even under Rule 28 as there is no provision for open market value for the aforesaid services. Similarly, value of supply of services of like kind and quality cannot be determined. The method of cost plus technology cannot work here. The only thing that remains for the rule of valuation is Rule 31 which provides that the value must be computed with the use of a reasonable ways consistent with the general provisions and principles as prescribed in the valuation rules.
In the case of K. Damodarasamy Naidu v. State of Tamil Nadu [(2000) 117 STC 1], The Supreme Court had held that until and unless there is definite and certain way for the valuation provided under the statute, the aforesaid levy is not enforcable. More specifically, in case the assessing officer has his own ways and discretion in respect of this can also create his own method of valuation arbitrarily. However, it is to be noted that it can offend the Constitution. According to me Rule 31 cannot be applied completely as it provides each assessing officer intorelable discretion for division of the mechansim suggested by him.
In that case, It will be better that the invoices to be issued separately from the third party service providers in the name of both holding company and subsidiary company. The holding company can make the payment of both the provided invoices and the same amount can be reimbursed by the subsidiary company. However, when the invoices are separated at the source, the mode and manner of payment does not matter.
According to Section 92 C of the Income Tax Act, 1961, there are some methods for the computation of the transactions with related parties which are as follows;
- Comparable Uncontrolled Price Method
- Resale Price Method
- Cost Plus Method
- Profit Split Method
- Transaction Net Margin Method
- Any such other method as maybe prescribed by the Board
Conclusion
Analysis and explanation of the aspects of the related persons and its supply of goods taxability, it can be concluded that the supply is taxable under GST. According to GST Act, the value of supply of services and goods will be considered to be the original price payable or paid with regard to the taxation calculation, where the transaction is not between the price and related person is the exclusive consideration for supply. When the supply of goods and service is between related persons, in that case the suplies value will be determined by the rules of valuation as prescribed in the GST Act in this regard.
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