This feature of the article
contains certain case studies where the valuation principles discussed in the
first part are given a practical perspective.
Case
Study 1 : Barter/ Exchange Transactions (say Redevelopment Projects)
In a typical redevelopment
project, the developer agrees to deliver redeveloped flats to the existing
occupants in exchange for land/development rights. A diagrammatic presentation
of the arrangement is as follows:
The developer provides
construction services to two categories of customers (a) existing
occupants/land owner; and (b) new occupants/customers. As regards the former,
the developer delivers newly constructed flats of similar or larger areas (S1);
provides alternative accommodation until delivery of the new flat and also
provides some monetary payment (especially where the value of the land rights
given up is substantially high in comparison to the construction cost: S3
should be understood as excess of C1 over S1 & S2). These are in exchange
for undivided rights over the land as well as entitlement for additional flat
construction over the existing superstructure for sale to new occupants. As
regards the latter, the developer constructs the new flats and allots the same
to its customers for monetary consideration (C2). For the purpose of examining
the valuation provisions, the said transactions are assumed to be taxable in
terms of section 7 r/w Schedule II of the CGST Act.
Developer-Land Owner Arrangement
Section 15 of the CGST Act
states that the transaction value (being the price) would be the taxable value
of this transaction. In this transaction set-up, the developer receives
development rights as the consideration for the construction services. There is
no price (money consideration) which is agreed between the developer and the
land owner and therefore, reference would have to be made to the valuation
rules as per section 15(4) of the said Act. Valuation norms under Rule 27 may
be applied as follows:
(a) OMV
of such supply (identical value of S1 and S2): Under this
clause, the money value of an identical supply at the same time at which the
supply being made to land owners would have to be ascertained. The subject
matter of valuation is the supply (ie. value of developed flats (S1)
and not the non monetary consideration/development rights (C1). The
flats which are sold to external customers may not qualify as identical flats
since the valuation of those flats includes a host of other costs (such as land
value, etc.) which are not present in the value of flats delivered to
the existing occupants. Further, the risks undertaken by the external customers
are distinct from the risks taken by the existing occupants. At times, the
amenities are also different. Therefore, the OMV rule fails to provide a
reliable basis of valuation.
(b) Monetary
value of non-monetary consideration (C1): Unlike its
predecessor, this clause attempts to identify the monetary value of the
consideration rather than its supply i.e. value of the development rights
should be ascertained and not the value of the developed flats. It is
practically impossible to identify the monetary value of the development rights
associated with a particularly property as there is no open market for such
rights. However, in most of the cases, the development agreements attract
payment of stamp duty and hence, there is a ready reckoner valuation of the
development rights on the basis of which the stamp duty is calculated. It can
be argued that this valuation which is endorsed by the stamp duty authorities
can be the basis for identification of the monetary value of non-monetary
consideration.
(c) Value
of like kind or quality (comparable value): If the above clause fails, then
we need to proceed to this clause. This clause attempts to ascertain the value
of similar supplies i.e. value of similar flats in the same society. While the
flats can be said to be similar on parameters such as quality, materials,
reputation, etc., the value of such flats also includes the value of
land, etc. which does not form part of the bargain between the developer
and the existing occupant. The general practice of using the guideline value of
land and extracting this value does not have legal force under this rule (refer
2016 (43) S.T.R. 3 (Del.) Suresh Kumar Bansal vs. Union Of India).
Therefore, resorting to this practice at the first instance without testing
other rules may not be advisable (until Rule 31 is invoked). Hence this rule
also fails to provide a reliable basis of valuation.
(d) Cost
of non-monetary component: This clause invokes Rule 30 which requires that
the cost of provision of the service with a 10% markup can be adopted as the
value of construction service. In the absence of clear costing guidelines on
‘provision of service’, principles issued by autonomous professional bodies
could be relied upon. For example, as per the revised AS7 – Construction
Contracts issued by ICAI, contract cost is defined to comprise the following:
– Costs directly relatable to the contract;
– Costs attributable to contract activity in
general; and
– Such other Costs as are specifically
chargeable to the customer under the terms of the contract.
The developer can ascertain
the cost of construction of a project and allocate the costs to the respective
flats using the accounting/costing principles and load such value with the 10%
markup. In effect, cost of S1 and S2 would be the value of the development
rights in terms of section 15 of the GST law. S3 cannot be adopted as the cost
of the developed flats since it is a payment towards value of land/development
rights (excess of land value over construction value). Though this rule is
optional for service providers, it may be beneficial to opt for this rule in
projects (say Mumbai CBD) where land value is substantially high in comparison
to the construction costs. Moreover, with the advent of Real Estate Regulatory
Authority Act being legislated, project wise bank accounts would give
additional information to the builders to identify the cost of construction.
(e) Residual
Rule: Rule 31 can be invoked only when it is established that all preceding
rules have failed to provide a value in such exchange transaction. Moreover,
the option of skipping Rule 30 vests in the hands of the tax payer and not the
Revenue. Therefore, unless the revenue authorities categorically conclude that
Rule 30 is not providing a reliable basis of valuation in such arrangements,
the residual rule cannot be invoked.
Comparison with Service Tax Valuation
Rules
The valuation scheme under
the Service tax regime was not as comprehensive as present in the GST Law.
Section 67 followed a pattern of first identifying the money value of the
non-monetary component (C1); else, obtaining the value of similar services (C2)
and if both these mechanisms failed, it permitted the assessee to arrive at a
value not below the cost of services.
However, the CBEC vide
its Circular No. 151/2/2012-S.T., dated 10-2-2012 had stated that in
such cases, value of similar flats to the new occupants (C2 excluding the land
value) would form the basis of valuation for flats delivered to the existing
occupants, in a way bypassing the statutory scheme of valuation and directly looking
for an external value. On the contrary, the CBEC education guide (which was
subsequently withdrawn by a High level Committee report dated 20-1-2016) stated
that the value of land would form the basis of valuation in such scenarios.
Under the GST law, Q17 of a FAQ issued for builders has toed the line of its
earlier CBEC circular and stated that value of similar flats should be adopted
for the purpose of valuation. The said FAQ has deviated from the structured
valuation mechanism in Rule 27 and consequently gives contradictory results. In
view of the author, either the value of development rights or the cost of
construction can be adopted as the basis of valuation for land owner’s share of
flats.
Case
Study 2 – Exclusion on account of Pure Agency (say CHA services/ Advertising
Agency services)
Rule 33 provides a specific
exclusion for recoveries towards expenditure or costs incurred by a supplier as
a pure agent of the recipient. The said rule provides multiple conditions in
order to be termed as a pure agent.
But prior to examining the
issue of exclusion from the point of pure agency, one should first examine
whether the said amount is includible in taxable value in the first place.
‘Price’ is considered narrower than the phrase ‘gross amount charged’. Price
refers to the money consideration for supply and the term ‘consideration’ has
been defined in a very concise manner to mean such payments/acts (i.e.
monetary/ non-monetary) which are in respect of or in response to
or as an inducement of the supply (refer discussion on nexus theory in
earlier article). These phrases suggest that there has to be direct nexus
between the payment and the supply for the said payment to be termed as
consideration and cannot include extraneous recoveries by the supplier. Thus,
where an expense recovery is excludible from price itself and not part of any
other inclusion under valuation, the pure agency tests have no application at
all.
Further, the tests of pure
agency are relatively liberal in comparison to the erstwhile service tax
regime. A comparative chart of these tests under both regimes has been
provided:
|
Service Tax Law
|
GST Law
|
Implications
|
|
Section
67 used the words “gross amount charged”
|
Section
15(1) uses the word “price”
|
The
word ‘price’ is narrower than gross amount charged
|
|
Rule
5(1) specifically included all costs incurred during the course of provision
of service
|
No
similar inclusion. Section 15(2)(c) is restricted to pre-supply expenses
recovered which are incidental in nature
|
Extraneous
expense recoveries (including post delivery expense recoveries) are
excludible from valuation
|
|
Rule
5(2) exclusion subject to 12 (8+4) conditions as under:
|
Rule
33 exclusion subject to 7 (3+4) conditions as under:
|
|
|
(i)
the service provider acts as a pure
agent of the recipient of service when he makes payment to third party for
the goods or services procured;
|
the
supplier acts as a pure agent of the recipient of the supply, when he makes
the payment to the third party on authorisation by such recipient;
|
Refer
discussion on pure agent below
|
|
(ii)
the recipient of service receives and
uses the goods or services so procured by the service provider in his
capacity as pure agent of the recipient of service;
|
Deleted
|
Supplier
need not establish receipt and use by recipient
|
|
(iii)
the recipient of service is liable to
make payment to the third party;
|
Deleted
|
Supplier
can claim deduction even if the invoice is not directly addressed to the
recipient
|
|
(iv)
the recipient of service authorises
the service provider to make payment on his behalf;
|
Deleted, can be inferred from clause (i)
|
Similar
provisions
|
|
(v)
the recipient of service knows that
the goods and services for which
payment has been made by the service provider shall be provided by the third
party;
|
Deleted,
can be inferred from clause (i)
|
Similar
provisions
|
|
(vi)
the payment made by the service
provider on behalf of the recipient of service has been separately indicated
in the invoice issued by the service provider to the recipient of service;
|
the
payment made by the pure agent on behalf of the recipient of supply has been
separately indicated in the invoice issued by the pure agent to the recipient
of service
|
No
change
|
|
(vii)
the service provider recovers from the
recipient of service only such amount as has been paid by him to the third
party; and
|
Deleted,
Can be inferred from Clause (d) – One can argue on difference between
incurred and paid
|
No
substantial change
|
|
(viii)
the goods or services procured by the
service provider from the third party as a pure agent of the recipient of
service are in addition to the services he provides on his own account.
|
the
supplies procured by the pure agent from the third party as a pure agent of
the recipient of supply are in addition to the services he supplies on his
own account.
|
No
change
|
|
Explanation 1. – For the purposes of sub-rule (2), “pure agent” means a
person who –
|
Explanation – For the purposes of
this rule, “pure agent” means a person who –
|
|
|
(a)
enters into a contractual agreement
with the recipient of service to act as his pure agent to incur expenditure
or costs in the course of providing taxable service;
|
enters
into a contractual agreement with the recipient of supply to act as his pure
agent to incur expenditure or costs in the course of supply of goods or
services or both;
|
No
change
|
|
(b) neither intends to hold nor holds any title
to the goods or services so procured or provided as pure agent of the
recipient of service;
|
neither
intends to hold nor holds any title to the goods or services or both so
procured or supplied as pure agent of the recipient of supply;
|
No
change
|
|
(c)
does not use such goods or services
so procured; and
|
does
not use for his own interest such
goods or services so procured
|
Permits
use of the services by the supplier though chargeable to the account of the
recipient (eg. lodging in a hotel during an audit of a client)
|
|
(d) receives only the actual amount incurred
to procure such goods or services.
|
receives
only the actual amount incurred to procure such goods or services in addition
to the amount received for supply he provides on his own account.
|
No
change
|
As is evident from the
above table, the pure agency test has been substantially borrowed from the
service tax law. Unlike the GST law, valuation under the service tax law is
focused on the ‘Gross Amount Charged’ which is definitely wider than the term
‘price/ consideration’. This is also evident from the Explanation to section 67
which stated that all amounts payable for services provided would be includible
as ‘consideration’. Moreover, by Finance Act, 2015 the service tax law
specifically included reimbursements as part of the Gross Amount Charged.
However, the GST law is narrower to the extent it focuses on the ‘price’ agreed
between the contracting parties – the intention emerging from the contract
plays a pivotal role in drawing the line between price and other amounts
charged. Further, section 15(2)(c) only includes expenses which are incidental
to the supply and incurred prior to the delivery/ completion of the supply.
Therefore, an assessee is definitely in a better position to claim the benefit
of pure agency vis-à-vis the earlier service tax law.
Case Study
2A : Travel/ Lodging Costs during Audit
An auditor during the
course of audit incurs certain expenses which are to the account of the auditee
(such as travel/lodging costs, reprography costs, etc.) and reimbursable
to an auditor. The auditor claims these expenses are part of the Out of Pocket
Expenses (OPE) while invoicing its client for the audit services. These expense
recoveries do not fall within the scope of the term ‘price’ of the audit
services. But, such expenses can be considered as incidental expenses which are
incurred prior to supply of services and hence included by virtue of section
15(2)(c) of the GST law. Now, by applying the pure agency tests, an auditor can
claim such expense recoveries as an exclusion on account of the following:
– Though the Travel and lodging services are
used by the auditor, they are incurred during the course of and for the
purposes of the audit assignment and not for the auditor’s own account.
– Audit engagement letters contain an
authorisation to incur OPEs for the purpose of conduction of an audit which
stand recoverable from the auditee.
– The auditor does not hold any title or claim
ownership over the said services.
– The auditor recovers only the actual expense
from the supplier.
Thus, OPE expenses are
excludible from taxable value in view of the pure agency rule. This is a clear
departure from the service tax regime where the practice of applying service
tax even on the OPE component was prevalent on account of the fairly stringent
pure agency tests provided under that law.
Case Study
2B : Custom House Agency Services
Typically, the role of a
CHA is to clear the goods at the customs port and place the goods on a
conveyance for delivery to the factory premises. In the process, a CHA agent
incurs many expenses on behalf of the importer for clearance of the goods and
delivery upto the factory /premises of the importer. The CHA directly interacts
with multiple agencies in view of their proximity with such agencies such as
Port Trust, Steamer Agents, Cargo Handlers, Warehouse keepers, Packers, Goods Transport Agents.
The service tax law was
plagued with disputes over inclusion of many costs incurred by such an agent.
The CBEC Circular No. 119/13/2009-S.T dated 21-12-2009 had in substance
clarified that the pure agency tests would have to be complied with in order to
claim exclusion of any expense incurred by the CHA. However, Tribunals (relying
on the Delhi High Court in case of Intercontinental Consultants &
Technocrats Pvt. Ltd.) have consistently held that as long as the expenses
were in the nature of reimbursements, they are excludible from the value of the
CHA services itself. The Tribunals have not resorted to the pure agency tests
to reach such a conclusion.
In the context of GST, a
question arises with respect to inclusion of expense recoveries u/s. 15(2) (b)
or (c). Clause (b) is applicable only in reverse scenarios i.e. where the
primary responsibility of incurring the costs is on the supplier but is
eventually borne by the recipient, whereas in a CHA’s case, the expenses are
primarily required to be incurred by the recipient, but incurred by the CHA.
Clause (c) applies to all incidental expenses which are charged in respect of
and until supply of services.
The role of a typical CHA
is to perform the customs clearance formalities. Services are said to be
completed once all custom clearance formalities are completed and the goods are
available for dispatch to the relevant destination. Expenses incurred until
customs clearance would definitely be included under this clause (such as
customs duty, port charges, steamer agent charges, DO charges, etc.).
But, post customs clearance expenses may technically not fall within this
clause, even if it is said to be incidental in nature to the CHA services.
Thus, an expense recovery
should be tested on two grounds i.e. firstly, whether it is incidental in
nature and secondly, whether the same is until completion. In cases of
pre-supply incidental expenses, pure agency tests become relevant since they
are includible by virtue of section 15(2)(c). However, post supply expense
recoveries need not comply with the pure agency tests as long as they are
claimed as reimbursements – such expense recoveries are neither forming part of
price nor includible u/s. 15(2)(c).
Case Study
2C : Advertisement Agencies
Advertisement Agencies
provide a bundle of both creation and production work for their clients.
Typically, once the creative work is completed, the advertisement is required
to be posted on a particular media (such as newspaper, television, radio, etc.).
Where the contracts entered into by Advertisement agencies are lumpsum
contracts inclusive of the cost of production, the said services would be taxed
at the gross value including the production work. In contracts where the
production work is separately chargeable, it is important to apply the pure
agency test and ascertain the includibility of such incidental recoveries.
In such contracts, the
appropriate media is mutually decided between the advertisement agency and the
customer. The invoice raised by the media agency is addressed to the customer
with reference of the advertisement agency through which the advertisement is
placed. The media agency collects the invoice from the advertisement agency and
recovers the costs from the customer by way of a reimbursement. The
advertisement agency also earns a sales commission from the media agency as an
incentive.
In such cases, the question
which arises is whether the advertisement agencies can claim the media costs as
a reimbursement under pure agency rules inspite of the fact that it makes a
profit on an overall basis. If we are to dissect the transaction, there are two
distinct transactions in this arrangement – the first pertains to the media
agency recovering the costs of the advertisement from the customer and the
second pertains to payment of commission to the advertisement agency as an
incentive. In the first leg, the advertisement agency acts as a pass through
and recovers the actual media cost. The invoice is addressed to the end
customer with the payment being routed through the advertisement agency. The
second leg is an independent leg wherein the advertisement agency claims its
commission/ incentive from the media agency. Thus, there is a good case to take
a stand that the commission generated does alter the character of reimbursement
by the advertisement agency and hence such reimbursement satisfies the pure
agency tests under Rule 33.
The CBEC has issued a press
release on the point of inclusion of advertisement costs in print media as
follows:
a. Where
an advertisement agency works on a principal to principal basis (i.e. profit
model), it would be liable to tax on the entire value of such transaction but
at the rate applicable to sale of advertisement space.
b. Where
an advertisement agency works as an agent (i.e. commission model), it would be
liable to tax only on the commission generated from such business.
This press release can
certainly be resorted to contend that the production costs are excludible even
if commission is generated from the media agency. More importantly, the press
release has not specifically resorted to the pure agency tests to conclude that
the advertisement costs with the media are excludible and GST is limited to
commission earned from the media.
Case
Study 3 – Grossing up of TDS, esp. on foreign exchange payments
Income tax law requires the
assessee making foreign exchange payments to gross-up the TDS component for
calculation of TDS, particularly in contracts where the agreed price is net of
Indian taxes (section 195A of the Income-tax Act, 1961). In such cases, a
question arises is whether the gross up component is includible in calculation
of taxable value for discharging the GST on reverse charge basis. Section
15(2)(b) of GST law requires that the taxable value should include all costs/
expenses which are liable to be incurred by the supplier but incurred by the
recipient.
Income tax law collects
taxes in three ways: direct levy (advance tax/ self-assessment tax), tax
deduction at source (TDS) and tax collected at source (TCS). Direct levy
implies imposition of tax on the person earning the taxable income. TDS/ TCS
are part of machinery provisions where the obligation to remit the taxes is
placed on the payer/ seller but subject to a final assessment in the hands of
the person earning the income.
Section 191 of the Income
Tax Act, 1961 provides that even in cases where TDS / TCS is not deducted, the
assessee earning the income is liable to pay the income tax on such income.
This is a clear indication that the primary liability of payment of income tax
always rests on the person earning the income. TDS/TCS provisions are purely
mechanisms to collect the income at source from the income earner. Section
195A, which is part of the TDS provisions, is also based on this principle that
the income chargeable to tax in the hands of the foreign recipient is the
grossed up value (TDS being a mechanism of collection) and not just the
contractual price agreed between the parties.
Applying the above
understanding, the TDS component borne by the remitter should ideally stand
included in the taxable value in terms of section 15(2)(b) of the GST law, in
other words the income tax liability (payable as TDS) of the supplier is borne
by the recipient (as a remitter). Reverse charge tax should hence be computed
on the grossed up value of the remittance in such cases.
Comparison with Service Tax Valuation
Rules
This issue fell under
debate before the Tribunal in Magarpatta Township Dev. & Construction
Co. Ltd. vs. C.C.E., PUNE-III1, wherein it was held by reference to the
earlier Rule 7 of the Service Tax Valuation Rules, 2006 that such TDS cannot be
included in the taxable value. Rule 7 refers to actual consideration ‘charged’
for the purpose of determination of taxable value which is unlike the GST law
wherein all costs incurred by the recipient on behalf of the supplier fall
within the ambit of taxation. Hence, in view of the author, TDS gross up is
includible in the taxable value of import of service transactions.
________________________________________________
1 2016
(43) S.T.R. 132 (Tri. – Mumbai)
Case
Study 4 – Valuation in case of notified Valuation schemes (say Air Travel
Agents)
The valuation scheme for
air travel agents can be understood as follows:
– This scheme is applicable to services in
relation to book of air tickets by an air travel agent
– The term ‘air travel agent’ has not been
defined, but if understood as per industry norms, refers to the persons who
perform the service of booking of air tickets on behalf of the airline (as per
International Air Travel Association (IATA) policy)
– Air travel agents charge a commission from
the airline, receive a booking fee from customers and in many cases make a
profit on the booking fee (especially in inventory models where ATAs hold
inventory of seats in specific sectors)
– The scheme overrides the other valuation
provisions and requires tax to be computed only 5%/ 10% of the base fare.
The primary question that
arises is whether all the three sources of income of an ATA are includible in
the said valuation scheme. If yes, the ATA has to merely charge GST on 5%/10%
of the base fare as applicable and need not separately charge/ collect GST. The
ambiguity arises since the provision does not refer to any particular service/
HSN category, rather states that services ‘in relation to’ booking of tickets
are covered under the said scheme. It must be appreciated that the phrase ‘in
relation to’ is much wider than ‘in respect of’ and a broader scope should be
attributed to it. In the view of the author, all the three categories of income
stand included in the scope of the valuation scheme as all the three sources of
income arise from the booking of air tickets. The phrase ‘in relation to
booking’ certainly widens the scope of the subject matter, of valuation and
hence such a stand can be taken by ATAs on their booking services.
Case
Study 5 – Discount Policy variants
Companies have
innovative/peculiar methods of passing on benefits of discounts through the
supply chain. Though there is no exhaustive list, the general terminology used
are – trade/ invoice discount; discount on list price, cash discount,
turnover/off-take/target discount, seasonal discounts, gold/ silver incentive,
price protection/support, free/ promotion items etc. The GST law
classifies discounts given by supplier into two broad categories – pre-supply
discounts and post supply discounts. As stated in the earlier article,
pre-supply discounts are eligible on the invoice value itself and post supply
discounts are eligible for deduction by issuance of credit notes with
corresponding matching and input tax credit reversal by the recipient. While
trade/invoice discounts fall within the ambit of pre-supply discounts, the rest
would generally fall within the scope of post supply discounts, since they are
provided after the transaction of supply.
In the case of post supply
discount, can a supplier issue a credit note without any GST impact and
overcome the rigours of Credit note matching? The answer is a definite ‘Yes’.
The GST law prescribes the issuance of a credit note (with GST reversal) only
if the supplier wishes to avail a reduction from his taxable turnover. This
does not prohibit a supplier from issuing a commercial/accounting document for
settlement of transactions/accounts in respect of a particular sale/purchase
transaction. It is not necessary that a supplier should always link an
accounting/ commercial credit note with its original supply invoice for
commercial purposes. In contract law terminology, it is merely an alteration of
the original contract price (section 62 of the Indian Contract Act, 1872). GST
law cannot override the contract/commercial terms and make it mandatory for the
supplier to raise a credit note with a GST reversal.
Even speaking from a
practical perspective, a tax officer cannot recover any additional tax from the
supplier since no tax benefit has been claimed by the supplier in this case.
From a recipient’s perspective, as long as the conditions of section 16 are
complied with, input tax credit cannot be denied merely on account of an
additional discount given by the supplier. The additional discount is a
mechanism of settlement of accounts between the parties and the proviso of
non-payment cannot be invoked against the recipient. Moreover, since this
transaction is revenue neutral without any revenue loss to the exchequer, it is
definitely permissible for suppliers to issue credit notes without any GST
reversal to their customers.
Summary
In the context of
valuation, the biggest challenge that anyone would face is to reconcile certain
elements of a duty based law (such as excise/customs) with certain elements of
a transaction based law (such as sales tax/ service tax). Both are distinct
fields of taxation and GST being a composition of both would certainly create
confusion over the interpretation of the law. The litigation on this front
would also depend on the background of the assessing authority. An erstwhile
excise/customs official would certainly lean towards applying legacy duty based
principles and an erstwhile VAT official may follow the contractual terms.
There is bound to be some disparity in administration of tax laws itself and
the Government(s) should take proactive steps to issue appropriate circulars
clarifying legal position in order to maintain uniformity in administration.
From an economic perspective,
transaction value approach ensures that economy drives tax collection and not
the other way around. The revenue has to appreciate that in a multi-point tax
system where credit flow is robust, it is only the last leg of the value chain
which would generate revenues for the government. The purpose of introduction
of GST was to facilitate market forces to operate independent of tax
structures. It is in light of this principle, the rigours of valuation as
existed in the First and the Revised Model GST law have been diluted and the
discretion granted to revenue authorities on the point of valuation is fairly
limited. Unless the revenue authorities appreciate the larger picture, disputes
around valuation would ultimately burden the industry with onerous taxes. _
