BCAJ | Bombay Chartered Accountant Journal

To ERR Is Human, To Forgive Divine

Despite automation in GST, errors in tax filing have been a norm for business enterprises. They arise from voluminous data, manual interventions, technical intricacies and frequent amendments. The errors are noticed during internal reviews, statutory audits, annual filings or eventually through departmental actions.

The Goods and Services Tax Network (GSTN) system is founded on a complex fiscal architecture involving multiple stake holders whose compliance is unified on a single platform and settlement system. Errors may have an impact on the inter-government settlement of revenue. Taking cognizance of this, the GST law has not permitted rectification of previously filed returns as it would lead to frequent disturbance in such settlements.

Though many errors were addressed at early stages, some disputed cases reached higher legal fora. The judiciary played a pivotal role in clarifying the statutory framework governing such errors, while balancing the need for tax certainty with fairness to taxpayers. In this article, we highlight the array of errors committed in the prominent forms, with legal resolutions provided by the Courts. Specific focus would be made on the errors committed in Forms GSTR-1/3B in the later part of the article.

TRANSITION RETURNS – SUPREME COURT’S INTERVENTION

One of the most prominent judicial interventions concerned the transition returns, where taxpayers’ errors triggered a torrent of litigation. During trial-and-error phase of GST development, taxpayers committed bona-fide errors due to requirement of complex data inputs. Being a one-time exercise and lack of prior experience, many taxpayers failed to report required supporting data resulting in legal disputes over credit entitlement. Moreover, the said return had the peculiarity of the original due date coinciding with the revised return date, leaving the taxpayer perplexed. High Courts were flooded with grievance over errors committed by taxpayers. Grievance redressal committees were formed by the tax administration which addressed case-specific issues. Acknowledging the procedural confusion and inexperience, the Supreme Court (in Filco Trade Centre’s case¹) directed reopening of transition return filings for a limited period, enabling taxpayers to correct their mistakes. This intervention was conditional – the CBIC issued circulars and guidelines, mandating officer verification before any credit could be recorded in the Electronic Credit Ledger. Genuine claimants ultimately received their credits, though only after enduring lengthy litigation and verification procedures (Article published in January 2021 may be referred).

¹ 2022 (63) G.S.T.L. 162 (S.C.)

E-WAY BILL – PROPORTIONALITY AND INTENT

E-way bills were generally backed by supporting invoices which ensured that the taxes due on the consignment would be duly paid. Though E-way bills were documents for movements, many officers placed excessive importance and treated it on par with a tax-invoice. For example, despite the tax invoice reporting the correct data and tax liability, incorrect reporting of delivery address in e-way bill was treated as a ‘contravention’ resulting in potential tax loss. A tug of war took place between the taxpayer and intercepting officers with the former generally relenting due to commercial compulsions. Simple bona-fide errors faced harsh penalties along with demurrages and damage to goods. Courts have emphasized that mere technical mistakes — such as an incorrect vehicle number or typographical errors — should not automatically trigger hefty penalties or confiscation of goods, provided there is no evasion of tax. The judiciary² has consistently ruled that the presence of tax evasion is a necessary precondition for imposing such harsh penalties (Article published in January 2021 may be referred).

²  2022 (57) G.S.T.L. 97 (S.C.) Asst. Comm. vs. Satyam Shivam Papers Pvt. Ltd.

EXPORT DOCUMENTATION – ADMINISTRATIVE APATHY

Integration of customs and GSTN system for export refunds raised multiple data entry discrepancies forcing the Government to issue Circulars³ on the type of errors and the manual redressal by Customs officers (such as incorrect shipping bill number in GSTR-1, IGST amount paid on exports in GSTR-3B and not matching with customs data, exports not appropriately reported in GSTR-1/3B though rectified in GSTR-9, etc). Errors which were rectified in subsequent returns were also not being auto-populated for matching with customs data. In many cases, the errors could not be addressed on account of the limited purview of customs officials and lack of coordination with GST authorities. Obviously, courts frowned upon the revenue’s plea that the IT systems did not permit them to resolve the errors.⁴ High Courts compelled tax authorities to consider genuine representations on merits, rather than hide behind the limitations of IT systems. The judiciary’s stance was clear: administrative shortcomings should not defeat the substantive rights of taxpayers.

³  Circular 42/2017-Cus., dated 7-11-2017 , No. 5/2018-Cus., dated 23-2-2018, etc

⁴  [2023] 152 taxmann.com 247 (Bombay) Sunlight Cable Industries vs. 
Commissioner of Customs; 2024 (91) G.S.T.L. 145 (Guj.) BAJAJ HERBALS PVT. LTD. vs.
 Dy. Comm. of Customs, etc

REFUND APPLICATION – UNDERCLAIMING REFUNDS

The complexities of the GST framework also extended to the domain of refund applications, where procedural missteps and inadvertent omissions have often resulted in taxpayers underclaiming their rightful refunds. Given the intricate eligibility computations and the voluminous data required — from invoice-wise details to correlation with returns and shipping documents — errors are not uncommon. Applicants have found themselves short-claiming refund amounts due to misreporting of figures, incorrect selection of tax periods, or failure to include all eligible invoices or export documents. Moreover, in the absence of a mechanism for filing an additional refund claim in the same category, taxpayers resorted to filing refund in the residual ‘any other category’. Authorities claimed that having filed a refund claim for ITC once, another/supplementary application for differential amount of refund could not be filed. Judicial forums⁵ in numerous instances, directed authorities to permit rectification or additional refund claims—provided the error did not result in unjust enrichment or affect revenue interests. Where the portal’s technical limitations prevented additional claims, the judiciary has emphasised that substantive rights should not be defeated on mere technicalities, and that taxpayers should be allowed to present supporting documentation to substantiate their claims.

⁵ 2023 (78) G.S.T.L. 324 (Guj.) SHREE RENUKA SUGARS LTD.vs. STATE OF GUJARAT

DRC-03 ERRORS – NAIL IN THE COFFIN

This simple document was also not immune to errors and inconsistencies. Taxpayers, while attempting to voluntarily discharge additional tax liabilities or rectify inadvertent errors through DRC-03 filings, often encountered further complications. Instances abounded where the particulars entered in DRC-03 were incorrectly mapped to the wrong tax period, tax head, or nature of liability—sometimes as a result of system’s rigid architecture or human oversight. Such mistakes led to confusion and, in several cases, double payments or misallocation of credits. Taxpayers faced arduous processes in seeking rectification before the Courts, as the GST portal does not provide for amending DRC-03 submissions⁶. As a result, what was intended as a means of self-compliance frequently became a source of technical and administrative frustration, occasionally culminating in protracted disputes. Such issue will also crop up when taxpayers would attempt mapping the DRC-03 with the electronic liability register through submission of DRC-03A forms.

⁶  (2024) 16 Centax 156 (Bom.) Rajesh Real Estate Developers Pvt. Ltd. vs. UOI

GSTR1/3B – OPPORTUNITY FOR CORRECTION

GST law envisioned a self-correcting system of GSTR-1, 2 and 3, where any data error at the supplier’s end could be identified and communicated at an invoice level by the recipient through GSTR-1A/2A. The adjustments/ rectifications were tabulated separately in GSTR-3 and necessary tax impact could be provided. Unfortunately, this two-way system was not operationalised and ultimately abandoned by the Government. As an alternative, a partial system of GSTR-1 and GSTR3B was introduced wherein the recipient was a mute spectator to the data uploaded and had to communicate through offline channels. Unless the supplier rectified the data in subsequent returns, the error persisted on the common portal.

Typically, errors involve incorrect reporting under appropriate heads – such as ITC under reverse charge / import of goods incorrectly reported as ‘All other ITC’; exempt values reported along with taxable supplies, outward supplies reported as B2C or with incorrect GSTIN, incorrect tax-type, incorrect POS for supplies, export transactions missed to be reported, credit notes reported as input tax credit, etc. Even-though net tax payable by the taxpayer was correct these errors caused significant confusion during assessments. The adjustments in subsequent returns were clubbed/netted with the respective tax period data. Since the GST form did not contain a separate tab or attachment for reporting tax adjustments of prior period errors, it was an onerous task for the taxpayers to explain these errors and equally challenging for the officer to verify them from the books of accounts.

STATUTORY PROVISIONS ON ERRORS IN GSTR1/3B

Section 37(4) (GSTR-1) and 39(9) (GSTR-3B) deal with such errors (omission or furnishing of incorrect particulars) in the GSTR returns. It specifically provides for appropriate adjustments in subsequent returns, subject to certain timelines. But there is a fine distinction between section 37(4) and 39(9) which leads to an interesting analysis.

Section 37(4) provides for adjustment of errors in GSTR-1 before 30^th November of the relevant financial year to which the details ‘pertain’. On the other hand, section 39(9) states that a person who discovers any omission or incorrect particulars (other than as a result of scrutiny, audit, inspection or enforcement activity) would be permitted to rectify the same in the return in which such error is ‘noticed’. The said section originally contained a proviso which permitted rectification in the return of September following the end of the financial year. What was the ‘relevant financial year’ (year of committing the error or noticing error) was unclear from the proviso. While the provisions for GSTR-1 specifically linked the amendment to the year to which such details pertain, the provisions for GSTR-3B were silent over it.

Conjoined reading of the proviso and section 39(9) indicates that since rectification is to be performed in the return in which it is noticed, the relevant financial year would be the one in which such error was noticed. Subtly this gives ample liberty to the taxpayer to rectify the data with an open-ended time frame (subject to departmental action) by claiming that he/she noticed such error in a particular month and not before. To address this lacuna, the proviso was amended vide CGST (Amendment) Act, 2018 by specifically linking the financial year to the month to which the details pertain. This amendment implies that the taxpayer is obliged to rectify the error latest by 30^th November following the financial year in which such error was committed. However, the said amendment has not seen the light of day as it is yet to be notified and hence does not have legal force.

Interestingly, the proviso which places a restriction on the adjustment has not fixed the outer time limit for such amendment (specifically the relevant financial year). This table will amplify the lacuna in section 39(9):

⁷ Substituted vide Finance Act, 2022 w.e.f. 01-10-2022 before it was read as, "the due date for furnishing of return for the month of September or second quarter

The ambiguity which was present in the original section continues to persist despite the legislation of this provision. Even during 2022, where the due date was shifted to 30th November of the financial year, the proviso failed to specify the relevant base year to decide the outer time limit for rectification of errors. Yet as a matter of practice both taxpayers and administration have limited themselves to rectifying errors latest by 30th November following the financial year in which the error was committed. Certainly, courts would take notice of the difference in wording in section 37(4) and the amended (but unnotified) wordings to arrive at the true purport of the section.

CIRCULARS ON ERROR HANDLING

Under the GSTR-1/2/3 system, the Board issued Circular No. 7/7/2017-GST, dated 1-9-2017 during the introductory phase of GST. Recognising that GSTR-3B has been introduced as a stop-gap measure, the Circular provided for recording the adjustments in liabilities (short ‘payment of output’ or ‘claim of input’, excess ‘claim of input’ or ‘payment of output’) between GSTR-1/2 and 3B into the final reconciliation table of GSTR-3. Essentially, the amendments at invoice level in GSTR-1/2 poured into GSTR-3 leading into the net tax liability. But on account of suspension of GSTR2/3, another Circular 26/26/2017-GST, dated 29-12-2017 was issued directing adjustments in GSTR3B (on net basis) and removing references to GSTR-3. The underlying philosophy was to discharge the net-short payment of tax or claim the excess payment of tax in subsequent GSTR-3B returns. But nowhere did the provisions provide for rectification of the original return itself.

BHARTI AIRTEL’S CASE

The above issue was taken by the Supreme Court in the famous Bharti Airtel’s case⁸, wherein the taxpayer had made an excess payment of INR 934 crores (in cash) on account of short availment of ITC in GSTR-3B. The Delhi High court observed that the said short claim of ITC was on account of non-operationalisation of GSTR-2A restricting the taxpayer from knowing the actual ITC. The Court read down the Circular and permitted taxpayer to rectify the original return by availing the said credit. Consequentially it would result in excess payment of output and a refund of excess cash paid. On appeal to Supreme Court, revenue argued that under a self-assessment scheme, the taxpayer is under a duty to examine its accounting records and need not await the implementation of GSTR-2A for availment of credit. The Court concluded that self-assessment should be performed based on the accounting records and GSTR data on the portal is only a facilitator. The express provisions of section 39(9) clearly direct adjustments of errors in the month in which it is noticed and hence the circular is in consonance with the said prescription. Since any rectification of original return would have cascading effect on revenue settlements, the provisions of section 39(9) directing adjustment in subsequent periods should be enforced completely. This judgement gave a thrust to the Government to enforce adjustment in subsequent returns rather than seeking correction in the original return.

8. Union of India vs. Bharti Airtel Ltd - 2021 (54) G.S.T.L.257(S.C.)
 reversing 2020 (38) G.S.T.L.145(Del)

ABERDARE TECHNOLOGIES’ CASE

In the meanwhile, the Bombay High Court in Star Engineers (I) Pvt. Ltd⁹ permitted the taxpayer to amend the GSTIN incorrectly reported in GSTR-1 on the premise of being a bona-fide error without revenue impact. The court held that if any rectification is not permitted it would amount to accepting incorrect particulars leading to an incorrect cascading impact.

But there were adverse rulings on this subject as well. In Bar Code India Ltd¹⁰ taxpayer’s plea for amendment in POS/ GSTN of recipient was rejected despite reference to the said decision. It held that a taxpayer should be aware of his legal responsibilities and merely because a loss is caused to its customer it cannot be resolved by seeking a rectification in GST return. In another decision in Yokohama India private Limited¹¹, the Telangana High Court rejected the plea of rectification after statutory timelines on account of the specific verdict in Bharti Airtel’s case.

⁹  2024 (81) G.S.T.L. 460 (Bom.)

¹⁰ 2025 (93) G.S.T.L. 56 (P & H) BAR CODE INDIA LTD. v UOI

¹¹   [2022] 145 taxmann.com 130/[2023] 108 GSTR 115 (Telangana)

In a twist of events, in another decision of Bombay High Court in Aberdare Technologies¹², the taxpayer sought rectification of the returns after the statutory deadline. The court directed the revenue to open the portal to rectify/amend the return data or alternatively permit a manual return. At the Supreme Court, the revenue’s SLP was dismissed with an observation that the right to rectify an error is embedded in the right to doing business. Accordingly, a taxpayer cannot be deprived of such right in terms of Article 14 of the Constitution. Denial of the right to rectify would cause double payment by taxpayer and hence the Court directed the CBIC to examine a more realistic timeline for correcting bona-fide errors. Despite being rendered at SLP stage, the reasoning providing in the decision would have the effect of a declaration of law in terms of Article 141 of Indian Constitution (extracted below):

“Right to correct mistakes in the nature of clerical or arithmetical error is a right that flows from right to do business and should not be denied unless there is a good justification and reason to deny benefit of correction. Software limitation itself cannot be a good justification, as software are meant ease compliance and can be configured. Therefore, we exercise our discretion and dismiss the special leave petition.”

¹²  2024 (89) G.S.T.L. 6 (Bom.) SLP dismissed in [2025] 172 taxmann.com 724 (SC)

RECONCILIATION OF BOTH DECISIONS¹³

Bharti Airtel’s case pertained to an error committed in GSTR-3B and the Aberdare Technologies’ case pertained to an error committed in GSTR-1. Though both contain similar provisions, the answer seems to be patently different. On the one hand, in Bharti Airtel’s case the plea for rectification (swapping of payment between electronic cash ledger with electronic credit ledger) was rejected u/s 39(9) as the section only permitted subsequent period adjustments (in the month the error is noticed), but on the other hand in Aberdare’s case, a rectification of the original GSTR-1 was directed on account of the error being revenue neutral. How do we reconcile these decisions?

¹³ Both decisions will fall under consideration in Brij Systems Ltd [2025] 
172 taxmann.com 722 (SC) case where an Amicus Curie has been appointed.  
But we have attempted to reconcile both decisions pending the Court’s verdict

On a finer reading, it appears that Bharti Airtel’s case is a declaration u/s 39(9) for cases where the taxpayer wishes to alter its self-assessment right (despite being revenue neutral). The tax payable under GSTR-3B was sought to be swapped from electronic cash ledger with electronic credit ledger. This was held as being impermissible u/s 39(9). Whereas the decision of Aberdare Technologies involved amendment of the details furnished in GSTR-1 (without alteration of the tax payable in GSTR-3B). There was no alteration of any legal right but merely a substitution of incorrect data fed into the GSTR-1. This difference leads us to the following classification and analysis:

Errors leading to alteration of legal rights (Legal errors) : such as replacement of cash payment with credit, reporting of credit notes under the head input tax credit, etc. These are errors can be said under exercise of a legal right and permitted only way of adjustment within due date prescribed in section 39(9), in terms of the Bharti Airtel’s case.
Errors of mere disclosure (Disclosure errors): such as incorrect reporting of GSTIN/POS, reporting of export sales under domestic tab, incorrect reporting of B2B as B2C supplies, etc. Such errors are merely incorrect data entry. Such errors fall under the domain of a fundamental right to do business in terms of Article 14 of the Constitution and permissible to be performed at any stage, in terms of Aberdare’s case.

SAMPLE CASE STUDY

Let’s take a case study to further appreciate the difference between the said errors. Mr A classifies a transaction as an inter-state supply and reports the same as IGST in the invoice/ GSTR-1 and the GSTR-3B. On noticing that that the said transaction is correctly classifiable as an intra-state supply, the taxpayer would be permitted to adjust this excess payment of IGST and the short payment of CGST/SGST accordingly in their subsequent period GSTR-1/3B. This would be legal error which has arisen from the exercise of a legal right which was subsequently overturned. Bharti Airtel’s case would operate in such a situation and the time-limits specified in section 39(9) would be applicable for such adjustments. The taxpayer would not be permitted to have the return reopened for this rectification.

Whereas, lets also take a slightly contrasting case where Mr A correctly classifies the transaction as intra-state supply in its invoice and GSTR-1, but inadvertently reports the same as inter-state supply in its 3B resulting in incorrect discharge of tax. Going by Aberdare’s case, this is a pure disclosure error which should be permitted to be rectified as its fundamental right to do business and not be governed by strict time limitations. No legal right was incorrectly exercised in such a situation and hence the Bharti Airtel’s case should not apply. A step further, the taxpayer should in fact be permitted to have the Form GSTR-3B reopened and replace the same with the appropriate tax entries and accordingly redrawn. Certainly, there would be technical challenges for the GSTN to implement, but such challenges should not hamper the fundamental right of the taxpayer to report the correct figures on the portal.

The Karnataka High Court in Orient Traders¹⁴ case stated that an incorrect reporting of the ITC in a wrong head cannot be subject to the rigours of section 39(9) and distinguished the Bharti Airtel case. Being a disclosure error, the court ultimately directed rectification of the GSTR-3B return through online or physical mode. Though the court stated that this decision does not have precedential value, it underpins the thought process of the judiciary over fundamental taxpayer rights.

¹⁴  WRIT PETITION No.2911 OF 2022 (T-RES)

ERROR VS. TECHNICAL LIMITATIONS

Many a times the vivid line between an ‘inadvertent error’ and a ‘technical limitation’ seems to be blurred by the tax officers. In a case involving transition credit¹⁵, the taxpayer originally reported the transitional credit claim under a wrong head of TRAN-1 and consequently was unable to file the TRAN-2. Despite the direction of the Supreme Court in Filco’s Trade Centre to reopen the portal, the taxpayer was unable to file TRAN-2 in the reopened form as well and filed grievances before the relevant authorities. Now in this case, the entire thrust of the argument of the revenue was that claim of transition credit under 140(3) – Table 7A is different from the credit under Table 7B. Accordingly, the claim is inadmissible. The High Court took consideration of the technical limitation even in the re-opened form and directed the officer to permit the claim of refund.

¹⁵  2024 (88) G.S.T.L. 166 (Guj.) NIKHIL NAVINCHANDRA MEHTA vs. UOI

Similar would be a case where a taxpayer issued a credit note in a particular month and did not have sufficient positive turnover as output for adjustment. The taxpayer crossed the time limit specified u/s 39(9) for adjustment of the credit note. But what needs to be delved into is whether this credit note adjustment arises on account of a ‘technical limitation’ or a ‘human error’. CBIC Circular No. 26/26/2017 (supra) acknowledged that since the GSTR-3B is not equipped to record negative entries, the adjustments in output tax should be performed in subsequent months and wherever this is not feasible a refund may be sought. If the adjustment is arising from a technical limitation to report a negative liability in GSTR-3B, it would be incorrect to classify this as an ‘omission’ or ‘incorrect particular’ as specified in section 39(9). Consequently, the provisions of section 39(9) and its time limitations would not apply for adjustment of credit notes arising on account of negative entries. Advance adjustments which are not permitted to be reported in GSTR-3B on account of negative entries may also be treated accordingly. These adjustments should be permitted as part of fundamental rights of the taxpayer.

WAY FORWARD – BALANCING EQUITY AND TAX CERTAINTY

Courts have granted relief where taxpayers demonstrated bona fide intent and sought to rectify mistakes within the timelines prescribed by law. Judicial scrutiny in such cases often revolves around whether the taxpayer acted in good faith and whether the error resulted in any real loss to the revenue. High Courts frowned upon revenue masquerading behind technical limitations on the reasoning that the portal is only a facilitator and not the driver of the GST law. Accordingly, revenue has been directed to allow corrections either online or manually for assessment purposes.

Ultimately, legal principles in this domain revolve around distinguishing between legal errors (exercise of legal rights) and disclosure errors (data entry omissions or mistakes in reporting). The principle of equity underpins most judicial interventions: corrections are permissible, but only after due verification, and not via unchecked self-correction that could undermine the scrutiny and integrity built into the system. This approach seeks to ensure that the GST regime is not only robust and reliable, but also fair and responsive to practical realities faced by taxpayers. The Government may consider constituting a judicious panel (comprising technocrats and legally reputed personnel) to resolve past and future disputes. As famously said by the English Poet Alexander Pope, that to err is human and to forgive is divine…!!!

BCAJ Admin

Doctrine of Mutuality under GST

Doctrine of Mutuality – Young Men’s Case & Constitutional Amendment

Indirect taxes, in general, are transactional taxes. This necessarily means that a tax can be levied only when two people exist in a transaction, since a person cannot transact with himself. The Constitution Bench upheld this legal position in the case of Jt. Commercial Tax Officer vs. Young Men’s Indian Association [(1970) 1 SCC 462]. The issue before the Court was the applicability of sales tax on supplies made to member clubs. In this case, the Court concluded that:

In the case of member clubs, the members are the joint owners. The agency theory would apply in such cases, and the club shall be treated as acting as an agent. It cannot be said that a transfer of property in goods takes place from the club to the members and hence, no sales tax can be levied on the recoveries made by the club from its’ members.
This principle will not apply in the case of proprietary clubs, where not all the members are the shareholders, and vice versa, all the shareholders are not members. In such cases, the members are not the owners or interested in the club’s property.

Subsequently, Article 366 (29A) was inserted to the Constitution in 1983 (46th Constitutional Amendment) to provide that the tax on the sale or purchase of goods shall include a tax on the supply of goods by any unincorporated association or body of persons to a member thereof for cash, deferred payment or other valuable consideration deeming such supply to be a sale of goods.

CALCUTTA CLUB’S CASE

Even after the 46th Constitutional amendment, whether the doctrine of mutuality would apply to sales tax was not settled and the matter was again litigated in the context of both, sales tax & service tax and ultimately, settled by the Hon’ble Supreme Court in State of West Bengal vs. Calcutta Club Ltd. [2019 (29) G.S.T.L. 545 (S.C.)]. It was the Revenue’s argument that the 46th Constitutional Amendment permitted the States to levy sales tax on supplies made by an unincorporated association or body of persons to their members. It was also argued that incorporated members’ clubs were always liable to sales tax and were not covered by the decision in Young Men’s.

The Supreme Court, rejecting the above arguments, held that:

a) The principle of mutuality continued to apply even after the 46th Constitutional Amendment. A transaction which is not covered by Article 366 (29A) would have to qualify as sales within the meaning of the Sale of Goods Act, 1930 for the levy of sales tax.

b) The decision in Young Men’s applied to unincorporated members’ clubs as well as incorporated members’ clubs.

c) In the context of incorporated members’ club, the court held that mutuality would continue to apply when the incorporated bodies do not have shareholders, do not declare dividends, or distribute profits, and such clubs cannot be treated as separate in law from their members.

d) The court further held that clause 29A would not apply to incorporated bodies. The court also rejected the argument that incorporated clubs would be classifiable as a “body of persons”. It held that the term “person” as defined under the General Clauses Act, 1857, specifically included within its scope, a company, or an association, or a body of individuals. If clause 29A was intended to be applied to incorporated bodies, the amendment would have referred to “person” and not “body of persons”.

e) The Court further held that clause 29A would not apply even to unincorporated clubs since no consideration was involved. It was held that the term “consideration” requires money changing hands from one person to another. Since two people are not involved, there is no consideration. The Court also relied on the decisions rendered in the context of Income Tax to support its conclusion (ITO vs. Venkatesh Premises Co-op. Society Limited [(2018) 15 SCC 37].

The Court also dealt with the levy of service tax on incorporated members’ clubs, either incorporated u/s 25 of the Companies Act, 1956, or registered co-operative societies under various State Acts. The Court held that during the period up to 30.06.2012, no service tax was leviable on the incorporated member’s club since the definition of “club or association” u/s 65 (25a) specifically excluded anybody established or constituted by or under any law for the time being in force. The Court also held that the doctrine of mutuality shall apply to service tax. Hence, explanation 3 to the definition of persons deeming an unincorporated association or body of persons and their members as distinct persons would not apply to incorporated member clubs.

GST SCENARIO

The 101^st Constitutional Amendment overhauled the Indian indirect tax landscape in 2017. This amendment provided special provisions for the levy of Goods & Service Tax. The term ‘goods and service tax was defined as any tax on the supply of goods, services, or both, except taxes on the supply of alcoholic liquor for human consumption. The term “services” was defined to mean anything other than goods. It must be noted that the Constitutional framework, post insertion of article 246A, did not, in any way, deal with the applicability or otherwise of the doctrine of mutuality. Hence, even after the introduction of GST, the specific challenges to the levy, as applicable under the sales tax/ service tax regime on the grounds of the doctrine of mutuality, continued to exist.

The legislation enacted for the levy & collection of GST (i.e., CGST Act, 2017, SGST Act, 2017, and IGST Act, 2017) provided for the levy of GST on the supply of goods or services or both for consideration in the course or furtherance of business. The term “person” was defined similarly to the definitions under service tax / sales tax. In other words, there was no special provision for the levy of GST on members’ clubs under GST. Therefore, to overcome the Calcutta Club decision, section 7(1) of the CGST Act, 2017 was retrospectively amended & clause (aa) was inserted to include the activities or transactions, by a person, other than an individual, to its members or constituents or vice-versa, for cash, deferred payment or other valuable consideration within the scope of supply.

CHALLENGE TO THE RETROSPECTIVE AMENDMENT

It was felt that the amendment was not sufficient to overcome the Constitutional impediment on taxing such transactions for the following reasons:

a) Young Men’s case held that the Constitution did not contain powers for the levy of sales tax on a transaction between a members’ club and its members.

b) Calcutta Club held that the doctrine of mutuality shall apply even after the 46th amendment and no sales tax/ service tax could be levied on members’ clubs. The Court further held that there was no consideration involved in the transaction between a members’ club and its members and therefore, even the 46th amendment would not apply.

c) A mere amendment to the Act was not sufficient to overcome the decision in the case of Young Men and Calcutta Club. The amendment did not deem a member’s club and its members to be distinct. It merely deemed activities or transactions, by a person, other than an individual, to its members or constituents or vice-versa, as a supply. A mere amendment to section 7 is not sufficient for the levy provision to trigger. In other words, unless the definition of service is amended to do away with the requirement for duality of person in a service and the Constitution is correspondingly amended, the activities carried out by the members’ clubs cannot be construed as “supply”.

INDIAN MEDICAL ASSOCIATION’S CASE (IMA CASE)

Given the above, the retrospective amendment to section 7 inserting the deeming fiction (clause aa) was challenged before the Kerala High Court. The Single Member Bench of the High Court, in Indian Medical Association vs. Union of India [(2024) 20 Centax 525 (Ker.)], dismissed the writ petition and held that the amendment was neither beyond legislative competence nor offended any fundamental rights guaranteed under Part III of the Constitution.
An intra-court appeal was filed against this decision. The Division Bench in [(2025) 29 Centax 232 (Ker.)] held that when the Constitution has understood a taxable transaction as necessarily involving two persons, the legislature cannot deem a transaction that does not involve two persons as a taxable transaction and to this extent, disagreed with the views of the learned Single Judge who rejected the argument that the amendments had to be invalidated for the reason that it was ultra vires the Constitutional provisions. The Court also drew analogy from the 46th Constitutional amendment to levy tax on deemed sales and concluded that to levy tax on the activities of a members’ club, the constitutional amendment was necessary, and mere amendment to section 7 was not sufficient.

THE WAY FORWARD – LEGISLATIVE PERSPECTIVE

It may be noted that in State of Madras vs. Gannon Dunkerley [2015 (330) E.L.T. 11 (S.C.)], the Supreme Court held that prior to the 46th amendment, the State Governments lacked competency to levy sales tax on works contract since the transactions were not regular sales. This necessitated the parliament to amend the Constitution and insert article 366(29A) to introduce the concept of deemed sales for such transactions, and similar other transactions wherein it was held that the State Legislature lacked constitutional powers to levy sales tax.

Once again, the taxpayers find themselves at the same crossroads. The Supreme Court, in a series of decisions, has held that the doctrine of mutuality shall apply to service tax and sales tax matters. The Kerala High Court, in the IMA case, further extended it to GST. It also struck down the retrospective amendment to be unconstitutional. While it is likely that the Government may file an appeal before the Hon’ble Supreme Court, the other option available to the Government is an amendment. However, unlike the recent attempt of legislative override through a retrospective amendment to Section 17(5) to overcome the Supreme Court decision in the case of Safari Retreats, it may be important to note that in the current case, a mere retrospective amendment to the Act will not remedy the defect. The Government will have to move an amendment to the Constitution.

It may not be out of place to refer to the observations in Calcutta Club wherein the Court made the following observations relating to the 61st Law Commission preceding the 46th amendment:

10. It will be seen from the above that the Law Commission was of the view that the Constitution ought not to be amended so as to bring within the tax net members’ clubs. It gave three reasons for so doing. First, it stated that the number of such clubs and associations would not be very large; second, taxation of such transactions might discourage the cooperative movement; and third, no serious question of evasion of tax arises as a member of such clubs really takes his own goods.

Even if a constitutional amendment takes place, the next question that needs consideration is whether such an amendment would be prospective or retrospective? The GST law, since its introduction, has seen a barrage of retrospective amendments. The Division Bench of the Supreme Court in NHPC Ltd. vs. State of Himachal Pradesh [2023 SCC Online SC 1137] dealt with the law around the adoption of the legislative device of abrogation to remove the basis of a judgement of a court. The Court referred to Tirath Ram Rajendra Nath vs. State of U.P., [(1973) 3 SCC 585], wherein it was held that there is a distinction between encroachment on the judicial power and nullification of the effect of a judicial decision by changing the law retrospectively. While the former is outside the competence of the legislature, the latter is within its permissible limits. The Court also cited Indian Aluminium Co. vs. State of Kerala [(1996) 7 SCC 637] and other catena of judgments wherein the principles regarding the abrogation of a judgment of a Court of law by a subsequent legislation were culled out. In Cheviti Venkanna Yadav vs. State of Telangana [(2017) 1 SCC 283], it was held that the legislature has the power to legislate, including the power to retrospectively amend laws, thereby removing causes of ineffectiveness or invalidity of laws. Further, when such correction is made, the purpose behind the same is not to overrule the decision of the court or encroach upon the judicial turf, but simply enact a fresh law with retrospective effect to alter the foundation and meaning of the legislation and to remove the base on which the judgement is founded….

The Court further held that it cannot interfere with the power to legislate prospectively or retrospectively, provided it is as per the Constitution. Similarly, the legislature can remove the defects pointed out by the Courts, either retrospectively or prospectively. However, if the legislature merely seeks to validate the acts that are struck down or rendered inoperative by a Court by a subsequent legislation without curing the defects in such legislation, the subsequent litigation would be ultra vires. Therefore, it is clear that any retrospective amendment to the legislature to overcome a decision is within the competence of the Government.

The question that needs analysis is whether the constitution can be amended retrospectively. Article 368 deals with the provisions relating to the amendment of the Constitution. Clause (5) thereof provides that there shall be no limitation whatever on the constituent power of Parliament to amend by way of addition, variation, or repeal the provisions of this Constitution under this article. Further, clause (4) provides that a constitutional amendment cannot be questioned in any Court on any ground. It therefore appears that the Parliament has unfettered powers to amend the Constitution, which includes the power to retrospectively amend the Constitution. In fact, there are instances of retrospective amendment of the Constitution, for example, the parts of 1st & 15th amendments & 85th amendment (in toto) were given a retrospective effect. Therefore, a retrospective constitutional amendment cannot be ruled out.

Whether such retrospective Constitutional Amendment can retrospectively validate an amendment to the legislature invalidated by a Court decision? One may refer to the decision in the case of Jayam & Co vs. Asst. Commissioner [(2016) 15SCC 125] wherein it was held that legislatures have the power to pass retrospective laws, but the same cannot be unreasonable or arbitrary. More importantly, if such retrospective amendment has the effect of imposition of a levy, the same is generally frowned upon by the judiciary.

THE WAY FORWARD – TAXPAYER PERSPECTIVE

The doctrine of mutuality is an underlying doctrine applicable to a wide spectrum of associations. Being an indirect tax, any interpretation of non-applicability of GST presents two significant challenges. The first challenge is the loss of input tax credit (both at the association level as well as at the member level). Many business or professional associations procure inputs and input services from third parties, which bear GST. Similarly, members of such business or professional bodies are duly registered and charge GST on the supplies made by them to their clients or customers. Clearly, if such business or professional association wishes to take a position of non-applicability of GST, the input tax credit chain breaks resulting in cascading of taxes.

The second challenge emanates out of the uncertainty and time frame for the resolution of this uncertainty. The Calcutta Club decision took more than two decades to resolve conclusively. In the meantime, an association which takes the position of non-applicability has to bear in mind that it can no longer collect the tax from the member and litigate. As such, the association ends up bearing a risk, the benefit of which risk is derived by the members, rather than the association itself.

However, associations having members who are not covered under the GST law may not see the first challenge and may want to examine the implications of the Kerala High Court decision more closely. For example, the IMA, the litigant in the case of Kerala High Court decision is an association of healthcare professionals who are exempted from payment of GST.

Similarly, take the case of co-operative housing societies. Such societies may wish to examine the grounds of mutuality in addition to the benevolent exemption notification granting a threshold of ₹7,500/- per member per month and may wish to wriggle out of the maze of day-to-day compliances under the GST Law. In fact, in addition to the principle of mutuality, a housing society has a strong case to argue that its activities are not covered within the scope of business. Let us first understand the concept of how a co-operative housing society model functions. A builder develops land by constructing the building and other amenities, sells it to potential buyers who, after the completion of construction and handover of possession, form a society to manage, maintain, and administer the property. The society incurs expenses of two kinds, one being directly incurred for the member (such as property tax, water bill, etc.) and, second being common expenses for all the members (such as lighting of common area, lift operation and maintenance, security, etc.) which are recovered from the members. However, what is of utmost importance is that, unlike an association, a member does not come to society to enjoy the said facilities, but to stay there, which continues to be his right by way of ownership. The same cannot be denied to him. Even if there is a case where a member stops contributing to the expenses, other members of the society cannot deny access to the member to his unit, though the facilities extended may be discontinued.

The term “business” is defined u/s 2 (17) as follows:

(17) “business” includes—

(a) any trade, commerce, manufacture, profession, vocation, adventure, wager or any other similar activity, whether or not it is for a pecuniary benefit;

(b) any activity or transaction in connection with or incidental or ancillary to sub-clause (a);

(c) any activity or transaction in the nature of sub-clause (a), whether or not there is volume, frequency, continuity or regularity of such transaction;

(d) supply or acquisition of goods including capital goods and services in connection with commencement or closure of business;

(e) provision by a club, association, society, or any such body (for a subscription or any other consideration) of the facilities or benefits to its members;

(f) admission, for a consideration, of persons to any premises;

(g) services supplied by a person as the holder of an office which has been accepted by him in the course or furtherance of his trade, profession or vocation;

[(h) activities of a race club including by way of totalisator or a license to book maker or activities of a licensed book maker in such club; and]

(i) any activity or transaction undertaken by the Central Government, a State Government or any local authority in which they are engaged as public authorities;

So far as the applicability of clauses (a) to (c) to an association/society is concerned, the issue was examined recently in the case of Goa University vs. Jt. Commissioner [(2025) 29 Centax 281 (Bom.)] wherein the Court referred to the decision in the case of Laxmi Engg. Works vs. P.S.G. Industrial Institute [(1995) 3 SCC 583] wherein it is held that the term “commercial activity” means something about commerce or connected with or engaged in commerce; mercantile; having profit as the main aim.

Therefore, the ratio laid down in Laxmi Engg Works and followed in Goa University could apply to such societies, over and above the argument of mutuality and they may continue to be outside the purview of GST since their activities are not in the course or furtherance of business.

CONCLUSION

The doctrine of mutuality lays down an important principle, i.e., a person cannot transact with himself, and the Courts have repeatedly upheld it. However, it appears to be the clear intention of the legislature to bring such transactions within the tax net. It therefore becomes necessary for such clubs/associations/society to take a conscious call on the applicability of GST on their transactions.

BCAJ Admin

Issue/ Service & Communication in Digital Era

Communication methodologies have evolved from hand-written/ delivered letters to typed/printed and postal communication, to the recent email communication and now venturing into an era of automated / BOT communication. The principle of “audi alteram partem” will nevertheless prevail and requires that none should be convicted/ condemned unheard. Thus, effective communication between the revenue officer and its taxpayers ensures that the parties concerned are duly heard. Many safeguards have been implemented by progressive administrations to improve the effectiveness and efficiency of communication. However, every change in status-quo brings along certain challenges on account of inherited practices. One such relevant change is the manner of delivery of statutory notices/orders through email or portal upload which has resulted in lack of awareness by the intended recipients.

Under the GST scheme, the phrase ‘Service of notice’ has generally not been used alongside a statutory time limitation. Generally, the time limitation is linked to ‘issuance’ or ‘communication’. Therefore, it is imperative that the legal connotation behind these terms is understood and applied contextually.

WHEN IS A NOTICE/ORDER ISSUED I.E. COME INTO FORCE/ EXISTENCE?

The GST law at many instances (such as section 73/74) mandates that the notices/ orders are ‘issued’ before a prescribed time limit. Once they are issued, the service of the notice is prescribed u/s 169. Therefore, before going into the ‘service of a notice/ order’ it is imperative to also understand when a notice/ order comes into force/existence. The Kerala High Court in Government Wood Works vs. State of Kerala¹ relying upon settled citations of the Supreme Court stated that any order of an authority cannot be said to be passed unless it is in some way pronounced/ published or the party effected has the means of knowing it. It is not enough if the order is made, signed and kept in the file because such order may be liable for change in hands of the authority who may even modify or destroy it before it is made known based subsequent information. To make the order complete and effective, it should be issued to be beyond control of the issuing authority. This should be done before the prescribed period though actual service is beyond that period. Similar views have been emphatically expressed by the Supreme Court in case of Delhi Development Authority (DDA) vs. H.C. Khurana², where despatch has been held as a sine-qua non to complete the act of ‘issuance’. The Court clarified that service on the recipient was not a condition precedent for satisfying the act of issuance. In the context of a digital environment under Income tax, the Delhi High Court in Suman Jeet Agarwal vs. Income-tax Officer³ held mere generation of the notice on the database does not amount to issuance unless, it leaves the database and goes outside the control of the ITBA software. The analysis in subsequent paragraphs is on the basis that the proper officer issues and puts into motion a notice / order, without any inordinate delay, within the prescribed time limits, though service need not be complete within the said time frame.

1 1987 SCC Online Ker 697 (Ker)

²[1993] 3 SCC 196

3 [2022] 143 taxmann.com 11 (Delhi)

WHAT ARE THE MODES OF SERVICE OF NOTICE/ ORDERS ?

Because of the sheer increase in tax-payer base and technology driven administration, the scheme of service of notices/ orders u/s 169 was amplified enlisting exhaustive modes of communication. Section 169(1) empowered the proper officer to serve notices in any one of the following modes:

i. Direct Delivery – Physically tendering through a messenger, courier partner, authorised representative or any family member;

ii. Post or Courier – Sending it through registered post or speed post at his last known address;

iii. Electronic Communication by e-mail address as per the registration details;

iv. Common Portal – Making it available on common portal;

v. Publication – in the local newspaper; and

vi. Affixation – If none of the above modes is practicable, by affixing in the place of business

On plain reading, the provision empowered the officer to pick and choose any of the five alternative modes of service and continue to persist with the said mode even if the recipient was unaware of the communication. The use of the phrase ‘any one’ inclined the officer to only upload the notice/ order on the common portal and avoid any email/ postal communication. This resulted in large scale notices concluding into adverse orders in context of cancellation of registration, assessments or adjudications on an ex-parte basis. In the era of excessive information, Taxpayers were agitated on account of the contentious service through uploading of orders, they were forced to knock the doors of the Court for such procedural matters which could have otherwise been addressed if the communication was effective and targeted to ensure the taxpayer is well informed. This article analyses the nuances of the section and whether there is any play in the said provisions which could safeguard interests of taxpayers.

WHAT IS SUBJECT MATTER OF SERVICE – NOTICE/ ORDER (OR) FORM DRC-01/07 ?

Section 169 is applicable to a decision, notice or order or communication to the taxpayer. Having understood the date of issuance of the said notice/ order, it is also important to ensure that we are looking at the right document for examining its ‘date of issue’ and ‘date of service’. In the context of adjudication, the notices are issued u/s 73(1)/74(1) and concluded by virtue of issuance of an order thereof under 73(10)/74(10). Now, Rule 142(1) requires that the summary of such notice (in Form DRC-01) and corresponding summary of the order (in Form DRC-07) are to be communicated electronically. The said DRC-01 could be issued for any proceeding under section 122, 129, 130, etc and concluded in an order under the respective section. The summary of such orders is then uploaded in form DRC-07 on the common portal.

It is thus very important to differentiate the issuance of the ‘notice’ or ‘order’ under a parent section from that of uploading the ‘summary thereof’ on the common portal. Once this distinction is noticed, it would be easier to understand and apply section 169. To reiterate, the forms in DRC-01/07 are not the notice/ orders per-se but only a summary (quantification) which needs to be uploaded on the common portal for the purpose of updation of the electronic ledgers of the taxpayer. The summary of such documents by its own does not have legal consequence over proceedings and are mere consequential documents for updating the GSTN portal, and nothing more than that. Having understood this important legal distinction, and contrary to popular perception, section 169 is to be applied onto notice/ order and not to the summary thereof which is available on the common portal.

‘COMMUNICATION’ TO TAXPAYER

There is also a third terminology ‘communicated’ which is used in the context filing of appeal u/s 107/108, where the time limit is said to commence from the date of ‘communication of order’ concerned. Though this date of communication is popularly treated as the date of service of the order and the time limit is said to have started ticking, use of a different phraseology from that specified in section 169(1), (2) and (3), suggests some different understanding to be attributed to such provision. The interpretation of the phrase ‘communicated to the person’ which is the start point of limitation, arose for consideration in SS Patel Hardware v. Commissioner, State G.S.T⁴. where the court while examining the provision held as under:

4. [2021] 127 taxmann.com 284 (All)

“8. Keeping in mind the fact that the delay in filing the appeal may not be condoned beyond the period of one month from the expiry of period of limitation, the phrase “communicated to such person” appearing in Section 107(1) of the Act commend a construction that would imply that the order be necessarily brought to the knowledge of the person who is likely to be aggrieved. Unless such construction is offered, the right of appeal would itself be lost though a delay of more than a month would in all such cases be such as may itself not warrant such strict construction.”
Similarly, Singh Traders vs. Additional Commissioner⁵ regarding satisfaction of service in accordance with the provisions of Section 169, it was stated that handing over the order to the driver of the conveyance could not be considered as valid service and hence the order itself was set aside. While the SS Patel judgement did not invalidate the order itself and merely ascertained the start time of communication of the order for the filing of appeal, the Singh Traders judgement clearly invalidated the order by holding that handing over the order to the driver (who is not an authorised person) is not valid service and hence there is no order is served on the taxpayer. This eventually leads to the conclusion that service of notice can be said to be complete only when communicated to the taxpayer or his authorised person for necessary action at its end.

⁵ [2021] 124 taxmann.com 295 (All)

COMPREHENSIVE READING OF SECTION 169

Coming back to the primary point of service of notice u/s 169, after specifying the modes u/s 169(1), sub-section (2) and (3) provided for a deeming fiction for completion of ‘service’ for certain modes of service i.e. placed a presumption about service and consequently casting an onus on the recipient to prove the contrary (if any). This emphasises that service of a notice/ order need not only be set in motion by the proper officer but also be complete at the recipient’s end. Under the presumption in sub-clause (2)/(3), service through hand delivery is considered as complete when duly signed and received by the concerned person; postal delivery is considered as received based on normal time taken for its delivery. The section not only provided for initiation of the service of a notice/ order at the officer’s end but also provided for presumption as to its completion based on certain events. This clearly implies that service u/s 169 needs to be viewed from the perspective of both the officer (as a sender) as well as the tax payer (as a recipient). Interestingly, there was no such deeming fiction over the mode of service via ‘email’ or uploading on ‘common portal’. This issue was highlighted in Udumalpet Sarvodaya Sangham vs. Authority⁶, where the Hon’ble Madras High Court interpreted section 169 and held that,

⁶ [2025] 170 taxmann.com 655 (Madras)

“A conjoined reading of Sub-Section (1)(2) & (3) of Section 169 would amply make it clear that the State is obliged to comply with the Clauses (a) to (c) alternatively and thereafter, comply with Clauses (d) to (f). Further, even though Clause (f) has also been proceeded with the word ‘or’ indicating it to be disjunctive / an alternative mode of services, a reading of the Clause (f) would indicate that Clause (f) could be resorted to by the State, if any of the Clauses preceding it, was not practicable. Here also, Clause (f) makes it imperative that such affixure shall be in a conspicuous place and the last known business or residence of the assessee. Therefore, the object of Section 169 is for strict observance of the principles of natural justice.”

Thus, Courts applied the analogy of sub-clause (2) and (3) and interpreted that mere sending by email or uploading on common portal did not absolve the officer from proving that the notice had been effectively served to the intended recipient and there must be a strict observance of natural justice principle. In the absence of any statutory presumption on this aspect, courts have generally been liberal in approaching the issue when the taxpayer claimed lack of knowledge over the proceedings/ orders.

THREADBARE ANALYSIS OF SECTION 169

The provisions of section 169 would thus have to be examined holistically along with other procedural provisions of the Act. While this section has specified multiple modes of service, the email communication as well as uploading notices/ orders has been the core area of dispute. Among the two as well, uploading of notices/ orders on the common portal has been the more contentious matters since taxpayers have claimed complete lack of knowledge about the existence of any such proceedings resulting in ex-parte orders.

Section 146 prescribes the common portal for functions such as registration, return filing, e-way Bill, and such other functions as stated in the corresponding Rules. The Government has also vide Notification 9/2018 dt. 23-01-2018 notified www.gst.gov.in (as amended) as the common portal u/s 146 for carrying out registration, returns and other the functions prescribed in the GST Rules. Accordingly, the prevalent GST Rules at many places have prescribed uploading forms electronically through the notified common portal. But there are also instances where the rules do not specify that the forms should be ‘uploaded on the common portal’ and merely prescribes that they should be communicated ‘electronically’. In the rest of the cases, the rules neither prescribe uploading on the common portal nor furnishing it electronically and is silent on the mode of communication. A simple tabulation of the relevant forms and the mode prescribed has been prepared below:

It may be observed that taxpayer-side forms have been specifically provided to be uploaded on the common portal and hence any other mode of communication would not be legally tenable. But in many cases where the forms are to be initiated by the proper officer, the law merely states that the same may be issued electronically or does not prescribe any mode.

We are all aware of the popular dicta in Taylor vs. Taylor and host of other decisions⁷ that when the statue requires doing a certain thing in a certain way, the thing must be done in that way and not using other methods. Other modes of performance are impliedly and necessarily forbidden and hence if the statute requires some form to be uploaded electronically on the common portal, the form would be considered legally filed only when the said manner as prescribed is followed (‘Expressio unius est exclusion alteris’). But where neither the statute nor the notification-9/2018 prescribes the mode specifically, is the mere uploading of the order on the common portal a sufficient and valid service?

⁷ Taylor vs. Taylor [1876] 1 Ch.D. 426 ;

Nazir Ahmed vs. King Emperor AIR 1936 PC 253;

 Ram Phal Kundu vs. Kamal Sharma [2004] 2 SCC 759; and 

Indian Banks Association vs. Devkala Consultancy Service [2004] 

137 Taxman 69/267 ITR 179/AIR 2004 SC 2615 = [2004] 11 SCC 1, 

Gujarat UrjaVikas Nigam Ltd. vs. Essar Power Ltd. [2008] 4 SCC 755

For instance, the process of application for registration requires the taxpayer to use the ‘common portal’ for filing/ uploading the required forms. However, the notices seeking clarification, documents, etc during the registration process are to be performed ‘electronically’. Once the registration is granted, provision of rejection/suspension of any registration merely direct the officer to issue a notice to this effect but does not specify any mode of issuance/ service. Similarly, the refund process requires the applicant to use the common portal for uploading the forms, but the adjudicatory process in form of SCN/ orders in the refund process, does not specify that the officer must upload the same on the common portal. Even during the adjudicatory process of demands, the Rules prescribe that the DRC-01 (being only a summary of the quantum specified in notice and not the notice per-se), etc to be communicated electronically and the orders are not stated to be uploaded on the common portal. It is only for DRC-07 (which is also a summary demand raised in the order) which is required to be uploaded on the common portal in order to update the Electronic Liability Ledger. The law is silent on the mode of communication of the detailed notice/ order.

Now juxtaposing the provisions of section 169 r.w.s.146 and other specific provisions of registration, refund, adjudication, etc, it seems that law does not mandate uploading the adjudication notices/ orders on the common portal. Notification 9/2018 (as amended) prescribes the common portal for specific function based on the requirements under the respective rule. But where there is no prescription of uploading/ making available certain notices orders on the common portal, the said Notification is not invocable and the common portal cannot be used as a medium for performing the said function. It is only where the common portal is designated for a specific purpose in terms of a specific rule/notification would the same be considered as the designated place of uploading the notices/ orders.

Given this legal picture, it could be argued out that the taxpayer should not be expected to view the notices/ orders section of the ‘common portal’ for the notice or order. Even if they are uploaded as an attachment to the summary, the notice/ order cannot be termed as ‘served’ u/s 169 as section 146 does not prescribe the common portal for such purposes. At best the common portal can be considered as a repository of the notice/ order along with the summary thereof. While the uploaded notices/ orders can be considered as informative in nature, the revenue cannot contend that ‘making available the notice / order on common portal’ (clause (d)) is legally recognised service when the common portal has itself not been designated for this purpose. This then requires the proper officer to serve the same through other modes including that of ‘email communication’ or ‘physical modes of email/ post’ as alternatively prescribed u/s 169.

Therefore, section 169 and 146 should be interplayed with the respective parent provisions and mere summary cannot be used to decide the service of such notice/ orders. The true purport of the alternatives provided in section 169 is that proper officer would be required also refer the relevant rule/ form and the manner prescribed therein. If the manner is prescribed therein, the proper officer ought to serve the notice by the manner specified therein. Where the manner is not prescribed therein, the service would have to be in the manner which ensures that the details are brought within the knowledge of the taxpayer (principles of natural justice).

One should also be mindful of the provisions of section 160(1) and (2) which presumption valid service where the recipient takes responsive action. Thus, the above analysis could be applied only where the proceedings are ex-parte and the taxpayer can establish the bonafide of being unaware of the proceeding. But where the taxpayer has downloaded the notice and taken reciprocal action by filing reply or other actions, section 160(2) grants shelter to such proceedings unless the taxpayer in its first instance specifically argues that the service of the document itself is not valid. The taxpayer cannot blow hot and cold at the same time and would be under a legal obligation to participate in the proceeding despite the service of such notice/ order not being in conformity with the respective rule, if they have acted upon the same.

ELECTRONIC COMMUNICATION UNDER IT ACT, 2000

The next question that arises is in respect of forms where rules are silent on uploading the notices/ order on the common portal. Whether e-mail communication to the registered email address would be a valid service of such notices/ order? Section 169(2)/(3) are silent on the completion of service of the said email communication and one would have to refer to ancillary enactments.

Section 4 of the Information Technology act grants legal recognition to electronic records notwithstanding that the primary enactment requires anything to be done physically. Now section 13 of the said Act speaks about the timing of receipt of documents despatched by the originator (in our case the proper officer). Where the addressee has a designated computer resource for the purpose of receiving electronic record, the receipt is said to occur when the electronic record ‘enters’ computer resource and if the electronic record is sent to computer resource of the addressee that is not designated for this purpose, then receipt occurs at the time the addressee retrieves the record from the computer resource. Where the addressee does not have a designated computer resource along with specific timings, receipt occurs when the electronic record enters the computer resource of the addressee.

In the context of uploading, can the GSTN log-in at the common portal be considered as a ‘designated computer resource’ of the addressee? Computer resource is defined under the IT Act 2000 to mean computer, computer system, computer network, data, computer data base or software. The common portal hosted on the server is owned and managed by the GST network and not strictly a computer resource ‘of’ the taxpayer. While there is no immediate answer, even if the account created therein can be said to be designated for the use of taxpayer, the said common portal has not been designated for the purpose of adjudication, cancellation, suspension, etc (refer discussion above). Therefore, there may still be an argument to not consider the GSTN portal as a ‘designated computer resource’ of the taxpayer for purpose other than those specified in the notification/ respective rule (refer table). In which case, the communication of the notices, orders etc which are required in law to be uploaded on common portal would be governed by clause 169(d) but in all other cases they can be said to be served only when the addressee retrieves (downloads) them from the GSTN portal in terms of section 169(c) read with the IT Act, 2000.

Now with respect to notices/ orders communicated via email (such as Gmail, private servers, etc), such webservers can be designated computer resources of the taxpayer. As stated earlier, though service is initiated by ‘sending an email communication’ there is no presumption u/s 169 about the completion of service in case of email communication. Therefore, in the absence of a specific presumption about the service of documents via email, the date of receipt of email in Gmail/web-server may be considered as service. But if the email account is not logged-in from a private computer, the said recipient does not acquire knowledge about it and may be caught unaware. This particular issue was examined in the context of section 13 of the Information technology Act.

What is receipt in a computer resource was analysed by Bombay High Court in Pushpanjali Tie Up Pvt. Ltd vs. Renudevi Choudhary⁸ where the court analysed ‘receipt of an electronic record’ u/s 13(2) and held that although a person may be said to have received an electronic record when it enters his computer resource, it does not necessarily mean or follow that he had knowledge either of the receipt or of the contents of the same at that time viz. at the very moment of the receipt of the electronic record. Even assuming that the legislature could enact a deeming provision fixing the time when a person is deemed to have acquired knowledge of an electronic record, section 13(2) does not contain such a deeming provision. In any event section 13 of the IT Act is not relevant for deciding whether a party had knowledge of an order for the purpose of the proceedings for contempt of court or for taking action for contempt of court, whether under the Contempt of Courts Act or under Order 39 Rule 2-A of the Code of Civil Procedure. Section 13(2), determines “the time of receipt of an electronic record”. It does not determine the time of knowledge of the contents of the electronic record or even of the receipt of the electronic record. It would be difficult to have a statutory provision to determine the time when a person acquires knowledge of something. That would depend on the facts of a case. Even if there is such a deeming provision in a statute, a person cannot be held guilty of committing a breach of an order on the basis thereof although he in fact had no knowledge of the contents of the electronic message. Take for instance a case where a person establishes that although an electronic record was received in his computer resource on a particular date, he in fact did not access the same till much later. He cannot then be held guilty of having committed a breach of the order for he had no knowledge of the same. A person may not be in a position to access the electronic record much after it was received in his computer for a variety of reasons. For instance, he may have been ill, he may have lost his computer, he may not have access to the computer or there may be an area where there is no internet access. Questions of contempt stand on an entirely different footing. Thus merely because an electronic record is deemed to have been received at the time when it enters a persons computer resource, it does not necessarily follow that he had knowledge of the communication at that point of time especially in proceedings for contempt or while deciding whether the person committed wilful breach of an order of a court. The time of receipt of an electronic record may, at the highest raise a presumption of the knowledge of the receipt and/or the contents thereof but nothing more in contempt proceedings.

⁸2014 SCC OnLineBom 1133

There is also a decision as well in the case of Rapiscan Technologies⁹ which was examining whether uploading of orders on the income-tax portal by the Dispute Resolution Panel (DRP) would amount to ‘receipt by the assessing officer’ for completion of the assessment at his end within the prescribed time frame. The court held that uploading of the order by DRP on a resource designated for the Income tax department is receipt and hence the time limitation for this purpose triggers from that day onwards.

⁹ [2025] 170 taxmann.com 753 (TELANGANA) 
Rapiscan Systems (P.) Ltd. vs. ADIT (Int.Tax)-2

FAVOURING JUDICIAL TREND

There has been a favourable judicial trend (though very summary orders) in granting relief to taxpayers where the communication was limited only to uploading on common portal. The legal citations which emerged on this subject can be clubbed into two baskets (a) decisions which analysed the section with emphasis on natural justice; (b) decisions which merely examined the deviation of portal from the law and granted relief based on taxpayer’s bonafides;

Category 1 – The Madras High Court has been particularly firm on this subject matter. In its decision¹⁰, the Court categorised the modes of service into primary and secondary. The first three clauses of physically tendering/ post or email was considered as the primary mode of service. The remaining three clauses were considered as secondary modes of service which could be resorted if the primary mode did not elicit any response from the taxpayer. The court acknowledged that the traditional modes of post were ideal for taxpayers who were yet to acclimatise to the modern digital environment. In another decision¹¹, the Court examined that while recognising the law permits service of notice/order via email, it also stated that in reality it would be onerous for small traders to expect them to monitor the emails on a regular basis; leaving a strong possibility that the communication goes unnoticed. It re-emphasised the need for a postal communication to avoid any ambiguity on the service of documents. Ultimately, the Court relied upon the legal intent to encourage compliance of the notice rather than curtail taxpayer’s response. Basing its decision on principles of natural justice, the court held that efforts should be made to serve the notice by post and elicit a response from the taxpayer.

¹⁰ Sri Balaji Traders vs. Deputy Commercial Tax Officer 
[2025] 173 taxmann.com 15 (Madras)

¹¹Sakthi Steel Trading vs. Assistant Commissioner (ST) [2024] 159 taxmann.com 233 (Madras)

Category 2 – The Madras high court in another decision¹² recognised the complex architecture of the GSTN portal and the manual. The court observed that uploading the notices/ orders in “Additional Notices and Orders” section in contrast to the “Notices and Orders” section raises a possibility of missing the notices by taxpayers. Similar view was adopted by the Allahabad High Court¹³ and the Court held that the taxpayers are entitled to the benefit of doubt in cases where the orders are uploaded under the “Additional Notices and Orders” section. The Patna High Court¹⁴ observed that as per the website manual, the notices, orders are communicated to be posted on the “Notices and orders” section and the “Additional notices and orders” section does not find any mention in the manual. Moreover, since there is no deeming fiction in 169(3) in so far as the uploading the notices/orders in the portal, the taxpayer is entitled to the benefit of being unaware of the proceedings. These decisions grant relief to taxpayers without laying down any definite legal proposition on this subject.

¹² [2023] 154 taxmann.com 147 (Madras) Sabari Infra (P.) Ltd. 
vs. Assistant Commissioner (ST)

¹³ [2025] 170 taxmann.com 482 (Allahabad)  National Gas Service 
vs. State of U.P. relying upon Ola Fleet Technologies (P.) Ltd. 
v. State of U.P. [2025] 170 taxmann.com 66 (All.)

¹⁴ [2025] 172 taxmann.com 794 (Patna) Lord Vishnu Construction (P.) Ltd.
 vs. Union of India

CONTRARY CITATIONS

In the midst of these decisions, there are certain contrary decisions of Courts¹⁵ which have specifically relied upon the plain language and stated that any of the modes of services u/s 169 could be adopted as they are not conjunctive but alternative. Accordingly, email communication has been treated as a legally valid mode of communication though the taxpayer was ultimately granted interim relief on grounds of uploading DRC-07 in the Additional Notices section. In a batch matter before the Single Member of Madras High Court in Poomika Infra Developers¹⁶, relying upon an erstwhile law decision of the division bench and distinguishing the other Single member decisions, it was held that uploading the notice/ order on the common portal is valid service u/s 169. In reaching this conclusion, the court observed that (a) section 169 is clear as it directs any mode of service and there is no reason to categorise the first three clauses and the remaining into two separate baskets; (b) reference of rule 142 prescribed under section 146 is independent of section 169 which is specific to service and despite rule 142 limiting itself only to ‘summary of notice/ order’ uploading of the notice or order is valid form of service in light of section 169; (c) section 13 of Information Technology Act, 2000 could be applied to treat the log-in credentials on the common portal as the designated computer resource and hence receipt of the notice/ order on the specific account is valid service. The said decision summarily wipes out certain arguments discussed above and contrary to other decisions that views mere uploading as not being sufficient service. This also goes against the analysis of the section and decision of Bombay High Court in Pushpanjali Tie Up Pvt (supra) which elaborates ‘receipt’ in context of IT Act, 2000. Having said all this, the Court in its conclusive part still directed the revenue to introduce a practice of sending email/ SMS communication intimating the taxpayer about the upload on the common portal with a caveat that this email would not be used for deciding service of the notice/ order. With due respect, this decision needs to be examined further and appealed to arrive at the correct legal position.

¹⁵ [2023] 148 taxmann.com 9 (Madras) New Grace Automech Products (P.) Ltd. vs.
 State Tax Officer ; 
[2024] 167 taxmann.com 228 (Calcutta)  Jayanta Ghosh vs. 
Union of India & [2024] 
167 taxmann.com 7 (Calcutta) Delta Goods (P.) Ltd. vs. Union of India; 
Koduvayur Construction vs. Asstt. Commissioner [2023] 153 taxmann.com 333 
(Ker.)

¹⁶  W.P. Nos.33562 &Ors of 2025

COMPARISON WITH ERSTWHILE LAWS

The applicability of section 169 to notices/ order varies from that specified under the erstwhile Central Excise law which contained a waterfall mechanism of service of notices/orders, etc (section 37C of Central Excise Act). Service of any document by tendering it through registered post (subsequently including speed post) was considered as the most preferred methodology. In case of failure, affixation in the factory/ warehouse or usual residence was considered as the next alternative; and as a last resort, publication on the notice board of the officer was considered as a completing the service of notice by the concerned authority. The intention of such a mechanism was to ensure that the administrating authority takes honest efforts to engage with the taxpayer and the intended recipient is conferred its due opportunity. Even in postal service, the relevant officer was mandated to retain a copy of the acknowledgement of receipt by the recipient. Naturally, a well-defined process in section 37C experienced very limited litigation on the ‘mode of service’. Previously disputes were limited and now in GST era, a relatively short timeframe of 8 years have generated far greater litigation than its erstwhile laws.

CONCLUSION

Thus, uploading of notices/ orders in many instances are not specified to be necessarily performed on the common portal. In such cases the taxpayer is rightful in its plea to expect either an email communication or a postal delivery of the relevant document. The various communications which are entirely conducted on common portal do not seem to be the legally apt approach Consequently, the persistence of the revenue in sticking only to the common portal for legal notices needs to be reviewed. Tax payers on the other hand may consider widening the scope of their tracking of notices/ order even to portal dashboard to avoid any undesired incidents in the adjudication proceedings.

BCAJ Admin

Punishable Offenses & Arrests under GST

INTRODUCTION

Since the implementation of the Goods and Services Tax (GST) in India in July 2017, enforcement actions have led to numerous arrests for offenses such as significant tax evasion, fraudulent input tax credit claims, and issuance of fake invoices. Data submitted to the Supreme Court indicates that from July 2017 to March 2024, the number of arrests under the GST framework varied annually, with 3 arrests in 2017-18 and peaking at 460 in 2020-21. In Gujarat alone, central tax officers booked 12,803 GST evasion cases between 2021 and 2024, resulting in 101 arrests. While these enforcement measures aim to deter large-scale fraud, concerns are often raised about potential coercion, especially when recoveries are significantly lower than the detected amounts, highlighting the need for a balanced approach between strict enforcement and maintaining a business-friendly compliance environment. Businesses and impacted individuals are often forced to knock the judicial forums to seek redressal in such situations. In a recent decision (Radhika Agarwal vs. UOI [(2025) 27 Centax 425 (S.C.)]), the Supreme Court has elaborately dealt with the constitutional validity of the provisions concerning power to arrest under the Customs and Goods and Services Tax (GST) law. This article analyses the provisions of arrest under the GST Law and the observations of the Supreme Court in this regard.

CONSTITUTIONAL VALIDITY

The Supreme Court has upheld the constitutional validity of the arrest provisions in Radhika Agarwal on the premise that the parliament, having powers to make laws relating to levy & collection of GST, as a necessary corollary, has powers to enact provisions for tax evasion in the form of powers to summon, arrest and prosecute, which are ancillary and incidental to the power to levy and collect GST.

STATUTORY PROVISIONS RELATING TO ARRESTS

Section 69 of the CGST Act, 2017 deals with the powers to arrest. The relevant provisions are reproduced below:

(1) Where the Commissioner has reasons to believe that a person has committed any offence specified in clause (a) or clause (b) or clause (c) or clause (d) of sub-section (1) of section 132 which is punishable under clause (i) or (ii) of sub-section (1), or sub-section (2) of the said section, he may, by order, authorise any officer of central tax to arrest such person.

A plain reading of the above provisions shows that the provisions of arrest can be invoked only in the following cases:

a) The authorization to arrest must be granted by the Commissioner.

b) There must be reasons to believe that an offense is committed.

c) The offense must be a specified offense for which the powers to arrest can be invoked

REASONS TO BELIEVE

The essential condition for invoking the arrest provisions, as seen above, is that the Commissioner should have reasons to believe that an offense is committed. The phrase “reasons to believe” was recently analyzed by the Hon’ble Supreme Court in the case of Arvind Kejriwal vs. Directorate of Enforcement [(2025) 2 SCC 248] in the context of PMLA and applied on all fours to customs / GST matters in Radhika Agarwal’s case.

In Arvind Kejriwal’s case, the Hon’ble Supreme Court observes that the powers to arrest without a warrant is a drastic & extreme power. Therefore, the legislature had prescribed safeguards in the language of Section 19 (of PMLA) itself which act as exacting conditions as to how and when the power is exercisable. These safeguards include the requirement to have “material” in the possession of DoE, and based on such “material”, the authorised officer must form an opinion and record in writing their “reasons to believe” that the person arrested was “guilty” of an offence punishable under the PMLA. More importantly, the Supreme Court has held that not only the “grounds of arrest”, but the “reasons to believe” must also be furnished to the arrested persons. In simple words, the “reasons to believe” cannot be some concocted grounds at the whims and fancies of the authorities. It must be based on credible evidence admissible before the Court of law.

The court has held the above principles equally applicable to customs / GST matters. More leverage has been accorded to existence of evidence to form a reason to believe for the simple reason that the Commissioner is not only required to establish whether an offense is committed or not, he also needs to classify the offense as cognizable or non-cognizable. In fact, to do so, there must be a computation or explanation, based on various factors, such as goods seized. Such a level of detail is critical during judicial review of the exercise. This requirement is also laid down by the Board vide Instruction 2/2022-23 dated 17th August, 2022 based on the decision in Siddharth vs. State of UP [(2022) 1 SCC 676] wherein para 3 lays down the specific parameters for its’ Officers:

3.2 Since arrest impinges on the personal liberty of an individual, the power to arrest must be exercised carefully. The arrest should not be made in routine and mechanical manner. Even if all the legal conditions precedent to arrest mentioned in Section 132 of the CGST Act, 2017 are fulfilled, that will not, ipso facto, mean that an arrest must be made. Once the legal ingredients of the offence are made out, the Commissioner or the competent authority must then determine if the answer to any or some of the following questions is in the affirmative:

3.2.1 Whether the person was concerned in the non-bailable offence or credible information has been received, or a reasonable suspicion exists, of his having been so concerned?

3.2.2 Whether arrest is necessary to ensure proper investigation of the offence?
3.2.3 Whether the person, if not restricted, is likely to tamper the course of further investigation or is likely to tamper with evidence or intimidate or influence witnesses?

3.2.4 Whether person is mastermind or key operator effecting proxy / benami transaction in the name of dummy GSTIN or non-existent persons, etc. for passing fraudulent input tax credit etc.?

3.2.5 Unless such person is arrested, his presence before investigating officer cannot be ensured.

3.3 Approval to arrest should be granted only where the intent to evade tax or commit acts leading to availment or utilization of wrongful Input Tax Credit or fraudulent refund of tax or failure to pay amount collected as tax as specified in sub-section (1) of Section 132 of the CGST Act 2017, is evident and element of mens rea / guilty mind is palpable.

3.4 Thus, the relevant factors before deciding to arrest a person, apart from fulfillment of the legal requirements, must be that the need to ensure proper investigation and prevent the possibility of tampering with evidence or intimidating or influencing witnesses exists.

3.5 Arrest should, however, not be resorted to in cases of technical nature i.e. where the demand of tax is based on a difference of opinion regarding interpretation of Law. The prevalent practice of assessment could also be one of the determining factors while ascribing intention to evade tax to the alleged offender. Other factors influencing the decision to arrest could be if the alleged offender is co-operating in the investigation, viz. compliance to summons, furnishing of documents called for, not giving evasive replies, voluntary payment of tax etc.

The Supreme Court in Radhika Agarwal’s case reiterates the above requirements and holds that department’s authority to arrest hinges on satisfying these statutory thresholds (para 44). Infact, it is held that the “reasons to believe” can be subject to judicial review as arrest often involves contestation between the fundamental right to life and liberty of individuals against the public purpose of punishing the guilty. However, it has held that it cannot amount to a review on merits. Such an exercise, in all cases, shall be restricted to the review of material in possession that forms the basis for reasons to believe.

In Dharmendra Agarwal vs. UOI [[2025] 170 taxmann.com 558 (Gauhati)], the non-determination of liability by the respondent authorities before executing the arrest was one of the reasons for the grant of bail. In KshitijGhildiyal vs. DGGI [[2024] 169 taxmann.com 446 (Delhi)], bail was granted since the grounds for arrest were not provided while making the arrest. Post the decision in Kshitij Ghildiyal, the CBIC issued instruction 1/2025-GST dated 13^th January, 2025 making it mandatory for the arresting officer to provide the grounds of arrest.

PUNISHABLE OFFENSES

Section 69 requires that the Commissioner must have reasons to believe that an offense is committed. While the statute does not define the term “offense”, section 3(38) of the General Clauses Act, 1897 defines it to mean any act or omission made punishable by any law for the time being in force. Such acts, which amount to an offense are covered u/s 132 of the CGST Act, 2017.

A perusal of the first limb of section 132 (1) brings out an important distinction when compared with section 69. It reads as follows:

(1) [Whoever commits, or causes to commit and retain the benefits arising out of, any of the following offences], namely:—

The distinction is vis-à-vis the applicability of the section. Section 69 applies to an offense committed by a person, while section 132 applies to a person committing, or causing to commit and retain the benefits arising out of the listed offenses. In other words, only a person who commits an offense can be arrested u/s 69 and not the person causing the offense to be committed, i.e., an auxiliary to a crime.

The next question that arises is the interpretation of applicability of section 132(1). The above extracts of section 132(1) can be interpreted in two different ways:

While the first interpretation substantially restricts the applicability of section 132, it may not stand judicial scrutiny. The importance of punctuation marks in interpreting statutes was recently examined by the Hon’ble Supreme Court in ShapoorjiPallonji& Company Private Limited [(2023) 11 Centax 180 (S.C.)] as follows:

27. In the present case, the use of a semicolon is not a trivial matter but a deliberate inclusion with a clear intention to differentiate it from sub-clause (ii). Further, it can be observed upon a plain and literal reading of clause 2(s) that while there is a semicolon after sub-clause (i), sub-clause (ii) closes with a comma. This essentially supports the only possible construction that the use of a comma after sub-clause (ii) relates it with the long line provided after that and, by no stretch of imagination, the application of the long line can be extended to sub-clause (i), the scope of which ends with the semicolon. We are, therefore, of the opinion that the long line of clause 2(s) governs only sub-clause (ii) and not sub-clause (i) because of the simple reason that the introduction of semicolon after sub-clause (i), followed by the word “or”, has established it as an independent category, thereby making it distinct from sub-clause (ii). If the author wanted both these parts to be read together, there is no plausible reason as to why it did not use the word “and” and without the punctuation semicolon. While the Clarification Notification introduced an amended version of clause 2(s), the whole canvas was open for the author to define “governmental authority” whichever way it wished; however, “governmental authority” was re-defined with a purpose to make the clause workable in contra-distinction to the earlier definition. Therefore, we cannot overstep and interpret “or” as “and” so as to allow the alternative outlined in clause 2(s) to vanish.

Therefore, the second interpretation seems more plausible. This takes us to the question of the difference between “commit” & “causes to commit”. The term “commit” refers to the person who has committed the offense while “causes to commit” refers to the person who influences or motivates the person committing the offense. As such, a person who supports / sponsors such offenses though does not commit them, will be equally liable. However, the onus to prove that the offense was caused by such a person will be with the Department. It would also be necessary for the Department to demonstrate that the person causing the offense also retains the benefits derived from the offense so caused.

Section 132 lists the following acts as punishable offenses, providing for arrest and imposition of fines.

Supplying any goods or services without the issuance of any invoice, with an intention to evade tax [132(1)(a)]

– The phrase is self-explanatory and is intended to cover situations of clandestine removal of goods, under-reporting of services, etc. it may be noted that the situation covered here deals with supply of goods without issuance of invoice and is not intended to cover situations of interpretation relating to classification, valuation, applicability of tax rate or exemption notification, etc.

– Further, for this clause to trigger, the Commissioner must establish “intent to evade tax”. The ‘intention to evade’ assumes some positive act on the part of the alleged person. It is a settled law that the burden to prove the allegation shall be on the accuser, i.e., the Department.

Issuing any invoice or bill without supply of goods or services or both leading to wrongful availment or utilization of ITC or refund of tax [132(1)(b)]

– This clause refers to a situation where a supplier issues any invoice or bill without the supply of any goods or services, resulting in the wrong availment / utilization of ITC or refund. What is essential for this clause to trigger is that the invoice issued without any underlying supply shall lead to a wrong availment / utilisation of ITC or refund of the tax. If the recipient has not availed / utilized ITC or claimed a refund of such tax, the offense may not arise. Therefore, for the Commissioner to have a reason to believe such an offense is committed, there must exist evidence to that effect. In the absence of such evidence, an allegation under this clause may not survive. It may be noted that intention to evade tax is not a pre-condition for offense under this clause.

Avails ITC using the invoice or bill referred to above or fraudulently avails ITC without any invoice or bill [132(1)(c)]

– This clause is linked with clause (b). While clause (b) is from the supplier’s perspective, this clause is from the recipient’s perspective and provides that when a person avails ITC on an invoice issued by the supplier without any underlying supply or avails ITC without any invoice or bill.

– Let us first look at an offense where ITC is claimed on the strength of an invoice without any underlying supply being received by the recipient. Generally, such offenses are detected based on the investigation undertaken at the suppliers’ end and notices are sent to all recipients of such supplier based on supplier’s statement. In such cases, based on such a statement, the Department proceeds with a preconceived notion that all supplies made by such suppliers are fake and therefore, the recipients have claimed wrong ITC. It is therefore imperative that in such cases, when the investigation starts, the recipient should make available all the evidence to justify the genuineness of the transactions, such as invoices, payment proofs, delivery challans, EWB, etc., The recipient should also invoke his right to cross-examine all such persons, whose statements are relied upon in such proceedings.

– The next situation covered under this clause is one where ITC is claimed without any invoice / bill. One of the conditions for claiming the ITC u/s 16 is that the recipient should have the tax invoice or prescribed document in his possession, which can be either the original copy or in the forms prescribed u/s 145 of the CGST Act, 2017. However, if any person claims ITC in contravention of this provision, an offense under this clause gets committed. The situation might change if the ITC claimed is already reversed, as the reversal of ITC amounts to non-taking of ITC in the first place, as held in Commissioner vs. Bombay Dyeing & Mfg. Co. Ltd. [2007 (215) E.L.T. 3 (S.C.)]

Fails to pay the tax collected within three months from the date on which such payment becomes due [132(1)(d)]

– This clause refers to cases where a supplier collects GST but fails to deposit it with the Government. This can be either self-assessed liability (i.e., liability declared in GSTR-1 but not discharged) or liability not disclosed / discharged in return.

Evades tax / fraudulently obtains refund by committing an offense not covered under (a) to (d) [132(1)(e)]

– This clause refers to a situation of tax evasion / fraudulent refunds (other than cases covered in (a) to (d)). Any instance of non-payment of tax/ fraudulent refund, which is not covered under clauses (a) to (d) may be covered under this clause. However, not all cases of non-payment/ erroneous refunds can be treated as tax evasion / fraudulent. In case of interpretation issues, bona-fide beliefs, etc. where there is no intention to evade / fraud the Government, the said sub-clause may not apply.

Falsifies or substitutes financial records / produces fake accounts or documents or furnishes false information with an intention to evade tax [132(1)(f)]

– This clause specifically covers cases where a person falsifies / substitutes financial records / produces fake accounts or documents or false information with an intention to evade tax. The documentary evidence to support an allegation that a person has committed this act with an intention to evade tax must exist beforehand.

Obstructs or prevents any officer in the discharge of his duties under this Act [132(1) (g)] – omitted w.e.f 1^st October, 2023

– As a trade-friendly measure, the above offense has been decriminalized w.e.f 1st October, 2023.

Acquires possession of, or in any way concerns himself in transporting, removing, depositing, keeping, concealing, supplying or purchasing or in any other manner deals with, any goods which he knows or has reasons to believe are liable to confiscation [132(1)(h)]

– This clause refers to cases where goods are liable to be confiscated u/s 130 of the CGST Act, 2017 which is generally triggered in the following cases:

(i) Supply or receipt of any goods in contravention of any of the provisions of this Act or the rules made thereunder with intent to evade payment of tax; or

(ii) Non-accounting of any goods on which he is liable to pay tax under this Act; or

(iii) Supply of goods liable to tax under this Act without having applied for registration; or

(iv) Contravention of any of the provisions of this Act or the rules made thereunder with intent to evade payment of tax; or

(v) Use of any conveyance as a means of transport for carriage of goods in contravention of the provisions of this Act or the rules made thereunder unless the owner of the conveyance proves that it was so used without the knowledge or connivance of the owner himself, his agent, if any, and the person in charge of the conveyance.

– In addition to the above, this clause shall also apply to service providers providing warehousing services if it is found that they are storing goods that are liable to confiscation.

Receives or is in any way concerned with the supply of, or in any other manner deals with, any services which he knows or has reasons to believe are in contravention of any provisions of this Act or rules made thereunder. [132(1)(i)]

– This clause refers to cases where a person either receives or supplies any service in contravention of any provisions of this Act or rules. An example of contravention would be when a person, though liable to register under GST, does not register and continues to supply service. Such a supply would be in contravention of the provisions of section 22.

Tampers with or destroys any material evidence or documents [132(1)(j)] – omitted w.e.f 1^st October, 2023

– As a trade-friendly measure, the above offense has been decriminalized w.e.f 1st October, 2023

Failure to supply any information which he is required to supply under this Act or the rules made thereunder or (unless with a reasonable belief, the burden of proving which shall be upon him, that the information supplied by him is true) supplies false information [132 (1)(k)]– omitted w.e.f 1^st October, 2023

– As a trade-friendly measure, the above offense has been decriminalized w.e.f 1^st October, 2023

Attempts to commit, or abet the commission of any of the offenses mentioned above [[132 (1)(l)].

– This clause covers cases where a person aids or abets in the commission of any offense specified in section 132. In one of the cases, a tax practitioner was arrested alleging he had facilitated registration based on fake & vague documents for evading GST, thus abetting the commission of an offense. (Satya Prakash Singh vs. State of Jharkhand [2025] 170 taxmann.com 684 (Jharkhand)].

A perusal of section 132 makes it clear that all cases of non-payment of tax / short-payment of tax/ wrong availment or utilization of ITC do not trigger the arrest provisions. Only when an offense specified under specific clauses and exceeding specified monetary limit is committed can a person be arrested. Therefore, genuine cases involving interpretation issues, such as rate classification, valuation, exemption eligibility, ITC eligibility, etc. cannot be covered under the offenses prescribed u/s 132 & in such cases, arrest provisions cannot be invoked. This shows that cases involving interpretation issues are given more flexibility and such cases cannot be treated as a punishable offense. This has also been clarified by instruction 2/2022-23-GST dated 17th August, 2022.

PUNISHMENTS

The punishment for the above offenses, based on the tax quantum involved, is prescribed u/s 132(1), as follows:

Section 132(2) further provides that a repeat offender shall be liable to imprisonment for a term that may extend up to 5 years with a fine for each subsequent offense. However, no person shall be prosecuted without the previous sanction of the Commissioner [section 132 (6)].

It is interesting to note that the punishment is prescribed only for offenses specified in clauses (b), (c), (e), and (f). Before 1st October, 2023, sub clause (iii) referred to any other offense, which has been now substituted with an offense under clause (b). Therefore, while the prescribed acts are offenses, no punishment is prescribed for them. Therefore, to that extent, even if the person commits the said acts, he cannot be punished, since no such punishment is prescribed under the law. In this regard, one may refer to Vijay Singh vs. State of UP [2012 (5) SCC 242]:

16. Undoubtedly, in a civilized society governed by rule of law, the punishment not prescribed under the statutory rules cannot be imposed. Principle enshrined in Criminal Jurisprudence to this effect is prescribed in legal maxim nullapoena sine lege which means that a person should not be made to suffer penalty except for a clear breach of existing law. In S. Khushboo v. Kanniammal&Anr., AIR 2010 SC 3196, this Court has held that a person cannot be tried for an alleged offence unless the Legislature has made it punishable by law and it falls within the offence as defined under Sections 40, 41 and 42 of the Indian Penal Code, 1860, Section 2(n) of Code of Criminal Procedure 1973, or Section 3(38) of the General Clauses Act, 1897. The same analogy can be drawn in the instant case though the matter is not criminal in nature.

OFFENSES – COGNIZABLE & NON-COGNIZABLE

In general, all the offenses are declared as non-cognizable &bailable offenses [section 132 (4)] except for the offenses covered under clause (a) to (d) which are punishable under (i) above [section 132(5)].

The Code of Criminal Procedure, 1973 classifies an offense as either “cognizable” or “non-cognizable”. The distinction between cognizable and non-cognizable offenses is in the manner of arrest. An arrest for a cognizable offense can be made without an arrest, i.e., a person can be arrested without a warrant. In contrast, the arrest in case of a non-cognizable offense can be made only based on an arrest warrant. The classification of an offense into cognizable & non-cognizable depends on the gravity of the offense and is provided u/s 132.

SPECIFIED OFFENSES – WHERE A PERSON CAN BE ARRESTED U/S 69

The third limb of section 69, to invoke the arrest provisions, is that the Commissioner should have reasons to believe that a specified offense is committed. While section 132 provides a list of acts as offenses, the arrest provisions can be invoked only in case of specified offenses, as follows:

a) An offense under clauses (a) to (d) of section 132(1) should have been committed.

b) The offense must be punishable under sub-clause (i) section 132, i.e., the tax amount involved exceeds ₹5 crores, making the offense cognizable & non-bailable.
c) The offense must be punishable under sub-clause (i) section 132, i.e., the tax amount involved exceeds ₹2.50 crores but is less than ₹5 crores, making the offense non-cognizable &bailable.

In other words, the powers to arrest by the Commissioner can be exercised in cases of specified cognizable & non-cognizable offenses. However, when a person is authorized for a non-cognizable and therefore, a bailable offense based on the authorization issued by the Commissioner, such person arrested shall be admitted in bail, or in the default of bail, forwarded to the custody of the Magistrate until such time that a bail is furnished.

EXECUTING THE ARREST

Section 4(2) of the IPC, 1860 provides that the offenses covered under laws other than IPC, 1860 shall be investigated, inquired, tried, or otherwise dealt with under the CrPC, 1973 (“code”). Section 5 carves out a savings clause to clarify that the Code shall not affect any special / local law, or any special jurisdiction or powers conferred or special procedure prescribed unless there is a specific provision prescribed. In other words, the provisions of the Code would apply to the extent that there is no contrary provision in the special act or any special provision excluding the jurisdiction and applicability of the Code. In the context of GST, in Radhika Agarwal, it has been held that the provisions of the Code shall equally apply to customs’ offense and by extension, to GST as well.

As stated above, section 69 provides for cases where the Commissioner may authorize any officer of central tax to arrest a person. However, for other offenses, the GST law is silent. Hence, in such cases, the procedure prescribed under the Code shall apply. This takes us to the Code. Chapter V thereof deals with the arrest of persons. A perusal of Chapter V provides for arrest by a police officer. The question that arises is whether the GST officer is a police officer. This issue has been examined by Courts on multiple occasions¹ and recently summarised in Radhika Agarwal wherein it has been held that GST officers are not police officers.

¹ State of Punjab vs. Barkat Ram, (1962) 3 SCR 338, Ramesh Chandra Mehta vs.
 State of West Bengal, 
(1969) 2 SCR 461, Illias v. Collector of Customs (1969) 2 SCR 613, 
Tofan Singh vs. State of Tamil Nadu [(2s021) 4 SCC 1]

Therefore, while in cases covered u/s 69, the GST officers can execute the arrest, for all other offenses, the arrest can be executed only by a police officer. In such cases, the arrest can be executed by a police officer based on a complaint filed by the GST Officer (section 41 (b) of the code). However, as provided in section 132 (6), no person shall be prosecuted without the prior sanction of the Commissioner. Therefore, even for prosecution in other offenses, a prior sanction of the Commissioner is mandatory.

Once a person is arrested, either u/s 69 by a GST officer or a police officer, the arrested person shall be presented before a Magistrate within 24 hours of the arrest, excluding the traveling time between the place of arrest & the Magistrate’s Court. Even in case of arrests u/s 69, it is incumbent upon the arresting officer to admit the arrested person to bail, or in default of bail, forward it to the custody of the magistrate.

When a person is presented before the Magistrates’ Court, the Magistrate shall, if the investigation is not completed within 24 hours of the arrest and feels that further investigation is required, order that such arrested person must remain in police custody for not more than 15 days. However, in case of GST offenses, custody may be granted to the GST officers, as held in Directorate of Enforcement vs. Deepak Mahajan [(1994) 3 SCC 440].

A person arrested for offenses u/s 132 shall have all the rights, whether arrested u/s 69 by a GST officer / by a police office under Chapter V of the Code, such as:

a) The right to meet an advocate of his choice during the investigation, but not throughout the investigation and have such advocate present within a visual distance but not audible distance during the investigation (section 41D of the code).

b) The right to give information regarding such arrest and place where the arrested person is being held to any of his friends, relatives, or other person as may be disclosed or nominated by the arrested person (section 50A of the code)

c) The guidelines laid down in D K Basu vs. State of West Bengal [(1997) 1 SCC 416] must be stringently followed.

Similarly, the duties and obligations cast on a police officer under the Code shall equally apply to the GST officers. This includes the obligation to maintain a diary of investigation proceedings, taking reasonable care of the arrested persons’ health and safety, etc.,

Double jeopardy – can a person be subjected to simultaneous proceedings u/s 73/74 as well as section 69?

As stated above, there can be instances where proceedings u/s 73 or 74 have already been initiated. The question that arises is whether in such cases, proceedings u/s 69 alleging offenses u/s 132 can be initiated. In other words, can there be simultaneous civil & criminal proceedings for the same offense or not?

This issue has been dealt with in the case of Maqbool Hussain vs. State of Bombay [1983 (13) E.L.T. 1284 (S.C.)] wherein the Constitutional Bench held that sea customs authorities are not judicial tribunals. Therefore, proceedings by sea customs authorities do not constitute prosecution and the Orders passed by them did not constitute punishment. Therefore, separate criminal proceedings can be initiated against the accused for such offense and the same would not be hit by double jeopardy. This view was also followed by the Hon’ble Supreme Court in Leo Roy Frey vs. Superintendent [1983 (13) E.L.T. 1302 (S.C.)] and RadheshyamKejriwal [[2011 (266) ELT 294 (SC)]]. One may also refer to instruction 4/2022-23 dated 1st September, 2022 which deals with this aspect of parallel criminal & adjudication proceedings.

In fact, relying on Makemytrip (India) Private Limited vs. UOI [2016 SCC OnLine Del 4951], one of the arguments raised in Radhika Agarwal was that prosecution can be done only after adjudication proceedings are completed. However, this argument has been rejected and it has been held that there could be cases where even without a formal order of assessment, the department / Revenue is certain that it is a case of offense under clauses (a) to (d) to sub-section (1) of Section 132 and the amount of tax evaded, etc. falls within clause (i) of sub-section (1) to Section 132 of the GST Acts with sufficient degree of certainty. In such cases, the Commissioner may authorise arrest when he is able to ascertain and record reasons to believe. This reiterates that there is no relationship between the adjudication proceedings or prosecution for offenses.

PRE-ARREST PROTECTION

Any person apprehending prosecution and arrest has a right to apply for anticipatory bail. In Radhika Agarwal’s case, it has been held as follows:

70. We also wish to clarify that the power to grant anticipatory bail arises when there is apprehension of arrest. This power, vested in the courts under the Code, affirms the right to life and liberty under Article 21 of the Constitution to protect persons from being arrested. Thus, in Gurbaksh Singh Sibbia (supra), this Court had held that when a person complains of apprehension of arrest and approaches for an order of protection, such application when based upon facts which are not vague or general allegations, should be considered by the court to evaluate the threat of apprehension and its gravity or seriousness. In appropriate cases, application for anticipatory bail can be allowed, which may also be conditional. It is not essential that the application for anticipatory bail should be moved only after an FIR is filed, as long as facts are clear and there is a reasonable basis for apprehending arrest. This principle was confirmed recently by a Constitution Bench of Five Judges of this Court in Sushila Aggarwal and others v. State (NCT of Delhi) and Another (2020) 5 SCC 1. Some decisions State of Gujarat v. ChoodamaniParmeshwaranIyer and Another, 2023 SCC OnLine SC 1043; Bharat Bhushan v. Director General of GST Intelligence, Nagpur Zonal Unit Through Its Investigating officer, SLP (Crl.) No. 8525/2024 of this Court in the context of GST Acts which are contrary to the aforesaid ratio should not be treated as binding.

POST-ARREST STEPS

Once a person is arrested, pending trial, he shall remain in custody unless granted bail. Chapter XXXIII of the Code deals with provisions relating to bail.

Section 436 of the code provides that a person arrested for a bailable offense shall be released on bail. Similarly, for non-bailable offenses, section 437 of the code provides that the bail may be granted subject to the exceptions provided therein (such as cases where the punishment for the alleged offense is death or life imprisonment, or a repeat offender). However, in any case, when a person undergoes detention for more than one-half of the maximum period of imprisonment specified for that offense, he shall be released by the Court on his bond with or without sureties (section 436A of the code).

In addition, there is a settled principle of law that bail is the norm, jail is an exception, which has been upheld for economic offenses (see Prem Prakash vs. UOI).

There are many reported cases where bail has been granted for non-bailable offenses also:

In Ashutosh Garg vs. UOI [[2024] 164 taxmann.com 767 (SC)], the bail has been granted upon having served a substantial time in detention, pending trial.
In yet another case², the bail was granted since the co-accused was granted bail.
In DGGI vs. Harsh Vinodbhai Patel [Director General of Goods and Service Tax Intelligence, Ahmedabad vs. Harsh Vinodbhai Patel [2024] 164 taxmann.com 410 (SC)], bail was granted since all documentary evidences and other material were seized by the investigation agency, the presence of accused was not necessary for the investigation and trial was unlikely to commence and conclude in near future. Similar view was followed in the case of Ratnambar Kaushik vs. UOI [[2022] 145 taxmann.com 296 (SC)].
In Natwar Kumar Jalan vs. UOI [[2025] 171 taxmann.com 112 (Gauhati)], one of the reasons for a grant of bail was that the accused was not a flight risk.

² Ronaldo Earnest Ignatio vs. State of Odisha [[2024] 167 taxmann.com 418 (Orissa)]

CONCLUSIONS

The Supreme Court, while upholding the legislative competence of the Parliament to incorporate criminal provisions under GST law, has delivered a balanced judgment reinforcing constitutional safeguards to protect personal liberty. The decision in Radhika Agarwal also imposes a glaring requirement on the tax officers to invoke the arrest provisions only based on substantial evidence, which can be subjected to judicial review and reiterates the rights of the arrested persons, by following the guidelines laid down in D K Basu, Deepak Mahajan, etc, This shows that Courts shall, as they always have, continue to maintain the balance between the curtailment of tax evasion and the liberty of the individual. On the other hand, taxpayers will have to be equivalently vigilant with their tax practices, i.e., filing of returns, responding to department notices and submissions before the department, and so on, and in case of impending prosecution and / or arrests, proactively take preventive steps.

BCAJ Admin

Construction Input Tax Credits

Two recent decisions of the Supreme Court at the close of 2024 have set the direction over the interpretation of “construction credits” which were at the helm of constant controversy under the GST law. While the first decision was rendered in the case of Chief Commissioner of Central Goods and Service Tax vs. Safari Retreats (P) Limited¹ (Safari Retreat case) with respect to input tax credit availability to shopping malls, etc., the second decision namely Bharti Airtel Ltd. vs. Commissioner of Central Excise, Pune² (Bharti Airtel case) was rendered in the context of availability of credit of Telecommunication towers to cellular companies under the Cenvat Credit scheme. The said matter was quickly adopted by the Delhi Court in the case of Bharti Airtel Ltd. vs. Commissioner, CGST Appeals-1, Delhi³ in the context the GST provisions. The GST Council quickly sprung into action by reversing the decision of Safari Retreat case and reaffirming its original intent to exclude land, building and civil structures from the scope of input tax credit. In this article, we would briefly summarise the principles emerging from these decisions and their application to the provisions of section 17(5)(c) and 17(5)(d) of GST law (colloquially be termed as ‘out-sourced / sub-contracted construction’ and ‘in-house construction’ respectively).

¹  [2024] 167 taxmann.com 73 (SC)

²  [2024] 168 taxmann.com 489 (SC)

³  [2024] 169 taxmann.com 390 (Delhi)

CONTEXT OF THE ISSUE — BLOCK CREDIT

Extract of section 17(5)(c) and (d) is as under:

“17(5) Notwithstanding anything contained in sub-section (1) of section 16 and subsection (1) of section 18, input tax credit shall not be available in respect of the following, namely:- ……..

(c) works contract services when supplied for construction of an immovable property (other than plant and machinery) except where it is an input service for further supply of works contract service;

(d) goods or services or both received by a taxable person for construction of an immovable property (other than plant or machinery) on his own account including when such goods or services or both are used in the course or furtherance of business…………

Explanation –– For the purposes of clauses (c) and (d), the expression “construction” includes re-construction, renovation, additions or alterations or repairs, to the extent of capitalisation, to the said immovable property;

Explanation –– For the purposes of this Chapter and Chapter VI, the expression “plant and machinery” means apparatus, equipment, and machinery fixed to earth by foundation or structural support that are used for making outward supply of goods or services or both and includes such foundation and structural supports but excludes-

(i) land, building or any other civil structures;

(ii) telecommunication towers; and

(iii) pipelines laid outside the factory premises.”

A simple reading of the above extract suggests that all goods or services used for construction of an immovable property (except plant and machinery) are barred from input tax credit except when such activity is performed for onward supply of work contract / construction services. Similar provisions existed under the extant CENVAT credit rules and the respective State VAT laws. Despite modern laws being conceptualised on ‘value added tax’ principles, successive administrations have treated construction of immovable capital assets (specifically buildings) as ineligible for input tax credit based on the philosophy that capex buildings did not contribute to the value-addition of the end-product / service. This blockage also provided an attractive opportunity to Government(s) to realise substantial revenues on such construction activity.

The advent of the GST scheme shifted the focus to taxing all business activities and consequently transforming input tax credit from a narrow ‘one-to-one eligibility’ into a wider ‘business level eligibility’. Despite this wider stance, blocking of construction continued in a more regressive form having a larger impact on construction activity, re-emphasising the Government’s resolve to garner tax revenues from this blockage.

Construction intensive industries such as commercial complexes, warehousing/ logistic structures, hospitality buildings, etc., faced significant cost overruns on account of the above provisions. Though these business verticals were rendering output taxable services, substantial financial capital got sucked into GST credit blockage. There was also an onerous burden on such operators to establish that an item was ‘movable’ or ‘plant and machinery’ in order to stake a claim of input tax credit. Being a new law, these terms were being interpreted by field formations (including Advance ruling authorities) based on their personal bias rather than business application. This lead to the pioneer case of Safari Retreat case⁴, in which the Orissa High Court read down the provisions of section 17(5)(d) for shopping malls, commercial complexes, etc., and granted input tax credit to all construction activity when such complexes were directly used for onward taxable output activity. Sensing a huge revenue loss, the Government jumped into action by agitating its stand before the Supreme Court which ultimately culminated into the now famous Safari retreat case.

⁴ [2019] 105 taxmann.com 324 (Orissa)

BRIEF OF THE SAFARI RETREAT CASE

The key issue before the Supreme Court was the interpretation of section 17(5)(d) of the CGST Act. While the issue was limited to section 17(5)(d), reference and interpretation was being made to section 17(5)(c) to appreciate the true scope of both clauses. The key propositions/ arguments before the Court were:

Issue 1 – Constitutional challenge to the provisions of section 17(5)(d) on the premise that it violated Article 14 as it discriminated taxpayers onward selling the commercial structures with those leasing the very same structures despite both being liable to tax on their respective outward supply;

Issue 2 – Scope of ‘plant and machinery’ u/s 17(5)(c) and ‘plant or machinery’ u/s 17(5)(d) are different as the term ‘or’ in section 17(5)(d) is a conscious legislative usage de-linking the phrase from the defined term in the Explanation. Therefore, buildings, civil structures, telecommunication towers, etc which were specifically excluded from the definition of ‘plant and machinery’ u/s 17(5)(c) could still be considered as plant in its generic usage u/s 17(5)(d) based on its functionality;

Issue 3 – Condition placed by the phrase ‘on own account’ under section 17(5)(d) excludes suppliers of constructed apartments for sale as well as for lease/ licence. Hence credit was blocked only to cases where the construction was for self-usage and not for onward commercial exploitation.

The Hon’ble Supreme Court examined the legislative setting behind introduction of GST and the inter-play between the provisions of section 17(5)(c)/ (d). In so far as the constitution challenge is concerned, the provisions were clearly held to be valid and within legislative domain, putting to rest questions over the Council’s discretion in denying input tax credit even though the building contributed to generating taxable supplies. While addressing the question of law on the phrase ‘plant or machinery’ u/s 17(5)(d) in contrast to the phrase ‘plant and machinery’ adopted in 17(5)(c), the Court observed that the difference in ‘and’ and ‘or’ is not a legislative error but a conscious choice. Hence, the definition of ‘plant and machinery’ which specifically excluded land, buildings, civil structures would not apply to the phrase ‘plant or machinery’. ‘Plant’ or ‘machinery’ would be understood in generic terms and not by the definition of ‘Plant and machinery’. The Court borrowed the functionality test from the Income tax law⁵ to hold that if a building was used as a ‘technical structure’ rather than merely a ‘setting’ in which trade is carried on, such building would constitute a plant despite the specific exclusion of buildings in the explanation. It was observed that a plant is an apparatus used by a businessman for carrying on its business and does not include his stock in trade; it include all goods and property, whether movable or immovable, as long as it function as an apparatus in his trade. Since generating station building, hospital, dry dock and ponds were considered as apparatus based on the business functions, a building or a warehouse could also be considered as ‘plant’ within the meaning of Section 17(5)(d) if it served as an essential tool of trade with which business is carried on. However, if it merely serves as a setting or mere occupation, it will not qualify as a ‘plant’. On the third aspect, the court held that section 17(5)(d) blocked credit when the immovable property is used for ‘own account’. Where the construction of immovable property was for ‘other’s account’ and generating revenues which are in the nature specified in clause (2) or (5) of Schedule II, such structure would be eligible for input tax credit. The phrase ‘own account’ covered within its ambit only those cases where the building was for own residential or commercial occupation and not for cases where the building was for onward lease/ license. Accordingly in cases where any building was under construction with intent of generating leasing/ licensing revenue, credit was permissible u/s 17(5)(d) since the building was not constructed for ‘own account’ but for ‘other’s account’.

⁵ Commissioner of Income-tax vs. Taj Mahal Hotel [1971] 82 ITR 44 (SC); 
Commissioner of Income-tax vs. Anand Theatres [2000] 110 Taxman 338 (SC); 
Commissioner of Income-tax vs. Karnataka Power Corpn. [2000] 112 
Taxman 629 (SC)

RETROSPECTIVE AMENDMENT TO SECTION 17(5)(D)

The Finance Bill 2025 has now introduced an amendment attempting to overturn and rectify the acclaimed error in using the phrase ‘plant or machinery’ in section 17(5)(d) instead of ‘plant and machinery’. The said retrospective amendment (w.e.f. 1st July, 2017) effectively overcomes the decision of the Safari retreat case on the proposition that the term ‘plant or machinery’ is distinct from the term ‘plant and machinery’. Among the two exceptions which were cited by the Supreme Court, the first exception of differentiating ‘plant and machinery’ from ‘plant or machinery’ seems to have now been nullified. While thoughts are developing over challenging this retrospective amendment on the ground of denying vested credit⁶, probability of achieving a positive result seems to be bleak in view of the review petition filed by the Revenue. The Revenue still acclaims in its review that the use of the term ‘or’ was drafting error and not a legislative choice. De hors the review petition it would be suitable to treat both the clauses at par and apply the specific definition of ‘plant and machinery’ to all its cases.

⁶ Commissioner of Income-tax vs. Vatika Township (P.) Ltd. [2009] 
178 Taxman 322 (SC) & Tata Motors Ltd. v. State of Maharashtra and Others
 [(2004)5 SCC 783

ANALYSING ‘PLANT AND MACHINERY’

With retrospective amendment proposed w.e.f. 1^st July, 2017 term ‘plant and machinery’ is applicable to both in-house construction and sub-contracted construction. The term has an inclusive portion to include apparatus, equipment and machinery and their structural or foundational support but specifically excludes land, building or other civil structures, telecommunication towers and pipelines outside the factory. Under the said definition, generic meanings of apparatus, equipment and machinery would continue to have prominence. The functionality test would still be applied to the fixtures, installations, etc., housed in the civil structures and makes them amenable to be termed as ‘plant and machinery’. What has been now overturned by the retrospective amendment to section 17(5)(d) is that the functionality test which could have been hitherto applied to land/ buildings, civil structures, to shift treat ‘buildings/ civil structures’ as ‘apparatus / equipment’ for a particular business function, is now not available. In view of the specific exclusion to the phrase ‘plant and machinery’, any building / civil structure in whatever form/usage could be excluded from the term plant and machinery. This position which was restrictive only to section 17(5)(c) (i.e. works contract inputs) is not extendable also to section 17(5)(d) (i.e. all goods and services where construction is on own account).

TECHNICALITIES ON THE PHRASE “OWN ACCOUNT”

The other exception to the applicability of the block credit was cases where the construction was ‘not for own account’ but ‘other’s account’. The phrase ‘own account’ has not been dealt with in much detail by the Supreme Court except for the conclusion that construction for onward sale/ lease/ license etc., to third party occupants does not amount ‘construction on own account’. The Court bestowed parity to entry 2 and entry 5(b) of Schedule II by quoting that where under-construction buildings are intended for sale credit is available. Similarly, under-constructed buildings intended for onward lease would also be a construction for ‘other’s account’. An interesting concept of under-construction lease is now evolving based on this observation of the Court.

While a ‘build-to-suit’ model is a classic case to fit into this proposition, many a times the commercial reality is fairly more complex. There may be a change in use of a structure either during construction or after issuance of the occupancy certificate. A strict reading of the clause suggests that only if the intent of lease is established during construction then the credit would be eligible. Where the intent of lease is not established up to occupancy certificate, such credit could be disputable on the sheer ground that construction in such cases would be for own account and not for lease. This is still an emerging area of study and will be engaged by revenue authorities if one argues the point of the construction being for other’s account.

BRIEF OF THE BHARTI AIRTEL CASE(S)

Moving onto the other case of the Supreme Court w.r.t the eligibility of Cenvat Credit of Base Transmission Stations (BTS), Telecommunication Towers, Antennas, Pre-fabricated Shelters (PFBs) etc., based on the argument of whether they are goods a.k.a. movable property. The Court examined the meaning of the phrase ‘immovable property’ under the General Clauses Act 1897 and the Transfer of Property Act, 1882 which include land, benefits arising out of land and things permanently attached or fastened to earth for the beneficial enjoyment of the building or land. In this context, the Court re-affirmed the long-standing principles extracted from series of decisions of the Supreme Court under Central Excise to assess whether a thing was immovable in nature, namely:

Nature of annexation: This test ascertains how firmly a property is attached to the earth. If the property is so attached that it cannot be removed or relocated without causing damage to it, it is an indication that it is immovable.
Object of annexation: If the attachment is for the permanent beneficial enjoyment of the land, the property is to be classified as immovable. Conversely, if the attachment is merely to facilitate the use of the item itself, it is to be treated as movable, even if the attachment is to an immovable property.
Intendment of the parties: The intention behind the attachment, whether express or implied, can be determinative of the nature of the property. If the parties intend that the property in issue is for permanent addition to the immovable property, it will be treated as immovable. If the attachment is not meant to be permanent, it indicates that it is movable.
Functionality Test: If the article is fixed to the ground to enhance the operational efficacy of the article and for making it stable and wobble free, it is an indication that such fixation is for the benefit of the article, such the property is movable.
Permanency Test: If the property can be dismantled and relocated without any damage, the attachment cannot be said to be permanent but temporary and it can be considered to be
movable.
Marketability Test: If the property, even if attached to the earth or to an immovable property, can be removed and sold in the market, it can be said to be movable.

Applying these tests to the telecommunication towers it was held that the towers were movable in nature and hence goods for the purpose of availment of CENVAT Credit. This rationale was adopted by the Delhi High Court in Bharti Airtel Ltd’s case once again to hold that telecommunication towers are movable in nature and hence the question of applying the definition of plant and machinery as applicable to section 17(5)(d) is irrelevant. The entire BTS/BSS, PFBs, etc. though being attached to earth/building are not for the purpose of beneficial enjoyment of the land/building to which they are attached but for technical reasons and efficient operations. Interestingly, the decision has treated the phrases ‘plant or machinery’ and ‘plant and machinery’ at equivalence and yet rendered that the explicit mention of telecommunication towers under the phrase ‘immovable property’ would not render the telecommunication towers as blocked items for input tax credit. This decision would hold the fort despite the retrospective amendment to the provisions of section 17(5)(d) and go a long way in deciding whether items are movable/ immovable in nature under the GST context. The innumerable advance rulings which have held that air conditioners, lift / elevator installations, electrical/ plumbing fixtures, fire extinguishers, etc., form part of the immovable property would need to be re-visited based on the above tests. In all likelihood the said items would fall outside the scope of immovable property based on the tests carved from the General Clauses Act & the Transfer of Property Act.

COMBINED INTERPRETATIVE DESIGN

Now both these decisions lead to a particular sequence of analysis to be factored before reaching a conclusion on block credits:

The above sequence suggests that entire blocked credit is founded upon the fundamental point of whether the goods or services in question are used for construction of an ‘immovable property’. If this primary test fails, there is absolutely no requirement even to examine the remaining contents of the said provisions. But where one doubts the outcome of this primary test to a particular building/ civil structure, it becomes essential to move to a secondary test of examining whether the same is plant and machinery. Land, buildings and other civil structures may still face the brunt of input tax credit blockage even if they are functionally operating as a ‘apparatus, equipment or machinery’. Interestingly, cases which are prima-facie blocked on account of it being considered as immovable property (other than plant and machinery) u/s 17(5)(d) (i.e. in-house construction) may still be granted input tax credit if they fall under a tertiary test of being construction for ‘onward leasing’ or ‘sale’.

INDUSTRY-WISE APPLICATION OF THE ABOVE SCHEMA

Commercial / Shopping Complexes – The Supreme Court had remanded the matter back to the Orrisa High Court to apply the functionality test in deciding whether such commercial constructions fall within the mischief of section 17(5)(d) (notably cases which covered u/s 17(5)(c) are not within the High Court’s purview and hence must be independently examined). Civil Structure portion of in-house constructions of commercial complexes would now be excludible from the phrase ‘plant and machinery’ (as retrospectively amended) as they fall under the blocked component. The HVAC, electrical / plumbing installations, fire equipment, movable fixtures, hoardings, digital displays, elevators, MLC parking structure, etc., may not be immovable. Even if they are said to be immovable they could be termed as technical equipment, apparatus, machinery and hence fall within the term ‘plant and machinery’ and this component of the construction costs would become eligible for input tax credit. The exclusion in the explanation to plant and machinery would have to be examined restrictively as being only w.r.t. to the ‘land, building, civil structure’ and not with reference to the installations/ fitments housed in such buildings.

Warehouse / Logistic Chains – A typical warehousing contains civil structures, prefabricated shelters, overhead sheets, etc. Certain items (such as foundation, concrete platforms, etc.) would qualify as civil structures and become ineligible for input tax credit. There are also components affixed to said civil structure which are dismantlable and capable of being re-assembled at alternate locations (such as pre-fabricated iron and steel girders, trusses and other structural components which are affixed with nut and bolt system to the civil foundation). One may claim that these are movable in nature based on the nature of annexation test specified above. But on a deeper analysis the object of affixation is for creating a permanent warehousing shed with these items and such affixation results in beneficial enjoyment of the immovable property itself. Moreover, the intent of establishment of the overall outer structure is to function as shelter for storage and would be excluded even if one forcefully argues them as being ‘equipment/ apparatus or machinery’. Therefore, such warehousing structures would form part of immovable property itself and may not be eligible for input tax credit. However, if the case falls under section 17(5)(d) (i.e. in-house construction) and the owner constructs these structures for onward leasing rather than own occupation/ storage, the Safari retreat’s case grants an opportunity to avail input tax credit on the argument of the structure being construction for other purposes and not on own account.

Hotels / Theatres / Convention Centres – The Supreme Court in the Safari retreat case has in its wisdom placed a blanket bar on treating such civil structures as plant u/s 17(5)(d). Be that as it may, the decision in Anand Theatres does not overrule the decision of Taj Hotels in so far as treating sanitary / electrical fittings, installations, fixtures affixed to such premises as being in nature of ‘plant’. Seating arrangements in theatres, sound-proofing panelling, air-conditioning systems, digital screens/ projectors, iron and steel fixtures which are affixed to the immovable property for functional utility need to be tested based on object and mode of affixation. The guiding principle would be to examine whether they are part of the civil structure for better occupation or for technical utility. On both counts of movability and functionality (under the explanation to plant and machinery), many of the above items can be treated as eligible for input tax credit. To reiterate, if the entire premises has been self-constructed with binding intent of onward leasing / licensing or sale, then the construction could termed as being for ‘other’s account’, thus granting a window to argue that the clause itself is not applicable. Challenge arises where certain hotels are leased out under an operator model to large hotel chains (such as Raddisson, etc.). Hotels have a complex formular for payment of fee based on the revenue collections/ occupancy and deduction of certain premises related expenditure. Since models do not fall under the traditional lease model, it would be an uphill task for one to claim that the construction is for ‘others account’.

Port Infrastructure – Port Corporations have developed substantial civil structures in the form of jetty, dock yards, terminals, breakwater walls, etc., which have technical functionality in its field of business. These items being civil in nature could be treated as apparatus / tool to function as port. But the critical counter argument of the revenue is that these are ‘other civil structures’ in the nature of land, building, etc., and hence not eligible. The company in which the phrase ‘civil structure’ is used gives an opportunity to argue that only those items which are immovable and meant for ‘occupancy’ like a building are to be treated as civil structure. The case of the Municipal Corporation of Greater Mumbai vs. Indian Oil Corporation⁷on storage tanks being termed as things attached to land despite being a technical structure would guide the revenue to pursue that these are in nature of civil structures and hence not eligible for input tax credit to the Port Corporation.

7 1991 SCC (SUPP) 2 18

Factory Constructions – Pre-fabricated structures constituting the walls and sheds of factory structures are part of the overall plant/ machinery. There does not seem to be any doubt on the internal concrete foundations, etc. which are necessary foundational/structural support to the machinery. The external walls / partitions and administrative buildings have been targeted as being ineligible for credit. Strictly speaking, the definition of plant and machinery specifically excludes buildings, civil structures. Though the issue could stand at rest here and credit may be denied, the perspective of these structural being movable needs to be tested. Re-iterating the discussion in the context of warehouses, there is certainly a case for the department to deny stating that the intent of fixation is for permanent enjoyment / occupation of the land and hence constitutes an immovable property.

Co-working spaces / Shared spaces – Internal Fixtures in bare shell civil structures to convert them to co-working space is a common phenomenon. Many of the fixtures are modular in nature and fitted with nuts and bolts (such as cabins, desks, partitions, cupboards, etc.) for enhancement of the workspace. While there are other fixtures which are affixed to the immovable property as a permanent feature. One would have to run a filter of these test and test the movable character of each of the items. The rest which are considered as immovable property and part of the building itself, can be denied even if they are said to be functionally essential for creation of a co-working space.

Residential PG accommodation – Apart from other issues, the unique issue with such accommodation is that the revenue stream is not in the form of a lease rental but akin to hotel models where it is for monthly or short-term basis on a per-bed / room basis. Now the Supreme court states that ‘hotels’ are not plant or machinery. By forming a parallel between PG accommodations and hotels, credit would certainly become a formidable challenge. One argument still prevailing after the retrospective amendment would be in cases where the construction is suited for ‘overall lease as a PG accommodation’ with local municipal licenses evidencing this fact. But where the owner himself operates such business, the operating income being in the nature of short-term accommodation would not permit it to claim credit based on the SC’s decision. Revenue will argue that this is not lease in the sense articulated by the Supreme Court and since the operations of the premises is under the occupation and control of the owner of the premises. Therefore, credit on such structures would fairly deniable.

On an overall basis it is slightly intriguing that business contributing to GST revenue using civil structures are being denied credit. An input in the form of lease rentals which comprises of all the capex cost of a civil structure are eligible but similar inputs where construction has been performed for self-occupation are being termed as ineligible. Is this encouraging unwarranted tweaks to business models merely for availing ITC benefit? These rulings have left an indelible mark on the future of the input tax credit on construction matters and would guide business decisions on account of the sheer volume of ITC involved. The legal fraternity would refer to these decisions time and again to press their respective contentions on a subject matter. The last word on this subject is yet to be told…!!

BCAJ Admin

Credit Notes under GST

INTRODUCTION:

An invoice is a legal document issued to the customer evidencing the supply of goods or services and generally contains various particulars, such as nature & description of supply, value of supply (taxable & otherwise), applicable tax rate, place of supply, etc. By issuing an invoice, a supplier stakes a legal claim for the value on the customer. Such invoice is recorded in the books of accounts. From a GST perspective, the law does not prescribe a format of the invoice but does list down the minimum particulars expected to be mentioned in the invoice (which is nomenclated as tax invoice). For most of the entities, the GST Law also requires that the particulars of the invoice be submitted to the Government portal for generation of Invoice Reference Number (‘IRN’), which needs to be mentioned in the invoice. The issuance of such tax invoice also triggers liability towards payment of applicable GST. In view of substantial volumes involved, most of the organizations have automated the process of generation of invoice, including the IRN and recording of the same in the books of accounts.

In a practical scenario, post the issuance of the invoice, there could be a need for a change in the particulars of the invoice or cancellation of the invoice already issued. The GST law envisages a possibility of such amendment or cancellation of invoice and prescribes detailed guideline on how to carry out such amendment or cancellation of invoice. Further, there could be situations where subsequent events like discounts or rate differences may cause a need to carry out a downward or an upward adjustment in the value or tax. The GST law suggests that such subsequent events warranting a downward or an upward adjustment in the value or tax be carried out through the issuance of a credit note or a debit note and has prescribed detailed guidelines in this regard.

An earlier article published in February 2024, examined various issues pertaining to credit notes under GST. Certain further developments have warranted an additional article in this regard covering issues which continue to grapple the trade and industry.

CANCELLATION CREDIT NOTES

While the GST law envisages a possibility of such amendment or cancellation of invoice, the IRN portal does not permit an amendment. Even a cancellation of an erroneously uploaded invoice is permitted within 24 hours. Further, most of the invoicing/accounting/ERP systems do not permit a cancellation of invoice already generated. Therefore, it is a common practice that in case of errors in generation of invoice, the cancellation of invoice is effectively carried out through the issuance of a credit note bearing the like amount and tax. As stated in an earlier article, the adjustment of tax on account of issuance of credit notes is governed by the provisions of section 34, which permits a self-adjustment of the tax in specific circumstances and within the prescribed timelines, subject to the incidence of tax not being passed on to the customer. The relevant provision is reproduced for easy reference:

34. Credit and debit notes:

(1) Where one or more tax invoices have] been issued for the supply of any goods or services or both and the taxable value or tax charged in that tax invoice is found to exceed the taxable value or tax payable in respect of such supply, or where the goods supplied are returned by the recipient, or where goods or services or both supplied are found to be deficient, the registered person, who has supplied such goods or services or both, may issue to the recipient one or more credit notes for supplies made in a financial year containing such particulars as may be prescribed.

(2) Any registered person who issues a credit note in relation to a supply of goods or services or both shall declare the details of such credit note in the return for the month during which such credit note has been issued but not later than the thirtieth day of November following the end of the financial year in which such supply was made, or the date of furnishing of the relevant annual return, whichever is earlier, and the tax liability shall be adjusted in such manner as may be prescribed:

Provided that no reduction in output tax liability of the supplier shall be permitted, if the incidence of tax and interest on such supply has been passed on to any other person.

Generally, the cancellation credit notes are unilateral acts carried out by the supplier for erroneously generated invoices. In such cases, it may be possible to argue that such credit notes are indeed covered by the provisions of section 34 since the taxable value or the tax mentioned in the invoice exceeds the taxable value or the tax payable. It can be argued that effectively, no supply is effected against an erroneously generated invoice and hence there is no question of any tax payable on the same. However, disputes could arise in situations where the supply was actually effected against the tax invoice, but later on it is realized that there is an error in the mention of the details of the recipient (Wrong customer selected or Wrong GSTIN of the said customer selected). In such situations, the Department may like to argue that there is no change in the taxable value or tax and therefore the provisions of section 34 are not triggered. In defense, the taxpayer may want to contend that qua the erroneous recipient, there is no taxable supply, value or tax and therefore indeed, qua the erroneous recipient plotted in the invoice, the conditions mentioned in section 34 are indeed satisfied. Since in such situations, another invoice is raised with the correct recipient details, one may want to link the actual supply of goods or services with the fresh invoice so raised. In cases where the error is discovered at a later point of time, this may result in an allegation of delayed generation of invoice. However, this would be an independent allegation from the Department and cannot prejudice the claim of the taxpayer that qua the erroneously generated invoice, indeed there was no supply.

OTHER CREDIT NOTES

Other than the cancellation credit notes issued for erroneously generated invoices, the trade and industry also issue credit notes for passing on discounts. Section 15(3)(b) provides for an exclusion from the value of taxable supply for certain post-supply discounts, subject to the condition of reversal of input tax credit by the recipient. While section 15 deals with the substantive aspect of subsequent exclusion from taxable value and therefore a consequent reduction in the tax liability, the mechanism for self-adjustment of the consequent excess tax continues to be governed by the provisions of section 34. There could also be situations where a supply of goods is actually made but the goods are thereafter rejected by the customer, warranting the issuance of a credit note. Such credit notes are not unilateral credit notes, but bear a visibility vis-à-vis the customer as well. Since the original tax invoice was also available to the customer, it is possible that he may have claimed input tax credit and therefore, the reduction of output tax credit at the end of the supplier is dependent on reversal of input tax credit by the customer. Due to substantial volumes and time-lapse, this dependency on the customer has presented significant challenges to the suppliers. There was no uniform approach adopted by the revenue authorities to satisfy themselves about this condition of reversal of input tax credit by the customer. As an interim measure, the CBIC had therefore clarified that a certificate that the recipient has made the required proportionate reversal of input tax credit at his end in respect of such credit note issued by the supplier may be sufficient evidence to this effect.

CONSEQUENTIAL IMPACT OF CREDIT NOTE ON THE RECIPIENT

While the said Circular to some extent addressed the challenges at the supplier end, the challenges at the recipient end are very different.

When GST was introduced in July 2017, a mechanism of matching transactions between supplier & recipient was proposed whereby the recipient was required to either accept, modify, reject, or keep pending transactions that are reported by the supplier. While the transactions were made available to the recipient in GSTR-2A, the matching mechanism was never implemented which resulted in substantial litigation vis-à-vis claim of input tax credit.

System-generated notices are being issued to the taxpayers alleging non-reversal of input tax credit on credit notes reflected in GSTR-2A, on a generic verification of aggregate data filed by the taxpayer. Such presumption results in needless litigation since the data available with the Department from the aggregate data filed is insufficient to conclude the non-reversal of input tax credit. Some practical examples may be considered:

The recipient reversed the input tax credit on the credit notes by netting off the tax amounts against the fresh input tax credit claimed during the month in Table 4(A)(5) of GSTR-3B In such cases, the reversal is not expressly reflected on the face of the return and therefore, a system generated notice is issued. The taxpayer may respond to the said notice explaining the facts in detail, but at times, the Department is unable to verify the genuineness of the claim since the relevant data is not available in the filings.
The recipient reversed the input tax credit on the credit notes by reducing it in Table 4(B) in GSTR-3B. In such cases, a co-relation can be established (if there are no other reversals disclosed in GSTR-3B). However, there can be cases of timing difference, i.e., input tax credit on credit note may be reversed in a particular tax period & credit note may be reflected in GSTR-2A in another tax period. Demonstrating such a correlation then becomes challenging.
The challenges get compounded in case of unilaterally issued cancellation credit notes by the supplier. Since the recipient taxpayer neither has a privy to the erroneous invoice or the cancellation credit note, in all probability, he would not have claimed input tax credit and therefore the need for reversal of input tax credit does not arise. However, at times, the tax officers proceed on a presumption that the recipient has claimed the input tax credit on the invoice and not reversed the ITC on the credit note, based on (a) above, resulting in unwarranted litigation.

INVOICE MANAGEMENT SYSTEM

Recently the Government has introduced the Invoice Management System (IMS) facility on the portal. The invoices and debit notes issued by the supplier and reported in GSTR-1/ e-invoicing facility are transmitted to the recipients’ interim IMS dashboard with an option available to the recipient to either accept such documents, reject them, or keep them pending for action in a subsequent period. However, in the case of credit notes, the recipient is not permitted to keep them pending and is required to either accept or reject them. Accepted documents are transmitted to the recipient’s GSTR-2B while rejected documents are available back to the supplier to take corrective action as deemed fit. Pending documents are
carried forward for action by the recipient in the subsequent tax period. The IMS is optional and in the absence of any action taken by the recipient, all the documents are deemed to be accepted and transmitted to GSTR-2B.

The intention of IMS is to streamline the process of claim of input tax credit at the recipient end and therefore generally does not impact the tax liability of the supplier. However, in the case of credit notes, it is provided that the rejection of the credit note by the recipient will result in automatic additional tax liability (due to non-allowance of self-adjustment) to the supplier. As a corollary, acceptance of the credit note by the recipient will result in automatic reversal of input tax credit at his end.

While the introduction of IMS results in better documentation and control, the prohibitive volumes, the inability of keep action on credit notes pending and the automatic adjustment mentioned above has resulted in a widespread practical difficulty specifically in the context of unilateral cancellation credit notes. Three situations can be examined

ERRONEOUS INVOICE AS WELL AS CANCELLATION CREDIT NOTE REJECTED BY THE RECIPIENT

Since both the erroneous invoice as well as the cancellation credit note were unilaterally issued by the supplier, it is very likely that the documents did not become a part of the accounting records of the recipient, who is more akin to a stranger to such documents. It is therefore fitting that the recipient would reject both the erroneous invoice as well as the cancellation credit note. Interestingly, while the IMS and GSTN Portal provide for an automatic addition of tax liability in case of rejection of credit notes, no such automatic reduction of tax liability is envisaged for rejection of invoices. Therefore, in such situations, the supplier is forced to amend both the erroneous invoice as well as the cancellation credit note to a negligible value and tax.

ERRONEOUS INVOICE KEPT PENDING BUT CANCELLATION CREDIT NOTE REJECTED BY THE RECIPIENT

In view of substantial volumes at the end of the recipient, it may not be possible for the recipient to differentiate cases where the invoice was erroneously raised by the supplier from cases where the supplier has genuinely raised the invoice, but the invoice is pending for processing and/or accounting at the recipient’s end. Therefore, most of the recipients avoid rejection of unmatched records and choose to keep them pending till the end of the timeline available for claim of input tax credit. However, as the credit notes are not permitted to be kept pending, the recipient may reject the credit notes. In such situations also, the supplier is forced to amend both the erroneous invoice as well as the cancellation credit note to a negligible value and tax.

ERRONEOUS INVOICE ACCEPTED BUT CANCELLATION CREDIT NOTE REJECTED BY THE RECIPIENT

Ideally, this situation should not arise since it is not correct on the part of the recipient to accept the erroneous invoice. However, in case of substantial volumes, the recipient may have incorrectly accepted the erroneous invoice (or it could have been deemed to be accepted due to the optional nature of IMS). In most of these situations, the recipient would have temporarily or permanently reversed the credit in GSTR3B. The recipient therefore ends up rejecting the cancellation credit note. At the supplier end, he is again forced to amend both the erroneous invoice as well as the cancellation credit note to a negligible value and tax. However, this situation is slightly more challenging. Since the original erroneous invoice was accepted or deemed to be accepted by the recipient, a downward amendment in the invoice value would be permitted only of such downward amendment is accepted by the recipient. Again, acceptance of such downward amendment results in reduced input tax credit to the recipient, which he will have to compensate by reclaiming the temporarily or permanently reversed input tax credit. In essence, this scenario results in a substantial dependency on the recipient

HOW TO RESOLVE THE SITUATION?

A possible solution to address this issue of dependency would be for the supplier to review the documents before filing GSTR1 to identify erroneous invoices as well as cancellation credit notes and manually remove both documents before uploading the GSTR1. While this will result in a non-alignment of the IRN data and the GSTR1 filings, the same can be explained when the query is raised by the Department. Alternatively, if the erroneous invoice has already been uploaded in an earlier month, the supplier may choose to amend the erroneous invoice in the subsequent month to a negligible value rather than uploading the cancellation credit note. This will substantially reduce the ‘noise’ of voluminous erroneous records being uploaded on the GSTN portal.

CONCLUSION

The emphasis placed by the authorities on demonstrating whether the burden of tax has been passed on to the customer / whether the input tax credit has been reversed on credit notes or not, and the introduction of matching mechanism for credit notes, is resulting in lots of friction for taxpayers, be it from the department perspective or business perspective. The taxpayers should therefore start working on setting up a separate ecosystem for dealing with credit notes from both, outward supply as well as inward supply perspective.

BCAJ Admin

Waiver Scheme

Equity and Taxation are considered as aliens to each other. Successive Governments have introduced amnesty, dispute resolution, waiver and / or trade facilitation schemes for benefit of taxpayers. Legal ambiguity, legacy laws, tax augmentation, administrative backlog, etc. have been the primary drivers for such schemes. While every scheme is open to criticism for being detrimental to the interest of tax diligent persons, being a policy decision and beneficial to a litigant class, they have not been challenged on the grounds of equality. However, these optional schemes are subject to strict application of the law, with Courts inclined to examine the intent only in case of any ambiguity in the law. This implies that applicants or cases which are not expressly included in the scheme cannot take shelter under such schemes. One such scheme has been proposed by way of insertion of Section 128A to CGST Act, 2017.

Though the scheme has been understood by many as an ‘amnesty’, it should be appreciated that the scheme neither provides for any haircut in ‘tax payments’, nor does it provide for immunity from prosecution, late fees, redemption fines, etc. The waiver is conditional and limited only towards interest and penalty payable under specific disputes. It would be inappropriate to term this as a ‘dispute resolution’ since the scheme does not preclude the revenue from agitating the matter even on conclusion of the order. Moreover, in case the taxpayer is denied the benefit of the scheme, the taxpayer is entitled to continue with the dispute before appropriate appellate forums and seek remedial action. It would hence be appropriate to classify the scheme as a ‘conditional waiver scheme’, where the waiver is extended to only interest and penalty, subject to the taxpayer discharging the disputed tax and abandoning its right to litigate the said matter.

BROAD CONTOURS

This scheme has been implemented, pursuant to the decision of the 53^rd GST Council, by insertion of Section 128A providing for conditional waiver of interest or penalty relating to tax demands raised u/s 73 for the FY 2017-18 to FY 2019-20. Considering the difficulties in initial stages of GST implementation, tax demands pursuant to genuine legal disputes (such as GSTR-2A v/s. 3B difference, rate classification, taxability, etc) are attempted to be settled on full payment of tax reported in the notice or order on or before the notified date¹. One cannot seek redressal over the merits of the matter and opting for the scheme does not imply acceptance of the legal proposition canvassed in the dispute. The waiver also does not cover demands of erroneous refund and those pertaining to the tax period from FY 2020-21. Rule 164 has also been inserted prescribing procedures and forms related to the waiver. The CBIC has issued Circular No. 238/32/2024 dt. 15th October, 2024 clarifying many aspects of the scheme.

1 31.03.2025 for S.73 cases and 6 months in cases subsequently converted into S.73

SCOPE OF SCHEME

Section 128A under ‘Chapter 19 — Offences and Penalties’ grants a conditional waiver of interest and penalty on payment of the tax payable arising from the said proceedings in the following situations:

i.Show Cause notice (DRC-01) has been issued u/s 73 and such notice is pending adjudication;

ii. An adjudication order u/s 73(9) (DRC-07) has been issued and no appellate order has been passed against such order;

iii. An appellate order has been passed by the first appellate authority and no further appellate order (second appellate authority onwards) has been passed against the said appellate order.

CONDITIONS OF SCHEME

The above interest and penalty waiver is subject to certain conditions:
i. Full amount of tax payable as per the notice / order is discharged on or before the notified date;

ii. Demands raised u/s 74 (unless converted into Sec. 73 pursuant to a specific appeal) or any other sections² are not covered under the scheme;

iii. Issue of recovery of erroneous refund is not covered under the scheme;

iv. Appeal / writ petition should be withdrawn on or before the notified date;

v. On favourable conclusion of the scheme, the underlying order cannot be continued in appeal or writ.

2 Section 52, 76, 122, 123, 124, 125, 127, 129 or 130

PROCEDURE FOR AVAILMENT OF SCHEME

The scheme would be implemented through the GSTN Portal and eligible persons would have to follow a defined process:

a) Preparatory Stage

STEP 01: Check the eligibility of the scheme based on the applicable notice/ order (i.e. DRC-01 or DRC-07 or APL-04), period involved and the issues which are covered under the scheme. File a letter with the appropriate authority to upload the said notice / order in case the same is not visible on the electronic portal;

STEP 02: Withdraw the appeal or petition filed by making an application in APL-01W and obtain a withdrawal order from the appropriate authority — one need not await the withdrawal order for proceeding further;

STEP 03: Quantify the tax payment (year wise). Discharge the tax payment in full for the demand quantified in the said demand notice / order vide DRC-03 with appropriate narration of the notice/ demand reference number (including demand for erroneous refund) — exclusion may be made for input tax now available pursuant to introduction of section 16(5);

STEP 04: Once the demand is available on the common portal, apply for mapping the DRC-03 with the relevant demand order uploaded on the common portal with the proper officer in form DRC-03A — verify the mapping of the said payment with demand order in the electronic credit ledger.

b) Application Stage

STEP 05: Where the tax demand is proposed in DRC-01, file an application in SPL01 reporting the details of the DRC-01 and the corresponding tax payments details (if any) in DRC-03;

STEP 05A: Alternatively, in case of confirmed demand u/s 73 or 107 appeal proceedings, an application in SPL02 reporting the corresponding demand order and the tax payment details in Electronic Liability Ledger or DRC-03 & 3A would be reportable;

STEP 06: Upload the self-certified copy of relevant notice / order along with the withdrawal application / order and any order documents (such as order of High Court, communication with officers etc) and establish mapping the tax payment with the demand notice along with application in SPL-01/02.

c) Processing Stage

STEP 07: The officer would issue a notice in SPL-03 in cases where the application is ineligible for the scheme, granting an opportunity for appearance. A response to the said notice in SPL-04 would be submitted;

STEP 08: In case the application is accepted, the officer would issue an order in SPL-05 concluding the proceedings under the scheme. The liability proposed in DRC-01 would be considered as recovered in full and the liability demanded in DRC-07 or APL-04 would be accordingly modified in PMT-01.

d) Redressal Stage

STEP 09: In case the application is rejected³, officer would issue an order in SPL-07 mentioning the reasons for rejection. The said order is subject to appeal u/s 107 before first appellate authority.

STEP 10: In case the tax payer does not file an appeal u/s 107 against the order of rejection (in SPL-07), the original appeal (on merits) would stand automatically restored. In case the matter was pending before the High Court, the petitioner would have to make an application for restoration before the appropriate court.

3 On account of incomplete payment; payment made after the date notified in Section 128A; Notice/ Order pertaining to sections other than section 73; appeal/ writ petition filed before Appellate Authority/ Appellate Tribunal/High Court/ Supreme

e) Post Processing Stage

STEP 11: In case the tax payer files an appeal u/s 107 against the order of rejection (in SPL-07), the ‘128A waiver appeal’ would be examined by the appropriate appellate authority and an appropriate decision would be made. Where such appeal is admitted and allowed, the appellate authority would issue an order in SPL-06 concluding the proceedings and also directing payment of any shortfall in interest or penalty not covered under the scheme. Where the ‘128A waiver appeal’ is dismissed and the appellant decides give-up any further remedy, the ‘original appeal’ on merits would be restored and matter would follow the regular course of appellate remedy on merits.

STEP 12: The conclusion of the proceeding is subject to payment of the demand specified in SPL-05/06 within the specified time frame.

STEP 13: In the eventuality of a rejection order in SPL-07, an appropriate appeal would have to be filed in terms of the appeal provisions u/s 107/112 and in case the appeal is not sought to be preferred at any stage, a declaration may be filed stating its intention so that the appeal on merits stands restored.

f) Restoration Stage

STEP 14: Once the appeal against the wavier order has attained finality, the original appeal on merits would be restorable and the applicant would be permitted to argue the case on merits despite having made the entire tax payment under the scheme. The liability under the Electronic Payment ledger would be maintained as it is.

Particulars	Timelines	Remarks
Payment of Tax demanded pursuant to notice/ order u/s 73	Notified date	31^st March, 2025
Withdrawal of appeal (if any)	Before SPL-02	30^th June, 2025
Application in SPL-01/02	3 months	30^th June, 2025
Rejection notice in SPL-03	3 months from SPL-01/02	Mapped to application date
Response in SPL-04	1 months from SPL-03	Mapped to SPL-03
Acceptance Order in SPL-05	3 months from SPL-01/02	No SPL-03 cases
	3 months from SPL-04⁴	Reply filed in SPL-04
	4 months from SPL-033	No reply filed in SPL-04
Rejection order in SPL-07	Same as above³	Same as above
In case of Appeal against SPL-07	3 + 1 months as specified in appellate section 107/112	Regular appeal provisions apply to rejection order
Appellate acceptance in SPL-06	No time limit	NA
Appellate rejection in APL-04	No time limit	NA
Shortall in payments of tax, interest or penalty	3 months of demand	In cases of departmental appeal, revision, etc
128A application for S. 74 notices/ orders which are subsequently converted into S.73	6 months from 73 order and the subsequent sequence of events above would follow suit	Pursuant to application of 75(2) appellate/ court proceedings

4 In cases where the withdrawal order is not uploaded, the time limit from date of application in SPL-02 till the date of filing the withdrawal order would be excluded for purpose closure of the proceedings

Note – If no acceptance order is issued within the timelines for SPL-05, the application would be deemed to be approved and the proceedings are concluded with necessary modifications carried out in the Electronic Liability Register.

PROCEEDINGS EXCLUDED FROM THE SCHEME

The stages of notices or proceedings are excluded if the same are not converted into a proceeding under section 73.

Stages / Forms	Covered
ASMT-10 (Scrutiny)	No
ADT-01 / ADT-02 (Audit)	No
INS-01 (Inspection / Search)	No
MOV-09 (E-Way Bill Interception without DRC-01 or DRC-07 u/s 73)	No
MOV-09 (E-Way Bill Interception with DRC-01 or DRC-07 u/s 73)	Yes
Only Penalty – DRC-01 / DRC-07 u/s 122 only	Yes
Only Interest – DRC-01 / DRC-07 u/s 50 only	Yes

In such scenarios, the taxpayer would have to filter out the frivolous / clarificatory matters through its legal submission and urge the officers to proceed with the matter into adjudication — which typically would be performed u/s 74 in view of the expired time limit of section 73.

FAQS / COMMON QUESTIONS IN RESPECT OF THE SCHEME

Q1 – Can the applicant cherry pick a particular issue or year from within a notice / order for closure u/s 128A?

Pick a particular issue — Section 128A(1) states that the scheme would be available only on full payment of the tax liability under the notice/ order. Since the scheme is designed qua the notice or order, the applicant cannot cherry pick any issue for waiver and seek appellate remedy for the rest. In view of specific wordings, the scheme has been designed for closure of the entire notice / order and there is no window for authorities to conclude the notice / order partially. Even in cases where a particular issue pertains to erroneous refunds, it has been specified in the rules that the applicant would have to settle the tax demands from such erroneous refunds to be eligible for the scheme (Rule 164(3) and Q5 of Circular).

Pick a particular year – Where notices have been issued for a larger assessment period, with the scheme being limited to the first 3 years, one would have to settle the tax, interest and penal liability for the years 2020-21 onwards. Once again, the taxpayer is not permitted (in view of Rule 164(4) r.w. Q6 of Circular) to cherry pick any particular year from among the notice / order period. Taxes for all the years would have to be discharged including those which are not covered under the scheme prior to application of the scheme. To tabulate the above issue:

Consolidated Notice/ Order	2017-18	Apply for scheme
	2018-19
	2019-20
	2020-21	No appellate remedy for next 2 years — consequential tax, interest and penalty to be paid
	2021-22
Notice for each year is separately issued	2017-18	Apply for Scheme or choose to appeal
	2018-19	– same as above –
	2019-20	– same as above –
	2020-21	Appeal remedy
	2021-22	Appeal remedy

A careful SWOT assessment and numerical analysis of the proceeding would have to be performed to address such dilemma. Alternatively, taxpayer can seek the intervention of the court which have directed the revenue authorities to split the SCNs year wise and permitted the taxpayer to avail the scheme.

Q1A – As a follow-up issue, can applicant seek a direction from the High Court for splitting the issue year-wise or issue-wise and then pick / choose a particular matter for closure under the scheme?

Section 73/74 does not bar the proper officer to consolidate all the tax issues for multiple assessment period in one show cause notice. But courts have recognised that each financial year is a separate assessment unit and hence there does not seem to be much difficulty in obtaining separate notices / orders for each assessment year by a direction from the High Court.

The open-ended wordings of section 73/74 also do not bar multiple issues in one single notice / order. Conversely it does not also bar the proper officer separate the issues in separate notices and consequently separate orders. This leaves the proper officer with significant discretion for adjudication proceedings. Is the discretion at the officer’s end determinative of the eligibility of taxpayer under the scheme? The answer unfortunately appears to be in the affirmative for reasons discussed below.

By now we are aware that Section 128A has been legislated for the notice / order in totality. But if one where to examine the fundamentals of taxability and its recovery through adjudication proceedings, each outward and inward supply stands on its own merits. GST law being a ‘transaction-based tax’, each supply would have to be independently examined for all the taxable aspects (such as taxability, rate of tax, time of supply, place of supply, etc) and hence any short payment or non-payment would be a separate proceeding even if they are contained in a single notice / order. Similarly, availability of input tax credit is also linked to each inward supply and its eligibility (including its usage) is to be analysed on an input invoice basis. Having said this, equity demands that 128A ought to have been designed keeping in perspective this fundamental principle of taxation.

5 Titan Company Ltd. v. Joint Commissioner of GST & Central Excise [2024] 159 taxmann.com 162 (Madras) & Veremax Technologie Services Ltd. & ACT Bengaluru [2024] 167 taxmann.com 332 (Karnataka)

Historically, adjudication proceedings were ‘issue specific’ and notice on a particular issue did not preclude another notice on a distinct issue. Assessments, on the other hand, were ‘period specific’ in so far as the assessment involved conclusion for the assessment year as a whole. The practical experience of adjudication seems to have overtaken the academic essence of assessments and the GST Council / Legislature, have thought it fit in their wisdom (keeping the administrative hurdles) to design the waiver scheme for the adjudication proceeding as a ‘whole’ and refrain from entering into granular aspects. The defence for such an approach would be that optional schemes are the prerogative of the legislature and any grievance on this aspect may not be sustainable even before Constitutional Courts. If one were to invoke the fundamental principles of equity, Courts may treat both the taxpayers (one with a consolidated proceeding vis-à-vis individual proceeding) as unequals from the perspective of adjudicative and administrative procedure, which is the primary bedrock for introduction of this scheme. While an issue wise fragmentation may be tested before Courts, it would defeat the very purpose of even approaching this scheme as it would add another layer of a litigation to a dispute resolution-oriented approach of the taxpayer.

Q2 – Are Section 74 notices / demands totally barred from relief under this scheme?

Section 128A has been designed to grant relief vis-à-vis a specific proceeding and implicitly excludes all other proceedings under the Act. Taxes payable u/s 74 is one such implicit exclusion u/s 128A or rule 164. Considering the grievance of taxpayers who have received SCNs alleging fraud / suppression, etc u/s 74 even on issues of genuine misclassification, numerical discrepancies, legal ambiguity, etc, the scheme has provided for a separate window for clearance of such proceeding.

Section 75(2) provides that in cases where the appellate authority overturns the grounds of fraud/ suppression, etc, the proper officer would have to conclude the proceedings u/s 73(9) within 2 years from appellate order u/s 75(3). The scheme recognises this and extends the waiver even to such scenarios, permitting the taxpayer to apply in SPL-02 subsequent to the revised adjudication order u/s 73 of the Act. In effect, the scheme would come into operation only after the adjudication order u/s 73 is passed in favour of the taxpayer.
Curiously, this mis-action by the department would lead to multiple advantages to the taxpayer:

– Firstly, the taxpayer now possesses the flexibility of applying for the scheme and making the requisite tax payment only after the revised adjudication order u/s 73(9); effectively giving the taxpayer an indefinitely long time period to make the tax payment without any additional interest or penal implications;

– Secondly, the taxpayer also has the opportunity to argue the issues on merits and seek redressal of any patently unsustainable tax demands which would otherwise not be available to an applicant subjected to 73 proceedings on similar issues;

– Thirdly, the taxpayer is also benefited by exclusion of tax demands which are barred by the period of limitation on account of conversion of proceedings from section 74 to 73;

– Fourthly, the taxpayer can advance arguments for splitting a single order into multiple orders and treatment of each of the same independently under the legal provisions;

While the scheme would apply in entirety for recipients of SCNs u/s 73, other applicants who are initially subject to proceedings u/s 74 can avail the scheme at their option after the appellate authority delivers its decision on the grounds of fraud, suppression, etc. Barring cases of circular trading, fake bill cases and tax fraudulently collected, it appears that multiple taxpayers would explore the opportunity to avail the benefit of these scheme at a later point in time, enjoying the interest arbitrage.

Q3 – While the applicant cannot file an appeal, can the department file an appeal or revise an order subsequent to conclusion of under the scheme?

Yes, the scheme functions as a waiver scheme and is limited only to wavier of interest or penalty but does not provide any immunity from assessment/ appeal of the subject period. The conclusion of the proceedings by virtue of SPL05/06 is to the extent of the adjudication process and not further. The revenue can separately initiate proceedings including filing an appeal or revision under the respective sections against the underlying adjudication or appellate order (including SPL-05/06) which has been subjected to the scheme. A particular issue, which was previously dropped or not examined appropriately, can theoretically be agitated in departmental appeal or revisionary proceedings. Unfortunately, the applicant would have to discharge the additional tax quantified under the scheme within 3 months from the date of the enhanced order. Where the applicant believes that the enhancement is not in order, the next appellate remedy would have to be pursued and depending on the outcome, the enhanced tax would be liable to be discharged (Q8. of Circular). The
silver lining would be that the taxpayer would be eligible for the waiver of interest and penalty for the additional tax liability which was demanded by virtue of this process.

Q4 –Can parallel proceedings initiated (either before or after the scheme) abate by virtue of this scheme?

As stated above, the scheme does not place any bar on the department to initiate proceedings on the similar subject matter or any other subject matter. Moreover, the conclusion of the proceeding is not with reference to the merits of the matter, rather only with respect to the adjudicative / appellate process governing the notice / order. For example, an applicant obtains conclusion for an adjudication order (in DRC-07) in respect of numerical differences in input tax credit in GSTR-2A v/s 3B. Pursuant to an inspection or scrutiny proceedings, the tax department discovers that some vendors have failed to discharge their output taxes and have escaped the issue in the original adjudication. Invoking the adjudication powers, fresh notices can be issued against the applicant, and the said proceedings would be independently viewed and cannot be clubbed to be covered / admitted in the original adjudication proceedings. In essence, the department is not precluded from initiating proceedings on the very same issue or rake up fresh issues by virtue of the closure order issued under the scheme. Even if parallel proceedings are underway on similar subject matter by the corresponding administration, the scheme would achieve closure only in so far as the notice / order which has subjected to the scheme and the parallel proceedings would be governed by regular provisions of the Act.

Q5 – Whether appeal should be filed for orders which are anyway being withdrawn as part of waiver scheme?

There are cases (especially for 2019-20) where orders are passed or due to be passed before February 2025. Filing an appeal and withdrawing the same for purpose of application of the scheme may seem a futile exercise. Yet, it is advisable to file the appeal and withdraw on three counts:

(a) the scheme covers cases where an adjudication order has been passed and no appellate order has been passed. The provision does not explicitly state whether an appeal proceeding should be pending as on the date of the application. Though, the condition has been worded in the negative, revenue can very well interpret that pendency of appeal is implicit, since only in such scenarios one can state that an appellate order is due to be passed. To address this technical interpretation, filing an appeal may be an advisable option.

(b) In the eventuality the waiver application is rejected, the scheme mandates that the original appeal in merits (which was withdrawn) would be re-instituted. This presupposes that an appeal was originally filed. The scheme does not in anyway permit fresh filing of appeal (on merits) after rejection of the waiver application. Neither does it grant an exclusion in the time period for the time spent in processing of the wavier application. Thus, in order to protect one’s interest in pursuing the appellate remedy, it would be suitable to file an appeal and subsequently withdraw the same prior to an application before the waiver scheme.

(c) More importantly, the waiver application may take time to process and conclude. Till the time of the favourable conclusion of the waiver application, there is a risk of recovery proceedings being initiated and if such proceedings are initiated, the taxpayer will have no recourse but to knock the doors of the High Court.

Q6 – Who is the proper officer for application of the scheme?

Rule 164 prescribes that the proper officer would be the authority who is under law entitled to recover the tax, interest and penalty arising from the order u/s 79. Where the waiver is in respect of the notice itself, the proper officer would be the officer who has issued the notice u/s 73.

Q7 – Whether the recipient of output invoice is eligible for input tax credit for tax payments under thescheme?

Supplier applicants who have been alleged with short payment of tax are entitled to the scheme on differential output tax paid since the tax paid would be considered as part of proceedings u/s 73. For example, automobile OEM suppliers who have been subject to intense litigation on the applicable rate for parts are considering opting for the scheme and passing on the said
burden to the manufacturers/ dealers for availment of the input tax credit by issuance of a ‘supplementary invoice’. This is possible in B2B transactions as the customer would be eligible for input tax credit and the same would not be barred under the provisions of section 17(5)(i).

Q8 – Whether orders / notices limited to interest or penalty are eligible under the scheme?

Section 128A specifies that notices/ order which report a ‘tax payable’ are eligible for waiver under the scheme. Though this phrase ‘tax payable’ is adopted, the rules and circular indicate that taxes already paid (in part or full) would also be adjusted under the scheme (Q1, 2 & 4 of Circular). Though tax liability is a sine-qua-non for invocation of the rights under the scheme, the tax need not be unpaid as on the date of the scheme. However, the circular makes a mention that ‘self-assessed taxes’ which are paid would not be eligible for the scheme and the interest or penalty would be payable in such scenarios.

CONCLUSION

The scheme clearly has all the ingredients of the experience of the Government administration from earlier amnesty and dispute resolution scheme. Old disputes of mapping tax demands, lack of appellate remedy and restoration, time frame under a quasi-judicial process, etc which were missing in the legacy schemes are eminently visible in this current format. The circular issued by the Government is also progressive and granted the relief to advance the object of the scheme. In the midst of the everlasting debate of equity in such schemes, on may state that the approach of the Government for launching this scheme is fairly commendable.

BCAJ Admin

RCM Provisions – Recent Developments

Indirect tax laws as transaction taxes are generally designed to be collected from the initiator/ originator of the transaction (say supplier / seller service provider). Reverse charge provisions (‘RCM’) flip this default rule and shift the tax liability onto the receiver of the supply. The provisions emerge from the ‘tax collection’ powers granted under Article 246A of the Constitution. Since the levy continues to be governed by the provisions of section 7, 9(1)/5(1), all levy parameters (such as supply, business, consideration, etc) must be independently satisfied as a prequel to the RCM provisions. This article revolves around this fundamental principle and decodes the recent legal developments in this light.

LEVY & SCOPE OF SUPPLY — SUPPLIER AND TAXABLE PERSON CONUNDRUM

Section 9 levies a tax on the transaction of ‘supply’ of goods or services and such tax is to be ‘collected in the manner prescribed’ and ‘paid by the taxable person’. Section 7 (except 7(1)(aa) and (b)) enumerates that supplies have to be ‘in the course of furtherance of business’. Undoubtedly, the sine-qua-non for an activity to be termed as supply u/s 7(1)(a) is it should meet the business test. Now the question arises on the application of this ‘business test’ — whether it should be applied at the supplier’s end or recipient’s end. To decide on the vantage point of supply (whether it’s from the supplier’s or recipient’s perspective) we inter-mingle the provisions of sections 7(1)(a) and 9. Clearly, supply u/s 7(1)(a) is curated from the perspective of a supplier ‘making’ a supply in the course or furtherance of business. Only a supplier ‘makes’ a sale or service or lease and hence scope of supply u/s 7(1)(a) should be understood from his/her viewpoint. Thus, levy under the section would be triggered only when a supplier makes a supply in the course of his business though the tax will be collected from a ‘taxable person’ who may not be a supplier.

We can infer this from the distinction in the definition of supplier and taxable person. A ‘taxable person’ u/s 2(107) has been defined as ‘any person’ who is registered or liable to be registered under section 22/24: it includes (a) suppliers crossing the 20-lakh turnover threshold; and also (b) other specified persons who may or may not be in business but are liable for compulsory registration irrespective of having any turnover (say person affixed with RCM liability). Therefore, a taxable person may not always be the supplier and hence need not be in business, but the converse is not true, and the supplier would in all cases have to be in business for the levy to be applicable. One may comfortably state that the levy of GST on supply u/s 7(1)(a) is to be understood primarily from a supplier’s perspective (as being part of business activity) though the collection of the tax, as part of the legislative choice, is from a ‘taxable person’ who need not be in business.

This also becomes prominent on comparing RCM provisions with aggregator provisions (e-commerce operators governed u/s 9(5)), where such aggregators are specifically treated as suppliers liable to tax even though they only mediate the transactions between a de-facto supplier and recipient. The e-commerce operator is affixed with all statutory responsibilities for payment of tax as applicable to a supplier and includes ascertaining the nature of supply, rate of tax, type of tax, invoice generation, time of supply, etc. Section 9(5) literally supplants the e-commerce operator as a supplier for the purpose of collection of tax irrespective of the business and registration status of the de-facto supplier. Unlike RCM, an E-commerce aggregator is obligated to discharge the tax by himself by raising the outward supply invoice on behalf of the service provider and remitting the same to the Government.

To further buttress the ‘business test’ principle stated above, we can fall back upon the Government’s Press release¹ in the context of section 9(4) which clarifies that the sale of old jewelry by an individual consumer is not emerging his / her business activity, rather a personal activity, and the registered jeweler as a recipient cannot be imposed with RCM merely because the buying activity is in course of his business. It is only when an unregistered seller is engaged in business (say unregistered on account of turnover thresholds, etc.) can be said to be liable to RCM u/s 7(1)(a). This principle can now be extended even to services/ functions performed by Governments & municipalities. We have some of the government functions already being enlisted as part of section 7(2) and termed as being neither supply of goods nor services. In many other instances, Government(s) are performing the service / activity as part of statutory obligations and not as part of a supply or service. While we are not referring to Government monopolies (such as Indian Railways), certain licenses or approval fees granted for statutory permissions and other functions devolve onto the authority by enacted legislations and not be pursuant to trade or commerce. They operate under the obligations of a statute and are not bound by commercial / contractual negotiations. The activity may not be treated as a supply of service u/s 7(1)(a) and accordingly RCM notifications (which are merely collection tools) cannot by virtue of an entry treat the activities as liable to tax in the hands of the recipient. The entries need not be necessarily struck down. It must be narrowly interpreted to be applicable only to those cases where the Government/ municipality is in business and performing a commercial activity. One may also consider applying this principle to RCM imposed on development rights in case of a supply of TDRs/FSIs by ‘any person’ to a ‘Promoter’. The phrase ‘any person’ should be understood as any land-owner promoter who is engaged in business activity. Where the landowner engaged in real estate development of his personal asset distinct from his regular income activity, an argument can still be canvassed that the land-owner is not engaged in a trade/ commerce, etc., and arguably the transaction is not a supply in terms of section 7(1)(a). Consequently, one need not even go down the path of examining the RCM provisions u/s 9(3) for TDR taxation.

1 No. 78/2017, dated 13th July, 2017

The only flip side to this argument is that the revenue will always claim that the term ‘business’ is so wide that any income-generating activity (including Government functioning as a public authority, land development activity) would be liable to be part of trade or commerce. Moreover, the very purpose of RCM may be defeated if supply is understood from the supplier’s perspective and not from the perspective of the recipient. The above proposition would be faced with subjectivity and unfortunately, the facts for establishing that the RCM supplier (say landowner) is not is business is not generally available with the recipient (developers) who have been characterized as taxable persons in respect of the DRs. In other words, the RCM scheme operates only on the taxable person and does not mandate the unregistered landowner to come forward and establish whether they are in business or not. So, let’s examine if some respite can be obtained from other tax liability provisions of section 13 below.

TIME OF SUPPLY & INVOICING — SECTION 12(3) AND 13(3)

We all know that the time of supply and invoicing provisions have been specifically crafted for RCM supplies and are distinct from regular forward charge supplies (FCM). While FCM u/s 12(2)/13(2) provide for tax liability on the supply of goods/services at the earliest of (a) issuance of invoice (b) provision of service where the invoice is not issued within 30 days of completion or (c) the receipt of payment; RCM u/s 12(3)/13(3) is imposed at the earliest of (a) date of payment or (b) date of receipt of goods or (c) 30/60 days from the date of issue of any invoice or document by the supplier. It is only where supply is indeterminable by virtue of the above criteria would ‘the date of entry in books of accounts’ is treated as the date of tax liability. We need to keep in mind that entry in books of account can be resorted to only in cases of in-determinability and cannot be invoked merely on account of a delayed occurrence of the other events specified in 12(3)/13(3).

To further appreciate the liability provisions, invoicing provisions are to be examined.

– In respect of the supply of goods registered suppliers, 31(1) provided for raising the tax invoice before removal of the goods (with RCM tick);

– In respect of services by registered supplier, section 31(2) provides for raising a tax invoice (with RCM tick) within 30 days from completion of service; and

– In both the above cases where the RCM supplier is unregistered, 31(3)(f) mandates raising a self-invoice for goods or services by the recipient himself.

Interestingly, section 31(3)(f) which applied to unregistered RCM supplies did not clearly spell the outer time limit of raising the self-invoice. Pre-amendment, the provisions read as follows:
31(3)(f) a registered person who is liable to pay tax under sub-section (3) or sub-section (4) of section 9 shall issue an invoice in respect of goods or services or both received by him from the supplier who is not registered on the date of receipt of goods or services or both;

In the absence of punctuation after the phrase ‘supplier who is not registered’, it was interpreted that the date was with reference to the registration status of the supplier and was not intended to specify the due date for raising the self-invoice and hence technically there did not exist any due date for raising the invoice. The department however read the provision as specifying the date of raising the self-invoice and not with reference to the date of registration status of the supplier as the registration status was anyways implicitly understood to be examined on the
date of supply. The provisions should not be rendered otiose and read not in conformity with the overall section.

Applying the above to the time of supply provisions, RCM liability for goods or services was understood as distinct from the invoicing provisions, giving rise to practical difficulties.
Therefore, in cases of RCM supplies by registered persons, the registered person is statutorily required to communicate the RCM liability through its ‘RCM-tax-invoice’ which is also uploaded in GSTR-1 and communicated to the recipient in GSTR-2A (with RCM tick). The recipient based on such RCM-tax-invoice discharges the said liability u/s 12(2)/ 13(2). However, in cases where the supplier is unregistered, the supplier is not under a GST obligation to raise a tax invoice and in many cases, even a ‘commercial invoice/document’ is not raised (say Government departments, Artists, Recovery agents, Landowner promoters, etc), and as a practice, the recipient would discharge the tax liability on the date of payment or recording of a ‘Self-tax-invoice’ in the books of accounts admitting the inward supply. But when provisions were strictly applied, the due date was not ascertainable on the application of provisions of section 13(3). Is this practice an appropriate approach and does it discharge the recipient from any assessment challenges?

There is a critical difference between FCM and RCM liability for services which needs to be appreciated. The FCM scheme has included ‘service completion’ as one of the criteria for imposing the tax liability on the supplier and hence even in the absence of a tax invoice being raised on service completion, FCM liability can still be fastened onto the supplier. In the case of RCM, the liability is fastened based on only two variables i.e. payment or invoice raised by the supplier and delinked from the service completion. It is only on happening of any of these two events i.e., payment or invoice/ commercial document raised by the supplier (both registered and unregistered) would RCM be imposed under section 13(3). 31(3)(f) was previously interpreted as not prescribing any due date for raising commercial documents and even if due dates were prescribed the law relies upon the actual date of issuance of these documents for fixing the liability – i.e. even if the invoice is belatedly raised tax liability arises only on date of issuance and not before that.

This RCM controversy can be understood in multiple heads:

a) In respect of services from registered suppliers

The recipient availing services from registered suppliers should ideally await the tax invoice (RCM tick) for discharge of liability under section 9(3) r/w 13(3). Where RCM invoices were raised by registered suppliers, recipients were liable to discharge the tax. But in many cases recipients were not aware of the registration status of the supplier and whether he should await the RCM tax invoice. Because of a likely delay/ failure in raising an invoice by RCM suppliers, as a practice, recipients would treat the transaction as an unregistered RCM supply at their end and raise a self-tax-invoice for discharge of the RCM liability (irrespective of the actual date of issuance of RCM-tax-invoice by the registered supplier). Confusion arose on account of the discharge of RCM liability in a particular year and the reporting of the same by the RCM supplier in a different year.

b) With respect to services from unregistered suppliers including the import of services

In other instances, recipients availing services from unregistered suppliers have even failed to raise the self-tax-invoice either on account of being unaware of the tax liability or on account of interpretational issues (such as GST on mining royalties, secondment arrangements, license fees, etc.). In such cases, the department has issued notices proposing tax liability based on entry in books of accounts in terms of section 13(3). The recipients on the other hand were in a dilemma on whether at all tax liability had been triggered in the absence of an invoice or any commercial document from the unregistered suppliers and believed that section 31(3)(f) did not prescribe any due date. This was not a case of in-determinability but a case of delayed raising of self-tax-invoice and hence recipients claimed that RCM liability stands triggered only on the day the self-tax-invoice is actually raised.

c) In respect of Schedule I supplies from associated enterprises

Import of services between related entities which were deemed as taxable in terms of Schedule I r.w. 7(1) of CGST Act, 2017 r.w. IGST Act, 2017 faced a completely absurd issue. In such cases, the related entities being non-residents did not having any establishments in India and hence were generally unregistered. The provisions of section 13(3) r.w 31(3)(f) would operate and the liability to tax on the registered recipient would be the earliest of (a) date of payment or (b) date of issue of commercial invoice by the supplier. Schedule I transactions between associated enterprises are notional transactions and are not backed by commercial documents or accounting entries. On a strict application of sections 13(3) and 31(3)(f), in the absence of any payment (as no consideration is involved), commercial invoice / document, and entry in books, technically no tax liability can be fixed on such transactions. Academically speaking, the Indian registered entity had the choice to ascertain the due date of its own tax liability and was not subjected to any statutory due date. Moreover, 31(3)(f) was being interpreted as not specifying any date for raising the self-invoice. The levy itself could have been said to have failed in the absence of a self-tax-invoice raised by the recipient.

AMENDMENT VIDE FINANCE ACT, 2024

The above controversy orchestrated the amendment to section 13(3) which is underlined below:

“(3) In case of supplies in respect of which tax is paid or liable to be paid on a reverse charge basis, the time of supply shall be the earlier of the following dates, namely:

(a) the date of payment ……….; or

(b) the date immediately following sixty days from the date of issue of invoice or any other document, by whatever name called, in lieu thereof by the supplier, in cases where the invoice is required to be issued by the supplier

(c) the date of issue of invoice by the recipient, in cases where the invoice is to be issued by the recipient

Provided that where it is not possible to determine the time of supply under clause (a) clause (b) or clause (c), the time of supply shall be the date of entry in the books of account of the recipient of supply:

Provided further that in case of supply by associated enterprises, where the supplier of service is located outside India, the time of supply shall be the date of entry in the books of account of the recipient of supply or the date of payment, whichever is earlier.

Section 31(3)(f) a registered person who is liable to pay tax under sub-section (3) or sub-section (4) of section 9 shall, within the period as may be prescribed, issue an invoice in respect of goods or services or both received by him from the supplier who is not registered on the date of receipt of goods or services or both;

Rule 47A. The time limit for issuing tax invoices in cases where the recipient is required to issue an invoice.– Notwithstanding anything contained in rule 47, where an invoice referred to in rule 46 is required to be issued under clause (f) of sub-section (3) of section 31 by a registered person, who is liable to pay tax under sub-section (3) or sub-section (4) of section 9, he shall issue the said invoice within a period of thirty days from the date of receipt of the said supply of goods or services, or both, as the case may be”

This amendment now addresses the scenarios as follows — in the case of supplies from registered persons, the recipient should await the RCM tax invoice and only then discharge the RCM liability and ought not to raise the self-invoice by treating the same as an unregistered supplier; and similarly in case of unregistered RCM suppliers, invoice would liable to the raised only on completion of 30 days from receipt of goods / services and only on the date of actual issue of self-tax-invoice by the recipient would the tax liability ultimately arise.

While the amendment provides clarity by splitting scenarios for registered and unregistered suppliers and clarifying the relevant document that triggers the liability, it still stops short of addressing the impact of delayed invoicing by suppliers/ recipients on time of supply provision. As an eg, a registered transporter who belatedly raises the invoice for the RCM supply would be covered by clause (b). Despite the delay in raising the invoice by the transporter, the RCM tax on the same would be paid by the recipient in the tax period on which the invoice is raised and not the date of completion of service by the transporter, leading to an interest loss to the exchequer. Similarly, in cases of renting services of commercial buildings from unregistered suppliers, the RCM would be payable by the registered recipient only on the date of issuance of the self-tax invoice and not prior to that. This is because the time of supply after the amendment continues to revolve on the “date of issue” and not the “due date of issue” of the respective invoice. The due date of issuance which is governed by section 31(2) or 31(3)(f) continues to be de-linked from the provisions of section 13(3). Accordingly, Circular No. 211/5/2024-GST dt 26^th April, 2024, which claims that interest is liable to be paid by a taxable person on account of delayed self-invoicing seems to be missing this interpretation based on first principles. It states as follows:

“2.3 Further, clause (f) of sub-section (3) of Section 31 of CGST Act provides that a registered person, who is liable to pay tax under sub-section (3) or sub-section (4) of Section 9, shall issue an invoice in respect of goods or services or both received by him from the supplier who is not registered on the date of receipt of goods or services or both. Accordingly, where the supplier is unregistered and the recipient is registered, and the recipient is liable to pay tax on the said supply on an RCM basis, the recipient is required to issue an invoice as per Section 31(3)(f) of CGST Act and pay the tax in cash on the same under RCM………

2.6 A combined reading of the above provisions leads to a conclusion that ITC can be availed by the recipient only on the basis of invoice or debit note or other duty-paying document, and as in the case of RCM supplies received by the recipient from an unregistered supplier, the invoice has to be issued by the recipient himself, the relevant financial year, to which invoice pertains, for the purpose of time limit for availing of ITC under Section 16(4) of CGST Act in such cases shall be the financial year of issuance of such invoice only. In cases, where the recipient issues the said invoice after the time of supply of the said supply and pays tax accordingly, he will be required to pay interest on such delayed payment of tax.”

The above clarification fails to appreciate that the liability to pay tax is ascertainable from 13(3) and not prescribed in section 31(3)(f). Section 13(3) hitherto did not clearly specify the due date of raising the self-tax-invoice and assuming it prescribed a due date, RCM liability still emerged on the actual date of raising the invoice. The position continues even after the amendment
as it has only split the scenarios for tax liability between registered and unregistered cases but has not fixed the tax liability to the due date or date of receipt of service.

INTERPLAY WITH THE TIME LIMIT OF SECTION 16(4)

We now move forward for an interesting interplay with input tax credit provisions u/s 16(4) which place an outer time limit for ITC claim as 30^th November following the relevant financial year. Section 16(5) has now been inserted vide the Finance Act, 2024 to allow input tax credit retroactively for the financial year 2017–18, 2018–19, 2019–20, and 2020–21 up to 30^th November, 2021. While the statute provides for the outer time limit, a more critical aspect that needs attention is when the time to avail of input tax credit actually commences. We would be tempted to scuttle this debate by applying the CBIC Circular 211/5/2024-GST, but a critical analysis will lead to fruitful results. As a first step, let’s lay down the relevant provisions and then map their application in multiple scenarios that have been crafted with small changes in facts.

Section 16(2) provides a set of conditions for availment of input tax credit. One of the conditions is that the taxpayer ought to be in possession of a prescribed tax-paying document (Rule 36) and the tax charged in respect of such supply is actually paid to the Government;
Rule 36(1)(a) read with section 31(2) makes the Suppliers-RCM-tax-invoice as the relevant tax-paying document in case of RCM supplies from registered persons; Rule 36(1)(b) read with section 31(3)(f) makes the recipients-self-tax-invoice as the relevant tax payment document in respect of RCM supplies from unregistered persons;
The condition of payment of tax is subject to section 41 which permits input tax claim on a self-assessment basis and provides for reversal of the same in case the tax is not subsequently paid.
However, Rule 36(1)(b) which applies to unregistered RCM supplies states that the self-tax-invoice would be considered as a tax-paying document only ‘subject to payment of tax’ charged on such invoice; Unlike 36(1)(a), RCM-self-invoice is validated only on tax payment;
Section 16(4) provides for the time limit upto November 30th following the financial year to which the invoice pertains; Section 16(5) now been permits ITC claims of invoices pertaining to
2017–18, 2018–19, 2019–20, and 2020–21 up to 30th day of November of 2021;
CBIC Circular 211/5/2024-GST has clarified, in the context of an input tax credit on RCM supplies from an unregistered person, that the time limit of section 16(4) should be understood from the financial year in which the self-tax-invoice has been issued by the recipient, even if the said invoice has been raised after its due date i.e. receipt of services. The Circular does not apply to RCM paid against the RCM-tax-invoice issued by registered suppliers in terms of section 13(3) r.w. 31(2).

Now let’s look at the various scenarios with subtle changes to facts:

(a) Case 1 – Recipient voluntarily discharges RCM from registered suppliers pertaining to 2017–18 in 2019–20 (say annual return) and claims the credit before November 2021 (RCM-tax-invoice uploaded in GSTR-1)

ITC was sought to be denied on the ground that the supplier’s invoice date pertains to 2017-18 and the delay in payment of output tax by a recipient cannot entitle the recipient to the benefit of the input tax credit. The time limit u/s 16(4) ought to be calculated from the date of raising the supplier’s RCM-tax-invoice and reporting in terms of Rule 36(1)(a) and hence time-barred. Section 16(4) was being interpreted as linked to section 13(3). While section 16(4) would pose a significant challenge since the invoice was reported in 2017–18, recipients can take shelter u/s section 16(5) and regularize their credit by following the recently issued procedures.

(b) Case 1A – What if the very same Recipient wishes to claim the credit in November 2024?

This is a very weak case, and the recipient may have to develop the argument that the input tax credit time-limit is to be ascertained based on entries in the accounts and the mere delay in reporting the credit in GSTR-3B cannot be termed as time-barred. It would also have to be contended that conditions of section 16(2) for RCM are conditions precedent (subject to Rule 37A) and hence the time limit under section 16(4) cannot be merely extracted based on the date of issue of tax invoice. Extending the rationale adopted in the Board Circular (supra) for RCM belatedly paid in respect of unregistered suppliers, RCM from registered suppliers should also be permitted a similar treatment despite the belated payment by the recipient. Timelines for input tax credit u/s 16(4) are independent of the
timelines in the raising of tax invoices and discharge of RCM tax liability by a registered recipient u/s 13.

(c) Case 2 – Recipient voluntarily discharges RCM from un-registered suppliers pertaining to 2017–18 in 2019-20 (annual return) and claims the credit in November 2021

ITC was sought to be denied on similar grounds above. However, unlike Case 1, the claim of input tax credit is based on the self-tax-invoice which can be raised even in November 2021. Despite the tax payment already being made in 2020, rule 36(1)(b) requires both the invoice and tax payment to be made for the document to be termed as a tax-paying document. Since the invoice ‘pertains’ to the year 2021–22, credit is rightly claimed within the said year.

(d) Case 2A — What if the very same Recipient wishes to claim the credit in November 2024?

The answer would be the same since the ITC claim above emerged from sections 16(4) and 16(5) and need not be relied upon for the input tax credit claim i.e. the relevant year for the ITC claim would be the year of issuance of self-tax-invoice which is issued in November 2024.

(e) Case 3 — Recipient discharges RCM from Registered suppliers (who fail to issue an RCM-tax-Invoice) pursuant to audit/ adjudication (u/s 73) of 2023-24 and claims the credit in November 2024

While the grounds for denial of ITC are the same, the recipient would need to argue that in the absence of a tax-paying document from the registered supplier, the case should be treated in part with a supply from unregistered supplier. In the absence of an RCM-tax-invoice, there is a bonafide belief that the supplier is unregistered and the arguments put forth in Case 2 would then apply to the said case.

(f) Case 3A — What if said recipient is being subjected to 74 proceedings?

Assuming, the proceedings are on account of suppression, etc Section 17(5)(i) would disbar this credit. Since the said section is not applicable for 2024–25 onwards, input tax credit can be claimed on the basis of a self-invoice by treating the same as an RCM from unregistered persons in the year 2024–25.

(g) Case 4 — Recipient discharges RCM of 2017-18 from unregistered suppliers pursuant to audit/ adjudication (u/s 73) and claims the credit in November 2024

Similar to case 2 above, the answer would not change and credit would be available on the basis of section 16(4) read with rule 36(1)(b).

(h) Case 4A — What if the audit/ adjudication has been subjected to 74 proceedings?

The answer would be similar to Case 3A and after omission of section 17(5)(i), the credit would be permissible from 2024–25 based on the generation of a self-tax-invoice in 2024–25 itself.

The above position would continue to be relevant even after the amendments since the time of supply, invoicing, and input tax credit provisions still operate in silos, and due dates specified in invoicing provisions do not have a direct bearing on the time of supply and ITC provisions. Moreover, the relevant year for the issuance of self-invoice u/s 31(3)(f) need not be the same relevant year for a claim of input tax credit on the said self-invoice u/s 16(4).

VALUATION & EFFECTIVE RATE OF TAX

Section 11 (Effective Rate of tax) and 15 (Valuation) have been drafted vis-à-vis a supply. The supplies under RCM provisions would be subject to similar treatment as applicable to regular supplies and liable to the same effective rate of tax and valuation. Typically, going by the parent enactment, one would expect the taxing entries to be a vanilla list of goods or services akin to the HSN schedule. However, there are some aberrations while drafting the taxing entries in Rate/Exemption Notification 11/2017 which as a description of the service includes liability under RCM u/s 9(4) as a pre-condition for the taxing of the said service. But this apart, the law on valuation and rate of tax is similar for both FCM and RCM supplies.

An interesting aspect emerges for the valuation of import of service transactions between related persons under the RCM provisions. Section 15(1) adopted the transaction value (i.e. price paid or payable) where the transacting parties were unrelated. Section 15(4), however, operates independently of section 15(1) in so far as prescribing values for cases that are rejected by section 15(1) (i.e. application of Rule 28). Rule 28 contained a crucial exception that permitted supply of any value to be adopted in cases where the recipient was eligible for full input tax credit. In such cases, the value ‘declared in the invoice’ was the open market value for such supply. Two important questions emerged (a) What if the value itself was not declared in the invoice? (b) Whose invoice was relevant for the purpose of valuation (supplier’s or recipient’s) (c) What if the supplier or recipient declared a value in a different document (say agreement, transfer pricing report, tax audit report, books of accounts, etc) and not on the invoice?

The first aspect has been clearly dealt with by Rule 28 which states that the value declared in ‘invoice’ would be accepted and hence a taxpayer raising a zero-invoice would also be a value. With the support of revenue neutrality principles and CBIC Circular No. 210/4/2024-GST read with 199/11/2023-GST, the valuation could not be questioned. The second aspect involved cases where the related entity would generally be an unregistered supplier (located outside India) and raise a commercial/ transfer price invoice. In terms of section 2(66) r/w 31(3)(f), the relevant ‘invoice’ would be the self-tax-invoice as raised by the recipient. Therefore, it is the declaration in the recipient’s self-tax-invoice that would need to be adopted and tested for the purpose of Rule 28 and not any other commercial document issued by the supplier as they do not have legal recognition. On a close reading of the proviso and aforesaid CBIC Circular, the declaration on the invoice raised by the recipient is important for the purpose of valuation and not the declaration on the invoice raised by the unregistered supplier. This also aligns with the now amended provisions of section 13(3) read with section 31(3)(f) which recognizes only the self-tax invoice as the statutory document and not the supplier’s commercial/transfer price invoice. In this scenario, the department may then take the argument that valuation rules are oriented towards ‘susceptible undervaluation’. Accordingly, where section 15(1) specifies a price that is charged by the foreign unregistered supplier, then the rules cannot undermine the said price. However, this argument fails to appreciate that in the case of related party transactions, the price specified in section 15(1) is totally rejected. Section 15(4) operates in a different domain and does not factor the price as the relevant criteria at all. It only takes into consideration the ‘open market value’ or the ‘comparable price’ which is then subject to the beneficial proviso. The scheme of valuation under the erstwhile Central Excise regime is distinct and the earlier principle of ‘testing’ price infirmities has been discarded. Rule 28 is a declaratory provision and fixes a taxable value dehors the price between related party transactions. As a corollary, values as recognized in other legal documents (such as transfer pricing reports, tax audit reports, etc.) have no consequence on the value as declared in the self-tax invoice raised by the recipient for discharge of the RCM liability on import of service transactions. Can this proposition be tested for secondment arrangements where a cross-charge invoice is raised by the supplier and the recipient is yet to raise a self-tax-invoice for discharge of its RCM liability? Certainly, this is a proposition worth examining as many of these companies are in a cash trap of first discharging RCM in cash and then claiming the very same amount as a refund from the department.

NATURE OF TAX — CGST/SGST OR IGST

IGST enactment identifies the geographical nexus and the type of tax (CGST/SGST or IGST) based on the location of the supplier and the place of supply/location of the recipient. Since section 20 of IGST mandates mutatis mutandis application CGST law, RCM provisions apply in tandem in case of inter-state supplies. The principles of levy stated above apply even in the context of IGST RCM – for eg, a supplier appointing a transporter for the movement of freight from State A to State B could be receiving an inter-state supply and accordingly liable to IGST-RCM u/s 5(3) of IGST Act. In such scenarios, the recipient would have to ascertain the location of the supplier and discharge the appropriate IGST in the state of its registration. The registration status would have to be examined from the state of supply and not in the state of receipt of the services. This assessment must take place independent of the RCM provisions and only after this assessment would one arrive at the conclusion of the Applicable act and accordingly discharge the RCM based on the prevailing enactment and its notification.

WAY FORWARD

RCM has emerged as a detailed subject itself. In comparison to the erstwhile law, the provisions have been well crafted but would need some more nurturing to arrive at the desired result. The provisions should also consider the ever-increasing RCM list and be future-proof for all possible RCM scenarios which taxpayers may be subjected to in the years to come.

BCAJ Admin

Cross-Charge vs. Input Service Distributor (ISD)

INTRODUCTION

Notification 16/2024-CT has notified 1st April, 2025 as the date from which the proposed amendments to the provisions relating to ‘input service distributor’ will come into effect. In view of the far-reaching implications of the said amendment, this article decodes the provisions relating to ‘input service distributor’, and the interplay the said concept has with the concept of ‘cross charge’ as propounded in view of the provisions of entry 2 of Schedule I of the CGST Act, 2017.

BACKGROUND OF EARLIER LAWS

Prior to the imposition of GST, a central excise duty was imposed on the manufacture of excisable goods. The central excise law required separate registration for each of the premises from where the manufacturing activity was carried out. While the CENVAT Credit Rules as amended from time to time provided for claim of credit of inputs and capital goods used in the manufacture of final products, there was substantial emphasis laid on receipt of the goods in the registered premises and documentary evidence in the form of tax compliant invoices reflecting the said address of the registered premises.

In the said backdrop, when the said Rules were expanded to also permit the credit of input services used in the manufacture of the final products, a need was felt for implementing the existing procedural framework in a realistic manner. In the case of services, it was very common for the said services to be centrally procured at the corporate office. To enable a free flow of credit to the manufacturing locations, the concept of ‘input service distributor’ was introduced under the erstwhile CENVAT Credit Rules, 2004. The said concept permitted an office of the manufacturer to receive invoices towards the receipt of services (either by the said office or by the respective manufacturing units) and distribute the credit embedded in such invoices to the respective manufacturing units. Based on the said concept and registration, the corporate office of a manufacturer could pay for a customs house agent from the office receive an invoice in this regard, and distribute the credit to the concerned manufacturing unit. Similarly, it could pay for corporate services like statutory audits and distribute the credit proportionately to all manufacturing units (since the definition of input service was wide enough to cover services directly or indirectly used in the manufacture of the final product and included various activities related to business and the law also did not require the receipt of input services at the registered premises, such statutory audit services were eligible for credit at the manufacturing locations). The concept of input service distributor was therefore a blessing under the said regime permitting a free flow of credits from the corporate office to the duty-discharging manufacturing locations.

It may be noted that the definition of ‘input service distributor’ under the CENVAT Credit Rules, 2004 laid emphasis on the office receiving an invoice and laid no emphasis on whether the services were received by the office or the manufacturing location and whether the invoice or the services were received by the office on its’ own account or ‘for or on behalf of’ the manufacturing location. This is evident on a plain reading of the definition of input service distributor as provided under 2(m) of the erstwhile CENVAT Credit Rules, 2004, which is reproduced below for ready reference.

“input service distributor” means an office of the manufacturer or producer of final products or provider of output service, which receives invoices issued under rule 4A of the Service Tax Rules, 1994 towards purchases of input services and issues invoice, bill or, as the case may be, challan for the purposes of distributing the credit of service tax paid on the said services to such manufacturer or producer or provider, [or an outsourced manufacturing unit] as the case may be

— Emphasis supplied

The concept of ‘input service distributor’ under the CENVAT Credit Rules, 2004 applied to service providers as well. However, in view of the facility for centralized registration available under the service tax law, the said concept had limited applicability except in the case of taxpayers who had obtained decentralized registrations.

WELCOME GST

GST was introduced as a comprehensive indirect tax modeled on the principle of destination-based consumption tax. However, in view of the federal structure and the Constitutional mandate, the law required distinct registration in each of the States from which the taxpayer supplied taxable goods or services. This need for distinct state-level registration triggered a fundamental challenge of imbalance in input tax credits and output taxes in cases where the inward procurements are effected in one State and the outward supplies are effected from another State. Perhaps to address the said situation, Entry 2 was inserted in Schedule I to deem the supply of goods or services or both between distinct persons as liable for payment of GST even if the said supplies are made without consideration. Accordingly, an office warehouse, or factory in the State procuring the inward supplies could raise a tax invoice on a branch warehouse, or factory located in another State for effecting the deemed outward supplies to the said branch warehouse, or factory (even though there is no monetary consideration and the supply is between two units of the same legal entity). Such discharge of output tax by the first state would be eligible as input tax credit to the other state resulting in no revenue loss to the taxpayer but at the same time permitting free flow of credits from the input procuring locations to the output supplying locations. In trade parlance, such raising of internal tax invoice is referred to as ‘branch transfer’ in case of deemed supply of goods and ‘cross charge’ in case of deemed supply of services.

Despite having introduced the above deeming fiction to address the issue of imbalance in input tax credits and output taxes, the Legislature, in its wisdom deemed it fit to continue with the provisions of ‘input service distributor’ existing in the erstwhile CENVAT Credit Rules, 2004. The definition was amended mutatis mutandis, permitting the input service distributor to receive a tax invoice and issue an ISD Invoice for distribution of the said credit without any specific emphasis on whether the services were received by the said office or the other unit and whether the invoice or the services were received by the said office on its’ own account or ‘for or on behalf of’ the other unit. The relevant definition of ‘input service distributor’ under section 2(61) at the time of the introduction of GST is reproduced below for ready reference.

“input service distributor” means an office of the supplier of goods or services or both, which receives tax invoices issued under section 31 towards the receipt of input services and issues a prescribed document for the purposes of distributing the credit of central tax, state tax, integrated tax or Union territory tax paid on the said services to a supplier of taxable goods or services or both having the same PAN as that of the said office.

— Emphasis supplied for suitable comparison with the erstwhile definition under CCR, 2004

On a comparison of the above definition with the erstwhile definition under CCR, 2004, it is evident that both definitions are pari materia with no substantial change in the scope of the said provisions.

CONTROVERSIES GALORE!

The co-existence of Schedule I, Entry 2 (‘cross charge provision’), and Section 20 (‘input service distributor’) presented substantial confusion since apparently, both the provisions appeared to address a similar problem of ‘imbalance in input tax credit and output taxes’ in different ways. In view of the proviso to Rule 28(1) permitting flexibility in the valuation of the cross charge in case the recipient is eligible for full input tax credit and FAQ issued by the CBIC clarifying that registration as an input service distributor is optional, there was a view that a taxpayer may implement either of the two provisions to address the problem, whereas certain advance rulings canvassed a view that both the provisions operate in different set of situations and as such, both the provisions need independent implementation.

The matter was taken up by the GST Council in its’ 50th Meeting held in July 2023, wherein it was clarified that the provisions of ‘input service distributor’ are indeed optional. Further clarifications were also provided relaxing the rigors of the applicability of ‘cross charge’ provisions. At the same time, the GST Council suggested that the provisions of ‘input service distributor’ be made mandatory prospectively from a date to be notified in the future. Accordingly, suitable changes have been proposed in the CGST Act, 2017 and the CGST Rules, 2017, and the said changes are proposed to be made effective from 1st April, 2025.

KEY AMENDMENT

As stated above, there are amendments to various sections and rules. However, the fundamental amendment pertains to the definition of ‘input service distributor’ and the amended definition u/s 2(61) needs detailed scrutiny to understand the impact of the change being proposed in the correct perspective. The amended definition (as proposed to be effective from 1st April, 2025) is reproduced below for ready reference:

“Input Service Distributor” means an office of the supplier of goods or services or both that receives tax invoices towards the receipt of input services, including invoices in respect of services liable to tax under sub-section (3) or sub-section (4) of section 9, for or on behalf of distinct persons referred to in section 25, and liable to distribute the input tax credit in respect of such invoices in the manner provided in section 20

— Emphasis supplied for suitable comparison with the erstwhile definition under CCR, 2004, and the pre-amended definition under section 2(61) of the CGST Act, 2017

On a perusal of the above-amended definition, it is evident that there are two substantial amendments being carried out as compared to the erstwhile definition under CCR, 2004 and the pre-amended definition under section 2(61) of the CGST Act, 2017:

1. The phrase ‘for or on behalf of distinct persons’ is being introduced for the first time in the definition of ‘input service distributor’

2. The ‘input service distributor’ is made ‘liable’ to distribute the input tax credit, thus making the provisions of the input service distributor mandatory.

The judicial interpretation of the phrase ‘on behalf of’ is fairly settled. The said phrase connotes the existence of an agency relationship between the two parties (State of Mysore vs. Gangamma AIR 1965 Mysore 235). In the context of property, it was held that the holder of the property was only a representative of the real owner (Kripashankar vs. Commissioner of Wealth Tax AIR 1966 Patna 371). Even in the context of intermediary services under GST, the concept of agency vs. principal and the implications of the phrase ‘on behalf of’ has been exhaustively explained.

Extending the said interpretation of the phrase to the current context, it can be understood that the provisions of ‘input service distributor’ are triggered in a situation where an ISD office receives tax invoices towards the receipt of input services for or on behalf of distinct persons. As compared to the erstwhile definition under the CCR, 2004, and the pre-amended definition under the GST Law, clearly the introduction of this phrase reduces the scope of coverage under ISD post amendment. Effective from 1st April, 2025, it would therefore be important to distinguish between a situation where an input service is received by an office on behalf of a distinct person and an input service that is received by an office on its’ own account.

A few examples may illustrate the implications of this interpretation:

1. The head office in Maharashtra appoints and pays for security services procured at the factory located in Gujarat. Since the security services are received by the factory located in Gujarat, the tax invoice for the said service is received by the head office ‘for or on behalf of’ the factory in Gujarat, thus triggering the mandate of registration as an input service distribution and the consequent distribution of credit to Gujarat. Incidentally, a similar example was explained in a draft circular recommended by the Law Committee and placed before the GST Council in its’ 35th Meeting. However, the said Circular never saw the light of the day.

2. The head office in Maharashtra appoints and pays for goods transportation services procured at the factory located in Gujarat. It also pays the GST under reverse charge mechanism on such GTA services. Since the GTA services are received by the factory located in Gujarat, the tax invoice for the said service is received by the head office ‘for or on behalf of’ the factory in Gujarat, thus triggering the mandate of registration as an input service distribution and the consequent distribution of credit to Gujarat.

3. The head office in Maharashtra enters into a contract with an insurance company for insurance of assets located across the country. There are assets located in Maharashtra and also in the state of Gujarat. To the extent of assets located at the Gujarat factory, the insurance service of coverage of risk is received by the factory located in Gujarat, and the tax invoice for the said service is received by the head office ‘for or on behalf of’ the factory in Gujarat, thus triggering the mandate of registration as an input service distribution and the consequent distribution of credit to Gujarat.

While the above specific examples may look simplistic, where would one draw the line to say that the instance is that of service received ‘on behalf of’ a distinct person or a service received on ‘own account’. Let us understand this through a couple of more examples:

1. The head office in Maharashtra imports certain raw materials at the Mumbai port and transports the said goods to a warehouse in Bhiwandi. It appoints and pays for goods transportation services for the movement from Mumbai port to Bhiwandi. After some time, the said raw materials are further supplied to the factory located in Gujarat at a value prescribed under rule 28. It is obvious that in this scenario, the transportation and warehousing services are not received by the factory located in Gujarat, but are received by the head office on its’ own account. In fact, the cost of such transportation and warehousing services would become components of the cost calculation for arriving at a valuation under rule 28. Therefore, such services would not be a subject matter of input service distributor (but indirectly become a part of Schedule I, Entry 2 by way of the value of goods being ‘branch transferred’)

2. The head office in Maharashtra houses a centralized Human Relations Team. The said Team is responsible for addressing comprehensively all the HR requirements of the company including the employees at the factory located in Gujarat. If the HR Team places an advertisement in the newspaper inviting applications from prospective candidates, can it be said that the said advertisement service is received for and on behalf of the Gujarat factory? The draft circular referred to earlier suggests that through the HR Team, the head office internally generates a support service for the Gujarat factory, albeit through another circular, a relaxation in valuation has been provided to the extent of salary costs of the HR Team. If the Head Office is providing a support service to the Gujarat factory, is the advertisement service not received and consumed by the Head Office on its’ own account for further rendition of the ‘cross-charged support service’?

Based on the above examples, one may conclude that the provisions of input service distributors will get triggered only when the tax invoices for the services are received for or on behalf of distinct persons. Receipt would mean actual receipt of service and not an imaginary receipt in the form of perceived benefit. In cases where a service is received and consumed by the HO, the provisions of the input service distributor will not get triggered. It may also be possible that the service is received for self-consumption by the head office and the consumption of the said service may result in the generation of another supply of goods or service for the branch. The two examples mentioned above drive home this interpretation.

There may also be situations where the service may be self-consumed by the head office with no further supply of goods or services to the branch. For example, a research service procured by the head office may not immediately result in a further supply of support services to the branches. At the same time, in many cases, it cannot be said that the research is undertaken for or on behalf of the branches. At some future point in time, an indirect benefit of the service may be derived by the branch, but merely a derivation of some indirect benefit cannot result in the presumption that the head office procured the service on behalf of the branch.

NEXT STEPS TOWARDS IMPLEMENTATION

– Registration

With ISD becoming mandatory w.e.f. 01.04.2025, the first step towards preparing for ISD would be identifying the number of such offices that qualify as ISD. All offices that undertake centralized procurement of services / procurement of services consumed by more than one registration will have to apply for registration. Wherever possible, organizations will have to move towards decentralized procurement of services, if current procurement is centralized. Similarly, if more than one offices are engaged in centralized procurement, wherever possible, organizations should move towards a single procurement office. Once such offices are identified, the next step would be to apply for registration as an ISD.

– Vendor Communication

Though ISD is mandatory from 01.04.2025, taxpayers will have to apply beforehand for registration and communicate the ISD GSTIN to all the vendors/suppliers for existing as well as new contracts.

In case the vendor communication is not done, the vendors may continue to raise invoices under the regular GSTIN which may delay the taxpayer’s ITC claim. This is because the ITC may not be available for claim in regular GSTIN and the taxpayer will not be able to distribute the ITC under ISD in view of section 16 (2) (aa) of the CGST Act, 2017. It is therefore imperative that all the suppliers for services procured centrally are intimated to the ISD GSTIN in advance.

Vendor communication needs to be done, irrespective of whether the taxpayer is entitled to claim ITC or not. This is because the ultimate objective of making ISD mandatory is to ensure that the taxes flow to the states where the consumption takes place. Therefore, the taxpayer cannot exclude considering supplies not eligible for ITC from the purview of the ISD mechanism.

– Invoicing and Accounting

Taxpayers will also have to adapt their systems to separate accounts & identify the invoices received under ISD registration. More importantly, while accounting for such supplier invoices, care should be taken to ensure that the invoices are accounted / plotted against the ISD GSTIN and not the regular GSTIN to avoid any mismatches. If any invoice pertains to specific GSTINs, a mechanism to identify such transactions should be introduced to ensure that the ITC is distributed only to such GSTINs and not all GSTINs, as it would otherwise amount to erroneous distribution of ITC and may result in recovery proceedings at the recipient GSTIN end.

Similarly, systems will also have to be geared up to account for the ISD invoices issued to the regular GSTIN. This would be crucial in case ISD and regular GSTIN are of the same state. In such cases, the systems may not be geared up for accepting all three taxes, i.e., IGST, CGST & SGST against the same invoice/ document.

– Filing of GSTR6 based on GSTR6A

The ISD compliances lay between the accounting of the vendor invoices and the distribution of the ITC to the regular GSTIN. On the 12th of every month, based on the disclosure by the supplier, invoices will be communicated to the ISD in Form GSTR-6A.

A matching of transactions reflected in GSTR-6A (irrespective of whether ITC is eligible or not) with the corresponding invoices received by the ISD shall be undertaken and after adding, correcting, or deleting the auto-populated details, the ITC available for distribution shall be determined. The ITC so available for distribution shall then be distributed in the following manner:

a) If any ITC pertains only to a particular GSTIN, such ITC shall be distributed only to that GSTIN.

b) Similarly, any ITC that pertains to more than one GSTINs shall be distributed to such GSTINs in the ratio of turnover during the relevant period.

Separate ISD invoices are to be prepared for distribution of eligible & ineligible ITC.

– Compliances & recovery at the recipient’s end

The various compliances that apply to a claim of ITC, such as receipt of goods / services, payment of tax by the supplier, payment of consideration to the supplier, etc., in case of ISD shall apply to the receiving GSTIN. Therefore, the taxpayers will have to specifically keep track of payment to suppliers to ensure compliance u/r 37 & classification of the invoice for Rule 42 purposes and the said compliance will have to be done by the GSTIN receiving the ITC.

If the ISD receives any credit note for an invoice that has already been considered in the earlier period distribution, the ISD will have to ensure that the reduction in the distribution of the ITC on account of the credit note follows the same ratio applied for distribution of the ITC on the invoice.

Lastly, if any excess distribution by ISD is determined, the recovery shall be done at the recipient end and not at the ISD end. Therefore, an officer of the recipient GSTIN can very well demand to verify the compliances of ISD and may result in potentially multiple and in some cases, conflicting proceedings.

Disputes surrounding the applicability of ISD vs. cross-charge

The examples explained above suggest that the line of divide between ISD and cross charge is very thin. In the absence of authoritative objective guidelines in this regard, it is likely that there can be disputes on the applicability of the said provisions.

In case the taxpayer considers a particular transaction as a subject matter of ISD and the same is ultimately held to be not a subject matter of distribution but that of cross charge, there could be a risk of denial of input tax credit at the recipient’s end on account of excess distribution of credit by the input service distributor. Independently, there could be an action against the head office for undervaluation of cross charge (the action could survive only if the recipient is not eligible for full input tax credit)

In a reverse scenario where the taxpayer has considered a particular transaction as a subject matter of the cross charge, but the same is ultimately held to be a subject matter of input service distribution, the credit claimed by the head office can be denied on the grounds of non-receipt of input service (since the allegation would be that the service is received on behalf of the branches). Further, at the branch level, there could be a risk of denial of credit embedded in the cross-charge invoice by the head office to the branch again on the ground of the non-existence of a ‘cross-chargeable service’

Conclusion:

While both the concepts of ‘cross charge’ and ‘input service distributor’ attempt to address the same problem of non-alignment of input tax credits and output taxes, in terms of implementation, both of them differ significantly. With the concept of ‘input service distributor’ becoming mandatory, it will be important for taxpayers to implement the said concept with full precaution. It may also be appropriate for the Government to provide a detailed guideline on the extent of coverage of the provisions of input service distributors.

BCAJ Admin

Valuations of Corporate Guarantee

In the January 2024 issue of the BCAJ, we have examined the fundamental concepts of guarantee and the tax challenges hovering over corporate guarantees. It was acknowledged that mere legislative insertion of valuation rules by the 52nd GST Council does not put to rest the question over taxability of such corporate guarantees between related persons. On an application of the provisions of the Contract Act, one could have firmly viewed it as a rendition of service (if at all) by the Surety to the Principal Creditor and the flow of consideration (being the financial loan / assistance) by such Creditor to the Principal Debtor. Therefore, the service was being rendered by Parent Companies to the Banks / FIs (as a principal creditor) rather than its related entity (also emerging from CBIC Circular No. 204/16/2023-GST). The revenue’s interpretation of invoking the deeming fiction of Schedule I between related persons seemed to be misplaced. The true nature of contract between Surety and Principal Debtor (being related entities) is that of an implied ‘contract of indemnity’ where the debtor is bound to indemnify any loss which the surety may incur in case the guarantee was invoked by the Principal Creditor.

The 53rd GST Council has once again overlooked the fundamental principles of Corporate Guarantees and has tweaked the valuation rules on the mistaken understanding that the transaction is deemed to be a service between related entities. Be that as it may, the objective of this article is to only examine the valuation provisions in light of the 53rd Council meeting, on the Council’s presumption that corporate guarantees are taxable (a) as a supply of service between related entities; and (b) the consideration for such service is to be performed as per valuation norms.

Backdrop of Valuation provision

We all know that “Value of Supply of Guarantee services” u/s 15(1) would be the ‘transaction value’, i.e. the price actually paid or payable for the said supply where the supplier and the recipient are unrelated and price is the sole consideration for such supply. In normal circumstances where a specific price is charged by the Guarantor from the recipient of its service, such transaction value would form the value of supply. However, in two specific circumstances, valuation rules are invokable; (a) supply is between related entities in which case the price is not deemed to be a sole consideration (section 15(4)); (b) Value of supplies as are notified by the Government in terms of valuation rules (section 15(5)). Rule 28 has been incorporated for valuation of supplies between related / distinct persons with an intent to arrive at the arm’s length price and negate the probable influence of the relationship over the valuation. It provides that the value would be the ‘open market value’; ‘comparable value of similar services’; ‘cost of service’ or similar methodology (applied in the same sequence). In terms of a proviso, in cases where the recipient is eligible for full input tax credit, the value as declared in the invoice would be considered as the ‘open market value’ and adopted for the purpose of value in terms of Rule 28.

The 52nd GST council introduced an overriding Rule 28(2) (vide Notification 52/2023 w.e.f. 26th October, 2023) stating that value of a supply of corporate guarantee service between related person would be fixed 1 per cent of the guarantee offered or the actual consideration, whichever is higher. Thereby, the open market value mechanism of ascertaining the value of a corporate guarantee service was rendered inapplicable and the Guarantor had to necessarily deem the value at 1 per cent of the sum guaranteed. In view of this specific overriding rule 28(2), the benefit of proviso to Rule 28(1) in cases of full input tax credit was also not made available for valuation of corporate guarantees. Singling out corporate guarantees from the benefit of zero- valuation in full ITC cases was unknown and taxpayers were ultimately left to the mercy of the ad-hoc valuation of 1 per cent. This amendment in valuation rules gave impetus to the revenue to allege that Corporate Guarantees are a ‘taxable service’ under section 7 r/w 9 of the GST law. The summary of revenue’s approach to taxation was as follows:

Taxability	Valuation
Pre-GST	No consideration – Not taxable in view of Edelweiss (SC)
1st July, 2017 to 26th October, 2023	Open Market Value – Proviso benefit not available since no invoice (later clarified)
26th October, 2023 onwards	1 per cent or Actual Value w.e.h. in all cases

Retrospective amendment: 53rd Council decision

The said amendment ignited widespread investigation and arbitrariness (in valuation methodology) with imposition of either RCM / FCM tax depending on the location of related entities. Ancillary questions were then raised by the industry on (a) frequency of the taxability; (b) base value for purpose of application of 1 per cent, etc. The 53rd GST council took cognizance over these issues and introduced a retrospective amendment in Rule 28(2) which now reads as follows (underlined terms inserted
w.r.e.f from 26th October, 2023):

(2) Notwithstanding anything contained in sub-rule (1), the value of supply of services by a supplier to a recipient who is a related person located in India, by way of providing corporate guarantee to any banking company or financial institution on behalf of the said recipient, shall be deemed to be one per cent of the amount of such guarantee offered per annum, or the actual consideration, whichever is higher.

Provided that where the recipient is eligible for full input tax credit, the value declared in the invoice shall be deemed to be the value of said supply of services.

The three retrospective insertions to Rule 28(2) made are as follows:

– Valuation is fixed at 1 per cent of the guarantee offered on a ‘per annum’ basis;

– Beneficial valuation mechanism in case of full input tax credit is reintroduced;

– Insertion of the condition that the related person should be located in India;

Rationale for fixation of 1 per cent per annum as the deemed value — Corporate guarantees are contracts which may not necessarily be driven by time. The contract commences on the emergence of a financial obligation and ends on discharge of such obligation. The tenure may be subject to early termination or even extension on mutual terms. The insertion of the phrase involves fixation of a deemed value of 1 per cent on a ‘per annum’. CBIC Circular No 225/19/2024-GST states that the phrase ‘per annum’ has been inserted to tax the service on an annual basis until the discharge of the credit facility.

This decision was taken on account of varied practices among taxpayers as well as revenue administration on the valuation of corporate guarantee. Tax-payers followed Transfer Pricing methodologies such as a Yield approach, Cost approach, Expected loss approach, Capital support approach. Revenue’s approach involved some arbitrariness of adopting commission charged by Banks, thumb rules or publicly available rates. Due to large scale variations, the GST council thought it appropriate to fix a deemed value of 1 per cent of the guarantee amount by amending Rule 28(2), thus allaying any disputes on valuation. Though such a value may not necessarily reflect the arm’s length value, in the absence of a scientific approach to value guarantee commissions and a lack of an open market value, taxpayers were forced to adopt this approach to avoid litigation. The revenue on the other hand would treat this insertion as vindicating its stand of a thumb rule approach of 1 per cent of the guarantee for valuation of the services prior to said amendment.

The other aspect is on the taxation of corporate guarantees on a ‘per-annum’ basis. Conceptually, the contract of guarantee is a one-time activity having a validity over a specific time period or fulfillment of the loan obligation. Guarantee fee could vary based on probability of default risks (computed based on sovereign risks, economic risks, industry risks, credit risks, etc.), but this insertion has singled out only the time factor for ascertainment of appropriate value. Legally, the finer aspect of identifying the taxable event (a.k.a. subject matter of tax) seems to have been lost in this amendment. In a service of guarantee, the risk underwritten by the Guarantor is subject matter of tax. This risk is underwritten only once (as a one-time activity) by endorsing the contract of guarantee. As a condition of this endorsement, the guarantor takes over a financial obligation for a particular tenure. Viewed from another angle, the underwriting of risk is governed by the contract tenure and does not have to expire and be renewed at the end of each year. Even if a comparison is drawn with Banks / FIs, the concept of charging a guarantee commission on an annual basis is not a rule but driven by commercial agreements only. But the current amendment makes charging of a guarantee fee an annual exercise as a mandatory rule and overlooks economic and commercial reality.

Accordingly, the rule represents that the arm’s length price should be a direct function of the tenure of guarantee and hence prescribed a valuation on a per-annum basis. So, where the guarantee is for a 6-month period, the valuation should be proportionately reduced to 0.5 per cent and where it is for a 5-year period, the value would be 5 per cent. This theory seems to be flawed fundamentally:

– It fails to appreciate that rendition of a guarantee is distinct from the underlying financial obligation which is underwritten by the contract;

– It assumes that guarantee service is reset at every 12-month period;

– It attempts to define the contractual terms of a guarantee service, which is clearly not a legislative authority, rather a mutual contract between the parties concerned;

– It treats unequals as equals by equating the minimum guarantee commission at 1 per cent for all cases without appreciating commercial considerations (financial capabilities of the debtor/ creditor, macro-economic factors, prevailing interest rates, recovery risk, etc.);

Rationale for granting the benefit of valuation in cases full input tax credit – Without going into the rationale of depriving the ‘guarantee transactions’ with this benefit previously, the GST council in its wisdom has now extended such benefit in cases where full input tax credit at the recipient’s end. By insertion of a proviso, it is stated that the value as declared in the invoice would be accepted as the arm’s length value in cases where full input tax credit is otherwise eligible to the recipient, thereby equating Rule 28(2) with Rule 28(1). The debate on whether ‘full input tax credit’ must be examined at an invoice or at the registration level would continue even for corporate guarantees.

CBIC Circular No. 225/19/2024-GST affirms that this rule would apply retrospectively from 26th October, 2023. Despite this deemed value, on application of CBIC Circular No. 210/4/2024-GST, NIL value can now be adopted by not raising any self-invoice in case of import transactions. Even if a self-invoice is supposed to be raised, in terms of CBIC Circular No. 211/5/2024-GST, the date of raising the self invoice would be treated as the starting point of time of eligibility for input tax credit. The above culminates into narrowing down the operation of deemed valuation of corporate guarantees only to non ITC / exempt sectors such as residential real estate, restaurants, health care or other exempt services.

Rationale on restricting Rule 28(2) to related persons located in India – CBIC C ircular 225/19/2024-GST merely states that Rule 28(2) would not henceforth apply for export transactions but falls short to clarify over applicability of Rule 28(1) for such transactions. By excluding the application of Rule 28(2) for outbound guarantees, the default Rule 28(1) comes back into contention & becomes applicable. In such cases, one would have to fall back upon the open market value, comparable supplies of similar services or similar methodology for ascertainment of value for export of corporate guarantee services. The ad-hoc valuation of 1 per cent cannot then form the basis of valuation for such outbound guarantee services. However, the entity may consider the possibility of claiming the zero-rating benefit provided under Section 16 of the IGST Act, 2017. It may be noted that the definition of export of service requires an exporter of service to repatriate the consideration in convertible foreign exchange. Admittedly, in such cases, though there is a taxable value of supply, the consideration is NIL and therefore the said condition can be said to be satisfied.

Peculiar cropping up under the CBIC Circular 225/19/2024-GST

The CBIC Circular issued pursuant to 53rd Council recommendations are clearly overreaching the legal understanding emerging from statutory provisions. Some of them are discussed herein:

i. Impact of amendment over pre-existing Corporate guarantees prior to 26th October, 2023. The circular states that pre-existing corporate guarantees would be governed by the erstwhile law and not by the amended law. The amended law would govern only fresh issuances or renewal of pre-existing guarantee after 26th October, 2023. The pre-existing valuation rules (i.e. open market value, etc.) would govern old guarantees i.e. corporate guarantees issued prior to 26th October, 2023 would be subject to generic open market value without the condition of valuation on a per-annum basis but those issued on or after 26th October, 2023 would be subjected to the 1 per cent valuation calculated on a per-annum basis. Clearly, this position of the Government would emerge only after considering that taxable supply is the act of underwriting the default risk, such an activity being a one-time supply and not a continuous or recurring supply. Being a one- time supply, pre-existing guarantees would continue to be governed by the old valuation rules. But this very understanding seems to be overturned when the same circular later states that valuation of corporate guarantees are to be performed on a per-annum basis.

ii. Valuation of corporate guarantees in case of part disbursement – The circular states that the subject- matter of taxation is the underwriting of default risk and not the loan/financial assistance. Therefore, even if the loan is not completely disbursed, the valuation would be on the entire amount of guarantee. Clearly there is a conflict in the very statement of the circular. In a corporate guarantee of ₹1 crore, if the actual disbursement is ₹75 lakhs, then default risk would be to the extent of ₹75 lakhs and not ₹1 crore. Yet the circular claims that the valuation would be on the complete guarantee amount, failing to appreciate that limit specified in the contract of guarantee is the upper limit and non-usage of such limit cannot result in a default risk to the Guarantor. This approach also fails to appreciate the contract law provisions which states that the financial credit is basis of consideration for the guarantee rendered by the Surety.

iii. Assignment of corporate guarantee to another Bank / FI – The circular states that pre existing assignment guarantee would not be taxable once again even at the time of takeover of loan as long as there is no fresh issuance / renewal of the guarantee. Where a fresh agreement is entered with any revision in terms, despite the underlying loan being in continuance, the said circular would treat it as a fresh guarantee. The clarification does not also seem to be well thought out. According to this clarification, it seems that the transaction of assignment would not be a taxable event unless there is a renewal of the entire arrangement. Even though the recipient of the guarantee / default risk (i.e. the principal creditor) would be an entirely different entity, the government believes default risk is not taxable once again. Certainly, there are going to be disputes over whether the true nature of the take-over of the financial credit has been performed by way of ‘assignment’ or ‘fresh issuance’.

iv. Co-guarantee arrangements – The circular suggests that guarantee would be proportionately charged based on default risk which undertaken by the guarantors. In many arrangements, the co-guarantors are surety for the entire amount of loan jointly or severally without any bifurcation. The circular does not provide any particular solution to this and the revenue would sway towards applying common 50:50 rule which would lack statutory force. It would be interesting on how the circular would apply where the parent company and its promoter directors are looped as co-guarantors in the entire loan arrangement. CBIC Circular 204/16/2023-GST would state that personal guarantees by directors would not be taxable in view of the RBI’s restriction on charge of any kind guarantee fee by Bank / FIs.

Is there a possibility to challenge these valuation rules?

Certainly, the said valuation rules can be challenged based on arbitrariness. We have the instance where a valuation rule in Customs was struck down by the Supreme Court in Wipro’s case¹ on the basis that a fictional value cannot replace an actual value. A 1 per cent arbitrary handling charge was read down when actual values were available with the importer. Similarly, Gujarat High Court² in Munjaal Manishbhai’s case also read down the mandatory 1/3rd deduction towards land for arriving at the value of construction services. The ad-hoc 1 per cent value towards Corporate Guarantee could face a similar challenge before Courts as it disregards the commercial reality. It also exceeds its authority by holding that such a value should be computed on a per-annum basis disregarding the very nature of guarantees. Incidentally, the said rule has been challenged in the case of Sterlite Power Transmission³ that the valuation rules are proposing a tax on an activity which is not taxable itself under section 9. Currently a stay on the Circular has been granted in another case of Acme Cleantech Solution (P) Ltd⁴ where the arbitrariness in valuation was challenged in the said case.

1. Wipro Ltd 2015 (319) E.L.T. 177 (S.C.)
2. MunjaalManishbhai Bhatt2022 (62) G.S.T.L. 262 (Guj.)
3. [2024] 160 taxmann.com 381 (Delhi)
4. [2024] 162 taxmann.com 151 (Punjab & Haryana)

Retrospective impact of amendment – The retrospective amendment would be applicable from 26th October, 2023. In many cases, the tax-payers would have fixed a 1 per cent fee on account of lack of the beneficial Full ITC condition. Assessments / orders would have been issued even in cases where ITC would otherwise be fully available. Pursuant to such retrospectivity, sectors which were subject to full ITC need not continue with this practice and re-align their valuation to commercial reality rather than the ad-hoc scheme. In case of Non-ITC sectors the taxpayers would be forced to reset the valuation to 1 per cent p.a. or alternatively challenge the levy itself.

A foot in the wrong direction by the GST council has only made the issue more ambiguous. The GST council should attempt to dig into the root of the transaction and not shy away from fixing the service provider recipient problem statement. Moreover, with the full ITC condition being reintroduced, the impact would only be restricted to a few sectors albeit a bag full of confusion. In the meanwhile, the Courts are already seized of this issue and one would hope that the dust on this matter is settled soon.

BCAJ Admin

Director’s Personal Liability

The thought of penning this article emerged from two decisions of the Bombay High Court¹: The first was a case where a mammoth penalty of ₹3,700 crores was imposed on a key employee of the Company, and the second involved a case where past directors were made liable for tax dues pertaining to a period after their resignation. While the Court ultimately granted relief from such over-ambitious notices, the decision brought to the forefront the monetary exposures hovering over individual(s) operating under the aegis of a company.

1.  Shantanu Sanjay Hundekari v. UOI (WP (L) NO. 30198 OF 2023) & Prasanna Karunakar Shetty v State of Maharashtra (2024-VIL-358-BOM)

Directors are at the forefront of recovery of any statutory liability. In this context, the GST law provides for three areas for discussion — (a) Recoveries of tax dues from directors of private companies including those arising during liquidation; (b) Penalty recoverable from directors for offences committed by Companies; (c) Penalty imposable on directors for aiding or abetting an offence committed by Companies.

The first two categories are recovery provisions where the tax, interest or penalties would be first imposed on the company and in case of their non-recoverability, the extended provisions enable the revenue to recover the tax and penalty from the directors of such companies u/s 89 or 88(3) of the CGST/SGST Act, 2017. The said provisions are exclusive to private limited companies and hence public limited companies fall outside its purview. The third category involves a direct imposition of penalty on the director for aiding or abetting offences u/s 122(3) of the CGST/SGST Act and this applies to directors of both private and public limited companies.

Liability of Directors on Private Company (Section 89& 88(3))

Under the Companies Act, the personal liability of directors is limited to the acts which arise out of breach of trust, fraud, etc. However, it is practically cumbersome for the revenue department to prove such acts have resulted in non-recoverability of tax liabilities. Hence, the provisions of section 89 have been specifically legislated as deeming provisions:

“Notwithstanding anything contained in the Companies Act, 2013 (18 of 2013), where any tax, interest or penalty due from a private company in respect of any supply of goods or services or both for any period cannot be recovered, then, every person who was a director of the private company during such period shall, jointly and severally, be liable for the payment of such tax, interest or penalty unless he proves that the non-recovery cannot be attributed to any gross neglect, misfeasance or breach of duty on his part in relation to the affairs of the company.……….”

Similarly, section 88(3) contains statutory powers to collect tax dues of companies undergoing liquidation –

“(3) When any private company is wound up and any tax, interest or penalty determined under this Act on the company for any period, whether before or in the course of or after its liquidation, cannot be recovered, then every person who was a director of such company at any time during the period for which the tax was due shall, jointly and severally, be liable for the payment of such tax, interest or penalty, unless he proves to the satisfaction of the Commissioner that such non-recovery cannot be attributed to any gross neglect, misfeasance or breach of duty on his part in relation to the affairs of the company.”

While both these provisions are broadly similar in nature, a comparison throws up certain differences:

Section 89 provides for recovery even during its regular operations, section 88(3) provides for recovery only during the winding up of the company – being more specific, section 88(3) would prevail over section 89 in the specified circumstances;
Individuals holding the directorship during the existence of the company, especially during the initiation of recovery provisions, are covered under section 89, but section 88(3) applies only to directors holding their post at the time the tax was due on the Company — subsequent directors may not be covered by the provisions of section 88(3);
Section 89 contains overriding provisions which is absent in section 88(3), enabling it to surpass the Companies Act for recovery of amounts.

With these key differences in mind, the following elements can be dissected and analysed: (i) the overriding character of Section 89; (ii) the pre-condition that the tax dues should be “non-recoverable”; (iii) the tax dues should be in respect of any supply of goods or services; (iv) a negative presumption that directors are liable for payment of tax and rebuttable only if the directors prove that such non-recovery is not on account of gross neglect, misfeasance or breach of duty; (v) the director(s) of the company are jointly or severally liable for such recoveries.

Overriding character

A private limited company, though a separate legal entity, is an artificial person under law. Therefore, the decision-making functions of a company are entrusted to a Board of Directors mandated to operate under a fiduciary capacity. While the directors act as agents or representatives before third parties, the company continues to be primarily liable for all acts performed by the directors within their capacity.

Section 166 of the Companies Act, 2013 specifically lays down that the Directors should operate under the memorandum and articles of association as documented by its members. It is the duty of the Director to act with ‘diligence’ and in ‘good faith’ only to promote the best interests of its stakeholders. The decisions taken by the director should involve reasonable care, judgement and skill independent of personal interests. In case of conflicts (direct or indirect), the director ought to refrain from taking any undue advantage or gain. As directors of a company, they may be held liable for any loss or damage sustained by the company because of any breach of duty or failure to disclose a personal financial interest in a particular matter. They may be directed to repay any gain or advantage derived from their fiduciary duty and liable for penal action under the said Act. Therefore, the Companies Act expects directors to honour their fiduciary capacity and protects them from any liability in case of honest diligence. Losses on account of business exigencies or external factors despite reasonable care do not generally devolve upon the directors.

Consequently, all tax liabilities would first be recoverable from the company unless there are specific provisions enabling recovery from the directors or key managerial personnel. By invoking the Companies Act, recovery of any tax liabilities (as a civil liability) from directors of the company can emerge only after the establishment of a ‘fraud’ or ‘breach of duty’ on the part of the director concerned. Moreover, only the officer in default would be liable and other director(s) disengaged from the finance/ tax function could take shelter as not being in default and outside the recovery net. Being a very narrow provision, the Companies Act places a larger onus on the tax administration to establish such a breach of duty and only then proceed to recover the civil liabilities from the director(s) u/s 166 of the Companies Act, 2013.

Section 89 of GST law overrides this feature of the Companies Act, 2013 for the purpose of recovery of tax dues from private companies. The section is aimed at “looking through” the “separate legal entity” and identifying the directors who have been negligent as representatives of the Company. It simply states that tax recovery can be made from any director of the company ‘jointly’ or ‘severally’ in case taxes are non-recoverable from the Company. An onerous presumption has been placed that the directors have breached their fiduciary duties unless they prove that the non-recovery of taxes is NOT on account of willful neglect, fraud, breach of duty, etc. In view of the negative presumption, the director must come forward to prove that they have been diligent in complying with the statutory responsibilities and such default is not attributable to them. Directors would be obligated to enlist the efforts taken to ensure tax dues were discharged and the failure to discharge them was beyond their reasonable control.

On the other hand, section 88(3) does not contain overriding provisions akin to section 89. Can this be taken to imply that the Companies Act provisions would influence the provisions of section 88(3) at the time of recovery actions on the winding up of the company? It appears that unlike section 89, section 88(3) would have to undergo the rigorous test of fraud, etc. being established prior to invoking recovery from directors during the winding up of the Company. Section 88(3) appears to be milder to this and hence read harmoniously with the Companies Act provisions.

Non-recoverability from the Company

Section 89 of GST law specifies that the taxes should be “non-recoverable” from the Company. It places an onus on the department to exhaust all modes of recovery prior to calling upon directors to discharge the liability of the company².

2. Indubhai T. Vasa (HUF) v. ITO [2005] 146 Taxman 163 (Guj.);

As a first step, the revenue officer would have to establish that tax, interest and penalty are available for recovery u/s 79. The revenue officer cannot invoke the said provisions pending investigation, adjudication, assessment, etc., Even in respect of confirmed tax demands which are under appeal, sections 78 and 107(7) or 112(8) stay the recovery of the tax dues along with interest and penalty. Hence balance amounts may not be available for recovery until the matter attains finality i.e., matter being decided in the apex court or the right of appeal not being exercised by the taxpayer.

Coming now to section 79, it provides multiple avenues to the tax department for recovery of tax dues of the company i.e., bank accounts, debtors, goods, movable / immovable property or as arrears as land revenue. The said section should be exhausted completely and cannot be short-circuited to directly attach the bank accounts / properties of the director. In essence, recovery officers should reach out to directors only once section 79 leads to a dead end.

Even before the tax department alleges that taxes are due from directors, a specific conclusion is to be arrived at and recorded in writing that the taxes are ‘non-recoverable’ from the company. Under parimateria provisions of Income-tax (section 179), the Bombay High Court³ held that only after the first requirement is satisfied would the onus shift on any Director to prove that non-recovery cannot be attributed to any gross neglect, misfeasance or breach of duty on his part in relation to the affairs of the company. In the case of Amit Suresh Bhatnagar⁴, the court quashed the attempt of the revenue to take effective steps of recovery from the Company and stated that the phrase “cannot be recovered” requires the Revenue to establish that such recovery could not be made against the Company, and then and then alone would it be permissible for the Revenue to initiate action against the Director or Directors responsible for conducting the affairs of the Company during the relevant accounting period. The provision has been specifically inserted to shield the directors from any hasty recovery by the tax department. In summary, only those amounts which are recoverable under section 79 from the Company fall into consideration under both sections and the tax department should exhaust all such recovery remedies under section 79 for a tax due to be non-recoverable.

3. Manjula D. Rita vs. PCIT, [2023] 153 taxmann.com 468 (Bombay)
4. [2009] 183 Taxman 287 (Gujarat)

Now let us take a peculiar circumstance where a company enters insolvency and is either wound up or taken over by another company under a resolution plan. The process of insolvency involves agreement over a resolution plan by operational / financial creditors and other stakeholders. The government’s debt being classified as operational debt would in all likelihood be trimmed down under the resolution scheme. The government being a party to the said proceedings is bound by the resolution plan approved by all creditors in terms of section 31 of the Insolvency Bankruptcy Code⁵. Once the primary liability on the company’s account is reduced, the vicarious liability on the directors also stands correspondingly reduced. The phrase “non-recoverable” from the company presupposes a right to recover the amounts from the Company. The tax authorities cannot state that the amounts which have been written off continue to be recoverable from directors despite the resolution plan. Moreover, with respect to the reduced tax demands, tax authorities would have to abide by the timelines provided in the resolution plan prior to concluding that taxes are ‘non-recoverable’.

5. Ghanashyam Mishra & Sons Pvt. Ltd. vs. Edelweiss Asset Reconstruction Co. Ltd. — [2021] 126 taxmann.com 132 (SC)

Presumption as to gross neglect, breach of duty, etc.

Section 89 places a statutory presumption that the non-recovery of taxes is on account of gross neglect, and breach of duty on the part of the directors. Since sovereign dues are considered to be supreme obligations, directors (in their fiduciary capacity) are expected to arrange their affairs in such a manner that sovereign defaults are avoided. The presumption is with reference to “nonrecovery” of tax dues and cannot be extended to circumstances prior to the fastening of tax dues — i.e., it refers to the circumstances after the tax demand is affixed on the company and the corresponding actions taken by the directors to make appropriate arrangements for payment of the said tax demands rather than the decision making resulting in the tax demand. For e.g., the directors cannot be held responsible for incorrect classification of goods/services but would certainly be responsible for payment of tax dues once the tax on incorrect classification is confirmed against the Company. Probably the intent of the section is to deter directors from taking evasive acts by depleting the company’s assets and making them responsible for the non-recoverability of taxes. The directors on the other hand would have to overcome the presumption by contending that despite the tax demand, business exigencies and external circumstances have resulted in insolvency and non-recoverability of tax demands.

In Maganbhai Hansrajbhai Patel⁶, the Gujarat High Court held that gross negligence etc., is to be viewed in the context of non-recovery of the tax dues of the company and not with respect to the functioning of the company when the company was functional. In that case, the revenue had placed the entire focus and discussion with respect to the Director’s neglect in the functioning of the company which was set aside by the Court. A similar view was also taken by Gul Gopaldas Daryani v. ITO⁷ wherein it was held that though the burden is cast by statute in the negative and on the director concerned, once in defence the director places necessary facts before the revenue to establish that non-recovery cannot be attributed to gross negligence, misfeasance or breach of duty on his part, the revenue is required to arrive at definite findings on negligence on part of directors. In this case, the director could not pay tax dues as its hotel building got damaged in the earthquake, in view of the fact that an insurance claim had been raised but was not passed by an insurance company and civil disputes were still pending, it could not be regarded as a case where director failed to take measures for protecting property or interest of the company. A similar view was held in Ram Prakash Singeshwar Rungta vs. ITO⁸ where even though directors were responsible for the non-filing of returns were not imposed with such harsh recovery as the emphasis of the section is with respect to neglect during the recovery proceedings against the company and not otherwise.

6.  [2012] 26 taxmann.com 226 (Gujarat)
7.  [2014] 46 taxmann.com 35/227 Taxman 190 (Mag.)/367 ITR 558
8.  [2015] 59 taxmann.com 174/370 ITR 641 (Mag.)

Status of directorship

The other question that arises is whether the individual should be in active directorship during the action of recovery from the tax department or past directors could be engulfed in the recovery actions. Recovery action against directors could be with reference to three different tax periods (a) holding directorship during the relevant tax period for which demand is raised; (b) holding directorship at the time of confirmation of tax demand; and (c) holding directorship while recovery attempts are made by tax department.

This section fixes personal liability on directors based on the nature of acts performed during their directorship. The focus of the section is with reference to the responsibility of the directors to meet tax dues and deter depletion/diversion of assets of the company for other purposes. Exclusion from recovery can be claimed only where the directors prove that they have acted in good faith and business exigencies have resulted in non-recovery of taxes. Naturally, this implies that the individuals should be directors at the time the tax demands are raised and recovery attempts are being made by the revenue. Thus, individuals holding directorship during the relevant tax period for which tax demand has been raised cannot be held responsible for tax demands as they cannot be expected to establish bonafides at a time when they are not holding directorship. But the Bombay High Court⁹ has held that the true purport of Section 179(1) of the Income Tax Act is that a person must not only be a Director at the relevant assessment year but also a Director at the time when the demand was raised and such Director can be held responsible only and only when “non-recovery” is attributable to gross neglect, misfeasance or breach of duty on the part of such Director.

9. Prakash B. Kamat vs. Pr. CIT [2023] 151 taxmann.com 344 (Bom.)

Unlike section 89, section 88(3) speaks about recovery of tax liabilities during the liquidation of companies and specifies the directors who were holding the position at the relevant tax period for which the taxes were due as responsible for payment of the tax dues on liquidation. Due to the specific identification of directors and linkage to a particular period of default, other directors would not be covered by such recovery action even if they are in directorship during the liquidation of the company.

Tax dues with respect to the supply of goods or services

Interestingly, section 89 provides for tax recoveries only in respect of “supply of goods or services”. This is a consequence of borrowing terms from parallel provisions under the Income Tax Act where the scope is restricted to tax dues in respect of the income of an assessee. Probably, the legislature must have missed recognizing that recoveries under the GST law can arise on four counts (a) output tax in respect of the supply of goods/services; (b) input tax on erroneous utilization; (c) erroneous refunds; and (d) transitional credit. With the missed phrases, one can argue that the recoveries from directors could be only in respect of short payment of output tax on account of non-payment, short-payment, under-valuation, rate classification, etc. While revenue may argue that such a narrow reading would make the provision toothless, courts may view such exceptional provisions very strictly.

Joint and several liability

The phrase ‘joint and several’ liability implies that the directors are both collectively or individually liable for the revenue. The revenue authorities can at their discretion ‘pick and choose’ the directors who they wish to pursue for recovery of their tax liability, irrespective of their involvement in the affairs of the company. To put it differently, while Director A may be responsible for gross negligence in protecting the assets of the company, the revenue can choose to pursue Director B for recovery of its entire dues, no matter that Director B may not have had an active role in the company. In the decision of the Gujrat High Court in Suresh Narain Bhatnagar v. ITO¹⁰ the ground raised by the director of the company being only in a technical capacity with limited control did not ipso facto make Section 179 of the Income Tax Act inapplicable to the director. That Section 179 would continue to apply even if the petitioner was functioning in a limited capacity vis-à-vis the company. Hence, it is quite clear from this decision that the degree of involvement of a director in the affairs of the company is not a yardstick in deciding whether Section 179 is applicable to the director or not.

10. [2014] 43 taxmann.com 420/227 Taxman 193/ 367 ITR 254 (Guj.)

Many times, the revenue makes the error of applying the phrase joint and several liabilities qua the directors and the company. Revenue officials pursue the remedy of recovering the tax liability from directors of the company on the premise that directors are jointly and severally liable to the company. Being a vicarious liability, it is important to put in perspective that the joint and several liability is qua the directors among themselves and not qua the company. It is only after crossing the stage of nonrecoverability from the company would the revenue be permitted to make all directors jointly and severally liable for such non-recoverable dues. This can also be confirmed from the earlier phrases which require the revenue to exhaust the recovery from the company and only then proceed to recover the dues from directors.

Time limitation

Section 89 does not contain any time limit for the initiation of recovery action. But it is well understood by many courts including Parle International Ltd. vs. Union of India¹¹ that delay in adjudication defeats the very purpose of the legal process and a taxable person must know where he stands and if there is no action from the departmental authorities for a long time, such delayed action would be in contravention of procedural fairness and thus violative of principles of natural justice. In this case, a long period of about 8 years was set aside as being beyond a reasonable period of time. A similar principle may be adopted in specific cases of delayed recovery after the finalization of tax demands.

11. [2014] 43 taxmann.com 420/227 Taxman 193/ 367 ITR 254 (Guj.)

Type of Directorship

The above provisions include all the directors of the company as responsible for the statutory dues. Among the many types of directors in a Company — managing directors, full-time directors, non-executive directors, independent directors, nominee directors etc., questions arise on the applicability of the above provisions to directors. While executive directors cannot be said to be outside the scope of the above provisions, nominee directors could take shelter in view of their restricted role in the decision-making process of the Company. One would be mindful that the nomenclature by itself does not result in automatic immunity under the above widely drafted provisions. It is the appointment letters, emails/ transcripts, and board resolutions which would establish diligence on their part. Independent directors are appointed for specified public limited companies, and listed companies and hence would anyway be outside the scope of section 89 or 88(3) which are applicable only to private limited companies.

Penalty imposable for aiding/ abetting an offence

Directors can also be held responsible for aiding or abetting an offence by Companies. Section 122(3) provides for penalties on any person who aides/abets an offence as enlisted under section 122(1)(i) to (xxi). Naturally, once a Company is charged with any of the list of offences, directors who are in the knowledge of these offences would also become vulnerable to a charge of penalty under section 122(3). The phrase ‘aiding or abetting’ has its roots in the Indian Penal Code and implies an element of mens-rea in the act of instigating or encouraging a person to commit an offence, or promoting a person into a conspiracy of an offence, or willfully aiding another to facilitate in furtherance of the offence. Since men-rea is not a virtue of artificial persons, the individuals (especially directors) behind the scenes would be considered to be involved in the commission of the offence of companies. The maximum penalty in such cases would be ₹25,000 under each enactment.

Despite all the technicalities discussed above, directors of both private and public companies are answerable under the Companies Act for all their actions. Once fraud by directors is established, it vitiates all technicalities and the Companies Act would make the directors personally responsible for all recoveries by lifting the corporate veil. This makes the role of the Director in financial decision-making cautious and critical. Board minutes, demarcation of funds, operational involvement as evidenced by emails / employees, etc. would play a pivotal role in assessing the diligence of the director. While one may argue that the onus is on the revenue to allege any misdoing, the specific presumptions in law have shifted the primary onus on the directors to establish their bonafide, which obviously involves a written document rather than mere oral assertions.

Recovery provisions are extreme steps where the revenue is empowered to pierce the corporate veil and make the directors responsible for the discharge of their fiduciary duties. As is evident the section is a separate code in itself and all pre-conditions of the section have to be satisfied and duly recorded prior to initiating action against the directors of the company. The directors on the other hand must ensure that they manage the affairs responsibly and protect the assets of the company to discharge the statutory liabilities. The intent of the section is to make directors responsible where the revenue has been deprived on account of fraudulent depletion of assets of the company. Amongst the directors, each director should take precautionary steps and inter-alia act as a check for actions by other directors keeping in mind the overall interest of the company. In law, these matters are addressed by Courts based on the facts produced by the directors in their defence and hence the directors need to record all their actions to prove their diligence in their duties.

BCAJ Admin

Interpreting Section 16 (4) Of CGST ACT, 2017

Input tax credit forms the core of any indirect tax legislation. It removes the cascading effect of indirect tax structure and permits a seamless flow of transactions across the entire transaction chain. While ITC is a substantial benefit granted by the law and thus, a right of the taxpayer, the said right has to be exercised within reasonable time as prescribed by the Statute. Section 16(4) of the CGST Act, 2017 prescribes the said timeline and reads as under:

(4) A registered person shall not be entitled to take the input tax credit in respect of any invoice or debit note for the supply of goods or services or both after the [30^thday of November]¹ following the end of the financial year to which such invoice or ~~[invoice relating to such~~]² debit note pertains or furnishing of the relevant annual return, whichever is earlier.

[Provided that the registered person shall be entitled to take input tax credit after the due date of furnishing of the return under section 39 for the month of September 2018 till the due date of furnishing of the return under the said section for the month of March 2019 in respect of any invoice or invoice relating to such debit note for the supply of goods or services or both made during the financial year 2017–18, the details of which have been uploaded by the supplier under sub-section (1) of section 37 till the due date for furnishing the details under sub-section (1) of said section for the month of March, 2019.]³

1   Substituted for “due date of furnishing of the return under section 39 for the month of September” w.e.f 01.10.2022

2   Omitted w.e.f 01.01.2021

3   Inserted vide Order No. 02/2018-CT dated 31.12.2018

To illustrate the above provisions simply, the due date for taking the ITC in respect of any invoice issued during a particular year, say 2018–19, was 20^th October 2019, being the due date for filing GSTR-3B for the month of September 2019. However, what is meant by ‘taking ITC’?

There can be different scenarios that a taxpayer can encounter in such a case, such as:

a) The taxpayer has not filed the return for March 2019 till 20^th October, 2019 and intends to file the said return and claim the credit in the return for the tax period of March 2019 to be filed after 20^th October, 2019, (i.e., delayed return of 2018–19).

b) The taxpayer files the returns for all / certain periods from April 2019 to September 2019 after 20^th October, 2019 and in such returns, he intends to claim the ITC of invoices dated 2018–19.

c) The taxpayer claims the ITC in the returns filed for the tax period of October 2019 and thereafter.

The tax authorities interpret the concept of ‘taking ITC’ as equivalent to claim / availment of ITC in the return and therefore allege that in all the above cases, the ITC claimed would be barred by section 16 (4) resulting in issuance of notice on this aspect. Such an understanding has also been confirmed by the Hon’ble High Courts in multiple cases⁴ wherein the constitutional validity of the said provisions was challenged in writ proceedings and the same were dismissed.

4   Gobinda Construction vs. Union of India [(2023) 10 Centax 196 (Pat.)], BBA Infrastructure Ltd. vs. Sr. Jt. Commissioner of State Tax [(2023) 13 Centax 181 (Cal.)]

In this article, we have attempted to analyse the said decisions upholding the constitutional validity of section 16 (4) and also other defences which may still be available with the taxpayers facing such proceedings.

The core issues that would need deliberation are:

a) Is section 16 (4) constitutionally valid?

b) If yes, how is section 16 (4) to be interpreted? What is meant by taking credit? Is it to be read in the context of accounting in books or disclosure of credits in the returns?

c) What constitutes return u/s 39, at least till the time GSTR-3B was notified as return u/s 39 retrospectively for the time limit prescribed u/s 16 (4) to be triggered?

d) Whether the condition u/s 16 (4) applies to all types of ITC, i.e., import of goods, taxes paid under RCM or only to ITC claimed on the strength of tax charged on the invoice by the supplier?

Apart from the above issues, the following issues have been raised during the Department Audits/scrutiny:

a) Whether section 16 (4) applies to all categories of ITC or only in cases where the ITC is claimed on tax charged by suppliers?

b) Whether section 16 (4) will get triggered if the supplier has filed a return after the due date?

This article discusses each of the above issues in detail.

Is section 16 (4) constitutionally valid?

Since the various decisions wherein the constitutional validity of section 16 (4) was challenged were vide a writ petition under Article 226, the petitioners in the said case were required to demonstrate how section 16 (4) is ultra vires the Constitution.

The said challenge was on the premise that the provisions violate the constitutional rights guaranteed under Article 300, i.e., the right to property, and Article 14, i.e., the right to equality.

Before analysing what the High Courts have held, let us first quickly analyse the vexed question, i.e., whether ITC is a vested right or concession available to the taxpayer. In the case of Eicher Motors Limited vs. UOI [1999 (106) E.L.T. 3 (S.C.)], it was held that once credit has been rightly availed, it becomes a vested right and the taxpayer would be well within his right to utilize such credit. Relevant extracts of the said decision are reproduced below:

5. … … As pointed out by us when on the strength of the rules available certain acts have been done by the parties concerned, incidents following thereto must take place in accordance with the scheme under which the duty had been paid on the manufactured products and if such a situation is sought to be altered, necessarily it follows that right, which had accrued to a party such as availability of a scheme, is affected and, in particular, it loses sight of the fact that provision for facility of credit is as good as tax paid till tax is adjusted on future goods on the basis of the several commitments which would have been made by the assessees concerned. Therefore, the scheme sought to be introduced cannot be made applicable to the goods which had already come into existence in respect of which the earlier scheme was applied under which the assessees had availed of the credit facility for payment of taxes. It is on the basis of the earlier scheme necessarily the taxes have to be adjusted and payment made complete. Any manner or mode of application of the said rule would result in affecting the rights of the assessees.

However, as the concept of ITC evolved, the larger question that was raised on numerous occasions was whether the right to claim credit in the first place itself is a fundamental or vested right or it is a concession provided under the Statute. In a series of decisions, the Supreme Court had held that the right to claim credit, even if flowing from statute, is nothing but a concession. In Jayam & Co. vs. Assistant Commissioner [2018 (19) GSTL 3 (SC)], the Supreme Court held as under:

12. It is a trite law that whenever concession is given by statute or notification etc. the conditions thereof are to be strictly complied with in order to avail such concession. Thus, it is not the right of the ‘dealers’ to get the benefit of ITC but it is a concession granted by virtue of Section 19. As a fortiorari, conditions specified in Section 10 must be fulfilled. In that hue, we find that Section 10 makes the original tax invoice relevant for the purpose of claiming tax. Therefore, under the scheme of the VAT Act, it is not permissible for the dealers to argue that the price as indicated in the tax invoice should not have been taken into consideration but the net purchase price after discount is to be the basis. If we were dealing with any other aspect do hors the issue of ITC as per Section 19 of the VAT Act, possibly the arguments of Mr. Bagaria would have assumed some relevance. But, keeping in view the scope of the issue, such a plea is not admissible having regard to the plain language of sections of the VAT Act, read along with other provisions of the said Act as referred to above.

The above view has been followed by the Supreme Court in a series of decisions, such as ALD Automotive vs. Commercial Tax Officers [2018 (364) E.L.T. 3 (S.C.)] and TVS Motor Company Limited vs. State of Tamil Nadu [2018 (18) G.S.T.L. 769 (S.C.)].

Therefore, under the pre-GST regime, it was more or less a settled principle that ITC was a concession and therefore cannot be claimed as a right unless statutorily provided. Even under the GST regime, the Court⁵ has reiterated that ITC is a concession given by the statute and cannot be claimed as a constitutionally guaranteed right.

5   Thirumalakonda Plywoods vs. Assistant Commissioner of State Tax [(2023) 8 Centax 276 (A.P.)]

Similarly, even the challenge invoking Article 14 was not accepted because the provision prescribing the timelimit has universal applicability and therefore, it cannot be claimed that there is inequality.

It must, however, be noted that there have been exceptions where the taxpayers were able to get favourable rulings from Court. In Kavin HP Gas Gramin Vitrak vs. CCT [(2024) 14 Centax 90 (Mad.)], in a case where delay in filing Form GSTR-3B was on account of lack of funds to pay output tax, the High Court has held as under:

11. The next contention of the petitioner is that the ITC can be claimed through GSTR-3B, but GSTN has not been permitted to file GSTR-3B online if the dealers had not paid taxes on the outward supply/sales. In other words, if the dealer is not enabled to pay output tax, he is not permitted to file a GSTR-3B return online and it is indirectly obstructing the dealer from claiming ITC. In the present case, the petitioner was unable to pay output taxes so the GSTN was not permitted to file GSTR-3B in the departmental web portal it is constructed that the petitioner had not filed GSTR-3B online, which resulted in the dealer being unable to claim his ITC in that particular year in which he paid taxes in his purchases.

Hence if the GSTN provided an option for filing GSTN without payment of tax or incomplete GSTR-3B, the dealer would be eligible to claim of input tax credit. The same was not provided in the GSTN network hence, the dealers are restricted from claiming ITC on the ground of non-filing of GSTR-3B within the prescribed time. if the option of filing incomplete filing of GSTR-3B is provided in the GSTN network the dealers would avail the claim and determine self-assessed ITC online. The petitioner had expressed real practical difficulty. The GST Council may be the appropriate authority but the respondents ought to take steps to rectify the same. Until then the respondents ought to allow the dealers to file returns manually.

In one more case where the taxpayer’s registration certificate was cancelled and subsequently revoked and by then, the time limit to claim ITC for the period for which registration was cancelled had already expired, the Hon’ble High Court had allowed the said credit claimed in such returns despite there being no exception provided for in section 16 (4) of CGST Act, 2017. (K Periyasami vs. Dy. State Tax Officer [(2023) 8 Centax 25 (Mad.)])

From the above, it is clear that barring a few exceptions, the Courts have predominantly upheld the constitutional validity of section 16 (4) of the CGST Act, 2017.

If section 16 (4) is constitutionally valid, is the interpretation advanced by the tax authorities correct or is there an alternate interpretation possible?

As discussed above, the interpretation emanating from a plain reading of section 16 (4) is that the ITC of tax charged on any invoice or debit note issued in a particular financial year cannot be claimed after the due date of filing the return for the month of September of the next financial year. In other words, a taxpayer cannot claim credit relating to invoice/ debit note relating to financial year 2018–19 after 20^th October, 2019. This view was also canvased by CBIC in a press release dated 18^th October, 2018 as under:

3. With taxpayers self-assessing and availing ITC through return in FORM GSTR-3B, the last date for availing ITC in relation to the said invoices issued by the corresponding supplier(s) during the period from July, 2017 to March, 2018 is the last date for the filing of such return for the month of September, 2018 i.e., 20^th October, 2018”

However, an aspect which seems to have been missed out in the proceedings before the Writ Courts is what is meant by “shall not be entitled to take credit” referred to in section 16 (4)? Does it mean taking ITC in the return prescribed u/s 39? One can take a view that credit is taken when the same is accounted for in the books of accounts when the eligibility to take the credit is to be examined. Further, the importance of entries in books of account to avail of credit is recognized under the CGST Act as well. Section 35 requires every taxable person to maintain a true and correct account of the ITC availed. Based on this account maintained, the taxable person is required to report the figures of ITC availed in books of accounts in GSTR 9C (i.e., audit report) irrespective of whether the same has been disclosed in the returns or not. This amount can further be adjusted for credits claimed in returns of subsequent periods and for credits of earlier periods claimed in returns of the current period to arrive at the credits claimed in the returns filed for the period under audit. This demonstrates that the taking of credit envisaged u/s 16 is vis-à-vis the accounting of credits in books of accounts and not in the returns.

In fact, in the context of CENVAT Credit, the decision of the Mumbai Tribunal in the case of Voss Exotech Automotive Private Limited vs. CCE, Pune — I [2018 (363) ELT 1141 (Tri — Mum)] holds relevance. The facts of the said case were that under the CENVAT Credit regime, initially there was no time limit prescribed for claiming credits. Subsequently, vide insertion of proviso to Rule 4 (7), a condition was introduced to provide that credit cannotbe claimed after the expiry of a specified period from the date of invoice. The relevant provision is reproduced below:

Provided also that the manufacturer or the provider of output service shall not take CENVAT Credit after [one year] of the date of issue of any of the documents specified in sub-rule (1) of Rule 9.

In this case, the assessee had argued before the Tribunal that if the invoice was accounted within the prescribed time limit, i.e., one year from the date of invoice, merely because there was a delay in disclosing this invoice in the returns would not impair its right to claim the credit. In this case, the Tribunal held as under:

4. On careful consideration of the submissions made by both sides, I find that for denial of the credit, the Notification No. 21/2014-C.E. (N.T.), dated11th July, 2014 was invoked wherein six-month period is available for taking credit. As per the facts of the case, credit was taken in respect of the invoices issued in the month of March & April 2014 in November 2014. On going through Notification No. 6/2015-C.E. (N.T.), dated 1st March, 2015 the period available for taking credit is 1 year in terms of the notification, the invoices issued in the month of March and April 2014 become eligible for Cenvat credit. I also observed that Notification No. 21/2014-S.T. (N.T.), dated 11th July, 2014 should be applicable to those cases wherein the invoices were issued on or after 11th July, 2014 for the reason that notification was not applicable to the invoices issued prior to the date of notification therefore at the time of issuance of the invoices no time limit was prescribed. Therefore in respect to those invoices, the limitation of six months cannot be made applicable. Moreover, for taking credit, there are no statutory records prescribing the assessee’s records were considered as accounts for Cenvat credit. Even though the credit was not entered in so-called RG-23A, Part-II, but it is recorded in the books of accounts, it will be considered as Cenvat credit was recorded. On this ground also it can be said that there is no delay in taking the credit. As per my above discussion, the appellant is entitled to the Cenvat credit hence the impugned order is set aside. The appeal is allowed.

In fact, if it indeed was the intention of the legislature to link credits u/s 16 (4) with disclosure in the returns and not books of accounts, the same would have been specifically provided for in the section itself. For instance, section 41 deals with provisions relating to taking of ITC in returns and therefore, it specifically provides so. Had the legislature intended to restrict the taking of credit in returns by section 16 (4), the same would have been categorically provided for. On the contrary, had the conditions imposed by section 16 (4) been part of section 41, this controversy would not have arisen.

An interesting observation in this regard has been made in UOI vs. Bharti Airtel Limited [2021 (54) G.S.T.L. 257 (S.C.)]. In this case, the Supreme Court has held that the primary source for self-assessment of outward liability is the books of accounts, from where the information is to be furnished for discharge of liability. Relevant extracts are reproduced below for reference:

35. As aforesaid, every assessee is under obligation to self-assess the eligible ITC under Section 16(1) and 16(2) and “credit the same in the electronic credit ledger” defined in Section 2(46) read with Section 49(2) of the 2017 Act. Only thereafter, Section 59 steps in, whereunder the registered person is obliged to self-assess the taxes payable under the Act and furnish a return for each tax period as specified under Section 39 of the Act. To put it differently, for submitting a return under Section 59, it is the registered person who has to undertake necessary measures including maintaining books of account for the relevant period either manually or electronically. On the basis of such primary material, self-assessment can be and ought to be done by the assessee about the eligibility and availing of ITC and OTL, which is reflected in the periodical return to be filed under Section 59 of the Act.

As can be seen from the above, the decision does not require that the ITC taken in books of accounts during a particular month needs to be shown in the periodical return in the same month. The taxpayer can be at liberty to defer the disclosure of ITC in the prescribed return. This hints at the fact that to demonstrate availment of ITC, books of accounts are the basis and not the GST returns. A taxpayer cannot disclose ITC in his return without accounting for it in his books.

Furthermore, if the stance of the tax authorities that section 16 (4) applies to a claim of credit in returns and not books of accounts is accepted, it would result in contradiction with the provisions of section 16 itself. Section 16 (2) overrides other provisions of section 16 and provides that a person shall be entitled to claim ITC only if the returns prescribed u/s 39 have been furnished. It nowhere provides that returns u/s 39 have to be filed within the prescribed time limit. In other words, section 16 (2) itself entitles the recipient to claim credit at the time of filing return u/s 39, i.e., without filing return u/s 39, credit cannot be claimed. Therefore, in cases where the return u/s 39 is filed with a delay, for instance, returns of March 2019 are filed in November 2019 and credits are claimed along with those returns, it would mean that the outer time limit to take the credits u/s 16 (4), i.e., 20^th October as envisaged in the returns is before the date of entitlement to take the credit provided by the overriding provision, i.e., section 16 (2) which would result in contradiction within the provisions of section 16 itself. Therefore, the stance of the tax authorities that section 16 (4) imposes restrictions on the claim of credit in the returns is incorrect and renders the entire scheme unworkable. In fact, such an interpretation amounts to expecting the taxpayer to comply with something which is impossible to do.

However, in Thirumalakonda Plywoods vs. Assistant Commissioner of State Tax [(2023) 8 Centax 276 (A.P.)], the Hon’ble High Court rejected the above arguments and held as under:

Further, the influence of a non-obstante clause has to be considered on the basis of the context also in which it is used. Therefore, section 16(4) being a non-contradictory provision and capable of clear interpretation, will not be overridden by non-obstante provision u/s 16(2). As already stated supra 16(4) only prescribes a time restriction to avail credit. For this reason, the argument that 16(2) overrides 16(4) is not correct.

Thus in substance section 16(1) is an enabling clause for ITC; 16(2) subjects such entitlement to certain conditions; section 16(3) and (4) further restrict the entitlement given u/s 16(1). That being the scheme of the provision, it is out of context to contend that one of the restricting provisions overrides the other two restrictions. The issue can be looked into otherwise also. If really the legislature has no intention to impose a time limitation for availing ITC, there was no necessity to insert a specific provision U/s 16(4) and to further intend to override it through section 16(2) which is a futile exercise.⁶

6   A similar view has been followed in the case of Gobinda Construction vs. Union of India [(2023) 10 Centax 196 (Pat.)] and BBA Infrastructure Ltd. vs. Sr.
 Jt. Commissioner of State Tax [(2023) 13 Centax 181 (Cal.)] as well.

In this case, it was also argued that payment of the late fee along with GSTR-3B would exonerate delay in filing of return and therefore along with the return, the claim of ITC should also be considered. However, this argument has also been rejected on the grounds that mere payment of late fees cannot act as a springboard for claiming ITC. A statutory limitation cannot be stifled by collecting late fees.

GSTR-3 VS. GSTR-3B: A DIFFERENT TALE FOR FY 2017-18 & 2018–19

Section 16 (4), while inserting the timeline for claiming ITC, refers to the return to be furnished u/s 39. As readers would be aware, at the time of the introduction of GST, GSTR-3 was the return prescribed u/s 39 though the implementation of the said return was kept in abeyance and ultimately scrapped. Before the amendment scrapping GSTR-3 was introduced, a petition was filed challenging the press release dated 18th October, 2018 before the Gujarat High Court in the case of AAP & CO vs. UOI [2019 (26) G.S.T.L. 481 (Guj.)] wherein it was held that GSTR-3B was not a return prescribed u/s 39 of CGST Act, 2017. Therefore, the time limit prescribed u/s 16 (4) was not triggered.

However, subsequently, vide a retrospective amendment w.e.f 9^th October, 2019, GSTR-3B was notified as return u/s 39. This amendment was apparently to nullify the decision of the Gujarat High Court in the case of AAP and Co. and the same was ultimately overruled by the Supreme Court in Bharti Airtel’s case wherein it has been held as under:

41. The Gujarat High Court in the case of AAP & Co., Chartered Accountants through Authorized Partner v. Union of India & Ors. [2019-TIOL-1422-HC-AHM-GST = 2019 (26) G.S.T.L. 481 (Guj.)], was called upon to consider the question of whether the return in Form GSTR-3B is the return required to be filed under Section 39 of the 2017 Act. Although, at the outset, it noted that the concerned writ petition had been rendered infructuous, went on to answer the question raised therein. It took the view that Form GSTR-3B was only a temporary stop-gap arrangement till the due date of filing of return Form GSTR-3 is notified. We do not subscribe to that view. Our view stands reinforced by the subsequent amendment to Rule 61(5), restating and clarifying the position that where a return in Form GSTR-3B has been furnished by the registered person, he shall not be required to furnish the return in Form GSTR-3. This amendment was notified and came into effect from 1^st July, 2017 [Vide Notification/GSR No. 772(E), dated 9^th October, 2019] retrospectively. The validity of this amendment has not been put in issue.

It must however be noted that though the above decision did not analyse the validity of the retrospective amendment, the Revenue appeal against the Gujarat High Court decision was allowed on the grounds that the judgment was expressly overruled in Bharti Airtel’s case. Till 8th October, 2019, the right to claim credit could not have been impacted by section 16 (4) as the filing of GSTR-3, which was the return prescribed u/s 39 was kept at abeyance till that date. It was only by a retrospective amendment that the same was substituted by a different return, for which the due date had already expired. This resulted in a substantive right available to the taxpayers on that day, i.e., till 8th October, 2019 being curtailed by a retrospective amendment, which is not permissible. In the case of Welspun Gujarat Stahl Rohren Limited vs. UoI [2010 (254) E.L.T. 551 (Guj.)], it has been held that the vested right of the petitioner to claim rebate was not affected for the impugned period despite retrospective amendment by Finance Act, 2008 covering the period from 1st March, 2002 to 7th December, 2006. This decision was upheld by the Supreme Court in 2010 (256) ELT A161 (SC).

Further, in Jayam & Co. vs. Assistant Commissioner [2018 (19) GSTL 3 (SC)], it was again held as under:

18. When we keep in mind the aforesaid parameters laid down by this Court in testing the validity of retrospective operation of fiscal laws, we find that the amendment in-question fails to meet these tests. The High Court has primarily gone by the fact that there was no unforeseen or unforeseeable financial burden imposed for the past period. That is not correct. Moreover, as can be seen, sub-section (20) of Section 19 is an altogether new provision introduced for determining the input tax in specified situations, i.e., where goods are sold at a lesser price than the purchase price of goods. The manner of calculation of the ITC was entirely different before this amendment In the example, which has been given by us in the earlier part of the judgment, the ‘dealer’ was entitled to an ITC of ₹10 on re-sale, which was paid by the dealer as VAT while purchasing the goods from the vendors. However, in view of Section 19(20) inserted by way of amendment, he would now be entitled to ITC of ₹9.50. This is clearly a provision which is made for the first time to the detriment of the dealers. Such a provision, therefore, cannot have a retrospective effect, more so, when vested right had accrued in favour of these dealers in respect of purchases and sales made between 1^st January, 2007 to 19^th August, 2010. Thus, while upholding the vires of sub-section (20) of Section 19, we set aside and strike down Amendment Act 22 of 2010 whereby this amendment was given retrospective effect from 1^st January, 2007.

Therefore, it remains to be seen whether the retrospective amendment will survive judicial scrutiny or not, as and when taken up by the Supreme Court.

Whether section 16 (4) applies to all categories of ITC or only in cases where the ITC is claimed on tax charged by suppliers?

The tax authorities contend that the limitation applies to all claims of ITC. For instance, if the taxpayer fails to pay tax under the reverse charge mechanism during a particular period and the same is identified later, the question that remains is if the corresponding ITC of tax paid later can be claimed or not or whether such a claim is hit by limitation prescribed u/s 16 (4)? Further, the issue of whether the limitation applies to the claim of ITC on the import of goods also needs to be analysed.

To analyse this issue, let us refer to the provisions of section 16 (4):

(4) A registered person shall not be entitled to take the input tax credit in respect of any invoice or debit note for supply of goods or services or both … … ….

Section 16 (4) restricts the claim of ITC “in respect of” any invoice or debit note. The Supreme Court in the case of State of Madras vs. Swastik Tobacco Factory 1966 (17) STC 316 has held that the expression ‘in respect of’ lends specificity to the object thereafter. In the said case, it was held that duty in respect of goods will only mean the duty in respect of the said goods and not the duty on the raw materials. Similarly, in the current case, the said provision applies only to an ITC claim arising out of an invoice or debit note. It therefore becomes important to understand what the term “invoice” actually means.

Section 2 (66) of CGST Act, 2017 defines the terms “invoice” or “tax invoice” interchangeably to mean the tax invoice referred to in section 31. Simply put, any document that is titled “invoice” / “tax invoice” and is issued in terms of section 31 of the CGST Act, 2017 is an invoice. A document issued by a supplier outside India or an unregistered person to whom the provision of GST does not apply, may be termed invoice for commercial, legal and accounting purposes, but cannot be considered an invoice for GST law. In such cases, it cannot be said that the ITC is being claimed on the strength of an invoice or debit note. The need to refer to the definition provided under the statute has already been revalidated by the Hon’ble Supreme Court in Union of India vs. VKC Footsteps Private Limited [2021 (52) G.S.T.L. 513 (S.C.)] wherein it has been held that while interpreting the term “input” referred to in section 54 (3) (ii) of the CGST Act, 2017, the statutory definition u/s 2 (59) should be strictly followed and the expression cannot be broadened to include input services and capital goods.

In this context, it may be relevant to refer to section 16 (2) (a) of the Act which prescribes the document on the basis of which input tax credit can be claimed. The said clause requires the person claiming ITC to be in possession of a tax invoice, debit note, or such other tax-paying document as may be prescribed. Rule 36 prescribes the following documents on the basis of which input tax credit can be claimed:

a) Invoice issued by a supplier under the provisions of section 31.

b) Invoice generated in terms of section 31 (3) (f), i.e., receiver issuing an invoice for supplies received from unregistered suppliers.

c) Debit note issued by a supplier under the provisions of section 34.

d) Bill of Entry or any similar document prescribed under the Customs Act, 1962 for assessment of integrated tax on imports.

e) An ISD invoice, an ISD credit note, or any document issued by an ISD u/r 54 (1).

As compared to a wider set of documents prescribed under Section 16(2)(a) read with Rule 36 permitting the claim of input tax credit, the provisions prescribing the timeline for a claim of input tax credit only refer to two documents i.e., invoice and debit note.

Normally, in the case of the import of goods, there is an invoice issued by a supplier located outside India. However, the provisions of GST law do not apply to such overseas suppliers. The importer files a bill of entry for the assessment and clearance of goods for home consumption on the basis of the said invoice of the supplier. The bill of entry so filed is a document prescribed for availing ITC u/r 36. In this scenario, there is strong reasoning to say that section 16 (4) does not apply since credit is availed in respect of the bill of entry and not in respect of the invoice, though the bill of entry is filed in respect of an underlying invoice. In any case, the invoice issued by the supplier cannot be considered a tax invoice under section 31.

Let us consider a situation of reverse charge mechanism where the recipient has failed to pay any tax payable under RCM for, say 2018–19 and pays the same along with GSTR–3B of December 2019, i.e., after the time limit prescribed u/s 16 (4). The issue to be examined is whether he will be entitled to claim ITC of the tax so paid or the same will be hit by section 16 (4). On a reading of Rule 36 and the provisions of Section 31 governing tax invoices, it will be evident that the conclusion may vary based on the registration status of the supplier.

If the supplies are received from an unregistered person, the recipient is required to self-generate aninvoice u/s 31 (3) (f) and the said invoice becomesthe basis for the claim of ITC of tax paid as per rule 36. Therefore, a possible view in such a scenario is that the date of such self-invoice shall be relevant.Therefore, the taxpayer can argue that the invoice was issued in December 2019 though the liability pertained to the previous financial year. In such case, the claim of ITC may not be subject to section 16 (4) though the tax authorities may allege that there is a delay in the generation of self-invoice, which is nothing but a mere procedural lapse.

However, this may not apply to the tax paid under RCM on supplies received from registered suppliers. In case of supplies received from registered suppliers where RCM is applicable, such suppliers are required to issue an invoice in terms of section 31 of the CGST Act, 2017. Therefore, though the payment of tax took place in December 2019, it was in respect of an invoice issued in 2018–19 and therefore, hit by section 16 (4).

CONCLUSION

Time is of the essence under GST when it comesto claiming ITC. It is therefore important for thetaxpayers to periodically review the details of taxpaid on inward supplies received and ensure that the ITC so accounted in the books of accounts is also correspondingly claimed in the GST returns to avoid future litigation.

BCAJ Admin

Punctuations and Grammar

PUNCTUATIONS AND GRAMMAR

Interpretation of statutes is a work of art and not an exact science. Although we are equipped with a deep legacy of interpretative principles, the derivation of “Intent of legislature” has always been a vexed question. Interpretative skills warrant travelling beyond explicit words to extract the underlying intent. In the process of evolution of a legal word, clause, sentence, sub-section or section, attention is also paid to the punctuation marks in between such sentences to validate the interpretation emerging from the plain wordings. Similarly, the curious question of “AND” being read as “OR” or vice-versa has left many legal luminaries perplexed. The article is an attempt to address both these matters in tandem.

BACKGROUND

The thought about this subject occurred on reading the case of CCE vs. Shapoorji Pallonji¹ where the Supreme Court, affirming the decision of the Patna High Court, relied upon punctuation marks to interpret an enactment. The dispute in the case was on the taxability of works contract services rendered to IITs/NITs established under a special enactment of the Government to render educational activities. While there was no dispute on the aspect of Government supervision, the exemption was applicable only if they constituted ‘Governmental Authorities’ under the notification. The definition was first introduced in the exemption notification of 2012 and then underwent a change in 2014, with punctuation playing a critical role in the amendment. The comparison of the unamended and amended definitions is tabulated below:

EXEMPTION NOTIFICATION – 2012	CLARIFICATION NOTIFICATION – 2014
2(s) “governmental authority”’ means a board, or an authority or any other body established with 90% or more participation by way of equity or control by	2(s) “governmental authority” means an authority or a board or any other body; (i) Set up by an Act of Parliament or a State Legislature; or
Government and set up by an Act of the Parliament or a State Legislature to carry out any function entrusted to a municipality under article 243W of the Constitution;	(ii) established by Government, with 90% or more participation by way of equity or control, to carry out any function entrusted to a municipality under article 243W of the Constitution;

EXEMPTION NOTIFICATION – 2012

CLARIFICATION NOTIFICATION – 2014

2(s) “governmental authority”’ means a board, or an authority or any other body established with 90% or more participation by way of equity or control by

2(s) “governmental authority” means an authority or a board or any other body;

(i) Set up by an Act of Parliament or a State Legislature; or

Government and set up by an Act of the Parliament or a State Legislature to carry out any function entrusted to a municipality under article 243W of the Constitution;

(ii) established by Government,

with 90% or more participation by way of equity or control, to carry out any function entrusted to a municipality under article 243W of the Constitution;

1. [2023] 155 taxmann.com 303 (SC) affirming [2016] 67 taxmann.com 218 (Patna)

Naturally, a question emerged whether the phrase “with 90% or more participation…….under article 243W of the Constitution” was applicable to both clauses (i) and (ii) or limited to only clause (ii) of section 2(s). In other words, whether IITs / NITs, which were admittedly set up by an Act of Parliament, were also required to comply with the condition of conducting municipal functions and governed with 90% equity / control. The revenue made out the case that (a) punctuations ought not to be adopted strictly for interpretation of the statute; (b) the phrase “or” should be read as “and” and consequently, the latter part of the definition would apply to both the sub-clauses.

In response, the Patna High Court stated that the phrase “or” is a disjunctive phrase and cannot be read as “and”; hence clause (i) is complete and independent from the latter part of the definition. The Supreme Court affirmed the High Court’s view as follows:

The original definition was restricted to only such governmental authorities which satisfied all the three prerequisites of being established under a statute, under 90% control and performing municipal functions of 243W. Because of the unworkability of such a definition, an amendment was introduced to expand its scope. The Court then held that the amendment should not be rendered unproductive by interpreting the amended definition in the same sense;
The word “and” or the word “or” are conjunctions with the former being normally conjunctive and the latter being normally disjunctive — unless the terms lead to uncertainty, vagueness or absurdity which warrant alternative interpretation, the law should be read in its ordinary and natural sense without any interchange of words — therefore, clauses (i) and (ii) which are divided by the disjunctive word “or” are independent;
Use of semicolon after clause (i) makes the said clause independent and distinct from clause (ii). Clause (ii) on the other hand does not close with a semicolon but with a comma suggesting a continuation of the said clause but this is not so with clause (i). The use of such punctuation was deliberate to overcome the unworkability of the previous definition. Therefore, any interpretation leading to subsistence of the unworkability should be avoided.

One may observe that though punctuations played an important role, the Court has not solely relied upon the use of punctuations. The Court took cognizance of the unworkability of the erstwhile definition and the primary purpose of the amendment. It turned its eye towards the punctuation as a confirmatory note over the intention derived from the amendment. By itself, punctuations could not have been the deciding criteria over the scope of the definition.

It would be interesting to note that the said decision would be binding while analyzing the definition of “governmental authority” as well as “government entity” in the exemption notification for services² under the GST law. The examination of the said issue can be categorised into three baskets (a) where in many AARs, the semicolon in the said definition was either completely ignored or it was assumed by contending parties that 90 per cent equity / control condition and municipal functions was applicable to both clauses, i.e., governmental authority / entity established under a special Act was required to be subjected to 90 per cent equity / control and performing municipal functions for it fall under the said definition³. The probable reason could be that even if the condition over municipal functions was to be considered as irrelevant as part of the definition of governmental authority / entity, the exemption entry by itself (Entry 3/3A) specified the requirement of the function being part of the constitutional function of Article 243G/W, making such an argument toothless. Moreover, most of the entities performing such municipal functions were under 100 per cent equity / control of the Government and the said condition was inherently satisfied without any ambiguity. (b) In another basket of AARs, where the specific issue was raised, the Patna High Court’s decision was followed and accepted⁴ by holding that clause (i) of the definition was independent; (c) In the third basket of decisions, it was adversely held that the said matter was under challenge before the Supreme Court and hence, the plain reading ought to be adopted⁵ — implying that the condition was applicable to both clauses. With this verdict of the Supreme Court, these AARs would need re-consideration and the correct interpretation would have to be applied. The interesting challenge would now arise on the question of binding applicability of such AARs which were rendered on an incorrect premise, especially if the parties to the AAR have not appealed against such decisions. This seemingly settled question would again form fertile ground for litigation under the GST law.

2. Notification 12/2017-CT(R) dated 28th June, 2017
3. RAJASTHAN HOUSING BOARD 2023 (70) G.S.T.L. 95 (A.A.R. - GST - Raj.)
4. NHPC Ltd 2018 (19) G.S.T.L. 349 (A.A.R. - GST)
5. NATIONAL INSTITUTE OF DESIGN 2021 (53) G.S.T.L. 92 (A.A.R. - GST - Guj.); NIRMA UNIVERSITY 2022 (59) G.S.T.L. 437 (A.A.R. - GST - Guj.); National Dairy Development Board [2019] 103 taxmann.com 404 (AAR - GUJARAT)

PURPOSE OF PUNCTUATIONS IN TEXTS

We now turn to the role played by punctuation in English grammar. Punctuation, according to the Oxford Learner’s Dictionary, is defined as “the marks used in writing that divide sentences and phrases”. The Merriam-Webster Dictionary defines punctuation as “the act or practice of inserting standardized marks or signs in written matter to clarify the meaning and separate structural units.” According to the Cambridge Dictionary, the term “punctuation” is defined as “(the use of) special symbols that you add to writing to separate phrases and sentences to show that something is a question, etc.”, and “punctuation is the use of symbols such as full stops or periods, commas, or question marks to divide written words into sentences and clauses”, according to the Collins Dictionary. The role of some punctuations is:

Punctuations	Role played
Full stop [.]	End of a sentence
Comma [,]	Insert a pause into a sentence
Colon [:]	Signifies a series or an explanation
Semicolon [;]	Indicates two independent clauses
Hyphen [-]	Connecting compound words
Parenthesis [( )]	Supply further details in a sentence
Apostrophe [‘]	Denote some letters omitted
Quotation Marks [“]	Denote text speech or words
Ellipsis […]	Omission of words or letters, used in quoting texts

It may be noted that the above explanations are not accurate in all circumstances and one may have considered the underlying texture of the sentences rather than directly adopting the above meaning.

IMPORTANCE IN INTERPRETATION OF STATUTES

The golden rule of interpretation (especially in taxing statutes) has always been to interpret the text in simple and literal form without any addition, modification, alteration, etc. Intention of legislation and aids of interpretation should be resorted only in cases of vagueness, absurdity and unworkability. According to GP Singh’s – Principles of Interpretation, in modern statutes, punctuation is a minor element in the construction of a statute and emphasis on punctuation in a carefully punctuated statute should be examined only in cases of doubt.

In a tax case of Shree Durga Distributors vs. State of Karnataka⁶ the Court was examining whether Dog Feed and Cat Feed were included in the phrase “animal feed” forming part of an entry which read as follows:

“5. Animal feed and feed supplements, namely, processed commodity sold as poultry feed, cattle feed, pig feed, fish feed, fish meal, prawn feed, shrimp feed and feed supplements and mineral mixture concentrates, intended for use as feed supplements including de-oiled cake and wheat bran.”

6. 2007 (212) E.L.T. 12 (S.C.)

The appellant contended that the comma after supplements which specifies a series of products is with reference to “feed supplements” only. The primary term “animal feed” is to be understood in its general sense and ought not to be limited to the list of items following the phrase “feed supplements”. It was contended that there are three parts to this entry (a) animal feed, (b) feed supplements with a list succeeding it, and (c) mineral mixture concentrates. The court refuted the basic premise of the argument by stating that there are only two categories (a) animal feed and feed supplements; (b) mineral mixture concentrates. The first category includes a comma and the word “namely” is applicable to the entire category. The list is exhaustive and since dog / cat feed does not fall into the list, they are not part of the said entry. Moreover, the said entry has two “ands”, with the former completing to the first category and the latter joining the first and second categories.

In another case of the State of Gujarat vs. Reliance Industries⁷, the Supreme Court examined the significance of commas and full stops in the following section:

“Notwithstanding anything contained in this section, the amount of tax credit in respect of a dealer shall be reduced by the amount of tax calculated at the rate of four percent on the taxable turnover of purchases within the State –

(i) Of taxable goods consigned or dispatched for batch transfer or to his agent outside the State, or

(ii) Of taxable goods which are used as raw materials in the manufacture, or in the packing of goods which are dispatched outside the State in the course of branch transfer or consignment or to his agent outside the State.

(iii) Of fuels used for the manufacture of goods: …”

7. 16 SCC 28 (2017)

In the said facts, a manufacture using fuel was prima-facie covered under both clauses (ii) and (iii), and hence, the revenue claimed that the dealer ought to reverse the input tax credit under both clauses, i.e., twice. The Court analysed all three clauses and observed that the word “or” after clause (ii), makes clause (i) and (ii) as one set and (iii) as a distinct clause. While clauses (i) and (ii) are split by a disjunctive “or” condition, clause (iii) is an independent clause by itself separate from the previous set. Hence, fuels which are used in the manufacture of goods would be subjected to two reversals (4 per cent + 4 per cent), provided the overall reversal does not exceed the input tax credit claim. Here, the court has given due importance to the comma and full stop in clauses (i), (ii) and (iii), respectively. Based on this, it delinked both these clauses from clause (iii) and hence made the same applicable even if the previous clauses were applied.

On the other hand, in the case of Falcon Tyres Ltd vs. State of Karnataka⁸, the court was examining whether the semicolon after the word “cotton” made the section disjunctive and separate from the main portion. The extract under consideration is below:

“Entry 2 of Second schedule – Agricultural produce including tea, coffee, and cotton.

2(A)(1) ‘agricultural produce or horticultural produce’ shall not include tea, coffee, rubber, cashew, cardamom pepper and cotton; and such produce as has been subjected to any physical, chemical or other process for being made fit for consumption, save mere cleaning, grading, sorting or drying;”

It was contended by the appellant that the semicolon divided the said definition into two parts and the second part was independent and disjunct from the first. Hence, rubber which was though excluded from the first could be included in the second part (being generic in nature) on account of the use of a semicolon. The court rightly rejected the reliance on punctuation on the grounds that the definition was exclusive and “such produce” cannot be meant to include rubber which was otherwise excluded from the definition. In the decisions above, punctuation operated as a guiding factor for courts in interpretation. While words would also take prominence, punctuation only worked as a topping to make the final decision palatable with the intent of the legislature.

8. 6 SCC 530 (2006)

APPLICATION OF ABOVE ANALYSIS

The above brief on punctuation now leads us to live scenarios under GST.

Blocked ITC clause – Section 17(5) is a classic test case to apply the interpretation principles on account of repeated use of punctuation in this long list of blocked credits. As we are aware, the section is an overriding exception to the general rule of allowing input tax credit on all business expenses. The section is exhaustive with semicolons, colons and full stops used in its legislation. Each sub-clause ends with a semicolon except clauses (b), (d) and last clause (i). Whether this observation is of significance may be worth testing.

(5) Notwithstanding anything contained in sub-section (1) of section 16 and subsection (1) of section 18, input tax credit shall not be available in respect of the following, namely:-

(a) Motor Vehicles for transportation of passengers …………..;

(aa) Vessels and aircraft ……………;

(ab) Services of general insurance …………;

(b) the following supply of goods or services or both-

(i) food and beverages, ………. leasing, renting or hiring of motor vehicles, vessels or aircraft referred to in clause (a) or clause (aa) except when used for the purposes specified therein, life insurance and health insurance:

Provided that the input tax credit in respect of such goods or services or both shall be available where an inward supply of such goods or services or both is used by a registered person for making an outward taxable supply of the same category of goods or services or both or as an element of a taxable composite or mixed supply;

(ii) membership of a club, health and fitness centre; and

(iii) travel benefits extended to employees on vacation such as leave or home travel concession:

Provided that the input tax credit in respect of such goods or services or both shall be available, where it is obligatory for an employer to provide the same to its employees under any law for the time being in force.

(c) works contract services when supplied for construction of an immovable property (other than plant and machinery) except where it is an input service for further supply of works contract service;

(d) goods or services or both received by a taxable person for construction of an immovable property (other than plant or machinery) on his own account including when such goods or services or both are used in the course or furtherance of business.

Explanation.––For the purposes of clauses (c) and (d), the expression “construction” includes re-construction, renovation, additions or alterations or repairs, to the extent of capitalisation, to the said immovable property;

(e) goods or services or both on which tax has been paid under section 10;

(f) goods or services or both received by a non-resident taxable person except on goods imported by him;

(fa) goods or services or both received by a taxable person, which are used or intended to be used for activities relating to his obligations under corporate social responsibility referred to in section 135 of the Companies Act, 2013 (18 of 2013);

(g) goods or services or both used for personal consumption;

(h) goods lost, stolen, destroyed, written off or disposed of by way of gift or free samples; and

(i) any tax paid in accordance with the provisions of sections 74, 129 and 130.

Explanation.–– For the purposes of this Chapter and Chapter VI, the expression “plant and machinery” means apparatus, equipment, and machinery fixed to earth by foundation or structural support that are used for making outward supply of goods or services or both and includes such foundation and structural supports but excludes-

(i) land, building or any other civil structures;

(ii) telecommunication towers; and

(iii) pipelines laid outside the factory premises.

Case 1 – Food & beverages clause: At clause (b), one may observe that it is further subdivided into three sub-clauses with a full stop at the end. The first sub-clause of (b) i.e. (i) denies ITC on food and beverages, renting of motor vehicles, etc., and uses the colon punctuation “:” followed by a proviso. The proviso permits, otherwise ineligible, ITC to be claimed if the ITC is used for making an outward supply of the same category of goods or services or as an element of a composite / mixed supply. The question would be whether the proviso which permits ITC is applicable to only clause (b) or even the preceding clauses (a), (aa), (ab). The answer could be simple that the proviso is restricted only to sub-clause (i) of clause (b) and cannot be extended to other clauses. This is purely because each clause ends with a semicolon which signifies that it is independent of the other clauses. The preceding clauses have completed their stipulations by themselves and hence, are not dependent on subsequent clauses for its operation. Moreover, sub-clause (i) of clause (b) ends with a colon and continues into the proviso which subsequently ends with a semicolon, clearly implying that clause (b) is incomplete until the proviso is also considered a part of it. Hence, the benefit of the proviso can be availed only in respect of food, beverages, renting / hiring of motor vehicles if the same are an element of an output supply.

Case 2 – Statutory obligation clause: We can extend this issue to another proviso which succeeds clause (b)(iii). The question of whether the proviso that permits ITC in respect of statutory obligations would extend to all the sub-clauses (i), (ii) and (iii) of clause 17(5)(b) becomes relevant. In other words, whether ITC on canteen facilities which are covered in sub-clause (i) is also eligible if they are provided by factories under a statutory obligation. Applying interpretation principles, an ambiguity over the applicability of the said proviso to clause (b) in its entirety prevails. With the analogy applied in Case 1, the question may seem a difficult issue to address. One may technically state that the benefit of proviso would be restricted only to travel benefits extended by employers to its employees. Fortunately, the CBIC Circular No 172/04/2022-GST⁹ has stepped in to resolve this conflict and highlighted the true intention of the GST council. It was clarified that the intent of inserting the proviso to 17(5)(b) was to make it applicable to all scenarios of section 17(5)(b) including canteen and rent-a-cab services and not merely restricted to the third clause.

9. dated 6th July, 2022

Case 3 – Immovable Property clause: A very interesting facet arises when we read clauses (c) and (d). Both clauses attempt to restrict input tax credit on construction of immovable property other than plant and / or machinery. While clause (c) permits input tax credit on construction for “plant and machinery”, clause (d) permits such input tax credit when used for “plant or machinery”. The explanation to the said section defines “plant and machinery” and not “plant or machinery”. Naturally, the question arises whether the definition of plant and machinery could be adopted for the phrase plant or machinery.

We may analyse the explanation of the term “plant and machinery” in greater detail to unearth the intent of defining such a phrase. It is apparent, the said phrase has been used in the context of construction activity involving capitalisation to an immovable property. Therefore, the terms “plant and machinery” or “plant or machinery” prima-facie fall under the overall umbrella of “capital goods” as defined under the GST law — i.e., goods which are capitalised in the books of accounts of the assessee. Then why did the legislature choose to define the phrase “plant and machinery” and not “plant or machinery” when both are towards a similar objective? The legislature is always presumed to lay down the law in the most efficient and crisp manner without the use of any futile words unless there is strong necessity / evidence to the contrary. This settled principle provokes the idea that “plant and machinery” is to be treated distinctly from “capital goods”.

The starting point to assess this difference would be to search for such phrases at other instances in the statute and assess such interchangeability. Take, for example, section 18(6) which provides for the reversal of ITC or payment of output tax on supply of “capital goods or plant and machinery”. Noticeably, the legislature has used the phrases “capital goods” and “plant and machinery” in proximity to each other, interjecting a disjunctive word, indicating separate meanings to be assigned to each phrase even though plant and machinery prima-facie appears to be a sub-set of capital goods.

What does this possibly mean? While it is difficult to assign a definitive reason, an answer could be obtained by a comparison of definitions of “capital goods” and “plant and machinery”. Capital goods are defined to mean goods: implying movable property, but “plant and machinery” has been defined to mean equipment, apparatus, etc., which are “fixed to the earth by foundational or structural support”. There would be scenarios where capital goods procured as movables but by way of affixation to the immovable property (such as construction of buildings, etc.) lose their character as movables and become part of an overall immovable property on account of the permanent fixation to earth. The immovable property emerging from the usage of movables would then fall outside the definition of capital goods. Because of losing their character as goods after fixation to earth, it was necessary for the legislature to use a separate phrase alongside capital goods in various instances so that the same treatment could be accorded to such goods akin to movable capital goods. In the absence of any explanation, one could possibly have claimed that the equipment’s on fixation would lose their character of goods and hence, fall outside the definition of “capital goods” even though they are capitalised. This mischief has now been addressed by adding an explanation for the purpose of the entire chapter.

One may recollect the legacy of litigation around the immovability of machinery, equipment, etc., under the Central Excise as well as the Cenvat Rules. Under the Central Excise regime, we have had decisions of assembly / installation of plant and machinery at the site leading to an immovable property on account of the manner and intent of affixation with the land. The apex court’s decision of Sirpur Paper Mills, Triveni Engineering & Indus. Ltd, Solid & Correct Engineering Works, etc., have developed the principles of permanent fixation, cannibalization, for testing the immovability of plant and machinery¹⁰. Under the Cenvat Credit Rules, the decisions of Vodafone India Ltd; Indus Towers Limited; Vodafone Essar South Ltd¹¹ have examined whether telecommunication towers which were installed qualified as inputs or capital goods for availment of CENVAT pursuant to installation on an immovable property. On similar lines, decisions in ICL Sugars Limited, SLR Steels, Pipavav Shipyard, etc¹² have examined the eligibility of CENVAT of storage tanks, pollution control equipment and overhead cranes based on immovability principles. We also had Tribunal decisions of eligibility of CENVAT in Vandana Global Ltd, Reliance Gas Transportation Infrastructure Ltd¹³ on foundational support, pipelines, etc., rendered on the principles of immovability. These decisions compelled the legislature to bridge the gap between movables, retaining their characteristics as movable after its usage and movables which lose their characteristics as movables when forming part of immovable property. This gap was bridged by way of this explanation which focuses on such hybrid items which may be movables at the time of receipt / availment but have an end use for business as immovables. Thus, an explanation has been added for the purpose of the entire Chapter of Input tax Credit stating that apparatus, equipment and machinery fixed to the earth either by structural or foundational support would be coined by a specific term “Plant and machinery”. In contradistinction to the phrase “capital goods” which has its emphasis on goods, the emphasis of the term “plant and machinery” has been on the fixation of such goods (a.k.a. capital goods) to the earth and forming part of immovable property. In loose terms, “plant and machinery” is a specified term attributed to those capital goods which are not immovable property, assigning it a distinct identity.

10. 1998 (97) E.L.T. 3 (S.C.); 2000 (120) E.L.T. 273 (S.C.); 2004 (167) E.L.T. 501 (S.C.); 2010 (252) E.L.T. 481 (S.C.)
11. 2015 (40) S.T.R. 422 (Bom.); 2016 (45) S.T.R. J55 (Del.);
12. 2011 (271) E.L.T. 360 (Kar.); 2012 (280) E.L.T. 176 (Kar.); (2023) 4 Centax 246 (Guj.); 
13. 2010 (253) E.L.T. 440 (Tri. - LB) reversed in 2018 (16) G.S.T.L. 462 (Chhattisgarh); 2016 (45) S.T.R. 286 (Tri. - Mumbai)

This theory also fits well while analysing section 29(5) & Rule 40 which uses the phrase “goods held in stock or capital goods or plant and machinery”, again bearing proximity with each other. Explanation to Chapter V of the GST Rules which read as follows:

“Explanation. — For the purposes of this Chapter, –

(1) the expressions ‘capital goods’ shall include ‘plant and machinery’ as defined in the Explanation to section 17”

The explanation specifically includes “plant and machinery” as defined in the explanation to section 17 for the purpose of the availment / reversal of ITC under the GST law. Noticeably, this section has distinguished between “Plant and machinery” and “Plant or machinery”.

Implanting this analysis to section 17(5)(c) and (d) would lead to a better appreciation of the intent of the legislature. One may observe that both phrases are used in parenthesis alongside the construction of an immovable property. We have just understood above that “plant and machinery” refers to those equipment which are affixed as immovable property and “plant or machinery” has no such prescription. On careful consideration, one can note that section 17(5)(c) blocks ITC vis-à-vis the service activity of works contract which results in an immovable property except when such service activity is an input service for outward works contract service. The emphasis is on blockage of the ITC on works contract service resulting in an immovable property. What is delivered by the supplier on rendition of a works contract service is an immovable property. The parenthesis alongside immovable property excludes all “plant and machinery” which fall under the explanation, i.e., fixed to the earth by structural or foundational support and acquire the character of being an immovable property (per settled central excise, cenvat principles). Though they may have been movable at the time of rendition of works contract service and brought to site for installation as immovable property, they form part of immovable property and can avail the benefit of exclusion from
blocked ITC. Typically, turnkey and composite works contract arrangements, where the supply and installation are also performed by the contractor, fall under this clause.

ITC restriction under section 17(5)(d), on the other hand, is not with reference to an act of supply but on the condition of receipt of goods or services which are not forming part of any works contract activity. This is attempted to block ITC where the taxpayer assimilates all goods and services under vivisected arrangements (rather than a composite works contract / turnkey arrangements) with the end use of construction of an immovable property. Since the prescription is with reference to state in which the “goods are received” (in movable form) and then installed on own account by the taxpayer or under separate service contracts, the legislature in its wisdom thought that the general phrase “plant” or “machinery” is more apt rather than specific definition “plant and machinery” under explanation to section 17(5). Implying that the words “plant” or “machinery” needs to be assessed in its generic sense independently at the point of receipt (say factory gate) and the use into an immovable property becomes an event subsequent. While both would be capitalised to the immovable property, the former clause is indicative of turnkey contracts and the latter clause is indicative of vivisected contracts where goods and services are received to the account of the taxpayer and the taxpayer then performs/ assigns the installation separately. Thus, goods or services when procured independently and movable at the time of receipt with subsequent use for construction of immovable property — towards “plant” or “machinery”, may fall outside the scope of section 17(5)(d) even if they are capitalised to immovable property. This convoluted analogy would not hold goods for availment of composite works contract services for “plant and machinery” as buildings, telecommunication towers, pipelines are specifically excluded from the said phrase under plant and machinery.

To summarise, the phrase “plant and machinery” is a specific nomenclature used for hybrid goods which on fixation to earth form an immovable property. They are not necessarily plant and machinery used in its general sense but must be understood strictly based on the explanation. However, “plant” or “machinery” are two distinct words divided by a term “or” which has not been defined in the Act and must be understood independently in its generic sense. Trade parlance use of the word “plant” or even “machinery” would assist in claiming an exclusion from ITC blocked credit under section 17(5)(d). One may tabulate this understanding further:

Term	Understanding	ITC Testing	Condition	Installation
Plant and machinery	One consolidated phrase bearing a specific nomenclature and well-defined	Vis-à-vis receipt of works contract services	Part of composite supply of immovable property	Equipment, apparatus, etc. fixed to earth
Plant or machinery	Generic sense in terms of trade usage with both terms being independent of each other	Vis-à-vis at point of receipt of goods / services	Goods and services separately received as movables but subsequently used towards immovable property on own account	No specific condition as regards manner of fixation

The tabulation indicates that the words “and” and “or” and their interchangeability is not the moot issue here. Rather the moot issue for examination is the entire phrase “plant and machinery” and its applicability to section 17(5)(c)/(d). Had the intent of the legislature been to apply the same meaning, it would have implanted the said phrase in entirety in section 17(5)(d) as well. However, having chosen to adopt a separate phrase on account of past experiences due importance ought to be given to such distinction.

So where does this seemingly zealous interpretation lead to!!! Can the matter of ITC on shopping malls in the case of Safari Retreats¹⁴ which is currently pending before the Supreme Court be examined from this perspective? Similarly, whether hotels, cold storages, cinema theatres, etc. which are aggrieved by substantial ITC blockage, claim that the building is a “plant” in a generic sense used for the purpose of business to generate income and hence eligible for ITC credit as part of the exclusion in section 17(5)(d), even-though they are primarily civil constructions and otherwise barred from availment of ITC?

14 2019 (25) G.S.T.L. 341 (Ori.)

In the context of depreciation under income tax we are aware the term “plant” was given a wide import and not just limited to equipment or apparatus which are mechanical or industrial in nature, but also include all goods used by a businessman for the purpose of carrying on his business. We have had cases where anything which facilitates trade or business (apart from stock in trade) or a “tool in trade” was considered as plant irrespective of it being fixed or movable, mechanical or electrical. Income tax law has adopted the “trade parlance” and “functional test” to decide whether an object is a “building” or “plant” or “machinery” i.e., merely a shelter or a tool of running business.

We have the famous case of Taj Mahal Hotels¹⁵, where the Court examined whether hotel installations (such as pipelines, electricals, etc.) are plant for the purpose of claim of development rebate (akin to accelerated depreciation). The court affirmed the taxpayers position holding that wide import to the plant would include such installations within its ambit. Subsequently in Anand Theatres¹⁶, the court, distinguishing Taj Mahal Hotels, refuted the claim that cinema buildings are plants even though they may be purpose-built. Yet, we have decisions w.r.t. to cold storages in Shree Gopikishan Industries (P.) Ltd. and subsequently in Shri Soneshware Cold Storage¹⁷ which distinguished the Anand Theatres decision to hold that from a functionality perspective, a cold storage would be more appropriately classifiable as a plant rather than a mere building. However, in Geetha Hotels P Ltd¹⁸, the old principle of Taj Mahal hotels (despite the decision of Anand Theatres) was applied to grant the benefit to the extent of fittings and fixtures which have been installed on the hotel premises. To summarise, we have the case of Navodaya¹⁹ where the Tribunal members visited the premises involving a film studio with specialised floorings and equipment and held it to constitute a plant based on the following principles:

Functional test is a decisive test.

An item which falls within the category of building cannot be considered to be a plant. Buildings with particular specifications for atmospheric control like moisture or temperature are not plants.

In order to find out as to whether a particular item is a plant or not, the meaning which is available in the popular sense, i.e., the people conversant with the subject-matter would attribute to it, has to be taken.
The term “plant” would include any article or object, fixed or movable, live or dead, used by a businessman for carrying on his business and it is not necessarily confined to any apparatus which is used for mechanical operations or process or is employed in mechanical or industrial business. The article must have some degree of durability.
The building in which the business is carried on cannot be considered to be a plant.
The item should be used as a tool of the trade with which the business is carried on. For that purpose, the operations it performs have to be examined.

15. (1971) 82 ITR 44 (SC)
16. 
17. [2003] 131 Taxman 729 (Calcutta) & [2015] 56 taxmann.com 433 (Gujarat)
18. (2000) 243 ITR 192 (SC) 
19. [2016] 67 taxmann.com 180 (SC) affirming [2004] 271 ITR 173/135 Taxman 258 (Ker.)

We, thus, have a see-saw of decisions on this aspect and evidently the functionality of the building would tilt the bar to either side. Yet, one should not lose sight of the contextual setting in which these decisions were rendered under the income tax law vis-à-vis the current subject in hand. There may arise some reluctance to equate these contexts as depreciation was a mandatory requirement under the income tax law but input tax credit is statutory concession of sorts and subjected to legislative discretion. Deriving legislative intent would be a slightly challenging task for taxpayers and courts when it involves external aids of interpretation. Certainly, this would be an emerging area of study and the course taken by the Supreme Court in the Safari retreat’s case would be an interesting wait.

The ultimate takeaway from this analysis would be to recognise the importance of punctuation and grammar very contextually. Alternative interpretational permutations involving punctuation would have to be tested to arrive at the “better interpretation” for the situation. Each alternative would have to be viewed in an unbiased manner and the holistic result should be foreseen prior to concluding the legal position.

BCAJ Admin

Credit Notes in a GST Scenario

INTRODUCTION

In any commercial transaction, an invoice represents a document staking a claim towards supplies made by an entity to another. Subsequent adjustments to the value of such supplies already accounted for through the issuance of an invoice are typically made by either debit notes or credit notes. In many cases, a debit note by one entity is also mirrored by a credit note by another entity and vice versa. It is also a common business practice to issue a debit note instead of a tax invoice in certain specific types of transactions like reimbursements, etc.

Since GST imposes a tax on supplies of goods or services or both, extensive provisions have been made to prescribe for the issuance of a tax invoice, contents of the said invoice and timelines for the issuance thereof. Thus, the issuance of a tax invoice for a taxable supply triggers a liability to pay GST. In fact, by mandating the requirement to issue a tax invoice in all cases of taxable supplies, the GST Law has reduced the extent and flexibility available to commercial enterprises to issue debit notes, and therefore, tax invoice and debit notes cannot be issued interchangeably.

The GST Law also considers situations wherein the supplier is required to issue a debit note or credit note. As mandated by Section 34(3) of the CGST Act, any upward adjustment to the value or tax specified in the original tax invoice would be through a debit note, and the said debit note is required to be reported as specified under Section 34(4). There is no timeline for the issuance of the debit note. Similarly, Section 34(1) permits the issuance of a credit note for downward adjustment to the value or tax and also in circumstances like return of goods or deficiency in supply and Section 34(2) prescribes for reporting of the said credit note. However, Section 34(2) prescribes a timeline for the said reporting. In this article, we shall deal with the various issues revolving around credit notes from a GST perspective.

LEGAL POSITION & ANALYSIS THEREOF

Section 34 of the CGST Act, 2017, deals with the provisions relating to issuance of a credit note. The same provides as under:

(1) [Where one or more tax invoices have] been issued for supply of any goods or services or both and the taxable value or tax charged in that tax invoice is found to exceed the taxable value or tax payable in respect of such supply, or where the goods supplied are returned by the recipient, or where goods or services or both supplied are found to be deficient, the registered person, who has supplied such goods or services or both, may issue to the recipient [one or more credit notes for supplies made in a financial year] containing such particulars as may be prescribed.

(2) Any registered person who issues a credit note in relation to a supply of goods or services or both shall declare the details of such credit note in the return for the month during which such credit note has been issued but not later than [the thirtieth day of November] following the end of the financial year in which such supply was made, or the date of furnishing of the relevant annual return, whichever is earlier, and the tax liability shall be adjusted in such manner as may be prescribed.

A plain reading of the above provisions indicates that Section 34(1) permits a taxable person who has made a supply of goods or services to issue a credit note only in following cases:

– The taxable value as per invoice or the tax charged thereon is in excess of what should have been disclosed.

– The goods supplied are returned by the recipient.

– The goods or services or both are found to be deficient.

A quick reading of the above provisions would suggest that the credit note issued shall be declared and adjusted against the tax liability within the above timeline, failing which a taxable person may not be entitled to claim reduction in his outward taxable liability. However, a closer reading of the said provisions may suggest otherwise.

At the outset, Section 34(1) is an enabling provision which permits the issuance of a credit note upon satisfaction of the prescribed conditions. It does not impose any time limit for issuance of the credit note. Therefore, so long as the incidents warranting the issuance of a credit note are attracted, there is no provision in the law which prohibits a supplier from issuing a credit note after the time limit prescribed. Section 34(2) merely prescribes a timeline for reporting of the said credit notes. At this juncture, it may be relevant to interpret the timeline mentioned in Section 34(2). As reproduced above, Section 34(2) requires a credit note to be reported in the return for the month during which such credit note has been issued
but not later than the thirtieth day of November following the end of the financial year in which such supply was made.

This provision can be understood with a simple example. If the supply was made in the Financial Year 2022–2023, and the credit note is issued in June 2023, the above provision requires the reporting of the credit note in the return to be filed for the month of June 2023. It also requires that the said return should be filed before30th November, 2023. In case the supplier omits to report the credit note in the return of June 2023, in view of the specific provisions of Section 37 (discussed later), he can declare the said credit note in any subsequent return so long as the said return is filed before 30th November, 2023.

However, real-life situations can be slightly complex. What if in the above case, if the underlying supply itself is cancelled or the goods are entirely returned in December 2023? Commercially and legally, the credit note cannot be issued before December 2023. Assuming it is issued in December 2023, how would one interpret the above provisions prescribing an outer timeline of 30th November, 2023?

It may be important to understand the provisions relating to the reporting of credit notes. The process of transaction-level reporting of documents in a statement in GSTR-1 to be filed under Section 37, which would automatically result in a compilation of aggregate-level tax liability to be paid through a return in GSTR-3B to be filed under Section 39, is now a settled proposition. It is also clear that GSTR-3B and not GSTR-1 constitutes a return for the purposes of GST Law.

In general, once a credit note is issued u/s 34(1), a taxable person would be required to report it in his GSTR-1 (i.e., statement prescribed u/s 37) which provides as under:

(1) Every registered person, other than an Input Service Distributor, a non-resident taxable person and a person paying tax under the provisions of section 10 or section 51 or section 52, shall furnish, electronically, [subject to such conditions and restrictions and] in such form and manner as may be prescribed, the details of outward supplies of goods or services or both effected during a tax period on or before the tenth day of the month succeeding the said tax period and such details [shall, subject to such conditions and restrictions, within such time and in such manner as may be prescribed, be communicated to the recipient of the said supplies].

As can be seen from the above, Section 37(1) requires furnishing of details relating to outward supplies. What “details” have to be furnished has been prescribed vide Rules. Rule 59(4) provides that the taxable person shall furnish details relating to invoices and debit and credit notes issued during the month for such invoices which were issued previously. Tables 4, 5 and 6 require the reporting of tax invoices whereas Table 9B requires the reporting of debit notes and credit notes. It is, therefore, evident that the law considers invoice and credit note as distinct details.

Independent of the above provisions pertaining to debit / credit notes issued after the issuance of a tax invoice, the law also envisages errors or omissions in furnishing of details pertaining to the above referred invoices, debit notes and credit notes. Section 37(3) of the Act reads as under:

(3) Any registered person, who has furnished the details under sub-section (1) for any tax period [***], shall, upon discovery of any error or omission therein, rectify such error or omission in such manner as may be prescribed, and shall pay the tax and interest, if any, in case there is a short payment of tax on account of such error or omission, in the return to be furnished for such tax period.

Provided that no rectification of error or omission in respect of the details furnished under sub-section (1) shall be allowed after [the thirtieth day of November] following the end of the financial year to which such details pertain, or furnishing of the relevant annual return, whichever is earlier.

Tables 9A and 9C deal with the reporting of the said amendments, and as can be seen from the above provisions, a timeline is prescribed for the said amendments.

Coming back to the original example of a credit note issued in December 2023 for a supply made in FY 2022–2023. Such a credit note would require reporting under Section 37(1) in Table 9B and may not be governed by the timelines prescribed under Section 37(3). What constitutes “discovery of error or omission” would necessarily mean that a document issued was either not reported or reported with some discrepancy in GSTR-1 which required the amendment of GSTR-1 by the taxable person. For example, against an invoice issued in April 2022, the taxable person issues a credit note in June 2022 but fails to disclose the credit note in his GSTR-1, and this omission is detected only in December 2023. Such failure to disclose would be covered u/s 34(3) as this clearly is an omission. However, if the credit note itself is issued in December, it cannot be said that such credit note is governed by Section 34(3), i.e., amendment of an error or omission.

The details furnished in Section 37(1), subject to Section 37(3) are supposed to flow as “self-assessed” liability to GSTR-3B, the return prescribed u/s 39. It is known that GSTR-3B is a summary return requiring disclosure of details of outward supplies and inward supplies at an aggregate level, i.e., no breakup is required to be given as to liability on account of outward supplies, reduction in liability on account of credit notes issued, etc. Therefore, if once a credit note is correctly disclosed u/s 37 (1), the details of which flow to GSTR-3B, there cannot be a question for restriction on adjustment against tax liability as there is no specific restriction prescribed vis-à-vis Section 34(2) for adjustment.

The question that, therefore, arises is what is the role of Section 34(2)? One may say that Section 34(2) firstly casts an obligation by defining a timeline for reporting the credit note and creates a right for the taxable person by permitting an adjustment in the prescribed manner. Prescribed manner would mean reporting a credit note u/s 37 and adjusting the same while filing the return u/s 39, both of which do not restrict adjustment of tax liability on account of such credit notes, as discussed above. Section 34(2) casts an obligation for reporting but does not restrict reporting thereafter. For example, if GSTR-1 is not filed on 11th, it does not mean it can’t be filed on 12th. There are consequences like a late fee, but it could still be filed. However, there is nothing which explicitly mentions that if you do not follow the obligation of reporting, the right of adjustment will be taken away. If the intention was indeed to restrict the adjustment in case of delayed reporting, Section 34(2) should have been worded as under:

The tax liability on account of the credit note referredto in sub-section (1) shall be adjusted in such manner as may be prescribed, only if the registered person who issues the credit note has declared the details ofsuch credit note in the return for the month during which such credit note has been issued but not later than the thirtieth day of November following the end of the financial year in which such supply was made, or the date of furnishing of the relevant annual return, whichever is earlier.

DISTINGUISHING BETWEEN CREDIT NOTE GOVERNED AND NOT GOVERNED BY SECTION 34(1)

As discussed above, Section 34(1) envisages issuance of the credit note, disclosure and adjustment against other tax liability in following scenarios:

– The taxable value as per invoice or the tax charged thereon is in excess of what should have been disclosed.

– The goods supplied are returned by the recipient.

– The goods or services or both are found to be deficient.

In addition to the above, there can be other scenarios necessitating a taxable person to issue a credit note but which may not satisfy conditions prescribed u/s 34 (1), such as:

– An invoice for supply of goods has been issued to customer A, Maharashtra. However, before the goods could be delivered, the customer asked the supplier to issue an invoice to his Gujarat registration.

– An invoice for supply of goods has been issued to customer A though the goods have been delivered to customer B. The invoice issued to customer A is, therefore, required to be cancelled by issuing a credit note, and a new invoice is to be issued to customer B.

– An invoice for supply has been raised for ₹100 plus GST of ₹18. Later on, it comes to the supplier’s attention that the agreed amount was ₹80 / ₹120, and the recipient asks for a new invoice.

– An airline issues a ticket (which is treated as a tax invoice) for a future air travel. However, before the travel, the passenger cancels the ticket resulting in no supply taking place.

In all the above scenarios, the question that arises is whether the supplier has an option to issue a credit note for the invoice issued with incorrect details and generate a fresh invoice or invoice issued for a future supply which ultimately did not take place.

This is relevant because Section 34 permits the credit notes only in specific scenarios. However, the question remains as to whether a credit note can be issued in cases where an invoice issued for supply agreed to be made is subsequently cancelled or invoice is wrongly issued? Can such cases be classified as goods return or deficient supply? This is because to claim goods return, the goods should be supplied in the first place.

Similarly, to claim deficiency in supply, the supply should have been made and only then can there be a deficiency thereof. In this regard, one may refer to similar provisions u/r 6(3) of Service Tax Rules, 1994, which specifically permitted issuance of credit note in specific cases. The said rules provided as under:

(3) Where an assessee has issued an invoice, or received any payment, against a service to be provided which is not so provided by him either wholly or partially for any reason [orwhere the amount of invoice is renegotiated due to deficient provision of service, or any terms contained in a contract], the assessee may take the credit of such excess service tax paid by him, if the assessee,—

[(a) has refunded the payment or part thereof, so received for the service provided to the person from whom it was received; or]

[(b) has issued a credit note for the value of the service not so provided to the person to whom such an invoice had been issued.]

Similar provision permitting issuance of a credit note in case of non-supply per se is missing under GST. Therefore, there is a possibility of the Department claiming that the option of issuing a credit note to rectify the mistakes in an invoice other than in case of scenarios covered u/s 34 is not available.

This leads us to the next question of how to deal with such instances. In such cases, a taxable person always has an option to claim non-liability to pay tax on the grounds that there is no supply being made. GST is levied on supply of goods or services or both. When no underlying supply takes place, there is nothing in the law which authorises the collection and payment of a tax on a supply which is not affected. Therefore, the tax cannot be retained by the Government and should be refunded to the person who bears the same.

In fact, in the context of real estate transactions where cancellation of contracts take place, the Board has issued Circular 188/20/2022-GST permitting the recipient to claim refund of tax paid on cases involving deficient supplies or cancellation of supplies. Interestingly, the Circular at para 4.4 clarifies that in case the time limit prescribed u/s 34 has not lapsed, the supplier can issue a credit note to the recipient and adjust the tax amount against his other liability. In that sense, the clarification can be used to counter any challenge to the issuance of a credit note u/s 34 on account of cancellation of supply. However, so far as wrong invoicing is concerned, whether a credit note u/s 34 can be issued or not remains a subject matter of debate. For such cases also, a taxable person can take shelter under this Circular to claim refund u/s 54(1) of a tax paid, which was otherwise not payable subject to unjust enrichment. Interestingly, section 54(8)(c) provides for a refund of tax paid on a supply which is not provided, either wholly or partly and for which, invoice has not been issued. However, shelter can be taken u/s 54(8)(e) which provides for refund of tax and interest or any other amount paid by the applicant the incidence of such tax and interest has not been passed on to any other person.

CREDIT NOTES IN CASE OF WRITE-OFFS

GST is generally payable at the time of issuance of invoice. However, it is possible that the realisation of invoice might take place over time, and in many cases, there might not be realisation of invoice proceeds, i.e., the amount recoverable from the recipient is written off, either as bad-debts or renegotiation on account of non-payment of consideration by the recipient.

A perusal of Section 34 shows that such write-offs do not qualify as one of the reasons for which credit note u/s 34 can be issued. Therefore, the taxable person cannot claim a reduction from his outward liability, though he can issue a financial credit note, also known as non-GST Credit Note for the purpose of settling the accounts with the recipient.

However, in case of cross-border transactions, i.e., exports, one of the conditions for a supply to be classified as export of service is that export proceeds should be realised in convertible foreign exchange. In fact, when a supplier executes a LUT with the Department for effecting zero-rated supplies without payment of integrated tax, they give an undertaking to make the payment if the export proceeds are not realised within the prescribed period. In such cases, the question that arises is whether reduction in consideration receivable by way of issuance of a credit note (whether or not governed by Section 34) will reduce the obligation on the part of the supplier to demonstrate receipt of consideration to that extent or it will be treated as non-compliance of condition u/s 2(6) of IGST Act, 2017, resulting in a denial of claim of export of services to that extent. The larger issue will be in the context of credit notes not governed by Section 34. In such cases, the only recourse available with the supplier would be to challenge the vires of Rule 96A which requires payment of integrated tax to the extent payment is not realised on the grounds that there is no power to demand tax on export transactions under the Constitution. Additionally, one may argue that write-offs are governed by the FEMA regulations.

In fact, RBI has issued RBI FED Master Direction No. 16/2015-16 dated 1st January, 2016, on “Export of Goods and Services”, consolidating directions in respect of export of goods and services. Para C.23, thereof, provides that, subject to certain conditions, any exporter who has not been able to realise the outstanding export dues despite best efforts may either self-write off or approach the authorised Dealer for write-off of such export bills. The maximum amount of unrealised export proceeds that can be written-off is 10 per cent of total export proceeds realised during the previous calendar year, which itself provides for write-off up to 10 per cent. Therefore, when the law meant to regulate foreign exchange dealings itself allowed for extension of time for realising export proceeds and also provided for writing-off of certain export proceeds and Section 2(6) of the IGST Act alsonot prescribing any time limit to realise export proceeds, Rule 96A and Notification 37/2017-CT dated 4th October, 2017, prescribing the said time limit are ultra-vires the statute.

IMPACT OF CREDIT NOTES ON ITC

One of the conditions u/s 16 to claim input tax credit is that the recipient of supply should have made payment of the consideration to the supplier except in cases where the tax is payable on reverse charge basis. The relevant provision is reproduced below:

Provided further that where a recipient fails to pay to the supplier of goods or services or both, other than the supplies on which tax is payable on reverse charge basis, the amount towards the value of supply along with tax payable thereon within a period of one hundred and eighty days from the date of issue of invoice by the supplier, an amount equal to the input tax credit availed by the recipient shall be [paid by him along with interest payable under section 50], in such manner as may be prescribed.

As discussed above, a supplier can issue two types of credit note, one which is governed u/s 34(1) and results in reduction of his outward tax liability and another being a financial / commercial credit note which does not have any impact on his outward tax liability. In either case, the credit note results in the supplier agreeing to a reduction in the consideration receivable for the supply. The question that remains is whether in the case of the issuance of a credit note by the supplier casts an obligation on the recipient to reverse the ITC claimed.

It must be kept in mind that issuance of a credit note results in reduction in the consideration payable by the recipient to the supplier, i.e., to the extent of the credit note issued, the supplier foregoes his right to receive the consideration, and therefore, to that extent, it cannot be said that there is a failure to pay by the recipient to the supplier. What constitutes failure to pay has been dealt with by the Bombay High Court in the case of Malaysian Airlines vs. UOI [2010 (262) E.L.T. 192 (Bom.)] wherein it has been held that failure to pay means non-payment when amount is due. In the case of a credit note, when the supplier himself has agreed to receive a lower amount, the question of the amount being due to that extent does not arise, and therefore, it cannot be said that there is a failure to pay to the extent of the credit note issued. This view has also been followed in Board Circulars 877/15/2008-CX dated 17th November, 2008 and 122/3/2010-ST dated 30th April, 2010. In fact, in the context of post supply discounts, even in the context of GST, the CBIC had clarified that no reversal of ITC is required vide Circular 105/24/2019-GST dated 28th June, 2019 (though subsequently withdrawn by circular 112/31/2019 – GST dated 3rd October, 2019) as under:

5. There may be cases where post-sales discount granted by the supplier of goods is not permitted to be excluded from the value of supply in the hands of the said supplier not being in accordance with the provisions contained in sub-section (3) of section 15 of CGST Act. It has already been clarified vide Circular No. 92/11/2019-GST dated 7th March, 2019 that the supplier of goods can issue financial/commercial credit notes in such cases but he will not be eligible to reduce his original tax liability. Doubts have been raised as to whether the dealer will be eligible to take ITC of the original amount of tax paid by the supplier of goods or only to the extent of tax payable on value net of amount for which such financial/commercial credit notes have been received by him. It is clarified that the dealer will not be required to reverse ITC attributable to the tax already paid on such post-sale discount received by him through issuance of financial/commercial credit notes by the supplier of goods in view of the provisions contained in second proviso to sub-rule (1) of rule 37 of the CGST Rules read with second proviso to sub-section (2) of section 16 of the CGST Act as long as the dealer pays the value of the supply as reduced after adjusting the amount of post-sale discount in terms of financial/commercial credit notes received by him from the supplier of goods plus the amount of original tax charged by the supplier.

Therefore, in general, one may take a position that no obligation is cast on the recipient to reverse the ITC on account of a credit note issued by a supplier. However, when a credit note is issued u/s 34(1), it inter alia means a reduction in the value of taxable supply and the corresponding tax payable on the said supply. In fact, Section 15(3), which deals with exclusion of discount from the value of supply, specifically provides that exclusion of eligible discount from the value of supply shall be permitted only if the recipient also reverses the corresponding ITC. However, the same applies only in the context of eligible discounts which are excludable from the value of taxable supply. However, there is no such condition prescribed u/s 34 which requires the supplier issuing credit note to ensure that the recipient reverses the corresponding ITC except when issued in relation to a discount eligible for exclusion from value of supply. However, in case the supplier has issued a credit note u/s 34, a logical conclusion would be that the same results in a reduction in the value of supply for both the parties, and therefore, even the recipient will have to reverse the claim of ITC. The same has also been clarified under the pre-GST Regime by Board Circular 877/15/2008-CX dated 17th November, 2008 as under:

3. In view of above, it is clarified that in such cases, the entire amount of duty paid by the manufacturer, as shown in the invoice would be available as credit irrespective of the fact that subsequent to clearance of the goods, the price is reduced by way of discout or otherwise. However, if the duty paid is also reduced, along with the reduction in price, the reduced excise duty would only be available as credit. It may however be confirmed that the supplier, who has paid duty, has not filed/claimed the refund on account of reduction in price.

To summarise, in case of credit notes issued which are governed by Section 34, there is a requirement on the part of the recipient for the supplier to claim reduction in his outward tax liability. This takes us to the next question of when shall the reversal of ITC trigger. Just like there can be a timing difference in the issuance of invoice by the supplier and corresponding claim of ITC by the recipient, there can always be a timing difference in case of issuance of a credit note by the supplier and its accounting by the recipient. In fact, on many occasions, it is observed that the issuance of a credit note comes to the notice of the recipient on the basis of transaction reflecting in GSTR-2A which might also involve a scenario wherein the supplier declares the credit note backdated; for example, credit note dated April 2022 is disclosed in GSTR-1 of September 2022 and the recipient accounts for the same only in December 2022.

The question in such case would be whether the recipient is required to reverse ITC in April 2022 (credit note period), September 2022 (GSTR-2A period) or December 2022 (accounting period) and can the Department demand interest for delay in reversal of ITC in case the ITC is reversed in period subsequent to April 2022, i.e., May 2022 and onwards.

To deal with such a scenario, one would need to determine when the liability to reverse ITC triggers. While there is no specific provision for this, there is a provision as to when the ITC can be claimed, which is governed u/s 16. Section 16(2)(a) specifically provides that for claiming ITC, the recipient should be in possession of the document. More importantly, the recipient was not even aware of the issuance of the credit note in April 2022. Expecting him to reverse the ITC on the basis of a document which he is unaware of is clearly incorrect. Similarly, expecting reversal of ITC in September 2022 would also be incorrect. It must be noted that a recipient cannot claim ITC merely on the basis of transaction reflecting in their GSTR-2A. Similarly, a recipient cannot be expected to reverse the ITC merely on the basis of a credit note reflecting in GSTR-2A. Logically, if there is an expectation to reverse the ITC, the same can also be done only when the recipient is in possession of the corresponding document, i.e., credit note. Therefore, one can take a view that the tax period in which the credit note is received by the recipient is the appropriate trigger for reversing the ITC.

Another aspect which needs to be looked into is whether a recipient can defer the reversal of ITC on the ground that the same is not reflecting in his GSTR-2B, and therefore, just like claim of credit is dependent on ITC reflecting in GSTR-2B, even the reversal of ITC should depend on the same. Meaning there can be a situation where the recipient receives the credit note in September 2022 but the same is reflected in GSTR-2B of December 2022. A strict reading of the provision would indicate that just like eligibility to claim ITC is dependent upon the transaction reflecting in GSTR-2B, even the reversal, thereof, should depend upon the transaction getting reflected in GSTR-2B. This is because unless and until the transaction is not reflected in GSTR-2B, the recipient may not be in a position to determine whether the credit note received by him is governed by Section 34(1) or not and whether the recipient has adjusted his outward liability to that extent or not. If the recipient reverses the ITC and the supplier has issued a commercial / financial credit note not governed by Section 34(1), the transaction might end up getting taxed twice, as the recipient would have reversed the ITC and the supplier would not have claimed reduction in outward tax liability.

Another angle to be analysed is from the perspective of ITC claimed on import of goods. At times, after the goods are imported and cleared on payment of IGST, there are credit notes issued by the supplier. Whether a reversal of ITC would be triggered on such credit notes, as there is no exclusion prescribed under the 2nd proviso of Section 16(2) for ITC claimed on import of goods. A view can be taken that since the original document, based on which the ITC was claimed, i.e., bill of entry filed on the strength of commercial invoice issued by the supplier was not a tax invoice, even the consequential credit note cannot be issued u/s 34. Since such a credit note cannot have any GST implications, the question of any consequential impact on ITC should not arise. More importantly, there is also the support to claim that the issuance of a credit note does not result in failure to pay, and therefore, the 2nd proviso of Section 16(2) will also not get triggered in such cases.

CONCLUSION

Issuance of credit notes in commercial parlance is common. However, when such a credit note is issued in relation to a taxable outward supply, it gives rise to tax implications for both, the supplier issuing the invoice from the perspective of claiming reduction in outward tax liability as well as the corresponding recipient from the perspective of liability to reverse the input tax credit, if any. It is, therefore, important that while dealing with input tax credit, both at the time of issuing as well as receiving them, one exercise due care and understand the GST implications thereon.

BCAJ Admin

Corporate Guarantee: Quasi Capital or Taxable Service

Business Conglomerates fund their SPVs, subsidiaries, joint ventures, etc., with self-generated capital and / or leveraged capital. The downstream entity may not be capable of attracting debt capital based on its own net-worth and would require an intervention of the parent entity to guarantee such debt. In many cases, they are also issued to notch-up the credibility of the debt entity and reduce the cost of debt capital.

These Guarantees are reported in the financial statements (as contingent liabilities), Transfer pricing reports (as international transactions), Bank sanction letters and have caught the taxman’s eye of a possible revenue leakage, creating significant litigation under the Direct and Indirect Taxes domain. Therefore, it would be apt to unravel the concept of Guarantees, their forms / types, and the tax exposure they carry under the GST law.

COMMERCIAL UNDERSTANDING

Guarantees are contracts which grant the financier of capital the “assurance” over the repayment capacity of the borrower and carry an “obligation” to make good any default by the borrower entity. In many cases, promoters / directors of the Company (being the deployers of the capital) are also roped into the financial arrangement and made personally liable in case of any default. Such guarantees may also be backed with realisable security (such as deposits, capital assets, mortgageable / pledge assets, etc.,) to secure any default of the guarantor itself.

TYPES OF GUARANTEES

1) Bank guarantees / performance bank guarantees — Banks and FIs issue Guarantees to third parties at the insistence of their customer securing the performance of a financial obligation by the said customer. These guarantees are backed with liquid or illiquid securities which secure any possibility of default by the entity whose obligations are being underwritten. These are issued in Government / large contracts where a contractor must project his financial commitment to deliver such contracts. Banks charge a guarantee commission for the issuance of such guarantee which is liable to GST.

2) Corporate / personal guarantees — Banks / FIs insist that debt capital is supported by due corporate guarantees from their parent entities and hence incorporate guarantee conditions. The parent companies may not charge any fee from the funded entity towards such a guarantee. Promoters / Directors, etc., also extend personal guarantees and are barred from recovering any fee from the related entity in terms of the RBI Master Circular No. RBI/2021-22/121 dated 9th November, 2021.

3) Commercial / standby letter of credit (LC) — This is used commonly in international trade¹. LC is an undertaking, or a guarantee issued, generally by a Bank, to pay to the beneficiary a certain or determinable amount upon simple demand or on presentation of specified documents. Commercial LCs are distinct from standby LCs to the extent that the former involves an upfront payment obligation to the beneficiary while in the case of the latter, the payment obligation is triggered only on a default by the person whose obligation is being guaranteed. Like the Bank guarantee commission, the LC issuance fee is liable to GST.

4) Contractual Performance Guarantee — Similar to bank performance guarantee, the parent entity also guarantees that its SPV, being the awardee of the contract, would successfully and satisfactorily execute the obligations under the contract. It also includes a guarantee that the contract would be performed with the material and workmanship meeting the required standards.

5) Letter of Comfort — Letters of comfort are issued by the Parent entity, more as a moral commitment rather than a legally binding obligation, to discharge the debts of the funded entity in case of there being any default therein. No explicit cost is charged either by the bank / FI from the parent entity for this facility.

Among the above, guarantees by third parties (such as Banks / FIs) are simple and against valuable consideration, and are clearly chargeable to GST. Other forms of guarantee involving related entities (such as Corporate / personal Guarantees, etc.,) have come to the forefront regarding the applicability of GST, in the absence of any visible consideration in the contract. We could address this by going back to the genesis of guarantees from the Contract Act.

1. Governed by Uniform Customs & Practice for Documentary Credits (UCP-600)

INDIAN CONTRACT ACT, 1872

Chapter VIII of the Indian Contract Act, 1872 titled as “Indemnity and Guarantee” contains special provisions for Contract of Guarantee:

“126. A “contract of guarantee” is a contract to perform the promise, or discharge the liability, of a third person in case of his default. The person who gives the guarantee is called the “surety”; the person in respect of whose default the guarantee is given is called the “principal debtor”, and the person to whom the guarantee is given is called the “creditor”. A guarantee may be either oral or written.

127. Anything done, or any promise made, for the benefit of the principal debtor, may be a sufficient consideration to the surety for giving the guarantee.

145. In every contract of guarantee there is an implied promise by the principal debtor to indemnify the surety, and the surety is entitled to recover from the principal debtor whatever sum he has rightfully paid under the guarantee, but, no sums which he has paid wrongfully.”

Contracts are a set of promises and counter-promises wherein each party undertakes an obligation for the benefit of the other. Section 2 of the Contract Act beautifully lays down the sequence in the formation of a contract – a proposal by the promisor, its acceptance by the promisee, leading to an agreement between the promisor and promisee and then finally being sealed as an enforceable contract. Guarantees are one such type of contract of counter-promises which have to evolve through this very same process.

Unlike typical contracts, the definition of guarantee identifies three parties to a contract – “Surety / Guarantor” giving the guarantee, such guarantee being given to the “principal creditor” and the guarantee being rendered in respect of the default of “principal debtor”. The subject-matter of the guarantee (when invoked by the Creditor) could be the “performance of a promise” or “discharge of a liability” of the principal debtor. Each of these terms / phrases are significant and have to be specifically identified in a contract of guarantee. Pictorially it would appear as follows:

Speaking in contract language, the Surety promises / assures the Creditor that the financial assistance proposed to be issued to the Debtor is backed by its guarantee and in the event of the default being committed by the Debtor, the Surety would step into the shoes of such debtor and make good the financial assistance which has been rendered to the Debtor. In the tri-party arrangement, the liability of the debtor and the surety are co-extensive and alteration of the liability simultaneously alters the rights of both parties vis-à-vis the Creditor.

The subject-matter of a contract of guarantee flows from the Surety to the Creditor i.e. the promise of a guarantee, and the recipient of such guarantee is the Principal Creditor. It is against the promise of guarantee that the Principal Creditor extends the financial assistance to the Principal Debtor. Therefore, there are two sets of promises in such a scenario (a) one being the promise of guarantee by the Surety / Guarantor (as a promisor); and (b) the promise of rendering the due financial assistance by the Creditor to the debtor (being the consideration against the promise of guarantee). This would be crucial while applying the concept of supply and consideration under section 7 of the GST law (elaborated later).

After defining the contract of guarantee, section 127 now proceeds to define the consideration of the contract of guarantee. One may note that the Creditor and the Debtor are engaged in an independent debtor-creditor arrangement². The contract of guarantee acts as a top-up to the underlying arrangement where the surety may not receive any direct benefit from the Creditor for extending its assurance / promise. As can be seen from the diagram above, the assurance / guarantee does not have any reciprocal flow of consideration back to the Surety / Guarantor either from the Creditor of Debtor. Thus, in the absence of any consideration, direct or indirect, flowing to the Surety, it was imperative that such contracts are given statutory enforceability, else may constitute a void contract. Section 127 fills this gap by stating that the ‘financial assistance to the Debtor’ against the ‘promise of Guarantee’ would constitute sufficient consideration to the Surety for a rendition of the promise of Guarantee. Technically speaking, the financial assistance to the debtor would constitute sufficient discharge by the Creditor under the contract of guarantee and the Surety cannot claim any further consideration from the Creditor for rendition of such guarantee. However, there is an option for the Surety, though no contractual obligation, to claim a consideration from the Debtor for agreeing to issue such a guarantee.

2. Mak Impex Chemicals vs. UOI AIR 2003 Bom 88

Section 128–144 of the said Act defines the rights, obligations, liabilities, and discharge of the Surety on account of the guarantee extended to the Creditor. Section 145 is critical as it defines the relationship between the Debtor and Surety—it states that there is an implied responsibility by the Debtor to ‘indemnify’ the Surety against all costs which the surety has rightfully incurred under the Contract of guarantee (including costs of defending suits, etc.,). This section grants legal protection to the Surety to proceed against the Debtor for recovery of all costs under this contract despite there being no express contract between these parties. This is akin to an implied contract of indemnity underlying the contract of guarantee and establishes an indemnifier-indemnity holder relationship.

REVENUE’S CONTENTION UNDER GST

Now turning to the revenue’s understanding of this arrangement. Revenue claims that Banks generally charge a fee from third parties for the issuance of Bank guarantees. Corporates issuing guarantees within group entities ought to charge a similar fee to be considered at arm’s length. The issuance of the guarantee is at the request of the related entity. Hence, there is a service being rendered by Surety in delivering a guarantee to the Bank. Thus, the transaction aptly fits into Entry 2/4 of Schedule I and is liable to tax in the hands of the Surety under the residuary services entry @ 18 per cent. In cases where the Surety is located outside India or personal guarantees are provided by Promoter-Directors, RCM is proposed by the Debtor Company as a “recipient” of Corporate Guarantee services. To further the case of the revenue, the GST council has inserted Rule 28(2) to provide a mechanism to value such services. A Circular has also been issued elaborating on the valuation methodology in corporate / personal guarantees.

APPLICATION OF GST LAW

With this backdrop, the points for examination would be as follows:

a) Is there any service between the Surety and the Debtor (as related persons) under a contract of guarantee?

b) Can the guarantee form part of the ‘shareholder function’ as it is provided by the parent company in respect of its related company whose shares it holds?

c) If at all there is a service being imputed under law, what is the taxable value of such service?

Section 7 of GST law stands upon four important pillars (a) an act of supply of goods / service; (b) supplier-recipient relationship; (c) consideration for such supply; (d) supply being in the course or furtherance of business. In cases where a service is being imported from outside India, it is taxable whether or not, it is in the course of business. In respect of related parties, Entry 2/4 of Schedule I excludes the requirement of ‘consideration’ for an activity to constitute a supply.

GST being levied on a transaction of supply can be termed as a “transaction-based tax” involving two or more persons. The Contract Act lays down the foundation for transactions which emanate from contracts between two or more persons. Thus, it is important to intertwine the contract law and the GST law to understand the deemed GST implications in case of related entities located either in India or outside India. The analysis is to take place in two parts (a) Cases where no commission / fee is charged for such activity from related parties (b) Cases wherein a specific charge is made from the related party for such activity. For analysis, “A” may be considered as the Creditor; “C” as the Debtor and “B” as the Guarantor / Surety for the Debtor, with B and C being related entities.

A) Cases where no fee is charged from the Debtor

Is there an Act / Contract of Supply between B and C?

The primary question is whether at all, there is a service being rendered by B to C by issuing guarantee to A, or is it a self-activity done by B for its own interest?

At the outset “activity of supply” should be viewed as emerging from an “enforceable contract” between the contracting parties. The essential elements of a contract should clearly be reflected in the contract of supply for it to be taxable under section 7 of GST law. Invalid, incomplete, or non-existent contracts cannot be considered as taxable or even imputable into section 7. The Bombay High Court in Bai Mamubai Trust³ placed the requirement of an enforceable contract and contractual reciprocity between parties as quintessential for a taxable supply. The Court very finely distinguishes payment of sums in respect of a disputed price of a taxable supply vs. payment of sums towards restitution or damages for an illegal act. Payment of sums for wrongful unilateral acts or damages were not emerging from reciprocal obligations and hence not considered as passing the “supply doctrine”.

Thus, the ingredients of the contract (as elaborated above) are core to the taxation of supply under GST. The terms supplier (promisor), recipient (promisee), the act of supply (promise) and consideration should be explicit and agreed upon by the contracting parties. If a transaction is to be considered as a supply, the contractual obligations and promises should also align with the act of supply i.e. if a service is said to be taxed between a supplier and a recipient, there has to be a contractual obligation by the supplier to render such a service to the recipient. Without any contractual obligation, a service cannot be said to have been agreed between the contracting parties. Gratuitous acts are not meant to be taxed under the GST law⁴. Thus, there is no room for intendment or imputation of a ‘contract’ even by way of a statutory fiction under section 7 of GST law.

3. 2019 (31) G.S.T.L. 193 (Bom.)
4. Circular No. 116/35/2019-GST, dated 11th October, 2019 issued on donations and free gifts

Contract of Guarantee is clearly between B and A under which the promise of guarantee flows from B to A. In consideration for the receipt of the guarantee from B, A renders financial assistance to C. Clearly, C is the only beneficiary of reciprocal obligations between A and B. Neither are B and C acting on behalf of each other while contracting with A. Both the parties have their respective obligations to A: C has its primary obligation to repay the financial debt and B has the co-existent secondary obligation to repay in case it is called upon to do so by A. C (though a witness / signatory) does not have contractual privity to the promise of guarantee. C’s obligation to A emerges from the separate loan contract between A and C. C cannot enforce any of the obligations or promises which is agreed upon between A and B and they stand on an independent footing.

Any supplier-recipient identification under GST law should have contractual authenticity. Similarly, the guarantee service sought to be deemed under Schedule I by the revenue should also possess valid contractual obligations between B and C. Yet Revenue through the CBIC Circular (discussed later) claims that there is a flow of guarantee service by B to C. If we attempt to implement the course adopted by the CBIC circular, we may reach a conclusion which is in direct opposition to sections 125 and 126 of the Contract Act:

Party	Contractual Status	GST imputed status	Implication on account of deeming fiction
B	Guarantor / Promisor	Supplier of Guarantee	B issuing the assurance to C that the Debt will be repaid by C
C	Beneficiary of funds	Recipient of Guarantee	C would be receiving the promise of guarantee for the debt availed by itself
A	Guaranteed entity / Promisee	Neither supplier or recipient	A would be considered as an outsider in this supplier-recipient relationship between B and C

The above table depicts the anomaly which results in imputing a contract of guarantee between B and C. The Contract Act does not identify or even deem any flow of a guarantee obligation by B to C. Therefore, any attempt to impute a contract of guarantee between B to C for the purpose of taxation would be fatal to commercial reality itself.

This brings us to the question as to the true nature of the relationship between B and C. The answer is spelled out in section 145 of the Contract Act. It states that Surety B has an implied right of indemnity against the Debtor C to the extent of financial loss incurred because of the contract of guarantee. Clearly, the consequence of any wrong-doing by C in defaulting in the payment obligation to A, would trigger A’s right to recover the sums from B. B after settling the debts due to A can now claim the said sums as damages indemnifiable under this implied contract. Therefore, the true relationship etched by the Contract Act is that of ‘indemnity’ rather than the act of service by B to C.

Then for what benefit does B issue a guarantee to A where no counter-benefit arises either from A or C? Does the act of agreeing to issue the guarantee constitute a legal obligation by B to C? Can C claim that by virtue of being an invested entity, it can enforce B to issue a guarantee for all the loans C avails from A? Certainly Not. B would have its own vested interests in issuing the guarantee in favour of C. Such issuance would be without any contractual consensus with C. Unless there is an agreed contract, C cannot as a matter of right direct B to issue a guarantee on its behalf. Thus, the issuance of the guarantee by B is on its own account and not ‘on behalf’ of C. Probably, B performs this act for protecting / enhancing its ownership interest in C. B may choose (out of its own volition) to refrain from issuing any guarantee, in which case, the only consequence would be that C may not receive the financial assistance and would be remediless without any legal recourse of B.

This therefore brings us to the commercial rationale of the issuance of Corporate / personal guarantees. As one would appreciate, a guarantee is issued by the Company / person on account of the ownership / financial interest over the entity for whom it is being issued. If not for such interest, the guarantee would not have been issued at all. Thus, the key driver for such a guarantee is the protection / enrichment of its own ownership interest in the subject entity and nothing beyond this. It is a ‘self-activity’ and does not warrant any counter-consideration either from the recipient or the debtor.

In transfer-pricing context, this act was termed as a ‘shareholder function’. Whether a corporate guarantee issued in favour of its subsidiary constituted an ‘international transaction between related parties’ warranting a benchmarking of the said activity to the arm’s length price. This issue was raised based on the definition of ‘international transaction’ (prior to 2012) which required a transaction between related parties having a bearing on the profits, incomes, losses or assets of the related entity. Taxpayers claimed that such issuance did not entail any explicit cost and was part of the shareholder obligation to adequately fund the entity for its business operations. Reliance was placed on OECD Transfer Pricing guidelines which is extracted below:

“Shareholding Activity – An activity which is performed by a member of an MNE (multinational enterprise group) (usually the parent company or a regional holding company) solely because of its ownership interest in one or more other group members, i.e. in its capacity as shareholder.”

When an Activity is considered / not considered as intra-group service

“7.6………………………..This can be determined by considering whether an independent enterprise in comparable circumstances would have been willing to pay for the activity if performed for it by an independent enterprise or would have performed the activity in-house for itself. If the activity is not one for which the independent enterprise would have been willing to pay or perform for itself, the activity ordinarily should not be considered as an intra-group service under the arm’s length principle.”

“7.9. A more complex analysis is necessary where an associated enterprise undertakes activities that relate to more than one member of the group or to the group as a whole. In a narrow range of such cases, an intra-group activity may be performed relating to group members even though those group members do not need the activity (and would not be willing to pay for it were they independent enterprises). Such an activity would be one that a group member (usually the parent company or a regional holding company) performs solely because of its ownership interest in one or more other group members, i.e. in its capacity as shareholder. This type of activity would not be considered to be an intra-group service, and thus would not justify a charge to other group members. Instead, the costs associated with this type of activity should be borne and allocated at the level of the shareholder. ……”

“7.13. Similarly, an associated enterprise should not be considered to receive an intra-group service when it obtains incidental benefits attributable solely to its being part of a larger concern, and not to any specific activity being performed. For example, no service would be received where an associated enterprise by reason of its affiliation alone has a credit-rating higher than it would if it were unaffiliated, but an intra-group service would usually exist where the higher credit rating were due to a guarantee by another group member, or where the enterprise benefitted from deliberate concerted action involving global marketing and public relations campaigns. In this respect, passive association should be distinguished from active promotion of the MNE group’s attributes that positively enhances the profit making potential of particular members of the group. Each case must be determined according to its own facts and circumstances. See Section D.8 of Chapter I on MNE group synergies.”

The above extract clearly ruled out the possibility of an intra-group service to a related entity in case it incidentally benefited from a guarantee issued by its parent entity. A similar analysis was performed by the Income tax appellate Tribunal in Micro Ink’s case⁵ wherein it was examined whether corporate guarantees issued by the Parent Company were not in the nature of ‘provision for service’ but a shareholder function to the invested entity. A retrospective amendment in the definition of ‘international transaction’ vide Finance Act 2012 led to a deemed inclusion of Corporate guarantees as an international transaction. Yet, the decision in Micro Ink’s case considered the retrospective insertion and held that since the said guarantee did not meet the primary threshold of the ‘transaction having a bearing on profits, income, assets or losses’, it was still outside the ambit of the definition. However, subsequent to this, there was an overturn of decisions based on the High Court’s / Tribunal’s view⁶ that such activity was deemed to be an international transaction by virtue of an explicit amendment. While one may believe that this would have limited applicability in view of the distinct fabric of Income tax and GST law, it certainly leaves us with an important conclusion that in the absence of deeming fiction akin to ‘international transactions’ under Income tax, such corporate guarantees may not be considered as a transaction at all, but a self-activity as part of shareholders responsibilities and hence outside the tax net itself.

5. Micro Inks Ltd. vs. Addl. CIT [2015] 63 taxmann.com 353/[2016] 157 ITD 132 (Ahd. – Trib.)
6. PCIT vs. Redington (India) Ltd. reported in 122 taxmann.com 136 (Mad-HC) affirming Prolifics Corporation Ltd. vs. Dy. CIT – Hyderabad ITAT[[TS-497-ITAT-2014(HYD)-TP] ]; Infotech Enterprises Ltd. vs. Addl. CIT - Hyderabad ITAT [TS-159-ITAT-2018(HYD)-TP]; Nimbus Communications Ltd – Mumbai ITAT[TS-43-ITAT-2016(Mum)-TP]

SCOPE OF SCHEDULE I

The role of Schedule I also comes to the forefront when taxpayers claim that there is no service between the related parties and the activity is for ‘own account’. Revenue invokes Schedule I and claims that the relationship has disguised the performance of guarantee service between B and C. B has rendered the guarantee service and has deliberately not charged a consideration. Schedule I addresses such situations and brings to tax the service rendered by B to C.

Truly speaking, Schedule I has been legislated by virtue of section 7(1)(c) to give legal sanctity to acts without consideration in specified cases. If the law was to tax any and every activity (including self-activity), Schedule I need not have to be made so restrictive. Section 7(1)(c) could have simply stated that all acts without consideration are taxable as supply. The purpose of legislating limited entries in Schedule I is to identify commercial cases where consideration may not be charged on certain counts even-though there exists a contractual obligation (oral / written) between the parties concerned. The question to be asked before applying Schedule I is this – “Whether there exists any contractual obligation between the related parties?” If the answer is in the negative (like a gratuitous or self-act), one may not even enter Schedule I for application. To reiterate, Schedule I is designed only to fill the gap of consideration but not to deem / impute a contract itself between related parties.

This conclusion also emerges from the title of Schedule I which uses the phrase “Activities treated as supply even if without consideration” indicating that only activities which fall short of being treated as supply u/s 7(1) on account of a ‘lack of consideration’ would be deemed as supply. As a corollary, it means that a mere existence of a relationship would not constitute a supply of goods / services. There must necessarily be an identifiable supply under section 7(1), albeit absent a consideration, prior to invoking the entries in Schedule I. Guidance is obtained from the entries and adjunct circulars on this aspect.

Section 7(1)(c) itself deems an act as ‘Supply’ under Schedule I only if it is “made” or “agreed to be made”. Making of an agreement cannot be with oneself and requires the consensus of another person.
Use of the phrase ‘transfer’, ‘supply’, ‘import of service’ in the entries itself emphasise that other requirements of supply (u/s section 7(1)) are mandatory.
Supply being a commercial term is used in trade or business involving sale, transfer etc., for consumption. The deeming fiction in Schedule I is an extension of such supply-consumption theory;
In the context of goods, circulars have treated mere movement of goods without any transfer as not involving as supply (e.g., warranty replacement, job work movement, inter-state movement of goods rigs / equipment, free supply or gifts to customers, etc.,).
In the context of services, circular on liquidated damages, penalties, late payment charges etc., emphasise the requirement of an agreement or contract for the provision of service for the imposition of tax i.e., contractual relationship is an essential element of supply;

Thus Schedule I is to be invoked only when a service (guarantee or any other identifiable service) is provided between the related parties concerned. Any artificial imputation of a contract of guarantee between B and C would result in grave anomaly as tabulated above. It’s a different matter that revenue may claim that the activity is in the nature of a support function to agree to issue the guarantee, but certainly cannot claim it to be a guarantee service.

IS THERE A SERVICE PROVIDER — RECIPIENT RELATIONSHIP?

This now takes us to the question of whether at all there is a service provider-recipient relationship between the parent and related entity. Of course, once it is established that there is no service at all and the entire activity is a shareholder function, there is no requirement to examine this point. Yet to allay any doubts, an examination of the strict definition of service provider (supplier) and service recipient (recipient) can be made. Typically, revenue places the argument that an act of guarantee by the Surety constitutes a service provider-recipient relationship between the B as a service provider and the C as a service recipient. This is on the premise that a service flows from Surety to Debtor.

Supplier — Section 2(105) defines a supplier as the person supplying the service and includes an agent acting on his behalf. Under Section 126 of the Contract Act, the promise of the contract of guarantee (being the rendition of the service) flows from the Surety (say Parent Co / Director) to the Principal Creditor (Banks / FIs). In such contracts, the supplier of a service (if any), in terms of 2(105), is clearly the Surety / Guarantor who is issuing the promise of guarantee and rendering the service. Till this juncture the contract law and GST law are aligned as the Surety is the person who is rendering the guarantee promise and liable to be called a supplier.

Recipient — 2(93) defines a recipient as the person who is “liable to pay” the consideration for the rendition of service and where no consideration is payable, the person “to whom the service is rendered”. It is here where the legal error appears to be committed by the Revenue. Contractually, the service of guarantee is being rendered only to the Banks / FIs. Banks are also the ‘beneficiary of the guarantee obligation’ which is being issued by the Surety. In the eventuality of any default, the promise / assurance to recoup the loss endures to the benefit of the Creditor. The confusion arises because the ‘beneficiary of funds’ is mixed with ‘beneficiary of the guarantee service’. This fine distinction can only be solved by appreciating the contract law implications as elaborated above.

C has undoubtedly been the beneficiary of the loan, but that does not by implication make it the beneficiary of the guaranteed service. The loan may be disbursed as a consequence of the guarantee obligation. The debtor (except where a fee is being specifically charged) in no circumstance can be treated as the contractual recipient of the guarantee. Clearly, there is no service provider-recipient relationship between the B as a Surety and the C as Debtor. Thus, revenue’s contention that the Debtor is a ‘recipient’ of the guarantee service and liable to tax under reverse charge provisions fails on this front.

FLOW OF CONSIDERATION FOR SUPPLY?

One may traverse further into the scope of the term consideration. Section 2(31) defines consideration as any monetary or non-monetary act in response to or in respect of or for inducement of the act of supply. To impose a tax on the guarantee, it is imperative that C should be liable to pay a consideration to B. C would be liable to pay a consideration only if B was obligated to render the Guarantee service. But since B performs the guarantee on its own behest as a shareholder function, it cannot be said that C has induced the performance of the guarantee service. While one may say that the relationship between B and C has induced the act of guarantee, the mere existence of a relationship between B and C cannot be termed as a consideration in terms of 2(31) of the GST law.

The revenue places reliance on the Edelweiss Financial Services decision (refer to later para) to claim that the element of consideration which was absent in the service tax regime has been made good by virtue of Schedule I and hence the transaction is now taxable. However, this argument fails to appreciate that there is certainly a consideration in this contract in terms of section 126. Section 126 of the Contract Act identifies the consideration in the said contract of guarantee as being the financial assistance by A to C i.e. involving the issuance of the debt itself. B has been the recipient of the consideration in terms of the Contract Act in the form of the disbursement to C. In which case it would be incorrect to state that guarantee service has been rendered without consideration. No other consideration has been identified under the Contract law and hence one cannot impute a consideration between B and C merely to invoke Schedule I between the parties. The act of the revenue to invoke Schedule I on the premise that there is no consideration flowing to B is against the contract law provisions itself.

RECENT DEVELOPMENTS

An issue arose before the Supreme Court in the context of the negative list regime of service tax in the case of Edelweiss Financial Services⁷. The Court while affirming the decision of the Mumbai tribunal held that “consideration” is an inevitable requirement of taxation and the absence of such consideration to compensate for the corporate guarantee activity, rendered the transaction as non-taxable. Amidst this uproar, 51st GST Council took cognizance and recommended legislation of a deemed valuation rule in the form of Rule 28(2) w.e.f. 26th October, 2023:

“(2) Notwithstanding anything contained in sub-rule (1), the value of supply of services by a supplier to a recipient who is a related person, BY WAY of providing corporate guarantee to any banking company or financial institution ON BEHALF of the said recipient, shall be deemed to be one per cent of the amount of such guarantee offered, or the actual consideration, whichever is higher.”

Parallelly, CBIC’s Circular⁸ clarifies the issue from a valuation perspective:

Issue of corporate guarantees by Corporates to related entities

In view of Schedule I and section 15, the activity of providing “guarantee by the parent entity to the Bank / FIs” is treated as a “service by the parent entity to the related entity”. Valuation is to be performed in terms of Rule 28. W.e.f. 26^th October, 2023 – rule 28(2) deems the value of such service at 1 per cent of the amount guaranteed

Issue of personal guarantees by Directors to related entities

While the issuance of personal guarantees is a deemed service in terms of Schedule I, in view of RBI’s circular⁹ which bars charging any commission or fee for such activity, it was clarified that there cannot be an open market value for such activity and hence the said activity is not taxable. It is surprising that the circular reaches the conclusion of non-taxability without testing other valuation alternatives and Rule 31 (residual method).

7. [2023] 149 taxmann.com 76 (SC) affirming (2023) 5 Centax 57 (Tri.-Bom)
8. Circular No. 204/16/2023-GST dated 27th October, 2023
9. Para 2.2.9 (C) of RBI's Circular No. RBI/2021-22/121, dated 9th November, 2021

The GST council has curiously introduced Rule 28(2) for the valuation of Corporate / Personal Guarantees, by-passing the examination of taxability itself. The GST council has presumed that there is a guarantee service activity which flows from the Surety (B) to the Debtor (C) in all cases. This is evident from the literal wordings of Rule 28(2) which identifies the supply as being ‘by way of’ providing a corporate guarantee service to a Company / FI ‘on behalf of’ a recipient.

Rule 28(2) and circular seem to be creating a dichotomy by attempting to identify the service as a ‘guarantee service’ and also deeming it to be rendered to the Debtor. This clearly does not align well with the contractual structure prescribed in the Contract Act. Neither the definition of recipient nor section 7(1)(c) r.w. Schedule I, permits the rules to deem the ‘guarantee service’ as flowing from the Surety to the Debtor.

One may only probably view the rule to be applicable where an enforceable contract is agreed between B and C, wherein B takes on an obligation to issue a guarantee to A. The obligation under the contract would merely be an ‘agreement to issue a corporate guarantee to the Bank’ but would not be the act of guarantee itself. One may call it a financial support activity or by any other nomenclature but in substance such obligation cannot be the guarantee obligation as understood in terms of section 125 of the Contract Act.

Taking this perspective forward, Rule 28 would now attempt to value the support activity between related persons. Pre-amendment, in the absence of any consideration being charged, the said rule would rely upon the ‘open market value’ or the ‘value of like services’ or the ‘cost approach’. The first proviso to the said rule also provided flexibility to adopt a nominal fee as low as even “Zero” if the recipient was eligible to avail input tax credit. In view of this subjectivity, the manner of valuation of the open market value varied across various jurisdictions—while some adopted the SBI / Bank rate for guarantee commissions, others adopted ad-hoc rates leaving it to the taxpayer to defend with a better alternative. The amendment has now swept away the flexibility. It pegs the rate at 1 per cent of the amount of guarantee or the actual consideration, whichever being higher¹⁰.

10. The practice of fixing such ad-hoc rates through valuation rules is a separate debate.

Assuming the rule is valid, the intriguing question is whether the amended rule in its zeal to value the support activity misdirected itself in going after a non-taxable guarantee activity. Special importance should be placed on the phrase ‘by way of providing corporate guarantee’ and ‘on behalf of the recipient’ in the said Rule. Since the presence of a guarantee is already negated, the ad-hoc valuation rules introduced do not seem to be valuing the support function between B and C. Though support function may ultimately lead into a guarantee provided to the Bank / FI but the mere agreement to do so (between B and C) is not guarantee service per se. Hence one can clearly claim that in such a fact pattern, Rule 28(2) does not have applicability, and one may have to fall back upon the default option as available pre-amendment i.e. open market value, etc., As a consequence, the flexibility of 1st proviso granting the leverage to adopt any value (subject to full input tax credit at the recipient’s end) would now become available. Propagators of this rule may contend that this interpretation would make the rule itself redundant and inapplicable in all cases. Probably the rule would have limited applicability within Banking sectors where Bank / FIs act as co-guarantors in large arrangements. However, redundancy (if any) cannot result in forceful application of the provisions to a non-existent contract.

B) Cases where a consideration is charged or a contract is entered

No doubt the scenario changes completely if B and C enter into a specific contract wherein B is obligated to issue a corporate guarantee in consideration for a commission. This would be an enforceable contract wherein B would be receiving consideration in exchange for the promise of guarantee by B to A. In such case, the guarantee service has been induced by virtue of the contractual obligation and against a consideration flowing from C to B. Section 2(31) r.w. 2(93) clearly spells out that where a specific consideration is charged, the person liable to pay consideration would be termed as a ‘recipient’ of service. In view of the specific provision to treat C as the recipient of service and an identifiable flow of consideration inducing the guarantee, tax may possibly be invoked in such cases.

In summary, the legislation has not permitted imputation of any contract of guarantee de hors the contract law legislation. Thus, any assumption of a guarantee service by Surety to the Debtor is unwarranted. The service, if any, between the related entities may be a support function if the Surety takes it as part of a contractual obligation (such as under a shareholder agreement, etc.,). In case a consideration is charged by the Surety to the Debtor, such consideration is not towards the guarantee service, but rather a support function and is liable to be taxed accordingly. Though the law is settled under the service tax regime, the unfolding of the true picture under the GST setting would certainly be an interesting journey.

BCAJ Admin

Tax Implications on Assignment of Lease-Hold Rights

INTRODUCTION

Section 105 of the Transfer of Property Act, 1882 defines a lease of immoveable property as a transfer of a right to enjoy such property, made for a certain time, express or implied, or in perpetuity, in consideration of a price paid or promised, or of money, a share of crops, service or any other thing of value, to be rendered periodically or on specific occasions to the transferor by the transferee, who accepts the transfer on such terms.

It has been a common practice for Governments and instrumentalities acting on behalf of Governments to allot parcels of lands on long-term leases. Such typically entail a one-time upfront premium (which fairly approximates the value of the land) and a periodic nominal rent (which also in many cases is compounded and collected upfront). The lease agreements executed between the lessor and the lessee may contain restrictive covenants in terms of use of the property, however, only subject to such restrictive covenants, the lessee is entitled to free use and enjoyment of the property in his own right. Further, such lease agreements permit a free transfer of the property by the lessee to third parties subject to approvals and payment of fees.

When service tax was introduced on ‘Renting of Immoveable Property Services’, the Department attempted to impose service tax on such Governments or instrumentalities and the same was widely challenged on various grounds. The matters are currently sub-judice and pending before the Courts.

The introduction of GST compounded the confusion due to a perceived wide interpretation of the term ‘service’ and limited applicability of exclusion under Schedule III of the CGST Act, 2017. A challenge against the collection of GST by an association of allottees was negated by the Bombay High Court in the case of Builders Association of Navi Mumbai vs. Union of India 2018 (12) GSTL 232 (Bom) and the appeal before the Supreme Court was also dismissed.

LEGISLATIVE DEVELOPMENTS

Considering the challenges of imposition of GST on the lease premium (which fairly approximates the value of land), Entry 41 of Notification 12/2017-CT(Rate) provided for an exemption from GST for one-time upfront amount (called as premium, salami, cost, price, development charges or by any other name) leviable in respect of the service, by way of granting long term (thirty years, or more) lease of industrial plots, provided by the State Government Industrial Development Corporations or Undertakings to industrial units. The said entry was amended from time to time.

Further, in cases where the land was further used for the development of real estate for further sale, Entry 41A inserted with effect from 1st April, 2019 provided for a partial exemption to the extent of sale of residential apartments prior to completion certificate and also prescribed a reverse charge mechanism making the promoter liable for payment of GST.

In view of the above entries, the transaction related to the allotment of plot of land by the Governments and instrumentalities to the allottees is by and large immune from GST except to the extent of proportionate reverse charge mechanism in the hands of the promoter. However, a new controversy is brewing in respect of secondary transactions i.e. the further assignment of lease by the original allottee to third parties.

SCENARIOS

Typically, an allotment of plot of land by the Government instrumentality to a promoter for real estate development would also entail a secondary transaction whereby the promoter would convey the rights in the leasehold land in favour of the proposed society of the apartment buyers. Such an allotment arises out of the covenants agreed upon in the agreement for sale entered into with individual buyers and does not bear a distinct discernible consideration. Entry 16(ii) of Notification 11/2017-CT(Rate) provides for a NIL Rate of tax for the supply of land or undivided share of land by way of lease or sub-lease where such supply is a part of composite supply of construction of units thereby resolving the issue for secondary transactions in case of real-estate development.

However, no explicit exemption entries prevail in case of secondary or subsequent transactions involving an assignment of lease in the underlying land.

In this article, we have discussed the GST implications which revolve around such subsequent transactions of assignment of such long-term leases. While the Supreme Court decision in the case of Builders Association (supra) has already held that GST is attracted on the lease premium, it may still be appropriate to examine the issue de novo due to various legislative developments, which may be useful to distinguish the said decision.

IS LAND, THE SUBJECT MATTER OF LEVY, “GOODS” OR “SERVICE” FOR THE PURPOSE OF GST?

Section 7 includes within the scope of supply all forms of supply of goods or services or both such as sale, transfer, barter, exchange, licence, rental, lease or disposal made or agreed to be made for a consideration by a person in the course or furtherance of business.

A simple grammatical interpretation of the above would suggest that the coverage of a particular transaction under the scope of supply depends on two important parameters — (a) the form of supply — which is widely defined to include all forms of supplies such as sale, transfer, barter, exchange, license, rental, lease or disposal and (b) the subject matter of supply — which is specifically defined to include only ‘goods’ or ‘services’ or ‘both’.

It appears that the scope of coverage can be appreciated only if both the elements i.e. the form of supply and the subject matter of levy are independently analysed. An easy analogy to understand the de-coupled nature of the form and the subject matter of the supply is to examine the scenario of a motor car, which as a subject matter of supply would always constitute ‘goods’. However, depending on the form of supply, i.e. whether it is supplied by way of sale or by way of lease, the transaction would be treated either as supply of goods or supply of services.

Therefore, it first needs to be analysed whether land (as a subject matter of supply) can be considered as goods or services or both? This analysis needs to be de hors of the form of supplying the said land.

The term “goods” is defined under section 2(52) to mean every kind of movable property other than money and securities but includes actionable claim, growing crops, grass and things attached to or forming part of the land which are agreed to be severed before supply or under a contract of supply. Since in the instant case, the subject matter of the transaction is an immoveable property, it is evident that there is no supply of goods.

This takes us to the definition of the term “service” which is defined under section 2(102) to mean anything other than goods, money and securities but includes activities relating to the use of money or its conversion by cash or by any other mode, from one form, currency or denomination, to another form, currency or denomination for which a separate consideration is charged. It is evident that service has been very loosely defined under GST. A literal reading of the definition indicates that anything which is not classifiable as goods would be a service. However, the context requires that a purposive interpretation rather than a literal interpretation of the definition should be adopted. The purposive interpretation would suggest that the subject matter of the transaction should bear an essential character of service.

In Hotel and Catering Industry Training Board vs. Automobile Proprietary Limited – (1968 (3) All. E.R. 399 (at page 402 (E)), Lord Denning speaking for the Court of Appeal explained as under:

“It is true that “the industry” is defined; but a definition is not to be read in isolation. It must be read in the context of the phrase which is defines, realizing that the function of a definition is to give precision and certainly to a word or phrase which would otherwise be vague and uncertain – but not to contradict it or supplant it altogether”.

In HariprasadShivshankar Shukla vs. A.D. Divelkar — AIR 1957 SC 121, a railway company was taken over by the Govt. of India. The railway company served a notice to its workmen to terminate the services of all workmen. The Supreme Court held that in ordinary acceptance, retrenchment connotes that the business itself is being continued but the portion of the staff or labour is discharged as surplusage. In view of the above ordinary acceptance, the Supreme Court held that the termination of service of all workmen as a result of the closure of business cannot be properly described as retrenchment as defined in Section 2(oo) of the Industrial Disputes Act, 1947.

From the above settled position for interpretation of a definition clause, it is clear that one has to find what is the ordinarily accepted version of the expression defined and, thereafter find whether the said ordinarily accepted version fits in with the requirement of the definition clause. However, the definition cannot be interpreted in a manner so as to destroy the essential meaning of the term defined.

Therefore, it needs to be seen as to what is the essence of the word ‘service’. Prior to the introduction of GST, the term service was defined under section 65B(44) of the Finance Act, 1994 to mean any activity carried out by a person for another for consideration. It thereafter included declared services and excluded certain transactions. The basic meaning attributed to the concept of service was any activity carried out by a person for another for a consideration which provides the essence of the general understanding of the word service and a similar context should be applicable in the GST law as well especially considering the fact that the GST Legislation in effect is consolidating many erstwhile indirect taxes rather than imposing a tax on some activities / sectors which were not taxable earlier.

We can also read the definition of service as being anything other than goods in the context of the Supreme Court decision in the case of Tata Consultancy Services Limited vs. State of Andhra Pradesh [2004 (178) ELT (022) SC] where the fundamental attributes of goods were listed. In the said case, the Hon’ble Court held that any property becomes goods if it satisfies the three conditions, namely utility, capability of being bought and sold and capability of being transmitted, transferred, delivered, stored and possessed. The relevant extracts are reproduced below for a ready reference:

It is not in dispute that when a programme is created it is necessary to encode it, upload the same and thereafter unloaded. Indian law, as noticed by my learned Brother, Variava, J., does not make any distinction between tangible property and intangible property. A ‘goods’ may be a tangible property or an intangible one. It would become goods provided it has the attributes thereof having regard to (a) its utility; (b) capable of being bought and sold; and (c) capable of transmitted, transferred, delivered, stored and possessed. If a software whether customized or non-customized satisfies these attributes, the same would be goods. Unlike the American Courts, Supreme Court of India have also not gone into the question of severability.

As rightly held in the above decision, any property, whether tangible or intangible is classifiable as goods if it has the following attributes, namely:

a. The item should have a utility.

b. The item should be capable of being bought and sold.

c. The item should be capable of being transmitted, transferred, delivered, stored and possessed.

In fact, the concept of transferability provides the attribute of ‘anything’ becoming property. Such properties can be further classified into moveable properties, immovable properties, tangible properties or intangible properties. Some of these may constitute goods while some may not. When the concept of service is examined, it has to be examined vis-à-vis this aspect of transferability. If there is a possibility of transferability, it would not amount to a service.

Therefore, a view can be taken that land cannot be considered either as ‘goods’ or as ‘services’. At this point in time, it must be noted that there is a distinction between the subject matter of supply and the form / manner of the supply. For example, irrespective of whether a motor car is sold or leased, the subject matter of the supply being a motor car continues to remain ‘goods’ and would be treated as such under Section 7(1)(a) of the Act. However, in view of the principles of classification provided under Section 7(1A) read with Schedule II, the sale of a motor car would be treated as the ‘supply of goods’ whereas the lease of a motor car would be considered as the ‘supply of services’. Applying a similar analogy, ‘land’ being the subject matter of the current transaction, cannot be treated as goods or services or both and one need not get carried away by the form / manner of the supply to determine whether the land is goods or services. In other words, Schedule II which treats certain activities or transactions as the supply of goods or services or both shall not have any bearing on the decision of whether the transaction constitutes a supply of service or not.

IF YES, WHAT IS THE FORM / MANNER OF SUPPLY?

Once it is accepted that ‘land’ as a subject matter of the supply does not constitute either goods or services or both, this question becomes redundant. However, to address the said question, it is evident that the term ‘supply’ includes all forms of supplies such as sale, transfer, barter, exchange, licence, rental, lease or disposal. Therefore, merely restricting the analysis from the point of view of the form / manner of the supply and ignoring the subject matter of supply being goods or services or both, one may conclude that both sale as well as lease are within the scope of supply.

Ignoring the subject matter of supply being goods or services or both, one may be then tempted to refer to Entry 5 of Schedule III of the Act. The said entry, inter alia, specifies that the “sale of land” shall be treated neither as supply of goods nor supply of services. The verbiage under the said Entry could then be compared with the exclusion under the erstwhile service tax law wherein “a transfer of title in goods or immovable property, by way of sale, gift or in any other manner” was excluded from the definition of service. Therefore, one may be tempted to imply that the GST Law proposes to provide for a limited exclusion for ‘sale of land’ and other transfers pertaining to land are not explicitly excluded and therefore a subject matter of GST.

However, in this context, it may be important to appreciate that the levy of GST is not governed by Schedule III. It is rather governed by Section 9 read with Section 7(1). As discussed earlier, it is possible to argue that in the instant case, land cannot be considered either as goods or as services. It is an accepted principle in law that an exclusion clause, being a benevolent one, can only exclude something which was originally covered and would have no effect in cases where the original coverage itself is in doubt. More importantly, an exclusion clause cannot be reverse-read to presume the existence of taxability and cannot thereby cast an onerous burden on the taxpayer which never existed. Useful reference can be made to the decision of the Supreme Court in the case of Gypsy Pegasus Limited vs. State of Gujarat 2018 (15) GSTL 305 (SC).

Further, a long-term lease of 99 years in essence represents a transaction of sale of immovable property and cannot be considered as renting / service simpliciter. In fact, the purpose of the Corporations entering into a long-term lease arrangement is merely to retain control over the development of the region. It does not mean that the person who has been allotted the plots is not the owner of the plot. Various clauses in the lease agreement, the intention and conduct of the parties clearly vindicate this position.

The provisions of various enactments, particularly the Transfer of Property Act, 1882 and various decisions in the context of a diverse set of legislations including the Consumer Protection Act, 1986, and the Income-tax Act, 1961, etc. also support this proposition that a long-term lease arrangement, in substance, represents a transfer of a right in immovable property and not a service. The following table summarises some of these provisions:

Legislation / Agency / Judiciary	Gist of the Relevant Provision / Decision
*Tulsi vs. Paro — 1997 (2) SCC 706 (SC)*	A lease of an immovable property creates an interest or a right in favour of the lessee as against a license wherein no such right in the property is created. In the proposed transaction, it is evident that transfer of leasehold rights in land against the receipt of a consideration constitutes a “demise” of property in favour of the transferee / lessee. Such an activity is clearly an activity of transfer of right in the immoveable property and therefore cannot be considered as a service.
Section 105 of the Transfer of Property Act, 1882	Lease is defined as a transfer of right to enjoy such property.
The Bombay Stamp Act, 1958	A person acquiring a land on lease for a period more than 15 years has to pay stamp duty on 90 per cent of the market value of the land which implies that such an acquirer is treated as an owner of the land himself and Stamp Duty is collected on an appropriate basis from him.
Foreign Exchange Management Act, 1999	A transaction of lease exceeding five years is treated as a capital account transaction by the Reserve Bank of India implies that the transaction is not that of procurement of service.
*U.T. Chandigarh Administration & … vs. Amarjeet Singh And Ors (2009) 4 SCC 660 (SC)*	The auction of plot of land does not involve rendering of any service as there is no hiring or availing of services by the person bidding at the auction and consequently the act of leasing plots by auction by the appellants did not result in the successful bidder becoming a `consumer’ or the appellants becoming `service providers’.
Lucknow Development Authority and Ghaziabad Development Authority (SC)	Clear distinction drawn between delay in granting possession of undeveloped existing sites on lease and developed sites, which categorizes the former as not
	entailing denial or deficiency in service.
*Abhay Pratap Singh vs. Capital Promoters Pvt. Ltd 1992 73 CompCas 149 (SC)*	Clear exclusion of outright sale of immovable property by one person to another person from the definition of service under the MRTP Act, 1969.
*Magus Construction Pvt. Ltd. vs. Union of India [2008 (11) S.T.R. 225 (Gau.)]*	The term service is defined as an activity which denotes transformation of use of goods as a result of voluntary intervention of the Service Provider and is an intangible commodity in the form of human effort. This clearly indicates that passive transactions involving transfer of rights in immovable property cannot be classified as services.
*European Union Court in Belgium vs. Temco Europe SA [Case C-284/03 of 18-11-2004]*	Leasing / letting of immovable property is a passive transaction and hence it would not be liable to VAT.
*1) Assam Bengal Cement Company Limited vs. CIT [1955] 27 ITR 34 (SC)* *2) DurgaMadiraSangh vs. Commissioner of Income Tax [1969] 72 ITR 769 (SC)* *3) CIT vs. Panbari Tea Co. AIR 1965 SC 1871 (SC)*	Lease premium paid up front, when the lessee acquires the interest in the property, is a single payment made towards the acquisition of a right and is a capital income and cannot be termed as a rental income, which is received periodically against a stipulation for continuous enjoyment of benefits.
Mukund Limited [2007] 291 ITR (AT) 249 (Mumbai Tribunal)	Lease premium cannot be termed as advance payment of rent or any payment towards rent, since it is a capital expenditure.
*CIT vs. PrabhuDayal 1971 82 ITR 802 (SC)*	A distinction has to be drawn between a payment made for services or discharge of liabilities or compensation for termination of an income producing asset. The latter is not recurring in nature and hence cannot be a revenue receipt. The amount realized on account of grant of right to enter and construct on the premises followed by subsequent agreement to lease constitutes parting away of the plot of land and hence is a capital receipt.
Various Financial Institutions / Banks	The lease premium paid by the allottee can be financed by the bank since the bank recognizes the lease premium as an amount paid towards acquisition of asset and not towards consumption of service.
Accounting Treatment in the books of the allottees	The lease premium paid towards the rights purchased by various allottees is capitalized in their books of accounts and not treated as a service which is immediately consumed.

At this juncture, it may be relevant to examine the decision of the Bombay High Court in the case of Builders Association of Navi Mumbai vs. Union of India 2018 (12) GSTL 232 (Bom) wherein the Court held that one-time lease rent paid as consideration to Government agency, CIDCO, for the lease of land for residential / commercial purposes, was liable to Goods and Services Tax as any lease, tenancy, easement, licence to occupy land was covered under ‘supply of services’ under GST Act and only those transactions or activities of Government or Statutory authorities could be exempted which are specifically notified to be so which wasn’t the case in this particular scenario.

While the Bombay High Court decision may suggest that GST is payable on the grant of leasehold rights in a plot of land, it may be important to note that the said decision was heavily influenced by the law then prevailing. The scope of supply is provided under section 7(1). Sub-clause (d) thereof, at the relevant point of time, included the activities to be treated as supply of goods or supply of services as referred to in Schedule II within the scope of supply. The Hon’ble Court was guided by Entry 2(a) of Schedule II inter alia mentioning lease of land and the placement of sub-clause (d) to conclude that in view of the inclusive nature of Schedule II, the Court is prohibited from probing further in the said matter.

Further, the Bombay High Court also observed that Section 7(2) permitted the Government to notify certain activities as neither supply of goods or services and that no such notification was issued. The said observation of the Bombay High Court in para 12 of the said decision, with due respect is factually incorrect, since Notification 14/2017-CT(Rate) as amended by Notification 16/2018-CT(Rate) indeed provided for an exemption for services by way of any activity in relation to a function entrusted to a Panchayat or to a Municipality under article 243G or 243W of the Constitution.

However, subsequent to the pronouncement of the said decision, the CGST Act was amended with retrospective effect whereby sub-clause (d) was deleted from Section 7(1) and was introduced in a slightly different manner as Section 7(1A). Through the said retrospective amendment, it is specifically provided that only where certain transactions constitute a supply in accordance with Section 7(1), will they be treated as a supply of goods or services as mentioned in Schedule II. Effectively, the retrospective amendment relegates the entries mentioned in Schedule II as classification entries rather than deeming entries.

When the Bombay High Court decision was agitated in an SLP before the Supreme Court, the Hon’ble Supreme Court dismissed the SLP. However, it may be important to note that the Supreme Court clarified that it has not examined the question of exemption or the scope or ambit of expression in Clause 2(a) of Schedule II and left those issues open. As such, despite the dismissal of the SLP, it can be said that the final findings of the Bombay High Court decision are still open for judicial review.

The above discussion indicates that there is a possible view to suggest that entering into an agreement for the lease of land may not constitute a supply of goods or services or both and therefore, shall not attract the levy of GST. In that scenario, the exemption provided by entry 41 becomes redundant. It must be noted that merely because an exemption is granted does not make the transaction taxable in the first place, as held by the Hon’ble Supreme Court in the case of Larsen & Toubro Ltd. [2015 (39) S.T.R. 913 (S.C.)] wherein it has been held as under:

In case it is ultimately held that the grant of long-term lease of land is not covered under the GST Law, it would logically follow that even a subsequent assignment of the leasehold rights should also be granted the same tax treatment. However, irrespective of the tax treatment of the original transaction, there are certain additional points which can be used to argue non-taxability for assignment transactions as discussed in the subsequent paragraphs.

Whether the transaction of assignment of lease is governed by the ‘scope of supply’?

Section 7(1)(a) defines the scope of supply for the purposes of the levy of GST. The said provision is triggered only when the supply is in the course or furtherance of business. When a person engaged in a business activity had acquired the lease rights in the said property with an intention to use the said premises for the business, carried on the business from the said premises for some years and then assigned the lease rights to a third party, the moot question that needs analysis is whether the assignment of the lease rights is in the course or furtherance of such person?

The term ‘business’ is widely defined under section 2(17) of the CGST Act, 2017 to include the following:

(a) any trade, commerce, manufacture, profession, vocation, adventure, wager or any other similar activity, whether or not it is for a pecuniary benefit;

(b) any activity or transaction in connection with or incidental or ancillary to sub-clause (a);

(c) any activity or transaction in the nature of sub-clause (a), whether or not there is volume, frequency, continuity or regularity of such transaction;

(d) supply or acquisition of goods including capital goods and services in connection with commencement or closure of business;

(e) provision by a club, association, society, or any such body (for a subscription or any other consideration) of the facilities or benefits to its members;

(f) admission, for a consideration, of persons to any premises;

(g) services supplied by a person as the holder of an office which has been accepted by him in the course or furtherance of his trade, profession or vocation;

(h) activities of a race club including by way of totalisator or a license to book maker or activities of a licensed book maker in such club; and

(i) any activity or transaction undertaken by the Central Government, a State Government or any local authority in which they are engaged as public authorities;

It may be noted that the assignor may not be in the business of buying and selling immovable properties or obtaining and assigning leases in immovable properties. Therefore, by itself, the act of assigning the lease rights in the plot of land cannot constitute ‘business’ under sub-clause (a). Further, the action of assigning the lease right in the immoveable property cannot be considered to be incidental to the business and therefore sub-clause (b) is not attracted.

Clause (d) may become applicable only in limited cases when the assignment takes place on account of the closure of business. However, if the assignment takes place for other reasons, such as relocation of business, it cannot be said that the assignment of the lease rights is in connection with the closure of business (as the business continues) and therefore even sub-clause (d) is not applicable. No other subclauses of the definition of business are relevant to the current discussion. Therefore, it can be said the assignment of lease rights is not in the course or furtherance of its business and therefore, the same is not liable for GST.

One more aspect to examine is that Schedule II treats the lease of land as a service. Even if a conservative view is taken that Schedule II is inclusive and not clarificatory in nature, there is no relationship between a lessor and lessee, between the assignor and the intending Buyer. The Corporation continues to remain lessor in all situations. Through the assignment agreement, the assignor agrees to cease to be a Lessee and facilitate the Buyer becoming the Lessee. In the absence of a direct Lessor-Lessee relationship between the assignor and the Buyer, Entry 2(a) of Schedule II treating the lease of land as a service does not get triggered.

Therefore, a view can be taken that GST is not payable on the consideration for assignment / transfer of leasehold rights in the Land by the assignor to the Buyer.

If the assignor takes a conservative view, is the benefit of entry 41 available?

As discussed above, entry 41 conditionally exempts following services:

[Upfront amount (called as premium, salami, cost, price, development charges or by any other name) payable in respect of service by way of granting of long term lease of thirty years, or more) of industrial plots or plots for development of infrastructure for financial business, provided by the State Government Industrial Development Corporations or Undertakings or by any other entity having [20] per cent, or more ownership of Central Government, State Government, Union territory to the industrial units or the developers in any industrial or financial business area.]

The question that arises is whether the assignor can claim exemption on the assignment of the lease to a third party. The above-mentioned entry grants an exemption for an upfront amount (called as premium, salami, cost, price, development charges or by any other name) payable in respect of service by way of granting of long-term lease of thirty years, or more. While one may be tempted to treat such an exemption as restrictive only to the lessor, the usage of the words ‘any other amount’ expands the scope of coverage under the said entry.

In addition, a view can be taken that what is sought to be exempted is the amount payable for “service by way of granting of long-term lease of thirty years, or more) of industrial plots or plots for development of infrastructure for financial business, provided by the State Government Industrial Development Corporations… …”. It may be noted that after the assignment, the lessee changes but not the lessor. It must also be noted that the fourth proviso to conditions listed in Entry 41 has reference to subsequent lessee clearly indicating that the entire chain of transactions is sought to be exempted by the said entries. However, such exemption would be subject to the other conditions prescribed in the notification, one of which is the end use, i.e., the land should continue to be used for the purposes for which the lease was granted.

CONCLUSION

A plain reading of the provisions might tempt one to take a view that an assignment of long-term leasehold rights is a taxable supply of service and therefore liable for payment of GST. However, the stakes involved are substantial and with input tax credit eligibility at the recipient end also a potential issue, it is important that all probable options are evaluated before a final position is taken.

BCAJ Admin

Redevelopment of Co-Operative Housing Societies — Tax Implications

INTRODUCTION

In the previous article (published in the October 2023 Issue), we had analysed the GST implications of joint development agreements executed between an owner of land and a developer of a real estate project. After highlighting the controversies surrounding the tax implications both under the erstwhile service tax regime as well as the GST regime, the article summarised the tax implications under the new scheme of taxation for real estate introduced through a series of notifications with effect from 1st April, 2019. Accordingly, it was summarised that a joint development agreement involving the sharing of the developed area between the owner of the land and the developer of a real estate project essentially may constitute a barter transaction consisting of two distinct deliverables:

Deliverable by the Owner to the Developer — The article examined whether the owner can be said to have supplied a service in the nature of the transfer of development rights and whether such service can be taxable in the hands of the promoter developer as a recipient of such service under reverse charge mechanism in view of the specific recitals of Entry 5B of Notification 5/2019-CT(Rate). The discussion can be summarised as under:

a. There is a school of thought to argue that no GST is attracted to the transfer of development rights under the development agreement. However, the said position would be litigative.

b. The value of the development rights is to be determined under Rule 27 as the open market value. Accordingly, the value adopted for stamp duty purposes can be considered to be the value.

c. The service would get classified under HSN 9972 and be liable for GST @ 18 per cent.

d. The tax is to be paid under the reverse charge mechanism by the developer.

e. The tax has to be paid on the date of issuance of the completion certificate for the project.

f. In view of a partial conditional exemption, GST is payable on a proportionate basis to the extent of the unbooked area as on the date of the completion certificate. For example, if 20 per cent of the developed area remains unbooked as of the date of the completion certificate, GST will be payable only to the extent of 20 per cent of the GST calculated amount.

DELIVERABLE BY THE DEVELOPER TO THE OWNER

The article further examined whether, to the extent of the flats allotted to the Owner, the Developer can be said to have provided construction services to the Owner warranting payment of GST. In this context, the article explained that Notification 6/2019-CT(Rate) prescribes that the promoter-developer will pay GST on the construction service provided by him against the consideration in the form of development rights at the time when the completion certificate is received. Further, para 2A of Notification 11/2017-CT(Rate) specifies that the value of construction service in respect of such apartments shall be deemed to be equal to the total amount charged for similar apartments in the project from the independent buyers nearest to the date on which such development right is transferred to the promoter. Considering the ad hoc deduction provided towards the land value, effectively GST @ 5 per cent becomes payable on the date of the receipt of the completion certificate in the case of residential apartments, again without any input tax credit.

In continuation of the above discussion, the current article focuses on a specific type of arrangement prevalent predominantly in metro cities where existing buildings already owned by co-operative societies and occupied by the members (who are owners of the units in the said buildings) are re-developed by developers through a redevelopment agreement.

UNDERSTANDING THE REDEVELOPMENT AGREEMENT

The typical need for redevelopment arises because the building is old and / or in a dilapidated condition and needs structural repairs involving substantial costs which the society/members are unable to bear themselves. Therefore, the society through its’ Managing Committee, seeks external participation for initiating redevelopment of the society. Such redevelopment process is fairly regulated (for example, in the State of Maharashtra, specific directives have been issued by the Government under Section 79(A) of Maharashtra Co-operative Societies Act, 1960 to all the Co-operative Housing Societies in the State of Maharashtra specifying the manner in which such redevelopment agreements should be executed.

Generally, the process of redevelopment involves the following steps:

a) After receiving approval from the members in the General Meeting, the society floats a tender inviting various developers to participate in the redevelopment process of the society.

b) The tender would impose the conditions on the applicants, such as obtaining the conveyance of the land on which the society is functioning, giving additional area to the existing members, providing alternate accommodation / compensation to the members during the period of redevelopment, corpus contribution, etc.,

c) The developers are expected to fill out the tender form and make an offer to the society.

d) At the tender opening meeting, the applications are opened where the Registrar of Society is a special invitee and the application most favourable to the society, i.e., which gives the maximum benefit to the society and its members is selected.

e) A redevelopment agreement (RDA) is entered into with the developer who is awarded the tender laying down the various terms and conditions negotiated with the society. The RDA is registered with the stamp duty authorities at which point of time, the transaction is valued, and appropriate stamp duty is paid on the same by the developer.

f) Post entering into the agreement, the developer’s first responsibility is to negotiate with the land-owner (if the conveyance of the society has not been obtained) and get the conveyance transferred to the society’s name. The expenses incurred in connection with the same are to the account of the developer and are generally to be borne by the developer only.

g) Once the conveyance is received, the developer is further expected to submit development plans to the authorities for approval. If the area intended to be developed is more than the development potential, the developer is further required to load FSI for which he needs to either make payment to the authorities / buy TDR from the open market.

h) Once approval is received, the developer may enter the premises and initiate the activity of redevelopment. Though not specifically warranted by the law, as a general practice, the Developer enters into Permanent Alternate Accommodation (PAA) agreements with all members separately reiterating the broad terms and conditions mentioned in the redevelopment agreement and identifying the particular unit in the newly constructed building which will be allotted to the member.

i) The members are expected to hand over the possession of their existing units to the developers. After obtaining the possession of the existing units and the necessary approvals from the authorities, the developer starts demolishing the structure and commences construction. During this period, the developer is expected to pay the monthly compensation to the members as agreed in the RDA / PAA.

j) Post-completion of construction, the developer is expected to hand over the units constructed for existing members which will mean the completion of the development process. The developer can sell the additional units constructed by him in the open market for consideration.

The above is the general flow of events in a typical RDA transaction. However, there can be variations in specific situations. For instance, when the building is in a dilapidated condition and is declared to be non-habitable or the development potential of the land has been consumed, the developer may not give any added benefits to the members but only the construction of the existing area.

JOINT DEVELOPMENT AGREEMENT VS. REDEVELOPMENT AGREEMENT

As analysed in the previous article, a joint development agreement is generally understood to be a barter whereby the landowner transfers a development right to the developer and the developer provides a constructed area to the landowner and both the legs of the barter constitute consideration for each other, with specific tax implications provided through notifications.

While the said notifications do not specifically cover the situation of a redevelopment agreement, it is generally felt that a redevelopment agreement being a variation of a joint development agreement, would bear similar tax consequences and accordingly, the entries imposing the tax obligations under reverse charge mechanism on the Developer for the receipt of development rights from the land owner and forward charge mechanism on the Developer for the allotment of units to the land owner should be applied to the redevelopment agreement as well. The responses to the FAQs issued by the CBIC also suggest a similar approach.

However, a minute comparison of the development agreement and a redevelopment agreement would suggest that there are fundamental differences between the two agreements.

Firstly, in a development agreement, there is a transfer of development rights in the underlying land with a commitment to eventually transfer the ownership rights in the land to the proposed society of the prospective buyers. In the case of a redevelopment agreement, in most of the cases, the co-operative society is already in existence and is the owner of the land. Therefore, such redevelopment agreements do not contain recitals to eventually transfer the ownership rights in the land to any third-party. Prior to, and after, the redevelopment process, the society was and continues to be the owner of the land. Through the redevelopment agreement, the society merely commits to the developer that it shall accept the applications of the prospective buyers for membership of the co-operative society and admit them as due members of the said society. As such, on a legal footing, it may be difficult to interpret that through a redevelopment agreement, rights are being transferred by the society to the developer.

Secondly, in a Development Agreement, the Developer and the Land owner are both liable to the prospective buyers as the agreement for sale is a tripartite agreement between the Developer, the Land owner and the prospective buyer. However, generally, in the case of a redevelopment agreement, the developer is typically in the position of a contractor and the buyers have no direct locus standi with the society (being the owner of the land).

In a series of decisions, where the developer fails to undertake development as committed resulting in a cancellation of the redevelopment agreement, the Courts have refrained from recognising the rights of the prospective buyers (who had bought units in the interim through registered agreements for sale) vis-à-vis the society (being the original land owner) and have held that the rights of such prospective buyers accrue only against the developers due to privity of contract between the said parties. Useful reference can be made to the observations of the Hon’ble Bombay High Court in the case of Vaidehi Akash Housing Pvt Ltd vs. D N Nagar CHS Union Limited as under:

16.5. The clauses quoted above, read together and in their proper perspective to be gathered from the whole agreement, clearly envisage the development and sale of the free sale component of the project by Vaidehi on their own account and as an independent contracting party, and not as agents of the Society. The contract between Vaidehi and the Society is on a principal-to-principal basis; it neither constitutes a partnership nor a joint venture or agency between the two. The third-party purchasers with whom Vaidehi might enter into agreements for sale would have no privity of contract with the Society and the Society would in no way be responsible for any claim made by such purchasers against Vaidehi under their respective agreements for sale.

16.6. There being no privity of contract between the Society and the third-party purchasers claiming under Vaidehi, the third-party purchasers cannot claim specific performance of their respective agreements for sale except through Vaidehi. They stand or fall by Vaidehi. If the rights of Vaidehi are brought to an end upon a lawful termination of the Society Development Agreement, the third-party purchasers cannot lay any independent claim against the Society or anyone claiming through the Society. The agreements with third-party purchasers are premised upon a valid, subsisting and enforceable agreement between their vendors, namely, Vaidehi and the owners, namely, the Society and in fact refer to the Society Development Agreement on this behalf. Admittedly, therefore, the third-party purchasers had, or at any rate, ought to have, notice of the Society Development Agreement and its terms and conditions, and Vaidehi’s obligations to perform the same. If Vaidehi fails to perform these obligations, the purchasers cannot but suffer the consequences. In other words, the purchaser’s rights are subject to Vaidehi’s rights and not higher than those. Therefore, from a contractual standpoint, the third-party purchasers have no case against the Society or Rustomjee, who claim through the Society.

Thirdly, in a development agreement, the area allotted to the landowner is generally meant for further sale. However, in the case of a redevelopment agreement, the area allotted to the existing members is not intended for sale. This distinction is relevant from two perspectives. Section 7 restricts the scope of supply only to the extent that the said supply is made in the course or furtherance of business. While there could be an ambiguity on whether a landowner supplies development rights in the course or furtherance of its business, clearly a society cannot be said to have supplied development rights in the course or furtherance of its business, notwithstanding the earlier argument that there is really no supply of development rights at all. Further, Entry 5(b) of Schedule II of the CGST Act, 2017 is triggered only when the complex or building is intended for sale to a buyer. In the context of the free area allotted to the existing member, it may be difficult to establish that the said activity constitutes a ‘sale’ and that the existing member is a ‘buyer’. In fact, in the context of RERA, the Tribunal has already taken a similar view and the same is analysed later in this article. It may be noted that Entry 5 of Schedule III treats all transactions of sale of land or building as neither supply of goods or services and the said Entry is only subject to the provisions of Entry 5(b) of Schedule II. If one is able to establish that Entry 5(b) of Schedule II is not applicable in the absence of an intention to sell to a buyer, the benefit of Schedule III should be available.

Fourthly, the entries related to the taxation of real estate are heavily anchored around the project being governed by RERA. For example, entry 3(i) reads as under:

Construction of affordable residential apartments by a promoter in a Residential Real Estate Project (herein-after referred to as RREP) which commences on or after 1st April, 2019 or in an ongoing RREP in respect of which the promoter has not exercised option to pay central tax on construction of apartments at the rates as specified for item (i.e.) or (if)below, as the case may be, in the manner prescribed therein, intended for sale to a buyer, wholly or partly, except where the entire consideration has been received after issuance of completion certificate, where required, by the competent authority or after its first occupation, whichever is earlier.

In the context of RERA, it has already been held that the free area is not covered by the RERA regulations as there is no sale involved. One may refer to the ruling of the Maharashtra Real Estate Appellate Tribunal in Savita Deokar vs. Bhalchandra Wadnerkar [Appeal No. AT00600000042047] wherein it has been held as under:

14. Appellant claims that a flat taker in rehab component is also an ‘allottee’ to whom a new flat or premises is allotted or transferred in lieu of vacation of flat held earlier by the flat taker. We do not find substance in the said contention of Appellant. As observed earlier, ‘allottees’ for the purpose of the RERA are only those persons, whose perform their obligations of paying consideration, etc. for the purchase of real estate. So far as flat taker in rehab component is concerned, they neither pay any consideration nor execute sale transaction, therefore, they cannot be equated with buyers of real estate envisaged to be covered by the RERA.

15. It is further observed that in the kind of project of hybrid nature like the project relating to Appellant, erstwhile occupants or members of the society cause the redevelopment by appointing a developer. Such a project has two components (1) rehab component, and (2) sale component. Developer normally provides free of costs permanent alternate accommodations to erstwhile occupants and in lieu of that gets incentives FSI/TDR to construct sale component. Developer is allowed to sell units in sale component to subsidise costs of unit of rehab component meant for original members/tenants. As the project involves sale of unit in sale component, such a project is required to be registered. Liability to register arises only on account of sale component. As the sanction is accorded to the whole project, the entire project mandatorily requires registration, It is often misconstrued as does the Appellant herein that on registering such a project, the RERA applies to the entire project including the rehab component. We would like to reiterate that as expressly provided U/S, 3(2)(c), since redevelopment is exempted from registration, the RERA provisions would apply only to sale component and not to rehab component upon registration of redevelopment project of hybrid nature. In view of the foregoing reasons, we are of the considered view that a redevelopment project or rehab component of a redevelopment project of hybrid nature do not fall within the purview of the RERA and flat taker/Appellant in rehab component is not entitled to any relief as provided under the RERA.

In view of the substantial differences between a joint development agreement and a redevelopment agreement, it is felt that the provisions relating to taxation of joint development agreements cannot be blindly adopted for the purposes of determining the tax consequences of redevelopment agreements.

GST IMPLICATIONS OF REDEVELOPMENT AGREEMENTS

If one is able to free oneself from the shackles of the entries drafted for taxation of the development agreements and look at redevelopment agreements independently of the said entries, one may examine the GST implications thereof with a fresh perspective. It is evident that there is an activity of construction undertaken by the developer for the existing members. However, as stated above, in a purely legal context, it may be difficult to decipher a flow of development rights from the society or the existing members to the developer. The identification of a consideration (even non-monetary) appears illusive. Even the agreements would suggest that the flats are to be constructed ‘free of cost’. At the same time, the basic principles of the Contract law would suggest that an agreement without consideration is not enforceable in law. It is in this context that a reference to the definition of consideration under section 2(31) of the CGST Act, 2017 becomes very relevant:

“consideration” in relation to the supply of goods or services or both includes —

(a) any payment made or to be made, whether in money or otherwise, in respect of, in response to, or for the inducement of, the supply of goods or services or both, whether by the recipient or by any other person but shall not include any subsidy given by the Central Government or a State Government;

(b) the monetary value of any act or forbearance, in respect of, in response to, or for the inducement of, the supply of goods or services or both, whether by the recipient or by any other person but shall not include any subsidy given by the Central Government or a State Government:

If one analyses the general business rationale of a redevelopment agreement, it would be difficult to deny that:

a. The Society/existing members continue to enjoy the ownership of the land and the development rights therein at all points in time.

b. The freshly constructed units would therefore ideally accrue to the society/existing members and thus, the society/existing members should be entitled to consideration from the sale of such freshly constructed units to prospective buyers.

c. Through the redevelopment agreement, the society/existing members permit the developer to sell such units and appropriate the sale proceeds for himself.

It may therefore be possible to contend that essentially, the consideration for the construction activity carried out by the developer for the existing members is received from the prospective buyers as per the express authorisation in the redevelopment agreement. Effectively, therefore the price paid by the prospective buyer consists of not only the consideration for the construction service received by him but also the consideration for the construction service received by the existing members free of cost. It is evident that such composite consideration received from prospective buyers suffers GST at the hands of the developer. If that be so, the tax is effectively discharged on the construction service rendered by the developer to the existing members.

In fact, in the context of service tax, the Hyderabad Bench of the Tribunal in the case of Vasantha Green Projects vs. Commissioner [2019 (20) G.S.T.L. 568 (Tri. – Hyd.)] (for the period from April 2012 to March 2015) has accepted such an argument while dealing with the issue of taxability of free area in the context of redevelopment agreements. The observations of the Tribunal are reproduced below for ready reference:

12. It can be seen from the abovesaid instructions, the gross amount charged by the builder is liable to tax. The said instructions are in force till today and has not been withdrawn by the Board. As already detailed herein above, the appellant has discharged the service tax liability on the gross amount charged i.e. consideration received from land owners in the form of kind other than cash (value of the land/development rights) + consideration received from prospective buyers in cash by way of financial arrangements on the construction services undertaken by the appellant on joint development basis.We also note that appellant had declared the same in the books of account like IT returns and ST-3 returns which has been certified by Chartered Accountant wherein it is stated that service tax compliance is towards the payment of gross amount of the construction undertaken on joint development basis and received from the customers has been made. This leads to conclusion that it is evident that appellant has complied with the service tax liability on the construction undertaken on joint development basis on the value of construction which is mandated in Section 67 of Finance Act, 1994, read with rules made thereunder. In our view, if once the service tax liability has been discharged on the gross amount, demand of service tax on the same amount again would amount to double taxation.

The decision in the case of Vasantha Green has distinguished the LCS City Makers decision by concluding that the facts in both cases were different. Further, the said decision has been followed by the Mumbai Bench of the Tribunal in the case of Commissioner vs. Ethics Infra Development Pvt Ltd [2022-VIL-70-CESTAT-MUM-ST]. The Revenue has filed an appeal against the decision in the case of Vasantha Green and the matter is pending for finality before the Supreme Court.

To summarise the discussion, it can be argued that:
a. A redevelopment agreement is not similar to a development agreement and should be viewed independently to determine the tax consequences.

b. There is no transfer of development rights by the society to the developer in a redevelopment agreement.

c. A redevelopment agreement does not constitute a barter but merely a provision of construction service by the developer (who effectively becomes a contractor) to the existing member.

d. The consideration for the said construction service provided to the existing member is received from the prospective buyers and the discharge of GST on consideration received from the prospective buyers effectively discharges the tax liability even on the construction services rendered to existing members.

WHAT IF THE SUPREME COURT HOLDS OTHERWISE?

The above interpretation is subject to the final interpretation of the Supreme Court. If the Supreme Court upholds the decisions of the Mumbai and Hyderabad Tribunal, no GST can be demanded on the redevelopment agreements. However, if the Supreme Court holds otherwise, it may still be possible to argue that in the case of a redevelopment agreement, the developer essentially steps into the shoes of a contractor vis-à-vis the rehab component and he should not be subjected to taxation based on the entries provided for joint development agreement. In such as case, the following questions would need to be analysed:

a) What is the classification of the service provided by the developer?

b) What is the value of supply made by the developer?

c) When is the tax payable?

So far as the question of classification of the services provided by the developer is concerned, the developer undertakes construction for the society members. Therefore, the appropriate entry under notification 11/2017 — CT (Rate) dated 28th June, 2017, would be entry 3.

A perusal of entry 3, and more importantly clauses (i) to (if) thereof which apply to the real estate sector, shows that they apply when the construction is undertaken with the intention to sell to a buyer. As stated earlier, even the RERA Tribunal has held that the rehab area is not intended for sale and therefore, cannot be classified under (i) to (if) of entry 3 which specifically deals with the real estate sector. Accordingly, the conditions specified therein which require the developer to pay tax on free area, and prescribes the method to determine the value of supply, would also not apply. This would necessarily mean that the supply would be classifiable under the residuary clause of entry 3 as a works contract service and therefore, taxable at 18 per cent with corresponding proportionate credits becoming available to the developer. Further, the provisions of Para 2A dealing with valuation would also not be applicable and the same will have to be determined as per section 15.

This takes us to the next question of determining the value u/s 15. Section 15 provides that where the supplier and recipient are not related and the price is the sole consideration for the supply, the transaction value shall be taken as the value of the supply. Section 15 provides that price shall mean the price actually paid or payable for the supply of goods or services. In the case of the development agreement, the price being paid by the society members is the license to enter into the property and undertake development. Such redevelopment agreement is specifically valued for stamp duty purposes and applicable stamp duty paid on the same. Therefore, it can be said that the value adopted for the payment of stamp duty on the redevelopment agreement is the price which the society has paid to the developer for carrying out the activity of construction of a free area and therefore, GST if any shall be payable on the same only.

CONCLUSION

Real estate is a complex sector, and when it comes to redevelopment, the complexities increase as the number of stakeholders increases. It is therefore important that while drafting the agreements, not only all GST implications should be kept in mind, but also the consequences of a tax authority taking a contrary view and the effect of the same on the stakeholders should be considered.

BCAJ Admin

ROLE OF A STATUTORY AUDITOR VIS-À-VIS GST

INTRODUCTION

In the last article we dealt with the
interplay between the process of statutory audit and the GST domain from the perspective
of planning the entire audit and understanding the processes applied from the
perspective of GST. In this article, we shall cover aspects related to review
from the perspective of financial statements and the various checks and
assertions which would be required during the audit process.

REVENUE
UNDER STATEMENT OF PROFIT & LOSS

Revenue is generally earned when a company
makes outward supply of goods or services, or both, and recovers the
consideration from its customers. However, it’s not necessary that the entire
consideration is accounted for as revenue in the books. In some cases, the
amounts recovered from customers are accounted in credit / liability ledgers,
especially in cases where there is recovery of expenses. The auditor should
therefore ensure that all such expenses are identified and that wherever there
are credit entries on account of outward supply, the corresponding tax is being
discharged.

Once the
auditor obtains assurance that all invoices are accounted in the calculation of
the revenue from operations, the first thing that needs to be checked is
whether or not the tax rate charged on the invoice is correct. For this, the
auditor needs to identify different kinds of transactions, i.e., outward
supplies made by the company and for each class of transactions determine if
there are different rates applied / any exemptions claimed and wherever there
are such variations, identify the reasons for the same. Similarly, wherever
there are conflicts in tax rates, especially in the case of goods due to
classification, the auditor should review the basis for the classification used
by the company to arrive at his conclusion.

It is not only the tax rate but the
determination of location of supplier in case of a multi-locational entity,
place of supply mentioned in the invoice, time of supply, value of supply,
etc., which also become important. For example, in a particular contract the
client has issued an order to a certain branch which executes and delivers the
entire contract. However, while raising the invoice, inadvertently the company
bills the client from a different branch. This may result in a challenge since
there is a possibility that the branch which has executed and delivered the
contract might face a demand in future from the tax authorities to pay tax on
the supplies made (although the same might have been paid at another branch).
In other words, the synchronisation between delivery location and contracting
location is one aspect which the auditor should check, especially in case of
service contracts.

Similarly, whether or not the time of supply
provisions are complied with also needs to be reviewed. In case of goods, the
auditor should check if invoices have been issued in all cases before the
outward movement of goods takes place. This is because for goods the time of
supply takes place before or at the time of the supply of goods. However, it
gets trickier in the case of services since the invoice can be issued even
after completion of service. The auditor should check cases where revenue has
been recognised under the accrual concept, but invoicing is yet to be done. In
such cases, the auditors should obtain reasonable assurance that the service
provision is incomplete. If it is determined that the service provision has
been completed but invoicing is not done for some reasons, there may be a
non-compliance with the time of supply provisions which might trigger a
contingent interest liability.

The next point that the auditor should
review is the value of supply for the purpose of GST. Whether the value on
which GST has been charged is as determinable u/s 15 of the CGST Act, 2017 or
not? In case of contracts, if there are instances of some materials being
supplied by the recipient, the auditor should also analyse if the value of such
material is includible in the value of supply. The auditor might want to
consider the applicability of a decision of the Supreme Court in the case of CST
vs. Bhayana Builders Private Limited [2018 (10) GSTL 118 (SC)].
Similarly, if the company is claiming non-inclusion of certain amounts on
account of reimbursement, the auditor should also check whether or not the
condition for pure agents prescribed u/r 33 of the CGST Rules, 2017 are
satisfied. Similarly, in case of related party transactions, the auditor should
check whether the same are at arm’s length or not.

DEEMED
SUPPLIES

Entry 3 of Schedule I of the CGST Act, 2017
deems supply of goods or services between distinct persons / related persons as
supply even if made without a consideration. Further, once a supply is made to
a related person, section 15 kicks in which requires valuation as per the
prescribed method under the CGST Rules, 2017 (Rules 28-32).

The controversy, however, revolves around
the first part of the entry, i.e., supply of goods or services between distinct
persons. This entry has resulted in a lot of confusion and caused
interpretation issues, especially from the service perspective on multiple
fronts, such as what constitutes supply between distinct persons, on what value
is it to be applied, what time of supply provisions apply, etc. The confusion
has further increased in view of the AAAR in the case of Columbia Asia
Hospitals Private Limited [2019 (20) GSTL 763 (AAAR-GST)].

The primary checkpoints while dealing with
supplies under Entry 3 of Schedule I are:

(i) Identifying supplies getting covered under
Entry 3,

(ii) Ensuring compliance with valuation provisions,

(iii) Ensuring that such supplies are properly
accounted in the books of accounts, i.e., outward supply reported by one branch
should be reported as input tax credit in the corresponding branch and there is
no loss of the input tax credit.

It may be important to note that there are
serious legal interpretation issues relating to branch transfer of services. In
such scenarios it may be in order for the auditor to ensure that the company
has adopted a suitable policy in due consultation with legal experts and that
the policy is actually implemented.

BARTER
TRANSACTIONS

Let us try to understand the concept of
barter in the context of a real estate project where the company has entered
into an area-sharing Joint Development Agreement with the landowner. In such a
transaction, what usually happens is that the company gets the right to
construct on the land while the landowner, instead of getting monetary
consideration, is allotted certain constructed area in the new building which
he can self-use or sell. The company is liable to pay GST on the constructed
area to be allotted to the landowner. However, there is no consideration for
this which is determined by a prescribed method and there is no record of such
consideration in the books of the company. In such a case, though there is no
revenue received by the company, it ends up paying GST on a value which is
disclosed as an outward supply. This results in a gap between the books of
accounts and the GST returns.

In such a scenario, the auditor should look
into the applicability of Accounting Standards relating to revenue recognition
and accrual – whether the company is required to accrue the expenditure for the
supply made by the landowner or recognise revenue for constructed area allotted
to the landowner. It is imperative to note that there is no exchange of
monetary consideration and even the value adopted for the transaction under
different statutes may not be the same. While analysing this point, apart from
GST the auditor should also consider the probable implications under Income Tax
since if the transaction is treated as sale and purchase of constructed area /
land, respectively, there might be probable TDS implications.

EXPENDITURE
UNDER STATEMENT OF PROFIT & LOSS

GST works on the concept of value-added
taxation, i.e., a company ideally pays tax only on the value addition by it in
the transaction chain. This is achieved by the concept of input tax credit
(ITC), which is at the heart of GST and accrues to a company when it incurs an
expenditure, whether revenue or capital in nature. But the important point that
one needs to note is that this credit is not always available and the same is
subject to conditions. There are various facets to be noted when taking ITC
which can be as under:

1. Input tax credit can be claimed only
if goods or services are received for use in the course or furtherance of
business

One of the primary conditions for claiming
ITC is that the goods or services received by a company should be used in the
course or furtherance of business. What constitutes ‘business’ has been defined
under GST. However, this condition has created quite a controversy. For
example, CSR expenses, which certain classes of companies are mandatorily
required to incur under the Companies Act, 2013 are not treated as expenses
incurred for the purpose of business / profession u/s 37 of the Income Tax Act,
1961. It would therefore be important to evaluate this controversy, especially
during the pandemic times where various companies have incurred more CSR
expenditure than what they are mandatorily required to incur under the Companies
Act, 2013.

2. Conditions for claiming input tax
credit should be satisfied

Apart from the primary condition that the
goods or services should be used in the course or furtherance of business,
section 16(2) also lists other conditions which are required to be satisfied
for claiming input tax credit:

* The company should be in possession of
a prescribed document issued by the supplier

A condition procedural in nature, there must
be reasonable assurance that the company should be in possession of documents
based on which it is claiming ITC. One of the primary aspects to be checked is
whether the documents based on which the credit has been claimed contains the
standard list of disclosures mandated under the CGST Rules, 2017 and has the
other disclosures as well or not. It should further be checked if the company
claims credit based on the supporting invoice or even when it books provisional
expenses.

* The goods or service should have been
received

This is an important condition the
satisfaction of which would be the key to supplement the claim of ITC. The
condition relating to receipt of goods would be easily satisfied owing to the
tangible characteristic of goods. However, the receipt of goods should be
correlated with corresponding documents evidencing the same, such as E-way
bill, lorry receipts, etc.

However, in the context of service,
demonstration of receipt of service would be crucial. This can be done by
relying on documentary evidence, including agreements, work certifications,
etc. For example, in the case of construction services received, a surveyor’s
certificate certifying the extent of work based on which the invoice has been
issued can be a proof for receipt of service. Even an internal certification by
an authorised person can be the basis for demonstration of receipt of service.
A similar method should be followed for other services as well.

One important aspect to be noted by the
auditor is to deal with a situation where the tax authorities allege
non-receipt of goods or services. There are various cases where the tax
authorities allege that certain transactions of inward supplies are fictitious
and that the ITC claimed by the company is not eligible. There can be instances
where the company might have contested the allegation, though the credit might
have been reversed under protest due to coercion from tax authorities.

The auditor should carefully analyse this
level of transaction since it points at probable fraud, mismanagement and
misstatement of financial statements and requires specific disclosure in the
auditor’s report, including the statement on internal financial controls. The
decision on this would be critical, especially in cases where the dispute is
not concluded, i.e., the company continues to litigate the allegations. While
many such instances have been reported in the judiciary, the auditor should
take a call based on the facts of the specific case since in each case the
facts may be different.

* The supplier should have paid the tax
and the recipient should have filed the return u/s 39

This would be a check which should be maintained
in the monthly return filing process. The company should ensure that the
supplier should have filed not only his GSTR1, but also his GSTR3B.

* The payment to supplier should have
been made within 180 days from the date of invoice

This condition has already been discussed in
the earlier part of this article [refer discussion on 2^nd proviso
to section 16(2) r.w. Rule 37].

* The ITC should be taken within the
prescribed time limit, i.e., before the due date of filing return for the month
of September of the succeeding financial year

An important aspect, this is one more
condition which should be a part of the monthly return filing process of each
company. From the auditor’s perspective, the auditor should also check if all
the returns are filed on time and in case of delay, whether there is any impact
on eligibility to claim input tax credit and what position the company has
taken on this?

One specific issue which needs to be noted
is that the tax authorities have been challenging the claim of ITC in cases
where returns for a tax period are filed after the due date for filing the
return of September of the succeeding financial year. The tax authorities have
challenged the eligibility to claim ITC u/s 16(4). The auditors should review
if there are such instances and should also analyse the legal position taken by
the company.

3. Application of section 17

Section 17 deals with two aspects, one being
apportionment of ITC and the second being blocked credits. The first part,
i.e., apportionment of ITC, comes into the picture when inward supplies are
used for making outward supplies which are used for making taxable supplies as
well as exempt supplies. In such cases, compliance with provisions of Rules 42
and 43 (already discussed in the earlier part of this article) should be
analysed. The auditor should specifically check if the compliance is done on a
monthly basis, whether the true-up as mandated u/r 42 and 43 is done within the
prescribed time limit and, lastly, the accounting for the apportionment u/r 42
and 43 – whether the amount of reversals / re-credit is booked to specific
expense or a general expense? The auditor should also analyse the method of
reporting the true-up effect of Rules 42 and 43 in the subsequent financial
year – whether as prior period expense or regular expense?

The above would be more relevant in case of
timing difference in booking of expenses used for making exempt supplies. Let
us take an example of a supplier engaged in making exempt supplies who had
contracted to receive certain expenses during a F.Y. Based on the contract, the
auditors had advised the company to accrue the said expense in its books in one
F.Y. The issue that would remain is whether the auditor should recommend
provision of only the basic expense or expense including GST, considering the
fact that in the subsequent period when the expense will actually be booked,
the corresponding GST will not be allowable for ITC and, therefore, the issue
of whether the GST component may be treated as prior period expense arises.

The second part, i.e., blocked credits, is
trickier. There has been a lot of controversy on this subject, be it inputs or
capital goods. While reviewing the ITC claim from the viewpoint of eligibility,
the auditor should specifically check on the following key aspects:

(a)
Determining what is covered u/s 17(5)(c) and 17(5)(d) relating to receipt of
goods or services for construction of immovable property other than plant and
machinery, subject to the condition that the cost is capitalised in the books
of accounts

The key issue which the auditor needs to
look at is the applicability of the decision of the Orissa High Court in the
case of Safari Retreats Private Limited vs. CC of GST [2019 (25) GSTL 341
(Ori.)] which held that the provision of section 17(5)(d) was ultra
vires the provisions of the object of the Act and held that ITC should be
allowed on receipt of goods or services used in the construction of an
immovable property which is used for providing an output service.

Another aspect which needs to be looked at
is the distinction between depreciation and amortisation. Depreciation
generally applies to expenses capitalised whereas amortisation applies in cases
where expenses are incurred upfront, but their recognition is spread over
years. The former applies in cases involving ownership, while the latter
applies in cases where no ownership exists, for example, in the case of leased
premises, costs incurred under BOT projects, etc.

(b)
Determining what constitutes personal consumption for disallowance u/s 17(5)(g)

This provision states that credit of goods
or services used for personal consumption would not be eligible. But the
question remains, what constitutes ‘use for personal consumption’, especially
in case of companies where all personnel working for the company are either
employees / consultants? Therefore, the question of personal consumption should
not have arisen. While analysing this provision, the auditor should also check
whether there is alignment with the position taken under the ITA, 1961 which
requires reporting of personal expenses in Form 3CD.

(c) Determining the scope of section 17(5)(h) –
where goods are lost, stolen, destroyed, written off or disposed of by way of
gift or free samples

The issue of
when eligibility of ITC is to be checked is a settled position in view of the
decision of the Tribunal in the case of Spenta International Limited vs.
CCE, Thane [2007 (216) ELT 133 (Tri – LB)] where the court held that
credit eligibility should be checked at the time of receipt of goods. The
applicability of this decision to GST is important to be reviewed, since there
is no other provision under the statute which deals with this aspect under GST.

Similarly, what constitutes gift is also
important. A business undertakes sales promotion activity by virtue of which
the company would give ‘freebies’ to its customers. While no specific
consideration is received for such freebies, a business would not give any
freebies if the cost is not recovered from customers indirectly. A reference to
CBIC Circular 92/11/2019 – GST dated 7^th March, 2019 would be
important while dealing with eligibility to claim ITC.

ROLE OF
GSTR2A IN AUDIT PROCESS

Apart from the above, there is one other
factor which should also be looked at in the context of ITC, which is the role
of GSTR2A. GSTR2A is the document which is made available on the GST portal
based on the details uploaded by a supplier and help the company in matching
the compliances of its vendors. There are different factors which need to be
looked at here:

(A) Rule 36(4) of the CGST Rules, 2017
provide that for any tax period the ITC claim should not be more than 110% of
the amount appearing in GSTR2A. The auditor should not only check whether this
provision is complied with or not, but also the accounting treatment in case
there is a need to defer the credit in view of Rule 36(4).

(B) The auditor should also review the net
amount of ITC which remains unmatched and analyse the implication it might have
on such credit claims in future.

LIABILITIES
UNDER BALANCE SHEET

The GST collected by the company gets
credited to the GST payable account, which gets covered under the head
‘Liabilities’ in the Balance Sheet. The auditor should obtain a reasonable
assurance that the liabilities on account of GST reported in the Balance Sheet
give a true and fair view and is specifically required to give a report of this
in the CARO statement as to:

(I) Whether the company has been regular
in depositing undisputed statutory dues as applicable with the appropriate authorities?

The answer to the first question can be
obtained by collating a compliance table under GST which would assist the
auditor in determining whether the company has been regular in depositing
statutory dues with the authorities concerned. One might also need to determine
whether mere filing of return in time would be the correct basis to arrive at a
conclusion, or whether the auditor needs to check if all the information has
been correctly mentioned in the returns, or there is a delay. For example, supplies
made in April may be reported in the returns of June. Therefore, while in
totality all the applicable statutory dues would have been paid, but whether
this can be treated as ‘regular deposition of undisputed statutory dues’ or not
would depend on the professional judgement of the auditor.

(II) Whether any undisputed statutory
dues are pending for a period of more than six months as on the balance sheet
date?

This is an important part of the audit
process as it requires the auditor to check the workings of the client on a
monthly basis to ensure that all the monthly liabilities are paid in time.
Generally, the best way to look at this would be by comparing the liability as
on the balance sheet date with the liability as per the returns for the last tax
period ending on the balance sheet date. If both the figures reconcile, this
would mean that there are no statutory dues pending for a period of more than
six months as on the balance sheet date. However, in case there is a mismatch,
the auditor would be required to check and identify the month in which there is
a mismatch in liability as per the books vs. liability as reported in the
returns, and determine if the same is pending for a period of more than six
months which would require reporting in CARO. Of course, the auditor will need
to ensure whether the outstanding dues are disputed or undisputed and only if
they are undisputed would such dues be required to be reported. On the basis of
this reporting, even the tax auditor might need to look at the impact on his
reporting for section 43B compliances in Form 3CD.

Apart from the liability to pay tax under
forward charge, i.e., on supplies made by a company, the next area to be
discussed is the accounting and discharge of reverse charge liability. While dealing
with RCM liability, there are various aspects which an auditor should look
into, such as method of accounting of reverse charge considering the varied
time of supply provisions, claim of corresponding ITC, reconciliation (expense vis-à-vis
returns), etc. Let us look into each of these aspects.

(III) Accounting & discharge of RCM
liability

In case of reverse charge, the point of
taxation generally depends on two factors, namely, date of payment to the
supplier, or 60 days from the date of invoice, whichever is earlier. This would
mean that under legal parlance the accounting of invoice, which also earmarks
the date of acknowledgement of liability towards the supplier and the due date
at which the applicable GST is required to be paid, are not linked to each
other, which is in contrast to the position when compared with outward
supplies.

The general practice followed by companies
is that as and when they account for an invoice on which tax is liable to be
paid under reverse charge, they also book the corresponding liability and
credit (if eligible) or expense out the tax amount and, in a majority of the
cases, it is observed that the tax is also paid based on the same for the sake
of convenience on various aspects, the most important being the ease of
reconciliation of liability. However, there are instances wherein companies,
although they account the liability as well as the corresponding credit on
accrual basis, may discharge the same and claim credit under GST only when the
liability becomes due. In such instances, there will always be a mismatch in
the liability as per the books vs. the liability reported in the GST returns,
which would need reconciliation as the same would be the basis for reporting
under CARO as well as 3CD.

Furthermore, while dealing with related
party transactions, the auditor should also ensure that in case of provisions
made for expenditure payable to foreign associated enterprises, the liability
should have been discharged on accrual basis, i.e., the general rule does not
apply to such transactions. The auditor should check on whether any provision
for payments to be made to foreign associated enterprises are open for a period
of more than six months on the balance sheet date and, if yes, whether the
applicable GST is discharged therein or not, as the same might necessitate
reporting under CARO.

(IV) Impact of credit notes &
reconciliation issues

Generally, it is observed that a company
recognises its reverse charge liability when it accounts for an expense wherein
reverse charge is applicable. At that point of time, it might also be claiming
corresponding credits as and when available.

However, there are cases wherein once the
above is done, against the said invoice, the recipient receives a credit note,
meaning there is a reversal of the expense / the amount of expense. For such
cases, the logical practice to be followed would be that when such credit notes
are booked, corresponding tax liabilities as well as credits claimed, if any,
should be reduced. This would be more important in cases where credits are not
available and the tax paid under reverse charge is expensed out as this would
help in reducing the expense of the company. This will also ensure proper
reconciliation of expenses as per books vs. returns filed.

However, in cases where credits are
available, the general practice is that the tax effect of the credit notes is
ignored since this would be a cash neutral exercise as the tax paid upfront was
not a cost. However, this might need an adjustment when preparing the
reconciliation of expenses as per books vs. returns filed. Further, under
CENVAT regime this practice was also questioned by the Department which had in
a particular case sought reversal of credit without appreciating the fact that
the assessee had not reversed corresponding tax liability under reverse charge
emanating from a credit note. This demand was set aside by the Tribunal in the
case of Hindustan Petroleum Corporation Limited vs. Commissioner of
Central Tax, Visakhapatnam [2019-VIL-295-CESTAT-HYD].

COMPLIANCE
OF 2^ND PROVISO TO SECTION 16(2) OF CGST ACT, 2017 R.W. RULE 37 OF
CGST RULES, 2017

One more area to look into is the trade
payables which are outstanding for more than 180 days. The second proviso
to section 16(2) provides that in case where payment to the supplier is not
made within a period of 180 days, corresponding ITC should be added to the
output tax liability of the company to the extent that there is a failure to
pay to such vendor. Since this is an amount which is liable to be added to the
output tax liability, as a prudent exercise an auditor should undertake the
verification of whether or not the company has complied with these provisions.
However, while dealing with this, the auditor needs to consider two important
points, namely:

i) Input Tax Credit under GST should have
been claimed against the invoices which are outstanding

ii) There should have been a failure to pay
to the supplier. What constitutes ‘failure to pay’ has been a subject matter of
litigation and one should refer to the decision in the case under CENVAT
regime; the Tribunal in Commissioner vs. Hindustan Zinc Limited [2014
(34) STR 440 (Tri.–Del.)] held that where the amounts are not paid due
to contractual terms and the entire tax amount is paid to the vendor /
supplier, the need to reverse Rule 4(7) should not apply. While reviewing this
compliance, the auditor should also analyse whether the position taken by the
company is in line with this decision and accordingly determine if there is a
need for reporting under CARO for undisputed dues outstanding for more than six
months or not.

ASSETS
UNDER BALANCE SHEET

* GST & tangible / intangible assets

Under GST, all inward supplies of goods are
classified into either inputs or capital assets. What constitute capital assets
are those inward supplies of goods which are capitalised in the books of
accounts. However, if any input services are capitalised, the same do not
constitute capital goods for the purpose of GST but are treated as input
services.

When looking at tangible / intangible
assets, traditionally known as ‘fixed assets’ under GST, there are various points
which need consideration. The key point to be looked into is the operation of
the provisions of section 17(5) of the CGST Act, 2017 which lists certain
inward supplies where ITC would not be available, also known as blocked
credits. Some of the items in this category include purchase of modes of
transportation of persons, or construction of immovable property, goods used
for personal consumption, etc. The auditor should primarily review whether
there are any specific instances wherein credits have been claimed though the
same are restricted u/s 17(5).

Apart from the above, the auditor should
also ensure that in cases where any capital goods, on which ITC was claimed,
are being sold, the provisions of section 18(6) of the CGST Act, 2017 r.w. Rule
44 of the CGST Rules, 2017 have been complied with. The same provide that in
supply of capital goods, the amount of tax payable would be the higher of the
amount payable on value of supply of such capital goods, or the un-depreciated
ITC to be calculated vis-à-vis the method prescribed u/r 44 of CGST
Rules, 2017.

Similarly, the auditor should also look into
whether or not the company has complied with the provisions of Rule 43. This is
important since the amount determined u/r 43 is to be added to the output tax
liability and, therefore, if there is non-compliance, reporting under CARO
might be triggered. Further, to the extent credit is liable to be reversed u/r
43, the auditor should also check whether the amounts liable to be reversed u/r
43 are capitalised or expensed out and the correctness of the said accounting
treatment.

Apart from the above, in case of
multi-locational companies having presence in multiple states, the auditor
should also check whether the movement of goods is properly documented and the
applicable compliances under GST in view of Entry 3 of Schedule I of the CGST
Act, 2017 are undertaken or not? This is an important aspect since there would
be a liability to pay tax at the branch sending the fixed assets and
eligibility to claim credit at the receiving branch. In case of non-compliance,
the company might end up with a situation where a subsequent identification of
non-compliance might result in liability at the sending branch with no
corresponding ITC at the receiving branch, thus resulting in incremental cost
on account of the non-compliance.

* GST balances

GST balances comprise of two parts, one
being ITC balance and the second being the balance on account of payment of
tax. ITC balance is one of the most important parts of GST as it represents the
outcome of the entire process of claim of ITC undertaken by the company. The
first and foremost check to be undertaken by the auditor is whether or not the
ITC balances appearing in the books of accounts are matching with the balance
in the electronic credit ledgers available on the portal as on the balance sheet date. In an ideal scenario, the balance appearing in the
books of accounts should reconcile in all respects with the balance appearing
in the electronic credit ledger. However, there are instances where the amounts
do not reconcile, primarily in the following cases:

(a) All adjustments to ITC which are reported in
GSTR3B are not accounted for in the books of accounts. For example, even if a
company complies with the second proviso to section 16(2) requiring
reversal of ITC in case of non-payment to suppliers, a separate entry is not
passed in the books of accounts. Similarly, there are instances wherein there
is a delay in accounting of Rule 42 / 43 adjustments.

(b) Amount of refund claim filed online is reduced
from the balance in the electronic credit ledger. However, in the books,
instead of transferring it to refund receivable account, it continues to remain
in ITC account and, as and when amounts are received, reduced directly from the
ITC account.

(c) Input tax credit accounted for in the books
but not claimed in GSTR3B due to operation of Rule 36(4) of the CGST Rules,
2017 which requires that in any tax period the amount of ITC cannot be more
than 110% of the amounts appearing in GSTR2A.

(d) Offset entries for March, 2020 are passed in
April, 2020 in the books of accounts but portal balance for comparison is taken
as per electronic credit ledger after filing of returns of March, 2020, thus
resulting in a timing gap.

While the above reasons may not represent
any non-compliances / material misstatement on the part of the company, an
auditor may consider suggesting a change in practice which will ensure
appropriate reconciliation of accounts which will, in turn, help the company
not only in the future audit process but also during the assessment proceedings
wherein it would be easier to explain to the tax authorities.

Another issue with respect to balance in ITC
ledgers is with respect to accumulation of amounts in the ledger for multiple
reasons, such as company is engaged in making zero-rated supplies without
payment of tax and therefore eligible to claim refund, where there is inverted
rate structure, in case of startups where the revenue during the initial years
is low while corresponding expenditure is high, or, simply put, loss-making
companies. With respect to this, it is observed that on various occasions where
the refund is stuck for many years, the auditors require the company to
determine the scope of recoupment of the balances and make a provision for
write-off of balance to the extent there is no certainty of recoupment.
However, while doing so the auditors should keep the following aspects in mind:

1. In case of accumulation due to zero-rated
supplies / inverted rate of structure, one of the key points to be eligible to
claim refund is that the incidence of tax should not be passed on to another
person. Once the balance is written off, this principle kicks in and recouping
the balance by way of refund might become a challenge for the company.

2. In case of accumulation due to loss, the
company can explore the option of claiming the refund by relying on the
decision in the case of Union of India vs. Slovak India Trading Co.
Private Limited [2008 (10) STR 101 (Kar.)] or by entering into a scheme
of merger / business transfer arrangement whereby either the entire company or
the loss-making division can be transferred along with all assets and
liabilities, including balance in electronic credit ledger, thus encashing the
said balances. Furthermore, one should also note that writing off balance in
view of uncertainty of utilisation in future might actually be in conflict with
the basic fundamentals of the audit, that the financials are prepared on a
going concern basis since there is a reasonable certainty of profitability in
the future.

The second part when dealing with GST
balance is the balance of tax paid in the cash ledger. Generally, it is seen
that any payment of tax is directly accounted in the liability ledgers. It is,
however, always prudent that a separate account (for each tax type) be created
in the books where all payments are booked and, as and when the liability is
discharged in the returns filed, corresponding entries be passed in the books
of accounts. This is for the important reason that mere payment of amount into
cash ledger does not amount to payment of tax itself. It takes place either
when the return is filed or by making a declaration in Form DRC-03. In fact,
even if there is sufficient balance in the cash ledger, the interest is liable
to be paid from the due date till the date of return / DRC-03 which actually
marks the payment of tax under GST as this results in reduction in balance in
the electronic cash ledger. This aspect should be kept in mind, especially when
dealing with reporting under Form 3CD.

DISCLOSURE
OF BALANCES IN BALANCE SHEET

There are two sets of GST GLs which a
taxpayer should generally maintain. One set of GST GLs to deal with GST
payable, which may be either on outward supplies or inward supplies where
reverse charge mechanism applies and is accounted as liability when the company
books revenue / expenses which attract RCM in its books; and second set of GST
GLs which deal with ITC, which gets accounted as assets when they book an
expense where the vendor has charged ITC and book it as receivable in their
balance sheet.

The following points are relevant for
discussion:

(A) Manner of reporting GST GLs – whether
the liability GLs will be clubbed under the head ‘Liabilities’ and credit GLs
will be clubbed under the head ‘Assets’ or only net balance to be disclosed,
either under the head ‘liabilities’ or ‘credits’ as the case may be? This is an
important aspect since in GST while the liability becomes due once the outward
supply is made, irrespective of whether the liability has been actually booked in
the books of accounts, ITC is claimed only when the same is reported in GSTR3B.
There can be scenarios where though a credit is booked in the books of
accounts, the same may not have been reported in GSTR3B and therefore not
claimed by the company. Similarly, there might be credit balances which may not
be immediately available to the company [deferred credits in view of the second
proviso to section 16(2), rule 36(4), etc.]

In such a case, would it be correct for the
company to show such net balance in GST GLs, or should it report separately,
liability GLs under the liability head and credit GLs under the assets head?
Separate reporting under the head ’liabilities’ and ‘assets’ rather than net
reporting seems to be a more correct approach.

(B) Once an auditor takes a view that the
balances have to be reported separately, it would imply that the balance for
March or the last tax period of the financial year to be reported is to be
disclosed before the offset entry. This would entail reporting of a higher
amount as liability u/s 43B in the Form 3CD. However, no major ramifications
are expected since the liability would have been discharged in April and
therefore entail no disallowances under Income Tax.

CONCLUSION

It is often said that tax and accounting are
strangers. However, they invariably overlap since both of them are based on
underlying transactions. Since the scope of the auditor also includes ensuring
correct compliance with various laws including tax laws, in cases where the
treatments under the two domains are different, statutory auditors may be
required to do a balancing act and suitably customise their audit processes to ensure that the
auditors have reasonable confidence in the true and fair nature of the
financial statements.

A man can be himself only so
long as he is alone, and if he does not love solitude,
he will not love freedom, for it is only when he is alone that he is really
free

—
Arthur Schopenhauer

Patience is not simply the
ability to wait – it’s how we behave while we’re waiting

—
Joyce Meyer

What sunshine is to flowers,
smiles are to humanity. These are but trifles, to be sure; but scattered along
life’s pathway, the good they do is inconceivable

—
Joseph Addison

BCAJ Admin

ROLE OF A STATUTORY AUDITOR VIS-À-VIS GST

INTRODUCTION

A statutory audit is conducted to elicit an
opinion as to whether the financial statements of an enterprise provide a true
and fair view in conformity with the generally accepted accounting principles /
laid down guidelines. The effect on the financial statements of various laws
and regulations varies considerably. SA 250, Consideration of Laws & Regulations
in an audit of Financial Statements, provides guidance to the auditors on
how to identify material misstatement of financial statements due to
non-compliance of other laws. It also clarifies that the auditor cannot be
expected to detect non-compliance with all laws and regulations.

GST, as a transactional indirect tax law,
can have significant impact on the financial statements of an entity and
therefore appropriate compliance with the GST law is one of the important
validations that a statutory auditor has to perform before he can conclude
about the true and fair view of the financial statements. At the same time,
being a recent law with multiple interpretations and conflicting clarifications
and advance rulings, at times it can be an impossible journey for the statutory
auditor to come to an assertive judgement on the extent of compliance or
non-compliance.

This article highlights some examples
whereby the interplay between the statutory audit process and the GST domain
can be better appreciated.

DIFFERING
OBJECTIVES & FOCUS

As stated earlier, the objective of
statutory audit is to validate that the financial statements present a true and
fair view of the financial affairs of an enterprise. To that extent, the core
focus of a statutory audit (and financial accounting) is on the enterprise or
the entity. The financial statements are prepared on the basis of various
accounting policies, the disclosure whereof is governed by the provisions of
Accounting Standard 1 (AS1).

However, when it comes to GST, this is a
transaction-driven tax law and therefore the core focus changes to individual
transactions, whether such transactions constitute supply, whether the levy
provisions are attracted and whether there is a tax prescribed for the same.

GOING CONCERN

One of the fundamental accounting
assumptions is ‘going concern’. As per AS1, the enterprise is normally viewed
as a going concern, that is, as continuing in operation for the foreseeable
future. It is assumed that the enterprise has neither the intention nor the
need of liquidation or of curtailing materially the scale of its operations.

The GST law does not explicitly state such
an assumption; however, the same is inherent in the overall scheme except to
the extent that a person obtains a registration as a casual taxpayer – which
indicates the intention of the taxpayer to do business only for a limited time
frame. Can the absence of a normal registration and only casual taxpayer
registration prompt the statutory auditor to question this fundamental accounting
assumption as a going concern? It may be relevant to bear in mind that GST is a
state-level registration whereas the financial statements pertain to the entire
world.

In actual experience, entities end up with
substantial accumulation of input tax credit (ITC) under some GST
registrations. Considering another principle of conservatism, at times,
statutory auditors question the possibility of realisation of the accumulated
ITC balance and insist on writing it off on the grounds of non-recoverability
or reversal of such credits. Since the credit once legally availed is
indefeasible, without any time limit under the law and there being a fair
chance that it could be availed in future, whether it is correct on the part of
the statutory auditor to insist on writing off the accumulated ITC balance
simply due to the age of such asset while continuing to maintain that the
assumption of going concern is valid?

CONSISTENCY

AS1 further states that it is assumed that
accounting policies are consistent from one period to another. However, when it
comes to GST, it being a transaction-driven tax, each transaction can have
different tax implications based on the ‘form’ of the said transaction. As
explained a little later, GST concentrates on the ‘form’ of the transaction
rather than the ‘substance’. Further, the GST law at various places provides
flexibility of interpretation or positions taken by the taxpayer. For example,
Entry 2 of Schedule I is often understood to require the head office of a multi-locational
enterprise to raise a notional cross-charge invoice on its branches located in
other states. The proviso to Rule 28 permits the head office to choose
the valuation mechanism for such cross-charge as per its convenience and
prohibits the GST officers from questioning such a valuation mechanism. In the
backdrop of the said legal provisions, is it permissible for the head office to
choose different valuation principles for cross-charge to different branches?
Can the statutory auditor object to such a position on the grounds of violation
of the fundamental accounting assumption of consistency? In the view of the
authors, the notional cross-charge does not represent an accounting policy and
hence the principle of consistency may not be relevant in such a scenario.

ACCRUAL

AS1 further states that revenues and costs
are accrued, that is, recognised as they are earned or incurred (and not as
money is received or paid) and recorded in the financial statements of the
periods to which they relate. However, the liability towards GST is triggered
when the provisions of time of supply are attracted. In general, the time of
supply provisions get triggered at the earliest point of invoicing, completion
of service / removal of goods or the receipt of advance and therefore the
accounting concept of accrual has no relevance to the GST liability. However,
in case of import of services from an associated enterprise, the time of supply
(and consequential GST liability under reverse charge mechanism) is triggered at
the time of booking the provision in the books of accounts itself. This
presents a substantial challenge in case of multinational corporations where
the royalty payable to the foreign parent itself is determined based on the
finalisation of the revenue for the particular year. In view of the requirement
to provide for such royalties in the books of accounts at the year-end even
though the quantum of royalties itself is determined after the year-end, such
organisations end up in delay in the discharge of GST. Whether such
discharge of statutory dues due to reasons beyond the control of the taxpayer
would merit reporting under the provisions of CARO?

In view of the time of supply provisions
under GST, many notional entries / adjustments which find a way in the
accounting and statutory audit space have very limited relevance in the context
of GST. Having said that, at the adjudication level the assessing officers tend
to look at the financial statements as the starting point for obtaining prima
facie comfort on the completeness of the GST compliances. This typically
results in the preparation of a reconciliation statement which attempts to
bridge the gaps between the turnover as reported in the financial statements
and the aggregate turnovers reported in multiple GST registrations obtained by
the enterprise.

While it may be correct as well as prudent
to undertake the reconciliation referred to above, at times the inability to
appreciate the exact interpretation and ramification of each reconciliation
adjustment results in wrong demands being raised which have to be agitated
before the judicial forums.

Interestingly, many notional entries /
adjustments are insisted upon by the statutory auditors at a global level at
the time of finalisation of statutory audit. In the case of multi-locational
enterprises, it may become challenging for the taxpayer to allocate the values
of such notional entries / adjustments to the respective GST registrations. In
such cases, whether it would be appropriate for the GST officers or the
statutory auditors to once again insist on the state-level split of such
notional entries / adjustments, or could the same be ignored as being
inconsequential in the GST process?

PRUDENCE

AS1 further recognises that an enterprise
may select accounting policies suitable to the disclosure of the over-arching
objective of presentation of a true and fair view of the financial statements
of an enterprise. While selecting accounting policies, AS1 specifies prudence
as an important consideration for the selection of an accounting policy. As
stated in AS1, in view of the uncertainty attached to future events, profits
are not anticipated but recognised only when realised, though not necessarily
in cash. Provision is made for all known liabilities and losses even though the
amount cannot be determined with certainty and represents only a best estimate
in the light of the available information.

A common example of the prudence principle
at play is that of valuation of inventories at cost or market value, whichever
is lower. However, when it comes to GST, Rule 28(a) prescribes that inventory
movements across multiple GST registrations of the same legal entity should be
carried out at market value. While the proviso to Rule 28 grants
flexibility to the taxpayer in many cases, if the recipient branch is not
eligible for full ITC, the said Rule is in stark contrast to the time-tested
accounting principle of prudence. Is the ERP of the enterprise geared up to
duly comply with the GST law (by valuing such branch transfers above cost) as
well as the accounting principles (by once again creating a provision for such
notionally inflated value of inventory)? Assuming that the enterprise has
valued such inventory movements at cost and the same is objected to neither by
the GST officers nor by the GST auditors, can the statutory auditor qualify his
report to observe this non-compliance, especially considering that accounting
wisdom would suggest exactly what the taxpayer has done?

Even in normal scenarios where slow-moving
inventory is valued below cost, the issue which needs to be examined is whether
such valuation below cost would trigger the provisions of section 17(5)(h)
which requires the reversal of ITC if the goods on which ITC is claimed are
written off. A possible view could be taken that there is a difference between
‘write-off’ of goods and reduction in the value of the goods on account of an
accounting policy.

Similarly,
when the statutory auditor insists that a refund shown as receivable in the
balance sheet be written off as being unlikely of recovery due to some dispute
with the Department, it can prejudice the claim of refund since the judiciary
may interpret non-appearance of the asset in the balance sheet as a case of
unjust enrichment. This is one more area of interplay where the statutory
auditor will need to exercise caution rather than pre-judge the situation.

SUBSTANCE
OVER FORM

Another consideration in the selection of an
appropriate accounting policy is the choice of substance over the form of a
transaction. It is such consideration which requires that leases be accounted
in a particular manner. In stark contrast to the accounting / auditing
preference of substance over form, the tax laws typically concentrate on the
form rather than the substance. However, the classification of goods as inputs
or capital goods depends upon the accounting treatment.

An interesting issue arose in the case of an
airport operator working on the BOT model. Ind-AS 115 required that the
construction cost be treated as revenue expenditure and then be taken to the
Balance Sheet as an intangible asset to be amortised over the life of the
concession. Section 17(5)(d) does not permit the ITC of construction cost if
the same is incurred for own account and is capitalised in the books of
accounts. The airport operator relied on a series of Supreme Court judgments
under the earlier excise / service tax / income tax laws and also a High Court
judgment under the GST law to claim the ITC. However, the statutory auditor was
of the view that the ITC is not available. The airport operator backed up his
position with an opinion from a Senior Counsel from the Supreme Court. However,
the statutory auditor was not convinced. Perhaps, the auditor skipped three
important aspects while framing his view:

(1) SA 500 – Audit Evidence, which
deals with this issue, provides that the auditor should determine if the
evidence tendered by the auditee is sufficiently appropriate. This can be done
by:

Evaluating the competence, capabilities
and objectivity of that expert,

Obtaining an understanding of the work of
that expert,

Evaluating the appropriateness of the
expert’s work as audit evidence for the relevant assertion.

(2) The difference between the concepts of
amortisation of an intangible asset and depreciation on tangible assets.

(3) By implementing Ind-AS 115, a position
is taken in accounting that the construction is not on account of the airport
operator but is on account of the Government. Having taken that position and
implemented the same, whether the statutory auditor can bounce back to the form
of the transaction and disregard the conduct in accounting?

MATERIALITY

The selection of accounting policy is also
based on the consideration of materiality. In fact, the entire accounting and
auditing process considers materiality and significance as an important
benchmark for any action or inaction. As compared to accounting and auditing,
admittedly, GST law does not define any concept of materiality, much less an
objective benchmark of what constitutes material items. Having said that, one
may need to bear in mind that GST law is nascent and there are many
interpretation issues and conflicting advance rulings. In such a scenario,
to what extent should the statutory auditor step into the shoes of the
assessing officer and define non-compliance of the GST laws? Is it the
prerogative of the statutory auditor to arrive at authoritative conclusions on
debatable legal issues and consequentially qualify financial results on the basis
of apprehensions of likely Department action? How would one define materiality
in this regard?

The classification of a transaction as
intra-state or interstate supply and the consequential levy of CGST+SGST or
IGST is based on the correct legal identification of the place of supply.
Sections 10 to 13 of the IGST Act provide for guiding principles to determine
such place of supply. However, there could be scope of interpretation in some
cases. The taxpayer could have discharged IGST, which in the opinion of the
statutory auditor would merit CGST+SGST, or vice versa. What would be
the role of the statutory auditor in such cases?

The Legislature itself has predicted that
there could be such interpretation issues and therefore has provided through
section 77 of the CGST Act and section 19 of the IGST Act that in such cases
the wrong tax should be refunded to the taxpayer and the correct tax should be
collected. It is further provided that no interest should be charged in such
cases. Since the tax has been fully paid (though under a wrong head of
classification), many judicial precedents suggest that there should be no
penalty in such cases. In the backdrop of the above provisions, is there a
possibility of a material impact on the financial statements to warrant an
intervention by the statutory auditor?

ROLE OF
THE STATUTORY AUDITOR VIS-À-VIS GST COMPLIANCES

The above discussion on the differing
objectives of the GST law and the statutory audit process based on the
discussion of merely AS1 brings to fore the likely interplay between the two
domains. It is important for the statutory auditor to clearly recognise the
differences and the points of interplay while taking any position on GST. At
the same time, in view of SA 250 and the fact that non-compliances in GST law
could have not only a material impact on financial statements but may also
impact the fundamental assumption of going concern, the statutory auditor may
not be in a position to take the management representations at face value. How
does the statutory auditor strike that delicate balance?

One important aspect which needs to be noted
before moving on is the basic understanding regarding audit, and that is, ‘An
auditor is a watch-dog and not a bloodhound’, meaning the auditor is bound
to give a reasonable assurance on the subject matter being audited and not an
absolute assurance. Based on the various activities undertaken during the
audit, the auditor arrives at a reasonable assurance relating to whether or not
the financial statements give a true and fair view and whether or not there is
any material misstatement? An auditor can express his opinion, which can either
be unqualified, qualified, adverse or a disclaimer of opinion, i.e., abstain
from giving an opinion.

Paragraph 13 of SA 250 requires the auditor
to perform audit procedures which help him to validate compliance with other
laws and also help him to identify instances of non-compliance with other laws
and regulations that may have a material effect on the financial statements.
One of the processes laid down in the SA is to obtain representation (SA 580)
from management as to whether the entity is complaint with such laws and
regulations.

However, mere representation from the
management is not sufficient. The auditor cannot blindly rely on the
representation. He should understand the process designed by the company to
comply with GST compliances and various checks and controls employed by the
company and how the process is actually implemented in reality. This should
include a review of multiple aspects which can be broadly classified as:

(1) Operational Review through a walkthrough
of sample transactions,

(2) Transactional Review of identified
sample transactions,

(3) Final Review of financial statements and
the assertions made through such statements.

OPERATIONAL
REVIEW THROUGH A WALKTHROUGH OF SAMPLE TRANSACTIONS

1. Understanding of business

As part of the general audit procedure, the
statutory auditor is expected to have reasonable knowledge about the business
of the enterprise. When it comes to GST, a slightly more detailed knowledge of
the business (more specifically the products and the services offered by the
enterprise) may be required. The tax rates, exemptions, reverse charge
applicability, etc. to a substantial extent depend on appropriate
classification of the goods and the services.

It may be useful for the statutory auditor
to obtain the list of HSN classifications of the products or services and the
tax rates applied on them. On a random basis, it may also be appropriate to
review the process of creation of masters in the ERP / Invoicing Software to
ensure that the positions taken by the enterprises are reflected in the conduct
of the enterprise. Depending on the time at the disposal of the auditor and the
materiality, the auditor may also like to examine independently the correctness
of the HSN classifications and the tax rates based on the notifications,
circulars and the advance rulings available in the public domain. However, in
cases where there are conflicting views, it could be perfectly in order for the
statutory auditor to rely on an expert opinion obtained by the auditee in this
regard. In case there is no active litigation on this issue and generally the
industry also accepts the tax rate adopted by the enterprise, the statutory
auditor could be said to have reasonably performed his duty. The dividing line
between the role of a statutory auditor and an investigating tax officer is
very well understood in theory but fairly blurred in practice and the auditor
should use his value judgement in ensuring that he does not transgress this
line.

In case of services, it may also be
important to understand the basis on which the enterprise defines the ‘location
of the supplier’. This may be especially important in multi-locational entities
like banks and insurance companies. It may not be feasible for the auditor to
actually examine each transaction to ensure full compliance. Besides, the law
in this regard is fairly ambiguous. Therefore, a general understanding of the
process may be obtained and validated with a few sample transactions. At this
point, the interplay of contractual obligations vis-à-vis the service
performance locations may have to be examined closely and accordingly the
principles of cross-charge of services instituted by the enterprise may be
revalidated.

2. Understanding the Procurement to
Pay (P2P) Cycle

In view of the requirement for matching of
vendor credits, correct implementation of the P2P Cycle and appropriate vendor
due diligence are very critical. It may be useful for the statutory auditor to
review the processes of vendor master creation and validation of the GST
registration obtained by the vendor. On a regular basis, the GRN closure
process could be reviewed to verify that the ITC claim is not unnecessarily
delayed. The auto-populated credit statement in Form GSTR2A available on the
GST Portal can be an important audit tool to verify cases of delayed booking of
invoices in the system. At the same time, it may be useful for the statutory
auditor to bear in mind that GSTR2A is a document not in the control of the
auditee and therefore if third parties have made errors in uploading
information in GSTR2A, the taxpayer cannot be faulted for such erroneous
entries. Similarly, in view of the suspension of the Government-controlled
matching process proposed at the time of the inception of GST, non-reflection
of ITC in GSTR2A may not imply non-compliance on the part of the assessee and
could not result in denial of ITC if the said non-reflection is within the
tolerance limits specified under Rule 36(4).

While reviewing the P2P Process, it may also
be important to examine the extent of automation in relation to the processes
of identification of non-eligible credits and the applicability of RCM. At this
point, it may be important to examine the process and system instituted for the
said identification rather than cherry-pick individual transactions and
question the positions already taken by the assessee and duly supported by
adequate prima facie reasoning or expert opinions.

While on the P2P Process, it may also be appropriate
to have a review of the inventory cycle to examine situations of shortage, free
supplies, write-offs, destructions, etc., and to revalidate that appropriate
ITC has been reversed in such scenarios. The auditor may bear in mind a
possible legal interpretation that the provisions of section 17(5)(h) get
triggered only in case of inventory items which are procured from outside and
not for finished stocks.

In certain cases, liquidated damages,
discounts, incentives, etc., are recovered from the vendors. Such recoveries
may appear in the financial statements as ‘other income’ and, therefore, it is
natural for a statutory auditor to inquire about the applicability of GST on
such ‘other incomes’. However, in case the taxpayer wishes to rely on the decision
of the Mumbai High Court in the case of Bai Mamubai vs. Suchitra
and contend that there is no underlying supply by the taxpayer to the vendor,
in the view of the authors it would be sufficient for the statutory auditors to
take such management representation on record rather than impose their
interpretation on the taxpayer.

3. Understanding the Ordering to Cash
(O2C) Cycle

In many organisations, the O2C Cycle may not
comprise of merely one ERP / IT system but may be an integration of multiple
invoicing, delivery and performance modules. In such a scenario, it may be
important for a statutory auditor to understand the specific delivery modules
and their linkage with the invoicing modules which in turn flow the information
into the financial system. It may also be important for the statutory auditor
to have knowledge about the specific system which generates GST-compliant tax
invoices. On a random basis, the review of a few tax invoices to ensure
appropriate GST compliance may be in order. In view of the speedy and
unorganised phase-wise customisation of GST in many organisations and the
limited support offered by ERP software, this integration of the revenue and
the tax GLs becomes very critical in ensuring correct GST compliance. This
aspect becomes even more important in complex service establishments like banks
or airlines where revenue is generated from multiple sources and may not be
immediately accompanied by a system-generated invoice.

It may be especially important for the
statutory auditor to verify the checks and controls within the organisation to
ensure that manual or draft invoices are not issued from outside the system. In
many cases, such manual / draft invoices are later regularised in the ERP but
this results in substantial reconciliation issues since the enterprise
would upload the ERP invoice whereas the customer will upload the manual /
draft invoice.

4. Understanding the Financial and
Cost Control (FICO) Modules

The Financial System (FI) Module would take
care of most of the residuary activities within the organisation and therefore
becomes a crucial module for review. Depending upon the extent of automation
and control, it is quite likely that specific tax GLs would be locked for
manual entries. However, if such controls do not exist it may be appropriate
for the auditor to scrutinise the tax GLs in detail to identify such manual
entries and make sure that such manual entries are correctly recorded. A
reconciliation of the tax GLs with the electronic ledgers maintained on the GST
Portal may also provide some indications of non-compliance.

5. Understanding Generic GST
Compliances

Having obtained an overall understanding of
the business processes and systems controls, it may then be relevant for the
statutory auditor to venture into a review of the GST processes undertaken by
the enterprise. Some indicative steps could be as under:

(a) Whether proper registration has been
obtained by the company?

Having understood the nature of business of
the enterprise, it may be useful for the auditor to cross-check whether it has
obtained all the required registrations. Section 22 of the GST Act requires
every assessee to obtain a registration in each of the states from where it
makes a taxable supply. In view of the provisions of Entry 2 of Schedule I, certain
branch transfers are deemed to be taxable supplies. Considering the interplay
of these two provisions, the auditor may like to examine whether or not all
branches are registered under GST. If they are not registered, the reason for
such non-registration may also be examined.

How does one determine whether any place
requires a registration or not? Can there be an imputation of place of business
in cases where employees work from home or from client locations? Since the
concept of ‘fixed establishment’ under the GST law requires a physical place of
permanence with sufficient technical resources to render a service, it may be
in order for the statutory auditor to restrict his inquiries only to the
branches which are physically owned / leased by the enterprise rather than
impute the possibility of a place of business and insist on additional
registrations.

(b) Whether taxes are being properly
discharged?

This is an important part from the GST
perspective. GST, as stated above, is a transaction-based tax, i.e., it applies
on almost all transactions undertaken by a company. Therefore, automation in
the process becomes important. This automation can be from different
perspectives such as:

Booking of all incomes and expenses at
correct locations resulting in booking of GST liabilities and credits also at
the correct locations,

Booking GST amounts in books.

(1) Is booking of invoices automated or tax
amounts are manually entered in systems? Especially in the context of sales
invoicing where companies issue invoices in a different environment which is
then sourced into the accounting system?

(2) How are various factors determined, such
as HSN, rate of tax, place of supply, etc.? What is the level of manual
intervention involved and determining the scope of errors?

(3) Are reports for GSTR1 auto-generated or
there is a need for manual intervention?

(4) What is the basis to determine
eligibility of ITC and when is it done?

(5) What is the basis to determine liability
to pay tax under reverse charge?

(6) What method is applied for complying
with provisions of Rule 36(4) – matching of credits?

(7) Whether proper accounting entries are
passed in the books of accounts relating to liabilities and credits?

(8) Whether tax payable on outward supplies
is computed correctly compared with the corresponding GST Rate? Whether the
amounts match with the tax collection as per liability GLs?

(9) Whether tax liability is triggered on
all inward supplies liable to reverse charge and at the correct rate? Whether
monthly reconciliation with expenses booked in corresponding GLs is prepared?

(10) Whether the balance as per the books of
accounts is reconciled with the corresponding balance on the GST Portal? In
case there are differences, are the same reconciled?

(c) Whether there are any disputed
statutory dues? If yes, the forum before which the dispute is pending and the
amounts involved in the dispute?

This would cover disputed dues other than
the above and would also include dues which have been demanded by the tax
authorities but not accounted for in the books of the company. For example, the
company has treated a particular transaction as not liable to tax for reasons
such as exports, exempted, etc., or a claim of ITC is disputed by the tax
authorities. Such instances would not be reported as liability in the books of
accounts and therefore the auditor would be required to undertake specific
steps to identify such instances.

Under GST, there is a facility to maintain
all assessment proceedings, such as issuance of notices, orders, etc., online
on the GST Portal. Therefore, one way to identify disputes under GST is by
checking the details of notices issued to a company in the notice section of
each GSTIN. In case notice has been issued, identifying the status of the
said notice as to whether the same is relating to a recovery proceeding or
procedural aspect. Generally, a mere notice for recovery should not require
reporting under CARO. However, if the notice has been adjudicated and an order
issued with respect to the same against which the company has filed an appeal,
the same would require reporting under this tab.

However, all field formations do not follow
this automated process and there are instances when the notices, orders, etc.,
are issued manually. In such cases it would be difficult to ascertain the new
disputed dues and therefore for the same he can check the litigation tracker,
if any, maintained by the company and do the above exercise, or rely on the
management representation to this extent.

CONCLUSION

As stated earlier, a statutory auditor may
need to adopt a three-pronged approach towards ensuring adequate GST
compliance. While doing so, he should attempt to achieve reasonable assurance
that there is no significant misstatement of the financial results on account
of GST. This is a subjective analysis and no defined monetary benchmarks can be
established except by analysing the probable consequences. However, what may be
important is to prioritise the aspects of systems and processes and controls
and validate the business processes through review of sample transactions
rather than step into the shoes of an assessing officer and question the
interpretations adopted by the enterprise.

We have discussed in this article the
conceptual framework and aspects relating to the operational review. In the
next article, we shall cover in detail some aspects related to transactional
review and the final review of the financial statements, including assertions
made therein.

[This article has received
substantial inputs from Editor Raman Jokhakar whose contribution the
authors would like to acknowledge.]

BCAJ Admin

Development Agreements under GST and Tax Implications

INTRODUCTION

It is now commonplace to undertake real estate development by entering into development agreements. Such development agreements typically involve multiple stakeholders, two typical stakeholders being the landowner and the developer. A popular manner of entering into a development agreement is a scenario where the land-owner grants development rights to the Developer in return for monetary consideration. At times, the monetary consideration is fixed and lumpsum, whereas, at times, the monetary consideration can be variable based on the final selling price of the developed property by the Developer. At times, the consideration for the grant of development rights is non-monetary in nature, in the sense that the Developer allots certain developed property back to the Owner for either self-consumption or further sale. In many cases, the development agreement may provide for a combination of both monetary as well as non-monetary considerations. In such a scenario, the development agreement is generally understood to be a barter agreement whereby:

a. The developer pays a monetary consideration for a grant of development potential to the owner.

b. The developer further allots some flats / units in the new building to the owner. The owner may further sell the units allotted either during construction or post-construction.

c. The developer generally sells / allots balance flats / units to prospective new purchasers who join in or become members of the proposed society during construction. Some flats/units may remain unsold at the time of receipt of the completion certificate and may be sold thereafter.

Therefore, the entire business arrangement can be summarised as under:

Transaction 1: Transactions between Developer and Owner
Transaction Set 2: Transactions between Developer and New Buyers
Transaction Set 3: Transactions between Owner and New Buyers

TRANSACTIONS BETWEEN DEVELOPERS AND BUYERS

In view of Entry 5(b) of Schedule II of the CGST Act, 2017, it is evident that the said transactions constitute services to the extent that some consideration is received prior to the completion certificate. However, in view of the retrospective amendment to Section 7 of the CGST Act, 2017, Schedule II has been relegated to merely a classification schedule rather than a deeming provision. It could, therefore, be argued that the said transactions would constitute transactions of the sale of immovable property and, therefore, not liable for GST. However, such a position could be litigated. Based on the settled industry position of conservatism, the applicable GST may be discharged on such transactions.

Depending on the nature of the units being developed, the transactions could be taxable under the different sub-clauses specified in Entry 3 of Notification No. 11/2017 — CT (Rate). Further, abatement in the value on account of land would be available. However, each of the tax rates mentioned in Entry 3 is conditional (except sub-clause (if) dealing with the construction of commercial apartments in a REP other than an RREP and construction of residential apartments in an ongoing project), and therefore, the following conditions need to be fulfilled:

No Input Tax Credit is available for inputs and input services.
The tax has to be paid through electronic cash ledger only.
80 per cent of the value of inputs and input services are procured from registered suppliers only, and in case of a shortfall, the tax @ 18 per cent is discharged on such shortfall under the reverse charge mechanism.

It is a settled proposition that if no consideration is received prior to the receipt of the completion certificate, the transaction does not constitute a provision of service but is that of the sale of the building and therefore, no GST is payable if the residential unit is sold and the entire consideration is received after issuance of completion certificate.

TRANSACTIONS WITH LAND OWNER

At this juncture, it may be relevant to examine the tax implications of Transaction 1 i.e., the entering into the development agreement by the landowner with the developer. As far as Transaction 1 is concerned, it may be noted that there are two separate deliverables where the GST implications need to be analysed separately:

a. Deliverable by the Owner to the Developer — Here, the owner grants the development rights to the developer and, in turn, is compensated in the form of monetary consideration as well as constructed units. Essentially person to be tested as a supplier in these cases is the owner. One needs to examine whether the owner can be said to have supplied service in the nature of the transfer of the development rights and whether such service can be taxable in the hands of the promoter developer as a recipient of such service under the reverse charge mechanism in view of the specific recitals of Entry 5B of Notification 5/2019 — CT(Rate).

b. Deliverable by the Developer to the Owner — Here, to the extent of the area allotted to the Owner, the developer undertakes the activity of constructing the units for the Owner. The consideration received by the developer is in the form of development rights being granted to the developer. In the case of this leg of the transaction, the suspected supplier is the promoter developer himself, and the issue which needs examination is whether the Developer can be said to have provided services to the Owner warranting payment of GST.

TAXABILITY OF DEVELOPMENT RIGHTS

Section 9 of the CGST Act, 2017 provides for a levy of CGST on all intra-state supplies of goods or services or both. In general, the tax is required to be paid by the taxable person being the supplier of the goods or services or both. However, Sections 9(3) and 9(4) empower the Government to notify cases where the recipient will pay the tax on a ‘reverse charge’ basis. It may be important to note that the provisions of Section 9(3) & 9(4) can operate only in a scenario where there is a levy created by Section 9(1) and in that sense, the provisions of Section 9(3) & 9(4) are subservient to the provisions of Section 9(1). At the cost of repetition, the levy is imposed under section 9(1) only on supplies of goods or services or both. It is therefore important to understand the scope of the terms “goods” and “services” and check whether the transactions contemplated fit within any of the said terms.

The term “goods” is defined under section 2(52) to mean every kind of movable property other than money and securities but includes actionable claim, growing crops, grass and things attached to or forming part of the land which are agreed to be severed before supply or under a contract of supply. Since, in the instant case, the subject matter of the transaction is an immovable property, it is evident that there is no supply of goods.

The term “service” is defined under section 2(102) to mean anything other than goods, money and securities but includes activities relating to the use of money or its conversion by cash or by any other mode, from one form, currency or denomination to another form, currency or denomination for which a separate consideration is charged.

On going through the above definition of service, it is evident that the term service has been very loosely defined under GST. A literal reading of the definition indicates that anything which is not classifiable as goods would be a service. However, the context requires that a purposive interpretation rather than a literal interpretation of the definition should be adopted. The purposive interpretation would suggest that the transaction should bear an essential character of service.

Prior to the introduction of GST, the term service was defined under section 65B(44) of the Finance Act, 1994 to mean any activity carried out by a person for another for consideration. It thereafter included declared services and excluded certain transactions. The basic meaning attributed to the concept of service as being any activity carried out by a person for another for a consideration provides the essence of the general understanding of the word service and a similar context should be applicable in the GST law as well especially considering the fact that the GST Legislation in effect is consolidating many erstwhile indirect taxes rather than imposing a tax on some activities/sectors which were not taxable earlier.

One can also read the definition of service as being anything other than goods in the context of the Supreme Court decision in the case of Tata Consultancy Services Limited vs. State of Andhra Pradesh [2004 (178) ELT (022) SC] where the fundamental attributes of goods were listed. In the said case, the Hon’ble Court held that any property becomes goods if it satisfies the three conditions, namely utility, capability of being bought and sold and capability of being transmitted, transferred, delivered, stored and possessed.

As rightly held in the above decision, any property, whether tangible or intangible, is classifiable as goods if it has the following attributes, namely:

The item should have a utility,
The item should be capable of being bought and sold,
The item should be capable of being transmitted, transferred, delivered, stored and possessed.

In fact, the concept of transferability provides the attribute of anything becoming property. Such properties can be further classified into moveable properties, immovable properties, tangible or intangible. Some of these may constitute goods while some may not. When the concept of service is examined, it has to be examined vis-à-vis this aspect of transferability. If there is a possibility of transferability, it would not amount to a service.

In the instant case, since the transaction is one related to the transfer of rights in an immovable property, it can be contended that the same cannot amount to the supply of service. Therefore, the transaction does not qualify to be either a supply of goods or a supply of services and therefore, the levy under section 9(1) is not attracted. Accordingly, it can be argued that the moment the levy is not attracted, the further question of reverse charge mechanism does not apply.

It may further be noted that Section 7(2) of the CGST Act, 2017 stipulates that the activities or transactions specified in Schedule III shall be treated neither as the supply of goods nor a supply of services, thus excluding such transactions from the levy of CGST under section 9 of the Act. Schedule III Entry 5 specifies that the sale of land and sale of buildings as transactions which shall be treated as neither a supply of goods nor a supply of services. It can be argued that the purposive interpretation would further suggest that the exclusion provided vide Schedule III Entry 5 should be applicable in the instant case.

Further support can be drawn from Entry 1(b) of Schedule II, which classifies any transfer of right in goods or of undivided share in goods without the transfer of title thereof is a supply of services. It, however, falls short of specifically classifying the transfer of right in immovable property without the transfer of title within the scope of services.

At this point, it may be essential to elaborate on the fact that the taxability of every transaction has to be seen with reference to the dominant intention of the parties entering into the contract. To analyse any transaction, it may be of utmost importance to look at the intention of the parties to the contract. Section 8 of the CGST Act does provide that the tax implications of the principal supply will govern the tax implications of a composite contract. Therefore, the essence of the transaction, along with the dominant intention, has to be looked into before determining the taxability of any transaction.

In general understanding, a development right is a right to develop the land for agricultural, residential and commercial use. Essentially, land, like any other asset, is a bundle of several rights that accrue to it. Several rights one may identify with land are development rights, possession rights, cultivation rights etc.

By granting the development rights, one can argue that it shall not result in the transfer of ownership of the land in totality but only the aspectual right to develop the land has been transferred. Therefore, the moot question to be answered is whether the grant of development rights would amount to the transfer of title in an immovable property. If the said transfer amounts to a transfer in title, whether it is equivalent to either a sale of land or a transaction which cannot qualify as a service.

Blackstone defines the term “Title” to be “the means whereby the owner of lands has the just possession of his property. “Title” is the means whereby a person’s right to property is established. In Canbank Financial Services vs. Custodian, 2004 (8) SCC 355 – 2004 (7) SC 507, it was held by the apex court that the word “Title” generally used in the context to the property means a right in the property. The title of a property connotes a bundle of rights. The ‘Title’ in an immovable property is the means whereby a person’s right to such property in praesenti is established and does not include a bare expectancy to get such right in due course of time i.e., title means a present right or interest in an immovable property capable of being transferred. The expression Title conveys different forms of a right to a property, which can include a right to possess such property.

In Syndicate Bank vs. Estate Officer (AIR 2007 SC 3169), it was held by Supreme Court that:

“A jurisprudential title to a property may not be a title of an owner. A title which is subordinate to an owner and which need not be created by reason of a registered deed of conveyance may at times create title. The title which is created in a person may be a limited one, although conferment of full title may be governed upon fulfilment of certain conditions. Whether all such conditions have been fulfilled or not would essentially be a question of fact in each case”.

Based on the above arguments, it is possible to contend that the development rights granted by the owner to the Developer are not covered in the definition of service and accordingly cannot be subjected to GST.

Having said that on first principles and based on the legislative framework, a transaction of the grant of development rights by the owner to the developer does not amount to a rendition of service and therefore not liable for GST at all, it will be important to recognize the existence of the following notifications:

a) Notification No. 4/2019 — CT(Rate) amending exemption Notification No. 12/2017 — CT(Rate) to introduce an Entry 41A in the list of exempted services whereby services by way of transfer of development rights (herein refer TDR) or Floor Space Index (FSI) (including additional FSI) on or after 1st April, 2019 are exempted conditionally. Effectively the condition stipulates that the promoter-developer shall pay tax proportionate to the unsold units at the time of receipt of the completion certificate.

b) Notification No. 5/2019 — CT(Rate) which prescribes the reverse charge mechanism in this regard.

It is very likely that the Department may use a reverse analogy to contend that Notification No. 4/2019 — CT(Rate) grants conditional exemption and therefore to the extent of unsold units on the date of the completion certificate, the levy is attracted on a proportionate basis. It can be argued that such a contention of the Department would be incorrect due to various reasons.

It is a settled legal proposition that the existence of an exemption / reverse charge notification cannot by itself infer or presume the existence of a levy. In a particular case, the conduct of musical programs was excluded from the levy provisions of the Entertainment Tax Act. A notification issued under the said Act also granted an exemption, however, subject to certain conditions. When the authorities attempted to demand the entertainment tax citing non-compliance with the conditions mentioned in the notification, the Supreme Court held that if the transaction is excluded from the levy itself, the exemption actually becomes redundant and the conditions mentioned in the said exemption notification have no relevance. One may refer to the Supreme Court decision in the case of Gypsy Pegasus Limited vs. State of Gujarat 2018 (15) GSTL 305 (SC).

Even for a moment, if it is assumed that the scope of ‘service’ is wide enough to include a grant of development rights, it would be important to analyse whether the said ‘supply’ is covered under section 7(1) of the CGST Act. This is important because the scope of supply for the purposes of GST is restricted only to the supplies of goods or services made in the course or furtherance of business. In the instant case, the alleged supply of service is made by the owner. Based on the specific facts of each case, it may be possible for the owner to argue that he is not in the business of development of the real estate, but merely holds the land as an investment or capital asset and therefore the grant of the development right is more in the nature of a transfer of capital asset rather than business activity.

In the context of service tax, the Chandigarh CESTAT was examining the applicability of service tax on transferable development rights. Relying on various judicial precedents, the Tribunal held that there is no element of service in a transaction of transfer of development rights since the same pertains to immovable properties. (DLF Commercial Projects Corporation vs. Commissioner of Service Tax 2019 (27) GSTL 712 (Chandigarh Tribunal)). The said decision is pending before the Supreme Court.

Therefore, a view that no GST is payable by the developer on the development right granted to him is legally possible. However, the position will be litigative and will not be free from doubt. If the developer chooses to adopt a conservative stand and does not like to challenge the vires of the notifications issued in this regard, the tax liability would be determined based on the discussions in the subsequent paragraphs.

Having accepted a position that due to the specific notifications issued in this regard, the grant of development right through the development agreement constitutes a service, the immediate next questions would be the value of the development rights and the effective rate of tax applicable on the same.

Rule 27 of the CGST Rules, 2017 specifies that where the supply of goods or services is for a consideration not wholly in money, the value of the supply shall be the open market value of such supply. The execution of the development agreement attracts stamp duty. For the said purpose, the development right is valued by the respective authorities. The said value can be adopted for the purposes of GST. At this point, it may also be noted that para 2A of Notification No. 11/2017 — CT(Rate) prescribes a value for construction service and not the value for development rights and is therefore not applicable in the current case. The said para is analysed separately later.

Since there is no specific entry in the rate schedule dealing with the transfer of development rights, the same would get covered under the residuary entry for real estate services (HSN 9972) and be liable for GST @ 18 per cent.

Entry 41A of Notification No. 12/2017 — CT(Rate) provides for a conditional exemption in this regard. The said entry exempts service by way of transfer of development rights for construction of residential apartments by a promoter in a project, intended for sale to a buyer. The amount of GST exemption available for construction of the residential apartments in the project under this notification shall be calculated as under:

GST payable on TDR or FSI (including additional FSI) or both for construction of the project] x (carpet area of the residential apartments in the project ÷ Total carpet area of the residential and commercial apartments in the project)

The abovementioned exemption is subject to the condition that the promoter shall be liable to pay tax at the applicable rate, on a reverse charge basis, on such proportion of the value of development rights as is attributable to the residential apartments, which remain un-booked on the date of issuance of the completion certificate, or first occupation of the project, as the case may be, in the following manner:

GST payable on TDR or FSI (including additional FSI) or both for construction of the residential apartments in the project but for the exemption contained herein] x (carpet area of the residential apartments in the project which remain un-booked on the date of issuance of completion certificate or first occupation ÷ Total carpet area of the residential apartments in the project)

It is further provided that the tax payable shall not effectively exceed 1 per cent of the value in case of affordable residential apartments and 5 per cent of the value in case of residential apartments other than affordable residential apartments remaining un-booked on the date of issuance of completion certificate or first occupation.

Interestingly, the entry provides for an exemption for the development rights attributable to the residential apartments, but through a condition, imposes a tax to the extent of the unbooked apartments on the date of the completion certificate. This approach may again seem circumspect and could be challenged legally. However, the intention is clearly evident — to require payment of GST on the unsold apartments on the date of the completion certificate.

Entry 5B of Notification No. 13/2017 — CT(Rate) prescribes a reverse charge mechanism in the case of services supplied by way of transfer of development rights and accordingly, the promoter is made liable for payment of GST. In the instant case, the developer would be registered as a promoter under RERA and would become liable for payment of GST under the reverse charge mechanism.

Further, Notification No. 6/2019 — CT(Rate) prescribes that the liability to pay the tax shall arise on the date of issuance of the completion certificate for the project, where required, by the competent authority or on its first occupation, whichever is earlier.

The GST Implications on the development rights transferred under the development agreement are accordingly summarized below:

a) There is a school of thought to argue that no GST is attracted to the transfer of development rights under the development agreement. However, the said position would be litigative.

b) The value of the development rights is to be determined under Rule 27 as the open market value. Accordingly, the value adopted for stamp duty purposes can be considered to be the value.

c) The service would get classified under HSN 9972 and be liable for GST @ 18 per cent.

d) The tax is to be paid under the reverse charge mechanism by the developer.

e) The tax has to be paid on the date of issuance of the completion certificate for the project.

f) In view of a partial conditional exemption, GST is payable on a proportionate basis to the extent of the un-booked area as of the date of the completion certificate. For example, if 20 per cent of the developed area remains un-booked as of the date of the completion certificate, GST will be payable only to the extent of 20 per cent of the GST calculated amount.

TAXABILITY OF FLATS ALLOTTED TO OWNER

That brings us to the second leg of the question — as to whether GST is payable on the constructed units provided to the owner? In the instant case, it is evident that there is a supply of service of construction by the developer to the owner for a non-monetary consideration and therefore, the transaction does qualify as a supply liable for GST. This view was also followed by the Hon’ble Tribunal in the case of LCS City Makers vs. Commissioner [2013 (30) S.T.R. 33 (Tri. — Chennai)].

Notification No. 6/2019 — CT(Rate) prescribes that the promoter-developer will pay GST on the construction service provided by him against the consideration in the form of development rights at the time when the completion certificate is received. Further, para 2A of Notification No. 11/2017 — CT(Rate) specifies that the value of construction service in respect of such apartments shall be deemed to be equal to the total amount charged for similar apartments in the project from the independent buyers nearest to the date on which such development right is transferred to the promoter. Considering the ad hoc deduction provided towards the land value, effectively GST @ 5 per cent becomes payable on the date of the receipt of the completion certificate in the case of residential apartments, again without any input tax credit.

Further, when the construction is underway, the owner could enter into a further agreement for the sale of the under-construction unit with a third party on which the issue of taxability may arise. As far as the owner is concerned, there are multiple reasons to suggest that no GST liability is attracted. Clearly, the agreement is for the transfer of a title in an immovable property under construction. Even if full effect has to be given to Schedule II Entry 5(b), the said entry requires ‘construction’ as well as ‘sale’. In the instant case, admittedly, no construction activity is carried out by the owner, but by the Developer. Having said so, a doubt is created due to the fourth condition of the rate notification prescribed for the developers. The said condition reads as under:

Provided also that where a registered person (landowner-promoter) who transfers development right or FSI (including additional FSI) to a promoter (developer-promoter) against consideration, wholly or partly, in the form of construction of apartments, —

(i) the developer-promoter shall pay tax on the supply of construction of apartments to the landowner-promoter, and

(ii) such landowner-promoter shall be eligible for a credit of taxes charged from him by the developer-promoter towards the supply of construction of apartments by developer-promoter to him, provided the landowner-promoter further supplies such apartments to his buyers before issuance of completion certificate or first occupation, whichever is earlier, and pays tax on the same which is not less than the amount of tax charged from him on the construction of such apartments by the developer-promoter.

In view of the above condition, a presumption is sought to be created that the landowner would also be liable for payment of GST if he resells the property under construction. Since the landowner would also be entitled to input tax credit of the taxes charged by the developer, in the interests of conservatism, it may be preferable to adopt this position rather than litigate on the same. Therefore, in such a scenario, the owner can discharge GST @ 5 per cent on the consideration actually received by him. He would be eligible for the input tax credit of the GST @ 5 per cent charged by the developer on the notional value (i.e., as per the first sale agreement) and would be liable to pay the differential tax. It may be noted that as per the above condition, the output tax payable by the landowner cannot be less than the input tax credit.

While in general, the developer is entitled to defer the tax till the date of completion certificate, in the above instance, such deferment can result in blockage of credit since the said facility of deferment of tax is not available to the owner selling the flat. Therefore, in such a situation, it may be advisable for the developer to discharge the tax beforehand and issue a valid tax invoice to the landowner enabling him to claim the input tax credit.

The tax implications on the owner’s share can be summarised as under:

a) If not registered, the Owner should register himself with the GST Authorities.

b) The Developer should prepone the tax liability and discharge GST @ 5 per cent based on the first sale agreement value and issue a valid tax invoice to the owner.

c) The Owner should claim the input tax credit of the tax charged by the Developer to him.

d) The Owner should collect GST @ 5 per cent of the agreement value when he sells the under-construction unit to a third party.

e) The Owner should discharge the GST collected by utilizing the input tax credit charged by the Developer and balance in cash.

CONCLUSION

This Article deals with the basic provisions applicable to a development agreement and touches upon some of the controversial areas relating to GST. The Article has specifically avoided coverage of specific types of transactions like redevelopment projects, slum rehabilitation schemes and redevelopment of tenanted properties. Also, as could be seen from the article, the law has undergone a substantial change w.e.f. 1st April, 2019, and this article has also avoided discussion on the tax implications of ongoing projects. We intend to discuss these aspects in subsequent issues.

BCAJ Admin

Novel 80-20 Rule for Residential Real Estate Projects (RREP)

Real estate development sector was criticised over the non-percolation of input tax credit benefit to end consumers as well as the prevalence of low cash output. The GST council took cognizance and devised a Composition scheme for residential and mixeduse projects in 2019. Though the legal process for implementing the scheme was complex, the math behind the introduction of this scheme was to augment taxes by restricting input tax credit and collecting output taxes in cash. All aspects of taxation (classification, valuation, input tax credit, reverse charge provisions, tax payment methodology, etc.) were meticulously taken up and a series of notifications were introduced. There was a concoction of multiple provisions integrated into a single notification. Among the various tax aspects introduced into the said scheme, was the novel 80-20 rule which restricted the source of procurements by real estate developers from persons not registered under GST. The said rule mandates the minimum ratio of procurements to be maintained by developers from registered (RPs) and unregistered (URPs) persons. In cases where the procurement from RPs falls short of the 80 per cent ratio (or URPs exceeds 20 per cent), a shortfall value is ascertained and tax is payable on such amounts under reverse charge basis by the Developer (can be termed as excess URP tax). Naturally, this rule was aimed to encourage procurements from RPs so that the net tax collections from residential development do not fall below the 18 per cent threshold.

ELABORATION OF RELEVANT NOTIFICATIONS

Real estate developers/ promoters (RE Promoters) engaged in the construction of residential / commercial apartments in real estate projects (RE project) were directed to comply with a composition scheme devised through a series of rate / exemption notifications¹. The list of the relevant rate notifications introduced in 2019 and their specification of the 80/20 rule has been tabulated:

The difference between a rate and exemption notification seems to be obscure since the Central Government is currently empowered with both the powers (i.e. rate specification and exemptions) and has issued notifications combining both the powers.

RCM Notification (N-7/2019) has been issued under section 9(4) imposing a liability on procurement of goods and services from specified categories of persons to the extent of excess URP procurements. The said notification has been linked to the RE construction services notifications (discussed below) which specifies the 80/20 rule as a condition for availing the benefit of lower rate. Though the liability is fixed under this notification, the manner of computation is with reference to RE Construction Services Notification.

RE Construction services rate/exemption Notification (11/2017 r/w 3/2019) is the master notification which specifies the rates for construction services of residential apartments. Different rates have been prescribed based on the nature of the residential project and its affordability (size and value). Five taxing entries have been introduced with the rate being subjected to certain conditions – in the current context the 80/20 rule. As tabulated above, the RCM obligation has been introduced as a ‘condition’ to the rate/ exemption entry i.e. RE promoter is required to comply with the 80/20 while availing the benefit of the lower rate of 5 per cent / 1 per cent on residential apartments. The source of this notification assumes some significance. It can be observed that the notification derives powers from multiple provisions:

Section	Nature of Delegated prescription
Section-9(1)	Power of fixation of rate of goods/ services (absolute power)
Section-9(3)	Power to prescribe RCM tax on ‘specified categories’ of goods or services
Section-9(4)	Power to prescribe a ‘class of registered persons’ who would be liable to pay RCM tax on ‘specified categories’ of goods or services
Section-11(1)	Power to grant absolute or conditional exemptions
Section-15(5)	Power w.r.t. determination of value of supply
Section-16(1)	Power to impose conditions and restrictions for availment of input tax credit
Section-148	Special procedures for certain class of registered persons

The subject notification has derived powers from multiple statutory provisions including the provisions of section 9(3)/ 9(4) which impose RCM tax on taxable persons. While the said notification appears to have comprehensive provisions for RCM assessment (identification, valuation and rate of tax) on excess URP procurements, it should be appreciated that the RE construction services notification by itself does not impose RCM liability on URP procurements. The said notification merely provides the mechanism to comply with the RCM liability, while the liability is fastened only by virtue of the RCM notification (7/2019).

Goods Rate Notification (N-1/2017 r/w 3/2019) – A new entry 452P has been inserted specifying a 18 per cent rate for all goods (other than capital goods and cement) excessively procured from URPs. An explanation has been appended to entry 452P which attempts to override other entries and fixes the rate of 18 per cent on all goods excessively procured from URPs even though they may be covered by a more specific description or HSN heading. The purpose of this notification is to specify a standard rate of 18 per cent for the entire excessive procurement irrespective of the nature/ HSN of goods. An imposition of a default rate of 18 per cent for all goods on excess procurements obviates the requirement of identification of the HSN of goods which comprise the URP basket under the 80/20 rule.

Services Rate/Exemption Notification (N-11/2017 r/w 8/2019) – The services rate notification has also been amended with a new entry 39 specifying 18 per cent rate for all services excessively procured from URPs irrespective of their classification under the SAC schedule. Like the goods rate notification, an explanation has been appended to Entry 39 which imposes tax on excess procurement even though they may be covered by a more specific description or HSN heading. Again, the purpose of this notification is to specify a standard rate of 18 per cent irrespective of the nature/ HSN of services.

SUMMARY OF 80-20 RULE (EXCESS URP TAX)

A summary of the notifications leads to the following conclusions:

– RE promoters availing the benefit of lower rate are permitted to procure their inputs and input services from URPs subject to a threshold cap of 20 per cent;

– Any excess procurements from URPs (or shortfall procurements from RPs) would result in an RCM tax liability on the RE promoter to the extent of the excess/ shortfall i.e. minimum ratio of 80-20 (RP:URP) is to be maintained;

– Any input or input service on which tax is already paid on RCM basis would be treated as part of the 80 per cent basket from registered persons;

– Goods & Services rate notifications carve out a special entry pegging the rate at 18 per cent on the value of excess procurement;

– Computation would have to be performed on a ‘project level’ for each financial year from commencement until the completion of the project;

– Prescribed form (DRC-03) on the common portal would be available for reporting the shortfall of 80-20 rule tax;

– Capital Goods and Cements must necessarily be procured from RPs and any procurement from URPs would be liable at the rate of 18 per cent / 28 per cent respectively;

– The excess procurement tax would be payable in the month of June following the relevant financial year(s) – RCM tax on cement and capital goods would be payable on the month of receipt itself;

– Value of input or input services in the form of grant of development rights, long term lease of land, floor space index, or the value of electricity, high speed diesel, motor spirit and natural gas used in construction of residential apartments in a project shall be excluded.

PROCEDURE FOR 80/20 RULE COMPUTATION

The 80/20 Rule specified in the construction services entry has provided for certain enumerations for imposition of RCM liability. The following flowchart provides the manner of computation of the value which would be subjected to RCM:

Step 1 – Identification of inputs and input services

The first step in the said process would be ascertain the inputs and input services. The said terms are well defined as follows:

“(59) “input” means any goods other than capital goods used or intended to be used by a supplier in the course or furtherance of business;

(60) “input service” means any service used or intended to be used by a supplier in the course or furtherance of business;

Therefore, all goods (other than capitalised items) purchased by the RE promoter in respect of the business activity would be inputs. Even though cement procurements would be considered as inputs, they have been delineated for URP-RCM calculation in view of the higher rate applicable at 28 per cent. Capital goods (being goods which are capitalised) would be excluded from the calculation and liable to RCM irrespective of the quantum. Similarly, all services (irrespective of being capitalised or not) availed by the RE promoter would qualify as input services.

The scope of the term’s inputs and input service needs consideration. The definition seems to be very simple to include all goods and services used in the business activity to be included in the 80/20 formula. The definition of goods (under section 2(52)) and services (under section 2(102) would be applicable to this formula. Consequently, items which are neither goods nor services would fall outside the phrase inputs/ input service. Take for example salary and wages paid to URPs by the RE promoter in respect of the construction of the project. In terms of Schedule III, the said costs are neither supply or goods or services in view of the ‘employee-employer’ relationship. Cases which are outside the defined scope of good/ services would not fall for consideration in the 80/20 rule. The Government FAQ on this aspect also affirms this conceptual understanding –

FAQ – 15. The condition in Notification No. 3/2019 specifies that 80% of inputs and input services should be procured from registered person. What about expenditure such as salaries, wages, etc. These are not supplies under GST [Sl. 1 of Schedule III]. Now, my question is, whether such services will be included under input services for considering 80% criteria?

Services by an employee to the employer in the course of or in relation to his employment are neither a goods nor a service as per clause 1 of the Schedule III of CGST Act, 2017. Therefore, salaries and wages paid by promoter to his employees will not be relevant for the minimum purchase requirement of 80%.

Step 2 – Identification of supplier of such inputs / input services

This step requires identification of the registration status of the supplier of inputs / input services. A supplier could be unregistered under GST on account of (a) turnover falling below the taxable threshold (b) not engaged in any supply/ business activity (c) exclusively engaged in exempt activity (d) exclusively engaged in RCM activity where recipient is liable to pay tax (e) compulsory de-registration on account of non-compliance or fraudulent activity. All such suppliers would qualify as unregistered persons and supplies therefrom would fall within the 20 per cent basket. Certain challenges arise while identifying the registration status of a supplier.

Retrospective Cancellation – Logically speaking, the status of registration of a supplier would have to be ascertained on the date of the transaction. Now, let’s take a case where a RE promoter avails supplies from a supplier having valid registration but is subjected to retrospective cancellation under section 29(2). The RE promoter would have naturally aggregated the supplies from such person(s) in the RP basket and established compliance with the 80/20 rule. After the computation and payment of the RCM, it has come to the knowledge of the RP that the registration of the supplier has been retrospectively cancelled. Generally, the RP would have also charged taxes on such inputs/ input services.

One of the objectives of imposing the URP-RCM is to augment revenue by balancing the tax on inputs as well as output taxes. URPs would have not levied tax on their supplies and hence an obligation has been placed on the RE promoter as a recipient of URP supplies to discharge tax and balance the loss of revenue under the reduced rate. Where the cancelled RPs have charged the tax on their supplies (having registration at the relevant point of time), a view can be adopted that retrospective cancellation does not alter the tax status of the transaction and hence the condition of the notification has stands complied. Moreover, the notification lacks any provision to perform a ‘true-up adjustment’ akin to Rule 42 based on change in registration status. In the absence of any specific provision for consequential reworking of retrospective cancellation, it appears that retrospective cancellation may not warrant a re-working of the 80/20 rule.

Filtration of supplies which are from RPs and URPs – The recent experience from revenue audits suggest that officers have the tendency to take gross expenditure reported in the Profit & Loss account of the RE promoter (exclude the salary costs and depreciation) and compare the composition of RPs and URPs with reference to the input/ input services reported in GSTR-2A. Take for example the table below:

Particular	Amount	Ratio
Total Expense in P&L a/c	100
Less: Payroll Cost	(20)
Less: Depreciation	(10)
Less: Non-supply costs/ accounting provisions	(20)
Input/ Input services of project	50	100 per cent
GSTR-2A inputs/ input services	30	60 per cent
Balance deemed as URPs	20	40 per cent

The revenue authorities are adopting a summary approach to ascertain the compliance with 80/20 rule. They believe that the only a credible source of information for RP procurements is the GSTR-2A. The balance is deemed to be obtained from URPs. This approach fails to appreciate that in many cases the suppliers report their invoices in B2C column and hence they do not reflect in the GSTR-2A. There is a burden placed on the RE promoter to prepare the expense register with corresponding GSTINs of suppliers involved. Since the burden of proof to establish compliance with an exemption notification is on the tax-payer, the cumbersome process would necessarily have to be followed by the tax-payers.

Step 3 – Identification of inputs or input services ‘used for supplying the service’

This is the most critical step and ambiguous leg in ascertainment of the GST liability under RCM. The said provision states that RCM liability would be imposed only on such inputs or input services which are ‘used for supplying the service’. This phrase is relatively ambiguous and leaves us with the question of whether RCM is imposable on the entire gamut of input or input services which are received the RE promoter. The specific questions in this regard are (a) whether all business related inputs/ input services are amenable to RCM or only such inputs/ input services which are having a nexus with the construction services of flats amenable to RCM (Nexus vis-à-vis construction activity or business activity); (b) what is the extent of nexus required with construction activity, whether indirect costs / apportioned costs would fall into consideration (Direct and/ or indirect nexus with construction activity); (c) whether there should also be a nexus with the exemption entry itself (Nexus with exemption entry);

Issue A – Nexus Issue vis-à-vis entire business activity: The rule provides for imposition of RCM on inputs/ input services used in supplying the service. On the other hand, the terms input and input services have been defined with reference to the ‘overall business activity’ of a taxable person. The business activity of a taxable person is wide enough to include all streams of supplies (construction services, other taxable or non-leviable supplies, etc.). Take for example a promoter who is engaged in construction activity of residential flats as well as engaged in sale of residential plots (which is a non-leviable activity) and residential project maintenance activity (a completely taxable activity). Though all business costs would form part of the definition of inputs/input services, only those inputs/ input services which are used for supplying the construction services
would fall into the 80/20 pool. To reiterate, only those inputs and input services which are ‘used in supplying the construction service of residential flats’ are to be considered. In the said example, inputs/ input services exclusively pertaining to the plotted development and the maintenance activity would fall outside consideration. Reference can also be made to the explanation to the proviso which mandates the promoter to maintain ‘project wise accounts’ for the RE project and RCM is to be discharge on a yearly basis for the relevant project only.

Issue B – Direct or indirect nexus with Construction costs – The RCM notification, which is the primary notification imposing RCM liability, makes a reference to the excess procurements from URPs for the purpose of ‘construction of the project’. Thus, reading the rate/ exemption notification and the RCM notification in tandem appears to lead to the conclusion that RCM liability is imposable only on such costs which meet both the criteria’s – i.e.

– Used for supplying the construction services; and

– Used for construction of the project.

Therefore, the expenses should not only be used for providing the construction service, it shall also be related to the cost of construction of the RE project. Inputs and input services exclusively related to other business activities or undertaken at the management or corporate level operations may not fall into the 80/20 pool. A tabulation of certain typical costs incurred
by a Promoter during his business activity may be analysed:

Nature of Costs	Extent of Nexus	Includability
CONSTRUCTION SERVICE RELATED COSTS
Civil construction costs	Direct Nexus – exclusive to Construction costs	Yes
Common amenities costs	Direct nexus – exclusive to construction costs	Yes
Goodwill for land	Direct Nexus – Debate on being input services	Debatable if in nature of development rights
Post OC Finishing costs	Direct Nexus – exclusive to construction services	Debatable since RCM is imposable only upto Project OC date
Marketing costs	Having indirect nexus with construction costs but used for construction services	May be
Government related costs	Direct nexus with construction costs	Yes
Rental accommodation for existing redevelopment projects	Direct nexus with construction services but strictly not a construction cost	May be
CORPORATE BUSINESS/ ENTITY LEVEL COSTS
Director Sitting Fees	Common	Excludible
Interest costs	Common	Excludible
Corporate office Rentals	Common	Excludible
Corporate administrative Costs	Common	Excludible
Brand promotion/ Marketing	Common	Debatable

The criteria for inclusion of the procurements are its linkage to the construction services and the ascertainment of whether they are ‘construction costs’. Evidently, the notification does not specify whether such nexus should be direct or indirect and exclusive or common. Moreover, where common costs are incurred for multiple projects/ business segments, the notification does not provide for an apportionment mechanism for such costs. The Government FAQ (extracted below) indicates that common costs should be apportioned among the various projects on a carpet area basis.

“FAQ – 5. In case of a Real Estate Project, comprising of Residential as well as Commercial portion (more than 15%), how is the minimum procurement limit of 80% to be tested, evaluated and complied with where the Project has single RERA Registration and a single GST Registration and it is not practically feasible to get separate registrations due to peculiar nature of building(s)?

The promoter shall apportion and account for the procurements for residential and commercial portion on the basis of the ratio of the carpet area of the residential and commercial apartments in the project.”

It is here where a decisive tax position may have to be taken by promoters to implement the rule. A conservative view would be to identify all direct project-related costs in terms of commercial principles (cost centre accounting). To this direct cost a reasonable apportionment of common costs (either based on carpet area or turnover etc.) may be adopted and such costs may be loaded onto the direct project costs. In the above table, if a RE promoter incurs common marketing costs for multiple projects, it may apportion the yearly marketing costs to each project on carpet area basis and then apply the rule against each project independently.

Issue C –Nexus Issue vis-à-vis construction services activity: One may recall that the 80/20 rule has been introduced as a condition to an exemption entry w.r.t construction services rendered by a promoter in a residential real estate project. The RCM notification parallelly imposes the tax liability on the promoter who avails the benefit of the exemption entry under the rate notification. This leads to a pressing conclusion that 80/20 rule is applicable only to such supplies which are availing the benefit of the exemption entry. Therefore, the question which may require consideration is whether the input and input service must have a nexus with the supply of construction service. Can one infer that only such supply activities taxable under the construction service entry of the rate/ exemption notification would be subjected to the 80/20 rule?

We are all aware that only under-construction booked flats are liable to tax by virtue of Schedule II – on the converse, flats which are un-booked/ in stock until issuance of OC and / or are sold after issuance of the OC are not considered as supply in terms of Schedule II read with Schedule III. Accordingly, these flats do not require the cover of an exemption entry.

The RE promoter would incur common costs for all flats comprised in the RE project. The exemption entry would operate only once the levy is attracted i.e. receipt of sums of money for under-construction flats. Consequently, the 80/20 rule should operate only to the limited extent of the residential flats which were booked/ sold by the RE promoter prior to OC date. If the exemption entry is said to operate only to the extent the project is booked, then inputs and input services pertaining to the flats which were lying unbooked or sold after OC would stand excluded from the RCM liability. Let’s understand this by way of an example – the progression of the flats booked by the end-customer in the RE project and the implication of the 80/20 Rule could be interpreted as follows:

Year	% of flats booked	Applicability of Exemption entry & 80/20 rule	Remarks
Y1	Project Launch – 10 per cent	On 10 per cent	10 per cent flats taxable
Y2	Under construction – 40 per cent	On 40 per cent	40 per cent flats are taxable
Y3	Upto Occupancy Certificate – 80 per cent	On 70 per cent	70 per cent flats are taxable
Y4	Post OC Sale/ Unbooked Flats – 20 per cent	On 70 per cent	Balance 30 per cent flats are not supplied

The above table depicts that the Company would be incurring common costs (in form of inputs and input services) for the entire project tenure from Y1 to Y4 for all the residential flats comprising the project. The simple reading of the proviso to the exemption entry implies that the 80/20 rule operates on the entire project costs. But one should also not lose sight of the fact that the 80/20 rule is a condition for an exemption entry. The RCM entry is also linked to such exemption entry. Therefore, in Y1 it appears that only 10 per cent of the project cost would be amenable to the 80/20 Rule; in Y2 only 40 per cent of the project cost would be amenable to the said rule and in Y3 70 per cent of the project cost would be subjected to this rule. Flats which remain unbooked or sold post OC do not require the shelter of the exemption entry and hence need not be subjected to the 80/20 rule.

Though this interpretation and its consequential apportionment is not explicit in the proviso or RCM notification, the fact that the RCM liability is tagged to the exemption entry gives legal credibility to this interpretation. A reasonable / rational approach would be to compute the RCM liability for the entire project under the 80/20 rule and then apportion them to the extent of the percentage of flats booked in the project. This approach would certainly face resistance from the revenue authorities who believe that RCM is an independent / stand-alone provision for taxation and hence the entire project is subjected to 80/20 rule.

Similar issue arises where certain RE promoters are offering the land owner’s share of flats as a works contract service rather than construction service and discharging tax at the head line rate of 18 per cent instead of 5 per cent. While RE promoters have a legal rationale for fixing the tax at 18 per cent, a connected complication emerges on the front of the 80/20 rule. Re-iterating the principle stated above, the RE promoter is discharging tax to the extent of land owner’s share as a contractor under works contract service category and is not availing the benefit of the exemption entry. Therefore, the 80/20 rule cannot be said to extend its domain of operations on other taxing/ exemption entries. 80/20 rule would have to be trimmed to this extent in such scenarios. The Government FAQ in this context may be relied for this purpose. It clearly excludes the applicability of 80/20 rule where the tax is being paid under a different entry of the rate/ exemption notification.

FAQ 17. – Whether the condition of receiving 80% of inputs and input services from the registered person shall be applicable if the developer opts to continue to pay tax at the old rates of 12%/8% in respect of an ongoing project?

No, if the developer opts to continue to pay tax at the old rates of 12%/8% in respect of an ongoing project, the condition of receiving 80% of inputs and input services from the registered person doesn’t apply.

POST OC COSTS/ COMPUTATION OF 80-20 RULE

RE promoters incur costs even after issuance of occupancy certificate. The said costs could be in the nature finishing costs (housekeeping, fittings, etc.), post OC receipt of invoices from contractor, etc. 80/20 rule provides that the RE promoter would have to compute the RCM liability for each financial year until the issuance of the OC. The literal wordings limit the operation of the rule only for inputs and input services received upto to OC. This is despite that the RE promoter is in the process of handing over possession/ registration of pre-booked flats during the construction stage and is yet to offer the said dues for taxation under the construction services entry. We reach a situation where the RE promoter would be availing the benefit of the exemption entry for Post OC receipts of under-construction pre-booked flats but is not under the obligation to discharge the RCM under the 80/20 rule. This is primarily because the time frame of applicability of the 80/20 rule is from the date of commencement of the project until issuance of the occupancy certificate. We may recall that the provisions of 13(3) which fix the time of supply on RCM activity at the time of making payments or sixty days from the date of issuance of the invoice by the supplier. Going by the time of supply provisions, all payments made to URPs after the OC would be outside the scope of the 80/20 rule.

Step 4 – Discharge of Tax / Rate and Value

Exemption entry under Exemption Notification vis-à-vis Rate notification

The other aspect is the inclusion of taxable and exempt supplies of goods and/or services. By taxable supplies we refer to those supplies which are leviable to specific rate under the rate/ exemption notification (say 5 per cent, 12 per cent, etc.). Exempt supplies are those which are wholly exempt under the exemption notification (NIL rate). The current structure of the notifications is framed as follows:

– Rates for goods are notified in N-1/2017

– Wholly exempt goods are notified in N-2/2017

– Rate for services / partially exempt services are notified in N-11/2017

– Wholly exempt services are notified in N-12/2017

The point for consideration is whether the RCM liability can be fixed at the headline rate of 18 per cent on all goods/ services including those which are partially / wholly exempt. Take for example, purchase of water (which is wholly exempt goods) and interest on borrowings (which is wholly exempt service). In literal terms the said goods / services would qualify as ‘inputs’ / ‘input services’ and hence form part of 80-20 rule computation. The supplier while supplying the goods would have claimed exemption under the goods / services exemption notification respectively. But by virtue of special entry (452Q of the goods rate notification and 39 of the services notification), the very same transaction at the recipient’s end appears to be subjected to imposition of a 18 per cent tax rate to the extent such costs along with other costs cross the 20 per cent URP threshold. Two concerns arise here (a) the transaction is being viewed differently at the supplier’s end (by grant of exemption) and differently at the recipient’s end (by imposing a 18 per cent liability). Moreover, the Government is taking away the benefit granted at the supplier’s end (which ultimately benefits the recipient) by imposing a tax at the recipient’s end. Is this permissible or legally intended? The Government FAQ in this context is below”

“FAQ – 18. Whether the inward supplies of exempted goods/services shall be included in the value of supplies from unregistered persons while calculating 80% threshold?

Yes. Inward supplies of exempted goods/services shall be included in the value of supplies from unregistered persons while calculating 80% threshold.”

We take a step forward to understand the operation of the rate/exemption notification vis-à-vis RCM notification. The source of the rate/exemption notifications assumes significance. Section 9(1) imposes the liability of GST supplies at the rates notified by the Government. Section 9(1) is a charging provision which specifies the subject-matter of tax, its taxable value, its taxable rate and the taxable person. Section 11(1) is an extension of the said provision which provides for a partial or a full exemption to specified categories of goods/ services. By application of these sections, one ascertains the tax payable on supply transactions.

Sections 9(3)/ 9(4), on the other hand, are merely collection provisions whereby the recipient has been fastened with the last aspect of levy i.e. the person by whom tax is payable. These sections operate vis-à-vis the discharge of tax liability and not with respect fixation of the levy (i.e. fixation of rates / value on which tax is payable). To address this, the policy makers have inserted specific entries i.e. Entry 452Q in goods rate schedule and Entry 39 in services rate schedule. The said entries specifically state that despite goods/services being specifically classifiable elsewhere, in respect of the value representing the excess procurement from URPs, the said entry would prevail over all other specific entries. Therefore, there are conflicting rates in the rate schedule – one being the rate under which the goods/ services are classifiable and the other being the special entry introduced by virtue of the 80/20 rule. Going by the explanations to the special entry, the said special entry would prevail over default entry.

But it is important to carefully note that this overriding implication extends only to the rate schedule (i.e. Notification 1/2017 for goods or 11/2017 for services). The extract of the overriding explanation is worth noting:

“Explanation. – This entry is to be taken to apply to all services which satisfy the conditions prescribed herein, even though they may be covered by a more specific chapter, section or heading elsewhere in this notification.”

Emphasis should be placed on the phrase ‘this notification’ which clearly implies that the explanation does not extend its operations to other notifications (including the exemption notification 2/2017 for goods and 12/2017 for services). Keeping this inference in mind, we should apply the provisions of section 9(1) r/w 11(1). Now let’s go back to the water/ interest example which is specified as wholly exempt by virtue of 11(1). The baseline rate in the rate schedule would typically fall under the residuary category of 18 per cent. The special entry for RCM also imposes tax at 18 per cent and the said special entry could prevail over the default entry specified in the rate notification. But on the other hand, the exemption notification grants a complete exemption to water/ interest. Can these conflicting conclusions be reconciled? The possible answer would be that the special entry prescribed for imposition of tax at 18 per cent on all goods/services would extend only to the rates notification and cannot override the exemption notification. Though tax is payable at 18 per cent, by virtue of an exemption notification, the said goods would stand to be completely exempt in terms of section 11(1). Hence, RCM may not be payable on such exempt goods despite the special entry introduced for RCM purposes. The repercussion of this conclusion would give rise to the question of what is comprised in the excess value of URPs. The table below depicts the challenge:

Goods	Rate	Composition to Total Cost
Sand	Taxable	5 per cent
Wood	Taxable	10 per cent
Water	Exempt	5 per cent
Jelly	Taxable	5 per cent
Total URP composition		25 per cent
Excess URP purchase		5 per cent

The question here would be on the attribution of the 5 per cent excess URP purchase to a particular commodity to decide its taxability/ exemption. The law is clearly silent on this aspect and one reaches a dead-end to implementation of the Rule. While one may claim absence of a machinery mechanism, a conservative taxpayer would discharge the tax assuming that all taxable and exempt activities are includible in the 80/20 rule and subjected to the 18 per cent headline rate.

OTHER ISSUES IN IMPLEMENTATION OF 80/20 RULE

Interplay of section 9(3) – specified list of RCMs and 9(4) – RCM on URP procurements

The other interesting issue arises in the inter-play of RCM liability emerging from notification issued u/s 9(3) as well as 9(4). Take the table below as an example:

Services/ Goods	Covered under notification 9(3)	Covered under Notification 9(4)
Lawyer services	Yes	Yes, if the supplier unregistered
Goods transport services	Yes	Yes, if the supplier unregistered
Sponsorship services	Yes	Yes, if the supplier unregistered
Services from the Central/ State Government	Yes	Yes, if the supplier unregistered
Services of renting of motor cab in specific instances	Yes	Yes, if the supplier unregistered

Therefore, certain services are due for RCM liability under both notifications. One would simply believe that the consequence would be neutral as RCM is payable in either scenario. But such a belief is not true. Take for instance a case where these services are procured from unregistered suppliers but fall below the 20 per cent threshold. In such a scenario, the RE construction services notification read with the RCM notification issued under section 9(4) would not obligate the RE promoter to discharge the tax to the extent it falls below the 20 per cent threshold. We may also note that RE construction services notification contains a provision which reads as follows:

“Provided also that inputs and input services on which tax is paid on reverse charge basis shall be deemed to have been purchased from registered person”;

Curiously, the said proviso only states that once tax is paid under RCM basis on certain inputs/ input services, they shall be deemed to have been purchased from registered persons even-though they have been actually purchased from URPs. The proviso operates only on such inputs/ input services where the tax is paid and does not conclude on whether tax is payable at all on such overlapping RCM provisions. The purpose of this proviso is two-fold (a) to avoid consequence of double taxation of RCM under section 9(3) and 9(4); (b) to treat the RCM tax paid on excess procurements as part of the 80 per cent pool and make an otherwise non-compliant service provider, a compliant service provider after payment of the RCM tax, thereby protecting the exemption. But the proviso no-where breaks the conflict arising from simultaneous operation of both section – 9(3) and 9(4).

A conservative view would be to hold that section 9(3) RCM liability would continue to be payable (being a specific entry and applicable to all persons without any exception). Moreover, the RCM notification is not intended to grant any exemption of RCM liability to inputs/inputs services which were previously taxable – the situation is status quo as regards lawyer/ GTA, etc. activities. RCM notification under section 9(4) was introduced to place a new liability on input/input services which are not previously taxable. Therefore, RCM would still be payable in terms of 9(3) and once the RCM liability is paid, the said amounts would fall within the RP basket by virtue of the proviso extracted above. Alternatively, an aggressive view would be that both notifications operate in tandem, but the notification 9(4) is more specific for RE promoters. Moreover, since such notification entry is subsequent to the introduction of entry in notification 9(3), the entry in Notification 9(4) would have overriding effect. Consequently, such lawyer and other specified services falling with the 20% threshold would not be liable for RCM to such extent.

INTER-PLAY OF INPUTS/ INPUT SERVICES WITH PLACE OF SUPPLY PROVISIONS

The basic tenets of imposition of GST liability involve ascertainment of the inter-state or intra-state character of a supply. Once this is decided, the supply transaction is to be legally examined within the confines of the respective statute and notification (i.e. intra-state supply would be subjected to CGST/SGST notifications and inter-state supply would be subjected to IGST notifications). Even in the context of RCM, the recipient has to assess the inter-state/ intra-state character of a supply and discharge its liability accordingly. Curiously the 80/20 rule does not lay down any guideline on this aspect. All RE promoters would charge CGST/SGST taxes on their output supplies on account of the POS provisions. Hence, they avail the benefit of the CGST/ SGST notification and do not have to draw any reference to the corresponding IGST rate/exemption notification.

But they may be availing inter-state inputs and services from both RPs as well as URPs². Two challenges emerge herein: (A) Whether inputs and services specified under the RCM notifications include only those which meet the CGST/ SGST provisions (i.e. intra-state inputs/ input services) or even those which meet the IGST provisions (i.e. inter-state inputs/ input services); and (B) Can an intra-state notification impose RCM liability for an inter-state input/ input service? The RCM notification can be referred herein. While CGST is properly worded, the IGST notification and the corresponding RCM notification apply only when IGST exemption is being availed under the IGST Act:

Sl. No.	Category of supply of goods and services	Recipient of goods and services
(1)	(2)	(3)
1	Supply of such goods and services or both [other than services by way of grant of development rights, long term lease of land (against upfront payment in the form of premium, salami, development charges, etc.) or FSI (including additional FSI)] which constitute the shortfall from the minimum value of goods or services or both required to be purchased by a promoter for construction of project, in a financial year (or part of the financial year till the date of issuance of completion certificate or first occupation, whichever is earlier) as prescribed in notification No. 8/2017-Integrated Tax (Rate), dated 28^th June, 2017, at Items (i), (ia), (ib), (ic) and (id) against Serial No. (3), published in Gazette of India vide G.S.R. No. 683(E), dated 28^th June, 2017, as amended.	Promoter

2. Section 24 provides compulsory registration where the inter-state supply is a taxable supply and possibly exempt suppliers would not have availed compulsory registration despite inter-state supplies

A decisive answer to both the questions may be slightly elusive. One may interpret the IGST entry as having reference to inputs and input services only on application of the IGST statute and the IGST rate/exemption notification. Where the RE promoter is discharging tax under the CGST statute and CGST rate/ exemption notification, the input and inputs services having an inter-state character would stand excluded. This is apparent from the reading of the IGST-RCM notification (7/2019-IGST(R)) which imposes IGST-RCM liability only with reference to the prescription/ quantification as per the IGST exemption notification and falls short from referring to the CGST/SGST exemption entry. There is no apparent cross-linkage among the IGST and CGST/SGST act and their RCM and the rate/ exemption notifications. Thus, literal wordings lead to the pressing interpretation that IGST-RCM may not be payable when applying the CGST/SGST rate/ exemption entry. RE promoters would not be liable to include inter-state inputs/ input services while ascertaining the CGST/SGST liability under the 80/20 rule.

CONCLUSION

The fiscal benefits of a complicated rule such as this should be ascertained by policy makers from the revenue collection statistics. Where the tax collections are insignificant in comparison to the legal complexities and administrative burden, an attempt should be made to simplify the rate notification and ease the business enterprise from the burden of the 80/20 rule. This apart, the initial concerns of stakeholders that the RE notification is complicated and challenging to comprehend seems to have dwindled over the years and the RE promoters have accepted the composition scheme as the norm for the future thereby re-working their project costs with much more certainty. The RE promoters opting for this notification have experienced significant drop in their compliance burden in terms of ITC availment, 2A matching, vendor followup and most importantly project economics. The only urge of the industry is that since the industry is now following main-stream economy, it is time to reduce the overall impact of transaction taxes on this sector.

shailesh.kwebmaker

Logistics Sector

INTRODUCTION

Logistics is one of the most essential sectors of an economy and comprises all supply chain activities, mainly transportation, inventory management, flow of information and customer service. Though primarily concerned with the movement of goods, the sector covers a host of activities apart from transportation of goods, such as clearance with customs authorities, storage of goods, etc., and requires involvement of various stakeholders, such as transporters (road/ rail/ air/ waterways), warehousing service provider, customs house agent/clearing and forwarding agents, etc., The various activities involved in this sector are listed below:

Transport of goods by road, rail, air and waterways, including multi-modal transport,
Freight forwarding services,
Warehousing services, including Free Trade Warehousing Zones,
Clearing and forwarding services, including services provided within port areas.

In this article, we have discussed the above activities covering the sector along with various GST issues revolving around them.

A. TRANSPORTATION OF GOODS

The core activity undertaken by this sector is the transportation of goods with all other activities being incidental to this. The mode of transportation of goods may be either by road, rail, air or waterways or a combination of more than one. The applicable GST rates for service of transportation of goods, when supplied via a single mode are notified under notification 11/2017-CT (Rate) dated 28th June, 2017 as under:

Description of Service	Notified Rate	Conditions
Service of GTA in relation to transportation of goods supplied by a GTA where the GTA does not exercise the option to itself pay GST on the services supplied by it	5 per cent	Credit of input tax charged on goods and services used in supplying the service has not been taken.
Service of GTA in relation to transportation of goods supplied by a GTA where the GTA exercises the option to itself pay GST on the services supplied by it	5 per cent (without ITC) /12 per cent (with ITC)	Option should be exercised in Annexure V on or before 15th March of the preceding financial year. Once option is exercised, the same cannot be changed.
Transport of goods in container by rail by any person other than Indian Railways	12 per cent	Nil
Transport of goods by rail, other than above	5 per cent	Credit of input tax charged in respect of goods in supplying the service is not utilized for paying central tax or integrated tax on the supply of service.
Transport of goods in a vessel including services provided or agreed to be provided by a person located in non-taxable territory to a person located in non-taxable territory by way of transportation of goods by a vessel from a place outside India up to the customs station of clearance in India.	5 per cent	Credit of input tax charged on goods (other than ships, vessels including bulk carriers and tankers) used in supplying the service has not been taken. This condition shall not apply where the supplier of service is located in non-taxable territory.
Transportation of goods, being natural gas, petroleum crude, motor spirit (petrol), HSD or ATF through pipeline subject to restriction in claim of input tax credit	5 per cent	Credit of input tax charged on goods and services used in supplying the service has not been taken.
Transportation of goods, being natural gas, petroleum crude, motor spirit (petrol), HSD or ATF through pipeline other than above	12 per cent	Nil
Multimodal transportation of goods	12 per cent	Nil
Transport of goods by ropeways	5 per cent	Credit of input tax charged on goods used in supplying the service has not been taken.
Goods transport services other than above	18 per cent	Nil

TRANSPORTATION OF GOODS BY ROAD

The levy of indirect tax on services of transport of goods by road has always been litigative and seen its’ fair share of controversy, right from its’ introduction under service tax regime. The same was primarily due to resistance by the transport sector, which predominantly has been an unorganised sector not geared up to comply with the taxation laws. This is why the concept of reverse charge mechanism was introduced for this sector.

The concept of reverse charge continued even under GST when services are provided by GTA with restriction on claim of input tax credit by the suppliers. Entry 1 of notification 13/2017 – CT(Rate) dated 28th June, 2017 provides that the same shall apply in case of services supplied by a Goods Transport Agency (GTA) to

(a) Any factory registered under or governed by the Factories Act, 1948 (63 of 1948); or

(b) Any society registered under the Societies Registration Act, 1860 (21 of 1860) or under any other law for the time being in force in any part of India; or

(d) Any person registered under the Central Goods and Services Tax Act or the Integrated Goods and Services Tax Act or the State Goods and Services Tax Act or the Union Territory Goods and Services Tax Act; or

(e) Anybody corporate established, by or under any law; or

(f) Any partnership firm whether registered or not under any law including association of persons; or

(g) Any casual taxable person; located in the taxable territory.

In view of representations made by the sector, the rate entries were amended and option to pay tax @ 12 per cent under forward charge was introduced with corresponding credits available to transporter. The entry read as under:

The above indicates that a taxable person may opt to pay tax @ 5 per cent (without ITC) / 12 per cent (with ITC) under forward charge. However, following issues emerge from the above:

Description of Service	Rate (per cent)	Conditions
(iii) Services of goods transport agency (GTA) in relation to transportation of goods (including used household goods for personal use). Explanation.-“goods transport agency” means any person who provides service in relation to transport of goods by road and issues consignment note, by whatever name called.	2.5	Provided that credit of input tax charged on goods and services used in supplying the service has not been taken [Please refer to Explanation no. (iv)]
Or
	6	Provided that the goods transport agency opting to pay central tax @ 6% under this entry shall, henceforth, be liable to pay central tax @ 6% on all the services of GTA supplied by it.

a) Can a GTA having multiple GSTIN, exercise different options for different GSTINs?

b) This is because under GST, each registration obtained by a taxable person is treated as distinct person, i.e., separate legal entity for the purpose of GST and therefore, a view was possible that separate options could have been exercised for separate registrations.

c) Once the option was exercised, did the taxable person have an option to revert to the RCM scheme, i.e., whether the option was permanent or temporary or a taxable person could change the option at the start of the next financial year? The notification did not explicitly provide for a change in the option and therefore, a view prevailed that once exercised, the GTA could not have changed the option.

Considering the above ambiguity, the entry was again amended vide notification 3/2022 – CT (Rate) dated 13th July 2022. It is now provided that the option to pay tax at 5 per cent will be the general rule, unless the supplier exercises the option to pay tax at 12 per cent which should be exercised on or before 15th March of the preceding year. The timeline to exercise the option for FY 2023-24 has been extended up to 31st May, 2023. It is for this reason that many suppliers have started obtaining multiple registrations and entities wherein under one registration / entity, the option is not exercised, i.e., under one registration /entity, the tax is paid under reverse charge by the recipient while in another registration/entity, the option is exercised, i.e., GST is charged @ 12 per cent with corresponding input tax credit. This also invariably clears the first confusion, i.e., whether the option to be exercised is vis-à-vis the legal entity or the specific registration as the Declaration is to be given for the GSTIN and there is no specific condition in the notification to the effect that the option exercised shall be uniform across the legal entity.

GTA VS. NON-GTA – RELEVANCE OF CONSIGNMENT NOTE

An important aspect which needs to be noted in the above rate entries is that they apply to services supplied by a Goods Transport Agency or GTA. The term “GTA” has been defined under the rate notification to mean any person who provides service in relation to transport of goods by road and issues a consignment note by whatever name called. This necessarily means that person who provides the service of transportation of goods by road but does not issue a consignment note is not a GTA. In fact, services of transportation of goods when not supplied by a GTA have been exempted vide entry 18 of notification 12/2017 – CT (Rate) dated 28th June, 2017 which exempts services by way of transportation of goods by road except the services of a goods transport agency or a courier agency.

Therefore, it can be said that whether a person supplying the service of transportation of goods by road is a GTA or not is dependent upon whether such person issues a consignment note or not? In this context, one may refer to the decision of Tribunal in the case of Narendra Road Lines Pvt. Ltd. vs. Commissioner [2022 (64) GSTL 354 (Tri-All)] wherein it has been held as under:

14. … … In some of the cases the appellant transported the goods by road without issuance of the consignment note, the said activity prior to June, 2012 was not classifiable under category of services as no consignment note was issued and it is prime requirement to demand service tax under the category of goods transport agency service. … …

Similar view was followed in the case of Mahanadi Coalfields Ltd. vs. Commissioner [2022 (57) GSTL 242 (Tri-Kol)] wherein the demand under GTA was set-aside by holding that issuance of consignment note is non-derogable ingredient for a service transport to fall under GTA.

It therefore becomes important to understand what constitutes “consignment note”. While the notification is silent to that aspect, vide press release (39 dated 1st January, 2018), it has been clarified that guidance can be taken from the meaning ascribed under Rule 4B of Service Tax Rules, 1994. In terms of the said rule, consignment note means a document issued by a goods transport agency containing following details/attributes:

It should be serially numbered,
It should contain the name of the consignor and consignee,
It should disclose the registration number of the goods carriage in which the goods are transported,
It should disclose details of the goods transported, the place of origin and destination,
It should disclose person liable for paying service tax, i.e., whether consignor, consignee or the goods transport agency.

Therefore, a supplier issuing a document in the course of supplying service of transportation of goods which contain all the above details can be said to have issued a consignment note and therefore, he will be GTA for the purpose of GST. However, in one particular case (K M Trans Logistics Pvt Ltd [2020 (35) GSTL 346 (AAAR-GST-Raj)]) before the Authority for Advance Ruling, a query was raised regarding the applicability of GST in case where the consignment note was not issued by them. In this case, the supplier was providing the service of transport of manufactured vehicles from factory to authorised dealers. It was their contention that in the course of providing the said service, they do not issue consignment note and therefore, the services provided were exempt from the levy of GST. This was however rejected by the Authority on the grounds that the service supplier was generating EWB which contained all the particulars required to be mentioned in a consignment note and therefore, held that they were not eligible for the above exemption. In the view of the author, this conclusion may not survive judicial scrutiny as an EWB does not contain many of the features which are prescribed u/r 4B of Service Tax Rules, 1994, such as being serially numbered, details of person liable to pay tax, etc.

This takes us to the next question of what happens if a supplier is able to prove that he has not issued a consignment note. The answer to this would be exemption from GST vide entry 18 of notification 12/2017-CT (Rate) dated 28th June, 2017 which exempts service provided by way of transportation of goods other than by a GTA or a courier agency.

GTA – SUB-CONTRACTING

At times it may so happen that a GTA (say “A”) has entered into a contract for providing service relating to transport of goods. However, the GTA may not have the means to execute the said service himself and therefore, he may appoint another GTA (say “B”) to execute the said service under the sub-contracting model. Under this model, both A and B are providing the service of transporting of goods by GTA with service flowing from B to A to client.

There remains an issue of whether B, i.e., sub-transporter can be treated to be GTA. This is because in Liberty Translines [2020 (41) G.S.T.L. 657 (App. A.A.R. – GST – Mah.)], it has been held that there cannot be more than one consignment note in a transaction. Since the contract would be awarded to A, the consignment note would generally be issued by A. The question that therefore arises is how the service by B to A shall be classified? In the above ruling, the Authority has also held that upon sub-contracting, classification of supply changes from the service of transportation of goods by GTA to service of hiring of means of transport. Therefore, the sub-transporter would be eligible to claim exemption under entry 22 of notification 12/2017 – CT (Rate) dated 28th June, 2017. However, this would necessarily mean that the sub-transporter will not be eligible to claim proportionate credit to the extent he has exercised the option of paying tax under forward charge.

However, the conclusion of the above ruling is questionable. So far as the conclusion that there can only be one consignment note in a transaction is concerned, one may refer to the Carriage by Road Act, 2007 which does not provide any exception from issuing the goods receipt note when receiving the goods from another transporter. The format of goods receipt note (provided in Form 8 of Carriage by Road Rules, 2011) to be issued by the transporter on receipt of goods from another transporter contains all the particulars which are required to be contained in consignment note. Hence, a view can be taken that even a sub-transporter can issue consignment note to the transporter.

Similarly, the second conclusion that classification changes upon sub-contracting is not correct in all instances. This is because if A has received a contract for transporting goods of a lesser quantity, say five boxes from Maharashtra to Gujarat (half vehicle load) and transports the goods in his own vehicle, he will end up bearing a loss as full capacity is not utilised. In such case, he might contract with B, who has a half-loaded vehicle going on the same route to also load his goods on his vehicle and deliver them on his behalf. In this case, it cannot be said that B has provided the service of hiring of vehicle to A. Rather, it is clearly a service for transportation of goods and therefore, since B is not a GTA for this leg of transaction (as consignment note is not issued), the service provided by him would be exempt under entry 18 of notification 12/2017-CT (Rate) dated 28th June, 2017.

To summarise, if the element of hiring of vehicles is not brought into picture, there can be following variants in a sub-contracting transaction:

Transporter	Sub-transporter	Implications
A – 12 per cent (FCM)	B – 12 per cent (FCM)	A and B will claim full input tax credit.
A – 12 per cent (FCM)	B – 5 per cent (FCM)	A to claim ITC of tax charged by B. No ITC available to B.
A – 12 per cent (FCM)	B – 5 per cent (RCM)	A to pay tax on service received from B under RCM and claim input tax credit. No ITC available to B.
A – 5 per cent (FCM)	B – 12 per cent (FCM)	A will not be entitled to claim input tax credit, thus resulting in tax inefficiencies.
A – 5 per cent (FCM)	B – 5 per cent (FCM)
A – 5 per cent (FCM)	B – 5 per cent (RCM)	A to pay tax on service received from B under RCM and claim input tax credit. No ITC available to B.
A – 5 per cent (RCM)	B – 5 per cent (RCM)	Liability on A to pay tax under RCM with no corresponding input tax credit
A – 5 per cent (RCM)	B – 5 per cent (FCM)	A will not be entitled to claim input tax credit, thus resulting in tax inefficiencies.
A – 5 per cent (RCM)	B – 12 per cent (FCM)

However, if B takes a view and is able to demonstrate that the transaction with A is that of hiring of goods transport vehicle or he is not a GTA (as he is not the one issuing consignment note), he shall be eligible to claim exemption under entry 22 / 18 of notification 12/2017-CT (Rate) dated 28th June, 2017. This will however restrict B’s claim of input tax credit under rules 42 / 43 of the CGST Rules, 2017.

TRANSPORTATION VS. HIRING

There are also instances where instead of providing the transportation services, the service provider gives the entire vehicle at the disposal of the client who can use the vehicle as deemed fit/necessary. Similarly, at times, a transporter having capacity issues may take the vehicle of other transporter on hire.

Such services are distinct from the service of supply of transportation of goods though the end objective
achieved may have been the same. However, the issue remains is whether such supplies will attract classification under chapter 9966 which deals with rental services or 9971 which deals with transfer of right to use any goods. The relevant rate entries are reproduced below for reference:

Chapter 9966:

Description of Service	Rate
Renting of goods carriage where the cost of fuel is included in the consideration charged from the service receiver	12 per cent
Rental services of transport vehicle with operators other than above	18 per cent
Time charter of vessels for transport of goods provided that credit of input tax charged on goods (other than on ships, vessels including bulk carriers and tankers) has not been taken	5 per cent

Chapter 9971

Description of Service	Rate
Transfer of right to use any goods for any purpose (whether or not for a specified period) for cash, deferred payment or valuable consideration	Same tax rate as applicable on supply of such goods

At this juncture, it may be relevant to refer to the decision of the Hon’ble Supreme Court in the case of Great Eastern Shipping Company Ltd. vs. State of Karnataka [2020 (32) GSTL 3 (SC)] wherein in the context of time charter agreements for vessels along with operating staff, the Hon’ble Supreme Court had held that during the period of agreement, the vessel was at the exclusive disposal of the other party and therefore the same constituted “deemed sales” and shall attract levy of sales tax/ VAT.

The time charter of vehicle specifically attracts 5 per cent GST. However, the same also gets covered under 9971 as per which, the applicable tax rate shall be the same tax rate as applicable on supply of goods. This may result in confusion as to which entry shall be applicable. In such a situation, one needs to refer to Rule 3 (a) of the Rules of Interpretation which provides that the heading with most specific description shall be preferred over a more general description. Therefore, one may take a view that entries under chapter 9966 shall have precedence over entries under chapter 9971, which are the residuary entries.

TRANSPORT OF GOODS BY VESSEL

The activity of transport of goods by vessel generally refers to the service of transport of goods by waterways. Traditionally, it referred to the services provided in relation to import / export of goods. However, with the development of infrastructure for transportation of goods within India using inland waterways, the provisions shall also apply to domestic services. However, to promote inland waterways, services by way of transportation of goods by inland waterways have been exempted under entry 18 of notification 12/2017 – CT(Rate) dated 28th June, 2017.

REGISTRATION ASPECT

The person supplying the service, i.e., shipping line may be located in or outside India. It may happen that an exporter of goods from India contracts for receiving the said service from a foreign shipping line. In such a case, the issue arises is whether the shipping line has supplied the service from India or not? This is because the shipping line receives the goods in India for loading on the vessel. Therefore, a view prevails that the shipping line is providing service from India and therefore, they are required to obtain registration and discharge GST on the charges collected from their clients.

Alternately, they also have an option to appoint the agent who will issue the invoice on their behalf and discharge the applicable GST. In such a scenario, the agents will obtain a separate registration for discharging the tax liability on charges collected on behalf of their principals (“principal registration”). The details under this registration will not form a part of the financials of agent as they are not themselves supplying the service, but merely facilitating the process of raising the invoice and collecting the consideration from the clients on behalf of the shipping lines.

However, other services which the agent provides on their own account will be taxed under their regular registration (“agent registration”), i.e., where they supply services on their own account. This would include local charges levied by ports, charges for transport of goods within the port area, etc., which are recovered from the importer/exporters. Similarly, the agents also recover charges from the shipping line for providing the above services on which GST is leviable as “intermediary”.

The consideration collected on behalf of the clients is remitted to the shipping lines abroad after making various deductions. One of the deductions include various expenses incurred by the shipping lines in India for which the invoices are issued by the local suppliers to the principal registration as the representative of the shipping line. There is a question of whether the input tax credit of tax charged on these supplies can be claimed while discharging the GST liability collected on behalf of the shipping lines. This question arises because the shipping lines sell the freight not only through their Indian agents, but at times, also directly through their foreign offices. Therefore, the location of supplier of service is outside India and no GST is leviable on the same. This would mean that the said inward supplies are used for both, taxable as well as non-taxable activities and claim of input tax credit may give rise to the question of levy of tax on such freight sold from outside India.

TYPES OF CHARGES

The supplies are generally structured under two models, i.e., “prepaid” or “to collect” which applies to both, import as well as export shipments. Under the prepaid model, the customer takes upon himself to pay the freight while in case of “to collect”, the liability to pay the freight and the incidental charges is on the consignee or some third party.

In addition to the above, in the course of providing the transport services, the shipping lines also collect various additional charges, such as:

Bunker adjustment factor
Bill of Lading Charges
Fuel Surcharge
Hazardous Material surcharge
Low sulphur surcharge
Emergency Risk Surcharge
Peak Season surcharge

The above charges are recovered in the course of providing the main supply, i.e., transportation of goods by vessel and therefore, attract same treatment as the freight charges.

EXEMPTION

It may also be noted that upto 30th September, 2022, the place of supply of services of transportation of goods by a vessel from customs station of clearance in India to a place outside India was exempted from the levy of service tax. This exemption was applicable especially when the services were supplied to Indian exporters. However, this exemption has been withdrawn w.e.f. 1st October, 2022 and the said services are now taxable and therefore, instead of outright exemption, the exporters will now have to opt for the refund mechanism to encash the tax charged by the service providers.

TRANSPORT OF GOODS BY AIR

The services of transportation of goods by aircraft are leviable to GST under the residuary rate, i.e., 18 per cent as there is no specific entry for the same in the rate notifications.

There are following exemptions w.r.t the said services:

Services by way of transportation of goods by an aircraft from a place outside India upto the customs station of clearance in India
Services by way of transportation of goods by an aircraft from customs station of clearance in India to a place outside India. This exemption (similar to export of goods by vessel) was applicable only upto 30th September, 2022 and has been withdrawn w.e.f 01st October, 2022.

MULTI-MODAL TRANSPORT

At times, it may happen that a supplier provides the service of transportation of goods by multiple modes, i.e., road, air, waterways or rail. This is termed as multi-modal transportation and the rate notification prescribes rate of 12 per cent for the same. However, this applies only to domestic multi-modal transport, i.e., transport of goods from a place in India to a place within India.

For example, an exporter who wants to ship goods to the US may procure the service of a transporter who picks up the goods from his location and ensures delivery till the US by transporting the goods to the customs port, arranging for vessel, etc., Though this supply involves multi-mode transport, for the purpose of GST, it is not classifiable under the said rate. Therefore, the supply should classify as transport of goods by water and attract GST @ 5 per cent.

The question that arises is would the answer differ if the contract identifies separate consideration for each activity, i.e., transport of goods by road, handling customs compliance, ocean freight, etc.? The answer to this question is in the definition of “composite supply” under section 2 (30) of the CGST Act, 2017 which is reproduced below for ready reference:

(30) “composite supply” means a supply made by a taxable person to a recipient consisting of two or more taxable supplies of goods or services or both, or any combination thereof, which are naturally bundled and supplied in conjunction with each other in the ordinary course of business, one of which is a principal supply.

Illustration: Where goods are packed and transported with insurance, the supply of goods, packing materials, transport and insurance is a composite supply and supply of goods is a principal supply;

(90) “principal supply” means the supply of goods or services which constitutes the predominant element of a composite supply and to which any other supply forming part of that composite supply is ancillary;

As can be seen from the above, to determine whether a supply constitutes composite supply, we need to analyse what is the principal supply, i.e., predominant supply. In the above example, undoubtedly, the principal supply is that of transportation of goods by water and therefore, a view can be taken that the entire service supplied is that of transportation of goods by water and shall attract GST @ 5 per cent.

RESTRICTIONS ON CLAIM OF INPUT TAX CREDIT

A perusal of the rate entries applicable to the sector would indicate that a lower tax rate has been notified for certain services along with restrictions on claim of input tax credit and referring to Explanation (iv) of the notification which provides as under:

(iv) Wherever a rate has been prescribed in this notification subject to the condition that credit of input tax charged on goods or services used in supplying the service has not been taken, it shall mean that,—

(a) credit of input tax charged on goods or services used exclusively in supplying such service has not been taken; and

(b) credit of input tax charged on goods or services used partly for supplying such service and partly for effecting other supplies eligible for input tax credits, is reversed as if supply of such service is an exempt supply and attracts provisions of sub-section (2) of section 17 of the Central Goods and Services Tax Act, 2017 and the rules made thereunder.

Therefore, wherever the rate notifications prescribe restriction on claim of input tax credit, the services providers will not be eligible to claim input tax credit on goods or services exclusively used for supplying the service and for the common inputs/ input services, input tax credit will be allowed only on proportionate basis in the method prescribed as per Rule 42/43 of the CGST Rules, 2017.

However, in cases where there is a restriction on the claim of input tax credit only on inputs, whether input tax credit of input services used in supplying the said service can be claimed in entirety? A view can be taken that where the condition relating to non-claim of input tax credit applies only to inputs, input tax credit of input services can be claimed in entirety. This is because if the intention of the legislature was to deny input tax credit of both inputs and input services, the condition would have referred to both. Instead, in some entries, the rate notification refers to restriction of ITC claim on goods, which includes both inputs and capital goods, while in some entries, it refers to inputs and in some, only to input services.

PLACE OF SUPPLY

Place of Supply is an integral part of the GST mechanism as it determines which tax must be paid by the supplier. Under section 12(8) of the IGST Act, 2017 which applies to services where the location of recipient and supplier of services is in taxable territory, the place of supply is determined as under:

Where the services are supplied to a registered person, the location of such registered person
Where the services are supplied to a person other than a registered person, the location at which the goods are handed over for transportation shall be the place of supply.

Similarly, for cross-border transactions, i.e., where either the location of supplier of service or recipient of service is outside the taxable territory, the place of supply was determined under section 13(9) of the IGST Act, 2017 which provided that except for courier services, the place of supply of service of transportation of goods shall be the destination of the goods. However, the Finance Act, 2023 has omitted the same (effective date of amendment has not been notified) which necessitates the need to relook at the applicable rule for determination of place of supply.

It is in this context that one needs to look at section 13(3) (a) of the IGST Act, 2017 which provides that in case of services supplied in respect of goods which are required to be made physically available by the recipient of services to the supplier of services, or to a person acting on behalf of the supplier of services in order to provide the services, the place of supply of the following services shall be the location where the services are actually performed. The question that arises is whether it can be said that the services supplied are in respect of goods? This aspect was clarified in the context of Service tax vide the Education Guide as under:

5.4.1 What are the services that are provided “in respect of goods that are made physically available, by the receiver to the service provider, in order to provide the service”? – sub-rule (1):

Services that are related to goods, and which require such goods to be made available to the service provider or a person acting on behalf of the service provider so that the service can be rendered, are covered here. The essential characteristic of a service to be covered under this rule is that the goods temporarily come into the physical possession or control of the service provider, and without this happening, the service cannot be rendered. Thus, the service involves movable objects or things that can be touched, felt or possessed. Examples of such services are repair, reconditioning, or any other work on goods (not amounting to manufacture), storage and warehousing, courier service, cargo handling service (loading, unloading, packing or unpacking of cargo), technical testing/inspection/certification/analysis of goods, dry cleaning etc. ….

As can be seen from the above, the Education Guide also provides that courier services are also covered under the above clause. The courier service is an extension of transportation service, which is also apparent from perusal of section 13(9) which prior to amendment, excluded courier services from its’ scope. Therefore, the possibility of the Authorities proposing to classify transportation services provided to recipient outside India under this clause may not be ruled out.

The above view can be countered with an argument that section 13(3)(a) intends to cover only such activities which are performed on goods. Mere handling of goods per se cannot be treated as being covered under section 13 (3) (a). In this regard, one may refer to the recent decision of the Hon’ble Tribunal in the case of ATA Freightline (I) Pvt Ltd vs. Commissioner [2022 (64) G.S.T.L. 97 (Tri.-Bom)] wherein it has been held as under:

13. … … The objective of separate treatment in Rule 4 of Place of Provision of Services Rules, 2012 is not just about accepting responsibility for goods on behalf of ‘provider’ of service as is evident from the proviso

‘4. Place of provision of performance based services. – The place of provision of following services shall be the location where the services are actually performed, namely:-

‘(a) services provided in respect of goods that are required to be made physically available by the recipient of service to the provider of service, or to a person acting on behalf of the provider of service, in order to provide the service :

Provided that when such services are provided from a remote location by way of electronic means the place of provision shall be the location where goods are situated at the time of provision of service:

Provided further that this clause shall not apply in the case of a service provided in respect of goods that are temporarily imported into India for repairs and are exported after the repairs without being put to any use in the taxable territory, other than that which is required for such repair.

xx xx xx’

therein, that goods concerned with the rendering of service is necessarily to be made available to the ‘provider’ or ‘person acting on behalf of provider’ by the ‘recipient of service’ for being put to use in the course of rendering service – an aspect that appears, and even conveniently, to have been passed over for scrutiny by the adjudicating authority. For so doing, the circular referred to by Learned Counsel would also have to be overcome.

It is therefore important that the CBIC issues a clarification on this issue before the notification making the amendment effective is issued.

DEEMED SUPPLY IMPLICATIONS

Entry 2 of Schedule I of the CGST Act, 2017 provides a deeming fiction to include supply of goods or services or both between related persons or between distinct persons as specified in section 25, when made in the course or furtherance of business as supply even if made without a consideration.

This provision has created a challenge for all sectors and has been discussed in detail in the past as well. This provision poses a similar challenge for the logistic sector as well. Let us try to understand this with the help of following example:

ABC is a transporter having pan-India presence through its’ branches.
ABC has a client in Gujarat who requests for service of transport of goods from its’ factory in Gujarat to their client in Tamil Nadu. ABC’s Gujarat branch fulfils the said request of the client and provides the services using its’ truck registered with Gujarat RTO Authorities.
When the goods are delivered in Tamil Nadu, its’ Tamil Nadu branch has received client request for transfer of goods to Maharashtra.
Since they already have a truck in Tamil Nadu on its’ way to Gujarat via Maharashtra, the same is used for fulfilling the client request. The Tamil Nadu branch raises the invoice to the customer.
Similarly, the Maharashtra branch also loads goods of its’ customer in this truck while it is on its’ way back to Gujarat and raises the invoice to the customer.

The above simple and very routine transaction in the industry raises the question of whether the Gujarat branch has supplied any service to the Tamil Nadu branch or Maharashtra branch? There is already a ruling by the AAR to hold that this constitutes hiring of motor vehicle and not GTA service. In such a scenario, the service can be treated as exempted in view of entry 22 of notification 12/2017-CT (Rate) dated 28th June, 2017. However, this might trigger reversal u/r 42/43 of the CGST Rules, 2017.

B. FREIGHT FORWARDING

The activity of freight forwarding is very common in the logistics sector. In this model, the freight is sold by the person to consignors, i.e., persons intending to have goods transported, though they themselves don’t execute the said service. Instead, they in-turn buy freight from the various service providers, i.e., transporters, shipping lines, airlines, etc.

Under the erstwhile regime, there was substantial litigation with respect to activities carried out by freight forwarders, primarily because services of outbound transportation of goods did not attract service tax. Therefore, even the freight forwarders would not charge service tax on the amounts recovered from their clients. Therefore, the Department used to allege that the freight forwarders were acting as agents and the difference in the rate at which they sell and buy freight was taxable as intermediary services provided. The demands made on this allegation were set-aside by the Tribunal in the case of Greenwich Meridian Logistics (I) Pvt Ltd vs. CST, Mumbai [2016 (43) S.T.R. 215 (Tri. – Mumbai)] wherein the Tribunal has held that the surplus earned by the freight forwarders arises from the activity of purchase and sale of freight on a principal-to-principal basis and therefore no service tax is leviable on the same. Simply put, the Tribunal has recognised the concept of trading in services. The principle laid down by the Tribunal in the above decision should apply on all fours to GST as well.
However, with GST being applicable on various transactions, the issue of cross-charge cannot be ruled out as there can be a scenario where the freight is sold by one location whereas purchased by another location. The implications relating to deemed supply would therefore need analysis.

C. WAREHOUSING SERVICES

Warehousing service is an integral part of the logistics sector. At times, the goods are required to be stored before they can be dispatched to their destination. As discussed above, warehousing services are in respect of goods and therefore, the place of supply for services provided in cases the location of recipient of service is outside the taxable territory shall be the place where the services are performed. Therefore, if warehousing services are provided to recipients located outside India, the same will be leviable to GST.

The above interpretation will be of aid when looked at from the perspective of a supply where both supplier and recipient are located in taxable territory. In such cases, there is a view that the place of supply is determinable under section 12 (3) of the IGST Act, 2017 which provides as under:

(3) The place of supply of services,—

(a) directly in relation to an immovable property, including services provided by architects, interior decorators, surveyors, engineers and other related experts or estate agents, any service provided by way of grant of rights to use immovable property or for carrying out or co-ordination of construction work; or … …

However, once it is said that the services are in respect of goods for section 13, it cannot be said that for the purpose of section 12, the same are in relation to immovable property. Therefore, when a person in Gujarat receives service of storage of goods in Maharashtra, the place of supply will be determined u/s 12 (2), i.e., the same will be the location of recipient of service and therefore, the supplier will have to charge IGST and not CGST+SGST.

EXEMPTIONS

It may be noted that an exemption has been given to storage and warehousing services provided in relation to specific goods, such as rice, minor forest produce, cereals, pulses, fruits and vegetables, and lastly agricultural produce.

The exemption relating to agricultural produce is mired with controversies as there is confusion revolving around what constitutes agricultural produce. The term “agricultural produce” has been defined as under:

“agricultural produce” means any produce out of cultivation of plants and rearing of all life forms of animals, except the rearing of horses, for food, fibre, fuel, raw material or other similar products, on which either no further processing is done or such processing is done as is usually done by a cultivator or producer which does not alter its essential characteristics but makes it marketable for primary market;

A reading of the above entry would indicate the following:

The goods under consideration should be any produce out of cultivation of plants and rearing of all life forms of animals, except the rearing of horses.
No further processing should be done on the produce or such processing should have been done which is usually done by the cultivator / producer.
The processing should not have altered its’ essential characteristics.
The processing should make the produce marketable for primary market.

The above exemption entry has seen its’ fair share of controversy vis-à-vis each of the above conditions. This has been primarily due to the clarifications issued by the Board Circular 16/16/2017-GST dated 15th November, 2017

For instance, there has been confusion over what constitutes produce. In SAS Cargo [2022 (59) G.S.T.L. 424 (A.A.R. – GST – Kar.)], the Authority has held that fresh eggs in shell on which no further processing is done are fully covered in definition of term agricultural produce.

Similarly, while reading the condition of “processing which is usually done by the cultivator / producer”, the phrase “which is usually” has been ignored, i.e., the Authorities have been denying the benefit of exemption by merely stating that since the processing is not being done by the producer/ cultivator, the exemption is not available. What should have been analyzed is whether the producer / cultivator can carry out the said process themselves? Merely because someone else carries out the process will not disentitle benefit of exemption.

For instance, in Guru Cold Storage Pvt. Ltd. [(2023) 3 Centax 266 (A.A.R. – GST – Chh.)], the Authority has held that the process of de-husking or splitting or both of pulses is not usually carried out by the farmers at farm level but carried out by pulse millers. Therefore, the pulses will not qualify as “agricultural produce”. Similarly, processed dry fruits have also been held to be outside the scope of “agricultural produce”.
Contrarily, in Lawrence Agro Storage Pvt Ltd [2021 (48) G.S.T.L. 47 (A.A.R. – GST – Haryana)] the Authority has correctly interpreted the condition and held that it is immaterial who carries out processes as long as processes such that usually done by cultivator or producer, not essentially altering essential characteristics of agricultural produce but make it marketable for primary market.

This takes us to the third condition that “the essential characteristics of the produce should not be altered”. In other words, the produce should remain as is and should not change form. For example, if a process of drying is undertaken on the grape to increase its’ shelf life, the grape is still called a grape. However, if the same grape is converted into juice, the resultant product cannot be said to be grape and therefore, there is a change in the essential characteristics of the produce. However, the question that needs focus is whether the first produces’ essential characteristic should not change or if even part of the produce is the intended produce, will the answer change?

For instance, in Sardar Mal Cold Storage & Ice Factory [2019 (23) G.S.T.L. 321 (App. A.A.R. – GST)], the Authority has held that when a tamarind pod is cracked open, string (fibre) removed and kernel is taken out, resultant tamarind (ambali foal) do not fall under definition of agricultural produce as shelling and removal of seeds to obtain pulp usually done by specially designed machines. Similarly, in the context of dried mango, dried gooseberry, etc., it was held that such products are procured by the traders from the cultivators/ producers and then undergo processes such as washing, cutting, shelling, cleaning, drying, packing, etc. which lead to considerable value addition as compared to that of product sold in primary market reflecting change in essential characteristic. Therefore, such items cannot be characterized as Agricultural produce.

Similarly, in Chopra Trading Co [(2023) 3 Centax 266 (A.A.R. – GST – Chh.)], the Authority has held that the process of milling of paddy to extract rice alters the essential characteristics of the produce. In Narsimha Reddy & Sons [(2023) 3 Centax 266 (A.A.R. – GST – Chh.)], it was held that benefit of exemption notification will be available in case of storage services provided in relation to seeds when activities undertaken are restricted to only cleaning, drying, grading etc., without any chemical processing. However, since in the said case, chemical processing was done, exemption will not be available.

However, in the context of milk, the Gujarat HC has in Gujarat Co-op. Milk Marketing Federation Ltd. [2020 (36) G.S.T.L. 211 (Guj.)] held that the activity of chilling of milk to extend its’ shelf life does not result in altering of the essential characteristics of the milk and therefore, exemption will be available.

This takes to the last condition of what constitutes “primary market”. The term has not been defined either under GST or even under service tax regime. However, the Gauhati High Court has dealt with the issue in the case of Apeejay Tea Ltd. vs. UOI [2019 (23) G.S.T.L. 180 (Gau.)] wherein it has been held as under:

31. On a reading of the provisions of Section 65B(5) of the Finance Act of 1994, it is to be understood that the expression primary market mentioned therein apparently refers to the market where the agricultural produce as such are being sold and the process that the cultivator or the producer may undertake is to the extent to make it transportable and presentable in such a market. When the aforesaid situation is compared with that of the manufactured and finished tea, which apparently is being transported by the petitioners, the Court cannot take a different view but to conclude that such transported tea is not for the purpose of being marketed in a primary market where the agricultural produces are being marketed, but on the other hand the transported tea is being marketed as a finished product in the consumer market for its consumption. In view of the above, as to whether the expression agricultural produce appearing in Entry 21(a) of the Notification Nos. 3/2013-S.T., dated 1-3-2013 and 6/2015-S.T., dated 1-3-2015 includes tea or not would have to be understood from the perspective of the definition of the expression agricultural produce as appearing in Section 65B(5) of the Finance Act of 1994 and not from the perspective of the expression agricultural produce as defined and explained in D.S Bist (supra).

The above decision clearly indicates that primary market is the market where the agricultural produce is traded, be it the first sell by the producer/ cultivator or subsequent trade by the traders. Therefore, when the storage services are provided in the context of the agricultural produce which satisfies other conditions of the exemption notification, the benefit of exemption notification would be available.

However, the decisions of the AAR are to the contrary. In Lawrence Agro Storage, the Authority has held that primary market refers to markets where cultivator/ producer makes the first sale of produce.

To summarise, while the notification does provide exemption from GST to storage and warehousing services provided in relation to agricultural produce, what constitutes agricultural produce is itself debatable and therefore, the industry is stuck with the various conflicting ruling by the AAR denying the exemption benefit to the suppliers. It therefore remains to be seen how the Courts look at the exemption entry.

D. CLEARING AND FORWARDING SERVICES (INCLUDING SERVICES PROVIDED WITHIN PORT AREAS)

Clearing and forwarding agents and customs house agents are an important cog in the wheel of the logistics sector which facilitate the activity of import and export of goods. This service provider act as intermediary co-ordinating with various agencies, be it customs, port, etc., facilitating the entire process of receiving the goods in the port area till the time the goods are loaded in the vessel in case of export transaction and from the time the vessel arrives in the port till the goods are cleared from the customs authority in the case of import transaction.

While providing the above services, the service providers incur various expenses acting as agents of their client, i.e., importer / exporter (as the case may be). The expense so incurred by them are recovered from their clients on actual basis as reimbursement and the service providers also recover their service charges for carrying out the said activities. Under the service tax regime, the service providers used to charge service tax only on their service charges while the expense incurred were claimed as reimbursement on actuals. The importer / exporters were eligible to claim the CENVAT credit on the strength of invoices issued by the service providers / the supporting invoices included by them in their reimbursement claim.

Whether the amounts claimed as reimbursement was includible in the value of service provided by the agents was a subject matter of litigation and reached finality with the decision of the Hon’ble Supreme Court in the case of Intercontinental Consultants & Technocrats Pvt Ltd [2018 (10) G.S.T.L. 401 (S.C.)].

However, with the introduction of GST and the input tax credit mechanism, there has been a need to change the structure. This is because the agents engage various service providers in the course of providing their services. This includes port authorities, terminal, transporters, etc., who provide services leviable to GST. It may not be feasible to provide the GSTIN of importer/ exporter to all such service providers and therefore, many agents have stopped the reimbursement model and the invoices are issued by them with GST on the entire amount, i.e., service charge plus reimbursement of expenses. This has however increased their exposure as any mismatch in input tax credit has to be borne by them.

On the contrary, in case of agents continuing under the reimbursement model, the issues have increased for the importer / exporter as they have to follow-up with the vendor who is not in their system.

In the port area, there are many service providers. They levy various charges, which include terminal handling charges, inland handling charges, airway bill charges, etc., The charges are levied by them for services provided in relation to goods and therefore, the place of supply is determined under section 12 (2) or 13 (3) (a) as the case may be and applicable taxes have to be charged. This will apply even in cases where the service recipient is located outside India.

CONCLUSION

The logistic sector forms an integral part of the economy as it keeps the economy running smoothly. However, when studied from the perspective of GST, there are substantial issues involved and it is therefore imperative that all such issues are analysed before any decision / tax position is taken.

shailesh.kwebmaker

E-Commerce/Start-ups

An e-commerce set-up is integral to every sector – FMCG, Electronics, Logistics, Banking and Financial services, etc. Integration of e-commerce operations with the respective industry can throw up intriguing issues. Conventional business practices are squandered by fluid business models (without appropriate legal documentation) being adopted by new-gen start-ups, hence posing difficulty in the ascertainment of the true nature of the transaction (sometimes even identifying its true supplier). In an earlier article, we discussed some of the challenges faced in the implementation of GST for the said sector. Certain further conceptual issues have been discussed in the ensuing paragraphs.

STATE WISE REGISTRATION

E-commerce marketplaces operate on a time-sensitive delivery model to end consumers. For this purpose, local hubs are being set up nearest to the customers’ locations in every part of the country. The said marketplaces operate the hub for logistical and last mile delivery of goods by suppliers spread across various locations. Goods from multiple parts are picked up and stocked at their locations. Marketplaces claim that they merely provide e-commerce and logistical support services to the vendors enlisted on their portal. Yet, the question of the requirement of registration of the hubs by (a) Marketplace and/or (b) Listed vendor falls into consideration. The said analysis requires the application of the definition of ‘place of business’ with registration provisions under section 22-25.

A. Normal registration of Enlisted Vendor @ Hub location

Listed vendors fall into two broad baskets (a) those availing end-to-end fulfillment and logistic services and store goods at the Hubs across the country (Category 1 Vendors); (b) those performing direct dispatch from origin to customer location through logistical support in which case goods arrive at the Hubs only for sorting, transshipment and consolidation without any intent for storage (Category 2 Vendors).‘Place of Business’ has been defined to include any premises where the “taxable person” stores “his goods” or “makes/ receives supplies therefrom”. A taxable person is liable for registration under section 22 ‘from’ where he makes the taxable supply of goods or services. A vendor would be required to obtain registration at the Hubs in cases where he himself stores goods and makes supplies therefrom. Mere storage by marketplaces as a part of their overall logistical support activity (say for consolidation, transshipment or any other temporary purposes) would not constitute storage by the taxable person.
While this is a very theoretical statement, the differentiating factor between Category 1 and 2 vendors could be the surrounding factual circumstances. Category 1 vendors who dispatch goods based on expected demand for storage at hub locations, without any pre-determined order from customers, with the objective of providing last mile time-sensitive delivery, may have to ‘stock and then sell’ the goods. They have to perform ‘branch billing’ for stock transfers and ‘local billing’ for end-customer delivery. Such models are generally adopted for standard and fast-moving products (such as electronics, packed consumer edible products, etc.) with state-level registrations at the hubs.
Category 2 vendors dispatch goods from their base location with overall logistical services being provided by the marketplace. The storage of the goods at the intermediary location is a part of the logistic activity by the marketplace and not the vendor. Moreover, the vendor has already identified the customer and raised the invoice to the end customer, appointing the marketplace to execute the delivery. In such cases, category 2 vendors may not be required to obtain state-level registrations at the hub locations.

However, this situation spurs two primary challenges. Firstly, section 24(ix) mandates compulsory registration for every person who makes supplies through an e-commerce operator. It suggests that the listed vendors should register in every state in which the e-commerce operator has presence/takes registration. This may not be a reasonable conclusion as it would make IGST supplies irrelevant for e-commerce operators. It would also become burdensome for a supplier to avail/comply with as many registrations as taken by the e-commerce operator. . A more practical interpretation should be adopted to such machinery provisions. Section 24 should be interpreted as mandating registration only for states ‘from’ where the e-commerce operators’ dispatch goods on behalf of the supplier. Despite e-commerce operator’s presence is spanning in multiple states, the location ‘from’ where the goods are being originally on-boarded by the e-commerce operator should form the basis of registration. Intermediate halts/ breaks in logistics should not alter the origin of goods. Hence, one could view section 24(ix) as a mandatory condition only for states of origin/ dispatch and not states of delivery.

The second challenge is with respect to the validity of e-way bill in cases where stoppage time for goods crosses the time limit; due to delays in transshipment/ consolidation at the Hub locations. The validity of e-way bills is designed assuming average speeds for continuous movement of consignments. Logistics partners (especially in low frequency routes) could consume time in identification of appropriate conveyance and consolidation of small consignments for operational efficiency. Many a times overload in the supply chain also results in delay in shipments. At the last mile, delivery at customer location could fail due to lack of response at the door and goods have to return to the warehouse for re-attempted delivery on a subsequent date. Such logistical challenges pose a practical risk of expiry of validity of e-way bills. With multiplicity in shipments by marketplaces and lack of specific knowledge about the delivery timelines at each warehouse, suppliers are also unable to track the validity of the e-way bills making them susceptible to expiry. NASSCOM has represented about both these practical challenges to the GST council. However, the Council is yet to take action on this aspect.

B. Normal registration of Market Place @ Hub location

Here again, market-places operate under distinct modes (a) those who perform the logistic support through own/ leased premises (Fulfillment Services) and (b) those who outsource the entire activity to a separate logistics arm (Listing Services). While performing fulfillment services, the marketplace procures the consignments, ships to hub locations, packs/repacks, stocks and performs last mile delivery. This is performed at warehouse locations of the market place. In such cases, both the vendor as well as the marketplace obtain registration in every state of warehouse presence. Where marketplace services are limited only to listing services with logistics being provided by a delivery partner (say BlueDart, Delhivery, etc.) and the marketplace does not by itself perform any logistics, then in such cases the marketplace generally avails a single state registration (regular) i.e. state from where they monitor/operate the entire e-commerce operations. In these cases, the logistics backend partner avails pan-India registrations for all the warehouse/transshipment centres set-up across the country for the services rendered by him. These models are feasible only for smaller e-commerce operations, not involved in time-sensitive delivery and for vendors making IGST supplies from their home state. In any case, TCS compliance for the e-commerce operator warrants TCS registration for such e-commerce operator in every state where the vendors are located i.e. states where the supply originates (refer discussion below).

C. E-commerce registration of Market Place for State-level operation

Questions arise in respect of marketplaces (a.k.a. e-commerce operators) whether they are liable to discharge the TCS on the collections from the supplies effected through their portal. There has been confusion on whether e-commerce registration is required for the marketplace in every state to which the supplies are made. Government FAQon this aspect proposes the following:

“8. Whether e-Commerce operator is required to obtain registration in every State/UT in which suppliers listed on their e-commerce platform are located to undertake the necessary compliance as mandated under the law?

As per the extant law, registration for TCS would be required in each State/UT as the obligation for collecting TCS would be there for every intra-State or inter-State supply. In order to facilitate the obtaining of registration in each State/UT, the e-commerce operator may declare the Head Office as its place of business for obtaining registration in that State/UT where it does not have physical presence. It may be noted that each State/UT has indicated one administrative jurisdiction where all e-commerce operators having business (but not having physical presence) in that State/UT shall register. The proper officer for the purpose of registration of ECOs has also been notified by each State/UT.”

The above FAQ does not provide much guidance on the legal position of requirement of TCS registration in every state. Compulsory registration provisions (under section 24(4)) under central and state enactment mandate such operators to take registrations at the respective state irrespective of whether they make any taxable supplies from a particular state. A strict reading of section 24, which overrides section 22, mandates the supplier to collect TCS under section 52 to obtain registration for every state irrespective of having any physical presence in that state. Section 52 places the responsibility of TCS on the e-commerce operator for cases where the supplies are effected through it and their collection is made by the e-commerce operator. Section 52 is merely a collection provision rather than levy on the e-commerce operator – the section should stand triggered only if there is an underlying levy of supply and corresponding TCS is payable by the e-commerce operator. Therefore, one could interpret the registration provision to piggyback the applicability of TCS in such state which in turn is dependent on the supply location. This could be elaborated through the said table:

Location of Supplier	MH	MH	MH with Branch in KA
Type of Supply – Inter-state / Intra-state	Inter-state with POS TN	Intra-state POS MH	Intra-state POS KA
Location of e-commerce operator	KA	KA	KA
Relevant GST law applicability	IGST – POS TN	C/MHGST	C/KAGST
Underlying levy	IGST-POS TN	C/MHGST	C/KAGST
TCS collection	Yes on IGST	Yes on C/MHGST	Yes on C/KAGST
Registration of E-commerce operator	MH registration necessary for TCS on IGST originating from MH	MH registration necessary for TCS on C/MHGST originating from MH	Separate KA TCS registration necessary for TCS on C/KAGST originating from TN

Therefore, from the above table it can be observed that the state in which the dispatch to customer location is performed, would form the basis of ascertaining the state from which TCS would have to be discharged and consequently the applicability of TCS registration may be ascertained. E-commerce operators would take TCS registrations only if they dispatch from a particular state and the underlying supply originates from
that state.

ONLINE INFORMATION AND DATABASE RETRIEVAL SERVICES (OIDAR)

The scope of OIDAR was outlined in the previous article (February 2023 issue). Essentially, OIDAR services have been carved out and granted distinct tax status. B2B OIDAR services have been placed under the RCM mechanism, while B2C OIDAR services have been placed under the forward charge provisions, placing the liability on the overseas service provider to take registration and discharge the tax liability. The definition was significantly wide and the Finance Act, 2023 has further obscured an already delusionary definition. The definition prior to and post amendment has been tabulated below:

Pre-amendment	Post-amendment
(17) “online information and database access or retrieval services” means services whose delivery is mediated by information technology over the internet or an electronic network and the nature of which renders their supply essentially automated and involving minimal human intervention and impossible to ensure in the absence of information technology and includes electronic services	(17) “online information and database access or retrieval services” means services whose delivery is mediated by information technology over the internet or an electronic network and the nature of which renders their supply essentially automated and involving minimal human intervention and impossible to ensure in the absence of information technology and includes electronic services such as,-

It can be observed that the shelter of services being ‘essentially automated’ and involving ‘minimal human intervention’ for a service to be excluded from OIDAR has been removed. The revised definition now states that any service rendered through information technology would amount to an OIDAR service as long as it is necessarily performed through information technology. Thus, the pre-requisite of a human intervention being at the minimal possible level has been removed, implying that the level of human intervention does not have any bearing on classifying a service as OIDAR.On the basis of this phrase, taxpayers hitherto claimed that online video content (like Youtube) would be OIDAR but live video content (such as coaching or live streaming on Youtube) was not OIDAR since human intervention in the latter was significant, albeit, it was routed through the use of information technology. The legislature on the other hand believed that the defense of minimal human intervention was artificial and subjective and hence it was necessary to broadbase the definition of OIDAR to all information technology-driven services. Though the said definition was originally adopted from EU laws, it was believed that service providers increased human intervention for claiming exclusion from the taxation net (particularly in B2C supplies) even though the services were ultimately consumed in India.

Interestingly, the removal of the phrase “supply being essentially automated and involving minimal human intervention” brings into its ambit many more activities beyond the scope of pure information technology-driven services. Take for example two services conducted on the same platform (a) online subscription services to Zoom platform (b) service of online video meetings through Zoom from outside India to business recipients in India.

The former (i.e. Zoom subscription services) was always includible as OIDAR since the services on Zoom platform were essentially automated through information technology involving minimal human intervention. The individual logs onto the Zoom platform and schedules the meetings which are auto-configured to provide the meeting address and credentials to the user’s email accounts. Zoom Inc. (the service provider) does not individually schedule or fix the meetings and this takes place through an automated process at the backend. No specific individual is assigned for the issuance of the digital address or operating the Zoom meeting. Hence, one could easily conclude that these are OIDAR services.

On the other hand, advisory services performed through these online video meetings were excludible on the claim that an individual across the other screen is actively involved in rendition of the service though information technology. The individual interacts (through digital network) with the recipient of services with back-and-forth conversations at both ends, increasing the human intervention. Information technology was a medium of delivery but the services were predominantly driven by human intervention, and hence akin to rendering the services physically to the recipient. This very same service now falls prey to the wide scope thrown open by the amendment.

The EU directives as well as CBEC’s own circular1 (during the service tax regime) provided fair guidance on demarcating the territory of automated services v/s person-driven services. EU directive had juxtaposed automated troubleshooting of computer and classical troubleshooting by an individual through remote connections to explain the comparative degree of human intervention in both activities. The latter displayed a higher degree of human intervention and possibly outside the scope of OIDAR services. But all this guidance material would now be made redundant leaving the field wide open for host of unwanted litigation on this front. The essence of OIDAR being oriented only for automated services has now been given a “go by” and certainly intervention of the Board is critically essential to stop the surge of litigation on this front.

1. Circular No. 202/12/2016-S.T., dated 9th November, 2016

With the amendment now in place, the only pre-requisite left available for a service to be excluded from the definition is the ‘impossibility of ensuring such service’ in the absence of information technology. The impossibility of performance of a service without the use of information technology is a highly subjective term. Taxpayers may claim that personalised services can alternatively be rendered even over physical means. The use of technology saves time and cost. Hence, they cannot be said to be impossible to perform without information technology. Revenue may on the other hand contend that technology has made such services possible, since without such technology an individual across the border cannot render services to anyone. This means that the services are impossible to deliver except through information technology.

Take another example of medical report examination by overseas offices. An individual at the backend examines medical reports and uploads its conclusion through information technology. Though the human intervention was substantial, the revenue could now easily claim that the services are OIDAR since such remote examination of medical reports would be impossible to ensure without information technology. In times where information technology has granted accessibility across borders, it would be very soon difficult for anyone to even fathom an activity which is not driven by information technology.

At the end, one can conclude that this amendment would largely impact B2C transactions where the overseas suppliers are required to obtain OIDAR registration in India and pay tax under forward charge mechanisms. B2B transactions were anyway liable to tax under reverse charge provisions and would have to pay the tax irrespective of if being classified as an OIDAR service.

LOYALTY PROGRAMS

E-commerce entities offer loyalty points/coins to customers on transactions made through their portals. The loyalty points / coins accumulated by these users are convertible into monetary discounts or redeemable vouchers for purchases made through its web-portal. The transactions that need examination here include (a) issuance/accumulation of loyalty points/ coins; (b) monetary discounts on redemptions of such loyalty points / coins against future purchase and (c) expiry of loyalty points / coins.

Nature of these Loyalty points/ coins:– Loyalty coins are a digital representation of future discounts which a customer can avail on the purchase through specified e-commerce portals (say 25 paise / coin). These coins are accumulated by the customer on every purchase through the application through a pre-determined formula and are redeemable after crossing specified thresholds by conversion into a monetary discount. These coins do not have direct money value, are not convertible into cash or any other mode of cash but can be used against transactions over the same web platform or even multiple platforms. CRED is a classic example of an application where every credit card payment through their application generates loyalty points. Flipkart also runs similar programs

Accumulation of Loyalty Points/ Coins: – Coins/ Points at the time of its issuance represent a contingent benefit that may arise in the future to its beneficiary. In a traditional sense, it is a legal entitlement for larger discounts on increasing volume of purchases – it is like saying “Come back to me next time and I will give you a larger discount on your next purchase”. But the digital set-up gives it an obscure appearance resulting in contradictory conclusions. Generally, the T&C of such programs entitle abrupt termination of these schemes and make such points worthless. Therefore, a mere accumulation represents a contingent promise on fulfillment of the purchase criteria at a future point of time. It may be difficult to even term these coins as ‘property’ more-so ‘transferable property’. But it is also difficult to counter-claim this as ‘sums of money’ because they are not equivalent to money itself. Mere accumulation of points should not result in any tax liability as there is no supply of any ‘property’ or ‘service’ being rendered by issuer to the end user. Importantly, there is no flow of any consideration against issuance of such coins. The trigger for issuance of coins is a purchase transaction which has been fully subjected to tax. Consideration being sine qua non of supply is absent at the time of issuance of coins and hence, such issuance could stand excluded from the tax net.Issuers also take an additional defense that this represents an ‘actionable claim’ since a future debt arises in favor of the end-user where the Issuer is expected to honor the monetary value/ discount against redemption of coins. But critically, this debt is not in monetary terms (as the T&C of the scheme do not fix a permanent ratio for conversion and have rights to withdraw the scheme at any point of time). However, such arguments were summarily rejected by the Appellate Authority of Advance Ruling in Loyalty Solutions and Research Pvt. Ltd².

2. 2019 (22) G.S.T.L. 297 (App. A.A.R. – GST)

Expiry of Loyalty Points/ Coins

Loyalty coins come with a particular shelf-life. Unless the user utilises the coins within the shelf life, they would be termed as worthless. Expiry of such loyalty coins is recorded as a reduction from the coins pool on a FIFO basis. This act of expiry/cancellation of coins is a unilateral act by the issuer without any specific approval for the same. Clearly such a unilateral act arose on account of non-usage by the beneficiary of such coins. Since the said coins did not result in any flow of consideration, the said expiry of coins may be viewed as an inconsequential event from a GST perspective. In summary, loyalty schemes are not taxable as either ‘goods or services’ but the finer aspects of the agreement may be worth examining to reach such a conclusion.

DISCOUNT/ PREPAID VOUCHER SCHEMES

Issuance of Vouchers – Varied business practices are adopted under the voucher scheme. Four participants are involved in this scheme (A) Scheme operator who brands/ displays the scheme; (B) Issuer which issues and manages the scheme (C) Merchant Outlet who accepts these vouchers (D) Beneficiary who benefits from the discounts specified therein. In most cases, the vouchers are issued by “Third Party Issuers” against payments made to them by the scheme operator (say a Raymond voucher is issued by Third-party Issuer on redeeming points loaded on the HDFC card – HDFC Bank makes a specified payment to the Issuer at the time of issuance).

The GST law has granted legal recognition to Vouchers as payment instruments issued for settlement of considerations against supply of goods or services. Though the potential supplies settled against such vouchers may be enlisted by the issuing authority, the exact identity of the future supply need not be known at the time of its issuance. In the digital world, challenges are faced in ascertaining whether these digital vouchers (as are being claimed) are truly vouchers as envisaged under the definition under the GST law. Of course, this would require examination of the T&C and the backend understanding between the Issuer and the scheme operator.

RBI has classified such vouchers under the Payments & Settlements Act 2007 – (i) closed-ended (acceptable only at own outlets), (ii) semi-closed ended (acceptable at third party outlets on-boarded under the scheme); (iii) open-ended (prepaid vouchers representing money equivalent and acceptable at any outlet). Each scheme category would have to be examined distinctly from a tax perspective.

Open-ended vouchers (prepaid debit cards) recognised by RBI are equivalent to money and do not have any GST implications. ‘Semi-closed payment instruments’, in terms of the Payments & Settlement Act have been treated as forms of settlement of consideration. These vouchers are issued for redemption with affiliated merchants against specified discounts. In the backend, the issuer is funding these discounts (partly by itself and rest by an affiliated merchant) as part of their marketing activity.

Taxability of such payment vouchers as prepaid payment instruments has been dealt in detail in certain decisions of the AAR³ and the Karnataka High Court in Premier Sales Corporation⁴. These decisions were heavily guided by the Supreme Court’s decision in Sodexco’s case issued in the context of applicability of redeemable food coupons. The driving principle has been that there is no sale/ supply of vouchers by the issuer to the users/ customers. They are payment instruments for the settlement of payment obligations and cannot be treated as either goods or services. With this legal clarity provided under the law and judicial decisions in the said context, such semi-closed vouchers may not be taxable as an independent supply. The tax due on such transactions would be collectible through the underlying supply against which they are redeemed.

3. 2022-TIOL-111-AAR-GST in Myntra Designs Pvt Ltd & 2019-TIOL-499-AAR-GST in Kalyan Jewellers Pvt Ltd
4. 2023-TIOL-158-HC-KAR-GST

Redemption of Voucher on Merchant portals: – Users redeem the voucher against supplies at third party outlets/ web-portals. In the frontend, the consumer receives the specified value/ discount on utilisation of the vouchers against supply by the merchant. In the back-end, the issuer and the third-party affiliates may collaborate with each other and share the discounted / redemption value at a pre-determined ratio. The objective is to jointly promote each other’s offerings to the end consumer.At the merchant’s end, the sale of goods/ services would take place at the gross value with the payments being settled partly in the form of actual payment and partly by redemption. The Gross sale value (i.e. including the amount settled through vouchers) would be considered as the taxable value of the transaction with consideration being received from two sources (a) customer for the actual payment and (b) from the Issuer for honoring the voucher and giving the discount. As an example, a product being sold for Rs. 100 with a 10 per cent redemption voucher being used, GST would be discharged on the entire Rs. 100 with consideration being received partly from the customer and balance from the issuer to the extent of the discount value against which the voucher is redeemed. Alternative practices may be prevalent in the trade depending on the schemes which operate in the back-end between the Issuer, Operator and the Merchant.

Expiry of Redemption Vouchers: Vouchers also have a shelf-life (say 1 year, etc.). Issuers expect, from their statistical analysis, that certain vouchers would stand expired before redemption and become redundant with collected sums (if any) being credited as income of the Issuer. Two theories could exist on the taxability of GST on such incomes. Vouchers considered as payment instruments (or actionable claims) at the time of issuance would now be treated as cancelled and treated on par with forfeiture of any debt. The AAAR in Loyalty Solutions and Research (supra) has unfortunately held that the expired voucher gets converted from an actionable claim to a service and is liable to tax as GST. But the true position should be that the vouchers continue to be an actionable claim even on expiry and fall outside the tax ambit completely and hence not liable to GST. This seems to be sustainable legal position on following additional grounds:

– Underlying supply is a sine-qua-non for taxability of GST;
– Income and Supply have separate legal connotations and cannot always be equated;
– Schedule II can be invoked only on identification of supply under section 7(1). Forfeiture does not amount to a Schedule II supply as being toleration of any act – this stand remotely clarified vide Circular 178/10/2022-GST, dated 3th August, 2022
– HSN/ SAC schedule do not enlist any such activity as being a service or goods and hence rate does not seem to be prescribed.

Of course this position could come under challenge by the revenue on the simple contention that ‘supply’ is all encompassing, and the residuary entries of the rate schedule are sufficient to capture such transactions in the tax net. Therefore, the last word on this issue is far from being said.

PRODUCT RETURN CHALLENGES

E-commerce operations have advanced to providing customers with a national returns policy where customers can purchase anywhere and return the products anywhere. The inter-play with a fragmented state level GST operation poses certain challenges. Take the example of a case where an MH supplier sells goods on IGST basis to a GJ customer with the same being returnable in GJ. IGST with POS GJ would be leviable on such transactions at the time of original supply. On return, the goods are taken back at the e-commerce’s GJ facility and continue to remain in GJ either for re-sale or return to the state of origin.

In case of re-sale from Branch – GST provisions have not possibly envisaged such situations. Section 34 which permits raising of credit notes on such returns does not strictly mandate ‘receipt of goods’. The only condition of reducing turnovers through CNs is to ensure that the recipient does not avail input tax credit. In B2C sales, such input tax credit is anyway not available and hence CNs can be easily accounted on the GST portal. In B2B sales, the MH supplier could establish compliance through reporting CNs in GSTR-1 and reduce the input tax credit reflecting in the buyer’s end. Prior to re-sale, MH branch should internally raise an invoice on GJ branch for retention of goods (in terms of section 31) and comply with the distinct person concept prescribed under section 25 read with Schedule I of GST law. Section 31 permits invoices to be raised where goods are made available to the recipient even without movement involved. Therefore, MH Branch can claim that the goods on return have been directed to be re-delivered back to its GJ Branch, hence making the same available to the GJ Branch for further supplies. On re-sale, the goods having been held by the GJ branch, GJ Branch could perform the supply in normal course.

In case of re-transfer from Branch – In many cases the goods are in open condition and not resalable immediately. They would have been sold directly by the MH Branch to the end customer without the involvement of the GJ Branch of the supplier. The GJ Branch is now in possession of the returned goods without originally having made the supply to the end customer. It would be holding stock of goods which never belonged to it. The GJ Branch would have to now raise a delivery challan for return of such goods back to the origin against the cover of the Credit note raised by MH to the end consumer. The Credit Note would have to place the pick-up location of goods from the customer end and dispatch being made by the GJ branch back to the MH Branch. An e-way bill would have to be raised by GJ Branch on MH Branch without any inward source of such goods at the GJ Branch. The delivery challan and e-way bill would have to capture the transaction chain from the customer location for delivery to the MH Branch. This would pose certainly logistical challenges even-though there is no legal impediment in such movement.

ONLINE GAMING

The booming online gaming industry is already facing the wrath of taxation under the GST law. Under Online Gaming model, the gaming company charges two fees – one Platform Fee and the other which is Pot Money or Prize Money. The platform fee is retained by the company while the Pot money is collected from each player/participant and pooled into an Escrow Account which ultimately gets distributed amongst the players/participants as ‘Prize Money or Pot Money’ immediately upon conclusion of the game.On the platform fee, there is largely a consensus that the same is payable since this is retained by the company as a service. The core issue is about the rate of GST which further depends on the nature of online games, whether it is a game of chance or a game of skill. The game of chance attracts 28 per cent in comparison to the game of skill which is at 18 per cent. The defining line which has been stated in Courts⁵ is the level of skill in the activity rather than the preponderance of chance which is beyond the control of the user.

5. 2022-TIOL-111-AAR-GST in Myntra Designs Pvt Ltd & 2019-TIOL-499-AAR-GST in Kalyan Jewellers Pvt Ltd Ravindra Singh Chaudhary vs. UOI and Ors 2019; Avinash Mehrotra vs. State of Rajasthan & Ors 2021; Junglee Games India Pvt Ltd vs. State of Tamil Nadu 2021; Head Digital Works & Ors vs. State of Kerala (2021); AIGF & Ors vs. State of Karnataka (2022)

On the Pooled Money / Prize Money kept in Escrow Account, there is uncertainty over which is a higher amount since revenue authorities contend that this forms a part of consideration of the overall gaming activity under section 15. The claim is that the entire sum is the price being paid for online gaming activity and the prize money received is a separate appropriation from the collections made by the Gaming Company to the winners. The test of pure agency also fails in such transactions because gaming companies do retain some components of the pot money leaving behind profit on such collections. Moreover, section 15(2) prescribes inclusion of incidental costs as well for the purpose of valuation. In the context of lottery, betting, gambling, Rule 31A prescribes that the value of the entire ticket for the basis of computation of GST. However, this stand of the revenue seems to have been overturned in the context of horse races in the case of Bangalore Turf Club⁶ vs. State of Karnataka where the Court quashed Rule 31A as being ultra-vires by delving on the concept of receipts in fiduciary capacity and receipts towards consideration for services. It was emphasised that even with the introduction of GST, tax is imposable only on the consideration for services and not on the entire amount collected against the game. However, in a contradictory decision of the Delhi High Court in Skill Lotto Solutions Pvt Ltd (2020-TIOL-176-SC-GST-LB), the challenge to valuation rule was rejected on the premise that valuation is a specification of the statute. If the statute specifies a particular valuation, it cannot be a subject matter of challenge. Rule 31A r.w.s 15 clearly specifies that the tax is to be imposed on the ‘face value’ of the ticket (i.e. including the prize money). If such is the case, one cannot claim an exclusion against such specific provision. Hence, it was concluded that while determining the taxable value of supply the prize money is not to be excluded for the purpose of levy of GST.

6. 2021-TIOL-1271-HC-KAR-GST

The GST Council in its 47th Council meeting subtly recognised the gross irregularity in including the ‘prize money’ for the purpose of taxation. It has directed that Group of Ministers on Casino, Race-Course and Online Gaming re-examine the issues in its terms of reference based on further inputs from States and submit its report. News of a distinction in ‘games of chance’ and ‘games of skill’ is being made at the policy level. The likelihood is that games of chance would be taxed at the highest bracket at par with lottery, betting, gambling, etc. (as a Sin Tax) but exclusion may be granted to the prize money component involved therein. Games of skill would be treated as a service being rendered by the operator to the user rather than stake money contests and hence be subjected to the base line rate of 18 per cent on the entire valuation. However, the debate on this subject is highly complex and a balance of legal principles and revenue augmentation is going to be attempted.

PARITY IN TAXATION

In an interesting judicial update, the Delhi High Court in Uber Systems India Pvt Ltd⁷ had the opportunity to examine the argument of discrimination in taxation on auto-rides/hotel bookings, etc. when performed through physical mode versus those performed through the e-commerce operator (‘ECOs’). Aggregators were aggrieved with the imposition of taxes on auto-rides when booked through the e-commerce application even-though the very same auto-ride hailed directly with the auto driver continued to be exempt. Notification 12/2017-CT(R) excluded services notified under section 9(5) from the scope of exemptions when the same where provided through the ECO. In our previous article, we had delved upon the Tax-shift mechanism prescribed under section 9(5) and the significance of the phrase ‘services through e-commerce operator’.

7. 2023-TIOL-426-HC-DEL-GST

Broadly, the arguments of the aggregators were that section 9(5) is merely a tax-shift mechanism where the tax liability rests upon the aggregator merely for the role of assisting the booking on the application. The underlying service is still being performed by auto driver himself i.e. all the legal facets of a service transaction: supplier, recipient and the underlying service/HSN are the same. The ‘mode of booking’ i.e. direct hail of auto-rickshaw and booking through Uber app, has resulted in imposition of taxes on e-commerce operator.The court however negated the arguments of tax discrimination on the following grounds:

– Consumers obtain additional benefits (such as convenience, ride tracking, payment options, supervisory role) through the application. Though the user fee charges of Uber are taxable separately, the said services are distinct from a traditional ride-hailing service. They fall under a separate category and hence can be treated as a different class of tax-payers. Moreover, the consumers who book the auto-rickshaw through the application fall in a different category from those booking the same directly;

– Section 9(5) has placed the responsibility of taxation on the e-commerce operators. Through statutory fiction, they step into the shoes of the service provider, and it is this fiction that has resulted in the imposition of tax on the ECOs. Traditional auto-rickshaw and e-commerce operators are a different class of suppliers;

– The position that ECOs are merely a platform that facilitate a mode of booking, is incorrect as the ECOs assume responsibility for the discharge of services assured by the ECOs to the consumer, which are rendered by the ECO. The ECOs provide a bundle of services and partake a charge/commission from both the consumers and the individual supplier. Therefore, for all purposes, the ECOs are independent suppliers of service to the consumer. And, the service provided by the individual supplier is only one facet of the bundle of services assured by the ECOs to the consumer booking through it. Hence, a supply activity through the application is distinct from the supply performed directly with the supplier.

– Exemptions are not a vested right and the exemptions granted can be withdrawn at any point of time; because taxation is the rule and exemptions are only an exception which is to be kept at the minimum.

In the end, the court also took a socialistic stand by stating that if similar treatment is granted to both activities, it would result in gross inequality to the auto-riders who are not enrolled on the application. This decision hails a very important juncture in e-commerce taxation. It indicates that Courts distinguish between activities performed physically from those performed with the assistance of technology, even though the end delivery may be virtually the same. With the onset of this principle in GST law, we would see a larger list of services being shifted to the tax net if the same were rendered through the e-commerce application.

CASH BURN

During early stages, e-commerce operators offer their goods/ services at penetrative discounts involving investment of substantial capital into their business. On account of these penetrative discounts, some of them face consistent operating losses and accumulation of input tax credit. In economic sense, the private equity capital is being used to subsdise the offerings of the start-up and build a market presence. Government is issuing notices to such start-ups on the ground of “HIGH ITC” utilisation (i.e. greater than 95 per cent) and lack of any cash payment, hence subjecting them to intense scrutiny. Section 15 provides for transaction value (i.e. price payable on the supplies) to be the basis for ascertaining the taxable supply. Transaction value could be adopted only if price is the ‘sole consideration’ for the supply and there is no flowback of any benefit back to the supplier. This reminds us of the legacy Fiat decision of the Supreme Court⁸ where it was stated that the transaction value cannot be adopted under a market penetrative pricing model since ‘price is not the sole consideration’ for a supply. Hence, the Court directed imputation of the price to the market prevailing prices. Subsequently, the CBIC stepped in to clarify that merely because sale is below cost, such cost/ imputed value cannot be adopted as the basis of assessment. The said ambiguity appeared to arise on account of absence of a legal definition of ‘sole consideration’. Excise law was designed to ascertain the duty on manufacturing activity rather than sale value. Moreover, even free supplies were amenable to excise duty at the time of their removal. In this backdrop, the Supreme Court believed that the true value of goods should be ascertained for imposition of the excise duty on manufacture.

The GST law is quite distinct and has been framed on the sales tax/VAT platform. Emphasis under this law is on the contracted price i.e. transaction value rather than the inherent value of goods. Since this was a multi-point levy (unlike a single point excise levy), free market perpetrators believe that any undervaluation would be compensated along the value chain and hence, value distortion in the chain may be avoided. This is in contrast with the Excise levy where goods are outside the tax net after its removal from the factory. Moreover, under the extant law, the term ‘consideration’ has been well defined to refer to any monetary value in response to or inducement of a supply. With a well-defined term present in the statute, the erstwhile decisions rendered under the excise regime can be certainly distinguished. In fact, the Supreme Court in a sales tax decision⁹, rejected any notional attribution to the transaction value and emphasised the adoption of actual sale price for purpose of taxation. This conceptual difference between excise and the GST law should be differentiating factor while applying the Fiat principle.

8. 2012 (283) E.L.T. 161 (S.C.)
9. Moriroku UT India (P) Ltd. Vvs. State of UP 2008 (224) E.L.T. 365 (S.C.)

The other risk would be for the revenue to allege that prices are subsidised by investment capital and hence, the said subsidy is includible as a part of the consideration in terms of section 15(2)(e). However, this remote issue can be addressed by establishing that investment capital is not directly relating to price, rather as part of the fixed capital of the start-up. Technology is omnipresent and one certainly cannot escape the use of technology in trade. Traditional business practices are being challenged and forced to extinction. GSTN has itself been built on a technology platform. The GST law is certainly catching up on the technological advancements and attempting to tax every possible aspect of transaction. While the services are intangible, tracing the flow of funds seems to be the key to identifying the transaction trail and the Income tax law is playing the Big Brother’s role in assisting GST to tax such transactions. Certainly, legal challenges would erupt and the judiciary would be entrusted with the daunting task of fixing the legal implication of e-commerce transactions. Though the earlier moral was to stick to the fundamentals of the transactions and avoid being influenced with the participation of technology, it now must undergo re-thinking and rejuvenation. The e-commerce generation surely views them differently, then why not the Government!!!!

shailesh.kwebmaker

Sectoral Analysis: Banking Sector

INTRODUCTION

The banking sector is the backbone of an economy. It not only acts as the guardian of monetary wealth but also aids in the economic growth of the nation by lending to various sectors of the economy. The sector is consumer-centric and therefore, a bank must be present where its consumer is. Therefore, a bank is required to have a branch in multiple locations across the country and at times, even outside India. This necessarily means that a bank must have sufficient human resources, apart from its’ technical resources which can serve its customer.

Considering the economic importance of the banking sector, it has always been regulated across the globe. In India, the banking sector is regulated by the Reserve Bank of India. The RBI has prescribed various norms for banks to follow, such as capital adequacy norms, assets classification, etc. A bank is required to hold a certain class of investments and therefore, there are frequent transactions of purchase / sale of securities. The complex network within which the sector operates results in peculiar issues from the GST perspective. In this article, we have attempted to analyse the various issues which plague the sector.

TAXABILITY OF REVENUE STREAMS

Interest Income

A bank carries out a range of activities for its clients and therefore, has different streams of revenue. Its core revenue is interest earned from lending activities, which has been exempted by entry 27 of notification 12/2017-CT (Rate). However, interest earned on credit cards is liable for payment of GST.

Processing charges

The next core revenue earned by the bank is processing charges levied when a customer applies for a loan or credit facility, or on an ongoing basis to service the loan. The said services are taxable. However, along with the processing charges, the bank also recovers a host of expenses from the account holder which it incurs while processing the application for loan/credit facility. For instance, in case of a loan against property or a loan for property, banks obtain a title search report to verify the ownership and title of the property. This service is generally obtained through an “on panel” advocate who provides the service, though the charges are recovered from the customer at actuals. The question that arises is whether such recovery is includible in the “value of service” provided or it qualifies as reimbursement on a “pure-agent basis”?Section 15(2)(c) of the CGST Act, 2017 which deals with inclusions in the value of supply provides that the value of supply shall include incidental expenses, including commission and packing, charged by the supplier to the recipient of a supply and any amount charged for anything done by the supplier in respect of the supply of goods or services or both at the time of, or before delivery of goods or supply of services. Therefore, while determining whether the reimbursement of expense needs to be included in the value of supply, it needs to be seen as to whether such expenses are charged by the bank to the customer or the advocate directly raises the invoice to the customer and the bank is only the medium through which the processing of payment takes place?

While one may be tempted to claim the benefit of pure agent under rule 33 of the CGST Rules, 2017, in most cases, the third parties are appointed by the bank, and as such, it may be difficult to demonstrate compliance with all the conditions of a pure agent. Further, the need for such third-party services is essentially necessitated by the banks, and as such the services can be said to be used by the banks. Therefore, it would be prudent to treat such reimbursement of expenses as part of the value of the services rendered by the bank and discharge GST accordingly.

Other charges recovered

Once a loan/credit facility is sanctioned, the bank starts receiving the revenue in the form of interest which is recovered from the client as per agreed terms. As discussed earlier, interest from lending activity is exempted from the purview of GST. However, at times, there are instances where the client defaults in making payment of the instalment, or the cheque given by the client towards payment of the instalment is not honored, etc. This also applies in the context of default in credit card payments. There are also instances where a client approaches the bank for repayment of loan/credit facility before its term, i.e., pre-closure which the bank permits on payment of charges termed in the industry as foreclosure charges. Banks also levy charges on pre-mature withdrawal of fixed deposits. The question revolves around taxability of such charges. We shall analyse the same as under:

a) Additional interest on delayed instalment/cheque bounce: When a customer delays payment of his loan instalment, banks levy additional/penal interest for such delay along with charges for cheque dishonour/ECS mandate rejection. The question that remains is whether such interest/charges are liable to GST or will they be covered under the exemption notification? So far as the additional/penal interest is concerned, it is apparent that the same is directly linked with the service of extending deposits, loans or advances and therefore, should be eligible for the benefit of exemption. This has also been clarified by the Board vide Circular 102/21/2019-GST.

Similarly, for cheque dishonor/ECS mandate rejection charges as well, the loan agreement itself provides that in the event of cheque dishonor/ECS mandate rejection, the bank shall levy charges on the customer. Such charges are also levied while providing the service of extending deposits, loans, or advances and therefore, should be eligible for the benefit of exemption. In fact, the Board has vide Circular 178/10/2022-GST clarified that such charges recovered are not a consideration for any service as they are like a fine or penalty imposed for penalizing/deterring/discouraging such an act or situation in the future.

b) Loan foreclosure charges: The Larger Bench of the Tribunal had in the case of Repco Home Finance Ltd. [2020 (42) GSTL 104 (Tri-LB)] had an opportunity to examine the taxability of such charges in the context of taxability under service tax. In this case, the Tribunal had held that the foreclosure charges are compensation for loss of future interest and therefore, cannot be considered as consideration for the performance of lending services, but imposed as a condition of the contract to compensate for the loss of “expectations interest” when the loan agreement is terminated prematurely. Therefore, foreclosure charges are nothing but damages that the banks are entitled to receive when the contract is broken. The Board has also examined the taxability of such charges in the context of GST and vide Circular 178/10/2022-GST clarified that such charges are not taxable. Therefore, a view can be taken that such charges are not taxable.

c) Fixed deposit foreclosure charges: A person deposits money in a fixed deposit account with a bank for a defined tenure. This is a commitment by the person that he shall not withdraw the money during the defined tenure. For the same, the bank offers a higher rate of interest as compared to the interest paid on the savings account. If a customer opts to close the fixed deposit before the expiry of the said term, the bank levies foreclosure charges, which are levied on the interest of the FD amount, i.e., the same will be deducted from the interest accrued/paid on account of the customer. In other words, the charges are more in the nature of a reduction in the interest paid to the customer, which is the cost for the bank. Therefore, the question of such foreclosure charge being a consideration for supply does not arise.

d) Interest on credit card charges: However, when a credit card customer defaults on making payment of a credit card bill and the bank levies penal interest/charges, the same will not be eligible for the exemption as the notification specifically excludes credit card interest. Therefore, such recoveries are liable to GST.

AUCTION ACTIVITY

In case of default in repayment of loans, the banks take possession of the mortgaged assets and auction the same to recover the outstanding amounts. Section 2(5) of the CGST Act, 2017 defines an agent to include an auctioneer and as such, the bank would be liable for payment of GST on behalf of the defaulting borrower by determining the applicable rate on the underlying product in case the auctioned asset is a moveable property.When banks undertake auctions, as a practice, the goods are auctioned on a “as is, where is” basis, i.e., the successful bidder is required to take the delivery of the goods from the location where the goods are warehoused. This concept of delivery on a ‘as is, where is’ basis presents certain challenges in view of the dual GST framework.

It is possible that the goods may be located in a State where the bank does not have an existing registration. In such a situation, the Department may argue that the supply is originating from the said State and therefore the bank should obtain a registration (maybe as a casual taxpayer) to discharge the GST Liability while the bank may plead that it is already registered in some other state and would discharge the GST liability from the said State. A similar issue in the context of an importer was presented before the Advance Ruling Authorities in the case of Gandhar Oil Refinery India Ltd 2019 (26) GSTL 531 (AAR), wherein the Authority has opined that the importer storing goods in a warehouse in Tamil Nadu need not register in Tamil Nadu and can discharge the GST liability from its existing registration in Maharashtra.

Another situation could be one where an Indian bank branch is auctioning goods located outside India. In view of Entry 7 of Schedule III, such an auction may not attract any GST.

A third situation could be that the goods being auctioned are located/stored in an SEZ Area. Since the goods are generally imported into a warehouse by filing a BOE for warehousing, they will qualify as warehoused goods and therefore, banks can take shelter under entry 8(a) of Schedule III of the CGST Act, 2017. However, the buyer will have to pay the applicable customs duty when after taking delivery; he is clearing the goods for home consumption.

In case the successful bidder is located outside India and intends to take the goods out of India after participating in an auction of goods located in India, in view of the terms of the auction contract, the delivery of goods vis-à-vis the bank terminates in the territory of India. The bank itself does not carry out the process of export and even on the shipping bill; the exporter details would not mention the IEC of the bank. In such a situation, the supply through the auction process may not qualify as export for the bank and GST would be payable.

ASSET RECONSTRUCTION ACTIVITY

One of the main challenges faced by banks is Non-Performing Assets (NPAs), i.e., cases where banks have advanced loans to their clients who have defaulted in repayment of these loans. In such cases, under the RBI framework, the banks transfer such non-performing debts to the Asset Reconstruction Companies at a mutually agreed value. For instance, a bank has an NPA of Rs. 100 crores. Post evaluation, it receives an offer from an ARC to purchase the NPA for Rs. 75 crores. In this scenario, the bank sells its’ NPA of Rs. 100 crores for Rs. 75 crores, i.e., at a loss of Rs. 25 crores and thus clearing its’ asset book of such NPA. On the other hand, the ARC starts the process of realizing the debt, and any excess amount recovered by them is treated as its’ profits.

A two-fold issue arises in the above transaction, namely:

1. Is the bank liable to pay GST on the sale of stressed assets to the ARC?

Entry 6 of Schedule III specifies that actionable claims would be considered as neither supply of goods nor supply of services. The term ‘actionable claims’ is defined under section 3 of the Transfer of Property Act, 1882 as under:

“actionable claim” means a claim to any debt, other than a debt secured by mortgage of immovable property or by hypothecation or pledge of movable property, or to any beneficial interest in movable property not in the possession, either actual or constructive, of the claimant, which the Civil Courts recognize as affording grounds for relief, whether such debt or beneficial interest be existent, accruing, conditional or contingent

As can be seen from the definition above, an actionable claim includes a debt that is not secured. In most of the cases, the debt is a secured debt and therefore a doubt arises whether such a sale of stressed assets can be considered as actionable claims and excluded from the purview of GST. It may be important to note that the term ‘actionable claim’ also includes a beneficial interest in the moveable property not in possession of the claimant. A mortgage in goods creates such a beneficial interest in the moveable property and at the time of sale of stressed assets, the said assets are not in possession of the bank therefore, it can be argued that the second limb of the definition of ‘actionable claim’ can cover such stressed assets and accordingly, the transaction should not be liable for GST

Even the FAQ issued by CBIC clarifies that where sale, transfer or assignment of debts falls within the purview of actionable claims, the same would not be subject to GST.

2. Is the ARC liable to pay GST on the profits earned by it?

The ARC, upon assignment of debt by the bank, would undertake efforts to recover the outstanding from the defaulting borrowers. Any amount realized directly from the borrowers would not be liable to GST as the same is a mere transaction in money. If the ARC ends up realizing a higher amount as compared to the consideration paid to the ARC for the acquisition of the stressed assets, no GST would be payable on the differential amount as the same is profit from its’ business activity and not a consideration for a supply.

However, if amounts are not directly recovered by the ARC, they will also have to take additional steps, such as taking possession of the assets (moveable/immovable), invoking guarantees, etc., against which the loan was given by the bank. If the moveable assets, possession of which is taken by the ARC are sold, the ARC would be liable to pay GST on the same as it would amount to supply of goods. However, in case of immovable assets, the liability to pay GST would not arise as the same do not constitute goods / services.

CHARGES FOR CROSS-BORDER TRANSACTIONS

Banks are the medium for cross-border monetary transactions and all payments to/from outside India need to be routed through banks. For facilitating such transactions, banks levy charges from their customers on which GST is levied.

However, in the case of inbound remittances, the originating banks/intermediate banks also levy charges which are deducted from the gross payments made, i.e., the ultimate recipient receives less money to that extent. For example, ABC, an exporter has raised an invoice of USD 100 to their customer in the US. The customer remits the amount through their bank in the US which levied USD 1 as bank charges and remits only USD 99 to ABCs’ account. The issue that remains is w.r.t liability of payment of GST on the same. Is the bank liable to pay GST under reverse charge and then charge to the customer or is it the customer himself who is liable to pay GST under reverse charge? This issue was examined by the Larger Bench of Tribunal in the case of Tata Steel Ltd [2016 (41) STR 689 (Tri-Mum)] wherein it was held that the liability to pay GST was on the recipient, i.e., ABC in this case under reverse charge mechanism.

CUSTOMER LOYALTY PROGRAMS

Banks generally undertake customer loyalty programs under two different models, which can be briefly explained as under:

a) The points can be redeemed at any approved store for the purchase of goods/services. The customer utilizes the accumulated points towards making payment for the said purchase. The store will recover the amount from the loyalty partner who will further raise the invoice to the bank with the applicable tax.

b) The bank, either directly or through their loyalty partner, gives the customer option of goods/services against which the accumulated points can be encashed. The loyalty partner will raise the invoice to the bank and arrange to deliver the goods/service to the customer.

c) In many cases, banks provide their customer access to lounge at airports. In this case, the service providers charge bank based on use of service by customer and charge GST for the same.

In each of the above cases, the question that arises is whether the bank will be entitled to claim the input tax credit. To determine the answer to the said question, the bank needs to first qualify as a “recipient”. Section 2(93)(a) defines the term recipient to mean the person who is liable to pay the consideration. This is not disputable in the current case and therefore, a view can be taken that the bank qualifies as a recipient. This takes us to other conditions prescribed under section 16 for claiming credit, and more specifically the condition relating to the receipt of goods/services (satisfaction of other conditions though relevant, are not analysed here). This is a classic example where the supply is being made under the Bill To / Ship To concept for which, it has been clarified vide explanation that in such scenarios, it shall be deemed that the recipient has received the goods/services.

This takes us to the next question of whether the input tax credit would be hit by provisions of section 17 (5) (h), i.e., goods lost, stolen, destroyed, written off or disposed of by way of gift or free samples. A conservative view would be that the supplies received are given as a gift to the customer and therefore, are not eligible for an input tax credit. However, a more aggressive view that can be taken is that the supplies are not given free of cost to the customer. The points accrue to the customer on account of various transactions done by him with the bank (through which the bank receives bank charges). In other words, the bank charges levied by the bank factor the cost incurred towards the promotion activity. This is because the basis for the accrual of points is generally a part of the bank–customer agreement. A gift is generally meant to be something given out of ex-gratia. On the contrary, the rewards are arising out of a contractual obligation and therefore, it would be incorrect to treat them as a gift to deny input tax credit.

SAFE DEPOSIT LOCKERS

Banks also provide the service of safe deposit lockers to their customers for storing their valuables. Generally, the services are provided on payment of annual rent. However, banks also insist that the customer make a fixed deposit at the time of allotting the locker which will not be withdrawn during the period locker services are availed by the customer. Such services attract GST @ 18 per cent and may give rise to the following issues:

a) Determination of place of supply: Whether the place of supply will be determined under the property-based rule, i.e., section 12(3), i.e., services directly in relation to an immovable property or under the specific rule for banking sector, i.e., section 12(12)? While the applicability of section 12(3) itself is debatable as the services are storage services provided by the bank and not directly in relation to immovable property, the more plausible argument for section 12(12) would be that it is a specific provision and therefore, the same shall prevail over section 12 (3).

b) Valuation issue: It is possible that where the banks insist for a hefty/long term deposit, the officers may argue that the notional interest on the same is includible in the value of supply of the bank. However, such an interpretation is defendable as the deposit itself is interest-bearing, i.e., banks pay interest on such deposits at the same rate at which other customers, i.e., customers not operating a safe deposit locker with the bank are paid. Therefore, it can be argued that both transactions are unlinked and should be analysed independently.

FREE SUPPLIES AGAINST HUGE DEPOSITS / SATISFACTION OF CONDITIONS

In many cases, banks offer free services to their customers provided they invest a particular amount with the banks as a FD. For instance, various charges, such as NEFT/RTGS, chequebook issuance, etc., are waived for customers maintaining a minimum balance with the bank.

Similarly, for credit card customers, the annual charges for a particular year are refunded/for the next year are waived upon customer spending crossing the specific threshold limit.

The question that arises in the above scenarios is whether the bank has agreed to supply service to the customer where the price is not the sole consideration in which case the bank shall need to value the supply as per the valuation rules. In this case, one may refer to the decision of the Hon’ble SC in the case of Metal Box India Ltd [1995 (75) ELT 449 (SC)] wherein it has been held that when a lower price was charged to the customer on account of the huge deposit made by him, notional interest was includible in the assessable value. However, later on, in VST Industries Ltd [1998 (97) ELT 395 SC], the Court distinguished the above decision and held that where the deposit has no influence on the price charged from the customer, the notional interest is includible in the value of supply. The above principles would squarely apply in the context of GST as well since the Department is likely to argue that price is not the sole consideration and therefore, transaction value cannot be accepted. Infact, the AAR under GST has in the case of Rajkot Nagrik Sahakari Bank Ltd [2019 (28) GSTL 536 AAR] already held that the monetary value of the act of providing refundable interest-free deposit is the consideration for the services provided by the bank and therefore the same shall be treated as supply and chargeable to tax in the hands of the applicant.

To overcome the above, can the bank claim that the waiver granted is a pre-supply discount and therefore, eligible for deduction from the value of supply under section 15(3)? This would be a situation where the bank raises an invoice to the customer and on the invoice itself, discloses the waiver as a discount / subsequently raises a Credit Note claiming it as a pre-supply discount? This may not be a feasible solution as there cannot be an agreement for providing free service and the absence of consideration would render the contract void.

However, in the credit card example, the claim of pre-supply discount may sail through as the bank wants to encourage the customer to spend through credit cards, which gives a higher revenue to the bank in the form of charges from merchants and therefore, a view can be taken that the bank receives consideration from the third party for services rendered to the customer. Therefore, the waiver granted is a subsequent reduction in the value of supply in view of a pre-supply agreement with the customer.

GUARANTEE TRANSACTIONS

Banks also act as a guarantor to the transaction between two different parties. For instance, A (supplier) and B (recipient) intend to enter into a contract for supply of goods/services. However, B insists that A furnish a bank guarantee before the supply commences. Therefore, A approaches his bank and requests them to furnish a guarantee to B on behalf of A. For issuing the said guarantee, the bank levies a charge from A on which GST is applicable.

The above is a simple model of guarantee. There can also be instances where a customer approaches the bank to issue a guarantee in respect of transactions between different persons. For instance, A is a company incorporated in India. Its’ UK subsidiary, B intends to supply services to another UK-based company, C. For the transaction between B & C, C insists that A’s bank issues a guarantee to C since being a parent company, it has sufficient assets to provide such a guarantee. The question that arises is who is the recipient of the supply, A or B? A perusal of the definition of recipient would indicate that it is A who is the recipient by virtue of being liable to pay to the supplier of service, i.e., bank. Therefore, the Bank will be required to discharge GST on the same. Further, this may necessitate A to consider the transaction as a further supply by A to B (in the nature of a deemed supply) and raise an invoice to B. Similarly, in case of a reverse transaction, i.e., where A is outside India and provides guarantee for B, an Indian entity, the liability to pay tax under reverse charge would get triggered with corresponding valuation issues.

So far as government providing guarantees for its undertakings / PSUs is concerned, notification 11/2017 – CT(Rate) dated 28th June, 2017 exempts such services w.e.f. 27th July, 2018. However, for the prior period, the levy of GST is an open issue as the undertakings /PSUs would be liable to pay GST under reverse charge unless one is able to substantiate that such transactions are essentially sovereign functions.

SERVICE BY BUSINESS FACILITATOR / CORRESPONDENTS

Notification 12/2017-CT(Rate) dated 28th June, 2017 provides an exemption to services provided in the capacity of business facilitator/correspondent to a banking company with respect to accounts held in rural area branch and any person acting as an intermediary to a business facilitator / correspondent referred above.

DEEMED SUPPLY: INTERPLAY OF ENTRY 2 OF SCHEDULE I

As discussed earlier, a bank needs to have a multi-locational presence to cater to the various needs of its clients. This is not only in the form of branches, but also ATMs where the bank charges for use beyond the set limit. There can always be instances where the customer linked with a particular state uses the services of branch linked in a different state. In these cases, while the revenue lies in the home state, the expense for the execution of services is incurred by the executing state. The question that arises is whether the executing state has supplied any service to the home state in view of entry 2 of Schedule I of the CGST Act, 2017? In an earlier article (July 2019 BCAJ), the interpretation of Entry 2 of Schedule I has been elaborately discussed. The said principles will apply to the banking sector as well.

FOREIGN BRANCH – DOMESTIC BRANCH

A bank may also have branches in foreign countries. Indian citizens / Person of India origin may operate NRI/NRE accounts with the said branches. The foreign branches also provide services to domestic customers. For instance, a domestic customer travelling abroad avails the ATM facility installed in the foreign branch. Extending the above argument, such services shall be treated as import of services, and are liable for GST under Reverse Charge Mechanism.

If the transaction was reverse, i.e., customer of foreign branch availing the same service at Indian ATM, it would be a case of Indian branch providing service to foreign branch. In view of Section 2(v)(e) of the IGST Act, 2017, which provides that a service shall not be treated as export of service where the service provider and service recipient are distinct establishment of same person, export benefit cannot be claimed and there would be a GST liability on such a transaction. This aspect has also been clarified in the banking sector FAQs issued by the Board. However, notification 15/2018-IT (Rate) dated 26th July, 2018 exempts services supplied by an establishment of a person in India to any establishment of that person outside India, which are treated as establishments of distinct persons in accordance with Explanation 1 in section 8 of the Integrated Goods and Services Tax Act, 2017 provided the place of supply of the service is outside India in accordance with section 13 of Integrated Goods and Services Tax Act, 2017.

CROSS CHARGE VS. ISD

Similar issue would also arise in case of expenses incurred by the Head Office, such as administrative expense, advertising/marketing costs, etc. Logically, the expenses are incurred by the HO and the receipt of services is also by them, though the benefit is enjoyed across the board by the company. The question that remains to be considered is whether such expenses incurred would also require cross-charges or the ITC claimed needs to be distributed under the ISD mechanism? It may be noted that there is already a controversy on the issue of ISD vs. cross-charge on which the Board had shared a draft circular and then withdrawn it. In fact, in certain Commissionerates, taxpayers have received show cause notices denying ITC on cross-charge invoices alleging non-receipt of service, despite the tax being paid by the same legal person. Therefore, the issue is far from resolved and it remains to be seen as to how the Board and ultimately the Courts deal with the same.

RELATED PARTY TRANSACTIONS

In many situations, the bank is a part of a group transacting businesses in various financial services. Through its subsidiaries/group companies, the group engages in a host of other businesses, such as insurance, share broking, mutual funds, merchant banking, etc. While each of these businesses operates through separate legal entities, on a practical front, some facilities/services are used in common:

a) Use of common trade name /logo / stationery

b) Employees of the various entities operate out of the bank branch for easy access to the customers, thus using common premises.

c) Bank employees promoting the products of the group entities and vice – versa

d) Certain services received commonly for the group (for instance, insurance policy for all employees is under the cover of a single policy)

e) Common management overview over the operations of each entity and IT infrastructure

Apparently, there is an activity done by the bank for its’ subsidiary / vice-versa. In view of valuation provisions, it becomes necessary that each transaction be valued and applicable GST be discharged. Further, since the entities have an element of exempt supply, proviso to Rule 28 which provides that the transaction value shall be accepted in cases where full input tax credit is available may not be available and therefore, the banks will have to determine the value of such supplies at arms-length.

LOCATION OF SUPPLIER, RECIPIENT AND THE PLACE OF SUPPLY – THE NEVER-ENDING CONUNDRUM

As mentioned above, a bank is required to have multiple branches across the country, and at times, even outside India. A customer of the bank can obtain the services from any of its branches, which at times may not be in the same state. For instance, A holds an account with the Ahmedabad branch of PQR Bank Ltd. However, during his travel to Maharashtra, he approaches its Worli branch and carries out various transactions, such as generation of Demand Draft-based on balance in his account, offline NEFT/RTGS transfers, cash withdrawals, etc. The Worli branch provides the necessary service to Mr. A.

The above simple transaction gives rise to following GST implications:

a. Who is the supplier of services? PQR Maharashtra or PQR Gujarat?

b. What shall be the place of supply?

c. What shall be the consequences of incorrect LOS/ POS?

d. How shall PQR comply with entry 2 of Schedule I?

DETERMINING SUPPLIER OF SERVICE

The primary question that arises is who is the supplier of service for each type of service? Section 2(15) of the IGST Act, 2017 defines the location of supplier of service as under:

“location of the supplier of services” means, –

(a) where a supply is made from a place of business for which the registration has been obtained, the location of such place of business;

(b) where a supply is made from a place other than the place of business for which registration has been obtained (a fixed establishment elsewhere), the location of such fixed establishment;

(c) where a supply is made from more than one establishment, whether the place of business or fixed establishment, the location of the establishment most directly concerned with the provision of the supply; and

(d) in absence of such places, the location of the usual place of residence of the supplier;

In the instant case, the supply is made contractually from Ahmedabad since the valid contract is executed at the time of opening of the account. However, the supply is made physically from Mumbai since the actual performance of activity is in Mumbai. In such a case, it can be argued that the Ahmedabad establishment is the most directly concerned with the provision of the service and the tax will be discharged under the Gujarat registration. However, in cases where the nature of service rendered is not interlinked with the operation of accounts, the location of the supplier can be considered as Mumbai.

DETERMINING PLACE OF SUPPLY

This takes to the next question of place of supply. Section 12 & 13 contains specific provisions for determining the place of supply in relation to services provided by banks. The same provides that the determination of place of supply depends on the location of recipient/supplier of services.

On perusal of the same, it appears that the definitions indicate that whether a recipient is registered or not, the intention is to attribute the place of supply to the location of the recipient. However, services being intangible in nature, it is generally not possible to pin-point the location where the services are actually received, especially in cases like banking services. To overcome such a situation, clause (d) provides that the location of the usual place of residence of the recipient shall be treated as “location of recipient of services.” Therefore, in the context of above example where services provided are linked to the account of Mr. A, his location is available to the bank in its records and therefore, the place of supply will be Ahmedabad, Gujarat irrespective of where the services are availed.

Complications might arise in cases where there are multiple addresses available on record of the bank. There can always be instances where an account holder provides two different set of addresses, one being permanent address and second being correspondence address. The issue that arises is which of the two shall determine the place of supply, especially when both the addresses are in different states? Can a view be taken that the correspondence address is more relevant towards determining the place of supply as it is likely that the customer is residing at such location? This remains an issue for the sector as it is very common that customers change their place of residence temporarily without any change in permanent address.

WRONG / INCORRECT LOS/POS

The next issue which the bank faces is the consequences of wrong location of the supplier / place of supply tagging for the customer. For instance, what would be the consequences if in the above scenario the bank considers the Worli branch as the location of supplier instead of Ahmedabad? The answer in most likelihood would be a likely recovery of tax on the same amount by the Gujarat Officer even though the bank would have discharged IGST from the Maharashtra declaring Gujarat as the place of supply, i.e., the tax would have ultimately flown to the coffers of Gujarat Government only under the settlement mechanism. In this scenario, it is also possible that the bank might not be in a position to even claim refund of tax paid in Ahmedabad in view of time-barring.

Similarly, if in the above scenario, the invoice was correctly raised from the Ahmedabad branch but since the services were “consumed” in Mumbai branch, the bank ended up determining the place of supply as Maharashtra and therefore, paid IGST on the supply. In such an instance also, the bank would end up with a demand notice for recovery of GST as per correct place of supply, i.e., CGST + SGST. Of course, the only saving grace would be the fact that it would be able to claim refund of the IGST paid (Section 21 of IGST Act, 2017 r.w. Section 77 of the CGST Act, 2017) This was so held by the Telangana High Court in Ola Fleet Technologies Pvt Ltd [(2023) 2 Centax 69 (Telangana)].

INPUT TAX CREDIT

Exempt income – restrictions on claiming of input tax credit

A seamless flow of the input tax credit is essential for a successful implementation of a value added tax like GST. However, this flow of input tax credit is hampered when the inward supplies received are used for making both, taxable as well as exempt supplies. As discussed earlier, the core revenue of a bank, i.e., interest from lending activity is exempted under notification 12/2017 CT (Rate) dated 28th June, 2017. To add to this, banks generally have substantial securities transaction, which though not leviable to GST (as securities are neither goods nor services for the purpose of GST), the value of transactions in such securities is includible in the value of exempt supply, thus triggering the need for reversal of proportionate input tax credit.For the same, the bank has two options, one is to follow the rigours of reversal of credits under section 17(3) r.w. Rule 42/ 43 of the CGST Rules, 2017. However, under this option, even the ITC accruing on account of cross-charge will be available on a proportionate basis. The second option available to the bank is to avail only 50 per cent input tax credit monthly. However, under this option, it has been clarified that the ITC on a cross-charge invoice shall be allowed in entirety. The bank has to choose which option it intends to exercise at the start of the financial year and once exercised, it cannot change its stance.

PROCEDURAL ASPECTS

1. Banks have been exempted from complying with the provisions relating to e-invoicing and dynamic QR Code.2. Normal taxpayers must raise the invoice within 30 days of completion of service while banks can raise the invoice within 45 days of completion of service. Therefore, the banks have an option to raise a single invoice for all charges levied during the month on a customer, instead of raising an invoice for each transaction.

3. Services provided by recovery agents to banking company are covered under reverse charge under notification 13/2017-CT(Rate) dated 28th June, 2017.

CONCLUSION

The BFSI sector is a very vast sector and has a substantial impact on the overall economy. While in this article, we have predominantly dealt with the banking sector, we shall deal with financial services and insurance sector in the subsequent article.

shailesh.kwebmaker

E-Commerce: Media or Mediator of Supply

INTRODUCTION

The internet revolution followed with the insurgence of mobility solutions has triggered an unprecedented growth in the e-commerce industry. Initially, emerging as a mere mediator of commercial transactions, e-commerce has now engulfed the entire traditional buy-sell and service delivery model into its wave. The start-up culture with its unconventional business models has further thrusted the steep degeneration of physical interface in commercial transactions. Moreover, with FDI limitations in multi-brand retail/ecommerce inventory trading, innovative techniques have crept into the transaction system. This has resulted in peculiar GST issues which are dealt with in the present article.

BUSINESS MODELS IN E-COMMERCE

E-commerce has been understood as buying and selling goods or services including digital products over digital or electronic network. The typical business models alive in the industry are:

Inventory Model: The operator owns and operates both the electronic platform as well as the inventory for supply of goods/services. He engages into a traditional buy-sell relationship with the end consumer (e.g. Brand Webstores).

Market Place Model: The FDI policy restriction has germinated this model for foreign PE funded companies in e-commerce retail space. The operator only owns the platform and provides ancillary functions in the form of logistics, packaging, collection and customer support. He does not own the inventory and projects itself as a platform where buyers and sellers transact with each other (e.g. Amazon/Flipkart). Sub-variants include aggregator of market-place (such as Trivago) which host multiple web platforms on one platform, akin to super-market place.

Aggregator Model: This is a variant of the market-place model where the operator plays a significant role in monitoring, influencing and pricing the commercial transaction (e.g. Uber). Not only does the aggregator perform a platform service but it also projects itself as a pseudo-service provider to the end customer.

Conversational Model: Social media platforms have made it possible for e-commerce companies to sell their products from their posts. Using this method, consumers are able to shop directly from their newsfeed. One could equate them with a super-market place assisting the market place in procurement of orders.

Each of these variants raise certain intriguing GST issues which have been addressed in the later part of the article.

LEGAL PROVISIONS ON E-COMMERCE

E-Commerce transactions are commercial transactions that take place through electronic networks. In legal sense, the terminology is with reference to ‘supply’ transactions which are executed over the internet network:

(44) “electronic commerce” means the supply of goods or services or both, including digital products over digital or electronic network;

(45) “electronic commerce operator” means any person who owns, operates or manages digital or electronic facility or platform for electronic commerce;

The phrase e-commerce has been adopted in two provisions: (a) section 9(5): ‘Tax shift mechanism’ where GST is being imposed on the E-commerce operator (ECO) as a deemed supplier of the services (Uber/Ola, etc); (b) section 52 – ‘Tax collection at source’ in cases where the e commerce operator is collecting payments on behalf of suppliers for orders received and fulfilled through the e-commerce portal, such an operator retains a portion of the sale proceeds as TCS which is deposited to the Government treasury (Amazon/ Flipkart, etc).

RATES/EXEMPTIONS INFLUENCED BY THE E-COMMERCE BUSINESS

Rate/exemption notifications have been customised for businesses operating under the ecommerce model. Some of them are:

– Entry 23 and 25 provide for taxation of house-keeping services (such as plumbing, carpentering, etc) classifiable under SAC 9985 and 9987 when supplied through an ECO provided input tax credit has not been availed, even though the individual suppliers are below taxable threshold limits and otherwise not taxable;

– Entry 17 and 15 provides for exemption to transportation of passengers in specified cases. But the exemption is not available if the service is supplied through ECO who is liable to pay tax under section 9(5)

SCOPE OF THE TERM ‘E-COMMERCE’ & ‘E-COMMERCE OPERATOR’

E-commerce supplies are generally contracted online but are performed/delivered either in on-line or off-line mode depending on the nature of supply and the customer requirements –variations are tabulated below:

Contractual Mode	Performance/Delivery	Payment	Example
Offline	Online	Online	Banking services
Online	Online	Online	NetFlix
Online	Offline	Offline/Online	Amazon
Offline	Offline	Online	UPI transactions

The narrow issue under consideration is whether adoption of electronic mode is with respect to the contractual mode (for ease we call it ‘contractual supply’) or with reference to mode of performance/ delivery (‘performed supply’). There is absolutely no doubt in cases where both events (i.e. contract to performance) takes place over digital networks; the doubt arises where either one of the commercial elements takes place through physical mode. This debate leads us to (a) basics of supply; (b) the meaning of the phrase supply ‘over digital network’; and (c) contexts in which this phrase is used in the GST scheme.

SUPPLY IS CONTRACTUAL OR PERFORMANCE DRIVEN?

Taking a step back to the charging provisions, the scope of supply under section 7 is: sale, transfer, barter, exchange, license, rental, lease or disposal. These are legally recognized contracts with an obligation on the supplier for performance of certain acts. As a noun, it would refer to the genre of contract and the interpretation would tilt towards the ‘contractual supply’ rather than the ‘mode of performance’. The scope of supply also uses the phrase ‘made or agreed to be made.’ This implies that the scope of supply would stand with reference to the mode of agreement. If this is to be juxtaposed into the above analysis, it appears that supply is triggered the moment a contract comes to birth, and is not prolonged until performance/ delivery.

Alternatively, if supply is understood as a verb, then one would understand it to involve the actual performance obligations undertaken by the supplier. Traditionally, supply involved performance of obligations and counter obligations e.g. sale involves a transfer of property in goods for consideration; services in the nature of lease, license, etc, involve the promise of grant of use of a premises in consideration for a consideration. Historically, Courts have concurred that tax on services is on ‘rendition of service.’¹ Mere agreements for sale were not considered as taxable events under the ambit of sales tax law.² The GST law should not deviate on the fundamental principle that mere agreements should not form basis for imposing a tax levy. Though the tax may be collectible on advances or agreements, the said liability crystallises only on performance of the supply (i.e. rendition of service or sale of goods). While this is a debated topic, some implicit cues from the Government’s own circulars may indicate that performance is a necessary ingredient of supply:

– Circular³ on liquidated damages states that ‘performance is the essence of a contract’ and non-performance results in loss/damages which is not intended to be taxed, thus implying that without performance tax may not be imposable;

– The circular⁴ on fake invoicing also states that the person merely issuing bills is not to be subjected to tax but only penalty in the absence of a supply a.k.a. movement of goods;

– Section 34 provides for issuance of credit notes for reversal of tax payments on account of tax charged being in excess of tax payable, which includes cases where supply is not performed;

– Circular⁵ indicates eligibility of refund on advances for cancelled contracts where supply was not performed.

1. AL&FS v/s. UOI 2010 (20) S.T.R. 417 (S.C.) & AIFTP v/s. UOI 2007 (7) S.T.R. 625 (S.C.)
2. 1954 (5) TMI 17 SC Sale Tax officer vs.. Budh Prakash Jai Prakash
3. No. 178/10/2022-GST 3-8-2022
4. No. 171/03/2022-GST 6-7-2022
5. No. 137/07/2020-GST 13-4-2020

If performance is the basis of understanding supply, the definition of E-commerce should be apply only where ‘performance’ is over digital network rather than mere contracting over digital network. The consequence of these two extremes is laid down for better understanding:

SUPPLY ‘OVER’ E-COMMERCE – WIDE INTERPRETATION OF CONTRACTING USING DIGITAL NETWORK

Toeing the wide interpretation of supply to refer to ‘contractual supply’, ECOs, who facilitate digital communications and order confirmations through digital networks, would be covered and subjected to E-commerce provisions. In real-world scenarios the following could be classifiable as E-commerce transactions:

Contract Mode	E-commerce operator	Performance	Example	Classification
Email	Internet service provider (ISP)	Physical	All transactions	E-commerce
Telephonic	Telecom service provider (TSP)	Physical
Web-portal	ISP	Physical

In today’s digital era all communications/contracts which take place over digital network would be engulfed into this wide interpretation. The only transaction which would be excluded would be the ones which take place over the counter. Consequently, all ISP/TSPs would be conferred as the ECOs and provisions of section 52 could be said to apply to all such transactions which are settled through their online systems. Section 24 would then mandate everyone to compulsory obtain registration without applying the threshold limit in which case the threshold limit of 20 lakhs would become a dead letter. Is this the probable intention of the law? We will hold onto the conclusion until examining other forms of interpretation.

SUPPLY ‘OVER’ E-COMMERCE – NARROW INTERPRETATION

Paying attention to the phrase ‘over’, it appears that the same has been used as an ‘adverb’ to the function of supply (which can be understood as a verb – refer supra). As an adverb to the verb, dictionaries indicate that the term represents a passage or trajectory over which the act is performed. The emphasis in the definition is then on the actual ‘performance’ of the supply obligations (refer discussion above) over digital networks. A narrow interpretation would demand that the definition of e-commerce would be applicable only for digital goods and services performing or passing through the digital network and cannot extend to physical world supplies even-though the agreement or order took place over the digital network. Unless and until the supply i.e. performance takes place over digital network (which is possible only for digital products and/or services), it would not amount to an ecommerce transaction. In the absence of a regulatory supervision, an appointment of an intermediary in the web of digital services would assist the Government in collecting the TCS and building a ‘crawler’ mechanism to identify the supplier in the digital format.

In contradistinction, supplies of goods through Amazon/Flipkart, where the delivery takes place at the doorstep, cannot be considered as an E-commerce transaction. Narrow interpretation demands that supply is performance driven and not merely contract driven i.e. sale and physical delivery should also take place over digital network. Online marketplaces perform services of displaying the product, recording orders, receipt of payment and coordinating the logistics. The subject-matter of contract performance is taking place in the real world through physical performance and hence one may contend that Amazon/Flipkart not falling within the GST understanding of ‘e-commerce’.

SUPPLY ‘OVER’ E-COMMERCE – REASONABLE INTERPRETATION

Naturally, the above views would face immediate resistance on perception as well as legality. The three-fold challenge would be (a) the context of the phrase (section 9(5) or 52 of GST law) encompass cases where even mere agreement or arrangement of the supply takes place through digital network – the very operation of ‘Tax shift’ or ‘TCS mechanism’ is linked to the core function of e-commerce being a facilitator of supply rather than engaging in performance itself; (b) the definition of e-commerce operator signifies a role distinct from that of a supplier, as one who owns, operates or manages a digital network for e-commerce transaction and does not extend to performing the subject supply. It also includes digital products and services separately implying that non-digital supplies would also be covered in the initial part of the definition; (c) FAQs and other government material suggests that Ecommerce operators like Amazon/ Flipkart are intended to be covered in this model and no indication has been made to narrow the scope to digital goods/ services only.

While on one hand, the wide interpretation of E-commerce results in the inclusion of all possible transactions as e-commerce, leaving none out of its fold, narrow interpretation limits inclusion only of digital products or services that are completely performed over electronic network, hence leaving the popular transactions over Amazon/ Flipkart outside its fold, making the other substantive provisions (TCS/ Tax-shift) very limited in operation. Naturally, this confusion would guide us onto a balanced interpretation on following contextual reasons:

– For tax shift mechanism to function under section 9(5), one needs a de-facto supplier which is then substituted with an ECO as a de-jure supplier (refer discussion below) – simple objective being administrative convenience to collect the same from a single point who aggregates all the supplies under an umbrella;

– TCS mechanism (including GSTR-8) is aimed at collecting taxes at the source of a supplier performing supplies of goods or services and receiving the payments through the ecommerce portal though tax is finally payable by the supplier;

Both these contexts indicate that e-commerce is intended to be a mediator of supplies wherein three parties must be necessarily involved. Where the e-commerce operator is the performer of supply itself (such as NetFlix), such transactions would stand excluded from TCS mechanism in the absence of a third party. Unless pure digital supplies are routed through online aggregators TCS provisions should not be invoked. This view also synchronises well with the amendments in GSTR-3B form in table 3.1.1 where separate tables have been now provided for reporting the taxable supplies at both points (a) at the ECO through whom the supplies have been performed under section 9(5) (b) exclusions of the corresponding value at the registered person’s end who performs the supplies through ECO under section 9(5). The industry appears to have accepted this reasonable view and implemented the law accordingly.

TAX SHIFT MECHANISM – SECTION 9(5)

E-commerce operators operating as ‘aggregators’ are governed by the Tax Shift mechanism under section 9(5). This section states that the e-commerce operator is liable to tax on specified categories of services (presently cab travel, accommodation, house-keeping, restaurant services). The e-commerce operator is deemed as a supplier (‘deemed supplier’) instead of the de facto supplier and consequently all provisions applicable to the suppliers extend even to the ecommerce operator. There is a stark difference between the reverse charge mechanism specified in section 9(3)/(4) and the said tax-shift mechanism under section 9(5). Reverse charge provisions fixes the ‘recipient’ of a supply (possessing contract privacy) to discharge the tax liability. Moreover, since this tax liability is not an output tax for the recipient, it has to be necessarily discharged through cash payment rather than input tax credit.

On the contrary, the tax shift mechanism fixes the tax liability onto a third party i.e. beyond contracting parties (i.e. supplier and recipient). It is intended to apply where an e-commerce platform aggregates all the suppliers and recipients (‘Aggregator’) and the parties formalize their agreement through the e-commerce aggregator. Since the aggregator is a central database of all agreements executed through it, the administration thought it fit to fix the liability (of otherwise unorganized service providers) on the e-commerce operator.

Therefore, by legislative choice the e-commerce operator, though an intermediary in the transaction is placed into the shoes of the supplier for GST purposes.

Now this tax shift scheme does not have a separate code. It operates within the entwines of regular provisions as applicable to other suppliers. Hence, all provisions should be read as applying to the e-commerce operator performing the supply of goods itself. Consequently, statutory responsibilities otherwise entrusted on the de-facto suppliers are now placed onto the ECO i.e. (a) ascertainment of character of inter-state/intra-state supplies (b) classification and/or rate of tax – composite/ mixed supply (c) fixation of time and value of supply (d) claim of input tax credit (e) discharge of output tax liability (f) apply for refunds (if any), etc. Consequently, all legal actions would operate against the ECO de-hors the taxable status of the actual supplier who performed the service – for example, revenue action would be taken on Uber for all rides booked through its application even-though the actual cab service was rendered by unregistered/non-taxable individual cab-driver to the passenger.

INPUT TAX UTILISATION FOR TAX PAYMENT UNDER SECTION 9(5)

It is certain that ECOs would have accumulated the input tax credit on account of the IT development and back-end functions. Apart from discharging its own liability on platform service fee, they may still possess the accumulated input tax credit (esp. in cases where the ECO is burning cash). Therefore, one would wonder whether the input tax credit accumulated through the platform business (say Zomato and Swiggy) would be eligible for utilisation/discharge of output taxes under the Tax-Shift mechanism – in other words whether the tax liability of a restaurant that has been shifted to the ECO by the way of deeming fiction can be discharged through electronic credit ledger balance standing to its account.

As stated above, the deeming fiction of section 9(5) does not merely fix the tax liability on the ECO – it treats the ECO as a supplier for all purposes of the Act. Such deeming fiction must be given a strict interpretation and taken to its logical conclusion. Where the law has fixed the ECO as a supplier for all purposes including the tax obligations, in the absence of a specific bar, the input tax credit otherwise eligible to the ECO on the platform business should, as a natural consequence, devolve upon such ECO.

In this context, the following clarifications of the CBEC⁶ may also be worth observing:

“2. Would ECOs have to mandatorily take a separate registration w.r.t. supply of restaurant service [notified under 9(5)] through them even though they are registered to pay GST on services on their own account?

As ECOs are already registered in accordance with rule 8 (in Form GST-REG 01) of the CGST Rules, 2017 (as a supplier of their own goods or services), there would be no mandatory requirement of taking separate registration by ECOs for payment of tax on restaurant service under section 9(5) of the CGST Act, 2017

3. Would the ECOs be liable to pay tax on supply of restaurant service made by unregistered business entities?

Yes. ECOs will be liable to pay GST on any restaurant service supplied through them including by an unregistered person.

6. Would ECOs be liable to reverse proportional input tax credit on his input goods and services for the reason that input tax credit is not admissible on ‘restaurant service’?

ECOs provide their own services as an electronic platform and an intermediary for which it would acquire inputs/input service on which ECOs avail Input Tax Credit (ITC). The ECO charges commission/fee etc. for the services it provides. The ITC is utilised by ECO for payment of GST on services provided by ECO on its own account (say, to a restaurant). The situation in this regard remains unchanged even after ECO is made liable to pay tax on restaurant service. ECO would be eligible to ITC as before. Accordingly, it is clarified that ECO shall not be required to reverse ITC on account of restaurant services on which it pays GST in terms of section 9(5) of the Act. It may also be noted that on restaurant service, ECO shall pay the entire GST liability in cash (No ITC could be utilised for payment of GST on restaurant service supplied through ECO)

5. Can the supplies of restaurant service made through ECOs be recorded as inward supply of ECOs (liable to reverse charge) in GSTR-3B? No, ECOs are not the recipient of restaurant service supplied through them. Since these are not input services to ECO, these are not to be reported as inward supply (liable to reverse charge).”

6.    167/23/2021-GST, dated 17-12-2021

Now, the circular makes certain critical points: (a) registration of ECO as a platform service provider and as an ECO can be under one number implying that they need not be distinct persons under law; (b) the tax liability of ECO ought to be discharged necessarily in cash; (c) input tax credit on platform business is permissible to be availed and utilised in terms of section 49 (d) the ECO is not a recipient of services, and hence does not pay tax as RCM. This leads us to the provisions to verify if law bars utilisation of input tax credit to discharge tax payable under section 9(5) as an ECO.

Manner of Payment of Tax: Section 49(4) provides that electronic credit ledger may be used for ‘any payment of output tax’. Rule 86(2) also states that the said ledger could be debited to the extent of ‘any liability’ in terms of section 49, 49A or 49B. Output tax under section 2(82) has been defined in relation to a taxable person, as tax chargeable on taxable supply of goods or services or both made by him or by his agent but excludes tax payable by him on reverse charge basis. Therefore, neither the definition of output tax nor section 49 provide for a separate legal treatment for payments of tax under section 9(5).

Input tax Credit Rationing: Similarly, provisions of section 17(2) r,w,s. 17(3) bar input tax credit only where the ‘recipient’ is liable to pay tax on reverse charge basis. Reverse charge has been defined under section 2(98) as a liability imposed on the ‘recipient’ under section 9(3)/9(4) and does not make any reference to liability imposed under section 9(5). Therefore, the ITC legal provisions do not also place any specific bar on payment of tax liability under section 9(5) through accumulated input tax credit.

The above analysis could be applied for restaurant services operated through Swiggy/Zomato. The notification prescribing the rates of taxes to restaurant services7 bars the availment of input tax credit used in supplying the restaurant service. Explanation (iv) to the said entry provides that credit used exclusively in supplying the said restaurant services as well as common credits may be reversible on proportionate basis in terms of section 17(2) of the GST law (‘credit rationing provisions’). The fine point which needs to be appreciated is that rate notification conditions as well as provisions of section 17(2) aim at credit rationing at the ‘stage of availment’ and not at the ‘stage of utilisation’. Validly availed input tax credit which have already passed the credit rationing test (such as platform business which is completely taxable) and accruing to the electronic credit ledger, should be available for utilisation of the ‘deemed output tax’ of the ECO under the tax shift mechanism. The difference in availment and utilisation is also evident from the entry for real estate developers which not only bars the availment of ITC, but also bars utilisation (payment) of the output tax liability through input tax credit. The entry for a restaurant does not place any such embargo on input tax credit utilisation.

This issue takes us back to the service tax regime where reverse charge provisions were made applicable to the service recipient as a deemed service provider. Until the amendment in Cenvat regime, input tax credit was permitted to be utilised for payment of tax on reverse charge basis⁸ since the RCM provisions were treated at par with output tax. Adopting these service tax precedents, one could certainly consider paying taxes under section 9(5) through utilisation of input tax credit despite the Circular’s contrary view.

8.   2012 (25) S.T.R. 129 (P & H) CCE vs. Nahar Industrial Enterprises Ltd; 2014 (33) S.T.R. 148 (Mad.) CCE vs. Cheran Spinners Ltd

TAX COLLECTION MECHANISM

Section 52 provides for collection of tax at source where:

– ECO is not operating as an agent;

– Consideration in respect to supplies are collected by ECO;

Unlike the tax-shift mechanism, the said provisions are purely machinery provisions intended to collect taxes at a convenient point and build a transaction trail. The ECO, being in possession of the funds realised from supply of goods or services, has been tapped by the Government as its tax collecting representative. However, the final tax liability on such supplies would be assessed at the supplier’s end and not at the ECO’s end. Moreover, tax liability, rates, exemptions, etc would also be examined at the supplier’s end and ECO would not have any role to play in tax ascertainment. The said provision also provides that any discrepancy in data populated on the GST system would be communicated to the ECO and the supplier, and tax liability arising therefrom would be recoverable from the supplier. ECO’s liability is extended only to collection of taxes at source and its remittance to the Government.

Whether ECO can discharge the said TCS through input tax credit? The answer is a clear NO. This is because section 52 directs the ECO to collect an ‘amount’ rather than ‘output tax’; whereas section 49 clearly directs ‘amounts’ to be discharged through electronic cash ledger and not through the electronic credit ledger.

AGENCY IN E-COMMERCE

Provisions of section 52 are not applicable if ECO operates as an agent of the supplier. The phrase ‘agent’ has been defined under section 2(5) as being factor, broker, commission agent or any other person who carries the business of another person in representative capacity. Many ECO’s in today’s time perform the following:

– List the products over its platform;

– Promote products through listing preferences;

– Collect orders and transmit the same to the suppliers;

– Collect payments on behalf of the suppliers;

– Manage customer returns through their call centre support;

– Influence the product pricing, etc

The circular⁹ also emphasises the definition under section 182 of Contract Act to state that a principal agent relationship is present in case the agent has the authority to represent and bind the principal with its actions. Invoicing has been adopted as a critical factor in assessing whether the agent possess representative character in such transactions.

9.    No. 57/31/2018 dated 4-9-2018

In many instances, online market place perform clinching actions which make them agents. It is not unknown that marketplaces influence product pricing of suppliers listed on their platform through Flash/ Big Billion-day sales, etc. They also develop systems where invoices are issued by their platform for sales made through them. Payments are also routed through their system and the marketplaces deduct their commissions prior to disbursing the sale proceeds to suppliers. These features make certain ECO’s as agents and hence all GST implications applicable to principal-agent relationships (Schedule-1, etc) would fall upon the ECO. While implications under GST can be addressed and neutralised, the larger concern for such ECO’s emerge on the FDI and Income tax front. The FDI policy may hold them as being engaged in retail trading and hence violating FDI regulations. Income tax would hold that ECOs (especially non-resident in India) as operating in India through agents would be taxable in India. This is a touchy subject and ECOs in the zest for market share sometimes go overboard and expose themselves to tax and regulatory vulnerability.

ONLINE DATABASE AND RETREIVAL SERVICES (OIDAR)

OIDAR was introduced as concept to tax digital services in B2C scenarios under the service tax era and carried forward into the GST regime. Service providers outside India having digital footprint in the country were not subjected to any taxation. B2B OIDAR services were in subjected to RCM taxation in the hands of business recipients under regular provisions.

OIDAR has been defined to apply where services are necessarily mediated through internet or electronic network, and so automated that involves either no or minimal human intervention. The scope of OIDAR services has been further spread-out to include all electronic services such as advertising, cloud services, music/video/textual content, database services, online gaming, etc. The wide expanse of such definition naturally places question on the outer limit of the definition. CBEC circulars¹⁰ have clarified that mere order processing or communication of outcomes over internet does not make the services as OIDAR. The essence of OIDAR is that suppliers do not involve any physical exchange with the recipient, and services are delivered entirely over the internet through an automated process – for example pre-recorded video courses were OIDAR but live streaming of the very same course is excluded therefrom.

10.    No. 202/12/2016-S.T., dated 9-11-2016

The OIDAR scheme requires the non-resident service provider to assess whether the recipient of their services resides in India through certain parameters (such as address, credit/debit card issuance, IP address, bank account number, SIM country code, etc). By virtue of the digital footprint, the service provider is required to either establish a physical presence or appoint a representative for performing the tax compliances in India.

OTHER ISSUES

In summary, E-commerce has influenced the revenue administration to develop special provisions to address the peculiarities of this sector. Moreover, the sheer volumes and digitisation of the transactions sometimes makes it impossible for one to ascertain the fundamental character of the transactions. ECOs should thus disclaim their responsibilities not just in agreements but also in their acts and insulate from any regulatory risks. ECO startups are adopting innovative marketing techniques to increase their customer base through promotional or incentive programs. Some of them include exclusive co-promotion programs, cash-backs/ incentives, loyalty discounts/points, etc. These issues would be taken up in the subsequent articles.

shailesh.kwebmaker

RCM on Real Estate Regulatory Costs

In continuation to the series on Real Estate (RE)
sector, the current article is oriented towards the GST implications on
statutory / regulatory costs incurred by the RE developer during
construction of a project. This is significant on account of reverse
charge provisions which have been made applicable to RE promoters /
business recipients when availing services from Governments (Central /
State / UT or local authority). This article would be taking forward the
concepts laid down in the previous articles on reverse charge
provisions made applicable for RE developers (July 2023 issue) and
Government services (February 2019 issue).

BACKGROUND
The
Indian administration operating under the executive function has been
designed under a multi-layered structure comprising the Union
Government, State Government, Municipality or Panchayaths and other
corporations, boards and committees. Primary functions of economic
development and social welfare have been assigned to these
constitutional bodies. Such bodies either perform the entrusted
functions under its own umbrella or form a board / corporation / entity
and assign those functions to such person (termed as ‘Instrumentalities
of State’). This is done with the purpose of better financial and
operational efficiency and autonomy in implementing the government’s
plans.

Section 9(3) of CGST/SGST Act, 2017 imposes tax on
reverse charge basis on recipient business entities availing services
from the Central Government, State Government or Union Territory as
follows:

Sl No:

Category of Supply of Services

Supplier of Service

Recipient of Service

Services supplied by the
Central Government, State Government, Union territory or local authority to a
business entity …

Central Government, State
Government, Union territory or local authority

Any business entity located
in the taxable territory.

Services supplied by the
Central Government, State Government, Union territory or local authority by
way of renting of immovable property to a person registered under the Central
Goods and Services Tax Act, 2017 (12 of 2017)

Central Government, State
Government, Union territory or local authority

Any person registered under
the Central Goods and Services Tax Act, 2017

Services supplied by any
person by way of transfer of development rights or Floor Space Index (FSI)
(including additional FSI) for construction of a project by a promoter.

Any person

Promoter

Long term lease of land (30
years or more) by any person against consideration in the form of upfront amount
(called as premium, salami, cost, price, development charges or by any other
name) and/or periodic rent for construction of a project by a promoter

Any person

Promoter

Prior to fastening the reverse charge tax liabilities on RE
developer on costs discharged to the Government, an assessment ought to
be made on whether all the ingredients of ‘supply of services’ have been
satisfied in terms of section 7 of the CGST / SGST Act, 2017. To
reiterate, the critical ingredients of “supply of service”:

“7. (1) For the purposes of this Act, the expression “supply” includes––

(a) all forms of supply of goods or services or both such as sale, transfer, barter, exchange, licence, rental, lease or disposal made or agreed to be made for a (1) consideration by a (2) person in the course or (3) furtherance of business;”

Thus,
RCM would be applicable on the recipient only on transactions covered
under section 7, i.e., the test is whether the Government(s) are persons
engaged in business for a consideration and considered as a ‘supplier
of services’ under the CGST/SGST Act, 2017. It is to be examined through
a sequential analysis of whether the transaction is (i) chargeable as a
supply; (ii) specifically excluded from the chargeability under section
7(2) or Schedule III; (iii) classification as a supply of service in
terms of Schedule II; (iv) availability of an exemption; (v) deferment
in time of supply.

One may also note that the GST law has
recognised a three-layered government operating structure. At the
primary level, it has recognised functions performed directly by the
Government or local authority; at the secondary level, it has identified
governmental authorities and at the tertiary level, it has identified
government entities performing certain functions as instrumentalities of
State. RCM is applicable only on availing services from Government
while other services availed from Governmental authorities are subjected
to certain exemptions. Therefore, the scope of each entry should take
cognisance of the type of authority concerned, i.e., whether
‘Government’ or ‘Local authority’, ‘Governmental authority’ and
‘Governmental entity’.

Government & local authority — Scope

Article
12 of the Indian Constitution defines a ‘State’ to mean, Central
Government, Parliament, State Government, State Legislature, local or
other authorities. This definition had undergone significant judicial
scrutiny where Courts have developed a six-pronged test to assess
whether even body corporates / corporation falls within the definition
of ‘State’. The Government’s operation and administrative control,
financial assistance have been primary factors to include even PSUs,
Regulatory Boards and Corporations within the term ‘State’. The GST law,
however, refrains from using the said phrase and has adopted a narrower
term for the purpose of taxation. The constitutional understanding of
‘State’ should not be mixed with the statutory meaning of the term
‘Government’.

Under section 2(53) of the CGST Act, 2017,
‘Government’ means the Central Government. As per clause (23) of section
3 of the General Clauses Act, 1897, the ‘Government’ includes both the
Central Government and any State Government. As per clause (8) of
section 3 of the said Act, the ‘Central Government’, in relation to
anything done or to be done after the commencement of the Constitution,
means the President. As per Article 53 of the Constitution, the
executive power of the Union shall be vested in the President and shall
be exercised by him either directly or indirectly through officers’
sub-ordinate to him in accordance with the Constitution. Further, in
terms of Article 77 of the Constitution, all executive actions of the
Government of India shall be expressed to be taken in the name of the
President. Therefore, the Central Government means the President and the
officer’s sub-ordinate to him while exercising the executive powers in
the name of the President.

Similarly, as per clause (60) of
section 3 of the General Clauses Act, 1897, the ‘State Government’, as
respects anything done after the commencement of the Constitution, shall
be in a State, the Governor, and in a Union Territory, the Central
Government. As per Article 154 of the Constitution, the executive power
of the State shall be vested in the Governor and shall be exercised by
him either directly or indirectly through officers’ subordinate to him
in accordance with the Constitution. Further, as per article 166 of the
Constitution, all executive actions of the Government of State shall be
expressed to be taken in the name of Governor. Therefore, State
Government means the Governor or the officers’ sub-ordinate to him who
exercise the executive powers of the State vested in the Governor and in
the name of the Governor. All actions performed under the authority of
the President of India or Governor of a State are treated as Central
Government / State Government functions.

Local authority is defined in clause (69) of section 2 of the CGST Act, 2017, and means the following:

• “Panchayat” as defined in clause (d) of article 243 of the Constitution;

• “Municipality” as defined in clause (e) of article 243P of the Constitution;

• Municipal Committee, a Zilla Parishad, a District Board, and
any other authority legally entitled to, or entrusted by the Central
Government or any State Government with the control or management of a
municipal or local fund;
• …………..;

Therefore, a body
set up under the specific provision laid herein would only fall within
the definition of local authority. One of the important criteria for
treatment of an authority as a local authority is that the authority
concerned should be entrusted with the control or management of a
municipal or local fund. For example, State Governments have set up
local developmental authorities to undertake developmental works like
infrastructure, housing, residential and commercial development,
construction of houses, etc. Examples of such developmental authorities
are Delhi Development Authority, Bangalore Development Authority, etc.
The Supreme Court in UOI vs. R C Jain¹ examined
whether Delhi Development Authority was a ‘local authority’ in terms of
section 3(31) of the General Clauses Act, 1897 (containing a similar
phraseology). Based on certain tests which have been laid down to assess
whether an authority falls within this domain, it was held that Delhi
Development Authority is a local authority. However, the decision did
not have an elaborate exposition of entrustment of local or municipal
fund and hence, such a decision cannot be said to settle the issue. In
the advance ruling in Indian Hume Pipe Co. Ltd²
the question was whether Water Supply Board constituted under an
enactment is considered as a local authority. The AAR held that the
water supply board was not entrusted with State Government funds but was
generating its own revenue as an autonomous body. Hence, it was not a
local authority but a Governmental authority for the purpose of the
exemption notification. Despite the water board being set up by the
Government for implementing the entrusted functions under the
Constitution and an autonomous body aimed at better accountability /
efficiency, the same would not be considered as a local authority.

Similar
question would arise for statutory body, corporation or an authority
created by the Parliament or a State Legislature Government or local
authority? Such statutory bodies, corporations or authorities are
normally created by the Parliament or a State Legislature in exercise of
the powers conferred under article 53(3)(b) and article 154(2)(b) of
the Constitution respectively. The Supreme Court in Agarwal vs. Hindustan Steel³
held that the manpower of such authorities or bodies do not become
officers subordinate to the President under article 53(1) of the
Constitution and similarly to the Governor under article 154(1). Such a
statutory body, corporation or an authority as a juridical entity is
separate from the State and hence cannot be regarded as the Central or a
State Government and do not fall in the definition of ‘local
authority’. Thus, such corporations would not be regarded as the
government or local authorities for the purposes of the GST Acts. These
entities would be ‘Governmental entities’ and not Governments for the
purpose of GST. For a service to fall under RCM, it must be provided by
the Central Government, State Government, Union territory or local
authority. Any service provided by an entity not falling within the said
terms, as examined above, shall not be covered for the purpose of RCM
levy.

____________________________________________________________

1 (1981)
2 SCC 308

2 2023
(73) G.S.T.L. 117

3 AIR
1970 Supreme Court 1150

Government as ‘Taxable Person’

A
taxable person is legal person who is registered or liable to be
registered. A legal person is recognised by law as a subject which
embodies rights, entitlements, liabilities and duties. To be a legal
person is to possess certain rights and duties under law and be capable
of engaging in legally enforceable relationships with other legal
persons. Section 2(84) of GST law defines a ‘person’ to include a
Central Government or State Government. This definition is in the
company of many other legal person who have rights, duties and power to
enter into contractual relationships. While Government is a
constitutional body entrusted with executive functions, the objective of
including Central Government / State Government in the definition of
person under a tax legislation having a commercial character is to
identify scenarios were Governments functions as commercial entities. By
specific inclusion, the intent has been to include Governments and
avoid any ambiguity merely because of the Status of being a
‘Government’. Yet, where governments function as statutory or
constitutional body without any enforceable relationship by the counter
party, it should remain outside the scope of the phrase ‘person’ in the
GST context.

Government ‘in Business’

A business
activity is generally understood as one which is organised and
systematic arrangement of affairs for the purpose of earning income/
profit. Section 2(17) defines business to refer to:

(a) any
trade, commerce, manufacture, etc., whether or not for a pecuniary
benefit whether or not it is for a pecuniary benefit; and includes

(b)
any activity or transaction undertaken by Central Government or State
Government or any local authority in which they are engaged as ‘public
authorities’.

Both these clauses are relevant for the purpose of
whether Government is in business. The primary clause refers to the
general understanding of business where Government would engage in
organised and systematic manner of commercial transactions akin to
commercial entities. The secondary clause attempts to widen the scope of
business activities to include activities or transactions where
Governments are functioning as ‘public authorities’. The phrase ‘public
authorities’ has not been defined under the GST law but has been defined
under the Right to Information Act as follows:

“(h) “public authority” means any authority or body or institution of self government established or constituted—
(a) by or under the Constitution;
(b) by any other law made by Parliament;
(c) by any other law made by State Legislature;
(d) by notification issued or order made by the appropriate Government,
and includes any—
(i) body owned, controlled or substantially financed;
(ii) non-Government organisation substantially financed,
directly or indirectly by funds provided by the appropriate Government;”

This
phrase specifically includes the Central / State Government which are
constituted under the Constitution or Parliament / State Legislature and
function as public authorities. Even where government functions through
its autonomous instrumentalities, the definition of public authority
seems to include such authorities and their functions within its scope.

The Delhi High Court in BIS Ltd case⁴ was
examining whether regulatory functions entrusted to an authority would
amount to carrying on business merely because a fee is charged from the
user. The Court held that BIS was set up for general public welfare and
that a fee being charged, which resulted in profits, does not by itself
take away the primary feature that BIS is a statutory body and
performing sovereign and regulatory functions. This was followed in the
decision of ICAI vs. Director of Income tax Exemptions⁵.
While these decisions seem to attract us to a conclusion that
regulatory bodies may not be subjected to tax on account of being a
non-business body, we should appreciate that the definition of business
is wide enough to even include non-pecuniary activities. Moreover, with
the amended definition to include Government performing functions in its
status as a ‘public authority’, there seems to be a definitive
direction that such statutory bodies can be regarded as engaged in
business activities.

_____________________________________________________

4 Bureau
of Indian Standards vs. CIT 258 ITR 78 (Del)

5
ICAI vs. DGIT Exemptions (2013) 358 ITR (91)

Government as a Supplier of services for consideration

As
observed above, the GST law has specified that Government is a taxable
person and can be said to be in business even when exercising public
authority functions. The moot question which then needs to be answered
is whether Government is a supplier of services for consideration?

The
definition of supply under section 7 of GST law has enlisted
transactions having commercial character such as ‘sale’, ‘transfer’,
‘barter’, ‘exchange’, ‘lease’, ‘license’, etc. We are aware that the
definition of service is all encompassing to include all activities or
transactions other than those being goods, money or securities. Reading
this definition in conjunction with the scope of supply under section 7,
one understands that services which are contractual in nature and
performed against consideration by a person who is in business are
liable to GST. Government has been specifically included as a person
under law and treated as engaged in business in cases where it functions
in the capacity of a public authority. The challenge is to segregate
cases where Government functions as a sovereign authority and cases
where it functions as a commercial body. Only those transactions when
undertaken as commercial bodies for consideration in form of quid pro
quo would fall within its scope.

At the basic level, activities
which are sovereign in nature carried out by the Central Government,
State Government, Union territory or local authority in the capacity of a
“sovereign” or constitutional body cannot be regarded as “services” and
hence cannot be brought to tax? Seven judges’ Bench of the Supreme
Court in the case of Bangalore Water Supply and Sewerage Board vs. A Rajappa⁶
had an occasion to examine as to what can be considered as a “sovereign
function” in connection with a dispute under the Industrial Disputes
Act, 1947. There was a difference of opinion in the said case between
the Judges as to what can be considered as a “sovereign function”. By
majority a restricted meaning was given to the said term to only include
specified categories of so called ‘inalienable functions’ like defense,
making peace or war, foreign affairs, acquisition of a territory and
the like where the State is not answerable to the Courts. Subsequently,
in State of UP vs. Jai Bir Singh (Appeal (Civil) 897 of 2002) observed
that “The concept of sovereignty in a constitutional democracy is
different from the traditional concept of sovereignty which is confined
to ‘law and order’, ‘defense’, ‘law making’ and ‘justice dispensation’.
In a democracy governed by the Constitution, the sovereignty vests in
the people and the State is obliged to discharge its constitutional
obligations contained in the Directive Principles of the State Policy in
Part IV of the Constitution of India. From that point of view, wherever
the government undertakes public welfare activities in discharge of its
constitutional obligations, as provided in Part IV of the Constitution,
such activities should be treated as activities in discharge of
sovereign functions falling outside the purview of ‘industry’. The
matter is before a nine-judge bench for final consideration.

___________________________________________________

6 [1978]
2 SCC 213

On a more micro analysis, a supply would
entail an activity or transaction undertaken by the Government in
reciprocation of a consideration. A compulsory exaction in the nature of
tax does not entail a reciprocal obligation to the tax payer. Moreover,
the definition of business states that the transaction should be
‘undertaken by’ the Government. Where there is no activity undertaken by
the Government at all, there cannot be a supply itself. Where
government collects fees as part of its regulatory function, the
Government does not seem to be performing a reciprocal act apart from
engaging in overall public welfare activity. For e.g., regulating the
height of a building is not for the sole benefit of the builder, rather
the primary object is to ensure that the surrounding public
infrastructure is not over-burdened due to unregulated construction.
There is no direct transaction undertaken by the Government on this
front. Therefore, one should examine the function by placing the
Government in the centre of the transaction rather than the recipient.
If the Government cannot be termed as undertaking a transaction, there
cannot be a supply by the Government for RCM to be invoked. Another
contrasting instance could be the example of Government imposing a tax
on hoardings placed on private land. The land belongs to a private party
and the Government is collecting the tax for public welfare. As against
this, the Government also permits placement of hoardings in public
areas against a specific fee. This is against a permission to use public
property for private purpose. While the former transaction is a
statutory function, the latter is a transaction of commercial character
and hence a supply of service.

Certain cues can be obtained from Circulars of the Government. Firstly, the CBEC in the context of service tax had vide Circular No. 89/7/2006 – S.T⁷ clarified
that fee collected by sovereign / public authorities while performing
statutory functions / duties under the provision of law would not be
exigible to service tax. Said circular reiterated an established
principle that payment/ fee levied and collected by Government
authorities under the mandate of a statute are compulsory levy and
cannot be treated as provision of any service (by such Government
authority) to any person / entity for a consideration. Subsequently, Master Circular No. 96/7/2007-S.T⁷
clarified that activities assigned to and performed by the
sovereign/public authorities under the provisions of any law are
statutory duties. The fee or amount collected as per the provisions of
the relevant statute for performing such functions is a compulsory levy
and deposited into the Government account. Such activities are purely in
public interest and are undertaken as mandatory and statutory
functions. These are not to be treated as services provided for a
consideration. Therefore, such activities assigned to and performed by a
sovereign / public authority under the provisions of any law, do not
constitute taxable services. Any amount / fee collected in such cases
are not to be treated as consideration for the purpose of levy of
service tax. This circular also recognises that Government can
simultaneously function as commercial bodies. In such cases even if a
sovereign/public authority provides a service, which is not in the
nature of statutory activity, and the same is undertaken for a
consideration (not a statutory fee), then in such cases, service tax
would be leviable as long as the activity undertaken falls within the
scope of a taxable service. Therefore, the Circular re-iterates a fairly
reasonable proposition that the mere status of the provider as being a
government should not exclude it from the definition of service.
Emphasis ought to be placed on the substance/ nature of the fee
collected rather than being influenced by it being a statutory body.

____________________________________________________

7 dt
18.12.2006 & dated 23-8-2007

Subsequently, after the introduction of
the negative list regime, it was clarified vide Circular No.
192/02/2016-S.T., dated 13th April, 2016 that any activity undertaken by
a Government or a local authority against a consideration constitutes a
service, and the amount charged for performing such activities is
liable to service tax. It was immaterial whether such activities are
undertaken as a statutory or mandatory requirement under the law and
irrespective of whether the amount charged for such service is laid down
in a statute or not. As long as the payment is made (or fee charged)
for getting a service in return (i.e., as a quid pro quo for the
service received), it has to be regarded as a consideration for that
service and taxable irrespective of by what name such payment is called.
It is also clarified that service tax is leviable on any payment, in
lieu of any permission or license granted by the Government or a local
authority. Despite this circular, the requirement of quid pro quo, i.e.,
an enforceable exchange of promises between the Government and the
counter party was very much the ingredient for taxation. The very same
circular also discusses above the Government’s role while approving the
change in land use. The said circular clarifies that regulation of land
use is a public welfare function and any fee collected for this purpose
cannot be termed as a service.

In the context of GST as well,
the CBIC Circular No. 178/10/2022-GST, dated 3rd August, 2022 on
liquidated damages examined the scope of an entry in Schedule II. The
circular discussed at length the necessity of a contract and performance
of contract along with corresponding consideration for imposition of
GST. Therefore, the phrase supply seems to have an implied pre-requisite
of contractual obligations and enforceability of counter promises of
supply and consideration for it to be treated as a taxable transaction.
Therefore, statutory or sovereign functions which are not enforceable
under contractual obligations or are a compulsory impost would not be
susceptible to reverse charge provisions.

Recently, the Supreme
Court had the occasion to examine the mandi fees charged by Agricultural
Market Produce Committees (APMCs) under an enactment in Krishi Upaj Mandi Samiti vs. CCE⁸.
The argument of the assessees that such fees are statutory levies and
hence mandatory was negated on the ground that the statute has used the
phrase ‘may levy’ on the occupants of the mandi. Such being the
phraseology of the enactment, one cannot contend that the impost is
mandatory and hence outside a service provider–recipient relationship.
Moreover, the fact that such services were specifically placed in the
negative list after 1st July, 2012 implied that such activities were
considered as a service under the pre-negative list regime. Therefore,
one should be mindful of the nature of levy while reaching a conclusion
that a cost is a statutory function and hence, outside tax ambit.

_______________________________________________

8 2022
(58) G.S.T.L. 129 (S.C.)

Neither supply of goods or services

Section
7(2) of GST law notifies certain activities or transactions undertaken
by Central / State Government or any local authority when they are
engaged as ‘public authorities’ as being treated as neither supply of
goods or services. Vide notification 14/2017-CT(R) dated 28th June,
2017, the following entry has been introduced:

“Services by
way of any activity in relation to a function entrusted to a Panchayat
under article 243G of the Constitution or to a Municipality under
article 243W of the Constitution.”

By virtue of this entry
under section 7(2), all services ‘in relation’ to a function entrusted
by the State Government to a Panchayat or Municipality in relation to
plans for economic development and social welfare are outside the tax
ambit. Once an activity or a transaction being a service is considered
as performed by the Municipality/ Local Panchayat by virtue of the
constitutional powers entrusted as public authorities in terms of
Article 243G/243W, then such services need to be further examined for
RCM implications in the hands of the Developer.

In addition to
the primary function of economic development and social justice,
reference can be made to the list of functions being entrusted to the
Government or local authorities under the Eleventh & Twelfth
Schedule. Functions relevant for the RE sector are as follows: (a) urban
planning including town planning, (b) regulation of land-use and
construction of buildings, (c) planning for economic and social
development, (d) provision for urban amenities and facilities such as
parks, gardens, playgrounds. In exercise of these powers, the State
legislature have legislated local municipality and town planning acts
which enforce certain norms for sanction of construction plans and
collection of fees for the said purpose. Elaborate discussion on this
aspect is performed in the ensuing paragraphs.

Specific Exemptions on Government / Local authority functions

In
terms of section 11(1) of CGST / SGST Act exemptions have been
introduced for certain functions performed by the Government / Local
authority. The important exemption entries are:

Sl. No.

HSN

Description of Services

Rate (per cent.)

Condition

Chapter 99

Services by governmental authority by way of any
activity in relation to any function entrusted to a municipality under
article 243 W of the Constitution.

Nil

Chapter 99

Services by a Governmental Authority by way of
any activity in relation to any function entrusted to a Panchayat under
article 243G of the Constitution.

Nil

In terms of this entry, all ‘governmental authorities’ which
are formed for the purpose of functions entrusted to the municipality /
panchayat under the similar article 243G/243W fall in its scope. The
phrase governmental authority has been defined in the notification as
follows:

“Governmental Authority” means an authority or a board or any other body,

(i) set up by an Act of Parliament or a State Legislature; or
(ii) established by any Government,

with
90 per cent or more participation by way of equity or control, to carry
out any function entrusted to a Municipality under article 243W of the
Constitution or to a Panchayat under article 243G of the Constitution.”

Therefore,
Boards or Corporations which are set up under a statute or established
by a government and controlled by the Government are forming part of the
exemption. In terms of scope, notification issued under 7(2) exclude
transactions which are performed by the municipality / panchayats
themselves while the exemption notifications grant exclusion to similar
activities which are entrusted to Boards or Corporations by the State.

Examination of Statutory / Regulatory Costs

Now,
the regulatory fees or charges which are imposed on RE developers need
to undergo these filters for imposition of tax under reverse charge
provisions. Each of the above filters are examined and some possible
costs which can claim shelter of these filters have been detailed below:

1) Excluded from the scope of services

The
classic type of RE cost which is excluded from the scope of service is
the stamp duty imposable on the instrument creating or altering
immovable property rights. Courts (refer below) have articulated the
difference between a tax and a fee and clearly stamp duty falls under
the former. Further, CBEC had clarified in 192/02/2016-S.T. (supra) that
taxes, cesses and duties are not consideration for any service and
hence not liable to service tax. Stamp Duty costs incurred on the
instrument conveyancing land title, etc., are compulsory imposts. They
are imposed under the respective state stamp enactments on specified
instruments. Clearly, such costs cannot be termed as a service rendered
by the Government. Even though the measure of stamp duty may be on the
value of the land being conveyed, that by itself cannot alter the
character of stamp duty from being a tax and not a consideration for a
service.

Along with stamp duty, documents are also subject to
registration fee under the respective registration act. The fee for
registration is for registering the documents, maintenance of registers,
searching the registers, etc. The provision of the Registration Act,
1908, has been enacted for mandatory registration of various documents
to ensure conservation of evidence, prevention of fraud and assurance of
title. This appears to be for the benefit of the public at large
including the registrant. Such registration charge is not towards any
‘activity or transaction’ undertaken by the Government. The act of
registration is not a reciprocal obligation or transaction for the
benefit of the registrant. It is a statutory / public welfare function
and hence a compulsory impost. This should be distinguished from a
person who pays a fee to the Registrar of Lands for inspection of
documents which are already registered. While the registration charges
are statutory, the fee for the database search / inspection and printing
of documents would be a service fee against a specific request and
service rendered to the applicant.

A five-judge bench in the case of Hingir-Rampur Coal Co Ltd⁹ by referring the earlier decision of the Court in Shri Shirur Math¹⁰
case examined the difference between a tax and a fee. The obvious
difference between them has been that a tax is a compulsory exaction of
money for public purposes enforceable by law and not towards services
(‘inherent nature test’). While this difference involves subjectivity,
the court also elaborated other factors which should be considered. Even
if the fee is statutory and compulsory in nature, where the fee is
collected for a corresponding identifiable benefit to the person or area
from which it is being collected (akin to a ‘quid pro quo’ or
‘reciprocal promises’ test), such fee would be distinguishable from tax.
The measure of the fee would also have a bearing and if the measure is
excessive beyond a commercial character, then in such case, it would
have the character of tax (‘reasonable measure test’). Where the
collection is attributed to the general pool for welfare, such
collection is towards tax whereas if the collection is to defray the
expenses incurred to provide the benefit to the payer, then such
collection acquires the character of a fee (‘end use test’). Therefore,
stamp duty and registration charges may fall outside the scope of supply
itself.

____________________________________________________

9 (1961)
2 SCR 537 – AIR 1961 SC 459

10 ‘Commissioner, Hindu Religious
Endowment, Madras v Sri Lakshmindra Thirtha Swamiar of Sri Shirur Mutt (1954)
SCR 1005

2)
Treated as neither supply of goods or services under section 7(2)
as being public authority functions entrusted by the Constitution by
virtue of Article 243W/G;

RE developers incur costs
pertaining to building license for construction as per local
municipality or panchayat norms. The said cost incurred as fee by the
local authority for approving and supervising the building sanction
plans. The said charged are authorised to be imposed by the Town
Planning Act. Section 7(2) excludes public authority functions entrusted
under Article 243W/G and town planning falls within the list of
functions under the constitution. While there may be a debate on there
being a quid pro quo in such activity, the said matter may become
slightly academic on application of the section the subject transaction.

To reiterate, the service tax circular (supra) has
categorically stated that charges towards land use and license
permission for building construction are statutory and regulatory costs.
Moreover, being enlisted as part of the municipal functions under
Article 243W/G, they stand specifically excluded as part of section 7(2)
of CGST/SGST Act, 2017. Accordingly, said costs do not form part of the
RCM pool for the RE developer.

3) Costs which are penal or towards compounding offences

RE
developers may also be imposed with penal or compounding costs for
structural deviations from the sanctioned building plan. These are
statutory costs in nature and imposed by the local authority /
municipality. These being penal in nature and arising because of a
breach of statutory regulations. The compounding fees prevent the RE
developer from demolition / penal implications. Such compounding fee is
not towards a service. While one may argue that Schedule II may be
invoked as being a cost for ‘tolerating an act’, the CBIC circular
178/10/2022-GST (supra) has very well elaborated the
pre-existence of a contract for toleration to invoke the said entry.
Legal consequences from contracts or statutory penalties cannot be
emerging from an ‘agreement’ between the parties and hence, cannot take
the colour of a deemed service under Schedule II.

4) Covered by Specific Exemptions

Certain
costs are imposed by Housing Boards or Water boards, which are
constituted by the respective Governments. These housing boards are
either set up under an enactment or directly function under the
operational control of the Government concerned. In terms of the
definition of ‘governmental authority’, the said Boards are eligible to
qualify as Governmental authority. These authorities perform the
Government functions as their instrumentalities under a separate
operational body. Where the said functions are falling within the list
of functions under the Eleventh / Twelfth schedule (i.e., urban planning
or town planning or construction), the said section would treat them as
exempt services and hence not liable for taxation under reverse charge
provisions.

Typical costs which can fall under this bucket are
those pertaining to obtaining no-objection certificates from Fire Safety
Boards, Airport authorities, Pollution Control Boards, etc. Where these
authorities have been set up as autonomous bodies under Government
control, they can fall within the scope of ‘Governmental authority’ and
subjected to the exemption. One may have to ensure that the functions
performed by the said authorities are those entrusted under Article
243G/W of the Constitution.

Another exemption entry available to
RCM developer is the monetary exemption of Rs. 5,000 for services
availed from Government(s) or local authorities. Therefore, minor costs
such as road-cutting permissions, etc. could claim the benefit of this
entry where the overall costs do not exceed the specified limit. It may
be noted that this entry is not a standard exemption but a threshold
limit for eligibility and any cost above this threshold would be
entirely taxable under RCM.

5) Utilisation of FSI / DR received as compensation for land acquisition

Similarly,
the municipality or development authority issues development right
certificates to the land owners against surrender / acquisition of land.
The said certificates are either usable for the same property or
transferrable to other person for use within the same municipality.
These DRs are a consideration against surrender of land rights to the
authority. There has been a debate on whether issuance of DRs / FSI to
the land-owner and the permission to use to the RE developer against
subsequent utilisation of the DRs constitutes a service by the
municipality. Be that as it may, even assuming this is a service, the
provisions of section 7(2) may be applied as being part of town planning
functions by the local authority and hence, excluded from the ambit of
taxation. Once this is satisfied, the requirement of examining the RCM
notification (Entry 5B) may not be necessary.

That apart, one
also needs to examine whether RCM is applicable on tradeable DRs/FSI if
the same is purchased from a private party after issuance by the
Government. This is because, unlike other services, the RCM entry for
DRs/ FSI specify that RCM would be applicable even where the service
provider is not a Government/ Governmental authority. This requires a
microscopic comparison of the DR / FSI RCM entry with other entries. The
RCM table has three columns (a) category of service subject to RCM (b)
service provider (c) service recipient liable to pay tax. The first
column defines the instances when a service would fall under the RCM
table, the second column defines the service provider and the third
column defines the service recipient. Re-iterating the base entry as
follows:

“Services supplied by any person by way of transfer of development rights or Floor Space Index (FSI) (including additional FSI) for construction of a project by a promoter.”

This
part of the RCM entry specifies that RCM would be applicable where DRs
are used for construction of a project by a promoter. The entry
specifies the category of service and provides the end-use of the said
service for RCM to be triggered. Critically, this entry does not specify
the ‘service provider’ of the DR. DRs/FSI are issued tradeable
certificates and change multiple hands after issuance to the landowner.
On reading this entry, it appears that DRs which are issued to the
landowner can be sold for ultimate use by the RE developer in
construction activity. Such trading takes place through multiple land
aggregators / intermediaries and finally rests with the RE developer. If
one reads the RCM entry, it appears that all intermediate transactions
of DRs are covered by this RCM entry. Implying that once the sale of DRs
/ FSI are covered by the RCM entry, the tax would be paid only by the
end promoter who uses it for construction activity. All the
intermediaries can claim exclusion from taxation on the ground that the
RCM entry makes a general statement of taxing all DRs / FSI only in the
hands of the promoter and no one else. Hence, the provisions of section
9(3) are to be applied at the stage of RE development only, i.e., its
end use. This view also obtains traction when it is compared with other
RCM entries. Take for example the GTA entry. Column (2) of the RCM table
not only specifies the service category but also specifies the service
provider — implying each leg of the service would have to be checked
vis-à-vis its service provider. But the DRs/FSI entry is generic in so
far as it does not specify the service provider. Being a generic RCM
mandate (akin to generic exemption) and not a service provider specific
entry, one can claim that RCM is a single point tax rather than a
multi-point imposition. Hence, RCM would be applicable only at the
end-use of the DRs / FSI at the RE development stage.

While this
view is certainly novel and aggressive, the contra-position would be
that section 9(3) specifies that recipient would be liable to RCM. GST
being a multi-point transaction specific levy, it should be examined at
each leg independently and not wait for the end-use to be reached for
assessing taxation. Moreover, recipient defined under the parent statute
is the transactional recipient and not the end-use recipient (a.k.a.
beneficiary). This understanding of the parent statute should also
extend to the RCM notification and a different version of recipient
cannot be adopted for the RCM entry alone. In such a case, transaction
involving TDR intermediaries would be liable to tax under forward charge
at each level. The last leg of the DR/FSI sold to the RE Developer
would be liable for RCM at the developer’s end. This interpretation
makes the entire DRs a financially unviable model and would not only
cause RCM outflow at the RE developers end, it also causes ITC denial at
the intermediary level who sells the DR/FSI to the RE developer. To
overcome this difficulty, some intermediaries are adopting the agency
model and recovering a commission on the TDR sale and excluding
themselves from the agony of dual tax burden. In light of this, former
interpretation has reasonable legal and commercial viability in DR / FSI
transaction.

5A) Lease Rights / Premium for Government lands

Similarly,
Government is monetising its assets by granting long-term lease to RE
developers under BOT / BOOT model. As an example, Indian Railways is
aggressively venturing into monetising their lands under this model.
Lease premiums are being collected for long-term lease under this model
by grant of land rights to the RE developer. Now the RCM entry provides
for imposition of GST on a RE promoter availing long-term lease (beyond
30 years) for construction of a RERA project. The grant of long-term
lease by the Government of its own property for private benefit under a
contract is clearly a supply of service in terms of section 7 read with
Schedule II. This transaction cannot also claim exclusion from tax ambit
under section 7(2) as it does not directly fall under the functions
entrusted to a municipality / panchayat.

The Bangalore Tribunal in Karnataka Industrial Area Development Board¹¹
examined the issue of taxability of services provided by the KIADB
including renting of immovable property. The Tribunal placed heavy
reliance on the Bombay high court in MIDC’s case¹² to
conclude that such activities are a statutory function and do not fall
within the scope of services. The Tribunal also recognised the contrary
ruling in Greater Noida Industrial Development authority’s case¹³
which stated that this is not a statutory function but a service
arrangement where offers were invited and a particular party was
selected as being eligible for the contract — but the Tribunal recorded
its reservation in applying the decision on account of the stay of the
Supreme Court on this order. Under the GST context, the tenability of
the favourable decisions may be questionable on account of the expansive
manner of defining business and taxable person, which dilute the
argument that statutory / public authority functions are always outside
the scope of services. In summary, one can view this as a quid pro quo transaction and RCM provisions may become applicable to the RE promoter.

______________________________________________

11 2020
(40) G.S.T.L. 33 (Tri. – Bang.)

12 2018
(9) G.S.T.L. 372 (Bom.)

13 2015
(40) S.T.R. 95 (All.)

6) Supply but Not of a ‘service’ and hence not liable to RCM

RE
developers obtain water connections from authorities or board for the
construction of project. The charges for such water supply are in the
nature of procurement of goods. Charges paid towards temporary
electricity connections during the construction of the project are also
purchase of electricity as goods. Since this transaction qualifies as
supply of goods, RCM notification applicable for services would not
apply to such cases.

7) Commercial costs

RE
developers also incur commercial costs such as placement of hoardings at
public places, etc. These are fees paid for a clear commercial nature
involving a quid pro quo and hence, subject to the RCM. This revenue is
generated by the local authority while functioning as a public
authority. Yet, this is akin to formulating contractual relationship
with the Government. These activities would fall within the scope of
services and liable to RCM.

Coupled with the above analysis, one
should not lose sight of an important analysis of whether RCM falls
within the 80–20 rule calculation in terms of the construction services
notification. Whether government services which are commercial in nature
and liable for RCM would fall into consideration in the 20 per cent
bucket of unregistered costs and excluded from RCM. The principles were
analysed in the earlier issue on RCM and the questions emerging were
whether compliance of RCM provisions under section 9(4) (unregistered
RCM) overrides the requirement of section 9(3) (specified RCM). This is
because the rate schedule carries a specific overriding entry for
services availed by the promoter from unregistered persons even though
they may also be covered by another tax entry notification. This entry
seems to prevail and hence, the applicability of RCM under section 9(3)
could be questionable. Therefore, services by government departments to
RE promoters can be examined from this view point as well and not
subjected to additional RCM beyond this rule.

The above RCM
analysis provides merely a starting point to provoke thoughts on this
subject. The subject is wide enough on account of Government activity
being subjected to fair amount of litigation on being a question
bringing a private arrangement versus a private function. Developments
in executive action have led to asset monetisation of Government assets
and innovative approaches are being adopted to generate alternate
streams of revenue to the exchequer. Certainly, RE developers are also
taking part in the Government’s plan for asset monetisation, and RCM
would certainly need to be factored as a significant cash outflow / cost
in project viability.

shailesh.kwebmaker

Input Tax Credit for Real Estate Sector

INTRODUCTION

Real
estate is undoubtedly one of the most complex sectors, be it from the
perspective of levy of tax, quantification of tax or the claim of input
tax credit. This is perhaps because there are different facets involved,
as a transaction of sale of constructed unit is not a simple
transaction of sale of goods or services but is a complex transaction
involving transfer of land / share in land, transfer of goods in the
execution of contract and the provision of services of construction.
From the perspective of indirect taxes, a contract for sale of unit, be
it residential / commercial, is a works contract also involving the
transfer of land / share in land.It is for this reason that
under legacy laws, i.e., VAT and service tax, a lower tax rate was
prescribed. For instance, in VAT, in Maharashtra, the sector had an
option to pay tax at a standard rate of 1 per cent of agreement value
while service tax was levied on 1/4th of the agreement value or 1/3rd of
the agreement value. While the rate prescribed under VAT law was a
composition scheme, meaning no corresponding input tax credit for the
dealers, under service tax, the taxpayer was eligible to claim CENVAT
credit, though only on input services, i.e., credit of tax paid on
capital goods and inputs was not available. This restriction on claim of
input tax credit was through a conditional notification, which provided
for an abatement in the value of taxable services resulting in an
effectively lower rate vide notification 26/2012-ST dated 20th June,
2012 as amended from time to time.On the other hand, under GST,
there was no upfront restriction on claim of input tax credit initially
as works contract was deemed to be a supply of service and the builder
was entitled to claim full input tax credit of tax paid on goods and
services received in the course or furtherance of business. However,
notification 11/2017-CT (Rate) dated 28th June, 2017 which prescribes
the rate of tax for services provided that in case of supply of service
involving transfer of land or undivided share of land, the value of
supply shall be 2/3rd of the total amount charged for such supply.Subsequently,
w.e.f 01st April, 2019, the tax regime for the real estate sector
underwent substantial changes. The projects were classified into two
categories, namely:

a) Residential Real Estate Project: A
project in which carpet area of commercial apartments is not more than
15 per cent of total carpet area of all apartments in the REP. The
effective tax rate applicable on outward supply was reduced to 1 per
cent / 5 per cent with a condition of no corresponding input tax credit.

b)
Other than RREP: A project other than Residential Real Estate Project,
wherein the total carpet area of commercial apartments was more than 15
per cent of total carpet area of all apartments. While the tax rate on
residential apartments was reduced to 1 per cent / 5 per cent with no
corresponding input tax credit, the commercial apartments continued to
be taxable at 12 per cent with eligible input tax credit.

However,
for ongoing projects, the taxpayer had an option to continue pay tax
under the existing rates or pay tax under the new scheme. In case of
ongoing projects where the option to pay tax under the new tax rate was
applied, the developer was also required to reverse the input tax credit
attributable to construction which has time of supply on or after 1st
April, 2019. Simply put, the formula for determining the ITC reversible
is:

Essentially, therefore, the eligibility to claim input tax credit is now restricted
only for ongoing projects where the option to pay tax at lower rate of 1
per cent / 5 per cent was not exercised or commercial units in other
than RREP project where the tax rate continues to be 12 per cent.
Further, vide a Removal of Difficulty Order, Rule 42 was amended
prospectively requiring the taxpayer to, at the time of completion of
project / first occupation, whichever is earlier, reverse the input tax
credit proportionate to the unsold area at that time. The formula to
determine the input tax credit reversible, simply put is:

It may not be out of place to highlight that both under the legacy laws as
well as GST, no tax is leviable on sale of constructed units after the
receipt of completion certificate.

In this article, we have
attempted to identify the various issues which plague the industry and
probable resolutions available for the sector from the perspective of
input tax credit.

Input tax credit reversal on area sold after completion certificate / first occupation, whichever is earlier:

Controversy under service tax pre-GST regime
The
process of undertaking the activity of construction is a time-intensive
project. All the units which are sold up to the receipt of completion
certificate / first occupation, i.e., while construction activity is
underway are liable to tax. This means that when the taxpayer incurs
substantial expenditure on construction, including paying tax on the
inward supplies, he also gets the right to claim the credit of the taxes
so paid on the inward supplies as they are used / intended to be used
for making a taxable supply. If during this stage, the taxpayer sells
any unit, the said sale becomes taxable service / supply.

Under
the CCR, 2004, Rule 6 provided that the credit on inputs / input
services to the extent used for providing exempt services shall be
liable to be reversed in the prescribed manner. The said rules required
every taxable person engaged in providing taxable as well as exempt
services to determine the credit on inward supply of inputs / input
services availed and used for providing both, taxable as well as exempt
services and such person was eligible to claim credit only to the extent
such inward supplies were used for making taxable supplies based on the
ratio of taxable services to value of total services provided during
the relevant financial year. In other words, an assessee
was required to carry out an exercise on an annual basis to determine
the credit reversible u/r 6 to the extent inward supplies are used for
providing both, taxable as well as exempt services.

Despite Rule
6 clearly providing a method fordetermining CENVAT credit attributable
to exempt services, many taxpayers were served with notices raising
ademand by applying the provisions of Rule 6 on a project basis /
totality basis / area basis. For example, a builder starts a project in
2012 which is completed in 2016 (say 31st March, 2016). The various
details of the project are as under:

FY	Total area sold	Total value of service	CENVAT availed
2012-13	2,000	2,00,00,000	7,50,000
2013-14	5,000	5,00,00,000	6,50,000
2014-15	8,000	8,00,00,000	7,00,000
2015-16	1,500	1,50,00,000	4,25,000
2016-17	11,000	11,00,00,000	2,75,000
Total	25,000	25,00,00,000	28,00,000

Notices were issued to taxpayers demanding reversal of
credit u/r 6 of CCR, 2004. The reversal was towards the proportionate
CENVAT credit availed by them during the period of construction, which
was ultimately also used for providing non-taxable service, i.e., sale
of units after receipt of completion certificate / first occupation. For
example, in this case, sale of 44 per cent of units would be
non-taxable and therefore, credit claimed towards area which did not
attract service tax, i.e., 44 per cent of the total area sold was
alleged as being liable to be reversed. Accordingly, notice demanding
Rs.12,32,000 was raised on the taxpayers (Rs. 28,00,000*11,000/25,000).

The
matter came up before the Hon’ble Ahmedabad bench of the CESTAT in the
case of Alembic Ltd. vs. CCE & ST, Vadodara I [2019 (28) G.S.T.L. 71
(Tri.-Ahmd)] wherein it was held that the eligibility / entitlement to
credit has to be examined only at the time of receipt of input service
and once it is found to be availed at a time when output service is
wholly taxable, the same is availed legitimately and cannot be denied
and / or recovered unless specific machinery provisions are made.

The
Revenue appeal against the Tribunal’s decision was dismissed by the
Hon’ble Gujarat High Court in 2019 (29) G.S.T.L. 625 (Guj.) wherein it
was held that since at the time of receipt of input services, there was
no exempt service provided by the Appellant, the question of
applicability of Rule 6 does not arise. Rule 6 became applicable only
after the completion certificate was obtained.

Controversy under GST – pre-amendment scenario

At the time of introduction of GST, in a manner similar to Rule 6 of CCR,
2004, the provisions under GST, i.e., Rule 42 provided for reversal of
input tax credit based on turnover of exempted supplies to total
turnover, i.e., exempt plus taxable when an inward supply is used for
making both, taxable as well as exempt supplies.

Rule 42
prescribed that the amount of input tax credit attributable towards
exempt supplies be denoted as D1 and the same be calculated as (D1=E÷F) x
C2. In the present context, E refers to the value of exempted supplies
i.e., the value of the flats sold post completion, F refers to the
aggregate value of exempted supplies as well as taxable supplies and C2
refers to the common credit pertaining to both exempted as well as
taxable supplies. It may further be noted that this formula is
applicable for each tax period. The term ‘tax period’ is defined to mean
the period for which the return is required to be furnished, which is
monthly in GSTR-3B and annually in GSTR-9. Therefore, each of the above
values needs to be calculated for each period and the disallowance
should be restricted to the period only after the taxable person starts
making exempt supplies. Necessarily, for effective implementation of
this Rule, the taxpayer should be simultaneously engaged in making
taxable and exempt supplies, which is likely to occur only when the
project is likely at the end stage.

In that sense, there is a
strong reason to believe that the decision of the Gujarat High Court in
the case of Alembic Ltd. shall apply to GST as well.

CONTROVERSY UNDER GST – POST-AMENDMENT SCENARIO

Rule
42 was amended w.e.f 01st April, 2019 to provide that for the value of
exempt supply shall be the aggregate carpet area of the apartments,
construction of which is exempt from tax plus aggregate carpet area of
the apartments, construction of which is not exempt from tax but are
identified by the promoter to be sold after issuance of completion
certificate or first occupation, whichever is earlier. Similarly, the
value of taxable supply shall be the aggregate carpet area of the
apartments in the project.

The above demonstrates that the
prescribed method for determining the amounts to be reversed on account
of input tax credit used for making exempt supplies shall be based on
area and not value, as provided for u/s 17 (3). Therefore, to overcome
this apparent conflict between the amended Rule and the provisions in
the Act, Removal of Difficulty Order No. April, 2019 – Central Tax dated
29th March, 2019 was issued vide which it was clarified that in case of
supply of services covered by clause (b) of paragraph5 of Schedule II
of the said Act, the amount of credit attributable to the taxable
supplies including zero rated supplies and exempt supplies shall be
determined on the basis of the area of the construction of the complex,
building, civil structure or a part thereof, which is taxable and the
area which is exempt.

The first question which arises is whether
the ROD is legally sustainable? To understand this aspect, we need to
refer to section 172 of the CGST Act, 2017 which empowers the Government
to issue such Order, which is reproduced below for reference:

(1)
If any difficulty arises in giving effect to any provisions of this
Act, the Government may, on the recommendations of the Council, by a
general or a special order published in the Official Gazette, make such provisions not inconsistent with the provisions of this Act or the rules or regulations made thereunder, as may be necessary or expedient for the purpose of removing the said difficulty:

Provided that no such order shall be made after the expiry of a period of three years from the date of commencement of this Act.

(2) Every order made under this section shall be laid, as soon as may be, after it is made, before each House of Parliament.

Reading
of the above provisions shows that section 172 empowers the Government
to make provisions to remove any difficulty which may arise in putting
the law into operation. However, the powers are to be exercised in such a
way that it does not change the basic policy of the Act in question. It
should not be inconsistent with the provisions of the Act. In the
present case, the ROD provides that ITC reversal in case of
constructions services shall be done based on carpet area of
construction of complex despite the section clearly providing that the
reversal of ITC shall be based on value. It is therefore clear that in
guise of ROD, a new provision has been introduced which creates hardship
or puts the taxpayer at a disadvantage. It is likely that such order
and amendment to Rule 42 may therefore be held to be unconstitutional as
ROD orders cannot be issued to change the basic provisions of the
section itself.

This principle has been followed by Courts on
multiple occasions. In Madeva Upendra Sinai vs. Union of India
[2002-TIOL-1189-SC-IT-CB], the Hon’ble Supreme Court has held that in
removal of difficulty, the Government can exercise the power only to the
extent it is necessary for giving effect to the Act. The basic or
essential provisions cannot be tampered with. Similar view has been
followed in Straw Products Ltd. vs. Income Tax Officer
[2002-TIOL-1564-SC-IT-CB] wherein it has been held that power to remove
difficulty can be exercised in the manner consistent with the scheme and
essential provisions of the Act. In Krishna Deo Misra vs. State of
Bihar and Ors. [AIR-1988-Pat 9], it has been held that ROD must not be
inconsistent with any provisions of the Parent Act. Also, ROD clause
cannot be used as a substitute for rule making power. In view of the
above, it can be said that the amendment to Rule 42 w.e.f 1st April,
2019 aided by the ROD 4/2019 is clearly unsustainable in law.

Even
if one opines to the contrary, i.e., the amendments introduced in Rule
42 for the sector are maintainable in law, the position can be
summarized as under:

PROJECTS UNDER THE OLD SCHEME

a)
Whether the amended provision would apply to ongoing projects where
the option to pay tax under the old scheme has been exercised will need
analysis. This is because the eligibility to claim input tax credit is
determined at the time of receipt of inputs / input services, as held by
the Larger Bench of Tribunal in the case of Spenta International Ltd.
vs. CCE, Thane [2007 (216) E.L.T. 133 (Tri. – LB)] wherein it has been
held as under:

10. In the light of the above discussion, we
answer the reference by holding that Cenvat credit eligibility is to be
determined with reference to the dutiability of the final product on the date of receipt of capital goods.

b)
Further, when the input tax credit was claimed upto 31st March, 2019,
the same would have already been subjected to the provision of Rule 42,
as applicable at that point of time. Therefore, by a subsequent
amendment, the input tax credit already claimed by the developer cannot
be altered.

PROJECTS UNDER NEW SCHEME

c) The
amended provision would not have any relevance for ongoing projects
where the option to pay tax under new scheme have been exercised or new
project classified as residential real estate project. This is because
in case of ongoing projects where the builder pays tax under the amended
rates, the taxpayer would be liable to reverse the input tax credit as
per notification 11/2017 – CT(Rate) dated 28th June, 2017 (as amended)
which has been claimed upto 31st March, 2019 and there will be no fresh
claim of credits w.e.f 1st April, 2019.

d) However, in case of
other than RREP project where the tax is payable under new rates, i.e.,
residential units are taxable at 5 per cent while commercial units
continue to be taxable at 12 per cent, Rule 42 will be applicable, and
the taxpayer will need to identify the input tax credit proportionate to
the taxable commercial units. There can always be a question as to how
to determine the input tax credit attributable to such residential
projects, which have been dealt with separately in the article.

CHALLENGES IN IMPLEMENTING AMENDED RULE 42

The amended Rule 42 is sought to be implemented in the following manner:

a)
On a monthly basis, the input tax credit claimed is deemed to be C2,
i.e., used for effecting taxable as well as exempt supplies.

b)
The taxpayer shall be required to calculate input tax credit
attributable to exempt supplies by applying the following formula:

c) In the month in which the completion certificate is
received / first occupation takes place, whichever is earlier, the total
input tax credit attributable to exempt supplies is to be determined by
modifying the above formula as under:

d) The cumulative of amount determined at (b) is to be
compared with amount determined at (c) above and the differential amount
is either to be reversed [if (b)<(c)] or to be reclaimed [if
(c)<(b)].

The above exercise is to be done vis-à-vis the project.
A project has been defined to mean a Real Estate Project or a
Residential Real Estate Project.

Therefore, if a taxpayer has
multiple projects, he would be required to maintain a separate account
for each project. The same would not be an issue as even for RERA, a
developer is required to maintain separate accounts for each project.
However, when a project involves multiple buildings, say two buildings
of which one is commercial and second residential and separate accounts
are maintained within the same project, the developer will be faced with
a peculiar situation. This is because while the input tax credit
relating to residential building will be T3 and therefore, not eligible
for input tax credit, rule 42 deems the value of T4, i.e., the amount of
input tax credit attributable to inputs and input services intended to
be used exclusively for effecting supplies other than exempted supplies
to be zero. This inter alia means that the entire ITC shall be subjected
to the reversal and the option of excluding the same from the formula
will not be available.

In simpler words, while the builder will
not be eligible to claim input tax credit attributable to residential
units, the input tax credit attributable to commercial units will be
subjected to the reversal u/r 42, which appears illogical.

Similarly,
there may be instances where a builder receives multiple completion
certificates. For instance, a builder constructing 12 floor building
(with 4 floors commercial and 8 floors residential) receives Completion
Certificate in parts with simultaneous occupation, as under:

Date of CC	For floors
April 2020	1 – 4
April 2021	5 – 8
April 2022	9 – 12

The question that arises is how will the taxpayer implement Rule
42 in the above scenario where a single project entails multiple
completion certificates? The probable solution for this situation would
be that when the first and second completion certificates are received,
the corresponding area will have to be treated as exempt and the final
calculation will be required only when the third CC is received, which
indicates completion of the project.

Sale of units post
receipt of completion certificate / first application can be treated as
exempt occupation – whether exempt supply?

The
requirement for reversal of proportionate input tax credit is
necessitated in view of provisions of sub-sections (1) to (4) of Section
17 of the CGST Act, 2017. Section 17 (2) provides that where goods or
services or both are used partly for effecting taxable supplies and
partly for exempt supplies, the amount of credit shall be restricted to
so much of the input tax as is attributable to the said taxable
supplies. Section 17 (3) thereon deals with determination of value of
exempt supply for the purpose of section 17 (2) and includes supplies on
which the recipient is liable to pay tax under RCM, transaction in
securities, sale of land and subject to clause (b) of paragraph 5 of
Schedule II, sale of building.

It is by virtue of section 17 (3)
that the value of units sold after receipt of completion certificate /
first occupation (whichever is earlier) which are not leviable to tax is
included in the value of exempt supply. However, the important question
that remains is whether the sale of units post receipt of completion
certificate is classifiable as exempt supply for section 17 (2) to
trigger in the first place? The term “exempt supply” has been defined
u/s 2 (47) as under:

(47) “exempt supply” means supply of any
goods or services or both which attracts nil rate of tax or which may be
wholly exempt from tax under section 11, or under section 6 of the
Integrated Goods and Services Tax Act, and includes non-taxable supply.

As
can be seen from the above, the term exempt supply covers only such
transactions which are supply of goods or services but specifically
exempted or are classifiable as non-taxable supply, i.e., supply of
goods or services or both which are not leviable to tax.

Let us
first analyse if the sale of unit after receipt of completion
certificate / first occupation is exempted from the purview of tax or
not? The sale of unit after receipt of completion certificate / first
occupation is not exempted from the purview of tax as the same is
excluded from the scope of supply itself. Similarly, non-taxable supply
means such supply which is not leviable to tax, i.e., under section 9 of
the CGST Act, 2017. What is excluded from the levy of tax is only
supply of alcoholic liquor for human consumption. In that context, it
can be said that even the petroleum products are not excluded from the
levy of GST, but rather it is deferred to a future date u/s 9 (2) of the
CGST Act, 2017

Therefore, sale of unit after receipt of
completion certificate / first occupation may not qualify as “exempt
supply”. Infact, a view can be taken that in view of Schedule III, the
activity does not qualify as supply u/s 7. Hence, once an activity is
not covered within the purview of supply, the question of it being a
taxable / exempt supply does not arise. Therefore, section 17 (2) does
not get triggered as the same applies only when exempt supply is being
made by the taxpayer. Having said so, one may need to recognize that
Section 17(3) includes sale of buildings after receipt of completion
certificate in the value of exempted supply. However, it can be argued
that merely including the value of units sold after the receipt of
occupation certificate / first occupation in the value of exempt supply
in section 17 (3) is not sufficient to trigger the applicability of
section 17 (2), which is a must for demanding reversal of input tax
credit. Accordingly, the requirement of reversal of proportionate input
tax credit at the time of receipt of completion certificate can be said
to be litigative.

ABATEMENT FOR VALUE OF LAND – WHETHER EXEMPT SUPPLY?

Sale
of constructed unit not covered under Schedule III is liable to tax for
which the rates have been prescribed under notification 11/2017-
CT(Rate) dated 28th June, 2017. It is in this taxable transaction where
there is an embedded element of sale of land or undivided share in land.
The question that therefore arises is whether the explanation, which
provides for a lower taxable value can be treated as an exemption
provided u/s 11 of the CGST Act, 2017 to fall within the purview of
exempt supply?

As mentioned above, notification 11/2017-CT
(Rate) dated 28th June, 2017 which prescribes the rate of tax for
services provides that in case of supply of service involving transfer
of land or undivided share of land, the value of supply shall be 2/3rd
of the total amount charged for such supply. This has been provided for
by way of Explanation to the notification which is reproduced below for
ready reference:

[2. In case of supply of service specified in
column (3), in items (i), [(ia), (ib), (ic), (id), (ie) and (If)]
against serial number 3 of the Table above, involving transfer of land
or undivided share of land, as the case may be, the value of such supply
shall be equivalent to the total amount charged for such supply less
the value of transfer of land or undivided share of land, as the case
may be, and the value of such transfer of land or undivided share of
land, as the case may be, in such supply shall be deemed to be one third
of the total amount charged for such supply.
Explanation — For the purposes of this paragraph [and paragraph 2A below, “total amount” means the sum total of —

(a) Consideration charged for aforesaid service.

(b)
Amount charged for transfer of land or undivided share of land, as the
case may be including by way of lease or sub-lease.]

The
question that needs analysis is whether the reduction for value of land
(deemed / actual) is granted u/s 11 of the CGST Act, 2017 or u/s 15 (5)
which provides for determining the value of specified supplies. Section
11 provides as under:

(1) Where the Government is satisfied
that it is necessary in the public interest so to do, it may, on the
recommendations of the Council, by notification, exempt generally,
either absolutely or subject to such conditions as may be specified
therein, goods or services or both of any specified description from the
whole or any part of the tax leviable thereon with effect from such
date as may be specified in such notification.

From the
above, it is seen that section 11 empowers the Government to exempt
goods or services or both from the whole or any part of the tax leviable
thereon. However, the fact remains that land, being immovable property
is not goods for the purpose of GST as goods include only moveable
property within its’ purview. The question that remains is whether land
can be treated as service? The answer to the same would be negative as
service traditionally is referred to an activity. Immovable property per
se is not an activity and therefore, cannot be treated as service.
However, any activity on or relating to immovable property may be a
service, for instance, renting / leasing of immovable property.
Therefore, sale of land, which is neither goods nor service and excluded
from the scope of supply, cannot be exempted by section 11 of the CGST
Act, 2017. In this context, one may refer to the conclusion of the
Hon’ble Supreme Court in the case of Larsen & Toubro Ltd. [2015 (39)
S.T.R. 913 (S.C.)] wherein it has been held as under:

44.
We have been informed by counsel for the revenue that several exemption
notifications have been granted qua service tax “levied” by the 1994
Finance Act. We may only state that whichever judgments which are in
appeal before us and have referred to and dealt with such notifications
will have to be disregarded. Since the levy itself of service tax has
been found to be non-existent, no question of any exemption would arise.
With these observations, these appeals are disposed of.

Therefore,
it cannot be said that the Explanation intends to provide exemption
from the supply. On the other hand, since the activity sought to be
taxed is a transaction involving supply of services as well as supply of
land, the reduction is clearly for determining the value of supply and
therefore, the explanation is for determining the value of supply, i.e.,
u/s 15 of the CGST Act, 2017.

This aspect needs to be analyzed
since if a view is taken that the value of land, for which a deduction
is provided under notification 11/2017 – CT(Rate) dated 28th June, 2017
is towards exempt supply, the corresponding expenses incurred by the
taxpayer would be hit by section 17 (2) r.w. Rule 42 and would be liable
for reversal as under:

Input tax credit on expenses directly attributable towards acquisition of land / associated costs shall be classified as T2.

Input tax credit on expenses used for making both, taxable as well as exempt supplies shall be classified as C2.

Let
us understand this with the help of an example. A builder takes land on
100-year lease from CIDCO for a proposed residential / commercial
project which he intends to sell to customers. CIDCO charged a one-time
lease premium of Rs. 30 crore and 18 per cent GST on the same, i.e., Rs.
5.40 crore. The lease would be transferred to the co-operative housing
society upon completion of the project. In addition to the lease
payments, the builder also incurs various expenses relating to the
acquisition of land, such as legal payments, soil testing, etc.

The input tax credit implications in light of the above discussion can be summarized as under:

a)
The reduction towards value of land cannot be attributable to supply
u/s 7 and therefore, the question of there being a taxable / exempt
supply does not arise. Therefore, since section 17 (2) does not get
triggered, section 17 (3) becomes inconsequential.

b) The
reduction towards value of land is not attributable to an exemption
provided u/s 11 and therefore, is not covered within the purview of
exempt supply.

c) In view of the above, a taxpayer is entitled
to claim input tax credit on expenses incurred towards acquisition of
land on which construction activity is undertaken even though no GST is
leviable on the amounts recovered from the clients towards the same, be
it on the actual / deemed basis.

Contrarily, a builder may take a
view that in order to claim input tax credit on the land costs, he may
forego the deduction for value of land and pay GST on the gross value
and claim full input tax credit. However, this option may not be
available in view of the recent decision of the Hon’ble Supreme Court in
the case of Interarch Builders Pvt. Ltd. [(2023) 6 Centax 40 (S.C.)].
In this case, the facts were that the assessee had opted to pay tax on
works contract services provided on the whole value, i.e., without
excluding the value of goods involved in the execution of such contract
and claimed correspondingly full CENVAT credit, including on inputs and
capital goods which was otherwise not eligible. Upon Appeal by the
Department, the Hon’ble Supreme Court held that the contention of the
taxpayer that they have a legal right to pay tax even on the goods
portion as service tax and take input credit on the duty paid on the
goods is clearly contrary to para 25 of the decision in the case of
Larsen and Toubro [2015 (39) S.T.R. 913 (SC)] and Rule 2A of the
Valuation Rules, 2006 and proceeded to held that the taxpayer was liable
to pay tax only on the service component. This analogy can squarely be
extended to GST as the Court may very well hold that the liability to
pay tax was only on the construction services and not on the land
component.

Input tax credit on free area in re-development projects / government schemes

Land
in metro cities like Mumbai is a scarce commodity. Therefore, the
sector finds avenues to identify opportunities to recycle the land. This
is done by undertaking redevelopment projects wherein existing
structures are demolished and new structure is developed. While
undertaking this redevelopment activity, the builder is required to
provide alternate accommodation to the existing occupants. Similarly,
the Government also encourages the sector to take up slum rehabilitation
activities whereby the builder agrees to construct a new structure
where the slum occupants are rehabilitated in such buildings and the
developers are given construction rights to construct separate structure
for sale in open market.

When the builder undertakes
construction activity to the extent done for the existing occupants (in
case of re-development) / slum dwellers (in case of SRA project), the
question is whether the builder is eligible to claim input tax credit
corresponding to such free area in re-development / SRA projects?

Under
service tax regime, a dispute was raised on the taxability of such free
area and a demand was proposed on the taxpayers (on the output side).
The Tribunal in Vasantha Green Projects vs. Commissioner [2019 (20)
G.S.T.L. 568 (Tri. – Hyd.)] has held that no service tax was payable on
such free area as the price collected from the customers also factored
the cost incurred towards construction of the free area and therefore,
no service tax was separately leviable on such free area. The conclusion
of the Hon’ble Tribunal will squarely apply to the claim of input tax
credit since the builder can very well claim that the input services
attributable to the free area is ultimately used for providing taxable
service and therefore, input tax credit is eligible. This logic will
squarely apply under GST regime as well.

However, another issue
which may arise under GST is whether the claim of input tax credit to
the extent it pertains to free area is hit by section 17 (5) (h) which
restricts claim of input tax credit on goods lost, stolen, destroyed,
written off or disposed of by way of gift or free samples? The answer to
this would be in negative. This is because what is given free to the
existing occupants / slum dwellers is not any goods, but rather a
constructed area which is an outcome of a composite supply. Secondly, in
the course of undertaking this construction activity, the builder also
receives various input services to which this restriction does not
apply. Readers may kindly note that this discussion will be relevant
only for projects concluded up to 31st March, 2019 since input tax
credit is denied for RREPs after 01st April, 2019.

CONCLUSION

When
GST was introduced, input tax credit was expected to flow seamlessly
and avoid cascading effect of taxes. Till 31st March, 2019, the sector
did enjoy the benefit of input tax credit which was not available under
the legacy laws. However, the amendment w.e.f 01st April, 2019 keeping
the sector in mind has left the sector worse off as compared to the
legacy laws, i.e., service tax. It is therefore imperative that before
claiming any input tax credit, the various conditions and restrictions
prescribed for the sector be analyzed carefully to avoid subsequent
litigation.

shailesh.kwebmaker

Entertainment and Media Sector

INTRODUCTION

Entertainment and Media, though generally referred to as one sector, actually represents two diverse sectors. While entertainment deals with content (films, television, etc.) creation and its’ exploitation, the media sector primarily deals with the delivery of the content. The advent of technology, especially social media, has further reduced the lines of demarcation between the two. In this article, we have attempted to discuss the specific issues faced by this sector. To do so, let us first understand the business model under which the sectors operate.

THE ENTERTAINMENT SECTOR

This sector has various sub-sectors, such as films, television, theatre, etc. The entire sector depends upon content for its survival, i.e., a film, television or play is successful only when the audience well receives the content. Therefore, the key activity in this sector is twofold, one being content creation and the second being content exploitation.

Content creation, an elaborate process, involves various activities, such as:

Identifying the idea/script based on which the content is to be created.
Pre-production activities (finalizing the cast, crew, location, etc., before the shooting occurs).
Production activities (actual shooting takes place).
Post-production activities (editing, dubbing, marketing and promotion, etc.).

The above activities result in the content coming into existence. However, the content per se may not be the product. Though a person may be in possession of the content, he may not be able to freely use the same. For example, a person purchases a movie CD and starts exhibiting it in a theatre. However, freely using it may not be allowed because the CD is sold to him with a specific use direction, and such a person does not have a right to use it otherwise. In other words, unless the person using the content has obtained the required license/rights from the content owner, he cannot use it for the intended use. This, inter alia, means that the product emanating from the content creation is not the content itself but the various rights which vest in the said product. The question that therefore remains is:

(a) What are the different kind of works in which copyrights subsist?

(b) What types of copyrights subsist in such works?

The Copyrights Act, 1957 deals with copyrights and provides that the copyrights shall vest in different types of works, namely (a) original, artistic, literary or musical works, (b) sound recordings and (c) cinematographic films (which would include films, web-series, etc., and is referred to as “content” for the sake of brevity in this article). Generally, the first two classes of works in which rights subsist become an integral part of the third class, though they continue to retain their separate identity. For example, the script of the film, the lyrics of the songs, the dialogues delivered by the cast, etc., are original literary works, while the recorded music of the film is a sound recording, etc. However, when all these works, along with the actual recorded content (video), are brought together in a synchronized form, a new work of cinematographic film comes into existence. Each of these works, which comes into existence, and different types of works which go on to form part of the final work, have different copyrights which subsist in them. As provided for in the Copyrights Act, 1957, the rights vesting in an underlying work may be exploited in different ways, as summarized below:

Rights subsisting	Manner of exploitation
Right to communicate the cinematographic film to the public	• By theatrical screening (by granting theatrical rights). • By televised screening (by granting satellite rights). • By streaming through apps (by granting specific rights to that extent, for example, Hotstar, Netflix, etc.).
Right to communicate the sound recordings to the public	• By granting rights to Radio stations to play the said songs. • By granting the right to record and reproduce the said sound recordings in a medium. • By granting the right to stream the said sound recordings through apps (example Gaana.com, Saavn, etc.).
Rights subsisting in literary, musical works	• By granting the rights to remake the film in different language or make the sequel to the said film. • By granting the rights to use the lyrics/tune to create a new song.
Rights subsisting in dramatic works	• By granting the rights to re-create the story in the form of a drama.

Therefore, it is apparent from the above that the product to be exploited is the copyright in the underlying works, not the work itself. The exploitation of the copyright can be done either by the owner of the said work, who by virtue of the provisions of the Copyright Act, 1957 is generally the person who created the said work, or any person who has become owner by way of assignment of copyrights or holds a valid license to exploit the said copyrights. Such a person is able to exploit each copyright originating from the underlying work as well as copyrights in different works which go on to form a part of the underlying work either separately or jointly. For example, the theatrical rights may be transferred to a distributor, the OTT rights to OTT platforms, satellite rights to television channels, music rights to music labels, etc.

COPYRIGHTS – GOODS VS. SERVICE AND ASSOCIATED ISSUES

This takes us to the first issue, which needs analysis, i.e., whether copyrights are classifiable as goods or services. The Supreme Court has already held in Tata Consultancy Service vs. State of AP [2001 (128) ELT 21 (SC)], that intangibles are to be treated as goods if they satisfy specific attributes, namely, utility, capable of being bought and sold, and capable of being transmitted, transferred, delivered, stored and possessed. Copyrights do satisfy these attributes, and therefore, there is no iota of doubt that they would classify as goods for GST. Even the rate notifications very well accept this principle where the tax rates for the permanent transfer of copyrights are notified under the goods notification [1/2017-CT(Rate)], while tax rates for temporary transfer of copyrights are notified under the services notification [11/2017-CT(Rate)] with the same tax rates notified. However, there are different issues which need cognizance.

Let us take an example of a foreign language movie. A production house procures the right to remake the said film in Hindi on a perpetuity basis from the owner of rights located outside India for a lump sum consideration. In such cases, the issue that arises is whether the purchase of the remake rights by the Indian production house will be treated as import of goods or import of service? While one may argue that when the rights owned by a person outside India are assigned, the same would be treated as import of goods and therefore, no tax can be levied on the same u/s 5 of the IGST Act, 2017. However, the bigger issue would be whether such imports would be liable to tax u/s 12 of the Customs Act, 1962 or not, especially when the document of title evidencing assignment of rights is received electronically. In case the document of title is brought into India, either as a courier or baggage, there may be customs duty implications on such imports, but on what value would the same be payable would be a subject matter of dispute?

Similarly, in a reverse transaction, i.e., rights being transferred on perpetual/permanent basis to a foreign entity, the same would also be treated as export of goods. The issue remains w.r.t how the supplier will claim refund u/s 54. This is because once this is treated as export of goods, the refund claim will have to be filed in a particular manner which will firstly require the existence of a bill of entry filed with customs duty. Just like in the case of an import transaction where there is no bill of entry/interface with the customs authority, a similar issue would remain in case of an outbound transaction as well. Even the claim of export of goods would be scrutinized from the context of how the “goods” have gone out of India?

Continuing with the first example, after purchase of copyrights, while the film is in the pre-production stage, the film producer enters into an agreement with the distributor for exploitation of copyrights whereby he assigns/transfers on perpetuity basis the entire distribution rights to the distributor of the film. The rights will subsist in the film once the film comes into existence, though the distributor will be required to make stage-wise payments to the producer. Since this would be a contract for transfer of rights in perpetuity, i.e., permanent transfer of copyrights, this will be treated as supply of goods.

The first question that arises is what would be the point of taxation? Would it be at the time of entering into the agreement for transfer of copyrights or when the stage-wise payment clause becomes due? Can it be argued that though the agreement is entered into at an early stage, the actual transfer of copyrights takes place only when the film comes into existence and the rights subsisting in the said work of film accrue to the distributor for further exploitation? At times, it may also happen that the distributor might have also further exploited the said works without the work being in existence.

This takes us to the ‘Time of Supply’ provisions. The same is dealt with u/s 12 r.w.s. section 31 of the CGST Act, 2017. Section 12 provides that the liability to pay a tax on goods shall be the earlier of the following dates, namely:

a) The date of issuance of invoice by the supplier of goods or the last date on which he is required to issue such an invoice u/s 31; or

b) The date on which he receives the payment with respect to such supply.

Section 31 further provides that the invoice for supply of goods shall be raised by the supplier before or at the time of:

a) Where supply involves movement of goods, the removal of goods for supply to the recipient; or

b) In any other case, delivery of goods or making available thereof to the recipient.

Being intangible in nature, supply of copyrights on a permanent basis would necessarily mean that clause (a) of section 31 would not apply. This means that clause (b) becomes applicable. In the case of a copyrights transfer agreement, once the agreement is entered into, it necessarily means that the rights are transferred to the other party, i.e., distributor and even before the said rights come into existence, the distributor is at liberty to enter into agreements w.r.t such rights with other parties. This implies that section 31(b) gets triggered when the agreement is entered into between the two parties. This would inter alia mean that the film producer would be required to raise an invoice and make payment of the GST on the entire consideration value at that stage itself, though the payment may become due in installments. So far as the eligibility to claim a corresponding input tax credit on the distributors’ front is concerned (on the issue of receipt/non-receipt is concerned), there is no issue of non-receipt of goods. Even otherwise, once the invoice is raised as per time of supply provisions, Explanation 1 provides a saving grace to the effect that a supply shall be deemed to be made to the extent covered by the invoice/payment. This means that the eligibility to claim credit cannot be denied merely because the rights have not come into existence. However, it does mean that a film producer will be required to pay the tax upfront and not as per the agreed stage-wise payments.

Tweaking the above example, let us assume that instead of permanent transfer, the agreement for transfer of copyrights was on a temporary basis, say for 20 years. In such a case, the supply will change its nature from being a supply of goods to a supply of service. Since the services are to be supplied over a period of more than 3 months, the same would be classified as continuous supply of service and therefore, the producer would be at liberty to raise an invoice as per the payments clause of the agreement. The distributor would also be eligible to claim the corresponding input tax credit in view of the explanation to section 14 (like section 13), which provides a relaxation to the effect that a supply shall be deemed to be made to the extent covered by the invoice/payment.

COPYRIGHTS – ONLINE EXPLOITATION

With the advent of technology and the emergence of social media, a new source of revenue has emanated for content owners, namely, hosting of content on social media platforms (YouTube, Facebook, etc.,) with revenue earned in the form of a share in advertising revenue. In this model, the content owners monetize their rights by hosting their content on such platforms and the platforms further sell advertising slots on the content to third party advertisers. The revenue generated by the platform on sale of such slots is then shared with the content owners.

Generally, the platforms deal with the content owners through their entities outside India. For instance, in case of Google, the agreement is entered into with Google Ireland Ltd. There may/may not be any interaction with the Indian Google entity. The content owner is required to follow the technical instructions contained in the agreement with respect to hosting the content on the platform, which is primarily to avoid copyright infringement, tracking revenue generation vis-à-vis the content, etc.

Since such agreements are with a recipient located outside India and all other conditions for treating the supply as export are satisfied, the content owners have been classifying the supply as export of service. However, tax authorities have been disputing the claim of export of service, primarily on the following grounds:

a) The content may be viewed in India as well as outside India. As such, services are provided partly in a taxable territory and partly outside taxable territory and therefore, as per the ‘place of provision of service’ rules, the place of provision of service would be in taxable territory and therefore, cannot be classified as export of services.

b) The services are supplied through the medium of information technology and therefore should qualify as OIDAR services for which the place of supply would be the location of the service provider (up to 30th November, 2006).

While the above grounds are flimsy at best for denying export benefits to taxpayers, litigation on this aspect, even under GST, may not be ruled out. It is, therefore, important to correctly classify such supplies. Merely because the revenue earned is in the form of a share in advertising revenue, it would not mean that the supplies are to be classified as advertising revenue. It must be borne in mind that the supply is that of a grant of temporary license, and therefore, the supply should be classified accordingly only. Once the supply is classified as a copyright service, the question of OIDAR also does not remain as the use of information technology is only incidental to the main service, and therefore, the same cannot trigger classification as OIDAR.

CONTENT CREATION

Having discussed the issues which plague the entertainment industry from the revenue perspective, we now focus on the activity of content creation, which forms a part of the input of the industry. This is a complex process and in general, requires the film producer to incur various expenses such as:

a) Payment for the crew – this includes not only the actors, but also various support personnel hired for the shoot, such as directors, videographers, choreographers, make-up team, props, etc.

b) Arranging for the wardrobe and makeup of the acting crew.

c) Arranging for the stay and travel of the entire crew in case of a shoot at multiple locations (in India/outside India).

d) Arranging for the music.

e) Arranging for editing and special effects (VFX, 3D, etc.) on the shot content.

f) Arranging for catering of the crew during shoots.

The above is merely a descriptive list and not an exhaustive one of the expenses incurred in the content creation process. The industry faces various issues/pain points in each of the above steps which we shall discuss now.

BLOCKED CREDITS

A substantial amount is incurred by a film producer during shooting towards arranging food and beverages for the entire crew, arranging for the acting crew’s makeup, arranging for vanity vans where the main acting crew gets ready for shoot, rests during breaks, etc. At times, they also have to arrange private aircraft for the main actor/actress. The suppliers charge GST on forward charge, or the film producer must pay tax under reverse charge. The issue arises on account of specific restrictions u/s 17(5), which denies input tax credit in the following cases:

(i) food and beverages, outdoor catering, beauty treatment, health services, cosmetic and plastic surgery, leasing, renting or hiring of motor vehicles, vessels or aircraft referred to in clause (a) or clause (aa) except when used for the purposes specified therein, life insurance and health insurance:

However, the above supplies that the film-maker would receive will not get covered under the exception as the film producer is not using them to make the same outward supply. Similarly, the film producer is making a single supply, which is that of transfer of copyrights, and therefore, the question of there being a taxable/composite supply does not arise. As such, a film producer receiving the above services must treat them as blocked credits and take the corresponding GST charged by the suppliers/tax paid under reverse charge as the cost of production.

An interesting question might arise in the case of beauty treatment. The term beauty treatment means a treatment- an activity. Therefore, the mere purchase of the makeup material may not constitute beauty treatment. Therefore, if a film producer purchases the material required for beauty treatment separately and obtains separate services of professionals to carry out the activity, can he claim credit to the extent of tax paid on the purchase of such materials?

MULTI-LOCATIONAL SHOOTS AND ITC BLOCKAGE

The next issue the sector faces is with respect to cases where the shooting takes place in multiple States. For example, a film producer based in Maharashtra undertakes film shooting in Gujarat and Rajasthan. In this case, the film producer is required to make multiple arrangements in these two states, incurring location charges where the shoots are to take place, accommodation for the crew, arrangement of food and beverages, etc., All such expenses, being covered under the property basket, would attract levy of local taxes, i.e., CGST and SGST by the local vendors which the film producer will not be eligible to take input tax credit in Maharashtra. This invariably would result in incremental costs for the film producer.

A question that arises is, can the film producer obtain ISD registration and distribute the credit to his Maharashtra registration? The answer would be in the negative. This is because the ISD is a mechanism to distribute the credits received at multiple registered locations of a recipient for which a single invoice is raised at the Head Office. In this case, let’s say even if the film producer obtains ISD registration in Gujarat and Rajasthan, the fact would be that the services are received in Gujarat and Rajasthan and therefore, the option of transfer of credit from ISD of Gujarat and Rajasthan to Maharashtra may not be available.

Therefore, to overcome this issue, the industry has come up with a workaround whereby either they appoint a contractor in the respective states to arrange all the facilities, namely, location, accommodation, F&B, etc., and as per the agreed terms, raises a single invoice to the film producer towards line production service, an industry specific term. In this case, the role of the line producer is to merely arrange and facilitate the supply of said services to the film producer and his crew. With multiple supplies being made in one contract, the question of composite vs. mixed supplies come into picture. It is the position of such service providers, i.e., line producers that their principal supply is line production services and therefore, the entire consideration received by them is attributable to line production service on which they can charge IGST treating the location of service recipient, i.e., the film producer as place of supply. With the line producers making multiple supplies to the film producer as part of a composite supply, to a large extent, the restrictions from claim of credit u/s 17(5) discussed earlier can be avoided and shelter can be taken under the exception provided therein. This view finds agreement with the ruling of the AAR in the case of Udayan Cinema Pvt. Ltd. [2019 (23) GSTL 345 (AAR-GST)], wherein a similar agreement was analyzed in the context of cross-border transactions.

At times, to avoid the incremental cost of hiring a line producer, the film producer also obtains registration in the State where the shoot is to be undertaken and treats the location as a line producer and raises the invoice to his main registration under the cover of supply of service under Schedule I, Entry 2. It has been observed that claim of input tax credit at the recipient end is being questioned during the audit/ investigation proceedings, which needs to be borne in mind.

CONTENT CREATION – WORK FOR HIRE VS. WORK OF HIRE

The foundation of the content creation process is the intellectual work of authors (concept, idea, script, etc.,), on which the entire activity of content creation depends. While generally the person who is the author of such works, termed as literary work under the Copyrights Act, 1957 is treated as the owner, there is a concept of work for hire vs. work of hire under the Indian law.

The need to analyze whether a contract is a work for hire or work of hire arises in view of notification 13/2017-CT(Rate) which casts the liability to pay tax under reverse charge in case of services received by way of transfer of copyright in original literary, artistic or musical works as under:

Nature of service	Service provider	Service recipient
Services supplied by a music composer, photographer, artist or the like relating to original dramatic, artistic or musical works	Music composer, photographer, artist or the like	Music company, producer or like located in the taxable territory
Services supplied by an author relating to original literary works (optional reverse charge at the discretion of author)	Author	Publisher located in the taxable territory

The above entries can trigger in two specific scenarios, one, where the service supplied is in relation to an already existing work or second, where the author, music composer, photographer or artist is commissioned to create a new work. Let us take an example of a person who has authored a novel published in a particular language. If a publisher intends to publish the same in a different language and acquires the rights from the author, the royalty paid would be liable to reverse charge.

However, when a person is hired to carry out the activity of commissioning a new work, say taking a photograph, or creating a musical tune for another person, this would come within the purview of work for hire vs. work of hire. Section 17 (b) provides that in the absence of a written agreement between the parties, the person who requested that a work be created by an author shall be the first owner of the copyright. Similarly, section 17 (c) also provides that in the absence of an agreement between the parties, the employer is the original owner of the copyright in cases where an author creates a work while employed under a service or apprenticeship contract.

Therefore, in cases where a new work comes into existence and by virtue of clauses (b)/(c) of section 17, the person for whom the work has been created becomes the owner of the said copyright, the question of there being a transfer of copyright does not arise and in such cases, the reverse charge entry might not trigger.

Furthermore, the nature of transfer of copyright would need to be analyzed. If the transfer of copyrights is on a perpetual basis, the same would constitute a supply of goods and therefore, the question of payment of tax under reverse charge would not arise as notification No. 13/2017-CT(Rate) applies only to supply of services.

THE MEDIA SECTOR

The second limb of the sector, i.e., the media sector primarily refers to a medium for dissemination of content. This can be through print, television, radio, online, etc., The primary source of revenue for this sector is advertisement income with incidental revenue being in the form of sponsorships, marketing support services, etc.

MEDIA SECTOR – REVENUE VS. COST BALANCING

A common issue faced across this sector is the revenue/cost mismatch. Most media entities have a multi-locational presence. There can be scenarios where the revenue and the associated tax liabilities are at one location while the expenses and the corresponding credits are spread across locations. Let us take the example of a newspaper publisher who has printing activities across the country from where newspapers are published daily. A leading corporate placed a Release Order (RO) for publishing a front-page advertisement in newspapers across India. The RO was issued to the Mumbai Office of the company which raised the invoice to the client with applicable GST. Therefore, while the revenue would be in one state, the cost would be spread across multiple states which will result in cash outflow in one location and blockage in other locations. A similar challenge is faced even by TV/radio broadcasters.

The question that arises is how to ensure a revenue/cost balance which will also ensure proper balancing of GST credits across location. The first solution which comes to mind is a cross-charge policy under Schedule I, Entry 2 whereby the printing location will raise an invoice to the Mumbai location for advertising services. This service will have to be valued at an arm’s-length since all locations would be engaged in making exempted supplies (newspapers are nil rated) and therefore, Rules 28 – 31 would need to be followed to determine the value of supply.

There is a specific reference to four different methods of valuation of a supply in these rules which must be applied sequentially, as under:

a) Open Market Value of Such Supply – Rule 28(a)

b) Value of supply of goods or services of like kind and quality – Rule 28(b)

c) Value based on 110 per cent of the cost of provision of services – Rule 30

d) Value determined on reasonable means consistent with the principles – Rule 31.

The term ‘open market value’ is defined through an Explanation to Chapter IV of the CGST Rules, 2017 as “under open market value” of a supply of goods or services or both means the full value in money, excluding the Integrated tax, Central tax, State tax, Union Territory tax and the cess payable by a person in a transaction, where the supplier and the recipient of the supply are not related and the price is the sole consideration, to obtain such supply at the same time when the supply being valued is made

It may be noted that for the purposes of applicability of Rule 28(a), it is only the specific product or service which is being supplied that would possess an open market value. In this case, there is a specific service being supplied by each registration and therefore, the value of service by each registration will need to be determined under this method.

PRINT MEDIA – SALE OF UNSOLD NEWSPAPER – TAXABILITY

Once the day is over, the newspaper loses its value. A publisher will always have a stock of unsold newspapers. The question arises whether such unsold newspapers would continue to be classified as newspapers and, therefore, is liable to tax at nil rate or as scrap of paper attracting GST at 5 per cent.

In the context of Sales Tax, the Hon’ble SC has in the case of Indian Express vs. State of TN [(1987) 67 STC 474 (SC)], held that such unsold newspapers when sold will be treated as sale of scrap and therefore, liable to tax accordingly. However, in the case of Sait Rikhaji Furtarnal vs. State of AP [1992 85 STC SC], the Hon’ble SC has held to the contrary that old newspapers are also “newspaper” and would be entitled to the exemption provided under the Constitution. As such, the question of whether unsold newspapers would be liable to GST or not is still open for debate.

However, as a prudent business, a preferred position would be treating such a newspaper as sale of scrap and tax it at 5 per cent. This will enable the publisher to alter its ratio of exempt service and entitle it to claim more input tax credit. In any case, the person buying the scrap of newspaper would be eligible to claim input tax credit (if GST is charged) and therefore, there may not be any concerns from that end.

OOH MEDIA – PLACE OF SUPPLY?

The Out of Home (OOH) media refers to advertisements displayed in hoardings at prominent locations such as cross-road, airports, railway stations, etc. In this case, there is a specific issue of determination of place of supply. This is because, to provide the service of displaying advertisements at any locations, the service provider needs to have advertising slots on such locations. For the same, the service provider needs to obtain the necessary permission/approval from the appropriate authority/owner of the property where he intends to display his clients’ advertisements. The issue which arises is with respect to the place of supply. Can it be said that the service supplied by way of grant of permission/approval is directly in relation to an immovable property and therefore, the place of supply will be determined u/s 12 (3) of the IGST Act, 2017?

The answer to this would be in negative because the service is not in relation to immovable property, but rather that of displaying of advertisement on the immovable property. This view has been followed in the context of EU VAT in Minister Finansow vs. RR Donnelley Global Turnkey Solutions Poland (RRD), and is relevant. The issue in the said case was that RRD was engaged in providing a complex service of storage of goods involving storage, admission, packaging, loading/unloading, etc. The issue was whether the service could be classified under Article 47 or not, which deal with supply of services connected with immovable property. The same is reproduced below for ready reference:

The place of supply of services connected with immovable property, including the services of experts and estate agents, the provision of accommodation in the hotel sector or in sectors with a similar function, such as holiday camps or sites developed for use as camping sites, the granting of rights to use immovable property and services for the preparation and coordination of construction work, such as the services of architects and of firms providing on-site supervision, shall be the place where the immovable property is located.

From the above, it is evident that Article 47 is worded similarly to Section 13 (4). In the context of Article 47, the Court had held as under:

Article 47 of Council Directive 2006/112/EC of 28 November 2006 on the common system of value added tax, as amended by Council Directive 2008/8/EC of 12 February 2008, must be interpreted as meaning that the supply of a complex storage service, comprising admission of goods to a warehouse, placing them on the appropriate storage shelves, storing them, packaging them, issuing them, unloading and loading them, comes within the scope of that article only if the storage constitutes the principal service of a single transaction and only if the recipients of that service are given a right to use all or part of expressly specific immovable property.

In fact, Article 47 has been amended w.e.f. 1st January, 2017 to specifically provide transactions which shall be treated as being in connection with an immovable property and transactions which shall not be treated as being in connection with an immovable property. Some specific inclusions and exclusions are tabulated below:

In Connection with Immovable Property	Not in Connection with Immovable property
• Drawing up of plans for a building/ parts of a building designated for a particular plot of land • On site Supervision/Security services • Survey and assessment of risk and integrity of the immovable property (Title search by advocates)	• Drawing up of plans for a building/ parts of a building not designated for a particular plot of land • Storage of goods in an immovable property if no specific part of immovable property is earmarked for the exclusive use of the said customer
• Property management services (other than REITs) • Estate agent services	• Provision of advertising, even if involves use of immovable property (Out of Home Advertising) • Intermediation in the provision of hotel accommodation services acting on behalf of another person • Business exhibition services • Portfolio management of investments in real estate (REIT)

In Connection with
Immovable Property

Not in Connection with Immovable property

• Drawing up of
plans for a building/ parts of a building designated for a particular plot of
land

• On site
Supervision/Security services

• Survey and
assessment of risk and integrity of the immovable property (Title search by
advocates)

• Drawing up of
plans for a building/ parts of a building not designated for a particular
plot of land

• Storage of
goods in an immovable property if no specific part of immovable property is
earmarked for the exclusive use of the said customer

• Property
management services (other than REITs)

• Estate agent
services

• Provision of
advertising, even if involves use of immovable property (Out of Home
Advertising)

• Intermediation
in the provision of hotel accommodation services acting on behalf of another
person

• Business exhibition services

• Portfolio management of investments in real estate (REIT)

CONCLUSION

The entertainment and media sector plays a very important role in the day-to-day lives of citizens. However, the industry is faced with specific issues which need to be looked into, including clarity on input tax credit eligibility on specific supplies, an inbuilt mechanism to handle the revenue/cost mismatch, etc.

shailesh.kwebmaker

Automobile Sector

INTRODUCTION

Uniqueness of an
industry practice poses specific tax challenges and warrants a separate
analysis with careful orientation towards the business dynamics
prevalent in the industry. As part of the Decoding GST series, an
attempt is being made to identify some industry-specific GST challenges
and examine current practices adopted by the industry to tackle such
situations.

Typically, tax issues faced by an industry can be
categorized into the following buckets (a) Classification/Rate of Tax,
(b) Other substantive issues and (c) Procedural issues.
Classification issues arise on account of the description of the goods
and/ or services specific to the said industry. Substantive issues
emerge from valuation, input tax credit, etc. and procedural issues
arise from tax collection/payment, reporting procedures envisaged under
law.

THE AUTOMOBILE SECTOR

The automobile sector
comprises of OEMs (including supporting component manufacturers) of
two-wheelers to four-wheeler passenger vehicles, commercial vehicles and
other special purpose vehicles. With the recent spurt in electric
mobility, a sub-vertical of electric motor vehicles manufacturers and
its supporting participants have emerged. The said sector also includes
the dealer network, after market spares and service network as well as
pre-owned vehicle market. While GST has subsumed multiple taxes/cesses
(National Calamity Contingency Duty, Infrastructure Cess, Automobile
Cess, etc.) imposed on the sector, it is still considered as one of the
most ‘tax-burdened’ sector. This is probably because of the importance
and contribution of the sector to India’s GDP and tax exchequer.

PRODUCT CLASSIFICATION

Product
classification has been an intriguing issue for the automobile sector.
In terms of rate structure, motor vehicles have been designated with
peak GST rate of 28 per cent along with imposition of Compensation Cess
on ad-valorem basis also peaking upto 22 per cent – aggregating upto 50
per cent in case of SUVs. Passenger motor vehicles (classifiable under
HSN-8703) have been subdivided based on (a) physical characteristics –
length, engine capacity, ground clearance, specific fitments, etc.; (b)
technology (electric or internal combustion, hybrid, CNG, fuel type,
etc.). Commercial vehicles have been currently exempted from the
imposition of Compensation Cess.

Classification of Sports Utility Vehicles

Peak
Compensation cess of 22 per cent is applicable to SUVs having engine
capacity > 1500cc and 17 per cent is applicable to other motor cars
(greater than 4000mm length and more than 1200cc engine capacity. The
issue arises on vehicles sold as SUVs (such as Tata Nexon) having engine
capacity below 1,500cc but having more than 170mm ground clearance –
whether they are liable to the higher compensation cess. The inclusive
definition of SUV in the explanation has created the confusion:

Plain
reading of this explanation seems to suggest that the inclusive format
makes the definition expansive and covers all vehicles known as SUVs
even though the length or ground clearance are below the threshold
specified in the explanation. While the Revenue is pursuing this
interpretation, it seems to lose sight of the primary condition of the
entry i.e. engine capacity should always exceed 1500cc. Unless the
primary condition on engine capacity is not satisfied, none of the
secondary conditions in explanation can be extended to the
classification entry. Therefore, a Tata Nexon having engine capacity
below 1500cc cannot be taxed under this entry even if they are marketed
as SUVs.

The said entry also raised one question on the manner of measurement of ground clearance¹. Whether the measurement had to be performed in laden or unladen weight? In the case of Tata Harrier²,
though the ground clearance in unladen condition was above 170mm, in
laden condition it fell below the said threshold. ARAI which prescribes
the standards for automobiles in India, has defined ground clearance on
the basis of laden weight rather than unladen weight. The AAAR upheld
the view of the taxpayer and adopted the full laden condition as the
basis for measurement of ground clearance. The Revenue’s argument that
passengers could be of different weights was set aside since ARAI also
prescribes the standards (68 kgs) for measurement of laden condition.
Though this issue may not be applicable to Tata Harrier (on account of
change in configuration), this could have impact on other vehicles whose
ground clearance in laden condition fall below the threshold.

Hybrids – Internal Combustion (IC) Engines and Electric Motors

Hybrid
vehicles bridge the deficiencies of IC technologies and EV
technologies. They combine both technologies for propulsion of the motor
vehicle – depending on the dominance of one technology over the other,
hybrids can be sub-divided into ‘Mild Hybrids’ and ‘Full Hybrids’ IC³.
The Compensation Cess Act imposes a cess of 15 per cent for hybrid
vehicles and 17 per cent in case of other vehicles as follows:

1. IS-9435 is Indian Standard for terms and
definitions states – “The distance between the ground and the lowest
point of the centre part of the vehicle. The centre part is that part
contained between two planes parallel to and equidis- tant from the
longitudinal median plane (of the vehicle) (see 4) and separated by a
distance which is 80 per cent of the least distance between points on
the inner edges of the wheels on any one axle. This measurement has to
be done on fully laden vehicle to the maximum authorized GVW.”
2. TATA MOTORS LIMITED 2019 (31) G.S.T.L. 544 (App. A.A.R. – GST)
3.
Mild Hybrids – electrical motor is used only when additional power is
needed and IC engine is used to provide most of the power; Full Hybrids –
electrical energy is used while the car needs less power and IC engine
is used when the car needs more power.

While
the classification would be unambiguous in case of full hybrids
(covered under Entry 48 at 15 per cent), classification of mild hybrids
poses some challenge. An issue arose in the case of Maruti Suzuki India Ltd⁴
involving mild hybrids of S-Cross, Ciaz and Ertiga. The bone of
contention was whether the electric motor are motors of propulsion in
such mild hybrids. As stated above, in mild hybrids, the electric motor
starts the engine while the initial mobilization is provided by the IC
engine. At higher speeds, the electric motor also provides additional
force to the IC engine. Multiple reports documented that electric power
cannot solely propel the engine but certainly add force to the IC engine
to reduce the fuel consumption even at higher speeds. Moreover, the
phrase “both” in the said entry is not a question of independent
capabilities of IC engine and electric motor but implies a combined
effect of both technologies to propel the vehicle. Despite the role of
electric motors documented in technical reports, the AAR observed that
electric motor is not capable of independently propelling the vehicle
and only an adjunct to the IC engine, hence cannot be termed as Hybrids.
This clearly fails to appreciate that additional investment into
hybrids (mild or full) are with visible advantage of reduction in fuel
consumption. The degree of contribution of electric in the hybrid
vehicles is not an ex-facie criterion to remove the vehicle from
hybrids and classify them with conventional IC engines. Propulsion
should not be narrowly understood as initial movement (commonly called
as ‘pick-up’) but also include additional force while in motion. The
objective of granting an incentive to hybrids seem to have been
misplaced with the narrow interpretation of Hybrids.

4. 2021 (49) G.S.T.L. 50 (A.A.R. – GST – Haryana)

Specific Use or General Use Parts

The
mysterious issue which evades this industry is whether a particular
item is a ‘specific use’ or a ‘general use’ part. The rate notification
mandates a rate of 28 per cent in respect of specific parts or
accessories of motor vehicles. The parts which are either manufactured
from a metal alloy, plastic, rubber, etc. could alternatively be
classified in their respective Chapters based on their product
composition.

To take an example, fasteners, nuts, bolts etc. are
designed specifically for automobile manufacturers. The industry
practice is that the OEM partner will manufacture and develop the design
through sophisticated software tools. Prototype of these products would
be tested in the R&D center and finally approved for commercial
production. OEMs also place a condition that the said products should
not be supplied in the spare market and sold exclusively to the
manufacturer or dealer network. On the legal front, the following points
can be gathered:

– Note 2 to section XV on base metals states
that screws, nuts, bolts, etc. classifiable under 7318 are to be
treated as ‘parts of general use’.

– Note 3 to Section XVII
states that any reference to ‘part’ or ‘accessories’ in Chapters 86-88
would be only limited to specific use parts i.e., solely and principally
designed for use with the goods mentioned in the said chapter (e.g.,
steering wheel designed only for motor cars even though it is made of
plastic material and classifiable under the respective chapter).

–
Note 2 to section XVII also provides for an exclusion that ‘general
use parts’ made of base metal should be classified under the respective
chapter heading.

– The Revenue cites the decision of GS Auto international⁵
wherein the said tests have been re- iterated based on the commercial
identity (trade parlance) of the product rather than the functionality.

Strictly
speaking, referring a nut as a ‘part or a motor car’ is an incorrect
application of the commercial identity test. The commercial identity
would first be a screw, bolt, etc. The court has viewed ‘screw’ merely
as a function without cognizance that the nomenclature has given birth
to the functional term and not vice-versa. The fact that this is
designed for a motor car still results in it being a general use part in
view of a specific note in section XV. Moreover, applying the general
interpretative rules, tariff heading of screws, nuts bolts, etc. under
HSN 7318 would be more specific rather than a residuary entry under
‘parts of motor car’ under HSN 8708. However, the appellate advance
ruling authority in A Raymond Fasteners India Pvt Ltd⁶
overturned a lower authority decision and held that since the design
has been developed in consonance with the principal manufacturer and the
purchase order contains a clause that they cannot be sold in the spare
market, they are specific use parts and hence classifiable under HSN
8708 rather than 7318.

5. 2003-TIOL-92-SC-CX
6. 2021-TIOL-05-AAAR-GST

An
issue was raised in the case of “air springs” (made of vulcanized
rubber) where the functionality of the product is driven by the rubber
material rather than the metal holders. The revenue in SI Air springs⁷
held that since 60 per cent of the part comprises of metal components,
it is not an article of vulcanized rubber. The item is a specific use
part and the exclusion in section notes 2(a)/ (b) apply only to general
use parts. Since the item has not been considered as articles of
vulcanized rubber, it was held that the said item being a specific part
is classifiable as parts of motor vehicle under HSN 8708 and not under
HSN 7318. The primary grievance in this approach is that air springs
provide shock absorbing abilities which can only be performed by the
rubber material. Treating the metal components as the primary basis for
classification seems to completely ignore the functionality of the
product as being an article of vulcanized rubber. Resultantly, the
Section note which excludes items of vulcanized rubber entirely from the
Chapter cannot be applied to the product. The incorrect understanding
of the product led to an error in the entire classification matrix.

The CBEC circular⁸
has stated that disc brake pads would be parts of motor cars (under HSN
8708) and not items of asbestos or like (chapter 68) because of a
specific entry of Brakes in HSN 8708. This appears to be understandable
because of a specific entry under HSN 8708 which covers brake pads. The
Advance Ruling Authority has also affirmed that the said parts are
liable to GST as ‘specific parts’ and taxable at 28 per cent⁹.
But extending this analogy for all parts designed for automobiles may
not be the appropriate application of the HSN scheme as the section note
of the chapter clearly spell out the chapters to which this test can be
applied.

Specific Heading vs. General Heading

Even
within the domain of specific parts, the other intriguing issue is
whether a particular part is covered by a specific heading rather than
general heading. One topical issue is whether the ‘Track assembly’
fitted to the floor of the car which enables the forward and backward
movement of the seat is a ‘part /accessory of a motor car’ (HSN-8708 @
28 per cent) or ‘part of a seat’ (HSN 9401 @ 18 per cent). The issue has
emerged with the amendment to the Rate notification in November 2017
wherein HSN 9401 was shifted from 28 per cent rate schedule to the 18
per cent rate schedule. The OEM manufacturer did not lay emphasis on the
accurate classification prior to the amendment and hence following
divergent practices on account of rate neutrality. After the amendment,
manufacturers approached the AAR¹⁰ and it was unequivocally
held that the appropriate classification would be under HSN 8708 at 28
per cent. Reiteration of the legal background to the said issue is:

–
Note 3 to Section XVII states that any reference to ‘part’ or
‘accessories’ in Chapters 86-88 would be only limited to specific use
parts i.e., solely and principally designed for use with the goods
mentioned in the said chapter (e.g. steering wheel designed only for
motor cars even though it is made of plastic material and also
classifiable under the respect chapter).

– Note 2 specifies a
negative list of parts / accessories which would be classifiable in
their respective chapter and not under this Section.

– Parallelly, Section XIX also classifies seats and its parts under HSN 9401 which is taxable at 18 per cent.

– HSN 8708 provides for classification of ‘parts’ and ‘accessories’ of motor vehicles and hence liable to GST at 28 per cent.

–
Therefore, seat adjusters / assemblies appear equally classifiable
under HSN 8708 as parts / accessory of motor car and 9401 as parts of a
seat.

– The HSN Explanatory Notes provide that Headings under
Section XVII cover only those ‘parts’ or ‘accessories’ which comply with
all 3 conditions:

Not excluded by Note 2 of Section XVII;

Suitable for use solely or principally with articles of Chapter 86 to 88 [Note 3 of Section XVII], and

Not specifically included elsewhere in the Nomenclature.

– The Supreme Court recently in Commissioner vs. Shiroki Auto Components India Pvt. Ltd.¹¹ affirming the CESTAT judgement held that child spare parts which form part of the seat is classifiable under HSN 9401.

– In a previous case, the Supreme Court in CCE vs. Insulation Electrical (P) Ltd¹² held that seat assembly are classifiable under HSN 8708 as motor vehicle parts and not parts of the car seat.

7. 2021-TIOL-25-AAAR-GST
8. 52/26/2018-GST, dated 9th August, 2018
9. Roulunds Braking India (Pvt.) Ltd 2018 (15) G.S.T.L. 142 (A.A.R. – GST)
10.
M/s. Shiroki Technico India Pvt. Ltd 2021 (1) TMI 492 (Guj.) & 2019
(7) TMI 1734 (Haryana); Daebu Automotive Seat India Private Limited
2021 (6) TMI 685 (TN)
11. 2021 (378) E.L.T. A145 (S.C.) affirming
2020 (374) E.L.T. 433 (Tri. – Ahmd.)(Shiroki Auto Components India Pvt.
Ltd. vs. Commissioner).
12. 2008 (3) TMI 22 (SC)

On
placing the said issue in appropriate perspective, we can decipher that
the said seat assembly is an adjunct to the motor car on which the seat
is placed. The nomenclature of it being a seat assembly does not make
it classifiable under HSN 9401. The seat is complete without the seat
assembly and the function of the assembly is to move the seat backward
or forward. At most, this can be an accessory to the seat rather than a
part of the seat. HSN 9401 is limited only to ‘parts’ of the seat and
not to ‘accessories’. Therefore, the specific vs. general test would
result in classifying the said product under HSN 8708. The Supreme
Court’s decision in Shiroki (supra) is rightly
distinguishable on multiple grounds (i) the product is a child spare
part which fits into the seat and not an accessory, and (ii) the extant
section notes had a specific exclusion for parts identifiable under HSN
9401 which is different from the current section note.

SUBSTANTIVE ISSUES

ISD/ Cross Charge

OEMs
perform R&D at their dedicated centers which could be either
located in a separate state or even outside India. These are units which
work on design, improvisation and technological upgradation of the
motor car. The final outcome (success or failure) is unknown until the
commercialization of the R&D outcome. Even after commercialization,
it undergoes improvements based on customer and service station
feedback. Whether the said activity constitutes a ‘supply or service’ to
the corporate office and/or factory is a growing debate. Schedule I
r.w.s. 25 treats these R&D centres as distinct persons. The
employees at the R&D center may be subjected to performance
appraisals based on outcome but there is no obligation on the part of
the R&D center to develop a product for the OEM, for it to
constitute a ‘service’. R&D by its nature is a repetitive trial and
error method and the benefits (if any) would accrue to the OEM as a
whole. The obscure definition of ‘service’ should not be made applicable
to this arrangement. But in the absence of a cross charge to the
corporate office/factory, input tax credit starts accumulating at the
R&D center without any source of taxable revenue. In view of this,
OEMs have either adopted the ISD mechanism for transfer of service or
raise a cross-charge invoice (where both goods and services are
involved) with a nominal mark-up (say 10 per cent) on the corporate
office. This makes the entity GST neutral since the corporate/ factory
claims the input tax credit of the same.

Free Supply – Moulds / Drawings, etc.

Components/ sub-components are manufactured based on moulds/ drawings
provided by the OEM. The ownership, intellectual property, etc. fall
within scope of the principal manufacturer. The issue emerges on
valuation of the components which are produced by use of the said moulds
by the component manufacturer. Section 15 requires that the transaction
value would be the taxable value provided ‘price is the sole
consideration’ in the supply transaction.

The
manufacturing agreement/ PO prescribing the scope provides that
moulds/drawings would remain in the ownership of the principal
manufacturer and is being provided to the component manufacture solely
for exclusive use of components to be supplied to OEMs. The obligation
to provide the mould rests on the OEM and the component manufacturer
uses the moulds to meet the product specifications. CBEC circular¹³
addresses this issue vide two separate scenarios (a) where the scope of
‘moulds’ is with the principal manufacturer, the value of such moulds
need not be included in the taxable value of the components; whereas (b)
in cases where the scope rests on the component manufacturer and the
principal manufacturer takes on this obligation on FOC basis, it
requires an imputation of the amortised costs of the moulds over the
life of the moulds. While there is no legal basis for such amortization,
this circular appears to be echoing the practice under the Central
Excise valuation rules¹⁴ which required amortization of such mould costs.

13. No 47/21/2018-GST, dated 8th June, 2018
14. Rule 6 of Central Excise Valuation Rules

Discounts vs. Incentives

Innovative
rewards schemes are diminishing the difference between discounts and
incentives. Generally, OEMs provide volume based or non-volume-based
price reductions to the dealer network. In many cases, these schemes are
developed based on the market response to a particular product line
through periodic circulars. OEMs also fix the end delivery price in the
back end and reimburse the shortfall to the dealers through price
supports. While these concepts are distinct in theory, the application
of the same in the complex dealership agreements makes the task
complicated. The academic issue is whether the said amounts are
deductible from the taxable turnover of the OEMs against the sales made
to the dealers. In cases where there is no doubt (say volume based
routine discounts), OEMs are claiming the same as a deduction from their
turnover. In cases where the incentives are post sale or after dispatch
of the goods, the OEMs generally reimburse the same against a tax
invoice from the dealer and hence the transaction is GST neutral.
Essentially, any pre-agreed reduction having a bearing on the sale price
is being availed as a deduction from OEM’s turnover. Reductions which
are an OEM mandate (such as corporate discounts, loyalty discounts and
season discounts) on the end customer price may be incentives and
generally routed through the tax invoice mechanism.

Authorised Service Station – Reimbursement

OEMs
reimburse the authorized service station costs incurred towards the
free services provided to the end customers under their warranty terms.
As a part of the terms of sale, the OEM assures its customer free after
sales services up to a specific period/ mileage. This obligation is
discharged through the service network associated with the OEM. The
service station conducts the service and only bills certain chargeable
consumables to the end customer. The free service component is charged
to the OEM along with GST. Under the legacy laws, chargeability of
service tax on such free services was a subject matter of intense debate
on the issue of whether there was any service rendered to the OEM. With
the expansion of the definition of ‘recipient’ under the GST regime,
this issue seems to have been fairly settled and automobile dealers are
recovering this cost from the OEM as being the person ‘liable to pay
consideration’ for the said service under the dealership agreement.

Product Recalls/ Warranty replacements, Insurance claims

Warranty
terms with the OEM and end customer provide for replacement/repair of
critical components on account of manufacturing defects or sub-standard
performance. The warranty claim emerges at the authorized service
station who immediately attend to it. There are set of protocols for
implementing the warranty claims of the customer. Authorized service
station then seek a reimbursement of the materials and labour costs of
such warranty claims. On the first leg of warranty replacement, the
position appears to be fairly settled¹⁵ by a CBEC FAQ which
holds that supply of replaced goods are not taxable in the hands of the
end customer. However, the recovery from the OEM either in the form of
fresh stock or monetary claim would be taxable in the same manner as a
free service activity discussed above. This concept can be applied even
to cash-less insurance claims where insurance companies disburse the
compensation directly to the dealer towards the motor car repair costs.

An
adjoining point would pertain to the ascertainment of the place of
supply of goods (spares replaced). The said spares are delivered to the
end customer but are being billed to the OEM as being in-warranty
replacements. Here the movement is local/intra-state, but the OEM may be
registered outside the state of replacement. The industry is taking
support of section 10(1)(b) of the IGST Act to conclude that the place
of supply would be the principal place of business of the OEM even
though the delivery concludes in the same state. Though this is slightly
against the popular application of s.10(1)(b) only to ‘bill to ship to’
models, it represents the correct position in law.

Composite Supply – Service Station

Service
Station perform service and repair jobs involve use of both material
and goods. Under legacy regime, in view of distinct VAT and service tax
laws, a clear bifurcation of the same was performed by the dealers and
respective taxes were charged. In the GST regime, the concept of
‘composite supply’ posed a significant challenge, more so because the
peak rate for many parts were at 28 per cent while labour charges were
taxable at 18 per cent. Replacement of a part places two composite
obligations (a) supply the part (b) and replacement, both of which are
equally important to the end customer. Going by the Revenue’s
inclination, it would be termed as a mixed supply (in the absence of a
clear principal supply) and taxed at 28 per cent (being the higher of
the rates applicable). In practice though, the dealers have been
applying the CBEC circular¹⁶ which has curiously scuttled the
issue by stating that separate values charged for material and labour
would make them liable to tax at their respective rates. Though the
clarification defeats the concept of composite supply (concurrent/
inter-twined obligations), automobile dealers are content in applying
this circular as it assures legal certainty to the illusionary solution.

15. CBIC has issued FAQ on 31st March, 2018
16. 47/21/2018-GST, dated 8th June, 2018

Body Building – Sale or Service

Body
building involves supply and fixation of materials on chassis sold by
the OEM manufacturer. Alternatively, the body builder also purchases the
chassis and supplies the body-built bus/ truck to the customer. In the
former scenario, CBEC¹⁷ has held that it amounts to a job
work/ manufacturing services and deemed as a service under Schedule II
Entry 3. While in the later scenario where a completely built bus is
directly sold to the end customer, the rate as applicable to goods (bus,
etc.) would be applicable to the body-built motor vehicle as well
(i.e., 28%). This appears to be sound position in the context of
composite supply as well as the deeming fiction being placed by Schedule
II. The physical condition at the time of supply and the obligations
undertaken for the entire motor vehicle make the supply as that of
‘goods’ rather than a ‘service’. Similar views have been adopted in
multiple advance rulings where despite contribution of substantial raw
materials (such as steel, fabrication, etc.) during body building
activity, the fact that the underlying chassis is owned by the principal
has been the tipping point of whether the transaction is supply of
goods or services¹⁸.

Input Tax Credit on Demo Cars / Display Cars / Loyalty Cars

Dealers
are required to maintain the Demo Car which shall be used for the test
drives for a specified mileage/ period after which they are sold in the
after-market at a lower value. These are purchased from the OEMs on
payment of taxes. Section 17(2) debars motor car credit other than cases
of re-sale/ supply. Demo cars at the time of purchase may not be
available for re-sale but by trade practice would be sold after its use.
Contrary advance rulings are prevalent on this issue – one school of
thought states that these would be ultimately sold and hence eligible
for input tax credit¹⁹ – section 17(5) does not place any
time limit over the further supply of such motor vehicles; other school
of thought states that since the purchase of such cars is not with the
intention for further supply and sold after much use, input tax credit
is not permissible²⁰. While section 16(1) also permits credit
on mere intention of use of goods/ services, negative wordings of
section 17(5) permits credit only when they are actually used. Demo cars
are certainly for business use and by trade practice sold in the
after-market. The dilemma faced by dealers is that Demo cars are not
being sold and fall within the permitted uses only when they are
actually sold (say in 1-2 years) but the credit availment is subject to
statutory time limits. While strict wordings may not permit credit until
actual supply, a more liberal interpretation, keeping the object of the
statute, may help the dealers in availing the credit.

17. 34/8/2018-GST, dated 1st March, 2018 later elaborated in 52/26/2018-GST,dated 9th August, 2018
18.
AB N Dhruv Autocraft (India) Pvt. Ltd. 2020 (41) G.S.T.L. 383
(A.A.R.-GST-Guj.); Rohan Coach Builders [2019 (26) G.S.T.L. 525 (A.A.R. –
GST)]; In Re:Tata Marcopolo Motors Ltd. [2019 (27) G.S.T.L. 283 (A.A.R.
– GST)]
19. Toplink Motorcar Private Limited 2022 (7) TMI 181 & Chowgule Industries Private Limited 2020 (1) TMI 741

20. Khatwani Sales & Services LLP 2021 (1) TMI 692 & BMW India Pvt. Ltd. 2022(3) TMI 487

Eligibility
of credit on display cars is fairly straightforward and not subjected
to much debate. In case of loyalty cars (replacement cars at the time of
handing over end user cars for service), they are used for
transportation of passengers, but the said amounts do not accrue any
direct revenue to the dealer. Credit on loyalty cars may be denied until
its actual sale wherein the legal position would be akin to Demo cars.

Composite Supply – PDI, RTO charges

Pre-Delivery
inspection charges are costs recovered from the OEM for conducting the
inspection before the end sale of the car. These recoveries form part of
the dealership agreement. The Supreme Court in TVS Motor Co Ltd ²¹
negated the inclusion in the assessable value of the car sold by the
OEM to the dealer as being a post-sale activity. The prevailing
definition restricted itself to consideration payable ‘by reason of’ or
‘in connection’ with the sale and hence Courts held that only those
amount, in the absence of which the sale may not be consummated, would
be included and not amounts which are deferred beyond the date of sale.

21. 2016 (331) E.L.T. 3 (S.C.)

In
the GST context, the term ‘consideration’ has been defined as any
amount as part of, inducement or in connection with the supply from any
person including the recipient. With transaction level valuation, the
issue may not be relevant at the OEM level but now trickles down to the
dealer level. Here, the sale of the motor car to the end user also has a
simultaneous recovery from the OEM for the PDI conducted on their
behalf. To include the said PDI as part of the sale price under the
supply to the end customer terming it as ‘additional consideration
received from the OEM’ may not be an appropriate application of the said
definition and hence may not be chargeable at the same rate as
applicable to the motor car (GST + Compensation cess). Having said this,
it would certainly be chargeable as a separate service activity by the
Dealer to the OEM at 18 per cent.

Sale of Old and Used Vehicles²²

Motor
vehicles have been barred from input tax credit both under the legacy
VAT/ CENVAT and GST laws. Under the GST regime, sale of used motor
vehicles is subjected to tax. Having denied the input tax credit on
purchase, any further tax on output would result in tax cascading and
hence Notification No. 18/2018 provided that GST would be chargeable
only on the profit accruing over the tax depreciated value of the asset.
The benefit is available only where the seller has not availed input
tax credit either under the GST laws or under the legacy laws. The
notification uses the phrase ‘old and used’ in contradistinction to the
phrase ‘second-hand goods’ as used in the Margin Scheme (refer
discussion below). Use of a distinct terminology raises doubt over
whether there is any perceivable difference. Probably, the notification
is oriented towards the actual use and the claim of depreciation rather
than number of transfers recorded in the Regional Transport Authority
records.

The said notification presents two cases in hand (a)
profit margin over the depreciation value, in which case the profit
margin is taxable – this would be case of partial exemption and hence
not subjected to any kind reversal of common inputs u/s 17(2); (b) loss
on account of sale value lower than depreciated value – though in this
case no tax actually accrues to the seller on account of valuation
methodology, it continues to be a case of partial exemption since the
notification, as a matter of principle, is not oriented to granting full
exemption. Therefore, reversal of common input tax credit may not be
required in both scenarios.

22. Notification No. 8/2018-C.T. (Rate), dated 25th January, 2018

Margin Scheme for Pre-owned Vehicles

As
per Rule 32(5) of the CGST Rules, 2017, where a taxable supply is
provided by a person dealing in buying and selling of second hand goods,
i.e., used goods as such or after such minor processing which does not
change the nature of the goods and where no input tax credit has been
availed on the purchase of such goods, the value of supply shall be the
difference between the ‘selling price’ and the ‘purchase price’ and
where the value of such supply is negative, it shall be ignored.

In
this regard, Notification No. 10/2017²³ exempts supply of ‘second-hand’
goods received by a registered person, dealing in buying and selling of
second hand goods and who pays the central tax on the value of outward
supply on the profit margin earned on such second hand goods under Rule
32(5). In case any other value is added by way of repair, refurbishing,
reconditioning, etc., the same shall also be added to the value of goods
and be part of the margin. If margin scheme is opted for a transaction
of second-hand goods, the person selling the car to the company shall
not issue any taxable invoice and the company purchasing the car shall
not claim any ITC. In a recent advance ruling²⁴ it was held that
refurbishment costs cannot be deducted as it is not ‘purchase price’ in
strict sense though it may be purchase cost. The price would be the
amount payable as consideration at the time of purchase of the car and
exclude own costs. However, the advance ruling fired another salvo by
also stating that input tax credit on such refurbishment is not
permissible. This seems to be unfair and contextually illegal, hitting
the dealers on both fronts.

23. Notification No. 10/2017-Central Tax (Rate) New Delhi, dated 28th June, 2017
24. 2022 (5) TMI 402 IN RE: M/s. Tej Kumar Jain

PROCEDURAL ISSUES

E-way Bill

A
curious issue arose before the Kerala High Court²⁵ in the context of an
E-way bill for movement of motor cars by the auto dealer from one state
to another after completion of supply. In the peculiar facts, the motor
car was sold to the customer and a temporary registration was obtained
under the Motor Vehicles Act. Subsequently, the dealer performed the
transportation of the motor car (having an odometer reading of 17kms)
from the point of sale to the point of delivery. The Court held that the
fact of temporary registration, odometer reading, operative insurance,
handing over possession and distinct after-sale service of
transportation leads to the conclusion that the supply was complete in
the state of origin and tax would accrue to the destination state. The
act of transportation is distinct from the act of supply which is
complete and hence no e-way bill was required on the grounds of being a
transportation of ‘personal goods’ of the purchaser. Other observations
of the Court having a bearing on taxability are also worth noting:

–
Transaction which terminates with the supply is an intra-state supply,
and despite the purchaser having taken delivery of the goods and moving
the same inter- state, would not alter the character of the supply.

–
In case of intra-state supply, other states are not entitled to any
revenue and hence cannot cause detention on ground of tax evasion.

25. Kun Motor Co. Pvt. Ltd. vs. Asst. State Tax Officer 2019 (21) G.S.T.L. 3 (Ker.)

One
may also note that the section 68 is a machinery provision which is
subservient to the charging provisions. Once the supply is complete and
tax is discharged, they are no more a subject-matter of governance by
the GST law in so far as output taxes are concerned. Section 68 requires
an e-way bill for ‘consignment of goods’ under a transaction of live
supply. It ought not to cover goods of a consummated supply which have
entered the consumption stream. It is for this reason that the scope of
the law is only limited to business transactions and does not extend to
personal activities. Therefore, at a principle level, the provisions of
section 68 mandating e-way bill should be limited only to supplies in
the course of business and not beyond that.

CONCLUSION

The
future of automobile sector is towards driverless technologies,
mobility services, etc. The GST law is also progressing towards
driverless GST implementation through e-invoicing, etc. where human
intervention is on its decline. But the substantive issues are driving
the industry into cumbersome challenges and the Government could
undertake a drive to resolve some of the said issues through appropriate
circulars/ amendments.

shailesh.kwebmaker

How an Apparent Relief Became a Burden for Government & Taxpayers?

INTRODUCTION

Goods & Service Tax in India is a destination-based consumption tax, i.e., the tax collected on a supply (taxing event) becomes revenue of the State in which the supply is consumed. This is evident on a reading of Article 269A(1) of the Constitution, which, while giving exclusive powers to the Parliament to levy and collect tax on inter-state supplies, also requires the apportionment of the said tax between the Union and the States.

Accordingly, Sections 10-13 of the IGST Act, 2017 lay down the rules for determining the place of supply, which in effect will aid in determining the State where the supply is being consumed.

Further, Section 17 lays down the manner of apportionment of tax and settlement of funds, being an integrated tax collected by the Parliament. Since GST works on the principle of value addition and availability of input tax credit for businesses, section 17 recognizes that for a B2B transaction, the tax collected does not accrue to any Government and accordingly provides for settlement of taxes only in cases of B2C transactions and B2B transactions where the corresponding credit is not available.

Section 17 of the IGST Act, 2017 accordingly deals with the following scenarios for the settlement of taxes between the Governments:

a) In respect of supplies made to an unregistered person (B2C)/ composition dealers paying tax u/s 10.

b) In respect of supplies made where the registered person is not entitled to claim the input tax credit.

c) In respect of import of goods/ services by a registered person not entitled to claim the input tax credit.

d) In respect of supplies made where the registered person does not claim input tax credit within the prescribed timelines.

e) In respect of import of goods/ services by a registered person who does not avail the said credit within the prescribed timelines.

f) In respect of import of goods/ services by an unregistered person or a registered person paying tax u/s 10 or a registered person not entitled to claim an input tax credit.

DATA POINTS FOR SETTLEMENT

Conceptually, the above settlement process, along with the provisions for inter-se settlement in case of cross utilization of credits, would seem adequate and logical. However, in a nation with millions of taxpayers and trillions (or even more) of transactions, compiling the relevant data could be a daunting exercise. This aspect was thought through at the time of the introduction of GST, and the detailed, elaborate transaction level uploading and two-way matching process was inter alia also designed to provide the said data points. As a quick recollection, an elaborate mechanism for filing returns was proposed involving the following steps:

• GSTR 1: wherein suppliers furnished details of outward supplies made by them to registered / unregistered persons. The details of supplies made to unregistered persons, though to be furnished at summary level, was to be provided supply-wise.

• The supplies to registered taxable persons disclosed in GSTR-1 were intimated to the receiving taxable persons in GSTR-2A.

• Based on the details intimated in GSTR-2A, the receiving taxable person was expected to carry out the matching exercise while furnishing GSTR-2, which is the details of inward supplies and marks each supply as either accepted (i.e., matched), rejected (i.e., incorrectly appearing or requiring amendment) or pending (appearing correctly but not credit eligible in terms of section 16 of the CGST Act, 2017). In addition, the receiving taxable person also had an option to add transactions, not disclosed by the supplier. The input tax credit on such transactions was provisionally subject to the supplier making the necessary rectifications.

• The transactions marked as ‘rejected’ / ‘added’ were to be sent back to the supplier in GSTR-1A whereby they could take the corrective action for the mismatch to be rectified.

• The information furnished in the GSTR-1 and GSTR-2 was to be auto-populated to the GSTR-3 wherein the taxable person was also required to report other adjustments, such as reversal on account of Rules 37, 38, 42, 43, etc., and details of blocked/ ineligible credits and discharge the tax liability by utilizing balances lying in electronic cash/credit ledgers.

The complex transaction-based return cycle was designed to ensure that the data could be collated for proper settlement of taxes among the States.

However, in August 2017, during the first return cycle under GST, the portal displayed unpreparedness to facilitate filing of the above returns. The delay in filing GSTR-3 meant a delay in collection of tax revenue. Therefore, as a makeshift arrangement, the above-detailed process was temporarily substituted by a disjoint process of filing GSTR–1 -> GSTR–3B. It was clarified in the press release that this was to be applicable only for two months where the tax would be payable based on a simple return containing a summary of inward and outward details. However, as time progressed and the portal failed to facilitate the filing of GSTR-2, which delayed the filing of GSTR-3, the proposed filing mechanism was scrapped, and the GSTR-3B replaced GSTR-3 instead of being a mere stop-gap arrangement.

This also meant that the matching process was never implemented on the portal though GSTR–2A was made available to taxpayers. In many cases, basis mismatch between credit claimed in GSTR–3B at a summary level and credit auto-populated in GSTR–2A, recovery notices were issued to the taxpayers alleging an excess claim of the input tax credit. In many cases, the taxpayers were forced to approach the High Court for relief against such exercises. But, ensuring compliance was perhaps just one of the challenges faced due to the makeshift arrangement. A lot has been talked about the same in various professional forums, and this column has also featured an article on the same. This article focuses on certain other challenges.

OTHER ISSUES EMANATING FROM THE MAKESHIFT ARRANGEMENT

Apart from the above, the failure to implement the proposed returns filing process meant that the information required to carry out the activity of apportionment and settlement of funds amongst the Union and the States was not readily available due to the following:

• For supplies made to unregistered persons and composition dealers, if the supplier supplying goods or services to a dealer under composition scheme discloses the supply as B2B, based on the tagging of the recipient, the Government gets a report of supplies received by composition dealers where input tax credit is not available. Similarly, the information of supplies made to unregistered persons was supposed to flow from GSTR-1, which was expected to be the gross liability to be discharged by a taxpayer. However, the disjoint filing of GSTR-1-3B meant mismatches in the liability disclosed versus liability discharged. Therefore, GSTR-1 was no longer a reliable means for obtaining the said information. In fact, there were occasions where a taxpayer would file GSTR-1, i.e., disclose outward supply but not file GSTR-3B, resulting in a loss of revenue to the exchequer.

• For data points listed at (b) to (e) earlier, the information was expected to flow from GSTR-2 and GSTR-3, which required furnishing of transaction level details for credit matched but not claimed as the same was ineligible, time-barred, etc. Non-operationalization of GSTR-2 and GSTR-3 meant that the accurate details required for apportionment/ settlement exercise were no longer available.

• For (f) above, the source is the ICEGATE data. GSTIN must be mentioned in all import cases. Therefore, wherever importers are flagged as unregistered/ paying tax under composition scheme, details of ineligible credit can be obtained by the Government.

INPUT TAX CREDIT – WAY FORWARD

To rectify these shortcomings, vide Circular 170/02/2022-GST, the manner of disclosure of claim of the input tax credit is laid down. Let us understand what the changes are.

Under the format applicable till now, the figures appearing in the ‘taxpayers’ books of accounts were considered as the starting point, and basis of the matching (as required u/s 16(2) (aa)). He was required to disclose the credit. More importantly, there was no necessity to disclose the credit appearing in GSTR-2B but not accounted/ not appearing in books of accounts. This practice is now sought to be changed by making certain changes to the format of GSTR-3B. Let us first understand what the change is:

*Old*	*New*
4. Eligible ITC	4. Eligible ITC
Details	Details
(A) ITC Available (Whether in full or part)	(A) ITC Available (Whether in full or part)
	(1) Import of goods	(1) Import of goods
	(2) Import of services	(2) Import of services
	(3) Inward supplies liable to reverse change (other than 1 & 2 above)	(3) Inward supplies liable to reverse change (other than 1 & 2 above)
	(4) Inward supplies from ISD	(4) Inward supplies from ISD
	(5) All other ITC	(5) All other ITC
(B) ITC Reversed	(B) ITC Reversed
	(1) As per rules 42 & 43 of CGST Rules	(1) As per rules 38, 42 & 43 of CGST Rules and sub-section (5) of section 17
	2. Others	2. Others
(C) Net ITC Available (A)-(B)	(C) Net ITC Available (A)-(B)
(D) Ineligible ITC	(D) Other details
	(1) As per section 17(5)	(1) ITC reclaimed which was reversed under Table 4(B(2) in earlier tax period
	(2) Others	(2) Ineligible ITC under section 16(4) and ITC restricted due to PoS provisions

Old

New

4. Eligible ITC

Details

(A) ITC
Available (Whether in full or part)

(1)
Import of goods

(2)
Import of services

(3)
Inward supplies liable to reverse change (other than 1 & 2 above)

(4)
Inward supplies from ISD

(5) All
other ITC

(B) ITC Reversed

(1) As
per rules 42 & 43 of CGST Rules

(1) As per rules 38, 42
& 43 of CGST Rules and
sub-section (5) of section 17

2.
Others

(C) Net ITC Available (A)-(B)

(D)
Ineligible ITC

(D)
Other details

(1) As
per section 17(5)

(1) ITC
reclaimed which was reversed under Table 4(B(2) in earlier tax period

(2)
Others

(2)
Ineligible ITC under section 16(4) and ITC restricted due to PoS provisions

The changes can be primarily summarized as under:

a) Disclosure of ITC covered u/s 17(5) shifted from 4D(1) to 4B(1).

b) Complete change of information required to be disclosed at 4D.

On a first reading of the above, one may feel that it is a mere change in the details to be submitted. However, there is much more than what meets the eye. Under the new process, a taxpayer is expected to carry out the detailed matching process wherein the claim of the input tax credit is based on figures auto-populated in GSTR-2B. Indirectly, the taxpayer must mark each transaction either as accepted, pending, or rejected as initially envisaged at the time of introduction of GST, with the only variation being that the same is to be done manually. The reporting continues to be at a summary level, i.e., the Government still has no means to identify errant suppliers at an early stage.

More importantly, the amounts to be disclosed at 4B, which deal with other reversals, have now been classified as permanent and temporary reversals to be disclosed at (1) and (2), respectively. The permanent reversals are described as those that are absolute in nature and are not reclaimable, and refer to reversals required to be made under Rules 38, 42 and 43. While reference to Rule 38, an ad hoc reversal of input tax credit, by a bank or financial institution including NBFC is understandable, the same may not extend to Rule 42/43 since it contains a specific provision for reclamation in case of reversal of excess input tax credit. Therefore, to this extent, the circular seems to be ultra vires the Rules referred to, and taxpayers might still have an option to reclaim the excess credits reversed u/r 42/43.

This takes us to ‘temporary reversals’. Under the temporary reversal, what is required to be reported is the input tax credit appearing in GSTR-2B and auto-populated in GSTR-3B but not matching with the books of accounts and, therefore, liable to be reversed. The circular clarifies that this shall include, apart from credits reversible u/r 37, instances where restrictions under clauses (b) & (c) of Section 16(2) which restricts the claim of input tax credit in case the goods or services or both or the tax charged in respect of a supply has not been paid to the Government. More importantly, it refers to this as a reversal of input tax credit and proceeds to clarify that a taxable person shall be entitled to reclaim the credits so reversed on account of a mismatch as and when the same appears in GSTR-2B. This would mean that the credit disclosed at 4A.(5) as per GSTR-2B would mean availing of input tax credit at the first stage, which would be a contravention of conditions laid down in section 16. For instance, a supplier has issued an invoice to a taxable person and disclosed the same in his GSTR-1 of August, 2022. However, the taxable person has received the invoice and goods in the subsequent month, i.e., September 2022. Therefore, the question that remains is, can the recipient even disclose the credit to the extent of this transaction in 4A. (5), and then reclaim the same in September GSTR-3B? In that sense, it can be said that the Circular requires the taxable person to disclose availability of input tax credit which is contrary to the provisions of the Act.

There is one more issue in the above. The purpose of this exercise is to enforce proper reporting of ineligible credits/ blocked credits. However, many businesses have a practice whereby they do not recognize the tax separately in case of blocked credit and book the gross expenditure in the books of accounts. Therefore, the tax component of the blocked credits do not appear separately in their purchase register. As such, when matching between GSTR-2B and books is done monthly, such transactions always appear as unmatched transactions, and therefore, are reported as temporary reversals. Such transactions may never be reported as permanent reversal, and therefore, the details of such credit will be available to the Government only as time-barred credits.

One advantage of this clarification is that it can be used to bypass the provision of section 16(4). Let us take an example of an invoice appearing in GSTR-2B of September, 2022. For some reason, the invoice was never accounted by the taxable person (non-receipt of the invoice, dispute, etc.,) and therefore, while filing GSTR-3B of September, the credit was first shown at 4A.(5) and after that reversed at 4B.(2) as a temporary reversal. In December, 2023, the taxable person accounts for the invoice. The question is, can he claim this credit now as in terms of the above circular, the credit has already been availed & reversed, and now the same would amount to reclaim of the credit to which the provisions of section 16 (4) may not apply.

This takes us to the point 4D of the new format. At 4D.(1), the format expects a taxable person to disclose instances of reclaim of input tax credit which was reversed earlier in table 4B.(2). The intention behind this specific disclosure seems to be to track the difference in credits claimed in 4A.(5) of GSTR-3B and GSTR-2B on a month-on-month basis by probably using the following method:

Tax Period	ITC as per GSTR-2B	ITC as per 4A. (5)	ITC as per 4B. (2)	ITC as per 4D. (1)
2022-08	1,50,000	1,50,000	-75,000	–
2022-09	2,50,000	2,95,000	-1,00,000	45,000
2022-10	3,50,000	4,60,000	–	1,10,000
Total	7,50,000	9,05,000	-1,75,000	1,55,000

Tax Period

ITC as per GSTR-2B

ITC as per 4A. (5)

ITC as per 4B. (2)

ITC as per 4D. (1)

2022-08

1,50,000

-75,000

–

2022-09

2,50,000

2,95,000

-1,00,000

45,000

2022-10

3,50,000

4,60,000

–

1,10,000

Total

7,50,000

9,05,000

-1,75,000

1,55,000

The above table demonstrates the need for separate disclosure of recredits at table 4D.(1). The various notices received to date based on GSTR-3B versus GSTR-2A/2B notices have focused on amounts disclosed in table 4A. (5). In view of the additional disclosure of input tax credit reclaimed at 4D.(1), it will be convenient for the taxable person to explain the difference to the tax authorities.

However, a question remains regarding the claim of credits appearing in GSTR-2B of July, 2022 and prior period and matched during August, 2022 and subsequent periods. This is because such credits were not disclosed as availment and subsequent reversals during the earlier GSTR-3B. Therefore, even if such credits are claimed on a matching basis, the same cannot be treated as reclaim of input tax credit, and therefore, reporting the same at 4D.(1) would appear to be grossly incorrect. Thus, the easy resolution of mismatch notices may not be on the horizon, at least till September, 2023 as credits for the period April, 2022 to July, 2022 can be claimed till the filing of GSTR-3B of September, 2023. Perhaps, either 4B.(1) should have been appropriately worded to cover this aspect, or a separate row for reporting such cases would have helped the taxpayers. To the least, had the new method been introduced in a new financial year, the mismatch could have been averted as a taxpayer is required to disclose the input tax credit of a particular F.Y. claimed in the next year at 8C and 12 and 13th GSTR-9 and 9C for each financial year.

PLACE OF SUPPLY: CAPTURING CUSTOMER DETAILS

Another issue faced by the Government was the perceived incorrect disclosure of the place of supply in GSTR-3B on which, the Board has clarified as under:

3.3. Accordingly, it is advised that the registered persons making inter-state supplies-

… …

(iii) shall update their customer database properly with correct State name and ensure that correct POS is declared in the tax invoice and in Table 3.2 of Form GSTR-3B while filing their return, so that tax reaches the Consumption State as per the principles of destination-based taxation system.

Let us try to understand the background of the above clarification with the help of an example. A telecom operator has roped in the services of a payment gateway. Under this arrangement, whenever a subscriber intends to renew his connection/ pay his bill, he will make the payment online through the payment gateway. For each transaction through the payment gateway, it charges a nominal fee plus applicable GST to the subscriber. While the telecom would have the subscriber’s details, termed as ‘address on record’ available with him, the payment gateway won’t. The issue that remains for the payment gateway is how to determine the place of supply and more importantly, pay the applicable tax. For instance, the payment gateway is registered in Maharashtra, while the person making the payment is in Gujarat. There can also be a scenario where the payment may be done for a connection obtained in an altogether different state.

In the above, the issue would originate regarding the determination of place of supply. This is because the services provided by the payment gateway are not covered under any of the exceptions provided u/s 12 of the IGST Act, 2017, and therefore, the place of supply will be determined under the general rule, which provides as:

(2) The place of supply of services, except the services specified in sub-sections (3) to (14), –

(a)   made to a registered person shall be the location of such person;

(b)   made to any person other than a registered person shall be, –

(i)   the location of the recipient where the address on record exists; and

(ii) the location of the supplier of services in other cases.

In most cases, it is likely that the payment gateways provide services to end consumers/ unregistered recipients; therefore, clause (b) above becomes applicable for determining the place of supply in case of charges recovered from them. The same provides that the recipient’s location shall be the place of supply when the ‘address on record’ exists. However, when no such address exists, it is the location of the supplier which becomes the place of supply. In such a scenario, it would therefore mean that the tax leviable on a supply being made to and consumed by a person in Gujarat shall be Maharashtra. Therefore, the tax authorities in Gujarat likely feel aggrieved that the tax revenue on a supply consumed in their state accrues to another state. The second option, i.e., to claim that no ‘address on record’ available is the appropriate solution with a supplier as it will help him reduce compliance on his hand. However, does a supplier have such an option or not is something which needs to be analyzed. It becomes important to understand what is meant by ‘address on record’.

The term ‘address on record’ is very loosely defined u/s 2 (3) of the CGST Act, 2017 to mean the address of the recipient as available in the records of the supplier. However, the definition does not define, either address or record. However, Chapter VIII of the CGST Act, 2017 deals with what Accounts and Records every registered taxable person must maintain under GST. Rule 56 (5) thereof requires every registered person to keep particulars of the following:

(a) Name and complete addresses of suppliers from whom he has received the goods or services chargeable to tax under the Act.

(b) Name and complete addresses of the persons to whom he has supplied goods or services where required under the provisions of this Chapter.

The above indicates that while it is mandatory to maintain the ‘complete address’ of all suppliers, the same does not apply when it comes to recipients. In the case of recipients, the requirement to maintain the name and complete address arises only when it is required under the provisions of this Chapter, i.e., Chapter VII of the CGST Rules, 2017. A detailed reading of this Chapter would indicate that there is no requirement for any taxable person to maintain the ‘name and complete address’ of the person to whom goods or services have been supplied. Therefore, a payment gateway is well within ‘its’ rights to claim that they do not have the ‘address on record’ of person using their services and therefore, they are right in treating their supplies as intra-state supply irrespective of the State where the recipient is located.

As pointed above, such a position in the law is certainly to be countered by the other states, who would feel aggrieved by the perception that they are losing out on the tax revenue. However, one may very well argue that the tax revenue never belonged to them as the consumption, by virtue of the exception provided u/s 12 (2), belonged to the originating State. However, many state tax authorities have already raised this issue during assessments/ proceedings on service providers.

The Circular goes on to presume that such suppliers are making an inter-state supply. However, when a taxable person claims that the supply made by him is an intra-state supply, the applicability of this circular/clarification/instruction on such taxable person can be questioned. Secondly, the Circular requires the service provider to update their database correctly with the correct State Name. For the same, the circular presumes the existence of a database. However, in the case discussed above, the supplier may not be maintaining a database in the first place, which would make the clarification not applicable.

The next question is whether the Board considers the name of the State as sufficient data for determining address on record, especially when the provision relating to ‘Accounts & Records’ refer to complete address. Even in common parlance, the address on record can be used for communication, i.e., sending notices, visited using such records, etc. More importantly, what would be the sanctity of the data captured by a service provider in his records when it only contains the name of State. A person can always make mistakes while entering the State data in the database.

Further, even if the suppliers start collecting the State details from their customers, their local tax authorities might question the non-availability of address on record and therefore allege that there is a wrong POS determined resulting in payment of wrong tax. This might trigger the initiation of recovery proceedings for applicable tax not paid, i.e., CGST/SGST. Already, the Hon’ble HC has held that internal adjustment of tax wrong paid would not be permissible, i.e., if a supply is classified as inter-state. and IGST is paid on the same, and subsequently, if it is determined that the supply was classifiable as intra-state supply, in such a case, recovery of CGST/SGST will be done separately. Tax wrongly paid under IGST will have to be claimed as a refund. The only saving grace in such a case would be that interest will not be leviable on the recovery. However, to what extent a refund can be claimed is also a subject matter of dispute, especially whether the time-barring provisions u/s 54 would apply to such refund claims or not? This is an important question as such instances of the wrong classification of the place of supply would arise only during audits, which take place much after the 2-year time limit prescribed u/s 54.

CONCLUSION

GSTR-3B was a temporary arrangement until the functionality to file GSTR-2 and 3 was enabled. However, the temporary arrangement soon became permanent, and a burden for both, the Government as well as taxpayers as is evident from the above. The further attempt to dictate the manner of disclosure of input tax credit/ place of supply in apparent disregard to the stated provisions means that the way ahead will be rocky. Perhaps, it is high time that the original process of filing GSTR-2 and 3 be reintroduced. This will ensure a proper trail for taxpayers and authorities and ensure smooth compliance and accurate filing.

shailesh.kwebmaker

Critical Analysis

A recent decision of the Supreme Court in All India Haj Umrah Tour Organizer Association Mumbai vs. UOI¹ (‘AIHUTO’ case) did not prima-facie seem to unsettle legal positions framed over the history of indirect tax legislation. Probably, the limited macro scope failed to generate enough traction for the decision to be scrutinised further. Yet, a more critical analysis of the decision would suggest a missed opportunity to decide on certain basic tax principles which could have resolved fundamental issues of the law. To appreciate this viewpoint, we may delve into the details and respectfully examine the missed pointers.

BACKGROUND

The issue cropped up on account of a tax exemption being granted to Haj pilgrims who availed services through the ‘State Run Haj committees’ and hence having a visible saving compared to the services being offered by Private Tour Operators (HGOs/PTOs). The simple grievance of the PTOs was that they are being discriminated against despite all the services provided by Haj Committees and PTOs being identical. The PTOs approached the Courts on this matter and were rightly directed to the GST council for making appropriate representations on such policy matters, which was rejected by the GST council based on the recommendation of the Fitment committee. Petitions were filed by PTOs before the Apex Court challenging the said decision.

CASE SUMMARY

PTOs render Haj package services to pilgrims, which involve (a) return air ticket booking; (b) hotel accommodation at Saudi Arabia; (c) catering activity during the Haj; (d) ancillary services such as foreign exchange, local travel, etc. India and Saudi Arabia, through a bilateral agreement, agreed to regulate the Haj pilgrimage for smooth conduct of the Haj by Indian pilgrims. A limited quota of families is permitted to perform the Haj on a yearly basis based on the bilateral arrangement. Internally, India has enacted the Haj Committee Act, 2002 and set up the Haj Committee to allocate the seats to the Haj and assign licenses to PTOs to render private tour operator services based on their allotted quota. Haj Committee itself provides Tour operator services on a nonprofit basis to pilgrims through a lottery system, thereby enabling pilgrims to perform their Haj. The only difference between the tour operator services provided by Haj Committee and PTOs is that while the former is a non-profit organisation, the latter conducts business with the profit motive.

1. 2022-VIL-39-SC

CONCLUSION

The Court held as follows:

– Question of whether the service is extra-territorial cannot be examined as the matter is pending before another Bench;

– The list of decisions on the beneficial or strict interpretation of exemptions need not be examined since there is no ambiguity on the scope of the exemption. The exemption is limited to either (a) religious ceremonies or (b) a specified list of organisations; Tour operator services do not fall into either of the above;

– Exemptions being a matter of policy, the exclusion of other organisations (PTOs in this case) from the exemption list does not make the law discriminatory; and

– Tour operator services are not ‘event-based/ performance-based services’, and the place of supply is based on the default rule of ‘ordinary residence of recipient’, and hence a domestic service.

OUR ANALYSIS

The decision could be analysed under four heads (a) Extra-territoriality, (b) Place of Supply, (c) Discrimination, and (d) Scope of exemption. Detailed arguments under each of these heads have been documented below. The relevant legal provisions are extracted for ready reference:

GST exemption entry² under contention was as follows:

Heading
9963;

9972;
9995;

Services
by a person by way of- (a) conduct of any religious
ceremony ………..

Heading
9991

Services
by a specified organisation in
respect of a religious pilgrimage facilitated by the Government of India,
under bilateral arrangement.

Place of Supply (‘POS’) Entry – The relevant POS entries before the Court:

Default Rule – (2) The place of supply of services, except the services specified in sub-sections (3) to (14), …………. shall be the location of the recipient

Event Based Rule – (7) The place of supply of services provided by way of,—

(a) organisation of a cultural, artistic, sporting, scientific, educational or entertainment event including supply of services in relation to a conference, fair, exhibition, celebration or similar events; or

(b) services ancillary to organisation of any of the events or services referred to in clause (a), or assigning of sponsorship to such events:
…………
(ii) to a person other than a registered person, shall be the place where the event is actually held and if the event is held outside India, the place of supply shall be the location of the recipient.

Passenger Transportation Service – (9) The place of supply of passenger transportation service to, ………..

(b) a person other than a registered person, shall be the place where the passenger embarks on the conveyance for a continuous journey

2. Service Tax exemption entry in Notification 25/2012-ST dt. 20.06.2012 is pari materia with GST exemption entry except to the extent of SAC numbering and inter-relation with the SAC schedule.

Extra-territoriality

The taxpayer contended that Haj Pilgrimage commences from India; involves organising the activity of the Haj at an overseas location; is substantially performed outside India, and hence extra-territorial in nature. The Bench declined to consider this argument since a similar issue was pending before another Bench.

One may perceive that the Court could have addressed this submission to a certain extent since this would have formed the foundation of the entire decision. Alternatively, the Court could have kept the matter pending until the referred Bench resolved the territoriality issue. A tax levy can be crystallised only after crossing the jurisdictional threshold. The Court has ventured into ‘place of supply’ provisions oriented towards ascertainment of India’s tax jurisdiction. Deciding on the place of supply after settling the territoriality subject may have induced some more robustness into the decision.

We know that Article 269 provides levy and collection of taxes on goods or services supplied in the course of inter-state trade or commerce, including the importation into India. Parliament has been empowered to formulate the principles for ascertainment of supply which takes place in inter-state trade or commerce. One could interpret the provisions of sections 7 to 13 to ascertain the place of supply (i.e. legal situs) for ascertainment of India’s taxing jurisdiction. The overall fabric of the provisions indicates that the taxes would be payable depending on the likely consumption of goods or services. Time and again, Courts³ and Government FAQs have stated that GST/ service tax is intended to be a ‘destination-based consumption tax’ – implying that the attempt should be to reach the destination of consumption of the economic activity proposed to be taxed.

3. AIFTP vs. UOI 2007 (7) S.T.R. 625 (S.C.); AL&FS vs. UOI 2010 (20) S.T.R. 417 (S.C.)

In the present facts, the Court could have considered applying this principle to tour operators whose services are conducted across jurisdictions. The special feature of a tour operator service is that while the service could be agreed upon in India, the actual performance and benefit of the service taxes place both in and outside India. Thus, such services have the possibility of multiple situs for each element (e.g. boarding/ catering outside India, overseas travel, etc.).

The Act has already adopted the attribution mechanism in certain cases. Special provisions have been made for attribution of value of Government advertisement contracts to each state to which the advertisement relates. The IGST Rules have attempted to closely approximate the consumption based on certain public information – e.g. advertisement through internet has been guided by TRAI⁴ published information of internet subscribers in concerned states; television has been guided by BARC⁴ published subscriber base; and train advertisements are apportioned based on distance travelled in each state and published by Indian Railways. The target consumers in each state have been adopted as the basis of likely consumption in a State. Moreover, the GST council, in its 47th meeting, made changes in the rate notification by acknowledging that tour operators rendering services to foreign tourists are liable to be taxed only on the appropriate portion of the tour conducted in India.

Thus, there was reasonable guidance within the law to apportion the consumption of a single service into various jurisdictions based on reasonable parameters. While the law has provided similar parameters for a limited category of services (such as immovable property, event-related and some performance-based services), the provisions do not address the entire gamut, especially the services which are governed by the default rule (i.e. place of recipient).

The taxpayer’s expectation from the Court is whether a direction could have been made to the Council to develop logical parameters or alternatively mandate the taxpayer to provide a reasonable parameter for examination, subject to approval by the Revenue. This would have formed a precedent of approximating the value of service rendered at multiple locations and limiting the powers of a state to tax activities only within its geographical jurisdiction. Other sectors would have benefitted from an established principle and taken a cue to adopt reasonable parameters to affix the place of supply of such multi-locational services.

The extra-territoriality issue could also have been addressed based on the decision in the recent Mohit Mineral’s case⁵. In that case, the Court adopted the presence of ultimate beneficiary of ocean freight service and/or destination of import goods as having sufficient nexus with India to extend its tax net. The Court went on to state that the recipient of service should be understood in the backdrop of the location of consumption of the goods/ services and not by strict application of contractual understanding of the recipient. The Court implied that economic consumption of a service should be identified based on location of the person who benefits from the service rather than the person who has demanded the service (which could be different persons). Thus, the Apex Court itself enforced the consumption principle through a nexus theory and diluted the literal definition of ‘recipient’ under law.

4. Telecom Regulatory Authority of India; Broadcast Audience Research Council
5. 2022 (61) G.S.T.L. 257 (S.C.) UOI vs. Mohit minerals Pvt. Ltd.

In the current case, the Court could have relied upon the said theory and ascertained whether the transaction between Indian residents (Tour operator and pilgrim) for services/ events occurring substantially outside India is liable to tax ‘entirely’ in India. Though section 12 of the Act applied to such transaction, the fact of rendition of service outside India (e.g. lodging, catering, local travel) could have had a bearing on the consumption of the service. Applying the analogy from Mohit Mineral’s case, the interpretation of the recipient and its locational benefit across multiple jurisdictions could have been taken up with the Court. The perspective of cross-border dual taxation on account of foreign jurisdiction taxing them as per local laws could have also been examined (refer to subsequent discussions under POS). Either way, the taxpayers would have rejoiced with answers to these issues for application in their respective sectors.

Place of Supply

This issue is a fall-out from the extra-territorial subject, and its analysis would have two facets – (i) Whether the Court could have elaborated on the ‘location of recipient’ and ‘POS rule’; and (ii) Whether certain important concepts could have been addressed prior to applying the POS rule.

The taxpayer contended that substantial activities in respect of the Haj were performed outside India. Since the event was for unregistered persons, the location of the recipient ought to be ascertained at the time of performance of the Haj, which is outside India. The recipient’s location at the time of consumption of the service plays an important role in fixing the location and assess the territoriality of the subject. The literal wording of the definition of ‘location of recipient’ fixes the situs to the ‘usual residence’ of the person. Section 12 does not address cases where supplier and recipient contract to render/ receive a service at a foreign location. It merely fixes the location of both parties and assumes that in all cases that the service is rendered at the usual place of residence in India. Similarly, section 13(6) artificially taxes the entire services in India despite a minuscule proportion of the service being rendered in India and a substantial portion being outside India.

The Counsel may have persuaded the Court to assess the provisions in the context of the type of service being rendered. Consumption of certain one-time services (such as catering, foreign travel, etc.) at foreign location would be misconstrued by mere literal application of wordings. The preceding rules of location of service recipient and provider attempt to identify the location in multi-locational entities to the establishment which is consuming the service (directly concerned). If this is the case, then in a hierarchical provision, the residual rule ought to have also been interpreted in the same light. The Court could have been persuaded to look through the literal wordings to address the consumption principle underlying the law.

The Counsel probably hinted at the larger impact of such a literal application. Foreign jurisdictions would apply the consumption principle and tax those services in their jurisdiction, while India would simultaneously tax the same on the residence principle. While direct tax laws applied the source/ residence principle, they were protected through the double taxation agreements, which minimised dual taxation; VAT laws across nations are not governed by such bilateral arrangements. It is therefore even more imperative to be guided strictly by source / consumption rules so that tax economies do not trespass each other’s territories. These critical concepts (on economic double taxation, fixation of situs, etc.) could have formed part of the reasoning of the Court.

On certain other arguments, the Court rejected the application of the event-based rule on the ground that ‘religious events’ are not specified in the list therein. The Court stated that even by application of the rule of ejusdem generis, the performance of Haj is not an ‘event’ and hence not falling within the domain of event-based rule. The default rule would be applicable since the individual is a resident of India, and the location of such service recipient would necessarily be in India. The taxpayers cannot dissect each step or service task and claim that the location of the recipient during the Haj is outside India and the place of supply is outside India.

The rule of ejusdem generis is applicable when a term is not specified in the series of terms but is intended to be encompassed in a more generic term. It attempts to identify a common thread in a series of terms under a common family. An event (sports, cultural, etc.) is generally a congregation of persons with a common purpose. Haj is a religious event when Muslims across the world visit the holy place, offering their prayers at the said location. Respectfully, the Court could have made a liberal conclusion to the generic term under this rule. However, it turned out that the Court stated that ‘religious events’ are not specified in the provision, and hence the rule of event-based activities cannot be applied to such Haj ceremonies.

While one may be critical of the Court rejecting the event-based rule to religious events, the end conclusion seems to be correct in the overall scheme. The appropriate rationale of the Court could have been that the provisions of event-based services are applicable only to ‘Event organisers’ and not to associated persons who provide services to the participants. PTOs are neither organisers of the event nor render services to the organisers of the event. They render services only to the participants of the events. Eventually, the rule would be held inapplicable but with a different analogy. Going by the current analogy, Revenue may contend even in cases of ‘Event organisers’ of religious events, that they are entirely out of the said event-based rule and hence liable to tax under the residence rule.

The intriguing concept which could have been placed before the Court was the interplay of composite supply with the POS provisions. The Court relied on the default rule and the passenger transportation rule for ascertainment of the POS for the tour operator service. Now section 8 of CGST law r.w.s.20(ii) of the IGST Act clearly directs the tax liability to be ascertained based on the concept of composite/ mixed supply (i.e. either principal supply or highest taxed rate supply, respectively). Tour operator services are classifiable as an individual supply under HSN 99855 though it involves elements of travel, accommodation and other ancillary services. The POS provisions are not strictly aligned with the HSN scheme of classification and adopt a more descriptive approach to services.

Therefore, two contrasting theories could exist while interplaying the POS and composite supply provision (A) one theory could be that composite supply principles are applicable for the entire enactment and once the principal supply has been identified, all legal consequences including POS would follow the principal supply with other ancillary supplies being irrelevant – applying this analogy, the Court rightly applied the default rule of location of recipient since tour operator services are not specifically mentioned in the subsequent rules; (B) the other theory could be that composite supply principles are independent of POS, the POS should be examined independently for identifiable elements (i.e. travel, accommodation, etc.) and the transaction should be segregated for each of these elements. While this dissection would certainly create some chaos on valuation, taxability and other procedural challenges, it would represent an accurate application of the consumption theory. The Counsel pursued this argument, but the Court rejected any kind of dissection of the tour package.

There appears to be a simultaneous application of both theories in the decision. The Court, after application of the residence rule, also went ahead with applying the POS rule for passenger transportation services. It conveys that both theories could be applied simultaneously for ascertaining the POS of services, i.e. once as a Tour operator under the default rule and another as passenger transportation activity (being an ancillary element of the tour operator activity). This gives the reader an impression that elements of a service could be dissected, and POS provisions could be applied independently to them. The Court could have addressed this concept with some more detail to assist the entire trade on this critical subject.

Discrimination

This has probably been the most vehemently argued point of the taxpayer. The exemption was applicable only to tours conducted by Haj Committee, being the ‘specified organisation’ under the entry. Consequently, PTOs which also operated under the same enactment were denied this exemption since they did not feature in the specified list. The PTO’s main contention was that all the tour activities organised by them and the Haj Committee in respect of Haj pilgrims are identical, except to certain minor features such as pricing, catering and proximity of boarding to the Haj. These activities not being significant in the whole scheme of the tour and by themselves do not disentitle them from the exemption. The points of similarity recorded in the decision were:

a. The tours were conducted by both organisations under the Bilateral arrangement with Saudi Arabia.

b. 70% quota was allotted to be organised by Haj Committee, and the balance 30% was allotted to PTOs.

c. All sub-activities of the Haj are identical (i.e. travel, accommodation, tour planning, etc.).

d. Haj ceremony was common under the Holy Quran, and both organisations were to abide by the entire procedure.

Thus, being an indirect tax legislation, the object of the entry is to provide cost-effective travel to the Haj Muslims and this object would be defeated if exemption is limited only to Haj Committees and not extended to PTOs. Hence, the said exemption entry was violative of Article 14 of the Constitution.

The Court provided a very thorough reasoning to refute this line of argument. The Court examined the Haj Act and the roles / responsibilities assigned to the Haj Committee under the enactment. It was acknowledged that the said committee operated with a democratic set-up with the objective of a smooth Haj operation under the bilateral arrangement and overall welfare of the pilgrims. Though Haj Committee operated as tour operators, other responsibilities were entrusted upon them, and the funds generated from such tour operations were to be used for the very same purpose. PTOs, on the other hand, operated as a commercial venture as against Haj Committees, which were non-profit organisation under the control and supervision of the Government. Thus, the Government was justified in limiting the exemption only to specified service providers rather than giving a blanket exemption. There was clearly an intelligible differentia in classifying the Haj committee under a separate basket and limiting the exemptions only to Government controlled entities or instrumentalities. The GST council’s deliberation established a rational basis of differential treatment and could not be found fault with. The legislature and/ or the Government have wider latitude on economic matters, and the ‘sufficiency of the satisfaction’ of the Government in granting exemption in the public interest is not the domain of Courts and is a policy matter left best to the Government to decide.

The question of discrimination is a constitutional issue and could have multiple facets. For tax laws, benefits could be extended by law on account of nature/composition of activity, the status of supplier/ recipient, location of the supply, end use etc. Each benefit could be touching upon a particular facet of the service. In the subject exemption entry, the taxpayer vehemently argued that the taxation being on the service activity, discrimination based on the class of service provider is not permissible and amounts to treating equals as unequal. The Counsel probably implied that supply being the core subject matter, differential treatment based on other parameters such as status of the supplier, etc. would be discriminatory treatment.

The Court rightly stated that the Government has the prerogative to decide the organisation to which the exemption is granted, especially if there is an intelligible differentia and reasonable classification has been attributed to the said decision. In the context of Haj committees, the Court relied upon a decision of the Customs law which upheld the exemptions to State Trading houses and denied the same to other importers. The Court upheld that PTOs and the Haj Committee as separate classes since the latter were Government controlled organisations with a non-profit motive and aimed at furthering the cause of the statute under which they were constituted.

Another discriminatory point which could have been placed before the Court was whether an Indian resident availing services through an operator for hotel accommodation by making a booking from India vis-à-vis the very same Indian resident availing the accommodation services at the hotel counter, be treated differently. This differentiation will be applicable to all overseas services which are booked from India. The service provider, nature of service and location of the service are identical in both scenarios. Yet, the mode of booking makes the former taxable and the latter nontaxable in India. Similarly, the GST council has recently proposed the introduction of a mechanism to assess the tax only on a portion of the tour of foreign tourists conducted in India. This apportionment has not been extended to converse scenarios where an Indian tourist makes a foreign tour which is naturally conducted outside India. Couldn’t this be a point of discrimination to an Indian tourist who conducts a tour outside India and yet taxed on the entire overseas leg?

One may note that while taxpayers can raise these as grievances of discrimination, the Court has been sceptical on this subject. Ideally, a ruling considering the overall economic and legal impact may have paved for some clarity on this principle. The takeaway has been that Article 14 cannot be adopted in a straitjacket manner, and persistent inclination to argue discrimination should be cautiously adopted in tax legislations.

Scope of Exemption

The taxpayer argued that the exemption should be interpreted to state that Haj is a religious ceremony and hence the consumer should not bear the burden of tax. It was also submitted that Supreme Court’s decision in Dilip Kumar’s case⁶ was placed in the right perspective in the latter decision in Mother Superior Adoration Convent⁷. The Supreme Court in Dilip Kumar’s case, did not just state that exemption entries are an exception and hence should be interpreted strictly. The Court also acknowledged that the beneficial purpose should not be lost sight of while interpreting such entries. The taxpayer argued that the entire activity was being conducted with the ultimate objective of performing a ‘religious ceremony’. Since all the services are directed towards this religious ceremony, the exemption entry should be accordingly extended to preparatory activities including Haj tours. A tax impost would be passed on to Haj pilgrims; therefore, the object of granting exemption and reducing the financial burden on religious pilgrimage, would not be fulfilled. Beneficial exemptions are to be interpreted to further achieve the beneficial object of performing the religious ceremony. Thus, the exemption should be granted to PTOs who were assisting in the entire Haj tour.

6. 2018 (9) SCC 1 – 2018-VIL-23-SC-CU-CB

7. 2021 (5) SCC 602 – 2021-VIL-43-SC

The Court subtly acknowledged that beneficial exemption entries should be examined from the perspective of the beneficial object. But this approach should be adopted only when the exemption entry is ambiguous, leading to alternative interpretations. Where the exemption entry itself is restrictive, it would be impermissible for the Court to expand the said entry. In the current case, the exemption entry is crystal clear that the same would be limited to ‘specified organisations’. If the intention and object were to provide an exemption to services provided by PTOs in respect of religious pilgrimage, the notification would have specifically provided so. Moreover, the exemption as regards ‘religious ceremony’ has been confined only to persons conducting the ceremony, and PTOs are not rendering the service of ‘conducting religious ceremony’. They are assisting in making a travel package and completing the Haj but are not themselves conducting the religious ceremony. Thus, the exemption entry was targeted to a particular ‘service provider’ rendering a ‘specific service’. Both conditions were essential ingredients of the exemption, and the Court rightly rejected any attempt to dilute the former condition. There did not exist any ambiguity in the exemption entry for one to seek applying the beneficial object principle cited in earlier decisions of the Court.

CONCLUSION/ WAY FORWARD

To reiterate, the outcome of the decision may have been commensurate with the overall position in law. Courts are burdened with a huge pendency, and matters reach finality only after certain decades. In this scenario, taxpayers expect legal clarity rather than falling victim to ambiguity. The never-ending dilemma of applying literal wordings or legal intent has haunted taxpayers and professionals. With such a background, it is generally expected that any opportunity of clarifying the law should not be missed and a decisive verdict be rendered so that Courts/ businesses are not further burdened with litigation on tax demands.

shailesh.kwebmaker

QUAGMIRE OF EMPLOYER – EMPLOYEE RELATIONSHIP

UNDERSTANDING THE DISPUTE
In a landmark decision, the Larger Bench of the Hon’ble Supreme Court has dealt with the issue of taxability of secondment transactions under service tax in the case of Commissioner vs. Northern Operating Systems Private Limited (NOS) [2022-VIL-31-SC-GST].

The brief facts of the case were that NOS is a company incorporated in India to provide various back-office support services to its group companies across the globe on a cost-plus basis, for which separate agreements are also entered into. In the course of providing the said services, NOS requests its group company to “second” skilled managerial and technical personnel to assist in NOS’s business activities under a secondment agreement entered into with its foreign group companies. This is a separate agreement between the two parties, important terms of which are summarised below (as referred to in the judgment):

a. Upon request from NOS, the foreign group company shall select employees who possess the expertise required by NOS based on the description of skills and competencies required by NOS.

b. Foreign group company shall second the employees to NOS for the time period.

c. The employees seconded to NOS shall continue to be remunerated through the payroll of foreign group company only for the continuation of social security, retirement and health benefits. However, for all practical purposes, NOS shall be the employer.

d. Foreign group company shall ensure that during the secondment period, the employee shall act in accordance with the instructions and directions of NOS and devote their time, attention and skills to the duties of their secondment.

e. The seconded employees shall be reportable and responsible to NOS, and all the responsibility and risk for work undertaken by the employees shall remain with NOS during the secondment period.

f. NOS shall have the right at any time to approve or reject the employee selected for secondment and to request the foreign group company the replacement of any employees who, in their opinion, are not qualified or do not meet the necessary requirements to fulfil their secondment.

g. During the period of secondment, the terms and conditions of employment between the foreign group company and the seconded employee shall cease to be in force, and the terms and conditions, as stated in the employment agreement, between the employees and NOS will remain in force.

The consideration clause of the above agreement is equally important. Apart from specifically mentioning that during the secondment period, the role of the foreign group company shall be restricted to that of a payroll service provider only, it requires NOS to reimburse foreign group company the following amounts:

a. All remuneration of employees, including but not limited to salary, incentives and employment benefits paid by the foreign group company.

b. All out-of-pocket expenses incurred by the seconded employees and reimbursed by the foreign group company, including but not limited to business travel expenses and other miscellaneous expenses directly related to the secondment of the employee.

c. In addition, NOS shall also pay the administrative cost to the foreign group company, which shall be 1% of actual costs incurred.

NOS believed that an employer – employee relationship existed with the seconded employees, and NOS exercised control over them. The employees also devoted all their time and efforts under the direction of the assessee and their remuneration was also fixed by NOS.

Further, NOS was also of the opinion that the above activity could be taxed under ‘manpower supply services’ only if the same was provided by a manpower recruitment or supply agency, which the foreign group company was not. They were engaged in providing personal financial services and corporate and institutional services along with investment products. Therefore, the foreign group company could not be considered a ‘manpower supply agency’.

Therefore, the reimbursement made to the foreign group company, to the extent of payroll costs and OPE reimbursement, was not a ‘manpower supply service’ (upto June, 2012) and a service (post July, 2012), and therefore, there was no liability to pay service tax under the reverse charge mechanism.

The above view was supported by the following decisions of the CESTAT, affirmed by the High Court on a couple of occasions:

a. In Arvind Mills Ltd. vs. CST, Ahmedabad [2014 (34) STR 610 (Tri. – Ahmd.)], the Tribunal had set aside the demand of service tax on employee cost recovery from domestic group companies on the grounds that the assessee was not a ‘manpower supply agency’. This view was affirmed by the HC in 2014 (35) STR 496 (Guj), wherein the HC not only upheld the Tribunals’ view that the assessee was not a manpower supply agent to be liable to pay service tax, it also held that the deputation was in the interest of the assessee and they did not exclusively work under the direction or supervision or control of the subsidiary. Further, the HC also observed that since the actual cost incurred was recovered from the group companies, there was no profit element or financial benefit.

b.   In a case involving similar facts where the salary to seconded employees was paid by the foreign company, the Tribunal had in the case of Volkswagen India (Pvt.) Ltd. vs. CCE, Pune [2014 (34) STR 135 (Tri.-Mum.)] held that in such cases also, the seconded employees were working as employees and an employer – employee relationship existed, and therefore, there was no liability to pay tax under reverse charge. An appeal filed against this decision was dismissed by the Supreme Court, though not on merits, but on non-condonable delay, as reported in 2016 (42) STR J145 (SC).

c.   The Delhi Bench of Tribunal has in the case of Computer Science Corporation India Pvt. Ltd. vs. CST, Noida [2014 (35) STR 0094 (Tri. – Del.)] held that no service tax was liable even in cases where the salary was paid directly to the seconded employees and only the social welfare expenses incurred by the foreign company were reimbursed to the foreign company. This decision was also upheld by the Allahabad HC as reported in 2015 (037) STR 0062 (All).

d.   The Tribunal again in Nissin Brake India Pvt. Ltd. vs. CCE, Jaipur [2019 (24) GSTL 563 (Tri. – Del.)] again dealt with a similar issue. In this case, the Tribunal held that merely because the payment of salary and perks was made by the foreign company would not alter the fact that an employer – employee relationship existed between the seconded employee and the domestic employer. An appeal filed against this decision has also been dismissed by the Supreme Court on grounds that the same was without any merits as reported in 2019 (24) GSTL J171 (SC).

e.   In Ivanhoe Cambridge Investment Advisory (India) Private Limited vs. CST, Delhi [2019 (21) GSTL 553 (Tri. – Del.)], the Tribunal dealt with the levy of service tax under RCM in a transaction involving cross-border secondment where the seconded employees were paid the salary by the domestic company. In this case, the Tribunal held that there was an employer – employee relationship between the domestic company (assessee) and the seconded employee, and therefore, no service tax was payable under reverse charge. An appeal against this decision is pending before the Supreme Court.

CESTATS’ TAKE ON THE ABOVE ARRANGEMENT
This matter first reached before the Hon’ble CESTAT, Bangalore, wherein vide judgment reported in 2021 (52) GSTL 292 (Tri. – Bang.), the Tribunal allowed their appeal on the following grounds:

There existed an employer – employee relationship between NOS and the seconded employee. The Tribunal relied on its decision in the case of Honeywell Technology Solutions Pvt. Ltd. vs. Commissioner [2020-TIOL-1277-CESTAT-BANG.].

The method of disbursement of salary cannot determine the nature of the transaction, as held in Volkswagen India Pvt. Ltd. vs. CCE, Pune-I [2014 (34) STR 135 (Tri. – Mumbai)] and upheld 2016 (42) STR J145 (SC). In this case, facts were similar as the salary to the seconded employees was paid by the foreign company and reimbursed by the assessee.

The Tribunal also relied on the decision in the case of Computer Sciences Corporation India Pvt. Ltd. vs. Commissioner of Service Tax, Noida [2014 (35) STR 94 (Tri. – Del.)] and affirmed in [2015 (37) STR 62 (All.)].

The Tribunal also followed the decision of Gujarat HC in the case of Arvind Mills Ltd. [2014 (35) STR 496 (Guj.)], wherein the Court has held that even if the actual cost incurred by the appellant in terms of salary remuneration and perquisites is only reimbursed by group companies, there remains no element of profit or finance benefit. The arrangement is that of the continuous control and the direction of the company to whom the holding company has deputed the employee, and such an arrangement is out of the ambit to be termed ‘manpower supply service’.

REVENUE APPEAL AGAINST SUPREME COURT DECISION
Being aggrieved by the above Tribunal Order, the Revenue had preferred an appeal before the Supreme Court. The primary ground raised by the Revenue was that the conclusion of the Tribunal that there existed an employer – employee relationship merely because the domestic company exercised control over the seconded employees was erroneous. They highlighted on various decisions wherein it has been held that the existence of control is not the conclusive factor in determining whether an employer – employee relationship exists or not, key being the decision in the case of Silver Jubilee Tailoring House vs. Chief Inspector of Shops & Establishments [1974 (1) SCR 747] and the recent decision in the case of Sushilaben Indravadan Gandhi vs. New India Assurance Co Ltd [(2021) 7 SCC 151].

The Revenue further emphasised the fact that the terms of the secondment were also decided by the foreign company, including salary, allowances, the duration of secondment, etc., and that upon completion of the assignment, the seconded employees were to revert to their original positions in the parent company. Therefore, the control, if any of NOS was for a very limited period which also did not enable NOS to take actions against the seconded employee, if it was unsatisfied with his/ her performance. The only recourse available with NOS in such a case was to terminate the secondment of such employees who would return to their original positions upon termination. In view of the same, the Revenue concluded its argument that the entire transaction of secondment agreement was to provide service by the foreign company to NOS and therefore, it was a taxable service.

COUNTER SUBMISSION ON BEHALF OF NOS
The position of law, prior to June, 2012 and post July, 2012 as well was the same. The category of supply of manpower by an agency covers those cases where the manpower so supplied comes under the direction and control of the recipient without contractual employment, a view clarified by CBIC vide circulars B1/6/2005-TRU dated 27th July, 2005 and Master Circular No. 96/7/2007-ST dated 23rd August, 2007. It was also reiterated that the intention of the legislature, not only in India but also globally was to not levy indirect tax on employer – employee relationship.

It was also argued that an employer – employee relationship existed between NOS and the seconded employees on account of the following:

The seconded personnel are contractually hired as NOS’s employees.

Control over them is exercised by NOS.

The employees devote their time and effort exclusively to NOS, under the direction of NOS.

The remuneration of employees is also fixed by NOS.

The employees are required to report to NOS’s designated offices and are accountable to NOS.

The various decisions of the Tribunals on a similar issue were relied upon. Emphasis was placed on the decisions of the Tribunal in the case of Nissin Brake and Volkswagen India, revenue appeals against which were dismissed by the SC.

It was also argued that the foreign group company were not in the business of supply of manpower and, therefore, cannot be considered a ‘manpower supply agency’.

The following alternate arguments were also raised:

The salary costs were reimbursed to foreign group company, and therefore, relying on the decision in the case of UOI vs. Intercontinental Consultants & Technocrats Private Limited [2018 (10) GSTL 401 (SC)], the amounts reimbursed as salary cost was to be excluded from the gross value of taxable services provided.

The ground of revenue neutrality was also raised, and reliance was placed on the decision in the case of SRF Ltd. vs. Commissioner [2016 (331) ELT A138 SC] and CCE vs. Coca Cola India Private Limited [2007 (213) ELT 490 (SC)]. It was highlighted that if the tax was paid under reverse charge, they would have been eligible to claim as CENVAT credit and, further, claim the same as a refund.

SUPREME COURT DECISION
The Supreme Court has summarized the issue to determine who should be reckoned as the employer of the seconded employee? While doing so, the Court has resorted to a co-joint reading of the two agreements between NOS and the foreign group company to discern the true nature of the relationship between the seconded employees and the assessee, and the nature of service provided by the foreign group company to NOS.

In determining this question, the Court has first referred to the decision in the case of Director Income Tax vs. Morgan Stanley & Co. Inc [(2007) 7 SCC 1]. The Court has also referred to the decision in the case of Commissioner of Income Tax vs. Eli Lily & Co India Pvt. Ltd. [(2009) 15 SCC].

The Court has then referred to various decisions which dealt with the issue of determining whether an employer – employee relationship existed or not in the following order:

Firstly, the Court has referred to the decision in the case of Dharangadhara Chemical Works Ltd. State of Saurashtra [1957 SCR 158], wherein the Supreme Court has held that it was well settled that the prima facie test of such relationship was the existence of the right in the employer not merely to direct what work was to be done but also to control the manner in which it was to be done, the nature or extent of such control varying in different industries and being by its nature, incapable of being precisely defined. The correct approach, therefore, was to consider whether, having regard to the nature of the work, was there due control and supervision of the employer or not?

The Court then referred to the decision in the case of D C Dewan Mohideen Sahib & Sons vs. Secretary, United Beedi Workers Union [1964 (7) SCR 646] in a matter pertaining to the applicability of Factories Act, 1948 as the decision where the control test was diluted by the Courts while determining the existence of employer – employee relationship.

The Court has then referred to the decision in the case of Silver Jubilee Tailoring House vs. Chief Inspector of Shops & Establishments [1974 (1) SCR 747], wherein the Court has diluted the applicability of the test of control while determining the existence of employer-employee relationship and held that it cannot be used as a conclusive factor while deciding on the same.

The Court then referred to its recent decision in the case of Sushilaben Indravadan Gandhi vs. New India Assurance Co Ltd [(2021) 7 SCC 151], wherein the decision in the case of Silver Jubilee was reiterated, and it was held that the test of control was not a determining factor for employer-employee relationship and referred to the Courts’ observations at para 24 to this effect.

Basis this, the Court has arrived at a conclusion that the control test is not the decisive factor for employer – employee relationship and proceeded to determine if the foreign group company has provided any services to NOS.

The Court has then proceeded to analyse all the agreements in totality by concluding that an overall reading of the agreement and its effect is to be seen by the Courts. This means that the two agreements between NOS and the foreign group company, i.e., the service agreement and the secondment agreement, are read collectively while determining the nature of the transaction in the secondment agreement. The Court has, thereafter, concluded that the foreign group company has a pool of highly skilled employees at their disposal and are seconded to the group companies for the use of their skills. This deployment is in relation to the business of the foreign group company. Lastly, the Court has held that there is a quid pro quo in the secondment agreement, wherein NOS has received the benefit of experts for a limited period for a consideration being paid to the foreign group company in the form of reimbursement.

The Court also rejected the reliance placed on the decisions in the case of Volkswagen India (where revenue appeal on a similar issue was rejected) and SRF Limited (on revenue neutrality) on the grounds that there was no independent reasoning in this judgment and therefore, the same had no precedential value. The Court has, however, held that the extended period of limitation was not invocable in this case as there was a substantial question of law involved.

IMPORTANT POINTS EMANATING FROM THE JUDGMENT

Implications on reading multiple agreements jointly

The decision very succinctly brings out the journey of factors which needs to be looked into while determining the existence of an employer – employee relationship. It also explains the need to look into the agreements as a whole, and at times, the need to read the agreements together to determine the intention of the transacting parties. However, such an approach may have a direct bearing on the recent decision of the Gujarat HC in the case of Munjaal Manish Bhatt vs. Union of India [2022-TIOL-663-HC-AHM-GST], wherein the HC had refused to link two separate agreements, one for sale of developed land and another for construction of bungalow on the said land and held that only the later was to be included for the purpose of determining the value of supply.

Dual employment: Which contract is superior?

However, when one looks into the intention of the parties, it is apparent that this is a case where NOS intended to use the services of employees employed by foreign group company and therefore, the flow of contract somewhere stood as under:

1) Employment contract between the the foreign group company and the employee.

2) Letter of secondment to be issued by foreign group company to its employee selected for secondment.

3) Letter of Understanding between NOS and the seconded employee.

The above events occur sequentially and if the agreement at 1 fails, the resultant agreements also become void. In other words, though the seconded employee would be under dual employment, his agreement with the foreign group company always remains superior as compared to the agreement with NOS, which was more of a nature of understanding with the seconded employee of the terms of the secondment. An important point which also needs to be kept in mind is that NOS had no right to dismiss an employee. The only right available with NOS was to terminate the secondment, which would mean that the employee would revert to the foreign group company, his original and perhaps, the full-time employer. More importantly, even in the event of misconduct of an employee, this is the only recourse which would have been available with NOS. The right to fire the employee would vest only with the foreign group company.

Morgan Stanley case

The SC has in this judgment relied on the decision in the case of Morgan Stanley, though in the context of Income-tax, wherein it has been held as under:

15. As regards the question of deputation, we are of the view that an employee of MSCo when deputed to MSAS does not become an employee of MSAS. A deputationist has a lien on his employment with MSCo. As long as the lien remains with the MSCo the said company retains control over the deputationist’s terms and employment. The concept of a service PE finds place in the U.N. Convention. It is constituted if the multinational enterprise renders services through its employees in India provided the services are rendered for a specified period. In this case, it extends to two years on the request of MSAS. It is important to note that where the activities of the multinational enterprise entails it being responsible for the work of deputationists and the employees continue to be on the payroll of the multinational enterprise or they continue to have their lien on their jobs with the multinational enterprise, a service PE can emerge. Applying the above tests to the facts of this case we find that on request/requisition from MSAS the applicant deputes its staff. The request comes from MSAS depending upon its requirement. Generally, occasions do arise when MSAS needs the expertise of the staff of MSCo. In such circumstances, generally, MSAS makes a request to MSCo. A deputationist under such circumstances is expected to be experienced in banking and finance. On completion of his tenure he is repatriated to his parent job. He retains his lien when he comes to India. He lends his experience to MSAS in India as an employee of MSCo as he retains his lien and in that sense there is a service PE (MSAS) under Article 5(2)(l). We find no infirmity in the ruling of the ARR on this aspect. In the above situation, MSCo is rendering services through its employees to MSAS. Therefore, the Department is right in its contention that under the above situation there exists a Service PE in India (MSAS). Accordingly, the civil appeal filed by the Department stands partly allowed.

(emphasis added)

The above decision was followed by the Delhi HC in the case of Centrica India Offshore Private Limited vs. Commissioner of Income Tax [W.P. (C) No. 6807/2012], wherein it has been held as under:

35. The concept of a legal and economic employer, as considered by Vogel (relied upon by CIOP), is when “a local employer wishing to employ foreign labour for one or more periods of less than 183 days recruits through an intermediary established abroad who purports to be the employer and hires the labour out to the employer.” In this case, the temporal element of the three-way employment relationship is crucial. The secondees were – originally – employees of the overseas entities. They were not hired by that entity as a false façade, whose productivity is to be ultimately traced to CIOP. Rather, the secondees were regular employees of the overseas entities. There is no dispute with this fact. They have only been seconded or transferred for a limited period of time to another organization, CIOP, in order to utilize their technical expertise in the latter. The secondment agreement between CIOP and the overseas entity, and the agreement WP(C) No. 6807/2012 Page 41 between CIOP and the employees, envisages an end to this exception, and a return to the usual state of affairs, when the secondees return to the overseas entities. The employment relationship between the secondee and the overseas organization is at no point terminated, nor is CIOP given any authority to even modify that relationship. The attachment of the secondees to the overseas organization is not fraudulent or even fleeting, but rather, permanent, especially in comparison to CIOP, which is admittedly only their temporary home. Today, CIOP attempts to cast that employment relationship as a tenuous link because, for the duration of the secondment, CIOP pays the salary of these. Even here, the salary is ultimately paid through the overseas entity, which is not a mere conduit. Crucially, the social security, emoluments, additional benefits etc. provided by the overseas entity to the secondee, and more generally, its employees, still govern the secondee in its relationship with CIOP. It would be incongruous to wish away the employment relationship, as CIOP seeks to do today, in the face of such strong linkages. Whilst CIOP may have operational control over these persons in terms of the daily work, and may be responsible (in terms of the agreement) for their failures, these limited and sparse factors cannot displace the larger and established context of employment abroad.

The SLP against the above decision was dismissed by the Supreme Court. It, therefore, appears that the Supreme Court has already settled the dispute in the context of secondment transactions that there does not exist an employer – employee relationship between the domestic company and the seconded employee, but rather it is a contract for service between the foreign company and the domestic company.

Interestingly, very recently (after the decision in the case of NOS was pronounced), the Karnataka HC has in the case of Flipkart Internet Private Limited vs. Dy. Commissioner of Income Tax [2022-VIL-156-KAR-DT] dealing with secondment transactions, held as under:

37. Accordingly, the findings in the impugned order and the conclusion regarding the employer-employee relationship is based on a wrong premise and is liable to be set aside. As observed by this Court in Director of Income Tax (International Taxation) vs. Abbey Business Services India (P.) Ltd.((2020) 122 Taxmann.Com 174 (Kar)), “it is also pertinent to note that the Secondment Agreement constitutes an independent contract of services in respect of employment with assessee.” Hence, the DCIT in the impugned order has missed this aspect of the matter and has proceeded to consider the aspect of rendering of service as to whether it was ‘FIS’.

(emphasis added)

In this case, the HC has distinguished the NOS judgment as under:

(x) It needs to be noted that the judgment rendered was in the context of service tax and the only question for determination was as to whether supply of manpower was covered under the taxable service and was to be treated as a service provided by a Foreign Company to an Indian Company. But in the present case, the legal requirement requires a finding to be recorded to treat a service as ‘FIS’ which is “make available” to the Indian Company.

It, therefore, remains to be seen if the decision in Flipkart survives before the Supreme Court or not on appeal, if preferred by the Revenue.

Valuation: Does pure agent apply?

The decision is also glaringly silent on the valuation point raised by NOS. It was argued on behalf of NOS that the costs reimbursed to the foreign group companies should be excluded from the value of taxable service in view of Rule 5 of Service Tax (Determination of Value) Rules, 2005. They had also relied upon the decision in the case of Intercontinental Consultants.

It is imperative to note that in the current case, NOS makes the following payments to the foreign group company:

a) Reimbursement towards various payments made to the seconded employees by the foreign group company at cost.

b) Administrative cost, being 1% of the total payment made by the foreign group company to the seconded employees.

As such, there is a strong basis to argue that the value of service, if any provided by the foreign group company, should have been restricted to 1% of the service fees and the reimbursement component should have been excluded from the value of taxable supply, especially for the period upto 13th May, 2015.

The conclusion in the case of Centrica Offshore on the valuation front may also bear relevance to the current case. The SC has held as under:

38. The mere fact that CIOP, and the secondment agreement, phrases the payment made from CIOP to the overseas entity as reimbursement? cannot be determinative. Neither is the fact that the overseas does not charge a mark-up over and above the costs of maintaining the secondee relevant in itself, since the absence to mark-up (subject to an independent transfer pricing exercise) cannot negate the nature of the transaction. It would lead to an absurd conclusion if, all else constant, the fact that no payment is demanded negates accrual of income to the overseas entity. Instead, the various factors concerning the determination of the real employment link continue to operate, and the consequent finding that provision of employees to CIOP was the provision of services to CIOP by the overseas entities triggers the DTAAs. The nomenclature or lesser-than-expected amount charged for such services cannot change the nature of the services. Indeed, once it is established, as in this case, that there was a provision of services, the payment made may indeed be payment for services – which may be deducted in accordance with law – or reimbursement for costs incurred. This, however, cannot be used to claim that the entire amount is in the nature of reimbursement, for which the tax liability is not triggered in the first place. This would mean that in any circumstance where services are provided between related parties, the demand of only as much money as has been spent in providing the service would remove the tax liability altogether. This is clearly an incorrect reasoning that conflates liability to tax with subsequent deductions that may be claimed.

One may interpret the above as under:

a) If the reimbursement is on a pure cost basis, without there being any element of charges for the “service” rendered, the claim of reimbursement may fall through.

b) However, if there is a service charge levied along with the reimbursement of cost, a taxpayer may claim the benefit of excluding such reimbursement from the scope of value of supply provided the pure agent conditions are satisfied to do so.

Other points

The judgment is also silent on the reliance placed on the decision in the case of Nissin Brake, where the revenue appeal was dismissed as being without merits. While admittedly, the Volkswagen India appeal was delayed on account of delay in filing, which was not condoned and, therefore, could not be said to have precedential value, the same logic may not extend to the Nissin Brake decision.

IMPLICATIONS UNDER GST
Coming to GST, the first question that may arise is the applicability of this decision under GST. This may need analysis from the perspective of cross-border transactions as well as domestic transactions.

In the case of cross-border transactions, it can be said that the decision in the context of NOS will squarely apply since the provisions under service tax and GST, so far as pertaining to the import of service, are identical. Further, it should be kept in mind that the SC has dismissed the plea of revenue neutrality, i.e., tax paid under RCM was eligible for credit, and therefore, demand fails. In such a circumstance, when a person is entitled to claim credit, a prudent tax position would be to pay tax under reverse charge and claim credit, even if the same leads to a temporary cash flow issue.

When it comes to domestic transactions, there are two scenarios which may prevail, one being inter-company and the second being intra-company in view of the deeming fiction provided under Schedule I, Entry 2, which deems supply of services between related persons or distinct persons as supply, even if made without consideration. This deeming fiction creates a liability on the supplier to pay tax on the value to be determined as per the prescribed Rules. However, not all cases will fall under secondment in the case of domestic transactions.

For example, a holding company handles the administrative aspect of all its group companies through its staff. This may not be treated as “secondment” or “deputation”. When can the case of “secondment” arise may be understood with the help of the following example.

A hospital chain, having a presence in multiple states, may deploy its specialist doctor who is based in a particular state (say Maharashtra) to its hospital in another state (Gujarat) for an emergent case and returns after completion of treatment. This may not qualify as manpower supply service, but rather health care services. However, when an employee stationed in Maharashtra is sent to Gujarat for a specified period and treats all the patients there, it may be said that the Maharashtra branch has actually supplied manpower to the Gujarat branch, and the same may be perhaps treated as manpower supply services. The following decisions under service tax may be relevant for this discussion:

a) In Future Focus Infotech India (P) Ltd. vs. CST, Chennai [2010 (18) STR 308 (Tri.-Che.)], the Tribunal has, while determining if a particular service constitutes manpower supply service or IT Software Service, held as under:

11. The learned special counsel further points out that the manpower supplied have to work under the guidance and control of TCS and Infosys. The appellants have no mandate to execute any work independently as normally a consulting engineer would do. He also brings it to our notice that if a person leaves, the appellants are required to provide suitable substitute. This indicates that the appellants are responsible only for supplying manpower, and they are not responsible for completion of any software project per se.

13. No doubt there are clauses relating to deliverables and quality of work in the contracts but these by themselves do not indicate that the appellants are providing information technology software services to TCS and Infosys. Any person or organization obtaining skilled personnel has to ensure that such men deliver work of standard quality. No one would employ a person who is not skilled enough and no one would pay for shoddy work even if done by a skilled man. The relevant clauses in the contract in this regard on which much emphasis was sought to be put by the learned senior counsel for the appellants have to be viewed in the light that TCS and Infosys are merely seeking to obtain personnel from the appellants with necessary skill who will work diligently on the projects undertaken by TCS and Infosys.

b) Interestingly, on the very same day, the same bench has in another case, Cognizant Tech Solutions (I) Pvt. Ltd. vs. Commissioner, Chennai [2010 (18) STR 326 (Tri.-Che.)], has held in a case involving slightly different facts, that services provided would not constitute manpower supply services, as under:

10. We find force in the contentions made by the appellants that the work force recruited and retained by the appellants are required to work under a project manager appointed by the appellants who has to act as single point of contact being responsible for overall management of the project. From the arguments advanced from both sides, it is clear that the learned special counsel for the Department is not disputing that in the second stage of the project, the appellants would be providing functional service to Pfizer. It is also not in dispute that such functional service relating to data management, bio statistics and reporting will be provided through the very same manpower which has been recruited, retained and trained during the first phase. It has to be appreciated that recruitment and training precedes provision of specialized services. If it is accepted that the same manpower will be providing specialized functional services to Pfizer in the second phase of the contract, it is logical to conclude that the manpower has been retained with the appellants during the first phase and not supplied to Pfizer though recruitment of manpower has no doubt been done at the instance of Pfizer. The assistance in recruitment provided by Pfizer to select suitable personnel and subsequent training provided by Pfizer is also understandable considering the strict standards Specified by FDA of USA, the export market for the pharmaceutical products of Pfizer. The assistance in recruitment and imparting of specialized training for the recruited personnel cannot be held against the appellants’ claim that they have not supplied the manpower but have merely recruited and retained the same for providing specialized services to Pfizer utilizing such manpower. Moreover, we find that the nature of services required to be provided by the appellants are in the nature of information technology services as the same relates to data management. Consequently, we hold that the appellants are not liable to pay Service tax in respect of the services provided by them to Pfizer under the impugned contract. Therefore, we also hold that they are eligible for the small scale exemption in respect of the small value of services provided by them to M/s. SAP LABS India Pvt. Ltd. which is below the exemption limit of Rs. 4 lakhs.

c) Lastly, in a recent decision, the Supreme Court dealt with the issue of whether a particular activity constituted job-work or manpower supply in the case of Adiraj Manpower Services Private Limited vs. CCE, Pune [2022-VIL-12-SC-ST] and held as under:

16. The substratum of the agreement between the appellant and Sigma deals with the regulation of the manpower which is supplied by the appellant in his capacity as a contractor. The fact that the appellant is not a job worker is evident from a conspicuous absence in the agreement of crucial contractual terms which would have been found had it been a true contract for the provision of job work in terms of Para 30(c) of the exemption notification.

There is a complete absence in the agreement of any reference to:

(i) the nature of the process of work which has to be carried out by the appellant;

(ii) provisions for maintaining

(a) the quality of work;

(b) the nature of the facilities utilised; or

(c) the infrastructure deployed to generate the work;

(iii) the delivery schedule;

(iv) specifications in regard to the work to be performed; and

(v) consequences which ensue in the event of a breach of the contractual obligation.

It can always be argued in the case of intra-company supplies that the employer – employee relationship exists between the employee and the legal entity, and therefore, even if there is intra-company secondment, the same cannot be treated as supply. However, it should be noted that for the purpose of GST law, the branches in different states/ UT of the same entity are deemed to be distinct persons. Generally, for the purpose of accounting as well as profession tax compliances, an employer is required to tag each employee to a particular branch. Therefore, if an employee in one branch is deputed to another branch, there would be a supply, and therefore, if the cost is booked in one branch, the same should also be factored in determining the value of intra-branch supplies. This aspect has also been clarified by AAAR in the case of Columbia Asia Hospitals Private Limited [2019 (20) GSTL 763 (AAAR-GST-Kar.)]. However, when the benefit of proviso to Rule 28 is available, i.e., the receiving branch is entitled for full input tax credit, since the transaction value is to be accepted, inclusion/exclusion of employee cost from the value of supply may not matter.

CONCLUSION
With the Supreme Court negating the revenue–neutrality argument, which was considered a strong response to demands for cases where credit was available, this decision will trigger the need to re-look at positions not only in the case of cross-border transactions, but also in domestic transactions, where the GST law deems existence of a supply and need to pay tax. Especially, where the input tax credit is available, it is always prudent that businesses pay the tax upfront and avail the credit, rather than awaiting a confrontation with the tax authorities.

shailesh.kwebmaker

OCEAN FREIGHT – HITS & MISSES

The Hon’ble Supreme court in a recent case of UOI vs. Mohit Minerals Private Limited (CA 1390/2022) (Mohit Mineral’s case) examined the validity of imposition of IGST under Reverse charge provisions (RCM) on ocean freight incurred during importation of goods into India. The appeals were filed by the Revenue pursuant to Gujarat High Court’s decision to strike down an entry in the RCM notification on the grounds of being ultra-vires the parent enactment. The limited issue for consideration before the Courts is whether the RCM is imposable on the Indian importer in respect of ocean freight paid by the overseas supplier to foreign liner for transportation of goods (CIF arrangements).

ECONOMIC BACKGROUND
Prior to 1st June, 2016 (Budget 2016-17), the services of transportation of goods in a vessel from a place outside India up to the customs station of clearance in India was excludible from service tax. As a result, the Indian shipping lines were unable to avail input tax credit (ITC) paid on the input goods and services and such tax formed a part of their transportation costs. Government’s objective was to create a level playing field between Indian liner and foreign liner. In addition, the Government also believed that freight element ought to be ‘taxable as a service’ despite the same being included as a component of the overall value of imported goods for customs duty purposes. Hence, necessary legal changes were attempted under the service tax law which carried forward into the GST law as well.

SERVICE TAX HISTORY
Originally, services of transportation of goods from a place outside India up to customs port to India was included in a ‘negative list’. This disentitled Indian liners from claiming CENVAT credit of input services resulting in tax cascading. In 2016, the Finance Act omitted the entry under the negative list and included the same in the exemption notification, thereby expressing its intent to expand the scope of its levy. Service tax was imposed for the first time in 20171 on international ocean freight up to customs clearance in India. Consequential amendments were made in RCM notification and service tax rules for collection of taxes from the ‘importer on record2’ in all scenarios of international ocean freight. Therefore, even in cases where the importer had not engaged/ received the services directly from the foreign liner, the literal wordings of law mandated the said person to discharge the service tax on RCM, being the ultimate beneficiary of such ocean freight. Initially the RCM was imposed on the vessel owner/ shipping agent but was quickly amended and fastened onto the Indian importer. This is despite that fact that the importer in CIF consignments would not be privy to the price of ocean freight charged on a particular consignment. To remove this anomaly, law incorporated an option to discharge service tax on a notional value of the consignment (1.4%) as RCM. The challenge to these notifications, in the context of CIF contracts, were made before Gujarat High Court3. Such challenge by tax-payers was upheld as follows:

• Extra-territoriality – Overseas supplier has appointed the foreign liner for transportation up to Indian customs station and the said service is rendered by the liner to the overseas supplier prior to reaching of goods to the Indian land mass and hence entirely consumed outside India;

• Delegated legislation – Parent enactment can take shelter of extra-territoriality operation of law but the delegated legislation cannot seek to impose tax on such extra-territorial services without the authorization of the parent enactment and hence ultra-vires;

• Person liable to tax – Indian importers are not the persons receiving “sea transportation service”, because they receive only the “goods” contracted by them, and they have no privity of contract with the shipping line nor make any payment to them; hence liability cannot be fastened onto such importers. The law envisages tax to be either collected from the service provider or the recipient and not any other person;

• Charging provisions – Strict interpretation ought to be given to the charging provisions and one cannot extend the taxation to ‘indirect receipt of services’ or ‘beneficiary of services’;

• Valuation – Section 67 does not permit rules to supplant notional values. Charging provisions fail since machinery provisions under parent enactment do not provide for deemed valuation in hands of a third person;

The Revenue has appealed against the above decision before the Supreme Court and the matters are currently pending.

___________________________________________________________

1 Notification 1/2017-ST dated 12^th
January, 2017

2 Notification 2/2017-ST, 3/2017 dated 12^th
January, 2017 originally on the shipping agent of vessel owner/ Indian liners
and later amended to importer on record vide Notification 15/2017 dated 13^th
April, 2017

3 Sal steel ltd. vs. Union of India 2020 (37)
G.S.T.L. 3 (Guj.)

GOODS & SERVICE TAX PROVISIONS
During this challenge, the saga continued under the GST regime as well. Article 286 entrust the IGST law to tag transactions as either ‘inter-state’ or ‘intra-state’. GST laws were to operate to the whole of India. Section 5(1) of the IGST Act levied tax on all the inter-state supplies of goods or services or both. GST on goods imported into India is being levied and collected in accordance with the provisions of Section 5(1) r/w Section 3 of the Customs Tariff Act, 1975, on the value as determined under the said Act at the point when the duties of customs are levied on the said goods under section 12 of the Customs Act, 1962. Section 7(4) of the IGST Act provides that supply of services imported into the territory of India shall be treated to be a supply of services in the course of the inter-state trade or commerce.

Section 13(9) of IGST Act states that the place of supply of services of transportation of goods other than by way of mail or courier, shall be the place of destination of such goods. The said law characterised the international ocean freight services under the place of supply provisions as follows:

• Services by an Indian liner to an Indian importer are considered as domestic services (Section 12), and hence treated as ‘inter-state’ or ‘intra-state’ depending on the location of the supplier and recipient – FOB contract

• Services by an overseas liner to the Indian importer are considered as international services (Section 13) and treated as import of services and hence assigned an inter-state character and governed by the IGST levy itself – FOB contract

• No specific provision was inserted to address classification of services by an overseas liner to an overseas supplier (extra-territorial services) – CIF Contract

Notification 10/2017-IGST(R) dated 28th June, 2017 imposed tax on the importer under RCM provisions. This was on the premise that the service qualifies as an import of service under section 2(11) of IGST Act, specifying the following cumulative conditions:

• Service provider is located outside India

• Service recipient is located in India

• Place of supply of service is in India

Testing the above requirements for import of services in the context of CIF contracts, the prima-facie conclusion which emerged was as follows:

Test 1 – Location of service provider

Service provider is the one who is ‘supplying the service’ i.e. – contractually liable to render the ocean freight services right from the loading port to the destination port. In simple words, the foreign liner who is consigned with the goods and issues the bill of lading for having received the goods for transportation would be the supplier of services. In terms of Section 2(15) of the IGST law, the foreign liner having its fixed establishment outside India, from where the booking was made, would be located outside India. This condition was satisfied.

Test 2 – Location of service recipient

Service recipient is generally understood as the person receiving the service – contractually seeking the service from the service provider. Section 2(93) of CGST Act r.w 20 of IGST Act would treat a person who is ‘liable to pay the consideration’ as the service recipient. In other words, the person who is contractually obligated to make the payment of consideration for the ocean freight services would be treated as the service recipient. After identification of the person, the location of such recipient would be understood with reference to Section 2(14) of the IGST Act to be the location of the fixed establishment. In the subject scenario of CIF contracts, the overseas supplier would strictly be termed as the ‘service recipient’ of the ocean freight service from the foreign liner and hence treated as located outside India. Hence this condition was not satisfied.

Test 3 – Place of Supply

Place of supply is critical to ascertain the inter-state/intra-state character of a supply. In simple terminology, it is a proxy for the economic consumption of goods/services in a VAT chain. Section 13 fixed the place of supply of ocean freight services as the destination of goods, which in the current facts, is destination port in India. This condition was satisfied.

Combining the above three tests, once reached the conclusion that the ocean freight services rendered by the foreign liner to the overseas supplier is not an ‘import of services’ into India. Consequently one needn’t have to examine the relevant RCM/ rate notifications.

Delegated Provisions

Yet dispute arose on account notifications4 were introduced to impose a levy of GST on ocean freight services. Entry 9(ii) of the GST Rate notification read as follows:

9.
Heading 9965 (Goods transport services)

(ii)
Transport of goods in a vessel including services provided or agreed to be
provided by a person located in non-taxable territory to a person located in
non-taxable territory by way of transportation of goods by a vessel from a
place outside India up to the customs station of clearance in India.

Provided
that credit of input tax charged on goods (other than on ships, vessels
including bulk carriers and tankers) used in supplying the service has not
been taken

Explanation:
This condition will not apply where the supplier of service is located in
non-taxable territory.

Please
refer to Explanation no. (iv)

Explanation 4. Where the value of taxable service provided by a person located in non-taxable territory to a person located in non-taxable territory by way of transportation of goods by a vessel from a place outside India up to the customs station of clearance in India is not available with the person liable for paying integrated tax, the same shall be deemed to be 10 % of the CIF value (sum of cost, insurance and freight) of imported goods.

_____________________________________________________________

4 Notification No. 8/2017-Integrated Tax
(Rate), dated 28^th June, 2017 and Entry 10 of the Notification No.
10/2017-Integrated Tax (Rate), dated 28^th June, 2017

Gujarat High Court’s decision

The Gujarat High Court in Mohit Minerals case5 laid down the following legal propositions:

• Vivisection – importation of goods on CIF basis encompasses the freight, insurance etc which are bundled into the said importation. It would be impermissible to artificially vivisect the same into separate components and tax them once again as an independent element;

• Person liable to pay tax – Section 5(3) unequivocally states that only the recipient of goods or services are liable to pay tax on reverse charge basis. Section 2(98) r.w 2(24) which defines reverse charge and recipient also recognizes this fundamental GST principle. Notification attempting to tax a third person (importer) on the ground of being a beneficiary or indirect recipient bearing the burden of ocean freight is not in consonance with the legal provisions;

• Extra-territoriality – The provision of ocean freight services between foreign supplier and foreign liner is neither inter-state supply, intra-state supply nor import of services (under section 7(5)(a)) in terms of the literal provisions. Section 7(5)(c) cannot be interpreted as a residual basket to tax anything and everything and should operate within the confines of the territoriality. Express wordings are required in 7(5)(c) to tax a supply after satisfying the condition that it takes place in India. Place of supply principles are artificial provisions fixing the legal situs of supply and must be used only where the law directs on to identify the place of supply. Section 7(5)(c) does not make any such reference to such place of supply provisions. The phrase ‘supply of goods or services or both in the taxable territory’ shall mean a supply, all the aspects, or majority of the aspects, of which takes place in the taxable territory and which cannot be covered under the rest of the provisions of Section 7 or Section 8 of the IGST Act. In any case, there is no provision for determining the place of supply where both the location of the supplier and the location of the recipient is outside India. The scheme of the IGST Act only contemplates transactions of intra-state supply, inter-state supply and exports & imports;

_______________________________

5 2020 (33) G.S.T.L. 321 (Guj.)

• Chargeability vs. Exemption – The exemption granted to exclude services provided from non-taxable territory to person in a non-taxable territory is on the misbelief that tax is imposable on such transactions;

• Machinery provisions – The machinery provisions (time of supply, valuation, input tax credit, etc.) would fail if the contention of the revenue that persons other than the direct recipient can also be fastened with the RCM liability;

• Scope of Supply – From the importers perspective, the ocean freight supply is neither an inward supply nor an outward supply. Hence tax cannot be fastened onto the importer.

PREFACE TO SUPREME COURT’S DECISION
It would be important to understand the backdrop of the core issue emerging from the above sequence of events. Multiple perspectives were presented before the Supreme Court (analysed below) and the core issue rested on the identification of ‘recipient’ of ocean freight services. In contradistinction to the service tax legislation, CGST law has defined the same in clear terminology as follows:

“(93) “recipient” of supply of goods or services or both, means–

(a) where a consideration is payable for the supply of goods or services or both, the person who is liable to pay that consideration;

(b) where no consideration is payable for the supply of goods, the person to whom the goods are delivered or made available, or to whom possession or use of the goods is given or made available; and

(c) where no consideration is payable for the supply of a service, the person to whom the service is rendered,

and any reference to a person to whom a supply is made shall be construed as a reference to the recipient of the supply and shall include an agent acting as such on behalf of the recipient in relation to the goods or services or both supplied;”

The said definition identifies the person ‘who is liable to pay the consideration’ for the services as the ‘recipient of services’. The liability to pay consideration emerges from the contract for rendition of services. Generally, the person at whose behest the service is rendered takes up the liability to pay the consideration to the service provider, and such person has been termed as the legal recipient of service. In many circumstances, the service may actually be delivered/ rendered to third person identified by the contracting parties. Yet the clear wordings direct that the contracting party who is ‘liable to pay the consideration’ would be the legal recipient.

Separately, the definition also identifies cases in which no consideration may be payable. In the absence of a consideration, the law mandates that the person to whom the service is delivered/ rendered would be termed as the ‘recipient of service’ i.e. it is only in the absence of a consideration would one have to find out the person to whom the service is rendered. The distinction in the approach of identifying the recipient in a case where consideration is payable with a case where the consideration is absent should not be lost sight off while examining SC’s observation.

It would be pertinent to mention that the law is not alien to the concept of ‘receipt of service’ and ‘recipient of service’. Section 16(2) acknowledges that a service could be said to be ‘received’ by a person even though it is directly delivered/ rendered to a third person on the direction of the first mentioned person. Similar provisions are also contained in “Bill to Ship to” for goods under the place of supply as well the input tax credit provisions. While the immediate benefits of a service (so called receipt of service) may be to the third person, the law only recognizes the person who is liable to pay the consideration as the ‘recipient’ of service.

One may also appreciate that even during the erstwhile service tax regime where recipient was not specifically defined under law, Tribunals6 in multiple cases have identified the contractual recipient as the person recipient and barred the revenue from extending it to the ultimate beneficiary of the services. Therefore, the position in law has been consistent on the identification of the recipient and this appeared to be a fairly straight forward issue to be addressed by the Apex Court.

SUPREME COURT’S DECISION
Yet, the Court unravelled certain unexpected interpretations to this settled concept having far reaching implications on the subject matter. The entire decision can be examined under specific heads as follows:

_______________________________________________________________________

6 Paul merchants ltd. V. CCE 2013 (29) S.T.R.
257 (Tri. – Del.) & Vodafone Mobile Services Limited vs. CST Delhi 2019
(29) G.S.T.L. 314 (Tri-Del)

Constitutional Framework & GST Council’s Recommendations

Revenues’ contention	Taxpayer’s defence	Court’s observations
Recommendations of the GST Council are binding on the legislature and the executive	The GST Council’s recommendation need to be implemented by either amending the CGST Act or the IGST Act or by issuing a notification. However, notifications issued cannot be ultra vires the parent legislation	Article 279A does not make recommendations mandatory on the Legislature. Only delegated legislations are bound by GST council’s recommendations
Functions and role of the GST Council are unique and incomparable to other constitutional bodies – Power of the Parliament and the State Legislature under Article 246A and the power of the GST Council under Article 279A must be balanced and harmonised, such that neither overrides the other	The principles of cooperative federalism are not relevant in this case as they were not adjudicated before the High Court. The appeal must test the correctness of the impugned judgment without expanding its scope. Interpretation of Article 279A of the Constitution was not an issue before the High Court and the present appeal should be restricted to the validity of the impugned notification	Unlike the Concurrent list where repugnancy in Central & State laws would tilt in favour Central Laws, GST is legislated through a simultaneous exercise of power. Recommendations of the GST Council must be interpreted with reference to the purpose of the enactment i.e. create a uniform taxation system

Revenues’ contention

Taxpayer’s defence

Court’s observations

Recommendations of the
GST Council are binding on the legislature and the executive

The GST Council’s
recommendation need to be implemented by either amending the CGST Act or the
IGST Act or by issuing a notification. However, notifications issued cannot
be ultra vires the parent legislation

Article 279A does not
make recommendations mandatory on the Legislature. Only delegated
legislations are bound by GST council’s recommendations

Functions and role of
the GST Council are unique and incomparable to other constitutional bodies –
Power of the Parliament and the State Legislature under Article 246A and the
power of the GST Council under Article 279A must be balanced and harmonised,
such that neither overrides the other

The principles of
cooperative federalism are not relevant in this case as they were not
adjudicated before the High Court. The appeal must test the correctness of
the impugned judgment without expanding its scope. Interpretation of Article
279A of the Constitution was not an issue before the High Court and the present
appeal should be restricted to the validity of the impugned notification

Unlike the Concurrent
list where repugnancy in Central & State laws would tilt in favour
Central Laws, GST is legislated through a simultaneous exercise of power. Recommendations
of the GST Council must be interpreted with reference to the purpose of the
enactment i.e. create a uniform taxation system

Extra-Territoriality

Revenues’ contention

Taxpayer’s defence

Court’s observations

There is sufficient territorial
nexus for the purpose of taxation since the importer is the final beneficiary
of a service provided by a foreign shipping line by way of transportation up
to the customs station of clearance in India

No provision for
deeming the said service as taking place in India. Only nexus with India is
that the service results in the import of goods into India. This activity is
already subject to IGST under the Customs Act

A two-fold connection
is present – destination of the goods is India; and beneficiary of services
in India. An Indian importer could also be considered as an importer of the
transportation service, if the activity falls within the definition of
“import of service” for the IGST Act

Charge of Tax – Taxable event vis-à-vis Composite Supply

Revenues’ contention

Taxpayer’s defence

Court’s observations

GST and customs duties
are not mutually exclusive. GST is a destination-based tax – IGST is imposed
on the ‘supply of service’ and not on the goods. Customs is an anterior
taxation – separate aspect are being taxed, hence it cannot be termed as
overlapping

Freight component
embedded in the IGST taxation as part of proviso to Section 5(1) of IGST Act
r/w Customs Act

In CIF, fact that
consideration is paid by the foreign exporter to the foreign shipping line
would not stand in the way of it being considered as a “supply of service”.

CIF transaction and
IGST on ocean freight are two independent transactions, entitled to suffer
independent levies and do not qualify as a composite supply

Freight is part of the
importation of goods and no contractual service provider-recipient
relationship – taxable as supply of goods and not service

Composite supply play
a specific role i.e. ensure that various elements not dissected and the levy
is imposed on the bundle of supplies altogether. Intent of the Parliament was
that a transaction which includes different aspects of supply of goods or
services and which are naturally bundled together, must be taxed as a
composite supply

Charge of Tax – Taxable Person vs. Recipient

Revenues’ contention	Taxpayer’s defence	Court’s observations
Reverse charge is applicable on recipient, and he becomes person liable to tax and 5(3)/ 5(4) are applicable to Importers – RCM notification specifically identifies the taxable	Section 5(3) only permits specification of the categories of supply of goods or services or both on which RCM is applicable. – Government cannot specify the person liable	Neither Section 2(107) nor Section 24 of the CGST Act qualify the imposition of reverse charge on a “recipient of service” and broadly impose it on “the persons who are required to
(continued) person and Section 2(107) includes a taxable person who is liable to be registered on account of RCM applicability Statute has not identified the person liable to tax and hence impugned notification identifying such person is legitimate exercise	(continued) to pay service tax on a reverse charge basis or define a recipient in a notification	(continued) pay tax under reverse charge”. Since the impugned notification 10/2017 identifies the importer as the recipient liable to pay tax on a reverse charge basis under Section 5(3) of the IGST Act, the argument of the failure to identify a specific person who is liable to pay tax does not stand If Parliament’s intention were to designate certain persons for reverse charge, irrespective of them being the recipient of such goods and services, it must make a suitable amendment to confer such power for exercise of delegated legislation
RCM does not make two independent contracts as a composite contract. The contract between the foreign shipping line and the foreign exporter is distinct and independent of the contract between the foreign exporter and the Indian importer	Supply of service is an ‘inter-state supply’ under Section 7(3) or ‘intra-state supply’ under Section 8(2) of the IGST Act depends on the location of the supplier and the place of supply. In case two recipients are identified for a single supply, it would lead to absurdity in a transaction being treated as inter-state as well as intra-state supply.	The deeming fiction of treating the importer as a recipient must be found in the IGST Act. As it currently stands, Section 5(3) of the IGST Act enables the delegated legislation to create a deeming fiction on categories of supply of goods/services alone.
Importer is recipient in CIF because – Ultimate beneficiary of service – Contextual interpretation to include beneficiary in recipient definition – A supply can be made to ‘a person’, ‘a registered person’ and ‘a taxable person’ and such a supply shall be construed to be a supply to a recipient (2(93)). – Notifications under section 5(4) permits specification of class of registered persons on whom RCM could apply – Though Time of Supply specific provisions are directed towards the person making payment but residual provision factor other recipient’s case	The only place where a person other than a supplier or recipient is made liable to pay tax is under section 5(5) of the IGST Act, where an electronic commerce operator through whom supply is made is taxed – In case the Parliament desired the tax to be collected from a person other than a supplier or recipient, it would have expressly provided so in the legislation. Question of who the beneficiary of the supply is or who has received the supply are irrelevant in determining the ‘recipient’ under Section 2(93) of the CGST Act;	RCM would be applicable to all recipients liable for reverse charge under Sections 5(3) and 5(4) of the IGST Act. Ineffectiveness of a tax collection mechanism under Section 24(iii) of the CGST Act cannot be argued to obfuscate the concept of a “recipient” of a good or service Therefore, both the IGST and CGST Act clearly define reverse charge, recipient and taxable persons. Thus, the essential legislative functions vis-à-vis reverse charge have not been delegated Two recipient theory only creates absurdity in domestic transactions but in the case on hand in international transactions this does not annihilate the concept of recipient The ultimate benefactor of the shipping service is also the importer in India who will finally receive the goods at a destination which is within the taxable territory of India. Thus, the meaning of the term “recipient” in the IGST Act will have to be understood within the context laid down in the taxing statute (IGST and CGST Act) and not by a strict application of commercial principle This conclusion is in line with the philosophy of the GST to be a consumption and destinated based tax. The services of shipping are imported into India for the purpose of consumption that is routed through the import of goods.

Revenues’ contention

Taxpayer’s defence

Court’s observations

Reverse charge is
applicable on recipient, and he becomes person liable to tax and 5(3)/ 5(4)
are applicable to Importers – RCM notification specifically identifies the
taxable

Section 5(3) only
permits specification of the categories of supply of goods or services or
both on which RCM is applicable. – Government cannot specify the person
liable

Neither Section 2(107)
nor Section 24 of the CGST Act qualify the imposition of reverse charge on a
“recipient of service” and broadly impose it on “the persons who are required
to

(continued)

person and Section
2(107) includes a taxable person who is liable to be registered on account of
RCM applicability

Statute has not
identified the person liable

to tax and hence
impugned notification identifying such person is legitimate exercise

(continued)

to pay service tax on
a reverse charge basis or define a recipient in a notification

(continued)

pay tax under reverse
charge”. Since the

impugned notification
10/2017 identifies the importer as the recipient liable to pay tax on a
reverse charge basis under Section 5(3) of the IGST Act, the argument of the
failure to identify a specific person who is liable to pay tax does not stand

If Parliament’s
intention were to designate certain persons for reverse charge, irrespective
of them being the recipient of such goods and services, it must make a
suitable amendment to confer such power for exercise of delegated legislation

RCM does not make two independent
contracts as a composite contract. The contract between the foreign shipping
line and the foreign exporter is distinct and independent of the contract
between the foreign exporter and the Indian importer

Supply of service is
an ‘inter-state supply’ under Section 7(3) or ‘intra-state supply’ under
Section 8(2) of the IGST Act depends on the location of the supplier and the
place of supply. In case two recipients are identified for a single supply,
it would lead to absurdity in a transaction being treated as inter-state as
well as intra-state supply.

The deeming fiction of
treating the importer as a recipient must be found in the IGST Act. As it
currently stands, Section 5(3) of the IGST Act enables the delegated
legislation to create a deeming fiction on categories of supply of
goods/services alone.

Importer is recipient in CIF
because

– Ultimate beneficiary of service

– Contextual interpretation to
include beneficiary in recipient definition

– A supply can be made to ‘a
person’, ‘a registered person’ and ‘a taxable person’ and such a supply shall
be construed to be a supply to a recipient (2(93)).

– Notifications under section 5(4)
permits specification of class of registered persons on whom RCM could apply

– Though Time of Supply specific
provisions are directed towards the person making payment but residual
provision factor other recipient’s case

The only place where a
person other than a supplier or recipient is made liable to pay tax is under
section 5(5) of the IGST Act, where an electronic commerce operator through
whom supply is made is taxed – In case the Parliament desired the tax to be
collected from a person other than a supplier or recipient, it would have
expressly provided so in the legislation.

Question of who the
beneficiary of the supply is or who has received the supply are irrelevant in
determining the ‘recipient’ under Section 2(93) of the CGST Act;

RCM would be
applicable to all recipients liable for reverse charge under Sections 5(3)
and 5(4) of the IGST Act. Ineffectiveness of a tax collection mechanism under
Section 24(iii) of the CGST Act cannot be argued to obfuscate the concept of
a “recipient” of a good or service

Therefore, both the
IGST and CGST Act clearly define reverse charge, recipient and taxable
persons. Thus, the essential legislative functions vis-à-vis reverse charge
have not been delegated

Two recipient theory
only creates
absurdity in domestic transactions but in
the case on hand in international transactions this does not annihilate the
concept of recipient

The ultimate
benefactor of the shipping service is also the importer in India who will
finally receive the goods at a destination which is within the taxable
territory of
India. Thus, the meaning of the term “recipient” in the IGST Act will have to
be understood within the context laid down
in the taxing statute (IGST and CGST Act) and not by a strict application of
commercial principle

This conclusion is in
line with the philosophy of the GST to be a consumption and destinated based
tax. The services of shipping are imported into India for the purpose of
consumption that is routed through the import of goods.

Charge of Tax – Valuation

Revenues’ contention

Taxpayer’s defence

Court’s observations

Deemed valuation is
permitted through delegated legislation under section 15(4)/15(5)

Section 15 does not
permit a deemed valuation in the hands of a third person who is not privy to
the contract

Necessary statutory
framework is available for valuation under Rule 31 of the CGST Rules which
are consistent with the principles Section 15

Impugned notification
8/2017 cannot be struck down for excessive delegation when it prescribes 10%
of the CIF value as the mechanism for imposing tax on a reverse charge basis

In summary, the key takeaways from the decision are as follows:

(i) The recommendations of the GST Council are not binding on the Union and States and only recommendary in nature:

(ii) Import of goods by a CIF contract constitutes an “inter-state” supply which can be subject to IGST where the importer of such goods would be the recipient of shipping service;

(iii) Specification of the recipient in notification is only clarificatory. The Government did not specify a taxable person different from the recipient prescribed in Section 5(3) of the IGST Act for the purposes of reverse charge;

(iv) Section 5(4) of the IGST Act enables the Central Government to specify a class of registered persons as the recipients, thereby conferring the power of creating a deeming fiction on the delegated legislation;

(v) The impugned levy imposed on the ‘service’ aspect of the composite supply is in violation of Section 2(30) r/w Section 8 of the CGST Act.

ANALYSIS
Though the decision was on the narrow point of applicability of RCM on CIF contracts, the conclusions of the Court could have extensive implications. The same could be analysed herewith:

Beneficiary vs. Recipient – The case revolved around the three phrases ‘recipient’, ‘reverse charge’ and ‘taxable person’. Recipient definition has been examined previously. Reverse charge (under section 2(98)) has been defined as a liability to tax on the recipient of services instead of the supplier of services under section 5(3)/5(4) of IGST Act. Taxable person (under section 2(107)) has been defined as person who is registered or liable to be registered on account of a tax liability under section 22 or 24. The logical sequence of interpretation would be to first identify the ‘recipient of a service’ and then examine whether the ‘reverse charge liability’ could be fastened on such recipient thereby creating a ‘taxable person’ in the eyes of law. In the context of ocean freight services, the contractual recipient would be the overseas supplier who is liable to pay the consideration and by corollary the reverse charge provisions would be applicable only on such foreign supplier and not on the Indian importer. Thereby, the notification could not have fixed the Indian importer as the taxable person on such a sequential interpretation.

The court seemed to have taken a circuitous route against logical flow of terminology. In para 91 the court stated that since the notification has identified the importer as the ‘recipient’ of service, it makes such person a ‘taxable person’ in law and hence the reverse charge provisions are triggered on account of such tax liability. Further in para 102 r/w 106, the court has invoked a very extreme interpretation to hold that the phrase ‘consideration’ recognises payment of consideration from ‘any other person’ and not merely the recipient. Attributing a narrow meaning to recipient as being the ‘only person’ who is liable to pay consideration would obstruct the scope of the definition of consideration and hence a wider meaning is to be granted to the phrase ‘recipient’ rather than a narrow construct as is being proposed in the arguments.

This appears to be contradictory to para 115 where court has stated that merely because Section 24 mandates a person to seek registration in case of reverse charge liability does not extend the concept of recipient to every person specified in the notification. Reverse charge liability arises from 5(3)/5(4) and not from registration provisions under section 24. The following observation clearly overturns its previous observations:

“Section 2(98) of the CGST Act, which defines “reverse charge” reiterates that it means the “liability to pay tax by the recipient of supply of goods or services or both instead of the supplier…”. It cannot be construed to imply that any taxable person identified for payment of reverse charge would automatically become the recipient of such goods or service. The deeming fiction of treating the importer as a recipient must be found in the IGST Act. As it currently stands, Section 5(3) of the IGST Act enables the delegated legislation to create a deeming fiction on categories of supply of goods/services alone.

116 Interpreting the term “by the recipient” vis-à-vis the categories of goods and services identified in Section 5(3) of the IGST Act should necessarily be governed by the principles governing the definition of “recipient” under section 2(93) of the CGST Act.” Contrary to the arguments of the Union Government, such an interpretation would not annihilate the mandate of compulsory registration under Section 24(iii) of the CGST Act …….. ”

After having clearly appreciated the issue in the aforesaid paragraph, the court observed that this interpretation would be relevant only in case of inter-state supplies within the territory of India. Accordingly, cross border services could take a deviation in view of the place of supply provisions. Section 13(9) of IGST Act r/w 2(93)(c) of the CGST Act enable identification of recipient different from the contracting parties. Section 13(9) fixes the place of supply of transportation of services as the destination of goods in India. To give effect to this provision, recipient under section 2(93) is to be expanded to include a person in India who is benefitting from the transportation of goods to India and not merely the contractual recipient of transportation services.

Curiously the court has invoked clause (c) of Section 2(93) of the CGST Act which applies only in cases of an absence of consideration. The court appears to have missed that consideration is in fact payable, albeit by overseas supplier to the foreign liner. Possibly the court invoked this clause to overturn the argument of taxpayers that no consideration is payable by the Indian importer to the foreign liner. By invoking Section 2(93)(c), court implied that an Indian importer, who is not privy to the ocean freight activity, falls into the clutches of 2(93)(c) on account of being the person to whom transportation services is rendered. This overlooks the fact that an absence of consideration obliterates the very charge of GST on supply under section 7(1)(a) r/w 7(1)(b)7. Section 2(93)(c) is applicable only to limited cases where the charge of tax on supply survives despite the absence of consideration (say Schedule I transactions). Invocation of clause 2(93)(c) in this context appears to respectfully erroneous and subject matter of review before the said court. The court ultimately held that recipient could also include a beneficiary of services ascertained from the destination based consumption principle and not necessarily by contractual/ commercial obligations.

From a macro perspective, the contextual meaning attributed to the phrase ‘recipient’ to include a beneficiary of service, fails to consider that GST is levy on a transaction-based VAT chain. The transacting parties are the person who drive the value addition of goods or services right up to the point of consumption. Any artificial deviation at an intermittent stage would impact this VAT chain since a beneficiary of service may not carry forward the subsequent value-added activity and hence fall foul to the fundamental VAT principle. In simpler words, certain training services rendered to employees (beneficiaries) of the company (contractual recipient) does not make the employees the taxable recipient of the service. It is the company which consumes this service for a subsequent commercial activity that should be termed as the recipient. Presuming that the service is consumed by the employees and there is no further economic activity would lead to tax cascading and a distorted picture about the consumption of goods/ services.

Composite Supply – The Supreme Court was not impressed with the grievance of the assesse of a dual burden of GST on freight component (as customs duty and as import of service). It is intriguing that the Supreme Court acknowledged the argument of the revenue that there would not be any economic disparity since credit would be available. Though detailed observations were not made, the proviso to Section 5(1) ought to have been analysed in its literal sense to remove this duality. The silver lining however has been that the court barred the revenue from vivisecting elements at different stages of taxation even though there is a single contractual flow of activities between the supplier and recipient. The court fairly observed that the phrase ‘composite supply’ under section 8 directed one to only examine the principal supply and ignore the rest of the elements of supply for purpose of taxation. Ocean freight being admittedly a part of the composite supply cannot be artificially vivisected and taxed as a service once again under RCM provisions. However, this observation was itself overturned by the court in para 144 by creating two leg for a single transaction and viewing them separately (one as an import of goods and two as a supply of transportation of service). The court stated that both are independent transactions and the second leg of the transaction ought to be taxed as a supply of service. The see-saw continues in para 144 where the court states that the Union cannot treat the transactions as ‘connected’ while examining import of goods and treat them as ‘independent’ while examining import of services. The climax however ends at Section 8 where the court observed that the liability to tax has to be ascertained on the plank of principal supply of goods and not otherwise. Yet the court stops shy of reading down the notification extending itself to importers by stating that it is merely clarificatory and would operate when the importer is otherwise recipient of service.

____________________________________________________

7 Supply of goods or services (including import
of services) is said to take place only in cases where there is a consideration

GST Council’s Recommendations – The court categorically upheld the federal principles and the independence of the Centre and State Legislatures to legislate laws and not bound by GST Council’s recommendations. While stating this, the court also held that the Centre and the State are now operating under a cooperative federalism under which both are enforcing their powers simultaneously. This implies that while the GST council’s recommendations cannot bind the legislative function, the function ought to be exercised by the Centre and State in a harmonious manner. It would not be permissible for the Centre or State to single out and deviate from the GST structure when the others have toed a particular line. This important observation may still continue to bind State legislatures to reach out to the GST Council for any State specific exception/ deviation from the overall GST structure and restrain them from taking a unilateral action.

Extra-territoriality – The Court validated the notification on extra-territoriality by holding that the importer is an ultimate beneficiary of the service. That would be far-fetched as it would enable the revenue authorities to tax overseas transaction merely on the surmise that benefit is accruing to a person in India. Take for example a global brand campaign conducted a multinational enterprise (MNE) would have indirect benefits to the sales of the brand in India. The MNE may not have conducted this activity for India exclusively but the revenue may claim that India has been a beneficiary of the service and even in the absence of a transaction of supply between the MNE and its Indian counterpart, GST may stand imposed on such global activities. This theory may open a pandora’s box of issues to the Indian trade. Taking this feature ahead, States may also claim territorial nexus that the beneficiary resides in their state even-though the contractual recipient would be present in other States. Ideally, court ought to have attached additional weightage to Article 286 and place of supply provisions before reaching this conclusion.

Valuation – Section 15 clearly mandates that tax ought to be levied on transaction price except in areas susceptible to under-valuation (such as related parties, side arrangements, etc.). The court has validated the contentious issue of whether notional valuations could be adopted by completely disregarding the contractual price and the threshold tests specified in Section 15. This would empower governments to issue notifications fixing notional values and which may not reflect the true value of the economic activity. Revenue is certainly going to cite this decision when the matters on notional valuation, as decided by the Gujarat High Court in case of Munjaal Manishbhai Bhatt8, is examined by the Supreme Court.

In summary, the decision certainly has some hits and misses for the assesse. The court’s observations would certainly influence the course of the law in days to come. The revenue is certainly pondering over expanding the scope of the RCM provisions to recipients and other third persons for tax collections. We could see certain amendments to Section 5(3)/5(4) empowering the scope of delegation for RCM purposes. Governments should acknowledge that RCM results in a credit chain distortion and should be resorted to as an exception rather than as a rule.

______________________________________

8 2022-TIOL-663-HC-AHM-GST

shailesh.kwebmaker

GST ON CONSTRUCTION CONTRACTS INVOLVING SALE OF LAND

BACKGROUND

Under the legacy indirect tax regime, taxation of works contracts presented significant challenges due to the limited powers of taxation available to the States and the Centre. Essentially States could tax only sale of goods whereas the Centre could invoke the residuary power to tax services. Therefore, attempts were made to vivisect such composite works contracts into materials and services. Whether a composite works contract can be vivisected in such a fashion and based on such vivisection, whether the respective jurisdictions could impose the taxes and what would be the fetters for such taxation? We have seen a fair share of constitutional amendments, legislative amendments and judicial pronouncements trying to settle and unsettle the answers to these controversies.

Before the controversies on the front of taxability of composite works contracts could really settle, agreements for sale of an under-construction unit by a developer became the next bone of contention on the interpretation that such agreements essentially represent work contracts. The complications increased in this situation since such agreements would involve three elements – one representing the value of the land or undivided interest therein being transferred, one representing the value of the materials being transferred and one representing the services being rendered.

Under the GST regime, the bifurcation of value between goods and services becomes redundant. However, sale of land continues to be excluded from the purview of GST. Therefore, para 2 of the notification 11/2017 – CT (Rate) dated 28th June, 2017 (as amended from time to time) provides that in order to determine the value of construction services, a 1/3rd abatement will be provided towards the value of land. This is a deeming fiction, i.e., there is no exception provided for cases where the value of land is determinable separately.

The said notification resulted in indirectly taxing the value of the land. Hence, the legality of the deeming fiction was challenged before the Hon’ble Gujarat HC, which has in the case of Munjaal Manish Bhatt vs. Union of India [2022-TIOL-663-HC-AHM-GST] held as under:

• Para 2 of the notification is ultra vires the provisions as well as the scheme of the GST Acts.

• The application of mandatory uniform rate of deduction is discriminatory, arbitrary and violative of Article 14 of the Constitution of India (COI).

• However, the above conclusion is only specific to the cases where the value of land is ascertainable. If the same is not ascertainable, the same can be permitted at the option of taxable person.

• In other words, para 2 of the notification is not mandatory and it shall be optional for the taxpayer as to whether he intends to avail the benefit of the deduction or not.

• Refund was also granted to the petitioner, as recipient of service to the extent tax was paid on value over and above the construction value. This reiterates the principle under GST that even a recipient can claim refund of tax borne by him.

This decision is likely to have far reaching implications in the real estate sector. In this article, we have discussed the controversy which prevailed during the VAT/ service tax regime, the basis on which the Hon’ble HC has reached the above conclusion and some issues which originate from the current decision.

CONTROVERSY UNDER SALES TAX
The first controversy arose w.r.t levy of sales tax on the above contracts. While the States wanted to levy tax on such transactions treating it as sale of goods, the Supreme Court in the landmark decision in the case of State of Madras vs. Gannon Dunkerley & Co (Madras) Ltd [(1958) 9 STC 353] held that this was not a contract for simpliciter sale of goods. The property in goods does not pass as chattel pursuant to sale and therefore, the same could not be treated as sales under the Sale of Goods Act, 1930. The Court therefore held that the States did not have legislative competence to levy tax on such contracts.

This triggered the 46th amendment to the Constitution, by virtue of which clause 29A was inserted to Article 366 and the concept of deemed sales was introduced giving powers to the State to levy tax on such composite contracts. Even after the 46th constitutional amendment, the matter again reached the Supreme Court, albeit in a different form. This time, the issue was relating to value on which tax was to be paid as the consideration charged for such contracts was towards both, value of goods as well as value of labour. In this case, the Supreme Court held that tax could be imposed only on the value of goods incorporated in the works contract and the labour expenses (including profit on the same) was to be excluded for the purpose of levy of sales tax. For ascertaining the value of goods, it was held that either the books of account of the assessee could be referred to and when it was not possible to ascertain from therein, the States would prescribe a formula on the basis of fixed percentage of value of contract.

The above principle continued even under the VAT regime, where the MVAT Act, 2002 and the rules framed thereunder provided for determination of value of goods, either on actual basis or by standard deduction for value of labour or composite rates prescribed for levy of tax on such contracts by way of notification.

Before the dust could completely settle, the controversy around the levy of VAT on sale of under construction structures (residential/ commercial) was ignited. The Supreme Court in K. Raheja Development Corporation vs. State of Karnataka [2006 (3) STR 337 (SC)] held that so long as the agreement for sale is executed before completion of construction, it would be treated as works contract and therefore liable to sales tax.

The above principle was further reiterated by the Larger Bench decision in the case of Larsen & Toubro Limited vs. State of Karnataka [2014 (34) STR 481 (SC)]. In this case, the Larger Bench at para 115 held that the activity of construction undertaken by the developer would be works contract only from the stage the developer enters into a contract with the flat purchaser. The value addition made to the goods transferred after the agreement is entered into can only be made chargeable to tax by the State Government.

CONTROVERSY UNDER SERVICE TAX
The levy of tax on construction of residential complex services was first introduced in 2005 vide insertion of clause (zzzh) and tax on construction services (commercial or industrial) was introduced in 2004 vide insertion of clause (zzq). However, the charging sections did not provide any reference as to the tax being levied on composite contracts and therefore, the levy was challenged before the Supreme Court in the case of Larsen & Toubro Limited [(2015) 39STR 913 SC]. In the meanwhile, tax was introduced on “works contract services” w.e.f 1st July, 2007 by way of insertion of clause (zzzza). This further supported the view that prior to 2007, there was no legislative competence to levy service tax on works contract, which included the service of construction of residential / commercial complexes.

This view was ultimately confirmed in the above case wherein it was held that the above provisions introduced w.e.f 2004/ 2005 levied service tax only on contracts simpliciter and not composite indivisible works contracts. The Court further held that there was no charging section specifically levying service tax on works contracts.

This triggered amendment to clause (zzzh), wherein by way of explanation, it was clarified that the tax under this section would also cover construction of a complex which is intended for sale, wholly or partly, by a builder or any person authorised by the builder before, during or after construction (except in cases for which no sum is received from or on behalf of the prospective buyer by the builder or a person authorised by the builder before the grant of completion certificate by the authority competent to issue such certificate under any law for the time being in force) shall be deemed to be service provided by the builder to the buyer.

VALUATION ISSUE
Apart from determination of value of goods involved in such contract, the activity of sale of a structure (residential/ complex) had one particular challenge being the determination of the value of land when included in the agreement for sale of such structure. Under service tax, while there was an abatement provided for, under notification 26/2012-ST dated 20th June, 2012 (as amended), the service provider also had an option to determine the valuation u/r 2A of Valuation Rules, 2006. However, the said rules provided for deduction only of the value of goods involved in the execution of works contract. There was nothing in the said rules which provided for deduction on account of value of land included in the consideration charged by the service provider.

Therefore, when the valuation mechanism was challenged before the Delhi HC in the case of Suresh Kumar Bansal vs. Union of India [2016 (043) STR 0003 Del], the Hon’ble HC held that neither the Act nor the Rules framed therein provided for a machinery provision for excluding all components other than service components for ascertaining the measure of service tax. The Court further held that abatement to the extent of 75% by a notification or a circular cannot substitute the lack of statutory machinery provisions to ascertain the value of services involved in a composite contract.

In other words, the Hon’ble HC held that there was lack of statutory machinery provisions to ascertain the value of services involved in composite contract and therefore relying on CIT vs. B C Srinivasa Shetty [(1981) 2 SCC 460] and others, the Court held that though a service was provided by the builder, service tax was not payable as the value of service could not be appropriately determined.

PROVISIONS UNDER GST
With the introduction of GST, while there is dual power with the Central and State Government to levy GST on supply of goods or services or both, the power to levy tax on land & building still exclusively vests with the State Governments only. Therefore, Schedule III, which declares certain activities or transactions to be treated neither as supply of goods or services or both, specifically provides that “sale of land, and subject to clause (b) of paragraph 5 of Schedule II, sale of building”.

Para 5 (b) of Schedule II deems the following activity as supply of service under GST:

5. Supply of services

The following shall be treated as supply of services, namely:—

(b) construction of a complex, building, civil structure or a part thereof, including a complex or building intended for sale to a buyer, wholly or partly, except where the entire consideration has been received after issuance of completion certificate, where required, by the competent authority or after its first occupation, whichever is earlier.

Explanation—For the purposes of this clause—

(1) the expression “competent authority” means the Government or any authority authorised to issue completion certificate under any law for the time being in force and in case of non-requirement of such certificate from such authority, from any of the following, namely:—

(i) an architect registered with the Council of Architecture constituted under the Architects Act, 1972; or

(ii) a chartered engineer registered with the Institution of Engineers (India); or

(iii) a licensed surveyor of the respective local body of the city or town or village or development or planning authority;

(2) the expression “construction” includes additions, alterations, replacements or remodelling of any existing civil structure;

Further, the provisions relating to value of supply, which are governed u/s 15 of the CGST Act, 2017 provide that the same shall be the transaction value, i.e., price actually paid or payable for the said supply of goods or services or both where the supplier and recipient are not related and price is the sole consideration for the supply. Further, section 15(4) provides that if the value cannot be determined u/s 15(1), the same shall be determined in the manner as may be prescribed. Section 15(5) empowers the Government to notify such supplies where the value shall be determined in the manner as may be prescribed.

The introduction of GST does not take away the essential characteristics involved in a transaction of sale of under-construction structure, i.e., value of land being recovered in the overall sale value. However, the method to determine the same has not been prescribed in the Rules. Instead, the rate notification [11/2017-CT (Rate) dated 28th June, 2017] notifies the method for determination of the value of land/ undivided share of land and deems it to be 1/3rd of the total amount charged for such supply.

GENESIS OF THE CURRENT PETITION
A writ petition was filed under Article 226 before the Hon’ble Gujarat HC (Munjal Manish Bhatt vs. Union of India). The facts of this particular case were that the Petitioner had entered into an agreement with a Developer. The agreement was for purchase of a plot of land and construction of bungalow on the said plot of land by the Developer. In this agreements, separate and distinct consideration was agreed upon for both the activities, i.e., sale of land and construction of bungalow on the said land.

The developer informed the petitioner that GST would be levied on the entire consideration, i.e., including on the consideration charged for sale of land. This resulted in higher GST outflow for the petitioner, as the formula prescribed in Para 2 of notification 11/2017-CT (Rate) dated 28th June, 2017 resulted in the petitioner being required to pay higher tax, contrary to the tax which was otherwise leviable only on the construction activity. Therefore, the petitioner had filed the writ petition before the Hon’ble Gujarat HC.

The HC framed the following question for its’ consideration:

Whether the impugned notification providing for 1/3rd deduction with respect to land or undivided share of land in cases of construction contracts involving element of land is ultra-vires the provisions of the GST Acts and/or violative Article 14 of the Constitution of India?

In the following table, we have tabulated the submissions of the petitioner and UOI and Courts’ conclusion on the same.

arguments made by the Writ Petitioner	Arguments made by the Union of India	Conclusion of the Court
The tax liability by virtue of deeming fiction by way of delegated legislation far exceeds the tax liability computed in accordance with the provisions of the statute, which is otherwise impermissible. It is a settled position of law that delegated legislation cannot go beyond the scope of parent legislation.	The Government had express power to determine the deemed value of such supply on recommendation of the GST Council, basis which the same has been ascertained to be 1/3rd of the total amount charged for such supply. Therefore, the contention that the determination by sub-ordinate legislation was ultra vires section 15 (5) of the CGST Act, 2017 does not hold ground.	There is no intention to impose tax on supply of land in any form and it is for this reason that it is provided in Schedule III to the GST Acts that the supply of land will be neither supply of goods nor supply of services.
The deliberations made prior to the issuance of notification creating deeming fiction was only in the context of sale of flats/ apartments and not in respect of transactions where land was sold separately, and its’ value was specifically available.	The contention that the deemed value of land to be deducted for the purpose of arriving at the value of construction service is beyond the scope of delegation u/s 9 (1) and has no legal basis at all.	When entry 5 of Schedule III refers to sale of land, it refers to land in any form. Therefore, when the agreement was entered into with the buyer when the land was already developed, the exclusion under entry 5 of Schedule III will be available.
Sale of any land, whether or not developed, would not be liable to tax under GST and the tax liability must be restricted to construction undertaken pursuant to the contract with the prospective buyer. If that be so, then deduction of entire consideration charged towards land has to be granted and the same cannot be restricted to 1/3rd of total value. (Reliance on *L&T’s* case)	The notification in question was not violative of Article 14 of the COI. It was argued that Government is empowered to levy tax, prescribed conditions/ restrictions. It enjoys wide latitude in classification for taxation and is allowed to pick and choose rates of taxation. Reliance was placed on the decision of SC in the case of VKC Footsteps India Private Limited [AIR 2021 SC 4407].	On the valuation part, where the specific value for land and for construction of bungalow is available, the court held that notification cannot provide for a fixed deduction towards land. The tax has to be paid on such actual value. Deeming fiction could be applied only when such value is not ascertainable, relying on the *2^ndGannon Dunkerley* case and 1^st Larsen case.
There needs to be a specific statutory provision excluding the value of land from the taxable value of the works contract and mere abatement by way of notification is not sufficient. The said condition was complied with under service tax also by way of retrospective amendment to Valuation Rules, 2006. (Relying on Suresh Kumar Bansal’s case)	As per the agreement, the transaction is for purchase of residential plot together with a bungalow/ apartment and access to various amenities, facilities, common area, etc., to be developed by the developer. None of these components can be separated and are integral to the transaction. Further, the buyer was to be subjected to many conditions, limitations, prohibitions and restrictions, except without the consent of the Developer and the concerned local authority.	Basis the above, the Court held that mandatory application of deeming fiction of 1/3^rdof total agreement value towards land even though the actual value of land is ascertainable is clearly contrary to the provisions and scheme of CGST Act, and therefore ultra vires the statutory provisions.
Deeming fiction was discriminatory as a person purchasing a bungalow along with the land, where predominantly consideration is attributed towards the cost of land, gets the same deduction as a person buying a flat/ apartment who only gets an undivided	Reliance was further placed on the decision in the case of Narne Construction P. Ltd. vs. UOI [(2012) 5 SCC 359] wherein in the context of Consumer Protection Act, it was held that sale of a Developed Plot is not sale of land only, it is a different transaction than	The Court further held that para 2 was arbitrary in as much as the same is uniformly applied irrespective of the size of the plot of land and construction therein. The Court further referred to the fact that there was no distinction between a flat and bungalow in
(continued) share in the land where the major consideration is attributed towards the cost of construction resulting in tax being levied indirectly on the value of land as well.	(continued) a mere sale of land. Therefore, even the proposed transaction could not be said to be a separate transaction of sale of land and construction service, but rather a single transaction covered under entry 5 (b) of Schedule II.	(continued) the notification, despite the fact that in case of flat, there is a transfer of undivided share in land while in the case of bungalow, there is a transfer of land itself. The Court also referred to the minutes of the 14th GST Council meeting wherein apprehensions were raised as to whether such provision would withstand judicial scrutiny or not? The Court therefore held that the deeming fiction led to arbitrary and discriminatory consequences and therefore, was violative of Article 14 of the COI.
Reference was made to the valuation provisions and rules therein and it was contended that since detailed valuation mechanism is available in the Statute, which is primarily based on the actual consideration, such provisions cannot be ignored by simply providing ad-hoc and arbitrary abatement of land by way of a notification.	The separate value declared for both the transactions, i.e., sale of land and construction of building thereon could not be accepted “as is”, as the consideration is only for the purpose of calculating the final consideration and nothing beyond that, on which stamp duty shall also be paid.	The Court further held that the arbitrary deeming fiction also resulted in the measure of tax not having nexus with the charge. The Court held that while the charge of tax was on supply of goods or services or both, the same was measured on land as well, which was not the subject measure of the levy. The Court relied on the decision in the case of Rajasthan Cements Association [2006 (6) SCC 733].
Value of land cannot be prescribed u/s 15 (5) of the CGST Act since the same deals only with value of goods or services or both and not land (which is neither goods nor services).	As an alternative, if the separate value for land and construction activity was accepted, the same would lead to absurdity as to save tax, the parties might agree that 99% of the value shall be towards land and 1% shall be towards the construction activity, which may lead to huge losses to the public exchequer and against the basic concept of tax. Reference was made to the Stamp Duty, where though the duty was payable on transaction value, a minimum value is taken as deemed value of the transaction and in cases where the transaction value is less than the minimum value, duty was payable on the minimum value. It was therefore argued that the value of developed land cannot be left to be decided / declared by the parties to the transaction.	The Court further negated the submissions made by the UOI that para 2 was in consonance with provisions of section 15 (5). However, the Court held that section 15 (5) empowers the Government to prescribe the manner in which the value may be determined, and the same has to be by way of rules and not notification.
There is a distinction between prescription and notification. Prescription has to be by way of rules while in the current case, abatement was provided for by the notification, which is incorrect.	For the tagged petitions, since the same were against orders passed by the Appellate Authority for Advance Rulings, the writ application under Article 226 was not maintainable.	The Court further held that where a delegated legislation is challenged as being ultra vires the provisions of the CGST Act as well as violating Article 14 of the Constitution, the same cannot be defended merely on the ground of Governments’ competence to issue such delegated piece of legislation.
The measure of tax must have a nexus with the subject matter of tax.		The Court also rejected the apprehensions as to artificial inflation of price of land to reduce GST liability. The Court firstly held that in the current case, the value adopted by the petitioner was not challenged by the UOI. The Court further held that even if it is found that the value of construction service declared by the supplier is not correct in as much as indirect consideration has been received, the value of such indirect consideration would then need to be determined as per the
		(continued) Valuation Rules, i.e., Rule 27-31. In other words, the revenue is not remediless even in cases where the correctness of the value assigned in the contract is doubted. If it is established that such value was not the sole consideration for the service, valuation rules should be resorted to arrive at the value of service.
Once a consideration was agreed between the two parties for sale of land, it was not open for taxing authorities to rewrite the terms of the agreement, especially when such terms were decided at arms’ length and there was no allegation of collusion between them and that the commercial expediency of the contract was to be adjudged by the contracting parties as to its’ terms.		The Court further referred to the Delhi HC decision in the case of *Suresh Kumar Bansal* and the subsequent retrospective amendment to Valuation Rules, 2006 to provide for deduction on value of land, where available. The Court held that when such mechanism was already available under the earlier regime, the same ought to have been continued even under the GST regime.
The term “land” was meant to included developed land and reliance was placed on the definition of land as per section 3 (a) of Land Acquisition Act, 1894.		The Court further held that entry 5(b) of Schedule II was not relevant to determine the validity of the notification. The Court held that the purpose of Schedule II is not to define or expand the scope of supply, but only to clarify if a transaction will be a supply of goods or service if such transaction qualifies as supply.
Even if para 2 of the notification was not held ultra vires, the same was required to be read down in cases where the value of land was ascertainable .		The High Court further held that the decision in the case of *VKC Footsteps* referred above is also not applicable to the current case as the same dealt with a case where a valid rule was sought to be invalidated on account of minor defects in the formula. However, in the current case, the notification itself was contrary to the provisions and scheme of the GST and therefore, was arbitrary and violative of Article 14 of the COI.
		The High Court further held that the reliance placed on the decision of *Narne Construction* referred above was also misplaced as the same pertained to a dispute under the Consumer Protection Act, 1986 and therefore, was inapplicable when interpretating a tax statute.

arguments made by the Writ
Petitioner

Arguments made by the Union of
India

Conclusion of the Court

The tax liability by
virtue of deeming fiction by way of delegated legislation far exceeds the tax
liability computed in accordance with the provisions of the statute, which is
otherwise impermissible. It is a settled position of law that delegated
legislation cannot go beyond the scope of parent legislation.

The Government had
express power to determine the deemed value of such supply on recommendation
of the GST Council, basis which the same has been ascertained to be 1/3rd of
the total amount charged for such supply. Therefore, the contention that the
determination by sub-ordinate legislation was ultra vires section 15 (5) of
the CGST Act, 2017 does not hold ground.

There is no intention
to impose tax on supply of land in any form and it is for this reason that it
is provided in Schedule III to the GST Acts that the supply of land will be
neither supply of goods nor supply of services.

The deliberations made
prior to the issuance of notification creating deeming fiction was only in
the context of sale of flats/ apartments and not in respect of transactions
where land was sold separately, and its’ value was specifically available.

The contention that
the deemed value of land to be deducted for the purpose of arriving at the
value of construction service is beyond the scope of delegation u/s 9 (1) and
has no legal basis at all.

When entry 5 of
Schedule III refers to sale of land, it refers to land in any form.
Therefore, when the agreement was entered into with the buyer when the land
was already developed, the exclusion under entry 5 of Schedule III will be
available.

Sale of any land,
whether or not developed, would not be liable to tax under GST and the tax
liability must be restricted to construction undertaken pursuant to the
contract with the prospective buyer. If that be so, then deduction of entire
consideration charged towards land has to be granted and the same cannot be
restricted to 1/3rd of total value. (Reliance on L&T’s
case)

The notification in question was not
violative of Article 14 of the COI. It was argued that Government is
empowered to levy tax, prescribed conditions/ restrictions. It enjoys wide
latitude in classification for taxation and is allowed to pick and choose
rates of taxation. Reliance was placed on the decision of SC in the case of VKC
Footsteps India Private Limited [AIR 2021 SC 4407].

On the valuation part,
where the specific value for land and for construction of bungalow is
available, the court held that notification cannot provide for a fixed
deduction towards land. The tax has to be paid on such actual value. Deeming
fiction could be applied only when such value is not ascertainable, relying
on the 2^ndGannon Dunkerley case and 1^st
Larsen case.

There needs to be a
specific statutory provision excluding the value of land from the taxable
value of the works contract and mere abatement by way of notification is not
sufficient. The said condition was complied with under service tax also by
way of retrospective amendment to Valuation Rules, 2006. (Relying on Suresh
Kumar Bansal’s case)

As per the agreement,
the transaction is for purchase of residential plot together with a bungalow/
apartment and access to various amenities, facilities, common area, etc., to
be developed by the developer. None of these components can be separated and
are integral to the transaction. Further, the buyer was to be subjected to
many conditions, limitations, prohibitions and restrictions, except without
the consent of the Developer and the concerned local authority.

Basis the above, the
Court held that mandatory application of deeming fiction of 1/3^rdof
total agreement value towards land even though the actual value of land is
ascertainable is clearly contrary to the provisions and scheme of CGST Act,
and therefore ultra vires the statutory provisions.

Deeming fiction was
discriminatory as a person purchasing a bungalow along with the land, where
predominantly consideration is attributed towards the cost of land, gets the
same deduction as a person buying a flat/ apartment who only gets an
undivided

Reliance was further
placed on the decision in the case of Narne Construction P. Ltd. vs.
UOI [(2012) 5 SCC 359] wherein in the context of Consumer Protection
Act, it was held that sale of a Developed Plot is not sale of land only, it
is a different transaction than

The Court further held
that para 2 was arbitrary in as much as the same is uniformly applied
irrespective of the size of the plot of land and construction therein. The
Court further referred to the fact that there was no distinction between a
flat and bungalow in

(continued)

share in the land where
the major consideration is attributed towards the cost of construction
resulting in tax being levied indirectly on the value of land as well.

(continued)

a mere sale of land.
Therefore, even the proposed transaction could not be said to be a separate
transaction of sale of land and construction service, but rather a single
transaction covered under entry 5 (b) of Schedule II.

(continued)

the notification,
despite the fact that in case of flat, there is a transfer of undivided share
in land while in the case of bungalow, there is a transfer of land itself.
The Court also referred to the minutes of the 14th GST Council meeting
wherein apprehensions were raised as to whether such provision would
withstand judicial scrutiny or not? The Court therefore held that the deeming
fiction led to arbitrary and discriminatory consequences and therefore, was
violative of Article 14 of the COI.

Reference was made to
the valuation provisions and rules therein and it was contended that since
detailed valuation mechanism is available in the Statute, which is primarily
based on the actual consideration, such provisions cannot be ignored by
simply providing ad-hoc and arbitrary abatement of land by way of a
notification.

The separate value
declared for both the transactions, i.e., sale of land and construction of
building thereon could not be accepted “as is”, as the consideration is only
for the purpose of calculating the final consideration and nothing beyond
that, on which stamp duty shall also be paid.

The Court further held
that the arbitrary deeming fiction also resulted in the measure of tax not
having nexus with the charge. The Court held that while the charge of tax was
on supply of goods or services or both, the same was measured on land as
well, which was not the subject measure of the levy. The Court relied on the
decision in the case of Rajasthan Cements Association [2006 (6) SCC
733].

Value of land cannot
be prescribed u/s 15 (5) of the CGST Act since the same deals only with value
of goods or services or both and not land (which is neither goods nor
services).

As an alternative, if
the separate value for land and construction activity was accepted, the same
would lead to absurdity as to save tax, the parties might agree that 99% of
the value shall be towards land and 1% shall be towards the construction
activity, which may lead to huge losses to the public exchequer and against
the basic concept of tax. Reference was made to the Stamp Duty, where though
the duty was payable on transaction value, a minimum value is taken as deemed
value of the transaction and in cases where the transaction value is less
than the minimum value, duty was payable on the minimum value. It was
therefore argued that the value of developed land cannot be left to be
decided / declared by the parties to the transaction.

The Court further
negated the submissions made by the UOI that para 2 was in consonance with
provisions of section 15 (5). However, the Court held that section 15 (5)
empowers the Government to prescribe the manner in which the value may be
determined, and the same has to be by way of rules and not notification.

There is a distinction
between prescription and notification. Prescription has to be by way of rules
while in the current case, abatement was provided for by the notification,
which is incorrect.

For the tagged
petitions, since the same were against orders passed by the Appellate
Authority for Advance Rulings, the writ application under Article 226 was not
maintainable.

The Court further held
that where a delegated legislation is challenged as being ultra vires
the provisions of the CGST Act as well as violating Article 14 of the
Constitution, the same cannot be defended merely on the ground of
Governments’ competence to issue such delegated piece of legislation.

The measure of tax
must have a nexus with the subject matter of tax.

The Court also
rejected the apprehensions as to artificial inflation of price of land to
reduce GST liability. The Court firstly held that in the current case, the
value adopted by the petitioner was not challenged by the UOI. The Court
further held that even if it is found that the value of construction service
declared by the supplier is not correct in as much as indirect consideration
has been received, the value of such indirect consideration would then need
to be determined as per the

(continued)

Valuation Rules, i.e.,
Rule 27-31. In other words, the revenue is not remediless even in cases where
the correctness of the value assigned in the contract is doubted. If it is
established that such value was not the sole consideration for the service,
valuation rules should be resorted to arrive at the value of service.

Once a consideration
was agreed between the two parties for sale of land, it was not open for
taxing authorities to rewrite the terms of the agreement, especially when
such terms were decided at arms’ length and there was no allegation of
collusion between them and that the commercial expediency of the contract was
to be adjudged by the contracting parties as to its’ terms.

The Court further
referred to the Delhi HC decision in the case of Suresh Kumar Bansal
and the subsequent retrospective amendment to Valuation Rules, 2006 to
provide for deduction on value of land, where available. The Court held that
when such mechanism was already available under the earlier regime, the same
ought to have been continued even under the GST regime.

The term “land” was
meant to included developed land and reliance was placed on the definition of
land as per section 3 (a) of Land Acquisition Act, 1894.

The Court further held
that entry 5(b) of Schedule II was not relevant to determine the validity of
the notification. The Court held that the purpose of Schedule II is not to
define or expand the scope of supply, but only to clarify if a transaction
will be a supply of goods or service if such transaction qualifies as
supply.

Even if para 2 of the
notification was not held ultra vires, the same was required to be read down
in cases where the value of land was ascertainable .

The High Court further
held that the decision in the case of VKC Footsteps referred
above is also not applicable to the current case as the same dealt with a
case where a valid rule was sought to be invalidated on account of minor
defects in the formula. However, in the current case, the notification itself
was contrary to the provisions and scheme of the GST and therefore, was
arbitrary and violative of Article 14 of the COI.

The High Court further
held that the reliance placed on the decision of Narne Construction
referred above was also misplaced as the same pertained to a dispute under
the Consumer Protection Act, 1986 and therefore, was inapplicable when
interpretating a tax statute.

ANALYSIS

What will be the implications in case the value of land is not identifiable separately?

While the judgment deals with scenarios where a separate value was assigned for land and construction activity, there are many cases where separate values are not assigned, though by virtue of the agreement, there is transfer of land along with the constructed premise to the buyer. The question that remains is how to deal with the determination of value of land in such cases, especially when the cost incurred by the supplier towards purchase of land is more than 1/3rd of the total value, an apprehension which was also raised in the GST council meeting as well as explained in the judgment at para 101.

Some indication to the above situation can be found at para 110-116 of the judgment. While rejecting the UOIs submission regarding artificial inflation of value of land, the Hon’ble HC held that where the value of supply of goods or services or both could not be determined u/s 15(1), the same could be determined as per the rules prescribed u/s 15(4), i.e., under Rule 27 – 31. Infact, the HC has at para 114 referred to Rules 30/31 and held that the value can be determined either on the basis of cost plus 10% (Rule 30) or using reasonable means consistent with principles and general provision of section 15 as well as the valuation rules. The Court further held that since a detailed mechanism was available for determining the value of service, the deeming fiction could not be justified.

The question that remains is how to determine the applicability of Rules 30/31. Let us first look at Rule 30 which provides that the value of service shall be cost plus 10%. Undoubtedly, while determining cost, one would need to include the value of goods/ services as well. The question remains is determining whether a particular expense is towards land cost or construction cost? For example, can it be said that expense incurred towards FSI/TDR which increases the construction potential on a land can be attributed towards land cost or construction cost? While the assessee may argue that FSI/TDR being an immovable property (as discussed later), the same needs to be appropriated towards cost of land, the Department may contend that the same is incurred for undertaking construction activity and has no direct relation with the land and therefore, should be treated as cost of construction.

The second option available for determination of the value will be under Rule 31, wherein a taxpayer would have an option to determine the value of service using reasonable means consistent with principles and general provision of section 15 as well as valuation rules. An appropriate option would perhaps be to reduce the ready reckoner value of the land from the total value. This is because the ready reckoner value is something which is actually government defined, and therefore any dispute of artificial inflation or otherwise may not sustain before the Court.

Will the judgment apply when there is transfer of Undivided Share in Land along with the sale of constructed structure?

It is important to note that the current decision discusses a scenario involving bungalows having a direct relation between the land and building. It does not discuss similar issue in case of buildings, being apartments, flats, etc., where the ownership of land is not synchronous with the ownership of the apartment/ flat. For example, when one buys a flat, he gets a share in the ownership of the underlying land, commonly known as “Undivided Share in Land” or UDS by becoming a member of the society formed after the construction is completed, to which the ownership of land is conveyed.

The question remains is whether a taxable person can claim the reduction on account of value of such UDS in land, i.e., where land is not transferred separately? It may be noted that in some states, it is a practice to enter into two different agreements, one for transfer of UDS in land and another for carrying out construction activity.

The first question that would need to be looked into is whether UDS can be treated as share in land itself? Section 2 (26) of General Clauses Act, 1897 defines the term “immovable property” to include land, benefits to arise out of land, and things attached to the earth, or permanently fastened to anything attached to the earth. Also, the Constitutional Bench of Supreme Court in the case of Anand Behera vs. State of Orrisa [1956 AIR 17] has held that any benefit which arises out of land is an immovable property and therefore, such benefit is also to be treated as immovable property only.

This view has also been followed in the context of Service Tax where the Tribunal has in DLF Commercial Projects Corporations vs. CST, Gurugram [2019 (27) GSTL 712 (Tri – Chan)] held that immovable property includes benefits arising out of land. Further, the Tribunal has in the case of Amit Metaliks Limited vs. Commissioner of CGST, Bolpur [2020 (41) GSTL 325 (Tri – Kol)] again held that development rights, being a benefit arising out of immovable property, cannot be liable to tax as there was no service involved.

While the above cases deal with development rights, an UDS in land is actually a share in land, and not some right emanating from the said land. Therefore, there is a strong basis to opine that UDS is nothing but land itself.

Once such a view is arrived at, the next question that arises is how to determine the value of UDS in land, which is included in the consideration charged for providing the construction services but not separately identified? Let us look at an instance where there is a single agreement with single consideration for sale of unit in an under-construction building. Without doubt, such consideration would also include consideration towards the UDS in land on which the building is constructed. Therefore, the question arises is how to identify the value of land/ UDS?

The powers to frame rules relating to valuation of supply are contained u/s 15 (4) and it is under these powers, that Rules 28-31 have been prescribed. A plain reading of Section 15 in toto would indicate that the same applies to determination of value of goods or services or both. Therefore, the need would be to determine the value of construction services in such contracts, which may be done under either of the following options:

In case Valuation Rules are not amended:

• Follow Rule 30. A taxable person may actually
determine the cost incurred towards construction activity (i.e., goods and services procured for construction purposes) and discharge GST on a value being cost plus 10% mark-up.

• Follow Rule 31, reduce the cost incurred towards land/ UDS in land (plus the margin – one may refer to 2nd Gannon Dunkerley decision which provided for reduction of labour cost and margin thereof, the same principles may be applied here also for land) and pay GST on the balance amount.

In case Valuation Rules are amended:

• If a Rule is prescribed for determining the value of land/UDS in land which does not sufficiently provide for excluding the value of land in a particular case, the same may be again challenged. Even the HC order refers to the discussions held during the GST Council meeting wherein the State Finance Minister had expressed that the cost of land is substantially higher in cities of Maharashtra, and even within cities, there can be disparity. Therefore, even if after the Rules are amended to provide for valuation of land/ UDS in land, it is likely that taxpayers in such areas may challenge the validity of the Rules. This judgment also refers to the decision in the case of Rajasthan Cements Association [2006 (6) SCC 733] wherein it has been held that measure of tax cannot be contrary to the nature of tax.

• There can also be a second scenario. The Government may, instead of further litigating the matter, amend the Rules in a manner similar to amendment done to Valuation Rules, 2006 under Service Tax post Delhi HC judgment in Suresh Kumar Bansal’s case, i.e., para 2 is rephrased and introduced as Rule in the Valuation Rules, 2006. What would be the recourse available to a taxable person in such a case depends on the outcome of the appeal filed against the Delhi HC verdict.

Since the current discussion is revolving around valuation aspect, it is important to refer to the decision of the Larger Bench of SC in the case of Union of India vs. Mohit Minerals Private Limited. The issue before the SC was the validity of entry 10 of notification 10/2017 – IT (Rate) dated 28th June, 2017 which requires an importer to pay tax under reverse charge on services supplied by a person located in non-taxable territory by way of transportation of goods by a vessel from a place outside India up to the customs station of clearance in India. Further, the rate notification also prescribed the method to determine the value of service, where not available, as under:

Where the value of taxable service provided by a person located in non-taxable territory to a person located in non-taxable territory by way of transportation of goods by a vessel from a place outside India up to the customs station of clearance in India is not available with the person liable for paying integrated tax, the same shall be deemed to be 10% of the CIF value (sum of cost, insurance and freight) of imported goods.

Though the ultimate conclusion of the SC is in the favour of taxpayers, certain observations are contrary, which may have a bearing on the current decision of the Gujarat HC. A plea was raised before the Hon’ble SC that the mode of determination of value of supply could not have been notified. It should have been prescribed as provided for in the rules. The SC has rejected the same at para 94, citing it as “unduly restrictive interpretation” and held as under:

94. The respondents have urged that the determination of the value of supply has to be specified only through rules, and not by notification. However, this would be an unduly restrictive interpretation. Parliament has provided the basic framework and delegated legislation provides necessary supplements to create a workable mechanism. Rule 31 of the CGST Rules 2017 specifically provides for a residual power to determine valuation in specific cases, using reasonable means that are consistent with the principles of Section 15 of the CGST Act. This is where the value of the supply of goods cannot be determined in accordance with Rules 27 to 30 of the CGST Rules 2017. Thus, the impugned notification 8/2017 cannot be struck down for excessive delegation when it prescribes 10 per cent of the CIF value as the mechanism for imposing tax on a reverse charge basis.

On the contrary, in the case of VKC Footsteps, the SC had held that the term “inputs” was to be defined strictly and therefore, refund of accumulated input tax credit was to be allowed only to the extent it pertained to goods (not being capital goods) and not services in case of Inverted Duty Structure.

IMPLICATIONS ARISING FROM THE CONCLUSION VIS-À-VIS ARTICLE 14
The Gujarat HC has at para 105 held that such deeming fiction leads to arbitrary and discriminatory consequences and is therefore, clearly violative of Article 14 of the COI. In doing so, the HC has rejected the reliance placed on the decision of SC in the case of VKC Footsteps wherein it has been held as under:

81. Parliament while enacting the provisions of Section 54(3), legislated within the fold of the GST regime to prescribe a refund. While doing so, it has confined the grant of refund in terms of the first proviso to Section 54(3) to the two categories which are governed by clauses (i) and (ii). A claim to refund is governed by statute. There is no constitutional entitlement to seek a refund. Parliament has in clause (i) of the first proviso allowed a refund of the unutilized ITC in the case of zero-rated supplies made without payment of tax. Under clause (ii) of the first proviso, Parliament has envisaged a refund of unutilized ITC, where the credit has accumulated on account of the rate of tax on inputs being higher than the rate of tax on output supplies. When there is neither a constitutional guarantee nor a statutory entitlement to refund, the submission that goods and services must necessarily be treated at par on a matter of a refund of unutilized ITC cannot be accepted. Such an interpretation, if carried to its logical conclusion would involve unforeseen consequences, circumscribing the legislative discretion of Parliament to fashion the rate of tax, concessions and exemptions. If the judiciary were to do so, it would run the risk of encroaching upon legislative choices, and on policy decisions which are the prerogative of the executive. Many of the considerations which underlie these choices are based on complex balances drawn between political, economic and social needs and aspirations and are a result of careful analysis of the data and information regarding the levy of taxes and their collection. That is precisely the reason why Courts are averse to entering the area of policy matters on fiscal issues. We are therefore unable to accept the challenge to the constitutional validity of Section 54(3).

This gives rise to the question of whether notifications where lower rate is prescribed along with a condition of non-eligibility to claim input tax credit can also be questioned on the same grounds, i.e., invoking Article 14? For example, for suppliers supplying restaurant services, the rate notified is 5%, subject to the condition that no input tax credit is claimed. Similar notifications have been issued for construction services as well. Whether such rate notifications restricting the benefit of input tax credit to a specific class of suppliers be said to be discriminatory or arbitrary?

In this regard, one may refer to the decision in the case of Indian Oil Corporation Limited vs. State of Bihar [2018 (11) GSTL 8 (SC)], wherein it has been held as under:

24. When it comes to taxing statutes, the law laid down by this Court is clear that Article 14 of the Constitution can be said to be breached only when there is perversity or gross disparity resulting in clear and hostile discrimination practiced by the legislature, without any rational justification for the same. (See The Twyford Tea Co. Ltd. & Anr. vs. The State of Kerala & Anr., (1970) 1 SCC 189 at paras 16 and 19; Ganga Sugar Corporation Ltd. vs. State of Uttar Pradesh & Ors., (1980) 1 SCC 223 at 236 and P.M. Ashwathanarayana Setty & Ors. vs. State of Karnataka & Ors., (1989) Supp. (1) SCC 696 at 724-726).

The question that remains to be seen is whether in cases where such restriction on claim of input tax credit has been imposed, does it result in any disparity or discrimination without rational justification? A justification for imposing the condition was that the taxpayers making the above supplies (restaurants/ builders) were not passing on the benefit of input tax credit to their customers by reducing their prices. Therefore, such condition was imposed. However, the same was not imposed on all restaurants/ builders.

For example, in case of stand-alone restaurants, the notified tax rate is 5% with no input tax credit. However, restaurants services supplied from a hotel premise satisfying certain conditions attract tax at 18%. This is without any justification that restaurants operating out of such hotels had actually reduced their rates. Similarly, in case of construction services, input tax credit is denied when the services related to residential units. However, in case of commercial units, input tax credit is allowed.

This means that a stand-alone restaurant service provider will have a higher cost of providing service compared to a restaurant supplying similar service from a hotel (and satisfying the conditions). The question that remains is whether it can be said that there exists perversity / disparity resulting in discrimination in the legislature? In this regard, reference may be made to the decision in the case of Assistant Commissioner of Urban Land Tax vs. Buckingham and Carnatic Co Ltd [(1969) 2 SCC 55] wherein it has been held as under:

“10…The objects to be taxed, the quantum of tax to be levied, the conditions subject to which it is levied and the social and economic policies which a tax is designed to subserve are all matters of political character and these matters have been entrusted to the Legislature and not to the Courts. In applying the test of reasonableness it is also essential to notice that the power of taxation is generally regarded as an essential attribute of sovereignty and constitutional provisions relating to the power of taxation are regarded not as grant of power but as limitation upon the power which would otherwise be practically without limit.

Reference may also be made to the decision in the case of Federation of Hotel & Restaurant Association of India vs. Union of India [(1989) 3 SCC 634] wherein it has been held as under:

46. It is now well settled that though taxing laws are not outside Article 14, however, having regard to the wide variety of diverse economic criteria that go into the formulation of a fiscal policy legislature enjoys a wide latitude in the matter of selection of persons, subject-matter, events, etc., for taxation. The tests of the vice of discrimination in a taxing law are, accordingly, less rigorous. In examining the allegations of a hostile, discriminatory treatment what is looked into is not its phraseology, but the real effect of its provisions. A legislature does not, as an old saying goes, have to tax everything in order to be able to tax something. If there is equality and uniformity within each group, the law would not be discriminatory. Decisions of this Court on the matter have permitted the legislatures to exercise an extremely wide discretion in classifying items for tax purposes, so long as it refrains from clear and hostile discrimination against particular persons or classes.

47. But, with all this latitude certain irreducible desiderata of equality shall govern classifications for differential treatment in taxation laws as well. The classification must be rational and based on some qualities and characteristics which are to be found in all the persons grouped together and absent in the others left out of the class. But this alone is not sufficient. Differentia must have a rational nexus with the object sought to be achieved by the law. The State, in the exercise of its governmental power, has, of necessity, to make laws operating differently in relation to different groups or classes of persons to attain certain ends and must, therefore, possess the power to distinguish and classify persons or things. It is also recognised that no precise or set formulae or doctrinaire tests or precise scientific principles of exclusion or inclusion are to be applied. The test could only be one of palpable arbitrariness applied in the context of the felt needs of the times and societal exigencies informed by experience.

Both the above decisions were relied upon recently by the SC in VKC Footsteps while setting aside the Gujarat HC verdict that Section 54 (3) (ii) was in violation of Article 14 while denying the refund of input services in case of Inverted Duty Structure.

While this issue was not for consideration before the Gujarat HC, it remains to be seen how the Court interprets such conditional rate notifications in future.

VALIDITY OF RATE NOTIFICATIONS SUBJECT TO CONDITION OF NO INPUT TAX CREDIT
While on this topic, it may also be relevant to look at the validity of such notifications, which notify lower tax rates subject to the condition that input tax credit is not taken.

Firstly, let us analyse whether the Government has powers to issue blanket restriction on claim of input tax credit. The enabling provision relating to claim of ITC are covered u/s 16 of the CGST Act, 2017. Section 16 (1) thereof, which deals with claim of input tax credit specifically provides that the same shall be subject to conditions and restrictions, as may be prescribed. As per notification 46/2017- CT (Rate) dated 28th June, 2017, it is by virtue of this powers that a blanket restriction on claim of input tax credit by suppliers supplying restaurant services/ construction services has been notified. However, the fact is that such restriction could have been imposed only in the manner prescribed, i.e., by way of Rules. However, this restriction is imposed by notification.

One may argue that whether the restriction is imposed by Rules or notification may not be relevant, especially in view of decision in Mohit Minerals case. It may however be important to note that the SC dealt with the issue of value of supply, for which specific powers have been provided u/s 15(5) to determine the value of supply. However, in the current case, the claim of the input tax credit is sought to be denied. Section 16 (1), though provides that the claim of the input tax credit shall be subject to restrictions, the term “restriction” cannot be treated at par with “exclusion”, which the above notifications actually do by denying the claim of input tax credit to the specified class of suppliers.

In this regard, one may also refer to the decision in the case of Kunj Bihari Lal Butail vs. State of HP [AIR 2000 SC 1069] wherein it has been held as under:

We are also of the opinion that a delegated power to legislate by making rules ‘for carrying out the purposes of the Act’ is a general delegation without laying down any guidelines; it cannot be so exercised as to bring into existence substantive rights or obligations or disabilities not contemplated by the provisions of the Act itself, For the foregoing reason, the appeal is allowed.

Therefore, validity of notifications restricting claim of input tax credit is going to be an open issue. Of course, industry has adapted to this restriction on claim of input tax credit.

APPLICABILITY OF 1ST L&T DECISION UNDER GST REGIME:
The Gujarat HC judgment also refers to the 1st L&T decision of the Supreme Court wherein it has been held as under:

115. It may, however, be clarified that activity of construction undertaken by the developer would be works contract only from the stage the developer enters into a contract with the flat purchaser. The value addition made to the goods transferred after the agreement is entered into with the flat purchaser can only be made chargeable to tax by the State Government.

The interpretation of the above decision is that the supply starts only after the construction is started. Let us take an example of an agreement for sale entered into with respect to a flat in an under-construction building. 50% of the construction activity is concluded and therefore, at the time of booking itself, the buyer is required to make payment of 50% of the agreed consideration. Balance consideration is payable as per the agreed slabs.

The effect of the above extracts of 1st L&T decision would be that no GST is payable to the extent of 50% of the consideration, since till that point of time, the works contract does not commence. In other words, apart from reducing the value of land/ UDS in land, a developer may also have an option to claim a deduction to the extent construction was completed at the time of entering into the agreement on the grounds that the service began only after the agreement was entered. Interestingly, such a view would also complicate determination of tax liability under RCM for FSI/ TDR payments since the same provides for payment of tax on a proportionate basis to the extent of area sold after OC.

CONCLUSION
The judicial history of levy of indirect tax has always been litigative, be it under sales tax, VAT or service tax. This litigation has also seen substantial amendments, at times prospective and at times, retrospective. It, therefore, remains to be seen as to what action the Government takes post the current judgment, i.e., whether it challenges it in the Supreme Court or retrospectively amends the valuation rules. One thing is certain, the controversy under real estate is not going to settle soon.

shailesh.kwebmaker

VIRTUAL REALITY

INTRODUCTION

The 21st Century is constantly experiencing disruptions, with the latest one being the emergence of Crypto Trade (Virtual currency). VC (Bitcoin being the first) is based on the modern philosophy of ‘self-empowerment’ rather than operating on a ‘trust-based central bank system’. While there is an environment of uncertainty on the legality of trading in such alternative currencies by individuals on a peer-to-peer basis and by-passing the established banking systems, taxation laws are only concerned with the contractual obligations emerging therefrom. Hence, it is necessary that the tax obligations on such arrangements are ascertained. Pseudo ‘Satoshi Nakamoto’ developed the Bitcoin1 as a chain of encrypted digital signatures, functioning as an electronic coin, with a record of the ownership being placed in a public registry maintained under the distributed ledger technology (DLT/ blockchain).

TYPES OF VIRTUAL CURRENCIES
1. Closed virtual schemes – generally termed as ‘in-game schemes’, these operate only in the virtual world (such as gaming) wherein the participants earn coins and are permitted to use those coins to avail goods or services in the virtual world. These coins are not exchangeable with fiat currency.

2. Uni-directional virtual scheme – virtual currency can be purchased with fiat currency at a specific exchange rate but cannot be exchanged back to the original currency. The conversion conditions are established by the scheme owner (e.g. Facebook credits can be purchased with fiat currency and utilized for services on the Facebook portal)

3. Bi-directional virtual scheme – users can buy and sell virtual money according to exchange rates with their fiat currency. The virtual currency is similar to any other convertible currency with regard to its interoperability with the real world. These schemes provide for the purchase of virtual and real goods or services (e.g. Bitcoins).

LEGALITY VS. ILLEGALITY
This concept is of limited relevance under tax laws, but it may be important in understanding the nature of VC transactions. Though the Finance Minister’s speech2 lauded the development of blockchain technology, it stated that VCs are not legal tender. Hence, measures ought to be taken to eliminate the use of such VCs in illegitimate and illicit activities3. Subsequently, RBI4 enforcing its powers under various laws, through a circular, barred financial institutions from engaging with persons engaged with VC trade. This Circular was challenged in the Apex Court in Internet Mobile & Mobile Association of India5 which finally observed that Governments and money market regulators have come to terms with the reality that VCs are capable of being used as ‘real money’ but they do not have the legal status of money. As an obiter it stated as follows:

“But what an article of merchandise is capable of functioning as, is different from how it is recognized in law to be. It is true that VCs are not recognized as legal tender, as it is true that they are capable of performing some or most of the functions of real currency” …. RBI was also caught in this dilemma. Nothing prevented RBI from adopting a short circuit by notifying VCs under the category of “other similar instruments” indicated in Section 2(h) of FEMA, 1999 which defines ‘currency’ to mean “all currency notes, postal notes, postal orders, money orders, cheques, drafts, travelers’ cheque, letters of credit, bills of exchange and promissory notes, credit cards or such other similar instruments as may be notified by the Reserve Bank.” After all, promissory notes, cheques, bills of exchange etc. are also not exactly currencies but operate as valid discharge (or the creation) of a debt only between 2 persons or peer-to-peer. Therefore, it is not possible to accept the contention of the petitioners that VCs are just goods/ commodities and can never be regarded as real money..
(emphasis supplied)

1 Bitcoin: A Peer-to-Peer Electronic Cash System sourced from
www.bitcoin.org

2 Budget 2018-19

3 Incidentally, the Government is proposing to table “The
Cryptocurrency and Regulation of Official Digital Currency Bill, 2021” to
regulate Crypto trade including banning all private virtual currencies

4 Circular Dt. 05-04-2018 issued under 35A read with Section
36(1)(a) and Section 56 of the Banking Regulation Act, 1949 and Section 45JA
and 45L of the Reserve Bank of India Act, 1934 and Section 10(2) read with Section
18 of the Payment and Settlement Systems Act, 2007

5 WP 528/2018 dt. 04.03.2020

Subsequently, the Court affirms that unregulated VCs could jeopardise the country’s financial system and RBI is within its powers to regulate VCs thereby rejecting the ground that VCs are goods/ commodities not falling within RBI’s purview. In addition, while responding to the challenge under the Payments & Settlement Systems Act, the Court observed the definition of ‘payment system’, ‘payment instruction’ or ‘payment obligation’ and held that RBI has the power to regulate banks with respect to such payment transactions.

VC AS MONEY, GOODS, SERVICES, SECURITIES, ACTIONABLE CLAIM OR VOUCHERS?
The following features thus emerge in a bi-directional VC scenario:

• Clearly not ‘money’ in a legal sense since yet to be recognised as legal tender by RBI.

• Has the characteristics of ‘money’ in economic sense: (a) a medium of exchange; and/or (2) a unit of account; and/or (3) a store of value6.

• No tangible underlying but merely a set of digital signatures and a central DLT registry maintaining a record of ownership.

• Certainly, it falls under RBI’s regulatory powers but is yet to be termed as illegal.

• Digital representation of value.

6 FATF report in June 2014

A) Whether Money?
The meaning of ‘money’ may be different in an ‘economic/social sense’ and ‘legal sense’. There is no doubt that VCs are money based on the characteristic features – medium of exchange, store of value and unit of account. The difficulty arises on account of the definition of money (u/s 2(75)), which is limited to legal tender currency and other recognised instruments recognized by RBI as used as settlement of payments. Interestingly, Service tax law also contained a definition of money (u/s 65B(33)) which seemed to cover all instruments which were used for payments (though not recognised by RBI for such purposes) as money. Therefore, on a comparative basis, the GST law seems to be narrower and unless courts consciously widen the literal wordings, VCs do not seem to be falling within the meaning of money.

B) Whether Goods?
Goods have been defined u/s 2(52) as ‘every kind of movable property’ other than money and securities. It would be appropriate to notice the definition of ‘property’ under the Transfer of Property Act, 1882 (TOPA) – which reads: ‘property’ means general property in goods, and not merely a special property.” The phrase ‘property’ has been consistently interpreted by Courts in a fairly expansive manner and sufficient enough to include any right over which a person can exercise dominion over, thereby including VCs in the present case.

In the context of central excise, the Apex Court in UOI vs. Delhi Cloth & General Mills7 held that goods refer to an article which can ordinarily be bought and sold in the market. In Tata Consultancy Services8, in the context of software, the Court laid down the principles for constituting ‘goods’ – though the tests are not finite, it reasonably covers the ingredients for treatment as goods:

“The term “all materials, articles and commodities” includes both tangible and intangible/incorporeal property which is capable of abstraction, consumption and use and which can be transmitted, transferred, delivered, stored, possessed etc. The software programmes have all these attributes.”

Test	Application to VCs
Abstraction	Capable of being mined by miners
Consumption & Use	Capable of being used for purchase of other goods/ services
Transmitted, Transferred & Delivered	Though ownership of the coin is anonymous, it is capable of being transferred
Stored & possessed	Capable of being possessed in electronic wallet and record of ownership present in DLT which is reported in an electronic wallet

Test

Application to VCs

Abstraction

Capable of being mined by miners

Consumption & Use

Capable of being used for purchase of other
goods/ services

Transmitted, Transferred & Delivered

Though ownership of the coin is anonymous,
it is capable of being transferred

Stored & possessed

Capable of being possessed in electronic
wallet and record of ownership present in DLT which is reported in an
electronic wallet

7 1977 (1) E.L.T. (J 199) (S.C.)

8 2004 (178) E.L.T. 22 (S.C.) – 5 Judge Bench

The above tabulation depicts good grounds for classification of VCs as ‘goods’. Ultimately, Courts are also converging on the proposition that transferrable software is per se in nature of goods. Courts could interpret VCs as being a transferrable code through a system of digital signatures.

A deeper examination of the Customs HSN schedule adopted to fix tax rates should also be tested to support this proposition. On first blush, there does not seem to be any entry depicting a resemblance to VCs. The rate schedule containing residual goods entry (No. 453) specifies that goods classifiable under ‘any chapter’ (HSN) would fall within this entry. While there could always be a debate on the HSN classification most akin to VCs, the settled law on residual entries undeniably places a very large onus on the taxpayer to establish that VCs are even not falling within the residual entry. Since this task is significantly onerous for taxpayers to overcome, it would be reasonable to reconcile that VC’s are goods.

C) Whether Vouchers?
Vouchers u/s 2(118) are also instruments which are acceptable as a consideration in respect of the supply of goods or services. There is a developing debate on whether vouchers by themselves are goods. Be that as it may, the Supreme Court, in IMMA’s decision (supra) recognizes that VCs are a form of settlement of payment obligations and not goods or services (refer to extracts above). RBI was permitted to regulate the payments through VCs as such payments were part of the country’s financial system.

The phrase ‘consideration’ u/s 2(31) refers to any payment made in money or ‘otherwise’ in response to a supply of goods or services. The phrase ‘otherwise’ is significant as it intends to consider forms of payment which is not money. Loyalty points/ vouchers fall within the scope of this phrase. As mentioned above, loyalty points/ air miles are also a form of closed VC usable for the purchase of goods or services under conditions of the issuer. Unidirectional VCs represent entitlements emerging from real money and usable against specified goods or services. The fact that this is not an instrument recognized by RBI (e.g. cheques, drafts, etc.) does not disentitle them from being termed as payment instruments. Applying this analogy, Bidirectional VCs (being inter-operable with fiat currency) may also have a good case of being characterized as vouchers.

D) Whether Securities?
Like money, securities also have a very definite connotation u/s 2(101) of GST law. Section 2(h) of Securities Contracts (Regulation) Act, 1956 adopted for GST, has been defined inclusively to include traditional instruments (such as shares, stocks, bonds, etc.), derivatives of such instruments, units of collective investment schemes and any other instrument recognized by Government as ‘securities’. Securities, in the traditional sense, are means of securing finance and are represented by underlying assets. VCs do not fit this understanding on account of a lack of an underlying asset and any legal recognition as securities.

E) Whether actionable claim?
Section 2(1) of GST law r.w.s 3 of TOPA defines an actionable claim as a claim to any debt (other than a secured debt). Actionable claims are goods under GST law but are specifically excluded from the GST levy under Schedule III. For something to be termed as an actionable claim, there must be an unsecured debt, and one must have a claim of that unsecured debt. In the context of VCs, there does not exist any pre-existing debt between the transferor and the transferee. There is a mutual exchange of virtual currency with fiat currency. Therefore, bi-directional VCs do not seem to fall within the scope of actionable claims. In the case of closed virtual schemes or uni-directional schemes, the entitlement to claim a specific list of goods or services in exchange for the VCs is driven by contractual obligations and does not result in a debt claimable in money and hence may not satisfy the definition of actionable claim.

F) Whether Services?
This ensuing analysis is relevant only on the assumption that VCs are not goods. Services u/s 2(102) refers to anything other than goods, money and securities but includes activities relating to the use of money or its conversion by cash or by any other mode from one form, currency or denomination to another form, currency or denomination. ‘Anything other than goods’ does not solve the issue of whether VCs are services. Services should be understood in its general sense as an activity performed for consideration. The activity could be any value-added activity for which a person is willing to pay the price. The phrase ‘anything other than goods’ is really to prevent an overlap in classification between goods and services (largely prevalent in the legacy laws). Therefore, if one were to contend that VCs are not goods, it does not automatically result in a situation of being covered as services. The fundamental feature of being an ‘activity for consideration’ is still a sine-qua-non for something to be termed as service. Applying this analogy, VCs do not seem to fall within the first part of the definition as a service as understood in the general sense.

It is very plausible for the revenue to state that VCs are not goods, and hence services falling within the definition of ‘Online-information database access and retrieval services’ (OIDAR) which are being performed through an electronic commerce operator. Consequently, such services would be liable to tax in India, and the E-commerce operator ought to impose TCS provisions at the time of exchange of funds. The revenue may also mandate implementation of the TCS provisions even where the exchanged currency is virtual and not in money form leaving the exchange in an absurd valuation position. Overall, the revenue is certainly starting reaching out to exchanges for such imposts.

THE EU PERSPECTIVE
Interestingly, the European Court of Justice ruling in Skatteverket vs. David Hedqvist9, was examining whether transactions to exchange a traditional currency for the ‘Bitcoin’ virtual currency or vice versa were subject to VAT. The opinion of the court was to the effect that:

(i) Bitcoin with bidirectional flow which will be exchanged for traditional currencies in the context of exchange transactions cannot be categorized as tangible property since virtual currency has no purpose other than to be a means of payment.

(ii) VC transactions do not fall within the concept of the supply of goods as they consist of exchange of different means of payment and hence, they constitute supply of services.

(iii) Bitcoin virtual currency being a contractual means of payment could not be regarded as a current account or a deposit account, a payment or a transfer, and unlike debt, cheques and other negotiable instruments, Bitcoin is a direct means of payment between the operators that accept.

(iv) Bitcoin virtual currency is neither a security conferring a property right nor a security of a comparable nature.

(v) The transactions in issue were entitled to exemption from payment of VAT as they fell under the category of transactions involving ‘currency and bank notes and coins used as legal tender’.

(vi) Article 135(1)(e) EU Council VAT Directive 2006/112/EC is applicable to nontraditional currencies i.e., to currencies other than those that are legal tender in one or more countries in so far as those currencies have been accepted by the parties to a transaction as an alternative to traditional currency

9 Case C 264/14 DT. 22.10.2015

Germany is one of the first EU jurisdictions that introduced a definition of ‘crypto assets’ under its financial regulatory law10.

“a digital representation of value which has neither been issued nor guaranteed by a central bank or public body, does not have the legal status of currency or money but,
on the basis of an agreement or actual practice, is accepted by natural or legal persons, as a means of exchange or payment or serves investment purposes and that can be transferred, stored and traded by electronic means.”

Therefore, the EU has taken a stand in the context of their law that VCs are not goods. It falls prey as a ‘service’ but exempted as a form of acceptance of a payment obligation or a means of exchange akin to money and hence per se, not taxable. Whether the framework within which this ruling has been delivered would deliver a persuasive value in the Indian context, is a slippery issue. Hence, the ruling per se should not be considered as having a precedential value in India.

RECENT INCOME TAX AMENDMENTS
Finance Act, 2022 has inserted a new concept termed as ‘virtual digital asset’ which has been defined as follows:

(a) any information or code or number or token (not being Indian currency or any foreign currency), generated through cryptographic means or otherwise, by
whatever name called, providing a digital representation of value which is exchanged with or without consideration, with the promise or representation of having inherent value, or functions as a store of value or a unit of account and includes its use in any financial transaction or investment, but not limited to, investment schemes and can be transferred, stored or traded electronically

10 Sec. 1 (11) sent. 4 of the German Banking Act (KWG)

(b) A Non Fungible Token or any other token of similar nature, by whatever name called

This omnibus definition attempts to tax the investment profit/ gains arising from holding and transferring of crypto/ virtual assets. The Government has specified its intent to treat them as an asset but has failed to narrow down the cases to only bi-directional tokens. Be that as it may, the intent is very clear that until Cryptos are not banned/ regulated, the Government would like to build an information trail and collect the tax revenues therefrom.

Summary
The wide amplitude of the definition of ‘goods’ seems to be a formidable barrier to overcome. Until then, VCs ought to be treated as goods, and an arguable case on it being a voucher for discharge of consideration is worth examining.

APPLICATION OF THE ABOVE UNDERSTANDING
Taking forward the indication that VCs are goods, the incidental matters associated with this legal proposition may also be examined:

Whether one can say the supply of VC’s is in the course of furtherance of business?
One of the essentialities of supply is that the supplier should be engaging in any ‘business’. The definition is wide enough to include any trade, commerce or adventure, even if such activity is infrequent or lacks continuity. Business is otherwise generally understood as a systematic and periodic activity occupying the time of an individual. Trading in crypto is generally not systematic and purely dependent on public news. Cryptos are not purchased for holding or long-term investments but merely for profits in the near term. Moreover, unlike investments / trading in shares or securities performed after research studies, cryptos are clearly more erratic and impulsive trading.

In income tax, the constant argument is that in-frequent activities performed as an investment for capital appreciation from reserve funds indicate that they are ‘capital assets’ rather than stock in trade. CBDT11 has provided tests to examine whether investments in financial securities are for trading or investment purposes. Extending those tests here, VCs are always adopted for capital profit. Rarely has one claimed to be consuming/ trading in VCs for business purposes. Therefore, one may claim they are not chargeable as ‘supply’ u/s 7 of the GST law.

What would be the location of such VC’s for enforcing taxation?
Goods ought to be identified to a particular location for enforcing geographical jurisdiction over the same for taxation. While this concept is abstract, inference may be drawn from other intangibles (IPRs, etc.). As a matter of principle and practice, the owner’s location has been the guiding factor in locating the intangible goods. Therefore, VCs located in electronic wallets (whether in India or outside) should be understood as located at the place where the owner resides. Consequently, resident persons engaging in VC trade (whether indigenous or foreign) would be subjected to the scope of GST in India on account of their presence in India.

Characterization of Import/ Export?
Treating VCs as goods should flow seamlessly into other provisions. But the ‘anonymous’ nature of VCs poses a challenge in identifying the legal movement of such VCs. The buyer and/ or seller are anonymous to each other, and the transfer happens through instructions placed on the electronic wallet. The digital address assigned to a person helps identify the person behind the scenes. In India, stock exchanges have been directed to perform the KYC of the digital wallets holding VCs, and this would help in tracing the movement of goods. The exchanges are the only data source of information on the buyer and seller. The problem expounds when one has to comply with the definition of export /import of goods. The identity of the supplier and recipient is essential to establish this international trade. Exchanges may not be in possession of this data or may not be willing to share this with the VC owner. In the context of importation of goods, the lack of a customs channel/frontier for VCs may make the law in its current form practically impossible to implement for VCs. Therefore, one may have to take a cautious approach in reporting these transactions on the GST portal.

11 INSTRUCTION NO. 1827 dt. 31.08.1989, Circular 6/2016 dt. 29.02.2016 & No 4/2007 dt. 15-06-2007

Whether Input Tax Credit conditions are satisfiable?
Adding to the ambiguity, ITC provisions require the seller of VCs to report the recipient’s identity through its GSTIN. In a typical VC trade through stock exchanges, tax is impossible to be collectible from the end consumer. Tax invoice can only be issued under a B2C category since the transacting parties are only known through digital addresses. Therefore, even if tax is paid at the supplier’s end, the recipient of VCs would not have any proof of tax being paid on such a transaction. Moreover, the ownership in VCs is generally fractional in nature. In such cases, the factum of receipt of VCs would also be difficult to explain, apart from the fact that such fractional ownership is visible on the electronic wallet.

Whether services of converting money to Crypto or vice-versa (crypto-fiat trade) are liable to GST?
Crypto Exchanges provide the services of converting money to Crypto and vice-versa in consideration for a fee (as a percentage, fixed float or a fixed fee). The activity is clearly a service in its general sense and should fall within the wide ambit of ‘service’ u/s 2(102) of GST law. One may minutely examine the inclusive part of the said definition, which is limited only to activities relating to the use of ‘money’ from one form, currency or denomination to another form, currency or denomination. The essential ingredient to fall within the inclusive part of the definition is whether the subject matter of conversion is ‘money’ in some form. VCs, as discussed above, are not ‘money’ and one may probably canvass that since the conversion of money into a VC form is not envisaged herein, even the service activity relating to the conversion activity ought not to be included in the definition. This challenge will face the daunting task of overcoming the means part of the definition, which is wide enough to cover any and all service activity.

Whether services provided by Crypto-exchanges in Crypto-crypto trade are liable to GST?
In such trades, both ends of the transaction are in Cryptos (e.g., Bitcoins to WazirX or viceversa), and there is no conversion into real money. The electronic wallets would, after the trade, have ‘X’ tokens of the BitCoins instead of ‘Y’ tokens of WRX. Applying the same argument as discussed in Crypto-fiat trade, the services relating to the use of VCs for its conversion from one form to another do not find mention in the inclusive part of the definition of services. Nevertheless, the said activity is a service and may find itself to be covered under the primary part of the definition itself and hence taxable.

What is the place of supply of such services conducted by exchanges owned by entities outside India?
Crypto exchanges are in a completely digital format, and hence the location of such exchange is difficult to ascertain. Where the crypto exchanges are established by entities located outside India, the question for consideration is whether they are in the nature of OIDAR or in the nature of intermediary services. OIDAR services are applicable for any digital services which have a minimal human intervention. Crypto exchanges work in a platform which is automated entirely and meets this definition. Similarly, exchange related services which make buyers/sellers meet to effect a trade also fall within the scope of intermediary services. Both these classifications result in diametrically opposite place of supply – OIDAR results in place of recipient with the place of supply while Intermediary results in the place of supplier being the place of supply. In our view, the said services should not fall within the scope of OIDAR (though literal reading suggests otherwise) and should appropriately fall within the scope of Intermediary and hence outside the geographical scope of GST.

CONCLUSION
The emergence of such disruptions is certainly challenging the lawmakers and resulting in ambiguity which cannot be resolved overnight. Governments are indeed in a dilemma on the character to be assigned to these VCs. Even if this is performed, it opens up a pandora’s box when applying the machinery provisions of law drafted for traditional trade. Governments would generally attempt to collect their taxes at the focal point where the transaction takes place – i.e. crypto exchanges rather than reaching out to each trader.

Lawmakers have adopted a pragmatic approach in refraining from pursuing the matter against crypto traders. Crypto exchanges are undeniably rendering services and hence ought to discharge the GST on the transaction services being rendered. Until this cloud of uncertainty looms over the trade, one may want to pay heed to Mr Warren Buffet’s statement – “Cryptocurrencies basically have no value and they don’t produce anything. They don’t reproduce, they can’t mail you a check, they can’t do anything, and what you hope is that somebody else comes along and pays you more money for them later on, but then that person’s got the problem. In terms of value: zero”

shailesh.kwebmaker

BLOCKED CREDITS

The previous articles discussed the various restrictions imposed u/s 17 (5) on input tax credit claims. In this concluding article on blocked credits, we will discuss clauses (b) and (g) of Section 17 (5).

INTRODUCTION
The erstwhile CENVAT Credit Rules, 2004 permitted the claim of credit of tax paid on inputs, input services or capital goods. An inward supply was required to fall within the purview of the said terms, as defined u/r 2 thereof. The definition of inputs and input services provided therein specifically excluded the following goods/ services from being classified as inputs/ input services:

Exclusion from scope of inputs:

Exclusion from scope of input services:

(E) any goods, such as
food items, goods used in a guesthouse, residential colony, club or a
recreation facility and clinical establishment, when such goods are used
primarily for personal use or consumption of any employee; and

(C) such as those
provided in relation to outdoor catering, beauty treatment, health services,
cosmetic and plastic surgery, membership of a club, health and fitness
centre, life insurance, health insurance and travel benefits extended to
employees on vacation such as Leave or Home Travel Concession, when such
services are used primarily for personal use or consumption of any employee.

The above indicates that the legislature’s intention has always been to deny CENVAT credit in respect of such goods or services which have an element of being used primarily for personal use or consumption of any employee. This approach has been inherited under GST as well with two specific clauses – (b) and (g) u/s 17 (5) with clause (b) specifically restricting credit on specified inward supplies, subject to exceptions provided therein (nexus with outward supplies/ obligatory for an employer to provide the facilities) while clause (g) is more in the nature of a use-based restriction, as it restricts input tax credit on goods or services or both, used for personal consumption.

One important distinction in the provisions under the CENVAT regime and GST regime is that under the CENVAT regime, clauses (b) & (g) were under a single entry and therefore, the restrictions complemented each other, i.e., the specified goods/services were not eligible for CENVAT credit when used for personal consumption of an employee. However, under GST, the restriction is split into two different entries. Therefore, items covered under clause (b) shall not be eligible for input tax credit (subject to exceptions), irrespective of whether the same are used for personal consumption or not. However, when it comes to clause (g), there will be a need to identify and demonstrate ‘personal consumption’ first. Once the item is classified as meant for ‘personal consumption’, the input tax credit shall not be allowed, even if is covered within the exceptions under clause (b) or other sub-clauses.

Another distinction that needs to be noted is that under the CENVAT regime, the ineligibility to claim credit was attracted when the goods/ services were used for the personal consumption of the employees. However, under GST, the restriction applies only for personal consumption, which gives rise to the question as to whether it intends to refer to the personal consumption of the taxpayer/ the employees of the taxpayer. In this article, we have analysed both clauses.

CLAUSE (b) – SPECIFIC ITEMS COVERED U/S 17 (5)
Clause (b) is reproduced below for reference:

(5) Notwithstanding anything contained in sub-section (1)
of section 16 and sub- section (1) of section 18, input tax credit shall not be available in respect of the following, namely:—

(a) … …

(b) the following supply of goods or services or both—

(i) food and beverages, outdoor catering, beauty treatment, health services, cosmetic and plastic surgery except where an inward supply of goods or services or both of a particular category is used by a registered person for making an outward taxable supply of the same category of goods or services or both or as an element of a taxable composite or mixed supply;

(ii) membership of a club, health and fitness centre;

(iii) rent-a-cab, life insurance and health insurance except where–

(A) the Government notifies the services which are obligatory for an employer to provide to its employees under any law for the time being in force; or

(B) such inward supply of goods or services or both of a particular category is used by a registered person for making an outward taxable supply of the same category of goods or services or both or as part of a taxable composite or mixed supply; and

(iv) travel benefits extended to employees on vacation such as leave or home travel concession;

AMENDMENT W.E.F 1st FEBRUARY, 2019
The above was amended w.e.f 1st February, 2019 by way of substitution as under:

(b) the following supply of goods or services or both—

(i) food and beverages, outdoor catering, beauty treatment, health services, cosmetic and plastic surgery, leasing, renting or hiring of motor vehicles, vessels or aircraft referred to in clause (a) or clause (aa) except when used for the purposes specified therein, life insurance and health insurance:

Provided that the input tax credit in respect of such goods or services or both shall be available where an inward supply of such goods or services or both is used by a registered person for making an outward taxable supply of the same category of goods or services or both or as an element of a taxable composite or mixed supply;

(ii) membership of a club, health and fitness centre; and

(iii) travel benefits extended to employees on vacation such as leave or home travel concession:

The effect of the above amendment is tabulated below for ease of reference:

Restriction for	Pre-amendment	Post-amendment
Sub-clause (i)
Food & beverages	Restricted subject to condition that the inward supply is used for making an outward supply of same category of goods or services or both, or as a part of a composite or mixed supply	Restricted subject to two conditions: • Inward supply is used for making an outward supply of same category of goods or services or both, or as a part of a composite or mixed supply • Where it is obligatory for an employer to provide such goods or services or both to its’ employees
Outdoor catering
Beauty treatment, health services, cosmetic and plastic surgery
Leasing, renting or hiring of motor vehicles, vessels or aircraft referred to in clause (a) or clause (aa)	–
Life insurance, health insurance	–
Sub-clause (ii)
Membership of a club, health and fitness centre	Blanket restriction	Restricted subject to two conditions: • Inward supply is used for making an outward supply of same category of goods or services or both, or as a part of a composite or mixed supply • Where it is obligatory for an employer to provide such goods or services or both to its’ employees
Sub-clause (iii)
Rent-a-cab	Restricted subject to condition that the inward supply is used for making an outward supply of same category of goods or services or both, or as a part of a composite or mixed supply, OR when obligatory for employer to provide such service to employees	Deleted as shifted to sub-clause (i)
Life insurance and health insurance	Deleted as shifted to sub-clause (i)
Sub-clause (iv)
Travel benefits extended to employees on vacation such as leave or home travel concession	Blanket restriction	Renumbered as sub-clause (iii) and exception provided when it is obligatory on the part of employer to provide such goods or services or both to its’ employees

Restriction for

Pre-amendment

Post-amendment

Sub-clause
(i)

Food & beverages

Restricted subject to condition that the
inward supply is used for making an outward supply of same category of goods
or services or both, or as a part of a composite or mixed supply

Restricted subject to two conditions:

• Inward supply is used for making an
outward supply of same category of goods or services or both, or as a part of
a composite or mixed supply

• Where it is obligatory for an employer to
provide such goods or services or both to its’ employees

Outdoor catering

Beauty treatment,
health services, cosmetic and plastic surgery

Leasing, renting or hiring of motor
vehicles, vessels or aircraft referred to in clause (a) or clause (aa)

–

Life insurance, health insurance

–

Sub-clause
(ii)

Membership of a club, health and fitness
centre

Blanket restriction

Restricted subject to two conditions:

• Inward supply is used for making an
outward supply of same category of goods or services or both, or as a part of
a composite or mixed supply

• Where it is obligatory for an employer to
provide such goods or services or both to its’ employees

Sub-clause
(iii)

Rent-a-cab

Restricted subject to condition that the
inward supply is used for making an outward supply of same category of goods
or services or both, or as a part of a composite or mixed supply,

when obligatory for employer to provide
such service to employees

Deleted as shifted to sub-clause (i)

Life insurance and health insurance

Deleted as shifted to sub-clause (i)

Sub-clause
(iv)

Travel benefits extended to employees on
vacation such as leave or home travel concession

Blanket restriction

Renumbered as sub-clause (iii) and
exception provided when it is obligatory on the part of employer to provide
such goods or services or both to its’ employees

We now proceed to discuss each item covered under clause (b).

FOOD AND BEVERAGES
The first item under clause (b) on which input tax credit is blocked is ‘food and beverages’. In our view, the following points need analysis:

• Whether the restriction would apply on receipt of goods, being food and beverages or even services with an element of food and beverages would be covered?

• What shall be the scope of the terms – ‘food’ and ‘beverages’?

• Whether the ‘and’ need to be read as ‘or’ while interpreting the restriction?

Clause (b), as reproduced above, applies to the supply of goods or services or both, of food and beverages. The first question which needs analysis is whether this restriction has to be applied when the food and beverages are being supplied as standalone goods, or as part of service and therefore, deemed as service in view of entry 6(b) of Schedule II? This is relevant because if it is the former, when food and beverages would be supplied as part of a service, the same would be deemed to be a supply of service and therefore, unless such food or beverages are supplied as a part of a service and specifically mentioned under the restrictive clause, the same would not be an ineligible input tax credit. One reasoning to support this view is that after food and beverages, clause (b) refers to outdoor catering. If the supply of food and beverage as a part of service was supposed to be covered within the first item, i.e., food and beverage, there was perhaps no need to specifically cover outdoor catering under the restriction list.

Per contra, it may be contended that a restaurant also supplies food and beverages, with the only distinction being that the food and beverages are not sold as such but are supplied by way of service. One may rely on the decision in the case of Northern India Caterers’ case [1980 SCR (2) 650] wherein the Hon’ble SC has held as under:

The appellant prepared and served food both to residents in its hotel as well as to casual customers who came to eat in its restaurant, and throughout it maintained that having regard to the nature of the services rendered there was no real difference between the two kind of transactions. In both cases it remained a supply and service of food not amounting to a sale. … … (only relevant extracts).

In other words, even in the case of restaurant service, there is a supply of food and beverage, though the same may not be sold in the restaurant itself owing to it being consumed. Therefore, a strong view prevails that the restriction under food and beverages extends to restaurant services as well.

Food & Beverages – scope

This takes us to the second question, i.e., the scope of the terms – ‘food’ and ‘beverages’ for the purpose of this clause. The general meaning of both the terms is something which is consumed by a person. Generally, food refers to something which can either be in solid/ semi-solid/ liquid stage, while beverages refer to liquid items for consumption. What constitutes food has been dealt with by the Hon’ble SC in the case of Swastik Udyog vs. Commissioner [2006 (198) ELT 485 (SC)] wherein the Hon’ble SC held that food is a substance which is taken into the body to maintain life and growth. Similarly, in the context of beverages, in the case of Hamdard (Wakf) Laboratories [1999 (113) ELT 20 (SC)], the SC has held as under:

5. Beverages, broadly speaking are liquids for drinking, other than water, which may be consumed neat or after dilution.

This takes us to the first issue, i.e., whether preparatory items used to cook such food and beverages can be treated as food/ beverages per se or not? For instance, whether coffee beans/powder used to make coffee can be treated as an item classifiable as ‘food’ or ‘beverage’ and therefore, input tax credit on the same is blocked? For instance, while dealing with the question of whether Rasna powder, which is used for preparing a beverage, can itself be treated as a beverage or is it a mere preparatory material to make the beverage? In the case of P. Sukumaran [(1989) 74 STC 185], the Delhi HC held that Rasna is only a concentrate and not a liquid. Therefore, it would not come within the ambit of the expression ‘beverage’. However, while dealing with the classification of Rooh Afza, the Hon’ble SC in the case of Hamdard (Wakf) Laboratories held as under:

7. The Tribunal would also appear to have concluded that the said sharbat was not a beverage but a preparation for the same. The fact that three table spoonfuls of the said sharbat have to be added to a glass of water to make it drinkable does not, in our view, make the said sharbat not a beverage but a preparation for a beverage. Were that so, many beverages which are classified as such, as for example, tea, coffee, orange squash and lemon squash would not be beverages. (See, for example, paragraph 5 of this Court’s judgment in the case of Parle Exports P.Ltd. [1988 (38) E.L.T. 741 (S.C.) = 1989 (1) SCC 345] and paragraph 12 et seq of the Tribunal’s judgment in the case of Northland Industries [1988 (37) E.L.T. 229]. It seems to us that the phrase `preparations for lemonades or other beverages’ in clause (j) of Note 5 of Chapter 21 was intended to refer to the industrial concentrates from which aerated waters and similar drinks are mass produced and not to preparations for domestic use like the said sharbat.

Of course, both the products are different in nature. While Rasna powder cannot be consumed as such, Rooh Afza can be consumed, as held by the Hon’ble Court, without mixing with any other liquid. However, a prudent view would be to not only treat such items which can be consumed directly as ‘food’ or ‘beverage’, but also such items, which with minimal process would result in the ‘food’ or ‘beverage’ being prepared, for instance, ready to eat meals, such as Maggi, soups, etc., Infact, such items were also referred to under the Central Excise Tariff as ‘food preparations’. Not doing so may defeat the intention of the legislature, which is to deny input tax credit on items that are meant for personal consumption.

‘And’ vs. ‘Or’

This takes us to the next question as to whether while analysing the first item, i.e., ‘food and beverages’, the ‘and’ needs to be read ‘as is’ or as ‘or’. In this regard, one may refer to the decision in the case of Kamta Prasad Aggarwal vs. Executive Engineer, Ballabhgarh [1974 (4) SCC 440] wherein the Hon’ble SC held that depending upon the context, ‘or’ may be read as ‘and’ but the Court would not do it unless it is so obliged because ‘or’ does not generally mean ‘and’ and ‘and’ does not generally mean ‘or’. In other words, the context needs to be looked into while determining if ‘and’ can be read as ‘or’.

In this regard, let us look into the intention of the legislature to understand the context behind the entry. The purpose of this entry is to restrict credit, i.e., deny a benefit to the taxpayer. In such a scenario, reading ‘and’ as ‘and’ instead of ‘or’ would deny the purpose of the entry. This is because the ‘and’ would necessitate both ‘food’ and ‘beverages’ to be present in a supply. This would mean the existence of two different supplies, one of food and another of beverage. However, such a situation would be theoretically impossible since both the supplies would be taxed independently as GST is a transaction-based tax and therefore, there cannot be a scenario where food and beverage are being supplied under a single contract. On the other hand, if the ‘and’ is read as ‘or’, the scope of the restriction entry would drastically expand, as the likelihood of a person receiving only food or only beverages in a single supply is higher. One may also refer to the service tariff entry, which also refers to the tax rate on supply of food and beverage. If the ‘and’ is read as ‘and’, the rate notification itself would also fail.

Lastly, it is an industry practice to refer to any person dealing in the food or beverage industry as a part of Food & Beverage Industry.

OUTDOOR CATERING
This takes us to the next restriction for outdoor catering. The first question that comes into mind is the need for specifically referring to ‘outdoor catering’ under clause (b), especially when food & beverages are also restricted in the same clause. The only probable reason is that outdoor catering is a wider activity as compared to the mere supply of food and beverages. This aspect has been dealt with by the Hon’ble SC in the Tamil Nadu Kalyana Mandapam Associations vs. UOI [2006 (3) STR 260 (SC)] wherein the Hon’ble SC held as under:

55. … … …

Similarly the services rendered by out door caterers is clearly distinguishable from the service rendered in a restaurant or hotel inasmuch as, in the case of outdoor catering service the food/eatables/drinks are the choice of the person who partakes the services. He is free to choose the kind, quantum and manner in which the food is to be served. But in the case of restaurant, the customer’s choice of foods is limited to the menu card. Again in the case of outdoor catering, customer is at liberty to choose the time and place where the food is to be served. In the case of an outdoor caterer, the customer negotiates each element of the catering service, including the price to be paid to the caterer. Outdoor catering has an element of personalized service provided to the customer. Clearly the service element is more weighty, visible and predominant in the case of outdoor catering. It cannot be considered as a case of sale of food and drink as in restaurant. … …

BEAUTY TREATMENT, HEALTH SERVICES, COSMETIC AND PLASTIC SURGERY
This restriction is directly borrowed from the definition of input services u/r 2 (l) of CENVAT Credit Rules, 2004. While what is meant by the above terms has not been defined under GST, the same were defined under the Finance Act, 1994, and it would therefore be appropriate to refer to the definitions provided therein to understand what may and may not get covered within it:

• ‘beauty treatment’ includes hair cutting, hair dyeing, hair dressing, face and beauty treatment, cosmetic treatment, manicure, pedicure or counselling services on beauty, face care or make-up or such other similar services.

• ‘health and fitness service’ means service for physical well-being such as, sauna and steam bath, Turkish bath, solarium, spa, reducing or slimming salons, gymnasiums, yoga, meditation, massage (excluding therapeutic massage) or any other like service.

• ‘any service provided or to be provided to any person, by any other person, in relation to cosmetic surgery or plastic surgery, but does not include any surgery undertaken to restore or reconstruct anatomy or functions of body affected due to congenital defects, developmental abnormalities, degenerative diseases, injury or trauma’.

As can be seen, the above terms actually refer to services that are personal in nature. However, clause (b) specifically does not restrict that the said services should only be used for personal consumption. Rather it imposes a general restriction with an exception where such supplies are used by a registered person for making an outward taxable supply of the same category of goods or services or both or as an element of a taxable composite or mixed supply. In other words, either there is a direct nexus where the registered person supplies the same class of service, or such registered person is engaged in making a composite or mixed supply, i.e., more than one supply with one of the supplies being either beauty treatment, health services or cosmetic and plastic surgery.

This necessitates the need to understand the meaning of the terms ‘composite supply’ or “mixed supply”. The relevant definitions are reproduced below for reference:

(30) ‘Composite supply’ means a supply made by a taxable person to a
recipient consisting of two or more
taxable supplies of goods or services or both, or any combination thereof, which
are naturally bundled and supplied in conjunction with each other in the
ordinary course of business, one of which is a principal supply;

(74) ‘Mixed supply’ means two or more
individual supplies of goods or services, or any combination thereof,
made in conjunction with each other by a taxable person for a single price
where such supply does not constitute a composite supply.

Both the above terms indicate that there must exist more than one supply of goods or services or both being made in conjunction with each other. Therefore, it becomes necessary to understand what is meant by the phrase “two or more taxable supply of goods or services or both, supplied in conjunction with each other” for the purpose of this entry. Let us understand this with the help of an example. A company organizes a 4-day residential training course in a 5-star hotel charging a lump sum fee of Rs. 1,00,000 plus GST per participant. The same includes, apart from training charges, charges towards participants stay, food & beverage, travel arrangements (including hiring vehicles for airport/ railway station pick-up/ drop), one-time spa coupon, etc.,

There are more than two supplies involved in this case, such as training service, F&B, rent-a-cab services, health and fitness centre, etc. In this case, it can be said that there are two or more taxable supplies involved as the recipient of supply actually receives/consumes the said supplies. Therefore, the supplier will be eligible to claim input tax credit even of such specified items, as they are used for making a taxable supply of goods or services or both. It is imperative to note that each of the activities undertaken for the recipient is taxable in nature, and the same is undertaken in conjunction with each other while providing the main service of training.

However, even the above example can have some twists. If out of 100 participants, 70 participants have paid for the course, 20 are free participants, and 10 are employees of the organizer who also attend the seminar, the eligibility to claim input tax credit gets a bit changed. Free participants would imply no taxable supply as there is no consideration, and therefore, tax is not leviable. Since there is no taxable supply involved, the question of the inward supplies being used to make a composite or mixed supply does not arise and therefore, eligibility to claim input tax credit to the extent of 20 participants would be an issue. The same treatment would apply even when own employees are attending the course or organizing team members avail the same service. To the extent own employees are attending the course for free/employees of the team organizing the course are also using the said facilities, it cannot be said that the same is used for making an outward taxable supply and therefore, the input tax credit to that extent would not be eligible.

Similarly, there can be instances where though there are various activities undertaken by the supplier, the question of composite/mixed supply does not arise. For instance,

• A film producer undertaking production of a film has entered into an agreement for a lock-stock-barrel transfer of all rights in the movie, once the shooting is completed. GST is paid at the applicable rates on the outward supply, i.e., transfer of copyrights. In the course of shooting, the film producer incurs the expense of beauticians for the acting crew. The beauticians’ levy GST on their service charges. Can it be said that the film producer has actually further supplied the said service of beauticians to the distributor along with the main supply, i.e., transfer of copyrights or there is a single supply only, and therefore the question of mixed and composite supply does not arise?

• Similar example applies in the context of news channel/entertainment channel where the service provided is the sale of advertising slots. However, in order to create the content/ news broadcasting, expenses of beauty parlour are incurred, and GST is paid on the same. The same would also be covered under the blocked credit list,
and input tax credit would not be eligible on the same as well.

• Another example would be of an actor/ actress who has undergone cosmetic surgery with the intention of getting a new assignment and paid GST on the charges levied by the Doctor. Can the actor/actress claim input tax credit on the grounds that the services are used as a part of a composite / mixed supply? The answer to this is apparently negative.

We may also need to look into a scenario where the service recipient arranges for the material used in the delivery of the above service, and the supplier of service merely performs the said service. The question then remains whether the recipient can claim the input tax credit of GST paid on materials. Is a view possible that the restriction of beauty treatment, health services, cosmetic and plastic surgery is to be read in the context of the supply of services only? Such a view is possible for the simple reason that all the three terms refer to an activity done on another person, i.e., a service. However, such a view is likely to be litigative since the Revenue is going to interpret it strictly, and any expense which has a distant relation to the above items would be treated as blocked credits only.

MEMBERSHIP OF A CLUB, HEALTH AND FITNESS CENTRE
A plain reading of the entry would indicate that the restriction applies to membership of a club or membership of a health and fitness centre. This would mean that the restriction applies when there is an inward supply of service and not goods. This implies that if a taxable person has set up a health and fitness centre within his Place of Business and procures various equipment, the same would not get covered within the purview of health and fitness centre service and therefore, restriction might not apply. One may refer to the decision in the case of ITC Ltd. vs. Commissioner [2018 (12) GSTL 182 (Tri. – Kol.)] wherein the Hon’ble Tribunal had allowed the credit in respect of health and fitness centre opened in the premises of the taxpayer for the benefit of the employees. Similarly, if certain services are received with respect to such a centre, the restriction would not apply as the same applies only for membership services of a club or a health and fitness centre.

Let us first analyse the restriction w.r.t membership of a club. The term ‘club’ has not been defined under GST. However, the term ‘club or association’ was defined under service tax vide section 65 (25aa) as under:

“club or association” means any person or body of persons providing services, facilities or advantages, primarily to its members, for a subscription or any other amount, but does not include —

(i) any body established or constituted by or under any law for the time being in force; or

(ii) any person or body of persons engaged in the activities of trade unions, promotion of agriculture, horticulture or animal husbandry; or

(iii) any person or body of persons engaged in any activity having objectives which are in the nature of public service and are of a charitable, religious or political nature; or

(iv) any person or body of persons associated with press or media;

From the above, it is apparent that under the service tax regime also, the levy of service tax was on club or association service, but the claim of credit was restricted only to the extent of membership of a club. It, therefore, becomes necessary to understand the distinguishing factor between clubs and associations.

In layman’s terms, a club may be a for-profit/non-profit organization established with the end objective to provide various facilities to its’ members. A club can be in the form of a members’ club, such as CCI, Bombay Gymkhana, etc., or even non-member clubs, such as Club Mahindra, Country Club, etc. Such clubs offer services which are purely personal in nature and meant for consumption of the member. In the context of membership clubs providing services that are personal in nature/ meant for personal consumption, there has been substantial litigation on the same under the CENVAT regime before the amendment of the definition of input services, specifically excluding the same from its’ scope. In Racold Thermo Ltd. vs. Commissioner [2016 (42) STR 332 (Tri. – Mum.)], the Hon’ble Tribunal had allowed the CENVAT credit on annual club membership, concluding that the same was used to promote sales and purchase activity by attending to clients and holding conferences. On the contrary, for periods after 1st April, 2011, the Tribunal has consistently denied the CENVAT credit on club membership services [Cenza Technologies Pvt. Ltd. – 2017 (4) GSTL 150 (Tri. – Che.) and Marathon Electric India Pvt. Ltd. – 2016 (45) STR 253 (Tri. – Hyd.)].

On the other hand, an association is an organization, generally non-profit, established with the end objective of the collective benefit of members. Some examples of an association can be:

• a co-operative housing society which is an association of members/ owners of houses who have come together with the objective of benefiting the members by maintaining the building/ complex and its’ facilities.

• Trade associations, such as CII, NASSCOM, etc., are associations where industry participants join hands with a stated objective of representing the industry before various forums, working towards the welfare of the members, etc.

• Recently, a new organization called BNI has started its’ Chapters across various cities. It is nothing but a networking organization where different businesses can take annual memberships and get a chance to showcase their business offerings at the periodic meetings organized by the Chapter. The members can also transact between them through the BNI network, which is advertised as one of the key benefits of joining the BNI network.

As such, it can be said that a club is an organization that provides services personal in nature/ meant for personal consumption and not for the general welfare of all members. On the other hand, an association works towards the general cause for the benefit of all members with no element of personal nature/ personal consumption being involved. This aspect has also been recognized under the CENVAT regime wherein in the case of BCH Electric Ltd. vs. Commissioner [2013 (31) STR 68 (Tri. – Del.)], the Tribunal had allowed the CENVAT credit of service tax paid on membership fees of IEEMA, an association of engineering products manufacturers. Even after the amendment in 2011, in Commissioner vs. Zensar Technologies Ltd. [2016 (42) STR 570 (Tri. – Mum.)], the Tribunal had allowed the CENVAT credit on service tax paid on membership fees of CII. In essence, though there is no specific exclusion for membership services provided by professional associations, the same should not be covered under the blocked credit entry.

It should also be kept in mind that while under the pre-amendment regime, there was no exception provided for claiming input tax credit on such supplies, post-amendment, exception is provided when it is obligatory on the part of the employer under any law, for the time being in force, to arrange for such facilities for his employees.

RENT-A-CAB
This restriction has been discussed in detail in the previous article [BCAJ, March 2022], dealing with the restriction under clauses (a), (aa) & (ab) of Section 17 (5). Readers may kindly refer to the same.

LIFE AND HEALTH INSURANCE
The terms ‘life insurance’/ ‘health insurance’ has not been defined under the GST law. The general interpretation would be that policy instruments titled life insurance/health insurance shall be covered by the restriction provided u/s 17 (5) (b). However, when a business takes a life insurance/health insurance, it is generally for their employees, and at times because it is mandatory on such business to extend the insurance cover to the employees.

However, there are different types of policies that an employer takes for his employees. For instance, the Workmen Compensation Insurance Policy taken for construction workers to meet mandatory labour laws. In such policies, it is actually the employer who gets insured and not the employees, as it safeguards the employer in case of any untoward accident resulting in injury to the employee. It is an insurance policy where the risks of the employer are subsumed by the insurance company. In the context of such policies, the Hon’ble Karnataka HC in the case of Ganesan Builders Ltd. vs. CST, Chennai [2019 (20) GSTL 39 (Mad.)] had held that the CENVAT credit was allowable as the insurance policy was employer-specific and not employee-specific. This was despite the fact that the definition of input service did not provide any exception to cases where it was obligatory to provide insurance facilities to their employees. Also, under the CCR, 2004, the exclusion applied only when the said services were used for personal consumption of the employee, w.r.t which the HC has held to the contrary.

Of course, the restriction applies only to specific insurance policies and not for other policies such as travel insurance, fire insurance, etc., on which the input tax credit will be allowed.

TRAVEL BENEFITS EXTENDED TO EMPLOYEES ON VACATION
At times, employers themselves arrange for vacation travel of employees and their family members by booking them for a travel package or reimbursing the cost of travel. In such cases, the benefit of the input tax credit is specifically restricted subject to the exception that it is obligatory on the employer’s part to provide such facilities to the employee.

However, there are also other instances where an employer extends travel benefits to the employees, such as:

• Relocation – An employee working in one location may be transferred to another location, and the employer might arrange for travel of the employee/ his family members as well as transportation of their belongings.

• Joining – This is similar to relocation, with the only difference being that this occurs when a company hires an employee belonging to another city. As a joining incentive, the company arranges/bears the cost of relocation.

• Training – An employer might arrange for the employee to undergo certain training which necessitates the employee to travel to a different city/ country, and the cost incurred during such travel for training is borne by the employer.

• Marketing – In the course of employment, an employee might be required to travel extensively, especially when involved in a sales/ marketing role. The entire travel expenses are borne by the employer. In Ramco Cements Ltd. vs. Commissioner [2017 (5) GSTL 105 (Tri. – Che.)], the Tribunal has allowed the CENVAT credit of tax paid on air travel agency services /tour operator services used to book tickets for travel of employees for marketing/business promotion. In Netcracker Technologies Solutions India Private Limited vs. Chief Commissioner [2017 (4) GSTL 10 (Tri. – Hyd.)], the Tribunal had held that travel insurance of employees for business travel was eligible for CENVAT credit.

Though the above are in the nature of travel benefits, they cannot be categorized as being extended to employees on vacation. Therefore, the restriction to claim input tax credit cannot be extended to the above.

CLAUSE (g) – GOODS OR SERVICES OR BOTH USED FOR PERSONAL CONSUMPTION
This takes us to clause (g), which restricts the claim of an input tax credit on goods or services or both used for personal consumption. For the purpose of this clause, the scope of the term ‘personal consumption’ needs to be analysed.

Neither the term ‘personal consumption’ nor ‘personal’ has been defined under GST. Therefore, we need to refer to the dictionary meaning to understand the scope of the term ‘personal’. The Oxford Dictionary refers to ‘personal’ as “your own; not belonging to or connected with anyone else”.

At this juncture, we should also refer to section 37 (1) of the Income-tax Act, which specifically prohibits the claim of expenses that are personal in nature. While analysing the scope of section 37 (1), in the case of Galgotia Publications Private Limited vs. ACIT [ITA No. 1857/Del/2015], the Hon’ble Tribunal has held that there cannot be a nature of personal expenses when the assessee is a company, an entity recognized by law as a legal person and existing independently with its’ own rights & liabilities. Therefore, no element of personal expenses by Directors/ Office bearers can be attributed unless there is sufficient documentary evidence in support.

The above indicates that while interpreting the term ‘personal consumption’, it has to be referred to as the consumption of the taxable person in the context of whom the eligibility to claim input tax credit needs to be looked into. Owing to the decision of the ITAT, even expenses incurred for Key Managerial Personnel, i.e., directors, office bearers, etc., may be covered within the scope of personal expenses/ consumption. The question that therefore remains is if any expenses are incurred for the welfare of the employees and not covered under any other clauses of section 17 (5), whether the same would be hit by clause (g) or not?

For instance, a Mumbai based company has hired a new employee who will be relocating to Mumbai along with his family. As a facilitation measure, the company arranges for the travel of the employee and his family members and the transportation of their belongings to Mumbai. The company also arranges for temporary accommodation in a hotel for ten days to assist the employee in settling. The company also pays brokerage to a real estate agent for helping the employee find permanent accommodation. None of the expenses incurred by the employer in the above activities is specifically covered under any of the clauses of section 17 (5) – except perhaps the F&B expenses incurred during hotel stay for ten days.

The question that remains is whether this can be treated as a personal expense of the employer as it is consumed by the employee? It is important to note that such expense is allowable u/s 37 (1) as business expenses as this is nothing but personnel expenses, i.e., the expense incurred for the staff. However, the Bombay HC has, in the case of Commissioner vs. Manikgarh Cement [2010 (20) STR 456 (Bom.)] held that mere allowability of expense under income tax cannot be a yardstick to determine eligibility to claim the credit. A nexus between the input/input service has to be established with the business activity of the taxpayer in order to demonstrate eligibility to claim the credit.

While a strong view to suggest that such expenses are not covered u/s 17 (5) (g) would prevail, it is also important to note that the Authority for Advance Ruling (AAR) has held to the contrary. For instance, in Chennai Port Trust’s case [2019 (28) GSTL 600 (AAR-GST)], the Authority has held that input tax credit on expenses incurred (procurement of inputs/ capital goods/ services) for in-house hospital is for personal consumption of the employees and therefore covered u/s 17 (5) (g).

The entry can also be analysed from a different perspective, especially in the context of goods. Let us take an example of a company having constructed a housing colony for its’ employees. The company also acquires various household equipment, which are installed at each of the houses in the colony. As per entry 4 (b) of Schedule II, where, by or under the direction of a person carrying on a business, goods held or used for the purposes of the business are put to any private use or are used, or made available to any person for use, for any purpose other than a purpose of the business, the usage or making available of such goods is a supply of services. In other words, a view can be taken that the act of making available the goods at the houses in the housing colony for the personal use of employees is actually a supply of service, and therefore, the corresponding input tax credit cannot be denied. Of course, there would be implications on the same from an output liability perspective, in view of entry 2 of Schedule I.

The scope of clause (g), therefore, appears to be controversial, especially till the term ‘personal consumption’ is not defined/ analysed by the Judiciary to provide more clarity.

CONCLUSION
Be it Direct Taxes or Indirect Taxes, when it comes to allowing the benefit of expenses/tax paid on expenses where there is an element of personal nature, the legislature’s intention has always been to deny the same. The same is further implemented by overzealous tax officers who do not miss any opportunity to label a particular expense as being personal in nature and deny the benefit. Therefore, taxpayers always need to be very careful when claiming input tax credit in respect of goods or services where there is an element of ‘personal’ consumption prevailing. Clauses (b) and (g), both revolve around this mindset of the legislature, and therefore, the taxpayers need to tread cautiously when analysing the same.

shailesh.kwebmaker

CREDIT BLOCKADES FOR CONVEYANCES

INTRODUCTION

Global economies have banked on tax collections from the Mobility Industry, which has inevitably placed them at the higher end of the tax spectrum. In a VAT chain, taxes collected would be retained by Governments only when the input tax credit is blocked to the subsequent users. Socialist economies have always viewed motor vehicles as ‘luxury’, making the industry a soft target for tax collections. In addition, administrators are aware of the likely diversion of automobiles for personal use even though business enterprises own them. These ideologies have directed stringent tax provisions for motor vehicles and conveyances.

LEGISLATIVE HISTORY

Credit in respect of motor vehicles was blocked during the CENVAT regime. Motor vehicles were excluded from the definition of ‘inputs’ irrespective of the purpose for which they were used. As ‘capital goods’, credit was originally permitted to service providers only in limited cases – (a) tour operators, (b) courier agencies, (c) cab-rent operators, (d) outdoor caterers, (e) goods transporters, and (f) pandal or shamiana operators. In 2010, this list was extended to dumpers and tippers (registered in the name of service provider) used for site formation or mining activities. Components, spares, and accessories for the above listed motor vehicles were considered as permitted credits. In 2012, with the shift from a ‘positive list’ service taxation to a ‘negative list’ taxation, the entire provision was substituted by permitting credits on the basis of end-use (i.e. service description to which the said vehicles were put to use), delinking them from category-based eligibility. In addition, credit was permitted to manufacturers in respect of all motor vehicles, except the following HSNs:

8702

MOTOR
VEHICLES FOR THE TRANSPORT OF TEN OR MORE PERSONS

8703

MOTOR
CARS AND OTHER MOTOR VEHICLES PRINCIPALLY DESIGNED FOR THE TRANSPORT OF
PERSONS (OTHER THAN THOSE OF HEADING 8702), INCLUDING STATION WAGONS AND
RACING CARS

8704

MOTOR
VEHICLES FOR THE TRANSPORT OF GOODS

8711

MOTORCYCLES
(INCLUDING MOPEDS) AND CYCLES FITTED WITH AN AUXILIARY MOTOR, WITH OR WITHOUT
SIDE-CARS

In effect, goods carriers (i.e. dumpers and tippers), special purpose motor vehicles (such as Tractors, Crane Lorries, Concrete-Mixers lorries, Work Trucks, etc.) were permitted as ‘Capital Goods’ credit for manufacturers. This position continued until the sub summation of the Central Excise provisions. Some important observations emerging here are as follows:

(a) There has been a constant progression in granting credit to motor vehicles which have been directly used for value-added activity either by a manufacturer or a service provider.

(b) Passenger vehicles were blocked credits except where they were used as commercial passenger vehicles.

(c) HSN was adopted for describing the nature of motor vehicles that are eligible/ ineligible for CENVAT credit. Even if the ‘principal design’ of the vehicle met the description, credits were permissible.

(d) Under the HSN system, Motor-cycles were a distinct category from Motor-Vehicles.

(e) Use Test was not prominently visible in the provisions, and the reliance on HSN classification contained a presumption that the actual use and registered use were the same.

On the other hand, VAT laws permitted credits only if the goods were either re-sold or used as a direct input in manufacturing activity. In all other cases, Motor vehicles and conveyances were treated as ‘non-creditable goods’.

LEGAL CONTEXT – ORIGINAL LAW

Originally enacted section 17(5) blocked credit in respect of motor vehicles and conveyances (‘blocked conveyances’) except when they were used for making specified supplies (collectively referred to as ‘credit qualifying supplies’):

a) supply of such motor vehicles or conveyances

b) transportation of passengers

c) imparting training of such conveyances

In addition, such conveyances were eligible for credit when used for transportation of goods either on own account or as part of any supply (‘qualifying use’). The law was silent on the admissibility of input tax credit on ancillary costs (such as insurance, repair, maintenance, etc.) incurred in respect of such blocked conveyances.

2019 AMENDMENT
In 2018 (w.e.f. 1st February, 2019) the provisions were substituted resulting in the following:

(a) Blocked conveyances list was narrowed to passenger motor vehicles (below 13 capacity), vessels and aircraft. Other modes of conveyances were removed from the blocked list.

(b) Passenger motor vehicles and vessels/ aircraft fell under differently worded provisions.

(c) Clause specifying ‘qualifying use’ for motor vehicles was deleted and merged into the ‘blocked conveyances’ clause – in effect qualifying the nature of the motor vehicles itself rather than specifying a separate qualifying use test.

(d) Credit in respect of the ancillary services (such as insurance, repair and maintenance) were specifically blocked in respect of ‘blocked conveyances’ except when such blocked conveyances were used for credit qualifying supplies.

(e) Credit was made available to manufacturer or insurers of such blocked conveyances as long as they are in the business relatable to such blocked conveyances.

Summary of the eligibility matrix on account of the amendment would be tabulated as follows:

Criteria

Pre-2019 – All Conveyances

Post 2019 – Motor Vehicles

Post 2019 – Aircraft and Vessels

Blocked Conveyances

All motor vehicles & conveyances

Motor vehicles for transportation of passengers

Vessels and Aircraft

Credit Qualifying Supplies

Identical

Qualifying Use

Transportation of Goods

Merged in 1^st criteria

Transportation of Goods

With the amendment in 2019, the use test for motor vehicles has been merged into the Conveyance Test, while the original provisions have been retained for aircraft and vessels (refer subsequent analysis).

INTER-PLAY – USED VS. INTENDED TO BE USED
Section 16(1) grants input tax credit on all inward supplies based on two entry points (a) use or (b) intention of use. Section 17(5) operates as an exception to the general rule of grant of credit and uses the phrase ‘used’ while enabling credit based on the ‘onward supply test’. Is the overriding nature of 17(5) coupled with the absence of the phrase ‘intention of use’ having an impact on credit eligibility of goods used for onward supply?

Section 17(5) expresses that credit in respect of blocked conveyances (say motor vehicles) would be denied. This first level denial is absolute, implying that all blocked conveyances are ineligible for input tax credit – let’s call it a blanket ban. Having placed a banket ban on blocked conveyances, the law now states that it shall permit a narrow escape route when such blocked conveyances are ‘used’ for credit qualifying supplies. Consequently, while a taxable person may have availed credit of blocked conveyances on ‘use’ or even ‘intention of use’, the only escape route to retain the credit is after establishing that such blocked conveyances have been ‘used’ for credit qualifying supplies. This format of the provisions places a larger onus on the taxable person claiming credit on blocked conveyances. However, this stringent test does not appear to be applicable to non-specified conveyances (such as goods vehicles) not featuring as blocked conveyances. Therefore, while goods vehicles are permitted for input tax credit on mere ‘intention of use’ of such vehicles, passenger vehicles may have to undergo the rigour of whether they have been ‘used’ for the specified purpose.

Some may call this interpretation as hyper-technical and defeating the purpose of granting credit at the time of purchase and deferring it until the goods are actually used. No doubt this interpretation appears to be onerous on the taxpayer, and one would weigh the precedents on this. At this juncture, one may recall the decision of the Supreme Court in BPL Display Devices Ltd. vs. CCE1 where it was held that the exemption which was dependent on usage goods should also be interpreted to include intention of use. Despite the goods being lost in transit, the courts granted the benefit of exemption on the basis that use included intention of use. While this decision is attractive to apply, one may also have to consider the context of section 16(1) r/w 17(5). A reasonable interpretation to resolve this deadlock would be to hold that blocked conveyances which are worded under over-riding provisions would not be eligible for input tax credit. Credit would be permitted only on they been used for permitted purposes. Though this test is narrow in comparison to the wide scope of section 16(1), the effect of this test is only to place the onus on the taxpayer to establish the usage when called upon to do so. This test should not be interpreted as a pre-condition to availment of the credit itself. This fine inter-play of words can be framed into a three-layer water-fall test.

3-LAYER WATER-FALL TEST

_______________________________________________________________________________________________________________________________________________

1 2004
(174) E.L.T. 5 (S.C.)

ANALYSIS OF 17(5)(a) – CONVEYANCE TEST
Conveyance test blocks input tax credit on motor vehicles for transportation of persons having approved seating capacity of not more than thirteen persons. The phrase ‘motor vehicles for transportation of persons’ has not been enlisted anywhere. One may examine the HSN tariff entry for the inclusions/ exclusions to the phrase ‘motor vehicles for transportation of persons’. Vehicles specified in HSN 8702 and 8703 appear to be part of ‘motor vehicles for transportation of persons’. Tractors (8701), Motor Vehicles for transport of goods (8704), Special purpose motor vehicles (8705), Motorcycles (8711), etc appear to fall outside the scope of the said phrase.

Alternatively, motor vehicles can also be understood from the Motor Vehicles Act, 1988, which defines ‘motor vehicles’ as follows:

“(28) “motor vehicle” or “vehicle” means any mechanically propelled vehicle adapted for use upon roads whether the power of propulsion is transmitted thereto from an external or internal source and includes a chassis to which a body has not been attached and a trailer; but does not include a vehicle running upon fixed rails or a vehicle of a special type adapted for use only in a factory or in any other enclosed premises or a vehicle having less than four wheels fitted with engine capacity of not exceeding twenty-five cubic centimeters”

The said definition brings within its ambit any motor vehicle (including tractors, cranes, special purpose motor vehicles, motorcycles, etc) used upon roads and includes chassis or trailers. The coverage of the term under the Motor Vehicle Act, 1988 is wider than the scope envisaged under the HSN schedule, and this may pose some interpretational issues between the taxpayer and the revenue. The HSN schedule appears to be more proximate and contextual reference for understanding ‘motor vehicles for passengers’ on account of its framework and listing based on (a) seating capacity (of thirteen persons) (b) principal design of motor vehicles, and (c) their probable usage. Further, historical background of CENVAT provisions also suggests such a reference.

ANALYSIS OF 17(5)(aa) – CONVEYANCE TEST
Clause (aa) applies to vessels and aircraft when used for further supply of such vessels and aircraft or imparting training of such vessels and aircraft. One of the key effects of the 2019 amendment was that aircraft and vessels were carved out from the motor vehicles provisions and drawn up separately. While fresh provisions were drafted for motor vehicles, aircraft and vessels continued under the pre-amendment wordings. On a close comparative analysis, one could narrow down the difference to the qualification on the ‘nature of the conveyance’. For motor vehicles, the law makers have qualified the conveyance based on the purpose of use (i.e. passenger motor vehicles v/s goods motor vehicles) but for aircraft/ vessels, no such qualification has been made. A separate use test has been prescribed for eligibility of input tax credit on aircraft and vessels based on whether they have been used for the transportation of goods.

DE-JURE USE VS. DE-FACTO USE
This directs us to derive the rationale for distinct provisions for motor vehicles and for aircraft/ vessels. One may consider the ‘de-jure use’ (as per principal design and transport office records) or ‘de-facto use’ (actual use) as a reconciliation of the variance. In the case of motor vehicles, there are instances when passenger vehicles are modified with additional functions or features, though they are legally registered as passenger vehicles (refer vanity van case study below). The question arises whether the vehicles used beyond their registered use are permissible for credit as they are not just passenger vehicles after their modification.

The amendment by merging the use criteria with the blocked conveyance criteria seems to emphasise that this would not be permissible. In effect, the amendment is placing a blanket ban based on the de-jure use of the vehicles (i.e. as a passenger transport vehicle) and does not enable the person to avail credit based on ‘actual use’ of the passenger vehicle for goods transportation purposes.

But this is not the case for aircraft and vessels. The use criteria for aircraft and vessels is independently stated in a separate clause and does not qualify the aircraft or vessels itself i.e. the primary provision does not distinguish between cargo aircraft and passenger aircraft. Blanket ban on credit is placed without consideration of the primary purpose/ design. By way of a separate exclusion, the provision permits credit of aircrafts when used for transportation of goods, overcoming the criteria that they may also be passenger aircrafts. The probable reason could be that aircraft and vessels are subject to strict regulations and also have a separate enclosure of carriage of cargo, in addition to passenger seating facility. Therefore, dually designed aircrafts and vessels which are equipped for multiple use would be eligible for credit.

ANALYSIS OF 17(5)(a) (A), (B) & (C) – ONWARD SUPPLY TEST
Onward supply test permits credit on blocked conveyances by listing the credit qualifying supplies. It is essential that the motor vehicles are used for making further supplies. It is important to note that ‘self or incidental use’ would not make them as credit qualifying supplies. One would have to establish an activity of the specified nature (i.e. further supply or transportation or persons or training), qualifying under section 7, in order to fall within the narrow window to escape the blocked credits. By implication, the ‘identity of the motor vehicle’ on the inward leg of supply and that of the outward leg of supply should be directly co-relatable.

Clause (A) – What are the forms of supply i.e., either goods or services or both, which qualify for credit. In other words, does clause 17(5)(a)(i) permit input tax credit only for ‘automobile dealers’ (who are engaged in trading of motor vehicles) or can it also be applied to car rental or leasing companies. Under the GST scheme, the supply of motor vehicles can be in the form of supply of goods or the form of supply of services. Lawmakers have been explicit about the character of supply (i.e. goods or services) when a differential treatment was intended under such a consolidated law. In the absence of any differential treatment in 17(5)(a), the law appears to be covering both supply of motor vehicles as goods or services for the purpose of enabling input tax credit. Accordingly, cab-rental companies, leasing companies etc that purchase motor vehicles for the purpose of leasing, hiring, etc should be permitted to avail input tax credit on their purchases.

Clause (B) permits input tax credit on motor vehicles which are used for further supply of transportation of passengers. As stated above, mere transportation of persons would not meet the permissive criteria for availment of input tax credit. A factory transporting its own employees in an own vehicle would not be permitted to avail input tax credit unless the factory effects a ‘supply’ in the form of recovering a transportation fee from its employees. A tour operator, in the absence of an identifiable supply of transportation of passenger, may not be entitled to input tax credit even-though it performs transportation of passengers as an element of the overall supply. Though the revenue may claim that only SAC 9964 – Passenger transport services qualifies as ‘credit qualifying supply’, this does not emerge from the literal provisions of law. As long as there appears to be an onward supply from the passenger vehicle, the input tax credit may be available.

Clause (C) permits input tax credit on motor vehicles that are used for imparting training or driving such motor vehicles. This clause is oriented towards training schools etc. that purchase motor vehicles for use in training against a training fee. Supply principles discussed in clause (B) would also be applicable here.

Cumulatively clause (A), (B) and (C) are oriented towards a commercial value-added activity, which involves direct use of motor vehicles and excludes those cases where motor vehicles for transportation are on own account.

PARTIAL USE VS. COMPLETE USE
Instances also arise where the passenger motor vehicles are partially used for ‘passenger transportation services’ as well as ‘own purposes’. The law does not provide any guidance on attributability of such credit towards own purpose and commercial purpose. If the literal wordings are to be sole guiding factor, one could take the view that as long as they are used for passenger transportation activity, albeit partially, full credit should be permissible on such passenger motor vehicles based on the actual use criteria. Until the lawmakers do not provide any attribution methodology, a reversal for partial use towards own purposes does not seem to be expected from taxable persons.

ANALYSIS OF 17(5)(ab)
Section 17(5)(ab) blocks input tax credit on general insurance services and repair and maintenance of motor vehicles. However, credit is not blocked on services in respect of such conveyances, which are otherwise eligible for input tax credit. In addition, manufacturers and general insurance companies are also permitted to avail input tax credit on insurance and repair and maintenance activity for all motor vehicles, including passenger vehicles where they are engaged in the direct activity of such motor vehicles.

Importantly, the blockage of input tax credit is only on the ‘service activity’ of repair and maintenance. As an industry practice vide Circular No. 47/21/2018-GST dated 8th June, 2018, automobile dealers bifurcate their spare parts and labour work into goods and services, and taxes are applied accordingly. Applying the classification at the supplier’s end as conclusive of the nature of activity involved, it appears that the procurement of spare parts as part of repair and maintenance activity would be a supply of goods and hence outside the ambit of the said provisions.

One may note that the said provisions were introduced only during the 2019 amendment. Until then, there was ambiguity on whether ancillary activities pertaining to motor vehicles, such as repair and maintenance, were permissible input tax credit. The amendment fortifies the stand that prior to the amendment, such support services or goods availed on spare parts or repair were permissible credit for all motor vehicles (passenger and goods) without any specific bar u/s 17(5). This also derives support from the fact that the amended section 17(5)(b) specifically provides for blocking input tax credit on motor vehicles that have been obtained on lease, hire or rent. If section 17(5)(a) were to be interpreted to block input tax credit on all inward supplies having a direct or indirect connection with a motor vehicle, section 17(5)(b) would be redundant. Both these aspects would affirm the view that section 17(5)(a) prior to amendment did not block credit on repair, maintenance and insurance services.

SECTION 17(5)(b)
Associated to the aspect of credit, section 17(5)(b) blocks input tax credit on leasing, renting and hiring of conveyances. Two exceptions have been carved out in cases where (a) such inward supply is an element of an outward supply of the same category or a composite category; (b) such inward supply was necessitated on account of statutory provisions.

‘Leasing, renting and hiring’ has not been defined in the law specifically. The SAC/rate notifications provide rates/ exemptions on leasing, renting and hiring. The law has covered all three scenarios for using motor vehicles for purposing of blocked credits. Interestingly availment of passenger transport service (which is a separate SAC) does not feature in the said listing. Thus, where an enterprise avails of services of air or road travel under the passenger transportation category, section 17(5)(b) does not block the credits. In addition, if inward supply forms part of an outward supply, even as an element, the same would be eligible for credit on the basis that the inward supply has generated an onward value-added activity.

CASE STUDIES FOR APPLICATION OF LAW
Case 1 Hotel Cab – A Hotel purchases motor vehicles to transport guests and charges a fee as part of the overall accommodation package. In many cases, such activity is provided as a complimentary package to the accommodation services. Section 17(5)(a) states that motor vehicles are eligible under the Onward Supply Test when generating a passenger transportation activity. The hotel certainly has an element of passenger transportation service bundled in a composite package, but the invoice does not explicitly adopt the corresponding SAC for such activity. A literal reading of the provisions suggests that there must be a ‘taxable supply’ of transportation of passengers. Unless the service activity is taxed as a passenger transportation service credit should not be permissible. However, unlike section 17(5)(b)2, the said provision does not mandate a category-to-category correlation between input and output activity. Therefore, a purposive interpretation of the law could suggest that credit should be eligible in respect of motor vehicles if it is bundled as part of the overall service activity.

Case 2 Vanity Van – A celebrity purchases a vanity van registered as a passenger vehicle with modifications to store its vanity materials. The registered use is a passenger vehicle, but the actual use is for storing and transporting the vanity set-up for use by the celebrity. Section 17(5)(a) does not expressly differentiate between registered use or actual use. The HSN schedule however classifies motor vehicles based on the principal design or principal purpose. Where the motor vehicle is principally designed for transportation of passenger they would be classifiable under 8703 and probably the same test would have to be applied for purpose of section 17(5)(a). Therefore, the vanity van being principally designed for transportation of passengers and registered as a passenger vehicle may not be eligible for claim u/s 17(5)(a).

_____________________________________________

2 “Provided
that the input tax credit in respect of such goods or services or both shall be
available where an inward supply of such goods or services or both is used by a
registered person for making an outward taxable supply of the same category of goods or services or both
or as an element of a taxable composite or mixed supply”

3 2008
(232) E.L.T. 475 (Tri. – Del.)

Case 3 Intention to Resale – A Company purchases a motor vehicle for itself to be used for official purposes and has a policy to dispose the same (on payment of taxes) after a period of 1 year or crossing a particular odometer reading. While the Company has an intention at the time of purchase for making a further supply of such vehicles, the same is at a future undecided date. Section 17(5)(a) refers to actual use of such motor vehicles for further supply of such motor vehicles. If one views the said provision as applicable only at the time of availment, credits would not be available in such cases. Subsequent change in use or application to the permitted purposes does not appear to be envisaged in section 17(5)(a). One may consider the decision in Brindavan Beverages Pvt. Limited vs. CCE3 and the decision in CCE vs. Surya Roshni Ltd4 which hold that the eligibility of credit should be examined at the time of availment, and subsequent change in use would not alter the credit position. But alternatively, if the provision is to be interpreted as an end-use test, one may be tempted to claim that since the end purpose of resale, a.k.a. supply has taken place at a future date, credit should be available to the Company.

Case 4 – Automobile dealers purchase ‘Demo Cars’ for demonstration to the prospective customers at the showroom. These demo cars are first registered (either permanently or temporarily) and then sold after extensive usage to the end customers at lower prices. While the cars are initially intended for own use (i.e. demonstration to prospective customers) they do not expressly fall within the ‘permitted use’ list. Though there may be an intention for resale the same to end customers, credit u/s 17(5)(a) is permissible on actual use of the motor vehicles. Moreover, if the erstwhile law principles of testing conditions of eligibility at the time of original availment, are adopted, credit may be a contentious issue. While there are divergent advance rulings on this aspect, it appears the literal wordings of the provisions do not permit credit on subsequent adoption of the goods for the permitted uses.5 The favourable advance ruling holds that since the cars are eventually sold by the automobile dealer, credit should be permissible and the contrary ruling apply the literal provisions of law at the time of purchase without regard to the future use.

Case 5 – Cash Management Company purchase cash carry vans which are customized with high security features for transportation of invaluable items. Pre-2019, the credit was eligible only on transportation of goods. This raised an issue of whether motor vehicles used for transportation of ‘money’ which were not goods was eligible for input tax credit. While the initial advance ruling6 held that input tax credit is not eligible, the appellate advance ruling authority on remand has directed that input tax credit on the same would be available at par with motor vehicles used for transportation of goods7. Post 2019, such vans are outside the blocked conveyance list at the threshold itself and hence eligible for credit.

________________________________________________

4. 2003 (155) E.L.T. 481 (Tri. – Del.) affirmed
in 2007 (216) E.L.T. 133 (Tri. – LB)

5 It
may be noted that there are divergent advance rulings on this aspect – A.M.
Motors [2018 (10) TMI 514]; Chowgule Industries Private Limited [2019 (7) TMI
844]; Khatwani Sales and Services LLP [2021 (1) TMI 692]; Platinum Motocorp LLP
[2019 (3) TMI 1850]

6 CMS
INFO SYSTEMS LTD. [2018 (5) TMI 649] and reversed in 2020 (6) TMI 643

7 Recommendations
made during the 28th meeting of the GST Council on 21^stJuly, 2018

Case 6 – Oil mining companies procure accommodation barges for lodging their employees at on-site drilling locations which are on high-seas. These accommodation barges are vessels that are used for transportation of passengers and for providing accommodation at high-seas. In many cases, these vessels are obtained on lease and do not strictly meet the onward supply test of ‘transportation of passengers’. As discussed above, vessels are governed by the original philosophy and credit is enabled only on onward supplies and/or actual usage for transportation of goods. In the said facts, these accommodation barges are not involved in an onward supply of transportation of passengers and also not involved in the transportation of goods. Therefore, it appears such cases would be blocked from availing input tax credit.

Case 7 – Cost of ownership and operation of Motor Vehicles may also include expenses towards parking or rental space. If a limited scope is attributed to the phrase ‘in respect of motor vehicles’ u/s 17(5)(a), one may contend that ancillary services of motor vehicles should not be blocked for credit purposes. The revenue would be inclined to interpret the said phrase as being wide enough to cover all credits pertaining to motor vehicles, including costs of operation and maintenance. Going by the preceding analysis and the 2019 amendment, one may take the stand ancillary services are not blocked until they are specifically specified u/s 17(5).

Case 8 Charter of Aircraft – Companies avail aircraft on a charter basis for transportation of their executives. The chartered flight operator charges the company based on the actual flying hours, and in many cases, provides the Company exclusive access to the aircraft. The industry follows the divergent practice of either charging GST as (a) hiring/ renting of aircraft – 9966; or (b) passenger transport service – 9964. Under section 17(5)(b), credit is blocked for hiring or renting of aircraft but permitted for passenger transport service.

The explanatory notes to the service classification explain 9966 as being renting of transport vehicles where the service recipient defines how and when the vehicle will be operated, schedules, routes and other operational considerations. 9964 has been explained to include scheduled as well as non-scheduled air transport of passengers. In the present facts, there appears to be a wafer-thin line of difference between 9966 and 9964. Having said this, from an input tax credit perspective, it is settled law that the classification by the supplier cannot be altered by the recipient unless the supplier either admits to such alteration or the results of legal proceedings warrant such alteration at the supplier’s end (CCE vs. Sarvesh Refractories (P) Ltd8). Therefore, as a recipient of service, the taxable person ought to claim the credit only of invoices classified as 9967 and would have to reverse the credit on invoices classified as 9964. While this may seem unfortunate, such a practice would ensure stability in tax classifications over the longer run.

CONCLUSION
The automobile sector has been the catalyst of economic growth and a major contributor to the tax exchequer. The visible impact of a high GST tax rate and such credit blockades increases the transportation costs of business enterprises. The Government has recognized this and been progressive in liberalizing this input credit stream. While at the policy level, attempts are being made to widen the credit space, the provisions should not be interpreted as a block credit for all motor vehicles without adhering to the purpose of use of the conveyance.

_____________________________________________

8. 2002 (139) E.L.T. 431 (Tri. – Kolkata)
affirmed in 2007 (218) ELT 488 (SC)

shailesh.kwebmaker

NO CONSTRUCTIVE CREDITS!

INTRODUCTION
In the previous article, we discussed clause (h) of Section 17(5) of the CGST Act, 2017 which deals with the restriction on claim of input tax credit in cases where goods are lost, stolen, destroyed, written off or disposed of by way of gift or free samples. In this article, we will discuss clauses (c) & (d) of Section 17(5) which restrict claim of input tax credit on goods or services received in the construction of an immovable property.

PROVISIONS UNDER GST REGIME
Let us first refer to the relevant provisions for ease of reference:

‘(5) Notwithstanding anything contained in sub-section (1) of Section 16 and sub-section (1) of Section 18, input tax credit shall not be available in respect of the following, namely:

(c) works contract services when supplied for construction of an immovable property (other than plant and machinery) except where it is an input service for further supply of works contract service;

Explanation — For the purposes of clauses (c) and (d), the expression ‘construction’ includes re-construction, renovation, additions or alterations or repairs, to the extent of capitalisation, to the said immovable property’;

Clause (c) above restricts the availability of input tax credit in respect of works contract services supplied for construction of immovable property other than plant and machinery while clause (d) restricts the availability of input tax credit on goods or services or both received for construction of immovable property other than ‘plant or machinery’ on his own account including when such goods or services or both are used in the course or furtherance of his own business. On a plain reading, one may feel that clauses (c) and (d) are similar, with the only distinction being that the former applies to works contract services received while the latter applies to independent goods or services being received for the same activity, i.e., construction of immovable property. However, there are various nuances, which will be discussed later.

THERE SHOULD BE AN IMMOVABLE PROPERTY
This is the primary condition for an inward supply to be covered under the blocked credit list. It, therefore, becomes important to analyse the scope of the term ‘immovable property’. While the same is not defined under the GST law, one may refer to the definition u/s 2(26) of the General Clauses Act, 1897, which defines the same as under:

‘Immovable Property includes land, benefits to arise out of land, and things attached to the earth, or permanently fastened to anything attached to the earth.’

Even the Real Estate (Regulation & Development) Act, 2016 defines the term ‘immovable property’ in a similar manner:

‘Immovable property includes land, buildings, rights of ways, lights or any other benefit arising out of land and things attached to the earth or permanently fastened to anything which is attached to the earth, but not standing timber, standing crops or grass.’

Ongoing through the above set of definitions, it is apparent that land, along with anything attached or fastened to it, is an immovable property. However, when something is attached/ fastened to an immovable property, the nature of attachment/ fastening needs to be looked into before concluding if such thing is also a part of the immovable property. In Triveni Engineering & Industries Limited [2000 (120) ELT 0273 SC], the Hon’ble SC had held that installation or erection of turbo alternator on the concrete base specially constructed on the land cannot be treated as a common base and, therefore, it follows that the resultant structure would be an immovable property and therefore, cannot be treated as ‘excisable goods’.

On the contrary, in the case of Solid & Correct Engineering Works [2010 (252) E.L.T. 481 (S.C.)], the Court held that attachment of plant with nuts and bolts intended to provide stability and prevent vibration not covered as attached to the earth and hence not immovable property. It was more so as such attachment was easily detachable from foundation and not permanent in nature.

In Craft Interiors Private Limited [2006 (203) ELT 529 (SC)], the SC dealt with the issue of whether furniture attached to an immovable property can be treated as immovable property or not? The SC held that furniture items, such as storage cabinets, kitchen counters, etc., which are erected at customer site and cannot be dismantled/removed in complete or semi-knocked conditions, are immovable in nature and, therefore, not excisable. On the other hand, the Court also held that items like desks and chairs, are easily movable and therefore, excisable.

In WeWork India Management Private Limited [2020 (37) GSTL 136 (AAAR – GST – Kar)], the issue before the Appellate Authority was eligibility to claim the input tax credit on detachable sliding & glass partitions. Observing that the sliding/ partitions could be removed without any damage, the Authority held that the same was a movable property and, therefore, the same was not hit by clause (c)/(d) of Section 17(5).

Therefore, while determining whether a property is movable or not, following needs to be taken care of:

• What is the degree of permanency of the attachment to the land?
• Whether the goods attached/ fastened can be detached without causing substantial damage to it?
• Is the identity of the goods post-removal lost?

THE IMMOVEABLE PROPERTY SHOULD NOT BE IN THE NATURE OF PLANT AND MACHINERY
In case the resultant immovable property is in the nature of ‘plant and machinery’, the credit is not blocked. What constitutes ‘plant and machinery’ has been explained by way of explanation to Section 17(5) as under:

‘For the purposes of this Chapter and Chapter VI, the expression ‘plant and machinery’ means apparatus, equipment, and machinery fixed to earth by foundation or structural support that are used for making outward supply of goods or services or both and includes such foundation and structural supports but excludes —

(i) land, building or any other civil structures;
(ii) telecommunication towers; and
(iii) pipelines laid outside the factory premises’.

The terms ‘apparatus’, ‘equipment’ and ‘machinery’ are not defined under the CGST Act, 2017 or the rules made thereunder. Therefore, to understand the said terms, let us refer to their dictionary meaning:

Apparatus

Equipment

Machinery

Oxford Dictionary

The equipment needed for a particular activity or purpose

The items needed for a particular purpose

Machines as a whole or parts of machine

Collin’s Dictionary

Apparatus is the equipment, such as tools and machines, which is
used to do a particular job or activity

Equipment consists of the things which are used for a particular
purpose

Machines, machine parts, or machine systems collectively

MacMillan Dictionary

The machines, tools and equipments needed for doing something,
especially something technical or scientific

The tools, machines, or other things that you need for a
particular job or activity

The moving or working parts of a machinery

Black’s Law Dictionary

An outfit of tools, utensils or
instruments adapted to accomplishment of any branch of work or for
performance of experiment or operation. A group or set of organs concerned in
performance of single function.

Whatever is needed in equipping; the articles comprised in an
outfit

Complex combination of mechanical parts

(continued)

A generic word of the most comprehensive significance
which may mean implements
and an equipment of things provided, and adapted as a means to some end

Ongoing through the above, anything which can perform a specific function or operation or undertaking any process can qualify as apparatus or equipment or machinery and will, therefore, consequently be treated as ‘plant and machinery’.

The above explanation refers only to such plant and machinery which has been fixed to earth by foundation or structural support, i.e., this explanation is specifically for cases where there can be a dispute as to whether the ‘plant and machinery’ are classifiable as immovable property or not. For instance, elevators for a building are plant and machinery, but are of such a nature that once installed, it is impossible to uninstall them without any damage to the structure. However, it is apparent that the elevator is machinery, and therefore, the legislature has specifically carved out an exception that permits the claim of input tax credit for such transactions.

However, in the case of Las Palmas CHS [2020 (41) GSTL 548 (AAAR-Mah)], the issue raised before the Appellate Authority was whether input tax credit could be claimed on receipt of inward supply of elevator, if the cost of such elevator was recovered from the members? The Authority held in the negative as Section 17(5)(c) applied only when the input works contract services were used for further making an outward supply of works contract services. However, it seems that the Authority has not analysed whether the elevator qualified as ‘plant and machinery’ and thereby eligible for input tax credit.

In P K Mahapatra [2020 (40) GSTL 99 (AAAR – GST – Chhattisgarh)], the issue before the Appellate Authority was to determine whether input tax credit could be claimed on the installation of private railway siding? Once again, the Authority denied the benefit concluding that the same amounted to an immovable property, without going into whether the railway siding could have been treated as plant and machinery or not? In fact, the CESTAT has, in the case of India Cements Ltd. [2017 (3) GSTL 144 (Tri – Hyd)], already held that CENVAT credit can be claimed on railway siding.

This takes us to the includes clause which provides that foundation and structural supports in relation to apparatus, equipment or machinery will also be included within the scope of ‘plant and machinery’. This would primarily cover expenses incurred towards civil works done for installing the goods purchased. However, in Maruti Ispat & Energy Private Limited [2018 (18) GSTL 847 (AAR – GST)], the Authority held that input tax credit on inputs/ input services used for constructing a foundation for installation of ‘plant and machinery’ was hit by Section 17(5)(c) as the same was ‘other structures’ referred to in Explanation to Section 17(5) defining the scope of ‘plant and machinery’.

What is important is the third clause, i.e., the excludes clause, which excludes the following from the scope of ‘plant and machinery’:
(i) land, building or any other civil structures;
(ii) telecommunication towers; and
(iii) pipelines laid outside the factory premises.

It is imperative to note that an inward supply may fall under the means or includes clause and therefore be classifiable as ‘plant and machinery’. However, if such inward supply gets covered under any of the above entries provided in the excludes clause, the same would not be considered ‘plant and machinery’ and, therefore, covered under the blocked credits.

The above provisions bring to limelight the interplay between the concept of land, building and civil structures and ‘plant and machinery’. Indeed, in the past, various decisions have held that if the land, building or any other civil structure thereon is so constructed to act as a plant, the functional utility of the asset would be pre-dominant and the asset could indeed be classified as a ‘plant and machinery.’ For instance, the House of Lords, in the case of IRC vs. Barclay Curle & Co. has held that a concrete dry dock is a plant [76 ITR 62 (House of Lords)]. Similarly, one may also refer to the following decisions, though in the context of Income Tax, where different civil structures have been held to be a plant:

• Dam – Tata Hydro Electric Power Supply [(122 ITR 288 (Bom)]
• Nursing Home – Dr. B Venkata Rao [243 ITR 81(S.C)]
• Cold Storage – Kanodia Cold Storage [(100 ITR 155(All)]

• Safe deposit vault – Central Bank of India [(102 ITR 270 (Bom)]

The claim of input tax credit on the above structures, which otherwise are classifiable as plant is hit, in view of the excludes clause in the definition of ‘plant and machinery’. The next two entries, i.e., telecommunication towers and pipelines laid outside the factory premises, are industry-specific restrictions on claim of credit, similar to the restriction on the claim of an input tax credit on the purchase of motor vehicles and there, does not appear to be much scope to escape from the purview of Section 17(5)(c) for the specific industries.

PLANT OR MACHINERY
As stated above, explanation to Section 17(5) defines the scope of ‘plant and machinery’ as a whole. However, clause (d) carves out an exception for ‘plant or machinery’ and not ‘plant and machinery’. This, unless one undertakes a liberal or purposive interpretation, the Explanation to Section 17(5) cannot be used to examine whether a particular item is ‘plant or machinery’ as the same deals with ‘plant and machinery’. Therefore, the common parlance meaning needs to be applied while analysing the said terms.

The dictionary meanings of term ‘plant’ are reproduced below for reference:

Oxford Dictionary – Machinery used in an industrial or manufacturing process.

Collin’s Dictionary – Plant is a large machinery that is used in industrial processes.

MacMillan Dictionary – Large machines and equipment’s used in factory.

Black’s Law Dictionary – The fixtures, tools, machinery and apparatus which are necessary to carry on a trade or business. Physical equipment to produce any desired result or an operating unit.

The above dictionary definitions give plant a wider scope for interpretation, and machinery is included within the purview of the term ‘plant’. The term ‘plant’ was interpreted on multiple occasions by Courts in the context of Income Tax, where it was defined to be an instrument which is utilized to carry on the business, and which is not merely the setting in which the business is carried on. The Courts have on multiple occasions held that when an immovable property has been so constructed as to facilitate the carrying on of the operations of a particular business, the said immovable property can be treated as ‘plant’ and not merely ‘building’.

One may refer to the decisions in the case of C.I.T vs. Kanodia Warehousing Corpn [121 ITR 996(All)], Benson vs. Yard Arm Club Ltd. [1979 Tax L.R 778(Cr.D)], C.I.T vs. Bank of India Ltd. [118 ITR 809 ,818-9 (Bom)], George Mathew vs. C.I.T [43 ITR 535 at 540 (Kar)], Mangalore Ganesh Beedi Works vs. C.I.T [52 ITR 615 (Mysore)] and C.I.T vs. Elecon Engineering Co Ltd. [96 ITR 672 at 686-689 (Guj)] affirmed by the Supreme Court [166 ITR 66 (S.C)] where an extremely wide meaning has been given to the term ‘plant’.

If a view that a particular immovable property is classifiable as a plant survives, one can escape from the purview of Section 17(5)(d) since the entry itself does not apply. Therefore, the phrase “on his own account” becomes irrelevant in such a case. However, the same would not apply for Section 17(5)(c) since the same refers to ‘plant and machinery’, which is specifically defined u/s 17(5).

THERE SHOULD BE CONSTRUCTION OF AN IMMOVABLE PROPERTY

Clauses (c) and (d) of Section 17(5) apply for the activity of construction. The term ‘construction’ has been defined by way of an explanation as under:

For the purposes of clauses (c) and (d), the expression ‘construction’ includes re-construction, renovation, additions or alterations or repairs, to the extent of capitalisation, to the said immovable property;

The definition is provided in an inclusive manner, and therefore, the general parlance meaning of the word ‘construction’ would be applicable. Generally, the word construction is used in a situation where a new building or a structure comes into existence when none existed beforehand. In distinction, reconstruction would be a more appropriate term where an existing building is demolished, and a fresh structure is being brought into existence. Nevertheless, it was held that the general meaning of construction would take in its’ fold not only the creation of a new building but also a case of demolition of an existing building and re-construction of the building (Sadha Singh S Mulla Singh vs. District Board AIR 1962 Pun 204).

While the terms ‘construction’ and ‘re-construction’ both envisage a situation of a new civil structure coming into existence, the later inclusive words like renovation, addition or alteration or repairs are all intended to cover existing structures where certain activity is carried out. In this context, it may be useful to refer to the erstwhile service tax legislation wherein a distinction was made between construction, repair, renovation or restoration of a building or civil structure and ‘completion and finishing services’. Separate sub-clauses governed these activities under the positive list regime of service tax, and abatement was denied for ‘completion and finishing services’. Similarly, a separate valuation rule was provided for ‘completion and finishing services’. Various controversies arose in the said legislation where the assessee argued the classification of activities like plumbing, glazing, electrical work, painting, etc., as construction activities being eligible for the abatement/lower valuation, whereas the Revenue contended that the activities do not constitute construction but completion and finishing services. For example, whether plumbing activities would constitute completion and finishing or construction activity is a matter pending before the Supreme Court in the case of Commissioner vs. Sai Shraddha Plumbing Private Limited 2019 (28) GSTL J71 (SC). The outcome of the said decision may perhaps open up an opportunity for claiming input tax credit.

Further, the Explanation restricts the scope of construction activity. Accordingly, a receipt of works contract services u/s 17(5)(c) or goods or services or both u/s 17(5)(d) can be said to be towards the construction of immovable property only to the extent the cost has been capitalized in the books of accounts.

To capitalize means to expense the cost over the useful life rather than in the period in which it is incurred. In accounting, capitalisation occurs when a cost is included in the value of an asset. The matching principle requires companies to record expenses in the same accounting period in which the related revenue is incurred. For example, office supplies are generally expensed in the period when they are incurred since they are expected to be consumed within a short period of time. However, some larger office equipment may benefit the business over more than one accounting period. These items are fixed assets, such as computers, cars, office buildings, significant renovation and repair works to the building, etc. The cost of these items is recorded on the general ledger as the historical cost of the asset. Hence, these costs are said to be capitalized,
not expensed.

Therefore, if the taxpayer has satisfied this condition also, whereby he has capitalised the cost of works contracts service or goods/ services received for repairs, renovation, alteration, etc. of immovable property, only then does the restriction under clauses (c) and (d) of Section 17(5) get triggered.

This also raises an interesting question. Let us take an example of a partnership firm that has constructed a shopping mall, to be given on rental basis post-construction. The activity of renting is liable to GST and for the purpose of income tax, is treated as income from house property. Being a partnership firm, it is not required to get its accounts audited under the Partnership Act or under the Income Tax Act, 1961 as Section 44AB does not apply since the rental income is treated as ‘income from house property’ and not ‘business income’. In such a circumstance, the firm can always take a view to expense out the entire construction cost upfront, in which case the inward supply received cannot be said to be used for construction of an immovable property and therefore, would entitle the partnership firm to claim full input tax credit. This view of course would be subject to litigation.

MEANING OF ‘OWN ACCOUNT’
One of the phrases used in Section 17(5)(d) and not in Section 17(5)(c) is that the construction of the immovable property should be on recipients ‘own account’. The term ‘own account’ is defined in various dictionaries
as under:

Collin’s Dictionary – If you take part in a business activity on your own account, you do it for yourself, and not as a representative or employee of a company

MacMillan Dictionary – for yourself, not for someone else

Lexico – For one’s own purpose; for oneself

Black’s Law Dictionary – To have a good legal title; to hold as property; to have a legal or rightful title to; to have; to possess.

Therefore, the construction of an immovable property on his ‘own account’ means something that a person or a company does for itself. The rights and benefits of the constructed immovable property are enjoyed by the person who has actually got the construction
work done.

This interpretation of term ‘own account’ is likely to cause disputes. A mall owner, while constructing a mall, has the intention to lease the entire mall and earn income from it. Although the asset appears in its books, and therefore legally one may say the construction is for own account, it can be argued that the intention is not to use it for his own operations but allow other tenants to use it, thereby the benefit of the construction is not to his ‘own account’. Therefore, the same should not be covered under the blocked credits list.

This aspect has already seen judicial scrutiny in the case of Safari Retreats Pvt. Ltd. & Others vs. Chief Commissionerof CGST [2019-TIOL-1088-HC-ORISSA-GST] wherein the Hon’ble High Court allowed ITC on the construction of a mall by laying a principle that the creation of an asset will generate revenue which will be subject to GST. The Appeal against the said order is pending before the Hon’ble Supreme Court, and the matter is awaiting finality.

CONCLUSION
The intention of clauses (c) and (d) is clear, which is to deny the input tax credit in relation to immovable property. However, the manner in which the provisions are worded and the possibility of varied interpretation makes the said clauses a land mine for litigation. Already, the Hon’ble Orissa HC, in the case of Safari Retreats, has agreed with one of the views perhaps contrary to the legislative intent. However, the fact cannot be ruled out that the intention of the Government is to deny the input tax credit on such inward supplies, and therefore, retrospective amendment of this provisions may not be ruled out. Consequently, one has to be careful while taking a position w.r.t claim of input tax credit having an overlap with clauses (c) and (d) of Section 17(5) of the CGST Act, 2017.

shailesh.kwebmaker

GSTN COMMON PORTAL: E-GOVERNANCE

Digitisation of tax administration has been a progressive step of the Government in the recent past. Understandably, the primary thrust for it came from increasing tax complexities and allegedly evasive measures adopted by business enterprises. This warranted Governments to arrest such activities through real-time and non-erasable trails of events. Now, tax administrations are increasingly harnessing the benefits of digitisation by instant identification, examination and conclusion of tax challenges.

Therefore, a robust IT infrastructure was the key to the success of the implementation of a ‘self-policing’ GST in India. The need for such infrastructure led to the birth of the GST Network (GSTN) which was entrusted with the responsibility of setting up, operating and the maintenance of IT systems. GSTN was established as a special purpose vehicle by the Ministry of Finance to provide common IT infrastructure, systems and services to the Central and State Governments, taxpayers and other stakeholders for supporting the implementation and administration of the GST in India.

Much like the GST scheme, the GST Network has also been subjected to critiques. Firstly, the structure and functioning of the GSTN with the possibility of interference by non-governmental bodies, and secondly, the privacy concerns emerging from such large-scale collection of data. That apart, the GSTN has been entrusted to operate the GST common portal under the domain and boundaries of the GST law.

LEGAL BACKGROUND
Section 146 of the CGST / SGST Act, 2017 empowers the Government to notify a common electronic portal for facilitating registration, tax payments, furnishing of returns, computation / settlement of integrated tax, electronic way-bill and such other functions as may be necessary. Notification No. 4/2017-CT dated 19th June, 2017 notified www.gst.gov.in (the website managed by GSTN) as the common portal for the purpose of facilitating ‘registration, payment of tax, furnishing of returns and computation and settlement of integrated tax’. On the GST portal, the website states that the said portal includes all its sub-domains, internal and external services serviced by the domain and mobile applications of the GST portal. Similarly, Notification No. 9/2018-CT dated 23rd January, 2018 has notified www.ewaybillgst.gov.in as the Common Goods and Services Tax Electronic Portal for furnishing of electronic way-bill.

Recently, Notification No. 69/2019-CT dated 13th December, 2019 notified www.einvoice1-10.gov.in as the portal for e-invoice preparation. Parallel Notifications were issued by States for recognising the said web-portal(s) for specific purposes. Through such provisions, legal sanctity was sought to be provided to the said portal(s) but only for limited functions as specified in the Notifications. Interestingly, transition returns, refund applications and appeals do not find mention in the enabling Notifications notifying the common portal for specific purposes and one may resort to this as a legal contention in the days to come.

LEGAL QUESTIONS
Some critical questions arising from the e-governance initiatives of the Government are:
(a) What is the scope of the common portal in administration of the law?
(b) Whether the Notification issued under the CGST / SGST on the common portal would apply to the IGST Act even though a Notification has not been issued for this purpose?
(c) Whether the frameworks / contents, conditions, restrictions in the portal are backed by legal provisions? Is the Government imposing its view of the law on the taxpayer? Are there any remedies left to the taxpayer where the GST portal does not permit one to apply the law in a particular manner?
(d) What are the consequences of a failure in the GSTN systems, especially on down-time, lack of proper response, etc.? Whether the ‘proper officer’ can cite helplessness in matters of substantive rights where the portals restrict functionalities? What is the legal sanctity of the response / lack of response of GSTN helpdesks?

SETTLED PRINCIPLES
Before going into details, it may be important to assimilate the critical concepts of law which would govern the above questions. The first one is the well-settled provision that delegated authorities would have to operate within the framework of law and the legislations or actions are subject to the vires of the governing statute. This reminds one of the decision of the Supreme Court in St. Johns Teachers Training Institute vs. Regional Director, NCTE (2003) 3 SCC 321 at page 331 which held that regulations and rules are directed towards ‘supplementing’ the law rather than ‘supplanting’ the law. The Court stated as follows: ‘What is permitted is the delegation of ancillary or subordinate legislative functions, or, what is fictionally called, a power to fill up details.’

The other principle is that ‘forms / returns’ forming part of a statute cannot drive its interpretation1. The Supreme Court in the context of adjustment of MAT credit referred to the forms and held in CIT vs. Tulsyan NEC Ltd. (330 ITR 226) as follows: ‘It is immaterial that the relevant form prescribed under the Income-tax Rules, at the relevant time (i.e., before 1st April, 2007), provided for set-off of MAT credit balance against the amount of tax plus interest, i.e., after the computation of interest under section 234-B. This was directly contrary to a plain reading of section 115-JAA(4). Further, a form prescribed under the Rules can never have any effect on the interpretation or operation of the parent statute.’

And finally, procedural laws are meant to further the object of the substantive provisions and not restrict their scope [CCE vs. Home Ashok Leyland (2007) 4 SCC 51].

RELATIONSHIP BETWEEN GSTN AND GOVERNMENT OF INDIA
GSTN was incorporated on 28th March, 2013 for the purpose of implanting e-governance and technology initiatives for the efficient rollout of the GST law. As per media reports, it can be inferred that work on the creation of the IT infrastructure commenced much before the passage of the Constitution (One Hundred and First Amendment) Act, 2016. It was during the 4th GST meeting on 3rd-4th November, 2016 that GSTN made a presentation about the status of the web development and the services being offered by GSTN on this front.

_____________________________________

1 LIC vs. Escorts Ltd. (1986) 1 SCC 264

Interestingly, the statute does not enlist the criteria for selection, operation and regulation of an IT service provider (whether Government-owned or otherwise). The GST Council in its minutes also does not formally identify / appoint the GSTN as the sole service provider for this massive task. This question is important because the 11th meeting had specifically approved a proposal of appointing GSTN for the development of the e-way bill IT infrastructure but the appointment of GSTN for the basic GST portal seems to be missing in the minutes. The legal sanctity of entrusting / delegating the IT infrastructure to GSTN through the Government of India is unclear from public domain documents and requires immediate attention.

ANALYSIS
Compliance under the erstwhile laws under Excise, Service Tax, VAT, Entry Tax was largely performed electronically. It was thus expected that the reporting and compliance under the GST law would also continue to be driven by technology. However, the level of technological complexities was relatively lower under those laws. The electronic forms under the erstwhile laws had limited functionalities and were meant for the limited purpose of capturing data. The administration then utilised the data collected at the back-end for risk management purposes.

However, the GST portal ushered in a much higher level of legal control at the data entry point itself by the taxpayers and in many instances hindered the decision-making of the taxpayer. Although the insertion of legal control might have been intended to assist taxpayers in accurate data capture, in certain cases it appears to have breached the legal framework. For a start, we should read this disclaimer of the GSTN portal for its users:

‘Though all efforts have been made to ensure the accuracy and currency of the content on this website, the same should not be construed as a statement of law or used for any legal purposes or otherwise. GSTN hereby expressly disowns and repudiates any claims or liabilities (including but not limited to any third party claim or liability, of any nature, whatsoever) in relation to the accuracy, completeness, usefulness and real-time of any information and contents available at this website, and against any intended purposes (of any kind whatsoever) by use thereof, by the user/s (whether used by user/s directly or indirectly). Users are advised to verify / check any information and contents, with the relevant Government department(s) and / or other source(s) and to obtain any appropriate professional advice before acting thereon as may be provided, from time to time, in the website.’

Thus, the GSTN portal clearly disclaims its responsibility over administering the law and states that the web functionality does not represent the interpretation of law. In fact, the portal also does not claim responsibility over the accuracy of the contents which are uploaded on it and has directed taxpayers to either approach Government officials or seek professional advice.

DAWN OF THE PORTAL
The e-governance initiative under GST commenced with the migration of registration(s) of erstwhile taxpayers into the GST regime. This involved the filling of Form REG-26 which contained checks and balances in terms of back-end validation of PAN numbers, legacy registration numbers, bank accounts, etc. This is usually done to sanitise the data at the entry point so that redundancies can be avoided. As time passed, additional functionalities were introduced on the GSTN portal. The most critically discussed of these were related to the returns in GSTR1, GSTR2, GSTR3 and their ancillary forms. Though these forms were notified in law, due to various reasons including lack of technical preparedness of the GSTN, the alternative summary form in GSTR3B was introduced. Subsequently, additional modules on transition returns, refunds, input tax credit (ITC), etc., were introduced in a phased manner. The transition module has been widely debated in legal forums since it directly impacted the eligibility of taxpayers to claim the said credit. Technical glitches in the form, lack of clarity in the transition module, coupled with the complexity of the user tabs, made the form difficult to comprehend for taxpayers resulting in non-availment of credit.

In September, 2019 the refund module was launched envisaging electronic processing of refund from application to disbursement. There have been instances where taxpayer refunds have been delayed due to internal technical glitches in the refund disbursement process and its interaction with other external databases (such as PFMS). Recently, the portal has enabled the functionality of appeals (including advance rulings) in respect of refunds, registrations, etc. The portal is progressively digitising the inter-face between the administration and taxpayers.

In the effort to digitise the process, internal controls / checkpoints have been placed at the point of data entry itself which may hinder even genuine cases. The GSTN assumes that taxpayers have uploaded accurate data at all entry points in the manner expected by the portal. Taxpayers in many cases have failed to understand the data expectations due to lack of technical guidance material or ineffective helpdesk support from the GSTN, thus resulting in incorrect data entry. Moreover, the portal has been developed based on the administration’s perspective / interpretation of law which may or may not be accurate. In an era of self-assessment (in contradistinction to officer-assessment), taxpayers should be granted the liberty to apply the law as per their own understanding without any technical hindrances. The vires of taxing statutes have been tested multiple times in higher forums and reading down or striking down of legal provisions is not unknown. With several technical restrictions (enlisted below), taxpayers have been thrust with the administration’s view of law.

The ensuing paragraphs are an attempt to list the technical challenges in the portal which appear to be either contradictory to law or hamper a taxpayer’s right to perform a self-assessment of his taxes based on his interpretation. The important pointers under each module are herewith tabulated2:

Return module

Table
Ref.

Functionality

Comments

GSTR1: Aggregate turnover

Data filed auto-populated used for various
threshold limits such as E-invoice, etc.

The functionalities use turnover for
enabling facilities of e-invoicing, etc. This causes issues where taxpayers
might have reported an incorrect turnover in the previous year(s) which may
have been rectified in annual returns / left unrectified. The system merely
aggregates the turnover and adopts this as the basis for enabling / disabling
features

GSTR1: Date of invoice and invoice No.

Date of invoice cannot be before date of
registration

A taxable person who has availed GST
registration belatedly is barred from reporting the original tax invoice even
though taxes may have been charged / paid in the said invoice to the
recipient

GSTR1: B2C and B2B

Amendment from B2C to B2B

One may view section 39(7) as being a time
limit only to rectify any particulars which have an impact on the tax liability. In cases where the particulars do not
have any tax liability such as this, the time limit provisions should not
apply, but the portal restricts such revisions

GSTR1 : SEZ

SEZ supplies liable for
CGST / SGST

Certain advance rulings have stated that
restaurant services are liable to CGST / SGST and not IGST. Return
functionalities do not permit CGST / SGST for SEZ invoices

GSTR1 : B2CL

Amendment in B2CL invoices

B2C large invoices (in excess of Rs. 2.5
lakhs) are entered at an invoice level but amendment tables in GSTR1 do not
provide any functionality to update the GSTIN of these invoices and shift
them to the B2B section – taxpayers are forced to raise credit notes to the
B2CL data and upload fresh invoices in the B2B section

GSTR1 – DNs / CNs

Linking DNs / CNs with multiple invoices

Until recently, DNs / CNs were mandatorily
required to be linked to a single invoice. The law has been amended making
the linking an open-ended feature. The GSTN portal has only recently opened
this feature by de-linking the mapping of DNs / CNs with a single invoice.
Till now, taxpayer(s) were unable to upload this data

GSTR1 – Export details

Alterations in type of exports

Alteration in invoices from ‘with payment’
to ‘without payment’ is not permissible which causes disabilities in other
refund functionalities

GSTR3B: Taxable turnover

Negative turnover is not permissible

In cases where the credit note raised in a
tax period exceeds the output turnover, the data field does not permit negative
values. CBEC Circular / Helpdesk suggest that the unadjusted credit notes are
to be reported in subsequent months. Moreover, due to zero-values being
reported in GSTR3B, there arises a variance between GSTR1 and GSTR3B and
disables certain other functionalities in other modules (such as refunds,
etc.)

GSTR3B – ITC

ITC order of set-off

GSTR3B mandatorily requires the ITC to be
utilised prior to making cash payments or performing inter-head set-offs.
Taxpayers may choose to avail ITC and refrain from utilising the same on the
grounds of ambiguity. But the utilisation is thrust upon them, consequently
opening the scope for incorrect utilisation

GSTR9 – Table 9

Details of tax paid

Annual return auto-populates details of
taxes paid in a non-editable format in GSTR9. Taxpayers who have paid taxes

GSTR9 – Table 9

(continued)

Details of tax paid

through DRC 03, etc., and have

included the turnover in annual return
would not be able to record this tax payment, resulting in glaring
discrepancies

GSTR9 – Table 6

Details of input tax availed

Annual return permits reversal of ITC and
accordingly directs filing of DRC 03 for such reversals but the reverse is
not permissible. Taxpayers are not permitted to avail ITC through the annual
return. In the absence of a clear GSTR1, 2 and 3 and a stop-gap GSTR3B,
taxpayers have looked at GSTR9 as the only
final return to report the tax credits / liabilities. The law neither
specifies the document of availing credit nor bars claim of credit through
GSTR9. Yet, the functionality in the tax portal does not permit availing of
such ITC in the electronic credit ledger through GSTR9

GSTR9

Table 8 – GSTR2A

Details auto-populated in Table 8
representing input invoices uploaded by suppliers does not reconcile with the
taxpayers’ GSTR2A. Until 2018-19, the taxpayers were not provided with
item-wise listing of such auto-population and in many cases taxpayers were
forced to file
the document as it was auto-populated

GSTR9

Table 9 – Auto population

Form GSTR9 keeps the data fields for this
table open to alteration by the taxpayer but the portal freezes the tax
payment details through ITC and / or cash

GSTR1/9

Exempt supplies / HSN tables

The exempt supplies / HSN tables are static
and not open to alteration. Without the functionality, the taxpayers would be
faced with questioning on classification even though it may not be admittance
by taxpayer in its strict sense

GSTR1/3B/9

Unfructified supplies

Taxpayers may have situations where
supplies are rejected
by the recipient at the doorstep. Though the law provides for cancellation of
invoice, once
the invoice is uploaded on the GSTR1 the portal does not have any feature to
mark a particular invoice as cancelled, forcing the taxpayer to raise credit
notes which is itself not permissible under law

GSTR2A & 2B module

Table
Ref.

Functionality

Comments

GSTR2B

ITC not available summary

The form provides an ‘advisory’ that
invoices which do not meet the conditions of section 16(4), or the place of
supply is different from the location of the recipient, should not be
eligible for credit. The criterion of place of supply does not seem to emerge
from any specific provision

GSTR2A / 2B time limit

Delayed reporting of invoice by
counter-party

GSTR2A/ 2B mark credit which is belatedly
reported as ineligible even though the supplier would have reported taxes
appropriately and complied with section 16 in its entirety, e.g., alteration
of an invoice from B2C table to B2B table involving updation of GSTINs

GSTR2A / 2B

DTA clearance by SEZ

Bill of entry filed by DTA on procurement
of goods by an SEZ does not appear in the GSTR2B. This throws up red flags
while filing GSTR3B as this data is not auto-populated in the said form

__________________________________________________________

2 The tables are illustrative and not exhaustive – over the period GSTN has gradually addressed many such challenges

Adjudication modules

Table
Ref.

Functionality

Comments

GST APL-01

Disputed tax

Taxes which are reported through DRC 03
challan are reported as ‘admitted tax’ even though the tax payments are made
under protest to avoid the interest / penal consequences. While filing the
appeal, the online module directs an additional 10% to be paid as pre-deposit
towards disputed liability. Effectively, the taxpayers are required to pay
110% of the tax demanded for filing the appeal online

Job work module

Table
Ref.

Functionality

Comments

ITC-04

Unit of measurement (UOM)

The form raised red flags where the UOM of
outward movement towards job work is different from inward movement from job
worker. The form does not appreciate that job work activity can result in
complete transformation of inputs resulting in difference in UOMs. The portal
attempts to map the outward dispatches with inward receipts at the same UOM

Refund modules

Table
Ref.

Functionality

Comments

RFD-01

Sequential filing

RFD-01 are mandatorily required to be filed
sequentially forcing the taxpayer to file Nil refund applications even though
he / she may want to come back and file a refund for past period (of course
within the time limit)

RFD-01

Export turnover

Incorrect reporting of export turnover in
other tables (such as B2B, etc.) of GSTR3B / GSTR1 is not reflected in the
refund form resulting in incorrect application of refund formula

RFD-01

Lower of three figures

RFD-01 restricts refunds to the lower of
(a) input tax credit at the end of the tax period; (b) refund as on date of
application; and (c) input tax credit as per formula. The refund module is
not reflective of the law as it restricts refund of ITC based on the balance
as at the end of the tax period. Taxpayers who have accumulated ITC after the
relevant tax period would still be restricted to the ITC as at the end of the
tax period

RFD-01

Input tax credit

Taxpayers may have reversed ITC pertaining
to past periods while filing GSTR3B. Though prior period reversals are not
relevant for refund computations, the online form auto-populates the net
figure from GSTR3B, causing a deviation from the statutory formula

E-way bill modules

Table
Ref.

Functionality

Comments

EWB-01

Validity of E-way bill

The E-way bill portal calculates the
validity automatically based on the PIN codes specified by the taxpayer. It
is quite possible that transporters adopt a route of their choice depending
on accessibility, convenience, etc. To freeze the validity based on pin codes
from external third party data is not specified under law

EWB-01

Back-end validation of vehicle numbers

E-way bill portal performs a back-end
validation of the vehicle numbers with the government-approved ‘vaahan’
website. Inefficiencies in those websites also creep into the GST system as
the E-way bill portal raises red flags for a vehicle number not visible in
the ‘vaahan’ website

JUDICIAL PRECEDENCE UNDER GST

The prominence of law over forms and procedures has been the hallmark of even recent decisions under GST. The Delhi High Court in Bharti Airtel Limited vs. UOI [2020 (5) TMI 169] examined the plea of the taxpayer who was restricted from rectifying the returns for a particular tax period and was directed by a CBEC Circular to rectify only in subsequent tax periods. The Court examined the limitations of the GSTN portal and held that the taxpayer had a right to rectify the very same return and claim refund of the excess taxes paid for the tax period under consideration. The Madras High Court in Sun Dyechem vs. CST 2020 TIOL-1858-HC-MAD-GST held that incorrect reporting of tax type by the supplier cannot be left unamended as it would hamper the tax credits at the customer’s end. The Court directed the jurisdictional officer to make amendments in supplier’s GSTR1 so that the correct tax type is reflected in the customer portal, thus undermining the influence of the portal over equity and law.

In another case, the Delhi High Court in Brand Equity Treaties Limited vs. UOI [2020 (5) TMI 171] recognised that technical glitches should be granted a wider scope to include even challenges faced at the taxpayer’s end (such as lack of internet connectivity, IT infrastructure, etc.). In the context of Transition Credit, Courts in many instances (such as Tara Exports [2020 (7) TMI 443]) have permitted manual filing of Tran-1 forms to avail the tax credit as an alternative to filing the same on the online portal. These decisions affirm the settled proposition that procedural laws are meant to further the substantive rights acquired under law.

However, one must also not lose sight of the decision of NELCO vs. UOI [2020 (3) TMI 1087] wherein the Bombay High Court upheld the vires of the rule defining technical glitches as being those arising at the GSTN end and cannot be interpreted to cover those difficulties prevailing at the taxpayer’s end. The Madhya Pradesh High Court in Shri Shyam Baba Edible Oils vs. CC 2020-VIL-567-MP held that the procedure prescribed in law should be strictly followed. Where the law prescribes SCNs, orders, etc., which are to be communicated through the common portal, they should necessarily be communicated only through the common portal. These decisions uphold the importance of the common portal and imply that taxpayers should take necessary steps to equip themselves with the technological upgradations warranted under the new law.

Let us now take up the question whether the GSTN portal can be described as a portal to report the numbers of the taxpayer or can be it designed to administer the law by placing checks and balances at the data entry point itself, thereby curbing the right of the taxpayer to self-assess its taxes. Going by the propositions laid down above, the portal cannot place fetters on the taxpayer’s right to fill up data as per its computation and should not be driven by pre-filled data points contained in the GST portal. Moreover, even where the data is auto-populated, the taxpayers should be granted the right to alter the auto-population and place their self-assessed values. The tax administration can without doubt examine the data at the back-end and seek clarifications to the alteration of the data plugged into the form, but that should be performed through a due process of adjudication or assessment. A website-driven automated assessment is not warranted under the GST law. Therefore, the GSTN portal should refrain from being a legislative or administrative tool and rather restrict itself to being a repository of information of all taxpayers.

A second question is to examine whether the enabling Notifications under the CGST / SGST Act of identifying the GSTN portal as a common portal would apply to the IGST Act as well. Whether separate Notifications are required to be issued under the IGST Act empowering the GSTN portal to operate as a common portal for all purposes of the IGST Act? Going by the implication of the phrase mutatis mutandis3 in section 20 of the IGST Act which links it to the CGST Act, the rules, notifications, including the prescription of the common portal, would apply equally to the IGST Act as well. The entire chapter of ‘Miscellaneous provisions’ under the CGST Act has been made applicable to the IGST Act and consequently the common portal notified in terms of section 146 of the CGST Act falling under this chapter would be operative for the IGST Act as well.

A third question, on the vires of the restrictions / controls placed in the GSTN portal, has been discussed above. The forms are aimed at capturing the self-assessed data of the taxpayers and not to regulate the taxpayer itself. The restrictions are questionable and even where the common portal is the primary forum for making necessary applications, the Court has devised an alternative approach of manual filing of the applications. The taxpayer ought to have a fit case for seeking this alternative remedy of filing manual applications. The taxpayers could face hurdles subsequently in enabling the functionalities of refund, reflection in electronic credit ledgers, etc., and hence should use this as a measure of last resort only.

_________________________________________________

3 (1983) 2 SCC 82 Ashok Service Centre vs. State of Orissa

Coming to a fourth, crucial question, proper officers have been the ‘go-to persons’ for taxpayers in case of technical difficulties. But the situation here is such that proper officers are neither equipped with legal nor technological powers and therefore claim helplessness. Taxpayers run from pillar to post between the GSTN helpdesk and the proper officer. In many cases the helpdesk directs taxpayers to reach out to the proper officer for technical snags. Without any specific direction from the Board, taxpayers are unable to enforce their right to receive a resolution to their technical problems from the proper officer. In certain cases, helpdesks also provide solutions without legal backing (for example, in one case a helpdesk directed the taxpayer to apply for cancellation and seek fresh registration due to a technical snag). The helpdesks are not proper officers under law and have no authority to decide on legal matters and it is imperative for the administration to issue binding guidelines to the field formations to accept the technical queries, seek speedy resolution at the back-end from the helpdesk and respond to the taxpayer with a solution. Until then, the taxpayers would be left on their own to comply with the law and then offer extensive explanations at the time of audits / assessments on what had transpired at the time of filing the applications on the portal and the reason for plugging the numbers as it stood therein.

In conclusion, the helpdesk does not have any legal authority to resolve taxpayer grievances and the proper officers should be directed through appropriate administrative instructions to take up these matters.

The authority to design, operate and regulate the IT infrastructure is open to questioning as the Legislature has not empowered the Government(s) or their Boards to direct the creation or regulation of the website. The involvement of GSTN as a separate entity appears to be on a questionable foundation and open to examination. Until then, taxpayers should make earnest efforts to reconcile themselves to the portal requirements and record the deviations from the data expectations suitably to enforce their legal rights of a self-assessment rather than a portal-assessment at higher forums.

shailesh.kwebmaker

CLASSIFICATION CONUNDRUM

INTRODUCTION
The charging section for the levy of GST provides that the tax shall be levied on supply of goods / services or both. This entails the need for determination of whether a particular activity undertaken by a supplier is for supply of goods or supply of services? While dealing with this question, one may need to refer to the principles of composite supply or mixed supply as defined u/s 2 of the CGST Act, 2017 to determine whether the supply is that of goods or of services.

Once the determination of the nature of supply is done, the next question that arises is the rate applicable on such supply. There is a lot of confusion about the entry under which a particular goods / service should be classified in view of conflicting rates prescribed under the respective Rate Notifications, coupled with conflicting rulings by the Authority for Advance Ruling from different locations. This, despite the Rate Notifications specifically providing that rules for the interpretation as provided for under the Customs Tariff Act, 1975 shall also apply for the interpretation of headings covered under the said Notification.

In one of our earliest articles, ‘Principles of Classification’ (BCAJ, November, 2017), we had discussed in detail the subject of Classification under GST. In this article, we have attempted to identify a few instances dealing with Classification – both of a supply as goods vs. services, and the applicable rate on a supply along with conflicting AARs’ which add fire to this controversy.

GOODS VS. SERVICES – INTANGIBLES
The perennial controversy about determining what constitutes goods and what constitute services, although settled by the Supreme Court in the case of Tata Consultancy Services vs. State of Andhra Pradesh [2004 (178) ELT 22 (SC)] (the ‘TCS case’), used to be a burning issue under the earlier regime and continues to be so even under the new GST regime. This is because the definition of the said terms u/s 2 of the CGST Act, 2017. Section 2 (52) defines ‘goods’ to mean every kind of movable property other than money and securities but includes actionable claim, growing crops, grass and things attached to, or forming part of the land which are agreed to be severed before supply or under a contract of supply. Similarly, section 2(102) defines ‘services’ to mean anything other than goods, money and securities but includes activities relating to the use of money or its conversion by cash or by any other mode, from one form, currency or denomination to another form, currency or denomination for which a separate consideration is charged.

The first controversy which pertains to the issue of goods vs. services is in relation to intangibles. The issue of whether software, being an intangible property, is goods or service was already settled by the Apex Court in the TCS case wherein the Hon’ble Court had laid down the conditions for treating an intangible property as goods. Keeping that in mind, in view of the provision of Schedule II of the CGST Act, 2017, if the supply results in transfer of title in goods, the same would constitute supply of goods; while if there is transfer of right in goods without transfer of title thereof, the same would constitute supply of services. However, while dealing with this aspect another recent decision of the Supreme Court in the case of Engineering Analysis Centre of Excellence Private Limited vs. The Commissioner of Income Tax [Civil Appeal Nos. 8733-8734 of 2018], though in the context of income-tax, will always have an important bearing. In this case, the Court had held that licenses granted by way of End-User License Agreements were nothing but sale of goods. The relevant extracts of the decision are reproduced below for reference:

52. There can be no doubt as to the real nature of the transactions in the appeals before us. What is ‘licensed’ by the foreign, non-resident supplier to the distributor and resold to the resident end-user, or directly supplied to the resident end-user, is in fact the sale of a physical object which contains an embedded computer programme, and is therefore, a sale of goods which, as has been correctly pointed out by the learned counsel for the assessees, is the law declared by this Court in the context of a sales tax statute in Tata Consultancy Services vs. State of A.P., 2005 (1) SCC 308 (see paragraph 27).

In view of the above decision, an issue arises in case of import / export transactions through online mode. Such import / export transactions are not regulated through the Customs channel, and therefore, when payment is made for import of software or received for export of software, the nature of the transaction, i.e., whether the same pertains to purchase / sale of goods or service becomes particularly important. For example, if a person purchases all the rights which subsist in an intangible property / a license, the same would undoubtedly amount to supply of goods. The question that would arise in case of import of such goods is whether GST would be payable treating the same as ‘import of services’ or the same would be liable to tax under the proviso to section 5 of the IGST Act, 2017, i.e., the tax would be levied and collected under the Customs Act, 1962? If the latter view is taken, perhaps such transaction would not attract any IGST since there is no mechanism for levy of tax on intangibles under the Customs Act.

An even larger issue may crop up in the case of export transactions, especially when supply is under payment of IGST where there is a system for automated refund. Since the supply of intangibles is not routed through the customs system, the refund for such transactions may not be automatically processed and would therefore necessitate such exporters to file separate refund applications which can give rise to challenges as the Jurisdiction Officer may reject the refund claim on the simple ground that the same falls within the purview of Customs who may not at all be aware of the entire transaction.

GOODS VS. SERVICES – SALE VS. SERVICE
Entry 3 of Schedule II presumes an activity of job-work as service. While under the earlier regime job-work was defined to mean any activity amounting to manufacture, GST law defines the same to mean any treatment or process undertaken by a person on goods belonging to another registered person and the expression ‘job worker’ shall be construed accordingly. However, it would be incorrect to read this definition on a standalone basis, especially when the statute provides for concepts relating to composite supply / mixed supply which needs to be used when determining the nature of supply. Based on this, one would need to arrive at a conclusion whether a particular activity amounts to supply of goods or supply of service as job-work.

This discussion becomes important since there are specific instances where if the activity is treated as supply of goods, the same attracts tax at a different rate, while when treated as supply of service the applicable rate is different. At times where credit is not available fully, this would also involve cost ramifications. One such instance is observed in the context of newspapers. Supply of newspaper attracts nil rate of tax. However, the activity of printing of newspaper, which is classified as service, attracts tax @ 5%. Therefore, it becomes important to determine whether the supply being made is classifiable as supply of goods / services. Of course, while the answer to this question would depend on the facts of each case, the issue becomes more controversial in view of Circular 11/11/2017-GST dated 20th October, 2017 wherein the Board has clarified as under:

4. In the case of printing of books, pamphlets, brochures, annual reports and the like, where only content is supplied by the publisher or the person who owns the usage rights to the intangible inputs, while the physical inputs including paper used for printing belong to the printer, supply of printing [of the content supplied by the recipient of supply] is the principal supply and therefore such supplies would constitute supply of service falling under heading 9989 of the scheme of classification of services.
5. In case of supply of printed envelopes, letter cards, printed boxes, tissues, napkins, wall paper, etc. falling under Chapter 48 or 49, printed with design, logo etc. supplied by the recipient of goods but made using physical inputs including paper belonging to the printer, the predominant supply is that of goods and the supply of printing of the content [supplied by the recipient of supply] is ancillary to the principal supply of goods, and therefore such supplies would constitute supply of goods falling under respective headings of Chapter 48 or 49 of the Customs Tariff.

While in the first case the Board has clarified that the supply of printing service is the principal service, in the second case it has been clarified that supply of goods is the predominant supply. It is difficult to fathom how both the transactions can be dealt with differently as in both the cases the intention of the recipient is to receive back printed material from the job-worker. It is common for publishers to outsource printing activity and the dominant intention is to receive the printed content which is used by them to further supply such printed content.

In fact, this Circular also appears to be contrary to the principles of job-work which have been laid down by the Supreme Court in the case of Prestige Engineering (India) Ltd. vs. CCE Meerut [1994 (73) ELT 497 (SC)] which explained what shall and what shall not constitute job work. The primary rule laid down by the Court was that job work should not be narrowly understood as requiring the job worker to return the goods in the same form as this would render the Notification itself redundant since the definition specifically contemplated ‘a manufacturing process’, but it also cannot be so widely interpreted as to allow an arrangement where the process involved substantial value addition. It is imperative for the readers to note that the above clarification has also been followed by the Authority for Advance Ruling in the case of Sri Venkateswara Enterprises [2019 (30) GSTL 83 (AAR – GST)]. However, in another case, that of Ashok Chaturvedi [2019 (21) GSTL 211 (AAR – GST)], the Authority has held that the principal supply was that of goods and therefore the printed content would be classified under Chapter 49 and taxed accordingly.

A similar issue exists in the hospitality sector where there is confusion as to whether tobacco products such as cigarettes, hookah, etc., supplied and consumed in a restaurant shall be classified as supply of goods or supply of service as a part of restaurant services? The Advance Authority has, in the case of MFAR Hotels & Resorts Private Limited [2020 (42) GSTL 470 (AAR – GST – TN)], held that cigarettes supplied in the restaurant will be treated as supply of goods as the same is not naturally bundled with the service of the restaurant. However, it would appear that the ruling has not taken into consideration Entry 6(b) of Schedule II which deems a composite supply by way of or as part of any service or in any other manner whatsoever, of goods, being food or any other article for human consumption or any drink as supply of service. If aerated beverages, which also attract the higher rate of tax as well as compensation cess supplied in a restaurant can be treated as supply of service, there is no logical reasoning to not extend the same benefit to tobacco as the same also falls within the basket of goods supplied for human consumption, irrespective of whether or not the same is injurious to health!

RATE CLASSIFICATION – GOODS
As discussed in the earlier article also, the Rate Notifications under GST provide that the classification of any goods / services in a particular rate / exemption entry shall be done applying the rules for interpretation as provided for under the Customs Tariff Act, 1975. The said rules were discussed in detail in the said article. However, since the introduction of GST there have been several items the classification of which has continued to be under dispute. In this article, we have attempted to identify and discuss such cases.

The first class of goods which has seen substantial classification dispute is ‘tobacco’ which comes in different forms and varied rates have been notified depending on the nature of the product. The following table summarises the different rates applicable to different types of tobacco:

Schedule

Entry
No.

HSN

Description
of product

Rate

109

2401

Tobacco Leaves

2401

Unmanufactured tobacco; tobacco refuse [other
than tobacco leaves]

28%

2403

Other manufactured tobacco and manufactured
tobacco substitutes; ‘homogenised’ or ‘reconstituted’ tobacco; tobacco
extracts and essences [including ‘biris’]

28%

A particular area of dispute has been as to what constitutes tobacco leaves. The Board has, vide Circular 332/2/2017 – TRU clarified that tobacco leaves shall mean leaves of tobacco as such, broken tobacco leaves and stems. This issue has been examined in detail in the context of Central Excise. The Tribunal has, in the case of Yogesh Associates vs. CCE, Surat II [2006 (195) ELT 196 (Tri – Mum)] wherein the Tribunal held that raw leaf treated with tobacco solution Quimam and other flavours including saffron water did not result in the leaf undergoing any irreversible change and the same continued to remain raw, unmanufactured tobacco leaf. This decision was also approved by the Apex Court in 2006 (199) ELT A221 (SC). However, there have been conflicting decisions from the Authority for Advance Ruling in the context of GST w.r.t. classification of tobacco products in different forms.

In the case of Shailesh Kumar Singh [2018 (13) GSTL 373 (AAR – GST)] and Pragathi Enterprises [2018 (19) GSTL 327 (AAR – GST)]), the Authority has held that dried tobacco leaves which have undergone the process of curing are not covered under Schedule I Entry 109 but will be covered under Schedule IV Entry 13. In Sringeri Yogis Pai [2019 (31) GSTL 357 (AAR – GST)] the Authority has further held that cured tobacco leaves would also get covered under Schedule IV Entry 13.

However, in Suresh G. [2019 (023) GSTL 0483 (AAR – GST)], the Authority has held that sun-cured tobacco leaves would get covered under Schedule I and therefore attract GST at 5%. The Authority held as under:

‘6. It is well-known fact that the fresh or green leaves are having no commercial marketability. Only after the long process of curing the tobacco leaves become capable for marketing. Therefore legislature imposed tax only on cured tobacco leaves which are capable of being traded. As per serial number 13 of Schedule-IV of Notification No. 1/2017-Central Tax (Rate), dated 28-6-2017 “un-manufactured tobacco” is brought under 28% taxable category. But the entry itself clearly specified that unmanufactured tobacco, tobacco refuse (other than tobacco leaves) is taxable at the rate of 28%. Since tobacco leaves are specifically excluded from Schedule-IV Sl. No. 13 it will squarely come under Schedule-I of Sl. No. 109 and taxable at the rate of 5%. Therefore tobacco leaves including the leaves cut from plant, dry leaves, cured leaves by applying natural process ordinarily used by the farmers to make them fit to be taken to market shall qualify for 5% tax rate. It is common knowledge that without curing tobacco leaves cannot be consumed. The curing in relation to tobacco leaves means removal of moisture from the tobacco leaves. Section 2(c) of the Central Excise Act, 1944 specified that the term “curing” includes wilting, drying, fermenting and any process for rendering an unmanufactured product fit for marketing or manufacture. Hence, the unavoidable process of curing of tobacco leaves to make it fit for marketing will qualify the word “curing” mentioned in Chapter 24 of the Customs Tariff Act, 1975.’

The above view has also been followed in the case of Alliance One Industries Private Limited [2020 (32) GSTL 216 (AAR – GST – AP)] and K.S. Subbaih Pillai & Co. (India) Pvt. Ltd. [2020 (32) GSTL 196 (AAR – GST – AP)].

It is therefore clear that there is a lot of confusion with regard to the correct classification of tobacco under GST. Further, with tobacco being liable to tax under Reverse Charge also, the need for a correct solution becomes more important since if a wrong classification is applied there will be an effect on both fronts, outward supplies as well as inward supplies. It therefore becomes more important for the taxpayer to determine the correct classification of the product being dealt with by him to avoid future litigation. In other words, it would be safe to say that applying a wrong classification would not only be injurious to customers’ health, but also to the taxpayers’ health!

The next controversy revolves around classification of fryums. This is because while there is no specific entry for fryums under GST, Entry 96 of Notification 2/2017 – CT (Rate) exempts papad, by whatever name known, from GST except when served for human consumption. On the other hand, there are different entries in the Rate Notification so far as namkeen is concerned. The following table summarises the different rates applicable to namkeen in different forms:

Schedule

Entry
No.

HSN

Description
of product

Rate

101A

2106 90

[Namkeens, bhujia, mixture, chabena and
similar edible preparations in ready for consumption form, other than those
put up in unit container and, –

(a)…. bearing a registered brand name; or

(b)…. bearing a brand name on which an
actionable claim or enforceable right in a court of law is available (other
than those where any actionable claim or any enforceable right in respect of
such brand name has been voluntarily foregone, subject to the conditions as
specified in the Annexure)]

2106 90

[Namkeens, bhujia, mixture, chabena and
similar edible preparations in ready for consumption form (other than roasted
gram), put up in unit container and, –

(a)…. bearing a registered brand name; or

12%

II
[continued]

2106 90

subject to the conditions as specified in
the Annexure)]

12%

III

2106

[Food preparations not elsewhere specified
or included (other than roasted gram, sweetmeats, batters including idli /
dosa batter, namkeens, bhujia, mixture, chabena and similar edible
preparations in ready for consumption form, khakhra, chutney powder, diabetic
foods)]

18%

Therefore, the questions which need deliberation are:
* Whether fryums can be treated as papad?
* If not, under which entry will fryums qualify?

The reason behind the need to determine whether fryum can be classified as papad or namkeen arises in view of the decision of the Tribunal in the case of Commissioner of Central Excise vs. TTK Pharma Ltd. [2005 (190) ELT 214 (Tri – Bang)]. The Tribunal had held that fryums can be marketed as namkeen only after they are fried, just like papad. However, the tax implication if this classification is not accepted is substantial because if fryums are classified as papad, the same are exempted from GST, while if classified as namkeen, the same would get classified under Schedule III and become liable to GST at 18%. Thus, the difference is substantial and therefore one needs to be careful while deciding the classification of fryums.

This aspect has also been dealt with by the AAR in the case of Sonal Products [2019 (23) GSTL 260 (AAR – GST)] and Alisha Foods [2020 (33) GSTL 474 (AAR – GST)]. In both instances, the Authority has held that fryums are classifiable as namkeen and not papad and therefore the same would be taxable at 18%. The Authority relied on the decision in the case of TTK Pharma Ltd. vs. Collector of Central Excise [1993 (63) ELT 446 (Tribunal)]. However, it has failed to appreciate that the Tribunal had used the word namkeen / papad interchangeably while dealing with the applicability of an exemption Notification. The Authority further referred to the decision in the case of Commissioner of Commercial Taxes, Indore vs. TTK Healthcare Ltd. [2007 (21) ELT 0197 (SC)]. However, the Authority has again failed to appreciate that the dispute in the said case was whether or not fryums could be treated as cooked food. The Authority has further concluded that the classification was to be done as per the meaning construed in the popular sense and as understood in common language.

It is important to note that the Authority has failed to appreciate that the process followed for making of papad / fryums is similar. In fact, both become ready for human consumption only when fried and when fried, both rather partake the character of namkeen. In this sense, the decision of the Authority to not treat fryums as papad appears to be on shaky ground.

The next item which has seen its fair share of controversy is parantha. Entry 97 of Notification 2/2017-CT (Rate) exempts bread (branded or otherwise) from tax, except when served for consumption, and pizza bread. Bread is something which is generally an accompaniment with the main meal of the day and is cooked in different styles using different ingredients. It is known by different names across the globe. If one does a search for ‘List of Breads’ on Wikipedia, it can be seen that even the roti, chapati, naan, kulcha, dosa, etc., which are consumed in different parts of India and known by different names are also types of bread. However, there is a separate entry for plain chapati or roti under Schedule I of Notification 2/2017-CT (Rate) and the same is taxed at 5%. But other forms of Indian bread do not find a specific entry in the Rate Notifications. This gives rise to the classification issue.

The first such issue reported was in the classification of ‘Classic Malabar parota’ or ‘Whole Wheat Malabar parotta’. The Authority for Advance Ruling has in the case of Modern Food Enterprises Private Limited [2018 (18) GSTL 837 (AAR – GST)] held that there is a substantial distinction between parotta and bread in terms of preparation, use and digestion and, therefore, exemption given to bread cannot be extended to parotta. However, in Signature International Foods India Private Limited [2019 (20) GSTL 640 (AAR – GST)], the Authority has held that paratha was similar to roti and therefore classifiable under Schedule I of Notification 1/2017-CT (Rate) and therefore attracts GST @ 5%. Surprisingly, in this case the Authority proceeded to conclude that naan / kulcha which were not defined anywhere would be classifiable under the residuary entry in Schedule III of Notification 1/2017-CT (Rate) and therefore attract GST @ 18%.

RATE CLASSIFICATION – SERVICES
Let us now look at similar issues while determining the applicable tariff entry for services. The first issue which arises is with classification of certain services provided to Government, whether Central Government, State Government, Union Territory, a local authority, a Governmental Authority or a Government Entity. The relevant entry for discussion is Entry 3(vi) of Notification 11/2017-CT (Rate) which provides for tax at 12% on composite supply of works contract as defined in clause (119) of section 2 of the Central Goods and Services Tax Act, 2017 provided to the Central Government, State Government, Union territory, a local authority or a Governmental Authority or a Government Entity by way of construction, erection, commissioning, installation, completion, fitting out, repair, maintenance, renovation, or alteration of a civil structure or any other original works meant predominantly for use other than for commerce, industry, or any other business or profession. Vide the explanation, it has also been clarified that the term ‘business’ shall not include any activity or transaction undertaken by the Central Government, State Government or any local authority in which they are engaged as public authorities.

Despite the above clarification, there has been substantial confusion as to when a service would be classified under this entry, because when services are being provided to Government it is difficult to distinguish whether the service is for use other than for commerce, industry or any other business or profession. There have been conflicting AARs on this issue as well. In A2Z Infra Engineering Ltd. [2018 (18) GSTL 760 (AAR – GST)], the Authority held that services provided to a Power Distribution Company would be covered under the scope of ‘for use other than for commerce, industry, or any other business or profession’ and therefore concessional tax rate would not be applicable in such a case. A similar view was also followed in the case of Madhya Pradesh Madhya Kshetra Vidyut Vitaran Company Limited [2019 (020) GSTL 0788 (AAR – GST)] as well. In fact, in a recent decision the Appellate AAR in the case of Vijai Electricals Ltd. [2020 (42) GSTL 153 (App. AAR)] wherein despite the appellants submitting an opinion from the Government Departments that the activities of the recipient were non-commercial in nature, the denial of benefit of concessional rate of tax was upheld.

In the case of Tata Projects Limited [2019 (24) GSTL 505 (AAR – GST)], service provided to the Nuclear Fuel Complex engaged in the manufacture and enrichment of nuclear fuel for production of electricity which is a business and commercial activity, the concessional rate of 12% will not be available.

However, the Appellate AAR has in the case of ITD Cementation India Limited [2019 (25) GSTL 315 (AAAR)] set aside the order of the AAR and held that supply of service for construction of multi-modal terminal was for infrastructural development of waterways of India and not meant for commerce and business. A similar view was taken in the case of Vikram Sarabhai Space Centre [2019 (25) GSTL 129 (AAR – GST)] also.

There are many taxpayers who are providing service of this kind to Government and in many cases the contract values are inclusive of GST. Prompt clarification on what constitutes ‘commerce, industry, business or profession’ would be most welcome as there would be severe financial consequences if the end conclusion is not beneficial to the taxpayers.

Another burning issue in the context of services provided to Government is what constitutes ‘pure services’? Entry 3 of Notification 12/2017-CGST (Rate) provides exemption to pure services (excluding works contract service or other composite supplies involving supply of any goods) provided to the Central Government, State Government or Union territory, or local authority, or a Governmental authority, or a Government Entity by way of any activity in relation to any function entrusted to a Panchayat under Article 243G of the Constitution, or in relation to any function entrusted to a Municipality under Article 243W of the Constitution. However, what constitutes ‘pure service’ has not been defined either under the Notification or the Act / Rules.

This has resulted in substantial confusion since taxpayers intend to claim the benefit of the exemption Notification while the tax authorities look at ways to deny the same. In fact, the AAR has on multiple occasions held that only such service where there is no involvement of even an incidental supply of goods would be covered within the scope of ‘pure service’. In fact, in the case of Harmilap Media (P) Limited [2020 (33) GSTL 89 (AAR – GST)], while determining whether or not advertising service would classify as pure service, the Authority held in the negative since there is an element of supply of goods involved, though not material. Fortunately, this anomaly has been sought to be removed by way of insertion of Entry 3A to the Notification which now provides that the exemption shall extend to composite services also, provided that the value of goods involved in the supply is not more than 25% of the total value. This amendment will perhaps put the dispute to rest.

The next dispute revolves around classification of services relating to transport of goods. There are two rates notified for the service of GTA, one being 5% in case the service provider opts to not claim ITC and 12% where the service provider opts to claim ITC. What constitutes ‘GTA’ has been defined to mean any person who provides service in relation to transport of goods by road and issues a consignment note, by whatever name called. The first controversy which prevails is whether for classification as a GTA is the supplier compulsorily required to issue a consignment note? A perusal of the Rate Notification does indicate towards the same. However, the Appellate AAR has in the case of K.M. Trans Logistics Private Limited [2020 (35) GSTL 346 (AAAR -– GST)] while dealing with this issue held that once the possession of goods is transferred to the transporter, irrespective of whether the consignment note is issued or not, he becomes a GTA and would therefore be liable to tax accordingly.

However, in the case of Liberty Translines [2020 (41) GSTL 657 (App. AAR – GST)], in a case involving sub-contracting in transportation business, the Authority held that issuance of a consignment note by the sub-contractor transporter to the main transporter would not make him a GTA and the service would be classified under the entry of ‘renting of vehicles’ and would therefore attract tax at 18%, irrespective of whether the main contractor opts to pay tax under the 5% scheme / 12% scheme, thus involving substantial cost implications for the main contractor. It is, however, important to note that in the case of Saravana Perumal [2020 (33) GSTL 39 (AAR – Kar)] involving a similar fact matrix, the AAR has held that the services provided by the sub-contracting transporter to the main transporter would also get classified as GTA.

CONCLUSION
The above discussion clearly indicates that the classification issue will continue even under the GST regime. Of course, the same will be on multiple fronts, ranging from classifying an activity as that of goods or service or none, and then proceeding to determine the correct tariff classification. The controversy will get more pronounced with conflicting decisions from the AAR which will only add fuel to the fire. However, the taxpayers will need to be more cautious and careful, especially where there is confusion on the classification, because incorrect classification may have serious ramifications on the business.

shailesh.kwebmaker

STIGMA OF ATTACHMENT(S)

Lord Dunedin famously quoted in Whitney vs. IRC [LR 1926 AC 37, 51 (HL): 10 TC 79, 110: (1924) 2 KB 602] – ‘Now, there are three stages in the imposition of a tax: there is the declaration of liability, that is the part of the statute which determines what persons in respect of what property are liable. Next, there is the assessment. Liability does not depend on assessment. That, ex hypothesi, has already been fixed. But assessment particularises the exact sum which a person liable has to pay. Lastly, come the methods of recovery, if the person taxed does not voluntarily pay.’

In this era of digitisation, self-assessment, self-compliance, self-policing and self-vigilance, recovery provisions of taxes are directed to act as deterrence tools rather than being tyrannical. In a democratic set-up with a progressive vision of nation-building, these provisions are considered as a measure of last resort, adopted only in extreme cases. Yet, in the GST scheme of things attachment provisions have been invoked on multiple occasions and the taxpayers have faced the wrath of this power, especially in cases of fake invoicing. This article discusses the attachment provisions under GST with specific reference to attachments of bank accounts and debtors of tax defaulters.

CONSTITUTIONAL BACKGROUND

The recovery provisions have a Constitutional background in terms of Articles 265 and 300-A. Article 265 sets out the cardinal rule that no taxes can be levied or collected except under authority of law. Recovery provisions fall under the powers of collection by the Executive of the state. On similar lines, Article 300-A protects the right of ownership of the property of the citizen except under authority of law. These articles when applied together frame two important principles under recovery: (a) Taxes recoverable should be under authority of law; and (b) Recovery process infringes ownership rights and should be backed by legal provisions. In District Mining Officer vs. Tata Iron & Steel Co. and Anr. (2001) 7 SCC 3581 , the three-judge Bench observed that not only should the levy of taxes have the authority of law but also its recovery should be under due authority of law. It is in this backdrop that recovery provisions under the GST law should be understood and applied by Revenue authorities.

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1 This
decision has been referred to the larger Bench in Asst. Director of Mines
and Geology vs. Deccan Cements (2008) 3 SCC 451

SUMMARY OF GST PROVISIONS ON RECOVERY

Chapter 15 of the CGST / SGST enactments provide for demands and recovery of taxes. Recovery proceedings can be initiated under the following circumstances:

(i) Taxes not paid, short paid or erroneously refunded,

(ii) Ineligible availment or utilisation of input tax credit,

(iii) Taxes which are not due but collected on supplies,

(iv) Admitted taxes (including turnover reported in GSTR1)2,

(v) Disputed taxes (to the extent of mandatory pre-deposit),

(vi) Disputed taxes to the extent stay is not obtained, and

(vii) Interest and penalties on all or any of the above.

Section 78 provides that recovery proceedings can be initiated at any time after three months from the date of service of the demand order. This time limit coincides with the maximum time limit of three months to file an appeal before the appellate forums. In effect, if the assessee fails to utilise the time to file an appeal within the prescribed limit, it is generally presumed that the matter is not being agitated and powers are thrust on the Revenue to proceed for recovery of taxes due to the Government. As an exception, section 78 permits the proper officer to advance the recovery actions where the circumstances warrant that the collection of taxes may be adversely affected if the entire duration of three months is permitted to the assessee, such as disposal of assets, diversion of funds, etc.

Section 79 provides for various methods of recovery of taxes such as:

(1) Adjustment of refunds held by the said proper officer or any other specified officer,

(2) Sale of goods under detention by the above authorities,

(3) Garnishee proceedings (evaluated below),

(4) Distraint and sale of any movable or immovable property,

(5) Recovery as land revenue, and

(6) Recovery of any amount under bond or security executed before the officer.

Garnishee powers u/s 79 enable the proper officer to serve upon the taxpayer’s debtors (banks, trade debtors / receivables, etc.) a notice (in DRC-14) directing them to deposit the amount specified to the account of the Government and such deposit would be treated as a sufficient discharge of their debt to the taxpayer. Although the Revenue has powers to recover taxes from other assets of the taxpayer, the circumstances may warrant that Revenue would have to protect its interest before the assets are alienated by the taxpayer. In such cases, Revenue would resort to attachments of the properties of the taxpayer in anticipation of a demand to be recovered in future.

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2 Amendment proposed by Finance Bill, 2021

RECOVERY POWERS ARE NOT SEQUENTIAL

The CGST Act provides multiple alternatives to the Revenue officials for recovery of taxes which include attachment of properties (refer above). Are Revenue officials required to exhaust the remedies sequentially prior to proceeding for attachment of properties? Section 79 itself states that recovery can be performed by ‘one or more of the following modes’. This implies that the choice of modes of recovery is purely with the Revenue and it cannot be insisted that each mode has to be exhausted prior to proceeding with an alternative mode of recovery3. Revenue can simultaneously invoke recovery from multiple debtors / assets as long as the overall recovery is capped to the tax arrears.

ATTACHMENT AS A PRECURSOR TO RECOVERY

Attachments of property of the tax defaulter can be a prelude to subsequent recovery of tax arrears. ‘Attachment’ in this context refers to prohibition of transfer, conversion, disposition or movement of property by an order issued under law. It is used to hold the property for the payment of debt [Kerala State Financial Enterprises vs. Official Liquidator (2006) 10 SCC 709]. It is also well established that attachment creates no charge or lien upon the attached property. It only confers a right on the holder to have the attached property kept in custodia legis for being dealt with by the Court in accordance with law. It merely prevents and avoids private alienations; it does not confer any title on the attaching creditors. The objective is to protect the interest of Revenue until completion of proceedings and enforcing realisation of taxes in arrears to the debtor. On the other hand, the process of recovery involves the actual realisation / liquidation of the property for meeting the tax dues either from assets already under attachment or other properties of the tax defaulter.

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3 2000 (126) E.L.T. 222 (A.P.) G.
Lourdha Reddy vs. District Collector, Warangal

Attachment of fixed deposits before the maturity date

Disputes have emerged whether Revenue can attach and recover fixed deposits prior to their maturity. In Vysya Bank Ltd. vs. Jt. CIT [2000] 109 Taxman 106/241 ITR 178 (Kar.), the Court held that fixed deposits which are lying with banks can be encashed even before their maturity since the Department steps into the shoes of the tax defaulter and can invoke pre-closure of such deposits. On the other hand, rents which are not yet due from the landlord cannot be subjected to attachment or recovery from the debtor.

Attachment of Overdraft / Cash Credit accounts

Overdraft / Cash Credit facilities do not create a debt by the third party in favour of the tax defaulter. Therefore, unutilised overdraft or cash credit facilities cannot be attached by the Revenue for realisation of tax dues. In a recent decision, the Court went a step further and stated that future credits after attachment would also not be subjected to the freeze contemplated in law [2020 (5) TMI 193 – RCI Industries & Technologies Ltd. vs. DGGSTI] – ‘6. In the circumstances, we dispose of this petition with a direction that the attachment would be limited to the amounts which were lying to the credit of the petitioner in CC A/c at the time of freezing and any further credit which may come would not be under attachment.’

Provisional attachment of property

As an exception to the regular course of attachment after confirmation of tax demands, section 83 enables provisional attachment of any property, including bank accounts, of the taxable person for a maximum period of one year during pendency of adjudication / assessment proceedings (as per extant provisions). Rule 159 provides the procedure for provisional attachment of any property, including bank accounts, as follows:

* Commissioner shall pass an order in DRC-22 to that effect mentioning therein the details of the property which is proposed to be provisionally attached,

* Commissioner shall send a copy of the order of attachment to the authority concerned to place encumbrance on the said movable or immovable property, which shall be removed only on the written instructions from the Commissioner to that effect,

* In case of perishable or hazardous goods, the taxable person can obtain an immediate release of the goods on payment of the market price. In case of failure of payment, such goods may be disposed of and adjusted with the recoverable dues, and

* Any objection to attachment should be filed within seven days of attachment and the Commissioner may release the property after hearing the aggrieved.

Drastic nature of provisional attachment

The power of provisional attachment has been held to be drastic in the sense that such actions infringe the liberty of the taxpayer in running its business operations and is to be exercised before any judgement or decision is made. The authority exercising this power should have strong compelling reasons for this extraordinary action with the objective of protecting the interest of Revenue. Generally, taxpayers who have a compliant track record and tangible asset base without any indication of diversion of funds should not be saddled with such drastic actions. The High Court in 2019 (30) GSTL 396 (Guj.) Pranit Hem Desai vs. ADGGI made very assertive observations about the use / misuse of the power of provisional attachment. Though section 83 does not provide any safeguards against misuse of powers (except the approval of a Commissioner, which is generally a routine exercise), the Court stated that the very nature of action warrants circumspection and extreme care and not (its use as) a routine tool for harassment:

‘Further, the orders of provisional attachment must be in writing. There must be some material on record to indicate that the Assessing Authority had formed an opinion on the basis thereof that it was necessary to attach the property in order to protect the interest of the Revenue. The provisional attachment provided under section 83 is more like an attachment before judgment under the Code of Civil Procedure. It is a liability on the property. However, the power conferred upon the Assessing Authority under section 83 is a very drastic, far-reaching power and that power has to be used sparingly and only on substantive, weighty grounds and for valid reasons. To ensure that this power is not misused, no safeguards have been provided in section 83. One thing is clear, that this power should be exercised by the Authority only if there is a reasonable apprehension that the assessee may default the ultimate collection of the demand that is likely to be raised on completion of the assessment. It should, therefore, be exercised with extreme care and circumspection. It should not be exercised unless there is sufficient material on record to justify the satisfaction that the assessee is about to dispose of the whole or any part of his property with a view to thwarting the ultimate collection of the demand. Moreover, attachment should be made of the properties and to the extent it is required to achieve the above object. It should neither be used as a tool to harass the assessee nor should it be used in a manner which may have an irreversible detrimental effect on the business of the assessee.’

POWER OF PROVISIONAL ATTACHMENT IS NOT ABSOLUTE

The power of the Commissioner in attaching any property including bank accounts is not absolute. In Bindal Smelting Pvt. Ltd. vs. ADGGI [2020 (1) TMI 569 – P&H] the Court held that the expression ‘is of the opinion’ or ‘has reason to believe’ is of the same connotation and is indicative of subjective satisfaction of the Commissioner which depends upon the facts and circumstances of each case. It is settled law that the opinion must have a rational connection with or relevant bearing on the formation of the opinion. Rational connection postulates that there must be a direct nexus or live link between the protection of interest and available property which might not be available at the time of recovery of taxes and after final adjudication of the dispute. The opinion must be formed in good faith and should not be a mere pretence. The Courts are entitled to determine whether the formation of opinion is arbitrary, capricious or whimsical. In Valerius Industries vs. Union of India 2019 (9) TMI 618 Gujarat High Court, the Court held the following:

* The order of provisional attachment before the assessment order is made may be justified if the assessing authority or any authority empowered in law is of the opinion that it is necessarily to protect the interest of Revenue. A finding to the effect should be recorded prior to pursuing this remedy.

* The above subjective satisfaction should be based on some credible materials or information and should also be supported by some supervening factor.

* The power u/s 83 of the Act could be termed as a very drastic and far-reaching power. Such power should be used sparingly and only on substantive weighty grounds and reasons.

* Such power should be exercised only if there is a reasonable apprehension that the assessee may default the ultimate collection of the demand that is likely to be raised on completion of the assessment. It should, therefore, be exercised with extreme care and caution.

* This power should neither be used as a tool to harass the assessee nor should it be used in a manner which may have an irreversible detrimental effect on the business of the assessee.

* The attachment of bank accounts and trading assets should be resorted to only as a last resort or measure. The provisional attachment u/s 83 should not be equated with the attachment in the course of the recovery proceedings.

* The authority before exercising power u/s 83 for provisional assessment should take into consideration two things,

a) Whether it is a revenue-neutral situation, and

b) The statement of ‘output liability or input tax credit’.

* Having regard to the amount paid by reversing the input tax credit if the interest of the Revenue is sufficiently secured, then the authority may not be justified in invoking such power for the purpose of provisional attachment.

Similar views were voiced in Automark Industries (I) Ltd. vs. State of Gujarat [2016] 88 VST 274 (Guj.) where such provisions were held to be drastic and extraordinary in nature. These decisions consistently hold that these powers should be used sparingly and not as a matter of routine practice.

PROVISIONAL ATTACHMENT OF ENTIRE BUSINESS PREMISES

Revenue authorities were performing attachment of business premises u/s 71 at the time of their visit on the ground of tax evasion. Section 83 is applicable only in specified sections and since section 71 does not form part of the list therein, it does not permit Revenue to invoke attachment of assets on a visit of premises. In Proex Fashion Private Limited [2021 (1) TMI 365], the Court held that attachment pursuant to visit to business premises u/s 71 is not permissible.

This limitation of section 83 is sought to be overcome by the proposed substitution of section 83 (vide Finance Bill, 2021) which encompasses all the sections under Chapters XII, XIV and XV of the CGST Act for invoking provisional attachment. Under the amended section 83, officers would be empowered to provisionally attach the business premises at the time of visit, inspection or search rather than waiting for adjudication of the tax demands.

DISCLOSURE OF REASONS / CIRCUMSTANCES FOR PROVISIONAL ATTACHMENT

Section 83 does not require that the necessary circumstances be communicated to the taxpayer prior to invoking provisional attachment. But such formation of belief can be examined by the Court on being questioned by the tax defaulter. The Court can examine the materials to find out whether an honest and reasonable person can base his reasonable belief upon such materials although the sufficiency of the reasons for the belief cannot be investigated by the Court (Sheonath Singh’s case [AIR 1971 SC 2451]).

Continuation of attachment after one year

Pendency of proceedings is a sine qua non for provisional attachment of any property. Where the provisional attachment has been initiated, the conclusion of the proceedings warrants that the provisional attachment should be lifted and cannot be continued. Revenue authorities would have to lift the encumbrance over the property and invoke other recovery provisions based on the outcome of the adjudication / assessment.

In UFV India Global Education vs. UOI 2020 (43) GSTL 472 (P&H), the Court held that provisional attachments are not valid after completion of the proceedings on the basis of which attachments were initiated. In other words, where the attachment was initiated on the basis of an inspection u/s 67, the attachment would cease to operate on the completion of the proceedings under the said section. As a corollary, where the inspection proceedings migrate to adjudication under sections 73 or 74, a fresh provisional attachment is required to be initiated during the pendency of such adjudication proceedings. However, this position in law is also undergoing alteration by substitution of section 83 where the provisional attachment has been sought to be extended until the conclusion of proceedings of adjudication or one year, whichever is earlier.

Renewal of provisional attachment

In Amazonite Steel Pvt. Ltd. vs. UOI 2020 (36) GSTL 184 (Cal.), the Court reprimanded officers who failed to withdraw the provisional attachment of the property beyond the time limit of one year and imposed heavy costs on the officials concerned. But this does not mean that the Commissioner is not empowered to renew the provisional attachment after the expiry of one year. In Shrimati Priti vs. State of Gujarat [2011 SCC Online Guj. 1869], the Court interpreted the scope of section 45 of the Gujarat Value Added Tax Act, 2003 (similar to section 83) and held that on the one hand section 45 requires the competent officer to review the situation compulsorily at least upon completion of the period, while so doing, it does not limit his discretion to exercise such powers again if the situation so arises. Other things remaining the same, the Court also held that there is nothing in the express wording of section 83 which prohibits the Commissioner from issuing a fresh order for provisional attachment on expiry of one year. Therefore, as long as there is pendency of proceedings under a specified section, Commissioners can form an opinion and renew the provisional attachment of the property. In the context of Income-tax law, the provisional attachment has been specifically stated as not being extendable beyond two years. It is in this context that the Delhi High Court in VLS Finance Ltd. vs. ACIT [2011] 331 ITR 131 (Delhi) held that attachment of property cannot extend the limit specified in law and hence distinguishable from the position under GST.

Though in theory these provisions are held to be extreme actions, it is not unknown that Revenue officers have used this tool to arm-twist taxpayers in recovery of taxes. Apprehension of business breakdown compels enterprises to succumb to such demands. Despite their bona fides being proved during investigations, certain taxpayers also find the removal of attachment to be a herculean task. The tool of deterrence has in certain instances become a tool of harassment. Indeed, with great power comes great responsibility!

shailesh.kwebmaker

LOST IN CREDIT LOSS!

Indirect tax legislations across the globe introduce input credits to eliminate tax cascading in the downstream value chain of goods / services. An idealistic VAT system envisages tax as a ‘pass-through’ so that the tax itself would not be a component of product / service pricing. Yet this idealistic VAT system has been tampered with, time and again, and one is forced to ponder over the robustness of the VAT system. Inefficiencies have crept into this system through the introduction of credit blocks in respect of motor vehicles, construction activity, etc. One such inefficiency is the reversal of input tax credit (ITC) in respect of goods lost, stolen, destroyed, written off or disposed of by way of gift or free samples [section 17(5)(h)]. None of these terms has been defined under the Act and one would have to examine the general and contextual meaning of these terms. This article seeks to articulate the plausible meanings intended by the Legislature and their impact in determining the credit eligibility. The relevant clause(s) under examination has / have been extracted below:

‘16(1). Every registered person shall, subject to such conditions and restrictions as may be prescribed and in the manner specified in section 49, be entitled to take credit of input tax charged on any supply of goods or services or both to him which are used or intended to be used in the course of furtherance of his business and the said amount shall be credited to the electronic credit ledger of such person…..
17(5) Notwithstanding anything contained in sub-section (1) of section 16 and sub-section (1) of section 18, input tax credit shall not be available in respect of the following, namely: -….
(h) goods lost, stolen, destroyed, written off or disposed of by way of gift or free samples, and; ….’

GENERAL UNDERSTANDING OF IMPORTANT TERMS
The key terms under consideration in section 17(5)(h) and their respective meanings from the Law Lexicon (5th Edition) are given below:
Lost – A thing is said to be lost when it cannot be found or when ordinary vigilance will not regain it.
Stolen – ‘To steal’ means to take by theft and ‘Intent to steal’ refers to permanently deprive and defraud another of the use and benefit of property and permanently to appropriate the property to his own use or the use of any person other than the true owner.
Destroyed – ‘Destroyed’ occurring in section 32(1) of the Income-tax Act has a wider connotation than mere physical destruction. It would also cover loss arising on the theft of a vehicle. The term ‘destroyed’ in section 41(2) of the Income-tax Act would not cover items partly destroyed in fire and which have been retained by the assessee. In another context, the term destroyed means to ‘demolish’, i.e., to render a thing useless for the purpose for which it was intended.
Written off – ‘Write down’ means to reduce the book value of. ‘Write off’ means to carry or remove. ‘Write-off’ also means to delete an asset from the accounts because it has been depreciated (or been written-down) so far that it no longer has any book value. It can also mean to charge the whole of the value of an asset to expenses or loss (i.e., assign it zero value on the balance sheet).
Disposed of by way of gift or free sample – Dispose means to transfer to the control or ownership of another; or transfer or alienate. ‘Gift’ means to transfer by one person to another of any existing movable property voluntarily and without consideration in money or money’s worth. ‘Sample’, both in its legal and popular acceptance, means that which is taken out of a large quantity and is a fair representation of the ‘whole’, a part shown as a specimen. The transfer ought to be by way of gift or free sample. The entire phrase can be interpreted as ‘to transfer the control or ownership over goods either by way of love / affection or by taking out a small quantity from a larger group and such transfer being without consideration’.

JUDICIAL INTERPRETATION
The phrase ‘lost’ can be understood in the sense that the taxpayer has lost possession over the goods on account of any external incident. It represents a total annihilation of the goods and does not appear to be encompassing situations where the goods are present but there is a loss (economic and / or physical loss) which is partial in nature. This expression should be understood in contradistinction to the phrase ‘loss’ which would be wider and include partial loss of goods concerned. Superior Court of Pennsylvania in Dluge vs. Robinson1, while considering an issue relating to ‘negotiable instruments destroyed, stolen or otherwise lost’, referred to the definition of the term ‘lost’ in the Black’s Law Dictionary (4th edition) which reads as follows:

‘An article is “lost” when the owner has lost the possession or custody of it, involuntarily and by any means, but more particularly by accident or his own negligence or forgetfulness, and when he is ignorant of its whereabouts or cannot recover it by an ordinarily diligent search.’

In Sialkot Industrial Corporation vs. UOI2 the phrase ‘lost or destroyed’ was examined and it means a complete deprivation of the property involved. This decision is important as it highlights the commonality in the phrases lost, destroyed, disposition as that in which there is loss of possession over the goods:

‘10. According to the Webster’s Third New International Dictionary, the word “Loss” means, the act or fact of losing, failure to keep possession, deprivation, theft of property. In the same dictionary, the word “lost” is defined as meaning “not made use of, ruined or destroyed physically or morally, parted with, no longer possessed, taken away or beyond reach of attainment”. According to the Law Lexicon, Vol. 2 page 44, the word “loss” has no precise hard and fast meaning. It is a generic and comprehensive term covering different situations. Loss results when a thing is destroyed. But it is also caused when the owner has been made to part with it although the thing remains intact. In this sense, loss means and implies “a deprivation”. It is synonymous with damage resulting either in consequence of destruction, deprivation or even depreciation and when a party is dispossessed of a thing, either when it can never be recovered or when it is withheld from him, he is deemed to suffer the loss.’

The said decision was distinguished in BEML vs. CC Madras3 in the context of the Customs Act which had distinct provisions for goods lost or destroyed and those that are pilfered. In that context the Court held that goods stolen cannot be included in the phrase lost or destroyed. But this distinction does not alter the interpretation in section 17(5)(h) since they are subject to similar implications under the GST law.

In CIT vs. Sirpur Paper Mills Ltd. [1978] 112 ITR 776 (SC) the word ‘destroy’ came up for consideration – Destroyed is a word in common usage, with well-defined non-technical meaning. As used in law, it does not in all cases necessarily mean complete annihilation or total destruction. But in the context and under particular circumstances the word many times has been defined as meaning totally obliterated and done away with as also made completely useless for the purpose intended – vide Corpus Juris Secundum, Volume 26, page 1246.

‘We are not concerned in this case with a situation where two independent machineries which are separable have to work combined for the purpose of business. We, therefore, need not answer as to what would happen in such a case. We are concerned in this case with the part of the machinery which admittedly was inseparable and had no independent existence as machinery. The context in which the words “sold”, “discarded”, “demolished” or “destroyed” are used and for the purpose for which they are used, to our mind, clearly suggest that it is to the whole machinery that they apply and not to any part of the machinery.’

OTHER LEGAL PROVISIONS
One may recollect the contextual use of the phrase lost and / or destroyed under the Central Excise Rules, 1944. The provision read as follows:

‘21. Remission of duty – (1) Where it is shown to the satisfaction of the Principal Commissioner or Commissioner, as the case may be that goods have been lost or destroyed by natural causes or by unavoidable accident or are claimed by the manufacturer as unfit for consumption or for marketing, at any time before removal, he may remit the duty payable on such goods, subject to such conditions as may be imposed by him by order in writing:’

Similar expressions were used in sections 22 and 23 of the Customs Act in the context of remission of Customs duty prior to clearance of goods for home consumption. The extract reads as follows:

‘SECTION 22. Abatement of duty on damaged or deteriorated goods. – (1) Where it is shown to the satisfaction of the Assistant Commissioner of Customs or Deputy Commissioner of Customs –
(a) that any imported goods had been damaged or had deteriorated at any time before or during the unloading of the goods in India; or
…..
(c) that any warehoused goods had been damaged at any time before clearance for home consumption on account of any accident not due to any wilful act, negligence or default of the owner, his employee or agent,
SECTION 23. Remission of duty on lost, destroyed or abandoned goods. – (1) Without prejudice to the provisions of section 13, where it is shown to the satisfaction of the Assistant Commissioner of Customs or Deputy Commissioner of Customs that any imported goods have been lost (otherwise than as a result of pilferage) or destroyed, at any time before clearance for home consumption, the Assistant Commissioner of Customs or Deputy Commissioner of Customs shall remit the duty on such goods.’

The specific use of the phrases ‘damage’ / ‘deterioration’ in company with ‘destroyed’ conveys that the Legislature has in the past assigned a distinct connotation to these phrases and the degree of damage or the condition of damage plays an important role in ascertaining whether there is destruction. It appears that only complete damage rendering the goods unusable would be considered as destruction and not otherwise.

RULE OF ‘NOSCITOR A SOCII’
While understanding the above phrase individually, the Noscitor rule of construction ought to be applied. According to the rule, where two or more words which are susceptible to analogous meaning are coupled together, they are understood to be used in their cognate sense. On application of this rule, it would be impermissible to extract a phrase and give it a meaning which is at divergence or wider in amplitude than the other phrases. They are to take colour from each other.

In the present context, the phrases ‘lost’, ‘stolen’, ‘destroyed’, ‘written off’ or ‘disposed of’ appear to have a common thread. The phrase lost and stolen is undoubtedly to be understood as a situation where the owner is deprived of the goods in its entirety. On the other end, the phrases ‘disposed of by gift or free sample’ also represents transfer of goods in its entirety to another person. Accordingly, the intermittent phrases ought to also be understood in the same sense. The phrases ‘destroyed’ and ‘written off’ should also be interpreted in the same sense. Destroyed ought to imply such destruction which completely extinguishes the goods. Partial damage or spoilage of goods which continue to have a physical existence and can be recovered or used partially should not be construed as destroyed. Moreover, write-off of goods represents a permanent write-off of goods which are not having any use to the business enterprise. Partial write-off due to technological obsolescence, etc., cannot be intended to have been included in the said enumeration.

Moreover, these are instances which are unforeseen or non-recurring in nature. If the business practice recognises foreseeable losses (such as evaporation, seasonal damage, etc.), such events may not fall within the strict construction of section 17(5)(h). Losses which arise out of business necessity, conscious efforts, budgeted / identified events, factored into product costs, etc., ought not to be considered as an unforeseen loss. Though there may be involvement of incidents of destruction of the goods, such destruction (being recognised and forecast) would not contextually adhere to the intent of the entire phrase. While one may contend that the phrases ‘disposed of by gift or free sample’ is a voluntary act, the fabric of the phrase evidently necessitates that the events have an unforeseen character inherent in them.

In Symphony Services Corp. India Pvt Ltd. vs. CC Bangalore4 the Court examined a situation where the goods have become entirely useless due to seepage of water, thereby concluding that they were destroyed goods, rejecting the contention of the Department that the said goods were ‘damaged goods’ and not ‘destroyed goods’. This decision is important for the proposition that only complete damage would fall within the expression destruction of goods and the physical condition of the same should be such that it renders them utterly unusable. It is only when such an interpretation is adopted that section 17(5)(h), in its entirety, would one be able to adhere to the Noscitor rule and ensure a consistent understanding of the phrase.

‘In respect of’
Before we move further, it is also important to study the phrase ‘in respect of’ standing at the preamble of section 17(5)(h). One understanding of this phrase is that it has a wide connotation and the Legislature intends to use this phrase in an expansive sense. The popular decision cited in this context is the case of Renusagar Power Co. Ltd. vs. General Electric Co., (1984) 4 SCC 679 where the Courts examined the scope of the arbitration clause in an agreement and held as follows:

‘(2) Expressions such as “arising out of” or “in respect of” or “in connection with” or “in relation to” or “in consequence of” or “concerning” or “relating to” the contract are of the widest amplitude and content and include even questions as to the existence, validity and effect (scope) of the arbitration agreement.’

The said interpretation was followed in a recent decision of the Supreme Court in the context of section 8 of the IBC (Macquarie Bank Limited vs. Shilpi Cable Technologies Limited5) which stated that the phrase ‘in relation to’ is of wide import and consequently interpreted in an expansive sense. In Doypack Systems Pvt. Ltd. vs. UOI (1988) 2 SCC 299, the Court was examining the expression ‘in relation to’ (so also ‘pertaining to’) and held that these expressions are intended to include matters of both direct and indirect significance depending on the context. The Court also stated that the expression ‘relate’ is to be understood as bringing into association or connection with and the said expression is synonymous with ‘concerning to’ and ‘pertaining to’. These are expressions of expansion and not of contraction. Similar views were echoed in other decisions in the context of Central Excise laws6. The above conclusions convey that section 17(5) should be read in its expansive sense with complete play being given to the scope of blocked credits. Accordingly, while interpreting the provisions in respect of goods which are lost, destroyed, etc., they must be applied in an expansive sense rather than a narrow sense.

But a more proximate context was considered in State of Madras vs. Swastik Tobacco Factory7 where the Court was examining the phrase ‘in respect of’ used while granting deduction of excise duty paid in respect of goods sold. While the Revenue argued that ‘in respect of’ here is synonymous with ‘on’ and narrows down the scope of the phrase to only those goods ‘on’ which excise duty was paid, the assessee argued the phrase was wide enough to cover even cases where excise duty paid on raw materials can be attributed to the finished goods. The Court rejected the argument of the assessee and held ‘in respect of’ in the context can only mean goods on which excise duty was paid and not on raw materials which are attributable to the final product. This decision narrowed down the ambit of the phrase and limited the scope of a ‘deduction provision’ to only cases having a direct significance with the subsequent events. Accordingly, the provisions of section 17(5) [more specifically clause (h)] should mandate that the ITC is denied only in respect of those goods which are lost, stolen, destroyed, etc., and not extend itself to goods contained in the finished goods after being put to use.

IDENTITY TEST OF GOODS
The above analysis takes us to the important juncture of whether there has to be a matching of the identity of goods on which credit is taken and the goods on which credit is being denied. In other words, whether a manufactured tyre which is lost, destroyed, stolen can be subjected to reversal ‘in respect of’ the ITC availed on the rubber used as raw material for manufacture of the tyre.

We should reflect back to the CENVAT Credit Rules, 2004 which contained certain provisions on reversal of ITC on removal, loss, destruction, etc.

Rule

Situation

Reversal

Inference

3(5)

Inputs or capital goods removed as such

Complete

Prior to usage

3(5A)

Capital goods removed after use

Depreciated

Subsequent to usage

3(5B)

Input or capital goods wholly or partially
written off

Complete

Non-usage

3(5C)

Inputs on which excise duty remitted (lost
or destroyed)

Input contained in finished goods

Used and contained in a finished product on
which duty was not collected

The said rules captured the cases where the inputs were not put to the intended use of manufacture of goods. In rule 3(5), removal ‘as such’ was interpreted to apply only to cases where the goods were removed without putting them to any use. There have been multiple decisions on the specific point8 that ‘as such’ implies goods in their original condition without having been put to use. Courts have opined that alteration of the form, usage of goods into production process for a reasonably long period would not amount to removal of goods ‘as such’. This leads to the introduction of Rule 3(5A) which addresses the removal of capital goods after usage on a depreciated value. Such an interpretation appeared to be in harmony with the underlying basis for credit, i.e., use or intended for use. Importantly, the law refrained from introducing any reversal on removal of inputs contained in finished goods after the usage of such inputs. Rule 3(5B) was also introduced to address cases where goods, even though in non-usable condition, were retained in the premises and hence did not trigger removal of goods. The said rule therefore mandated reversal of credit where the write-off in the books of accounts was undertaken as a consequence of non-usage of goods. The proviso in the said rule entitled re-credit of this reversed amount the moment the same were again put back to use by the manufacturer.

Rule 3(5C) was introduced to address cases where goods were used and contained in the finished goods which were either lost or destroyed and the excise duty on the same was remitted under the Central Excise Rules. The crucial point worth noting is that these Rules distinctly provided for cases where goods on which credit was taken were ‘contained’ in the manufactured product. Until this Clause was inserted, courts have taken the view that CENVAT rules did not provide for reversal of goods used in the manufacturing process which were ultimately lost or destroyed and duty was remitted in terms of Rule 219. Even subsequent to the introduction of this Clause, Courts have held that the reversal of credit is not automatic and one has to establish remission of excise duty on such goods for reversal under 3(5C) to be triggered10.

The above interpretation rules out many cases of goods which are lost or destroyed or removed after use in production process. Even in cases where the identity of goods is altered / processed into finished products, the mere fact of inputs being contained in such lost / destroyed finished goods does not warrant a reversal unless there are specific provisions to perform the same. In summary, the identity test definitely played an important role in reversal of CENVAT credit.

In the context of GST law, the conclusion ought to remain constituted in view of legacy understanding of credit provisions and the literal wordings of section 17(5)(h). The preliminary conclusion derived on application of the Noscitor rule is further fortified when one reflects upon the background of legacy provisions.

Therefore, the wide interpretation of ‘in respect of’ may not be palatable to taxpayers and there may be an inclination to highlight the context in which this phrase is to be interpreted. They would claim that the expansive nature of section 16(1) should not be defeated by a wider interpretation of section 17(5). Goods lost, destroyed, etc., should be understood as an exception to the positive intent to allow tax credits in case of business use. Where business use has been met and the taxpayer is able to establish the necessity for use of the product in a particular manner (generally framed as commercial expediency), Revenue ought not to question the business acumen behind the use of such goods. And this is where Courts will have to also take cognizance of the ‘commercial expediency test’ while interpreting the said phrase.

The most profound appreciation of this test was stated in an Income-tax matter in S.A. Builders case11 which was examining a matter of allowability of interest for the purpose of business. The Court stated (in para 23-25 and 31) that expenses incurred out of business expediency do not limit themselves to earning profits or one’s own business. It would also include matters undertaken out of a business necessity or prudence even though it does not appear to render an immediate or a visible benefit to the said business. Most importantly, the A.O. cannot sit in judgement over the commercial expediency of a business decision [Hero Cycles (P) Limited vs. CIT12]. The said test was also expounded in J.K. Cotton Spg. & Wvg. Mills Co. Ltd. vs. Sales Tax Officer in the context of Cenvat / Modvat Credits under the erstwhile laws. The Supreme Court stated that credit ought to be extended to equipment in manufacture of goods if it aids any particular process and the said process is so integrally connected with the manufacturing that its absence would render the same commercially inexpedient.

The applicability of the above analysis under GST is visible with the decision of ARS Steel & Alloy International (P) Ltd. where the Madras High Court while addressing the Revenue’s contention that finished goods contained a substantially lower quantity of inputs in comparison with the raw material consumed, stated that loss of inputs which is inherent to the manufacturing process cannot be denied u/s 17(5)(h). The Court relied on the decision in Rupa & Co. Ltd. vs. CESTAT13 and observed that the phrase ‘Inputs of such finished product’ and ‘contained in finished products’ are distinct phrases and they cannot be viewed theoretically as mere semantics. It must be viewed in the context of the manufacturing process which necessarily entails loss of goods at various stages and such loss cannot be equated to loss of the inputs as such. Therefore, the legacy principle that the identity of the goods and the identity of the credit in respect of the goods for which reversal is being sought on the eventuality of being ‘lost’, ‘destroyed’, etc., u/s 17(5)(h) should be mapped and only on such identification would the reversal be permissible under law.

APPLICATION
The above analysis can now be applied to a set of cases where there has been a constant tug-of-war between the taxpayer and his Officer. The Table below has been divided into distinct instances based on events:

Stage

Event

Analysis for 17(5)(h)

Reasoning

Pre-receipt stage

In-transit normal loss – Foreseeable

Threshold conditions u/s 16(2) need to be satisfied and only
then 17(5) to be applied

Section 16(2) mandates receipt of goods but unavoidable
evaporation loss in transit may not disentitle credit. Receipt here is being
applied as ‘legal receipt’ and not merely physical receipt. Once legal
receipt is satisfied then 17(5)(h) test may not bar credit on normal loss

In-transit abnormal loss (pilferage)

Same as above

Section 16(2) may not place a bar on legal receipt, but
pilferage would be covered by section 17(5)(h) and hence inadmissible

Weighment

Short receipt recorded due to weighing scale calibration
differences

This is more a recognisable financial loss on account of
technical reasons and not in the sense understood by section 17(5)(h) which
are unforeseeable in nature

RM – store / shop floor

Spillages, residues, etc., due to handling

Quantitative loss but not complete loss

Generally attributable to mishandling or loss within tolerable
limits. May not be

(continued)

‘lost or destroyed’ if an accepted business practice

Natural causes

Arising on account of floods, fire, etc.

Could fall within the scope based on degree – if goods can be
revived even partially may not fall within the phrase

Spoilage / Damage

Weather, season, handling, etc.

May not fall within the scope of destroyed or lost if goods in
usable condition partially

Pilferage

Stolen

Not eligible for credit

In-process

Normal loss – manufacturing activity

Business expediency

Eligible not covered in exigencies of 17(5)

Spillages, etc., physical handling

Part
of manufacturing process

Eligible to the extent of foreseeable or budgeted losses (normal
loss)

In-process damage

Part
of manufacturing process

Eligible to the extent of foreseeable or budgeted losses (normal
loss)

Qualitative Testing (QC)

Part
of manufacturing process

Eligible on account of business expediency

FG/
Captive consumption

Pilferage

Stolen

In view of the phrase ‘in respect of’, the ingredients of the
finished goods may be susceptible to reversal though difference of opinion
would arise

Normal loss

Inherent
nature of product

Eligible based on it being a foreseeable loss

Physical handling damage

Lost
or destroyed

May be considered as ‘lost’ where unforeseeable and complete
loss of goods

CONCLUSION
This is a topic where the Courts may have to draw a balance between the purported widespread application of section 17(5) and the business wisdom of taxpayers to treat their purchases in a particular manner while doing business. In the context of clause (h), one should be cognizant of the fact that the Government’s stake is limited to the tax component on such goods, whereas the taxpayer himself is committed to the base value of goods involved and if the taxpayer has made a decision to treat the goods in a particular way and recover their costs from the value chain, that decision ought to be respected by the Government while granting tax credits. Moreover, in mathematical terms where the taxpayer has factored in and loaded such losses onto the product pricing and the enhanced sale price, the loss is factored therein and tax revenue attributable to such loss has been passed on as a value addition down the value chain. Ultimately, in the legal sense the maxim ‘Ex praecedentibus et consequentibus optima fit interpretatio’ is apt here – the best interpretation is made from the context!

shailesh.kwebmaker

CONCEPT OF ‘PERSON’ UNDER GST

GST, as an indirect tax, is collected by a person from another person for onward payment to the Government. Though it is a destination-based consumption tax on businesses, the charge and legal liability to pay tax has to be vested onto a specific person (the subject). In case such subject is missing, the taxing statute would lose its purpose as the implementation of the same would become impossible. The word ‘person’ encompasses within its fold not only natural persons like individuals but also artificial persons like firms, AOPs, trusts, companies, etc.

The term ‘person’ has been defined u/s 2(84) of the Central Goods & Services Tax Act, 2017 as under:

(84) ‘person’ includes —
(a) an individual;
(b) a Hindu Undivided Family;
(c) a company;
(d) a firm;
(e) a Limited Liability Partnership;
(f) an association of persons or a body of individuals, whether incorporated or not, in India or outside India;
(g) any corporation established by or under any Central Act, State Act or Provincial Act or a Government company as defined in clause (45) of section 2 of the Companies Act, 2013 (18 of 2013);
(h) any body corporate incorporated by or under the laws of a country outside India;
(i) a co-operative society registered under any law relating to co-operative societies;
(j) a local authority;
(k) Central Government or a State Government;
(l) society as defined under the Societies Registration Act, 1860 (21 of 1860);
(m) trust; and
(n) every artificial juridical person, not falling within any of the above.

As can be seen from the above, the term ‘person’ has been very widely defined to cover, apart from individuals, different types of entities / associations / societies, etc., as well as Government at different levels, i.e., Central, State as well as local authorities. However, mere inclusion in the definition of person would not result in liability of GST unless such person gets covered within the charging provision u/s 9 of the CGST Act, 2017.

CHARGING SECTION & LIABILITY TO PAY TAX
Section 9(1) imposes a levy of GST on all intra-state supplies of goods or services, or both. Having so imposed the tax, the said provision also defines that the tax shall be paid by ‘the’ taxable person. The definition of the term taxable person u/s 2(107) read with the provisions of section 22 would suggest that the taxable person shall generally be the supplier. The exceptions to this general rule are provided in subsequent provisions as under:

• Section 9(3) provides that in notified cases, the tax on supply shall be paid on reverse charge basis by the recipient;
• Section 9(4) provides that in notified cases, the tax on supply received from unregistered persons shall be paid by the registered person on reverse charge basis; and
• Section 9(5) provides that in case of notified services, the tax shall be paid by the Electronic Commerce Operator (ECO) through which the said services are supplied, by treating such ECO as the supplier.

Thus, the important terms emanating from the charging section are taxable person, registered person, supplier and recipient, and in order to enforce levy of tax on a person, a person needs to be classified under any of the said baskets. If a person is not a taxable person, or a registered person or a supplier or a recipient, the liability to pay tax cannot be fastened on him. In other words, the person needs to be specified as ‘a person liable to pay tax’ in one of the persons mentioned above for
the liability to be fastened on him. The above position was laid down by the Supreme Court in the context of service tax while dealing with Rule 2(d)(xii) and (xvii) of the Service Tax Rules, 1994 which cast responsibility on the service receiver to pay service tax. The levy was struck down in the case of Laghu Udyog Bharati vs. UoI [1999 (112) ELT 356 (SC)] as well as in UoI vs. Indian National Shipowners Association [2010 (017) STR 0J57 (SC)].

In the context of GST also, this aspect has been dealt with by the Gujarat High Court in the case of Mohit Minerals Private Limited vs. UoI [2020 (33) GSTL 321 (Guj)]. The issue before the Court was the validity of Entry 10 of Notification 10/2017-IT (Rate) which casts liability on the importer to pay tax on the freight component of goods imported on CIF basis. The liability to pay tax was cast on a notional value, being 10% of the CIF value of the goods imported. One of the contentions raised before the Court challenging the validity of the rate entry was that the privity of contract was between a foreign shipping line as a supplier and the foreign exporter of goods as a recipient and the Indian importer was not a privy to the transaction. As such, the importer could not be treated as a recipient of service and, therefore, the liability to pay tax u/s 9(3) was not triggered. This was accepted by the Gujarat High Court which held as under:

148. In our opinion, the writ-applicant cannot be made liable to pay tax on some supposed theory that the importer is directly or indirectly recipient of the service. The term ‘recipient’ has to be read in the sense in which it has been defined under the Act. There is no room for any interference or logic in the tax laws.
149. If the definition of the term ‘recipient’ is overlooked or ignored, then the writ-applicant would become the recipient of all the goods which goes into the manufacture / production of goods and all the services which have been availed by the foreign exporter for such purposes. Such reasoning which leads to a harsh and arbitrary result has to be avoided, particularly when the term has been expressly defined by the Legislature. Thus, the writ-applicant cannot be said to be the recipient of the supply of the ocean freight service and no tax can be collected from the writ-applicant.

The principle emanating from the above decision is that a person has to be either a supplier or a recipient in order to be held liable to pay tax. In view of the specific deeming fiction in the law itself treating an E-Commerce Operator as a deemed supplier in some cases, even such ECO may be held liable for payment of tax.

PERSON: CONCEPT OF DISTINCTNESS
GST is a transaction tax driven by contract, whether oral or written. This necessitates that all the elements essential for a valid contract need to be present before the levy can be triggered. Keeping this aspect in mind and to achieve the concept of consumption-based tax, i.e., tax revenue should flow to the State where the consumption takes place, section 25 provides that a person who has obtained / is required to obtain registration in one or more State / Union Territory shall, in respect of each such registration, be treated as a distinct person. Further, Schedule I, Entry 2 deems supply of goods or services between such distinct persons as supply, even if made without consideration.

At this juncture, it is relevant to refer to the service tax provisions wherein establishment of a person in a taxable territory and any of his other establishments in a non-taxable territory were treated as distinct establishments of the same person. The implication of this provision was that the Indian HO and its foreign branch were treated as separate entities, though their accounts were ultimately consolidated and for all legal purposes they were treated as one entity.

The above provision had resulted in certain litigation. In 3I Infotech Limited vs. Commissioner [2017 (51) STR 305 (Tri-Mum)], the issue before the Tribunal was liability to pay tax on expenditure incurred by the foreign branches of an Indian company but disclosed in the financial statements which were prepared on a consolidated basis. In this case, a show cause notice proposed recovery of service tax under reverse charge on expenses of such foreign branches. The Tribunal, however, set aside the demand and held as under:

12. We note that Rule 3(iii) of Taxation of Services (Provided from Outside India and Received in India), Rules, 2006 includes ‘business auxiliary services’ but is restricted to such as are received by a recipient located in India for use in relation to business or commerce. The thrust of the Rules is to identify the manner of receipt of service in India in the three categories, viz., in relation to the object of the service, the place of performance and the location of the recipient. We are concerned with the residuary aspect of location of recipient. The Adjudicating Commissioner has not rendered a finding that the appellant is the recipient of service, indeed, he could have done so only by examining the relationship between the appellant and branch in the context of the payments effected to the foreign service provider which he, probably, did not feel obliged to do in the absence of any allegation to that effect in the show cause notice. Unless the recipient is located in India, section 66A cannot be invoked.

Similarly, in the context of airlines, the Tribunal was seized with the question of determining whether or not service tax was payable under reverse charge on payment made to foreign service providers for the centralised reservation system. The challenge was primarily because the payments were made by the Head Office of the airlines. Therefore, in case of international airlines, the entire payment was made by the airlines from their base country, including for bookings done from India from where the said airlines operated. A show cause notice was issued to the foreign airlines to recover service tax under reverse charge mechanism to the extent payments were made pertaining to India bookings. The matter was ultimately decided by the Larger Bench of the Tribunal in the case of British Airways vs. Commissioner [2014 (36) STR 598 (Tri-Del)] wherein the Court set aside the demand and held as under:

46. In view of the foregoing discussions, M/s British Airways, India, has to be treated as a separate person. If that be so, in view of the admitted position that the contract between CRS / GDS companies is not with M/s British Airways, India and is only (sic) that M/s British Airways, UK, the present appellant cannot be held to be the recipient of the services so as to make him liable to pay service tax, on reverse charge basis, in terms of the provisions of section 66A. The said issue stands discussed by the Learned Member (Technical) in his impugned order, by giving an example with which I am in full agreement.

The above decisions indicate that while determining who is the recipient of service the one who is entering into the contract becomes more relevant, even if it is the same legal entity. The challenges would be more especially when this deeming fiction becomes applicable in the context of domestic branches. Let us try to understand the challenges with the help of a few examples:

1. A company incurs marketing expenses for its products which are sold through its regional branches. For accounting and MIS purposes, the company distributes the expenses to the regional branches and the expenses (along with the corresponding ITC) appears in the trial balance of each such branch, though there is only one corresponding invoice. The issue that would arise is who is the recipient of service, who is eligible to claim the input tax credit, and what will be the implications of the Schedule I Entry 2.

2. Similarly, issues may arise in the context of cases where the liability to pay tax is under reverse charge. For instance, a company having a centralised transport department books freight from its Head Office in State A for movement of goods from State B to State C. The company is registered in all the three States. The issue that would remain is whether the RCM liability is to be paid in State A from where the expense has been incurred or State B / C where the services are consumed?

3. The branch office situated in Gujarat has incurred certain expenses towards marketing and promotion. However, the vendor has raised the invoice to the Head Office and disclosed it accordingly in its GST returns, while the expense has been booked by the Gujarat office as it had raised the PO. Who can claim the input tax credit in such cases?

4. Even in case of revenue, while the main revenue would be tagged to the respective locations from where the supply has been made, there can be instances for other income where such identification is not available, or the identification is done erroneously. Let’s take the example of canteen charges which are collected by the company from the employees’ salary on a monthly basis. It is possible that the charges for all employees may be accounted for in one State only. Will there be any implications if the company pays the tax on such recoveries in the State where the recovery is accounted, or the company would be mandatorily required to make payment in the State to which the revenue pertains?

Each of the above situations needs changes at the organisational level, with a need to incorporate branch level accounting, sensitising the personnel with the importance of synchronisation of the invoicing location vis-à-vis the PO location vis-à-vis the accounting location (be it for income / expenditure). A lapse on any one aspect would have substantial impact on the organisation, including financial costs, as claiming of credit in wrong location would not only result in denial of input tax credit at the wrong location and recovery along with interest / penalty, but the correct location may lose out on such credits if not identified within the appropriate timelines. Similarly, even in case of revenue, if the tax is paid from the wrong location, it is likely that the tax authorities might still demand tax from the branch which was actually liable to pay the tax as a supplier of service, resulting in duplicate tax as well as bearing the same, along with interest / penalties as applicable.

Further, the deeming fiction is also inserted to associations where mutuality applies w.r.e.f. 1st July, 2017 wherein activities or transactions between such associations and their members are deemed to be supply. This is to negate the applicability of the decision of the Supreme Court in the case of Calcutta Club Ltd. [2019 (29) GSTL 545 (SC)] wherein it was held that in the case of mutual associations, no VAT / Service Tax was leviable. However, the amendment has not been notified till date and in most likelihood will also be subjected to judicial scrutiny from the GST perspective.

INTERPLAY BETWEEN TAXABLE PERSON AND REGISTERED PERSON
The term ‘taxable person’ has been defined u/s 2(107) as under:

(107) ‘taxable person’ means a person who is registered or liable to be registered u/s 22 or u/s 24;

On a plain reading, it is apparent that any person who is liable to be registered or has voluntarily obtained registration is treated as a taxable person. A person is liable to be registered u/s 22 in the following cases:
• Turnover crossing the prescribed limit,
• Liability of successor in case of succession by way of transfer of business, or
• Liability of transferee on transfer of business / part thereof by way of merger, de-merger, etc.

Similarly, section 24 lays down the situation in which a person shall be liable to obtain registration notwithstanding the turnover limit prescribed u/s 22. However, section 22/24 merely determines the point when a person becomes liable to registration and treats such person as a taxable person. Once the registration is obtained by such person, either in view of section 22/24 or voluntarily, such person becomes a registered person. A ‘registered person’ has been defined u/s 2(94) to mean a person registered u/s 25 but does not include a person holding a Unique Identity Number.

The fundamental difference between a taxable person and a registered person forthcoming from the above is that the concept of taxable person is meant to determine a person who is liable to comply with the GST provisions, including obtaining registration, collecting and paying taxes. Such a person, when he complies with the provisions by obtaining registration, becomes a registered person and the procedural aspects of the GST law, such as input tax credit, filing of returns, assessments, etc., become applicable to such registered persons. For instance, the levy provision u/s 9(1) provides that the tax shall be paid by the taxable person. There can be instances where a person liable to obtain registration has failed to do so. Such a person cannot shirk away from his liability to pay tax on supplies made merely because he is not registered, as long as such person continues to be a taxable person, i.e., there is a liability on him to obtain registration. Similarly, liability to pay is cast on a taxable person in the following cases:

• In case of interest u/s 50, for cases where there is a failure to pay, the liability to pay interest is cast on ‘person’, i.e., both, a person already registered, as well as a person liable to registration but not registered.

However, the term ‘registered person’ is referred primarily in provisions relating to claiming of any benefit / procedural aspects. For example, the provisions relating to claim of input tax credit (section 16), exercising option to pay tax under composition scheme (section 10) or filing of returns / refund claims, etc., (Chapter IX) refer to a registered person. This is because the said provisions deal with the procedural aspects which a person cannot comply with unless such person has obtained registration and becomes a registered person.

Therefore, if it is ultimately held that a person was required to obtain registration but failed to do so, he is likely to lose out on claim of input tax credit as section 16(1), the enabling section, entitles only a registered person to take input tax credit. In view of the decision in the case of Spenta International Limited vs. Commissioner [2007 (216) ELT 133 (Tri-LB)], it is a settled position of law that eligibility of credit has to be decided at the time of receipt of inputs.

Therefore, it is apparent that unless a person obtains registration he shall not be entitled to take input tax credit on inward supplies received prior to grant of registration. However, the exception granted u/s 18(1)(a) in case of registration u/s 22/24 and voluntary registration u/s 25(3) will be available, though the same is restricted only to the extent of inputs held in stock. This is a departure from the position under the CENVAT regime where the Karnataka High Court has, in the case of mPortal India Wireless Solutions Private Limited [2012 (27) STR 134 (Kar)] held that registration is not a prerequisite for claim of CENVAT Credit.

LIABILITY TO PAY TAX UNDER ‘REVERSE CHARGE’
While section 9(1), which is the general section, imposes a liability to pay tax on the taxable person supplying the goods, sections 9(3) and 9(4) provide for cases where the liability to pay tax has been shifted to the recipient of the goods or services, or both. However, there is a difference in both the provisions.

Section 9(3) notifies the category of goods or services or both where the tax is payable by the recipient of such goods or services, or both. However, section 9(4) notifies the class of registered persons who shall on receipt of notified supply of goods or services or both, be liable to pay tax under reverse charge. The primary distinction in case of reverse charge u/s 9(3) and 9(4) is that section 9(3) applies to a recipient receiving the notified goods or services or both, as defined u/s 2(93), while section 9(4) applies to notified class of registered person receiving the notified goods or services or both. Therefore, for applicability of reverse charge u/s 9(3), a person needs to be classified as ‘recipient’,” while in the case of the latter, the person needs to be both, recipient as well as registered person.

It therefore becomes essential to analyse who is the recipient in the context of GST. The same is defined u/s 2(93) as under:

(93) ‘recipient’ of supply of goods or services or both, means —
(a) where a consideration is payable for the supply of goods or services or both, the person who is liable to pay that consideration;
(b) where no consideration is payable for the supply of goods, the person to whom the goods are delivered or made available, or to whom possession or use of the goods is given or made available; and
(c) where no consideration is payable for the supply of a service, the person to whom the service is rendered,
and any reference to a person to whom a supply is made shall be construed as a reference to the recipient of the supply and shall include an agent acting as such on behalf of the recipient in relation to the goods or services or both supplied;

It is evident that the definition merely refers to ‘the person’. The person may or may not be a taxable person / registered person. In such a situation, the liability to pay tax in case of supplies notified u/s 9(3) shall be on the recipient. This, coupled with the provisions of section 24(iii) which provides for compulsory registration in case of persons liable to pay tax under reverse charge, would trigger the need for registration even if such person is otherwise not liable to registration.

Therefore, in cases where the supply is notified u/s 9(3), the recipient (if not a registered person) would need to analyse whether or not an exemption has been granted for such supply. For instance, in case of reverse charge on security services / rent-a-cab services, there is no exemption provided under the exemption notification. Therefore, even if there is a single instance of such payments, the liability to obtain registration and pay the tax would get triggered.

This would apply even in cases where there is an exemption from obtaining registration. For instance, a supplier exclusively engaged in making exempt supplies is not required to obtain registration u/s 22(1) even if his aggregate turnover exceeds Rs. 20 lakhs as the same applies only to taxable supplies. However, if such a person receives security services / rent-a-cab services which are notified u/s 9(3), such person would be required to obtain registration in view of section 24(iii) and pay the tax (with no corresponding credits) and comply with the prescribed provisions.

It is also important to note that in quite a few cases exemption has also been granted. For instance, a charitable trust carrying out charitable activities and not liable to pay GST u/s 9(1) would not be liable to obtain registration u/s 22. However, if the same trust purchases software from outside India, the same will be taxable as import of service (which does not require to be in the course or furtherance of business) and in such cases the liability to obtain GST registration and comply with the provisions gets triggered. However, in view of Entry 10 of Notification 9/2017-IT (Rate), such services and certain other cases are exempted from the levy of tax and, therefore, the need to obtain registration does not get triggered in such cases.

However, when it comes to section 9(4), the liability to pay tax triggers only when the person is a registered person, i.e., he has obtained registration u/s 25 and is covered within the class of registered persons notified therein. Currently, the notified class of registered persons liable to pay tax u/s 9(4) on supplies received from unregistered suppliers is a promoter as defined u/s 2(zk) of the Real Estate (Regulation & Development) Act, 2016.

DIFFERENT TYPES OF TAXABLE PERSONS
Under the GST law, a person also has an option to obtain registration as a Casual Taxable Person (‘CTP’) / Non-resident taxable person (’NRTP’). The terms ‘casual taxable person’ and ‘non-resident taxable person’ have been defined u/s 2 as under:

(20) ‘casual taxable person’ means a person who occasionally undertakes transactions involving supply of goods or services or both in the course or furtherance of business, whether as principal, agent or in any other capacity, in a State or a Union Territory where he has no fixed place of business.
(77) ‘non-resident taxable person’ means any person who occasionally undertakes transactions involving supply of goods or services or both whether as principal or agent or in any other capacity, but who has no fixed place of business or residence in India;

As can be seen from the above, registration as NRTP / CTP is applicable in case of a supplier intending to make a taxable supply of goods or services or both from a State / Union Territory where such supplier, being a taxable person, has no permanent fixed place of business in the said State / Union Territory. The only distinction between NRTP and CTP is that while the concept of NRTP applies to a person who has no fixed place of business / residence in India, the concept of CTP applies to a person who has a fixed place of business / residence in India, but not in the State / UT from where such person occasionally makes the taxable supply.

In a recent decision, the Supreme Court in Commercial Tax Officer, Bharatpur vs. Bhagat Singh [2021 (46) GSTL 3 (SC)] held that a person can be treated as casual taxable person even if he carries out a single transaction. There is no need for multiple transactions in order to obtain registration as a Casual Taxable Person.

The need to opt for CTP / NRTP would generally apply in cases where goods are sent for exhibition in a different State and sold at the exhibition itself. Similarly, even Event Management Companies can opt for this concept to optimise credits (especially on inward supplies falling under the property basket). However, in case of handicraft goods, an exemption has been granted from obtaining registration.

It is, however, important to note that CTP / NRTP is compulsorily required to obtain registration u/s 24(ii) and 24(v), respectively. Therefore, a person who has a fixed place of business in Maharashtra and is not liable to be registered u/s 22(1) or 24 and intends to make a taxable supply in Gujarat where he has no fixed place of business, will be required to obtain registration even if his turnover from Gujarat or aggregate turnover is not likely to cross the threshold limit prescribed u/s 22(1). Secondly, the need to register as CTP / NRTP will be triggered only in a case where taxable supply of goods or services or both is intended to be made. This was recently held by the AAR in the case of Ascen Hyveg Pvt. Ltd. [2021 (48) GSTL 386 (AAR–GST–Har)].

E-COMMERCE OPERATOR
In these modern times, online service providers through their online portals have started providing the service of connecting the supplier and the recipient for a charge. The transaction is between the supplier and the recipient but is facilitated by the online portals (such as OLA, Uber, Zomato, etc.). The online portals charge a fee from the supplier or recipient or both. At times, what happens is that both supplier as well as recipient are not registered and, therefore, the transaction escapes the tax net.

Keeping this aspect in mind, the liability to pay tax on such transactions was cast on such online portals, i.e., E-Commerce Operators, through which the services are being supplied. The relevant definitions are:

(45) ‘electronic commerce operator’ means any person who owns, operates or manages digital or electronic facility or platform for electronic commerce;
(44) ‘electronic commerce’ means the supply of goods or services or both, including digital products over digital or electronic network;

Currently, the notified class of services where the liability to pay tax is cast on the ECO are:
• Service by way of transportation of passengers by radio-taxi, motor-cab, maxi-cab and motorcycle;
• Service by way of providing hotel accommodations except where the person actually supplying the service is liable for registration u/s 22(1), i.e., his turnover exceeds the threshold limit;
• Services by way of housekeeping, such as plumbing, carpentering, etc., except where the person actually supplying the service is liable for registration u/s 22(1), i.e., his turnover exceeds the threshold limit;
• Restaurant services supplied through ECO (Swiggy, Zomato, etc.) are also likely to be covered u/s 9(5) w.e.f. 1st January, 2022.

It is imperative to note that in the above cases the liability to pay tax is shifted to the ECO. This is not a case of reverse charge. Therefore, from suppliers’ perspective, especially unregistered suppliers, no tax can be demanded from such suppliers where the ECO has already paid the tax. Further, such unregistered suppliers, supplying exclusively through E-commerce operators are also exempted from obtaining registration if their turnover exceeds Rs. 20 lakhs.

The ECO is also required to collect tax at source @ 1% on the net value of taxable supplies (other than notified supplies) made through it by the registered suppliers.

PERSON – PRINCIPAL – AGENT RELATIONSHIPS UNDER GST
The transactions of principal / agency are governed by the provisions of the Indian Contract Act, 1872 and the terms of the arrangement between such parties. Under GST, the supply of goods by a principal to his agent or by an agent to his principal is deemed to be a supply for the purpose of section 7, even if made without a consideration. However, the same does not extend to services. Therefore, any movement of goods by a principal to his agent or otherwise, be it intra-state or interstate, has to be under the cover of a tax invoice.

It is also important to note that the liability of the principal and his agent in respect of goods supplied / received by the agent shall be joint and several, and in case the agent fails to make payment of the due tax, the same can be recovered from the principal.

However, the deeming fiction has not been extended to services. This can lead to certain issues. Let’s take the example of an agent paying the GTA for transport services. The agent is also a registered person and the GTA recognises the agent as the recipient of service. In such cases, the question arises as to who shall pay GST under reverse charge? And if the agent has discharged the liability under reverse charge, can the same be demanded again from the principal?

Even under the pre-GST regime, there have been disputes on taxability in case of P2A transactions. The primary dispute has been determining whether the relationship of principal – agency exists between the two parties or not, be it travel agents, advertising agencies, freight forwarders, etc. For instance, in case of discounts / incentives given by vehicle manufacturers to the dealers where the Department had alleged Business Auxiliary Services, the Tribunal had stuck down the demand, concluding that such discounts were nothing but a reduction in purchase price (Refer Commissioner vs. Sai Service Station Ltd. [2014 (35) STR 625 (Tri-Mum)].

Even in case of freight forwarders, where the freight forwarders traded in cargo space and the Department had demanded service tax on the trading profits, the demand was set aside in the case of Greenwich Meridian Logistics (I) Pvt. Ltd. [2016 (43) STR 215 (Tri-Mum)]. Similarly, in case of advertising agencies, the Tribunal had in the case of Euro RSCG Advertising Ltd. [2007 (7) STR 277 (Tri-Bang)] held that the agency was liable to pay tax only on the amounts collected from the advertiser / client and not the publisher. It is, however, important to note that the basis for this dispute was that the freight charges / print advertising charges were exempt from service tax, which is not so in the context of GST. It is therefore unlikely that the disputes will continue under GST.

As can be seen from the above, even though the tax was discharged on the transaction complying with the principles of destination-based taxation (as the POS was correctly disclosed), the authorities still issued demand notice without appreciating the fact that the tax liability was exhausted. This demonstrates that while dealing with service transactions taxpayers will have to be very careful in taking positions, as any position is likely to be scrutinised by tax authorities and any instances involving non-payment of tax are likely to be looked at adversely.

Of course, on the issue of discharge of liability / person liable to pay tax, in the context of Service Tax, the Tribunal has, in the case of Reliance Securities Ltd. vs. Commissioner [2019 (20) GSTL 265 (Tri-Mum)], held that if the agent has paid the service tax liability, the principal would not be liable to pay tax on the same again on his share. It remains to be seen whether the said principle will be followed in the context of GST also.

PERSONS – WAREHOUSE / GODOWN OWNER / OPERATOR AND TRANSPORTERS
Apart from the above, there are various instances where a person, though not being a taxable person (i.e., registered or not liable to be registered), is required to comply with various requirements under the law. For instance, a warehouse / godown owner / operator and transporter who is not registered is required to maintain records of the consignor, consignee and other relevant details of the goods in the manner prescribed u/r 58. Such person is required to obtain a unique enrolment number by making an application in Form GST ENR-01 / ENR-02, respectively.

In addition, the following details are required to be maintained by such persons:
• In case of warehouse / godown owner / operator, period for which particulars of goods remain in the warehouse along with particulars relating to receipt, dispatch, movement and disposal of such goods;
• In case of transporter, record of goods transported, delivered and stored in transit along with the GSTIN of the consignor and the consignee.

The Proper Officer has the powers to carry out inspection, search and seizure at the premises of the above suppliers, i.e., transporter or warehouse / godown owner / operator u/s 67. Such officer also has powers to issue directions to the custodian of the goods to not remove, part with or deal with such goods without prior approval.

Similarly, when the goods are in movement, it is the responsibility of the transporter to ensure that the prescribed documents are in possession for verification during the movement. If the vehicle is intercepted during movement and the prescribed documents are not available with the transporter in support of the goods being transported, they are liable to confiscation.

PROCEEDINGS A PERSON MAY BE SUBJECTED TO
On the basis of the classification of a person, either as a taxable person, a registered person or otherwise, a distinction exists in the provisions relating to assessment, audit, recovery and penalties. While the concept of self-assessment u/s 59 refers to the registered person requiring such person to self-assess his liability, the option of provisional assessment u/s 60 is made available to a taxable person. Therefore, if a person has doubts over whether he is liable to be registered, he has an option to opt for provisional assessment.

Similarly, separate provisions have been prescribed u/s 63 for a taxable person who fails to obtain registration or has obtained registration but the same has been cancelled u/s 29(2). The reason for the assessment u/s 63 not being applicable to a taxable person registered under GST is that the taxable person who is registered is to be subjected to scrutiny u/s 61, assessment u/s 62 in case of non-filing of returns, audit by tax authorities u/s 65, and special audit u/s 66.

However, in case of recovery proceedings u/s 73 or u/s 74, the provisions refer to ‘the person’, implying that the provisions shall apply to both, a taxable person (thus including a registered person) and a person who is not liable to be registered and opts to be an unregistered person. The appeal provisions have also been similarly drafted.

However, depending on the nature of the contravention, the person on whom penalty can be imposed is based on the nature of contravention. For instance, penalty for specific offences listed u/s 122 is applicable only on a taxable person, while penalty for failure to furnish information return u/s 150 or statistics is leviable on any person. Similarly, the general penalty prescribed u/s 125, which deals with levy of penalty for any offence not covered above, is leviable on any person, irrespective of whether such a person is a registered person or not.

CONCLUSION
The GST law recognises different classes of persons and classification of a person would make such person liable to either pay tax, claim credit or be subject to various proceedings, or even require such person to comply with other provisions of the law. Therefore, it is always important that it is determined which particular provisions are applicable to a person, and whenever any proceedings are being commenced on such a person, it is ensured that such person can be subjected to the said proceedings else the very basis of the proceedings can be challenged before the courts.

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PROPRIETY IN ADJUDICATION

Legacy laws were legislated independently and hence administered by their respective Governments. However, the GST law has been designed on the unique concept of ‘Pooled sovereignty’ between the Centre and the States. This dual nature of GST has made the administration of this novel legislation a critical challenge before the GST Council. Unlike the ‘origin-based’ Central Sales Tax law (also a Central legislation) where the collection and retention of taxes was with the respective State Governments, the GST design faces the peculiarity of implementing a ‘destination consumption law’ with revenue being collected and administered in the State of origin but ultimately accruing to the State of consumption. Moreover, the Central and State administrations are not only implementing their respective laws under which they have been appointed, but are also entrusted with implementing the parallel GST law. Intense discussions have taken place between the Central and State administrations and the final handshake was made as follows:

–    Single administrative interface;
–    Efficient use of respective administrative expertise;
–    Vertical and quantitative division of taxpayer base (except for enforcement and vigilance action); and
–    Cross-empowerment of critical administration functions (except matters involving the place of supply).

SUMMARY OF ADMINISTRATION OF GST ACT
Sections 3, 4 and 5 provide for the administration of the Act – Section 3 handles appointments at various levels of officers and deemed officers appointed under the erstwhile enactment as GST officers; Section 4 empowers the Board / Commissioner to appoint such other persons as GST officers; Section 5 enables the Board to equip any officer appointed under sections 3 or 4 with functions and duties under the Act. It also enables the Commissioner to delegate his powers to any subordinate officer. Section 6 codifies the cross-empowerment principle as agreed by the GST Council, enabling the appointed GST officers to cross-administer the functions conferred under the correspondent enactments. In this background, three phrases have been adopted for the purpose of assignment of administrative functions, viz., ‘adjudicating authority’, ‘proper officer’ and ‘authorised officer’. This article attempts to decode whether these terms are mutually exclusive or overlapping with each other. It is to be noted that this article only decodes the Central Tax Notifications / Circulars. One may have to examine the flow of the respective State Notifications in order to fix the jurisdiction of said officers.

PROPER OFFICER – DEFINITION AND ROLE
As a starting point, let us look at the respective definitions under the GST Act:

Proper Officer – Section 2(91) defines ‘proper officer’ in relation to any function to be performed under this Act, which means the Commissioner or the Officer of the Central Tax who is assigned that function by the Commissioner in the Board;

Section 2(24): ‘Commissioner’ means the Commissioner of Central Tax and includes the Principal Commissioner of Central Tax appointed u/s 3 and the Commissioner of Integrated Tax appointed under the Integrated Goods and Services Tax Act;
Section 2(25) r/w/s 168, ‘Commissioner in the Board’… shall mean a Commissioner or Joint Secretary posted in the Board and such Commissioner or Joint Secretary shall exercise the powers specified in the said sections with the approval of the Board.
(Note – In Central Tax administration, NOT all Commissioners are empowered to perform the function of assignment. It is only that Commissioner who is posted in the Board who is entitled to perform such assignment of functions.)

In order to confer specific jurisdiction to individual officers, the respective Commissioners have, through instructions / Notifications, identified the ‘proper officers’ on the principle of cross-empowerment, functional and geographical division and vested them with the requisite functions. The role of proper officer has been envisaged as follows:

Section

Function

Issue
orders

Chapter VI

Registration / Amendment / Cancellation

Yes, for registration, cancellation,
suspension, revocation

Chapter X

Refunds

Yes, for sanction or rejection

Section 60

Provisional assessment

Yes, for finalisation of provisional
assessment

Section 61

Scrutiny of returns

Section 62

Assessment of non-filers

Yes, best judgement order

Section 63

Assessment of unregistered persons

Yes, best judgement order

Section 65

Audit

Section 66

Special audits

Section 67

Inspection, search and seizure

Section 68

Inspection of goods in movement

Section 70

Summon attendance

Section 71

Access of business premises

Section 73/74

Demands of taxes

Yes, for ascertaining raising demands

Section 79

Recovery of taxes

ADJUDICATING AUTHORITY – DEFINITION AND ROLE

Adjudicating Authority – Section 2(4) defines ‘adjudicating authority’ which means any authority, appointed or authorised to pass any order or decision under this Act, but does not include the Central Board of Indirect Taxes and Customs, the Revisional Authority, the Authority for Advance Ruling, the Appellate Authority for Advance Ruling, the National Appellate Authority for Advance Ruling, the Appellate Authority, the Appellate Tribunal and the Authority referred to in sub-section (2) of section 171.

The term ‘adjudicating authority’ has been used in ‘Chapter XVIII-Appeals & Revisions’. The section provides for the remedy of appeal only against the orders of the ‘adjudicating authority’. The critical point to be noted is that this phrase is being used for the first time under the Chapter of Appeals and is conspicuously absent in the provisions granting powers to issue orders under the Assessment / Adjudication provisions of the enactment. There seems to be a prima facie disconnect in empowerment of execution and decision-making functions under the Act. It appears that certain functions have been distributed to proper officers but the issuance of orders (decision-making) has been conferred on a separate category of officers called ‘adjudicating authority’. One therefore has to look into the enactment to identify whether the said terms are overlapping or mutually exclusive to each other.

Authorised Officer – Role
In several instances, the enactment empowers senior officer(s) to ‘authorise’ a Central Tax Officer with specific functions. Section 67 empowers the Joint Commissioner to authorise officers to inspect the premises of a taxpayer. Section 65 empowers the Joint Commissioner to authorise the audit of a taxpayer by a particular officer including visiting the said premises. Therefore, these are officers who are permitted to perform a specific task under an authorisation having a limited operation over a ‘particular taxpayer for a specific function’.

Identification – ‘Proper Officer’
An officer after having been appointed under the Act, is required to be granted jurisdiction to perform his task under the Act. Proper officers are conferred powers on the following basis: (a) Geography, (b) Cross-empowerment / division, (c) Functions, and (d) Monetary limits (if any).

A) Geographical jurisdiction
Notification 2/2017-CT dated 19th June, 2017 appoints Central Tax Officers for the purpose of section 3 of the CGST Act and assigns geographical jurisdiction to Commissioners (aka Executive Commissionerate), Commissioners (Appeals) and Commissioners (Audit). The said Notification divides the entire Central Administration at State / District levels for the purpose of administration. Each Commissioner has issued public notices assigning jurisdiction to various ranges based on geographical parameters (such as PIN codes, etc.). Correspondingly, State Commissioners are expected to exercise similar powers and assign such jurisdiction to officers in their administration. Similarly, Notification 14/2017-CT dated 1st July, 2017 seeks to appoint officers of the Directorate-General of GST Intelligence / Audit as Central Tax Officers with all-India jurisdiction and confers powers corresponding to the specified level of Central Tax Officers. Section 3 of the GST Act also deems officers appointed under the legacy laws as officers appointed under the said Act.

B) Cross-empowerment jurisdiction
In terms of the 9th GST Council minutes, the Centre and States have mutually agreed to a ‘vertical division’ of the taxpayer base in each State (except for enforcement and vigilance functions). Vertical division of the taxpayer base entails clear demarcation of taxpayers being administered by the Centre and the State at each State’s level. The GST Council vide CBEC Circular No. 1/2017-GST dated 20th September, 2017 provided for such division based on turnover, business and geographical parameters. State-level committees have issued trade notices demarcating the taxpayer base between both the administrations. Having been assigned respective administrative powers for a set of taxpayers, section 6 of the CGST Act empowers the ‘cross-empowered proper officer’ to administer in parallel the corresponding GST law, i.e., the proper officer issuing orders under the CGST Act shall be empowered to issue parallel orders under the SGST Act with due intimation to the jurisdictional officer1. The GST Council has also decided that cases involving ‘place of supply’ would have to be handled by the Central Tax administration even if the taxpayer has been assigned to the State administration.

Notification 39/2017 dated 13th October, 2017 has been issued u/s 6(1) of the CGST Act empowering State officers for the purpose of sanction of refund u/s 54 or 55 except Rule 96 of the CGST Rules, 2017 in respect of registered persons located in the territorial jurisdiction of the said State officers. CBIC letter dated 22nd June, 2020 states that the said Notification has been issued only to place a restriction on State officers from issuing refunds under Rule 96 of the CGST Rules. In the absence of a Notification it should be understood that all powers are cross-empowered to the corresponding administration by virtue of section 6.

C) Functional jurisdiction
CBEC Circular No. 3/3/2017 dated 5th July, 2017 has assigned functions to specified class of officers in exercise of powers u/s 2(91). The summary of the functions assigned to the Central Tax Officers is as follows:

Proper
officer

Powers
& functions

Principal Commissioner / Commissioner of
Central Tax

• Extension of period of seizure of goods
beyond six months

• Extension for payments of demands up to
three months

Additional or Joint Commissioner of Central
Tax

• Authorisation of inspection, search of
premises, seizure of goods, documents, books or things, inventory / disposal
of perishable goods

• Authorisation of access to business
premises for inspection of books of accounts, records, etc.

• Permission for transfer of properties by
defaulter

• Disposal of conveyance in detention
proceedings

Deputy or Assistant Commissioner of Central
Tax

• Processing of refund applications

• Provisional assessment proceedings

• Assessment of unregistered persons

• Summary assessments in special cases

• Audit

• Adjudication above a specific limit

• Recovery of excess taxes collected

• Recovery of taxes

• Penalties under various sections

• Detention proceedings

• Confiscation of goods or conveyances

• Transitional provisions

• Re-credit of rejected refunds

• Other specified procedural matters

Superintendent of Central Tax

• Non-accountal of goods

• Scrutiny of returns

• Assessment of non-filers

• General audit / special audit
observations / findings

• Seizure of books of accounts

• Summon for submission of evidences

• Adjudication up to specific limit

• Other specified procedural matters

Inspector of Central Tax

Detention proceedings

(Note – Assignment of powers to a specified officer would include assignment of such powers to the superiors of the specified officers.)

CBEC Circular dated 31st May, 2018-GST, dated 9th February, 2018 has also clarified that Audit Commissionerates and DGGSTI shall exercise powers
of issuance of show cause notices but the adjudication of
the same would be done by the Executive Commissionerates having jurisdiction over the principal place of business.

D) Monetary jurisdiction
The Central Tax administration (vide CBEC Circular dated 31st May, 2018-GST, dated 9th February, 2018) has assigned monetary jurisdiction to Superintendents, Assistant / Deputy Commissioners and Additional / Joint Commissioners for the purpose of adjudication of matters. A significant point is that the said monetary limits would extend only to matters of adjudication and other powers (such as summary assessments, etc.) are not subjected to any monetary limits.

ANALYSIS
The prima facie observation emerging from the above Notifications / Circulars is that though ‘proper officers’ have been conferred certain powers, the phrase ‘adjudicating authority’ u/s 2(4) has not been mentioned anywhere. Generally, one may hasten to conclude that none of the officers have been empowered to adjudicate (i.e., issue orders) in terms of section 2(4) of the GST Act. The adjudication function, being a special and distinct function, has not been conferred on any officer and hence no orders can be issued until the adjudication function is conferred on officers.

The said argument may face stiff resistance when one probes further into the enactment. Chapter II on Administration provides for identification of ‘proper officers’ for various functions of the Act. As tabulated above, various sections under the enactment empower the proper officers to perform certain functions. While some sections specifically empower officers with issuance of orders, others transfer the proceedings to its conclusion. For example, though sections 61, 65 and 66 entrust certain functions / powers, the respective provisions do not empower them to issue orders for the purpose of concluding the proceedings. Section 61 empowers the proper officer to scrutinise the GST returns and seek related clarifications from the taxpayers, but directs that any adverse observation should result in appropriate action such as audit, adjudication, etc. The proper officer does not derive the power of issuance of orders under the said section and the ascertainment of proper officer for issuance of orders would have to be performed under a separate section. Similar implications appear to operate in case of audits conducted u/s 65. The audit function may be entrusted to a specific group of officers but the section does not specifically empower them to adjudicate the matter, and the issue is required to be adjudged only by the proper officer empowered to issue orders in terms of section 73/74 of the GST Act.

The corollary is that all proper officers may not be adjudicating authorities but all adjudicating authorities would necessarily have to be proper officers under the section. The empowerment of a person as a proper officer is delegated to the respective Commissioner but the empowerment of the person as an adjudicating authority emerges from the provisions of the statute and is not the subject matter of delegation.

Another corollary of this approach is that not all actions of proper officers are appealable under the provisions of Chapter XVIII of the GST Act. It is only orders issued by an adjudicating authority which are eligible for a statutory appeal under the Chapter of Appeals / Revisions. For example, section 65(6) requires the proper officer performing the audit to issue his ‘findings’ from the audit. The Act has consciously used the phrase ‘findings’ in contradistinction to ‘orders’. These findings would not be appealable orders for the purpose of XVIII since these are not decisions of adjudicating authorities or arising out of an adjudication proceeding under the Act. However, orders which are issued under sections 62, 63 or 64 in the case of assessment of non-filers, summary assessments or protective assessments, are in the nature of a decision-making function (adjudication function) and hence would be appealable before the respective appellate authority.

To reiterate, assignment of ‘proper officer’ is a consequence of the Commissioner’s order but the assignment of a decision-making function is consequent to the statutory provision itself. Conferment of the status of adjudicating authority stands at a higher pedestal and cannot be altered by any order / Notification. Thus one may conclude that the carving out of a separate category of ‘adjudicating authorities’ is for the purpose of tagging their orders as appealable orders under the Act. Adjudicating authorities are a ‘sub-set’ of proper officers and not a distinct category of officers.

SUPREME COURT’S VERDICT IN THE SAYED ALI & CANNON INDIA CASES
The Supreme Court in Sayed Ali (2011) 265 ELT 17 (SC) examined the aspect of appointment of Customs (Preventive) officers and assignment of functions as proper officers for administration of the Act. The Court observed that appointment of officers of customs for a particular geographical area does not ipso facto confer powers of a ‘proper officer’ and in the absence of specific adjudication functions being assigned, Customs (Preventive) officers were held as incompetent to issue show cause notices.

Applying the Sayed Ali case, the Supreme Court once again in Cannon India [2021 (376) E.L.T. 3 (S.C.)] examined a bill of entry assessed by the Customs Officer (Appraising) and cleared for home consumption. The Director of Revenue Intelligence (DRI) subsequently raised the issue of short assessment of duty in terms of section 28(4) of the Customs Act. Section 28(4) r/w/s 2(34) assigned the function of demands and recovery to ‘the proper officer’. The Court emphasised on the article ‘the’ as conveying that ‘the proper officer’ is the specified officer who has been assigned the function u/s 28(4) and not any other officer. Section 28(4) being a power of re-assessment of the original assessment ought to be conferred only on ‘the officer’ who performed the original assessment and not on any other officer. According to the Court, where the same powers are conferred to different officers on a particular subject matter, then the exercise of powers by one of the officers would be to the exclusion of the other, and hence any subsequent reassessment ought to be made by the original officer who exercised jurisdiction over the subject matter. Moreover, the Court stated that DRI officers were not conferred powers of administration of the Customs Act since the Notification conferring powers did not trace itself back to section 6 of the Customs Act which empowered the Central Government to appoint other Central officers for the purpose of the Customs Act. Accordingly, adjudication proceedings initiated by the DRI officers were quashed in the absence of jurisdiction. The analogy emerging from these decisions is that there has to be a specific conferment of powers for performance of a function under the law and once such power is conferred to a particular officer, it operates to the exclusion of all other officers even though they may exercise jurisdiction over the taxpayer.

The Proper Officer – As adjudicating authority
To understand the interplay between ‘Proper officer’, ‘Authorised officer’ and ‘Adjudicating authority’, one may take the example of audit proceedings. Section 65 specifies that the Commissioner may, by general / special order, authorise any officer to perform an audit of a taxpayer. The provision uses the phrase ‘authorised officer’ in the section, i.e., officer who has been assigned the audit of the taxpayer. However, in section 65(6) the provisions state that on conclusion of the audit, ‘the proper officer’ shall inform the audit findings and their reasons. In section 65(7), it has been stated that where audit results in short payment of taxes, ‘the proper officer’ may initiate action u/s 73/74 which states that the ‘proper officer’ in such cases shall issue a show cause notice directing the taxpayer to pay the said amount. The reference to ‘the proper officer’ continues in the said section and 73(9) enables the said proper officer to issue appropriate orders.

Two questions arise here: (a) Firstly, which Commissioner is authorised to perform the task of assignment of audit cases. While practically the Commissioner (Audit) performs this task, Notification 2/2017-CT does not specify such powers being granted to the Commissioner (Audit). The said Notification merely states that the Commissioner (Audit) would exercise powers over the ‘territorial jurisdiction’ of the corresponding Commissioner(s). The nature of the powers to be exercised has not been specified in the said Notification. Even Board Circular No. 3/3/2017 only appoints the Commissioners with the proper officer functions and does not specifically grant an audit function to the Commissioner (Audit). In contrast, the Central Excise law contained Notification 30/2014-CT dated 14th October, 2014 r/w Notification 47/2016 dated 28th September, 2016 which specifically granted Audit and SCN issuance functions (adjudication powers introduced subsequently) for conferring jurisdiction. The GST provisions appear to have some shortcomings to this extent;

(b) Secondly, who is the ‘proper officer’ for conclusion of audit proceedings and adjudication of the subject matter? It is fairly clear that ‘authorised officers’ u/s 65(1)/(2) are distinct from ‘proper officers’ referred in 65(6)/(7) and 73/74. It also appears that the proper officer referred to in both sections implies ‘the’ proper officer who is assigned the adjudication function. Therefore, ‘the proper officer’ referred to in 65(6)/(7) should be the same officer as is being referred to in 73/74. Notification 2/2017 r/w Circular 3/3/2017 dated 31st May, 2018 implies that the Executive Commissionerate has been vested with both powers, i.e., ‘conclusion of audit proceedings’ [section 65(6)/(7)] as well as ‘adjudication of demands’ (section 73/74). It appears that the function of the Audit Commissionerate / officers terminates with the performance of the audit (i.e., visit, examination, etc.) but reporting of audit findings and adjudication (where required) would need to be performed by the Executive Commissionerate only. Alternatively, it appears that the ‘proper officer’ who is assigned the function of conclusion of audit u/s 65(6)/(7) should be the same officer issuing the show cause notice u/s 73(1), and in view of Circular dated 3rd March, 2017, the proper officer for adjudication u/s 73(9) should be the officer functioning in the Executive Commissionerate. Despite this ambiguity, the conclusion remains that ‘authorised officers’ are distinct from ‘the proper officer’ and those proper officers functioning as decision-making authorities u/s 73/74(9) would function as adjudicating authorities, making their orders amenable to statutory appeal.

State Administration – CGST Act
State administration has been conferred with powers to administer the Central enactment in respect of taxpayers assigned to the State. Section 6(1) of the CGST Act considered ‘officers’ appointed under the SGST Act as being authorised to be ‘proper officers’ for the purpose of the CGST Act. The respective State Commissioners in terms of the powers drawn from section 3 of the respective State enactments have designated proper officers on functional and geographical basis. Though the Commissioner exercising powers from the SGST Act appoints them as proper officers for the purpose of the SGST Act, the said State officers have not been assigned functions for the purpose of the CGST Act. Moreover, section 6(1) does not explicitly confer the rights of assignment of proper officer functions to the Commissioners (State) for the purpose of Central enactment. This probably should continue to be the prerogative of the Commissioner (Central Tax) only. This is because the phrase ‘proper officer’ under the CGST Act is an appointment u/s 2(91) of the CGST Act and the said section only permits the assignment of functions by the ‘Commissioner in the Board’. Commissioner in the Board only refers to Commissioner as designated by the Central Board of Indirect Taxes. State Commissioners would not be the Commissioners as understood in terms of section 2(91) of the CGST Act and hence the assignment of functions to their subordinates for the purpose of the SGST Act does not automatically result in assignment of functions for the purpose of the CGST Act. In simple terms, section 6 enables the Central enactment to authorise the State administration as proper officers (i.e., borrow the man-power) but the power of assignment of functions (supervisory powers) to these sets of officers would continue to vest with the Commissioner in the Board and such power of assignment has not been delegated to the State Commissioner.

State Administration – IGST Act
Section 4 of the IGST Act is pari materia to section 6(1) of the CGST Act. A similar issue would emerge when a State officer administers the IGST Act. This would be so insofar as the State administration is presiding over the state of registration of the taxpayer. But an additional issue that also emerges is where a State administration exercises its powers over a taxpayer who is not registered in their State. For example, any movement of goods from Mumbai to Chennai could entail movement through an intermediate State (say, Karnataka, Andhra Pradesh, etc.). The ‘place of supply’ of such transaction would be Tamil Nadu and the taxable person would be administered in Maharashtra. Strictly speaking, no revenue accrues (directly or indirectly) from this transaction to the State of Karnataka, though in practice the State administration has exercised its power to intercept goods which originate from Mumbai and are destined for Chennai.

Section 4 of the IGST Act appoints officers of the SGST as proper offices for the IGST Act. SGST has been defined under 2(111) of the CGST Act as ‘respective’ State GST officers. Therefore, section 4 of the IGST Act borrows the State administration from the ‘respective’ State only and so the respective State GST officer should ideally refer to the State administration having jurisdiction over the registration of the taxpayer. Though the State of Karnataka cannot exercise its domain over the said movement by virtue of ‘place of business’ or ‘place of supply’, the practice has been to exercise domain by virtue of the ‘geographical presence’ of the goods under movement. None of the Central Tax notifications confer proper officer functions on the basis of geographical presence of goods. Rather, they appear to have been assigned with reference to the place of business of the taxpayer. On a reading of section 68 r/w/s 129 of the CGST Act, it appears that ‘the proper officer’ referred therein cannot extend to all States’ proper officers and would be limited only to the ‘respective State proper officers’ from the movement that emerges. But the High Court in Advantage India Logistics Private Limited vs. UOI (2018) 19 GSTL 46 (MP) held otherwise. The Court upheld the jurisdiction of an MP State officer to intercept goods moving from Gurgaon (Haryana) to Mumbai (Maharashtra). This results in a very precarious situation and it is important that all stake-holders take cognisance of this issue.

DGGSTI as ‘proper officer’
In this context, the Notifications empowering the Directorate-General GST Intelligence (an arm of DRI) would be worth examining:
– Notification 14/2017-Central Tax invokes its powers from sections 3 and 5 of the CGST Act and appoints the officers of the Director-General of GST Intelligence (erstwhile Director-General of Central Excise Intelligence) as officers with all-India jurisdiction;
– The said Notification invests them with all the powers as have been invested in the corresponding rank of officers under the Central Tax Administration;
– However, the Notification appointing DGGST officers as Central Tax officers has not been issued u/s 4 of the GST Act. The officers of the DGGI, which is a special wing of the DRI, have not been appointed as ‘Central Tax Officers’ in terms of section 4 of the CGST Act.
– Moreover, the Commissioner in the Board has not conferred the ‘proper officer’ function to the officers of the DGGI.
– This gives rise to a similar anomaly as was prevalent under the Customs legislation and under consideration in the Cannon India case.

Thus, DGGSTI being officers appointed directly by the Central Government, are not officers specified in section 3 of the GST Act though a Notification has been issued invoking the said power. Section 4 has not been invoked by the said Notification for appointment of the DGGSTI officer for purposes of the CGST Law. To this extent, Notification 14/2017 carries the similar lacuna as was being considered in the aforesaid case and consequently the said officers cannot be termed as ‘proper officers’ in terms of section 2(34) of the said Act.

COMPTROLLER & AUDITOR-GENERAL OF INDIA (C&AG)
There has been a recent trend where C&AG officers have been seeking information from taxpayers on the Transitional Credit Claim under GST. Neither section 3 nor 4 have appointed the officers of the C&AG as Central Tax Officers under the statute. Accordingly, such officers cannot be categorised as ‘proper officers’ under either the CGST or the SGST Act. Except section 108 of the CGST Act, none of the sections even mentions officers of the C&AG to verify the books of accounts of the taxpayer. It is only section 108 of the CGST Act which makes reference to the objections of the C&AG for the purpose of enabling the revisional authority to revise any orders of proceedings conducted under the GST Act. But this does not enable the C&AG to directly scrutinise, assess or even adjudicate the records of the taxpayers. Thus, the C&AG cannot be permitted to directly seek or audit the records of the taxpayers and form any conclusion on the legality of their tax liability.

CONCLUSION
The onus of proving sufficient jurisdiction is on the officer asserting it. Unless the jurisdiction has been conclusively established, the officer cannot proceed on the subject matter. In conclusion, one may recollect the decision of the Supreme Court in Hukum Chand Shyam Lal (1976 AIR 789) which observed as follows: ‘It is well settled that where a power is required to be exercised by a certain authority in a certain way, it should be exercised in that manner or not at all, and all other modes of performances are necessarily forbidden. It is all the more necessary to observe this rule where power is of a drastic nature and its exercise in a mode other than the one provided will be violative of the fundamental principles of natural justice.’ The complex legal and administrative systems adopted under GST have to be meticulously handled by the Administrators in order to ensure the smooth and efficient function of the administration. Though this has been undertaken to a large extent, certain gaps need to examined and addressed so that there is clarity on the proper officer before whom the taxpayers are answerable.

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RESOLVING THE INSOLVENT

Taxation laws have always mingled with other regulatory laws and this interplay has resulted in better application of the tax laws. The intermingling of the GST law with the recently-enacted Insolvency & Bankruptcy Code, 2016 poses interesting facets of the GST law. Though both laws have a different orientation, they converge on the issue of tax recovery from a defaulter. The said laws also have an interesting commonality, i.e., they are claimed as reformist action carrying the same ‘magnitude of 1991’ (the year when economic reforms were carried out under the duo of PM Narasimha Rao and FM Manmohan Singh).

This article is an attempt to identify the points of convergence of these revolutionary laws in the context of corporate insolvencies.

Generally speaking, a defaulting / sick enterprise will also have statutory defaults (referred to as ‘Crown debts’). Under the erstwhile provisions, Crown debts were given priority over other financial / trade debts. Empirical evidence suggests that sick enterprises burdened with Crown debts impair the productivity of assets and deter the overall recovery of the enterprise. Permitting tax recoveries would defeat the ultimate motive of rejuvenating a sick enterprise and this has been expressed in the Bankruptcy Law Reforms Committee (BLRC) report in 2015:

‘2. Executive Summary
The key economic question in the bankruptcy process…
The Committee believes that there is only one correct forum for evaluating such possibilities and making a decision: a creditors’ committee, where all financial creditors have votes in proportion to the magnitude of debt that they hold. In the past, laws in India have brought arms of the Government (legislature, executive or judiciary) into this question. This has been strictly avoided by the Committee. The appropriate disposition of a defaulting firm is a business decision, and only the creditors should make it.’

BRIEF OVERVIEW OF THE INSOLVENCY & BANKRUPTCY CODE

The Insolvency and Bankruptcy Code, 2016 (IBC) is the bankruptcy law of India which aims at creating a single law for insolvency and bankruptcy for corporates and non-corporates. It is a comprehensive code for resolving insolvencies which erstwhile laws failed to achieve. Hitherto, the Sick Industrial Companies (Special Provisions) Act, 1985 (‘SICA’), the Recovery of Debt Due to Banks and Financial Institutions Act, 1993 (‘RDDBFI’), the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (‘SARFAESI’) and the Companies Act, 2013 provided for insolvency of companies. The Presidency Towns Insolvency Act, 1909 and the Provincial Insolvency Act, 1920 were made applicable to individuals and partnership firms. But the thrust of the IBC law is to identify sickness under a ‘liquidity approach’ rather than a ‘balance sheet approach’ at the earliest point of time, i.e., default in payment of any debt obligation.

At the end of it, the insolvency process results in two eventualities: (a) recovery of the enterprise through a Corporate Insolvency Resolution Process (CIRP); or (b) liquidation of the enterprise and distribution of assets to the stakeholders.

SUPREMACY OF THE CODE OVER ALL LAWS (INCLUDING GST)

The law was given teeth through blanket overriding provisions over all other Central and State laws. This was a learning from the erstwhile laws and the intent of the Legislature was to give corporate revival primacy over liquidation. Section 238 of the Code gives it supremacy over all other laws insofar as an insolvency resolution process is concerned and it cannot be eclipsed by resorting to remedies available under the ordinary law of the land. The IBC law has withstood the constitutional challenge in the famous Swiss Ribbons case (2019) 4 SCC 17 which gave further impetus to this legislation.

Central or State Government as an operational creditor

In terms of section 5(20) r/w/s 5(21) of IBC 2016, an operational creditor has been defined as a person to whom a debt in respect of goods or services is due and includes debt payable under any law to the Central and State Government. Contrary to the erstwhile laws which prioritised Crown debts, this law has relegated Government dues to the class of operational creditors. CBEC Circular 134/04/2020-GST, dated 23rd March, 2020 also clarifies that the GST dues would stand as ‘operational debt’ and no coercive action is permitted to be taken by the proper officer for recovery of debts due prior to the CIRP date. It would be seen under the IBC process that operational creditors have a limited power in revival of the enterprise. Section 30(1) only assures the liquidation value of the Corporate Debtor to operational creditors.

Participation in the insolvency resolution process – operational creditors

The insolvency process commences with an insolvency application filed by a financial creditor, operational creditor or corporate debtor (or its member) himself. Operational creditors are permitted to file for initiation of insolvency in case of default of any debts due to them. The date of admission of the application for insolvency by the NCLT acts as the ‘insolvency commencement date’. On and from this date, a blanket moratorium is announced against the institution and the continuation, execution of any suit or decree under any law against the Corporate Debtor. In addition, a complete bar is placed on transferring, encumbering, alienating, recovering, etc., of any assets or rights of the Corporate Debtor. This date serves as a reference point for ascertainment of debts / claims settled under the insolvency resolution process.

A public announcement is made of the CIRP containing the details of the insolvency and seeking submission of claims against the Corporate Debtor. Operational creditors are required to submit their claims for dues from the Corporate Debtor within the specified time frame. It is based on these claims that the resolution professional (RP) draws up the statement of debts due by the Corporate Debtor and the available assets against such claims. The RP is required to verify the claims, including contingent claims, for arriving at the creditors’ pool of the Corporate Debtor.

________________________________________________________________________

1 For respective GSTIN registration

It is at this juncture that statutory authorities (including Central / State Governments1) have to enter the insolvency process and present their claim of unpaid taxes from the Corporate Debtor. Unless a claim is filed, Governments are not permitted to seek a share in the resolution plan of the creditor. These claims are subject to verification and admission by the IRP / RP. Therefore, if the merits of the claim itself are disputed, the IRP / RP may not consider the same as a valid claim. The Central / State Government being in the status of operational creditors, is not permitted to vote as part of the Committee of Creditors (COC) which is the prerogative of the financial creditors. They are mute spectators to the resolution process and would have to accept the decision of the COC as being in the overall interests of all stakeholders.

AGITATING THE RESOLUTION PLAN

Under the revived insolvency law, the financial creditors that comprise the COC are given supreme powers over the resolution of the Corporate Debtor. The law-makers believe that the financial creditors contributing risk capital stand to lose most in an insolvency and therefore would make all efforts to seek suitors who are willing to revive the company. In case a resolution plan is successfully drawn up and approved by the COC, the same would be approved by the NCLT and given statutory force. In terms of section 31 of the IBC, the approved resolution plan would be binding on all stakeholders, including Central / State Governments.

In all likelihood creditors (including Central / State Governments) would be aggrieved by the reduction in the settlement of dues under the resolution plan. Section 61(3) recognises that all resolution plans would entail some pain to stakeholders, yet the commercial wisdom of COC has been given statutory force. IBC limits the scope of any appeal against the order of NCLT (affirming the COC decisions) only in cases where:

* Approved resolution plan is in contravention of any law for the time being in force
* Material irregularity in exercise of powers by IRP / RP
* Debts owed to operational creditors have not been provided for in the resolution plan
* Insolvency costs are not provided for
* Or any other prescribed criteria.

The Supreme Court, in the case of Ghanshyam Mishra & Sons Private Limited vs. Edelweiss Asset Reconstruction Company Limited (2021) SCC Online SC 313, has unequivocally stated that the Legislature has consciously precluded any ground to challenge the ‘commercial wisdom’ of the COC before the NCLT and that decision is ‘non-justiciable’. Effectively, on approval of the plan by the NCLT, all operational creditors including the Central / State Governments, lose their right to claim any further dues on the fairness doctrine. Discretion on the rationing of the limited funds of the Corporate Debtors rests in the domain of the financial creditors jointly through the COC.

In the context of GST, though the Centre / State would have ascertained their respective dues, they can at the most stake their claims and it would be for the COC to ascertain the eligible claim and provide for the settlement of the said claim on a liquidation-value basis depending on the availability of assets of the Corporate Debtor and the proposal by the incoming resolution applicant. Despite the Centre / State having a self-assessed GST liability available on record, they are bound by the resolution plan and have to strictly abide by the same. Importantly, paragraph 67 of the above decision also states that debts in respect of the payment of dues arising under any law including the ones owed to Centre / State which do not form part of the resolution plan, stand extinguished. This conclusion seals the fate of all adjudicated / unadjudicated GST dues pertaining to the periods up to the CIRP date and the Centre / States cannot proceed to recover any amounts not provided in the resolution plan. Reference can also be made to the decision in Essar Steel India Ltd. Committee of Creditors vs. Satish Kumar Gupta (2020) 8 SCC 531,

‘107. For the same reason, the impugned NLCAT judgment [Standard Chartered Bank vs. Satish Kumar Gupta, 2019 SCC OnLine NCLAT 388] in holding that claims that may exist apart from those decided on merits by the resolution professional and by the Adjudicating Authority / Appellate Tribunal can now be decided by an appropriate forum in terms of section 60(6) of the Code, also militates against the rationale of section 31 of the Code. A successful resolution applicant cannot suddenly be faced with “undecided” claims after the resolution plan submitted by him has been accepted as this would amount to a hydra-head popping up which would throw into uncertainty amounts payable by a prospective resolution applicant who would successfully take over the business of the corporate debtor. All claims must be submitted to and decided by the resolution professional so that a prospective resolution applicant knows exactly what has to be paid in order that it may then take over and run the business of the corporate debtor. This the successful resolution applicant does on a fresh slate, as has been pointed out by us hereinabove. For these reasons, NCLAT judgment must also be set aside on this count.’

ROLE OF INSOLVENCY RESOLUTION PROFESSIONAL

The CIRP process involves appointment of an IRP / RP for management of the affairs of the Corporate Debtor. The powers of the board of directors stand suspended and vested in the hands of the RP (section 17/25). It provides that the IRP / RP would act and execute in the name and on behalf of the Corporate Debtor and keep the same as a going concern. In terms of section 148 of the CGST / SGST Act r.w. Notification 11/2020-CT dated 21st March, 2020, a special process has been identified for management of the affairs of the Corporate Debtor by the IRP / RP until conclusion of the insolvency resolution process. In terms of the proviso, this Notification would be applicable only to such class of persons who have defaulted in filing the outward supplies statement (GSTR1) or return (GSTR3B) under the GST law.

The IRP / RP would be deemed to be a ‘distinct person’ of the Corporate Debtor and is required to take separate registration numbers in each of the States where the Corporate Debtor was previously registered. In effect, a separate GSTIN (under the PAN of the Corporate Debtor) should be obtained by the IRP / RP and all inward / outward supply transactions from the date of appointment of the IRP / RP would have to be reported under the new GSTIN. This ensures that pre-CIRP dues would be governed by the resolution plan / liquidation order and an IRP / RP being a fiduciary, be responsible for acts done after its appointment under a fresh registration – refer Circular (Supra). Moreover, non-filing of prior period returns would not act as a bar on filing subsequent period returns and the new registration would facilitate regularising the compliance subsequent to the appointment of IRP / RP.

Recognising that the creation of a new registration would cause temporary technical challenges, the said Notification waives the time limit of section 16(4) and GSTR2A reflection under Rule 36(4) of the CGST law. Interestingly, as per the Circular (Supra), this waiver is permitted only for the first return filed by the IRP / RP after seeking the registration u/s 40. The IRP / RP is permitted to account for inward supplies which are received since its appointment and cannot expand the claim of credit to supplies prior to such date.

At the customer’s front, invoices raised by the Corporate Debtor during the interregnum (i.e., from the CIRP commencement date and date of registration by IRP / RP) would be eligible as input tax credit in the hands of the recipient despite the erstwhile GSTIN being reflected in such invoices. Separately, the said Notification also permits the RP to seek refund of the amounts lying in the electronic cash ledger in the erstwhile registration.

STATUS OF THE ERSTWHILE REGISTRATION

In terms of the Circular (Supra), the erstwhile registration is required to be placed under suspension by the proper officer after the CIRP date and cannot be cancelled by the proper officer. In case the registration is already cancelled, the proper officer has been directed to revoke the cancellation and bring the same to suspension status.

It may be noted that the new registration granted to the IRP / RP is for the limited timeframe from the CIRP date up to the approval / rejection of the resolution plan. In the event that the resolution plan of the resolution applicant is approved and the Corporate Debtor continues in the same legal form, the law appears to be silent on the continuation of the new registration or reverting to the erstwhile registration. On the basis that the law is silent and that IRP / RP registration is a temporary measure, it can be concluded that the Corporate Debtor would revert to the original registration and the proper officer would have to revoke the suspension placed on the original registration.

Naturally, section 39(10) and the GSTN portal may pose the technical challenge of prohibiting the Corporate Debtor from filing returns after the resolution date on account of default of prior period returns. Due to this hindrance and given the fact that the IRP / RP has filed the returns for the corresponding period, one may consider availing a third registration after the date of approval of the resolution plan by the NCLT. Of course, where the resolution plan involves an amalgamation or merger, the general GST provisions including transfer of input tax credit, would take over for this purpose.

SCENARIO ON LIQUIDATION

Where the COC fails to draw up a resolution plan within the specified / extended time lines or the resolution plan is rejected or contravened, the NCLT would direct that the company be liquidated and the assets be distributed to the stakeholders under a waterfall mechanism. The liquidation order shall be deemed to be a notice of discharge to the officers, employees and workmen of the Corporate Debtor and the liquidator takes charge of all the matters of the Corporate Debtor. In terms of section 53 of the IBC, the distribution of assets / liquidation value to workmen, secured creditors and unsecured creditors would be made prior to meeting the Crown debts. In all likelihood, a Corporate Debtor would not have sufficient assets and the dues would have to be written off by the Central / State Governments.

Unlike the Notification issued w.r.t. the resolution process, the GST law has not provided for the continuation or creation of a new registration in the eventuality of the company entering into liquidation. A liquidator appointed u/s 34 of the IBC law may inherit a going concern and would have to perform a piecemeal liquidation of the Corporate Debtor. The liquidation process may entail GST implications which the official liquidator may be liable to discharge. The law appears to be silent
on the status of the IRP / RP registration or the erstwhile pre-CIRP registration during such process and the Board should clarify this practical issue faced by liquidators.

SIGNIFICANCE OF DISTINCT PERSON REGISTRATION

Section 168 of the law mandates a fresh registration by the IRP / RP in fiduciary capacity and such registration has been treated as a distinct person. Curiously, this Notification, though procedural in nature, raises concerns on the substantive provisions of section 25 which define distinct person. The assets / inventory which are in possession under the older GSTIN are now to be considered the property of the new IRP / RP GSTIN as being ‘distinct person’ under law. While one may be tempted to invoke Schedule I and deem a notional supply among these GSTINs, we should be conscious of the purpose of the Notification. The said Notification is directed towards procedural aspects and not alteration of substantive rights / liabilities of the taxpayer. The rights and liabilities under law would continue under the supervision of the IBC process and GST should not treat this registration as a distinct person in the strict sense. Under the IBC law, sections 17, 18, 24 and 25 define the role and responsibilities of the IRP / RP as being responsible for the management of affairs and ensuring compliance of legal requirements under the IBC and other laws. The Supreme Court in Arcellor Mittal (India) Ltd. vs. Satish Kumar Gupta (2019) 2 SCC 1, states that the RP is taking over the Corporate Debtor in an ‘administrative capacity’ and not in an adjudicatory capacity. This conclusion should put at rest any doubts on the distinct person concept which has been introduced through section 168 of the law.

INTERESTING FACETS OF INPUT TAX CREDIT AT CUSTOMER’S END

GST dues which are collected and payable by the Corporate Debtor may remain unpaid or would be settled at a reduced value under a resolution / liquidation plan. This may result in violation of section 16(2)(c) of the GST law requiring the recipient to establish that input tax has been paid to the Government. Does the settlement of the resolution plan by the Corporate Debtor have any bearing on the ITC claim of the recipient? One theory would claim that the debt due by the Corporate Debtor (i.e., output tax) itself would stand ‘extinguished’ on approval of the resolution plan and thus the taxes are not ‘unpaid taxes’ to the Government causing invocation of the said provision. Section 16(2) pre-supposes a legally sustainable claim and non-payment of such claim would result in denial of ITC. But where the claim itself has been extinguished one may say that section 16(2) stands complied with. Moreover, Government being a stakeholder of the resolution plan, has accepted the haircut (though by statutory force whose validity has not been challenged at appellate forums), it should be estopped from now staking a new claim at the recipient’s end.

The alternative theory would claim that taxes which are not realised by the Government are not ITC and this makes it justifiable for the Revenue to deny the claim. The fallout of this approach would be that the recipient of input from the Corporate Debtor would be under double jeopardy – having paid the tax portion to the Corporate Debtor it would still be denied the ITC by the Government.

INPUT TAX CREDIT LYING IN BALANCE / REFUNDS DUE AS ON CIRP DATE

The Corporate Debtor may be entitled to the ITC lying unutilised as on the CIRP date [for example, Input – 100; Input as per 2A – 150; Output – 350]. The question for consideration is whether the Government’s claim would be 250 or 350? Government in every likelihood may proceed to confirm its demand (vide an order) for gross amount of 350 and this poses a question on the ‘debt’ which is due to the Government. Claim u/s 2(6) refers to a ‘right to payment’ whether or not such right is disputed / undisputed, etc. Debt has been defined u/s 2(11) as being a ‘liability or obligation’ in respect of a claim which is due from any person. Regulation 9-14 places the responsibility of verification of the claims and ascertainment of the ‘best estimate’ on the IRP / RP.

GST being a VAT model, the references to output tax and input tax are made to ascertain the net value addition. Though they are distinct and independent concepts, the scheme of the legislation is to arrive at the net tax liability after reduction of amounts lying as credit. The scheme of section 49 of the GST law (also refer ‘self-assessed tax’) and returns also depict that the ‘liability or payment’ to the Government would be computed after deduction of the ITC eligible to the Corporate Debtor. But the answer may be different to the extent of input which is eligible but lying unclaimed by the Corporate Debtor (50). This is because the statutory scheme requires that ITC should be claimed for it to be eligible for a deduction against output tax. Where the claim is not made by the Corporate Debtor or its representative (IRP / RP), in all likelihood that amount would stand lapsed and cannot be claimed as a set-off in ascertaining the debt due to the Government.

Where refunds are due by the Government, it may be within its statutory right to internally adjust these amounts. Section 54(10) of the GST law empowers the officer to recover the said amounts. Where such adjustments are made prior to the moratorium, the Government would be within the framework to justify the adjustment. But once a moratorium is declared, section 14(1)(a) bars any transfer, encumbrance, alienation or disposal of the assets of the Corporate Debtor. The Government may be barred from adjusting the refunds due to the Corporate Debtor with outstanding dues. In such scenarios, the IRP / RP would have to pursue the refund claim from the Government and transfer the outstanding dues to the decision of the COC under the resolution plan. But in case of liquidation, Regulation 29 expressly permits mutual credits or set-off prior to ascertainment of the net amount payable by the Corporate Debtor.

FATE OF ALTERNATIVE RECOVERIES – JOINT & SEVERAL LIABILITY OF DIRECTORS, ETC.

GST law has amply empowered authorities to recover their tax dues from refund adjustments, garnishee proceedings, etc. Whether these provisions which can be invoked in the normal course of business operations have a bearing on the Corporate Debtor? The moment the CIRP process is initiated, the moratorium shields the Corporate Debtor from any further liabilities and also protects all its assets from alienation from the Corporate Debtor. This effectively restricts the taxman from approaching banks / debtors and recovering the taxes forcefully. Under general law, the right of the creditor in invoking the personal guarantees granted by directors was under consideration before the Court in SBI vs. V. Ramakrishnan & Ors. (2018) 17 SCC 394, wherein it was held that the moratorium does not insulate the guarantors of the debt and their independent and co-extensive liability would continue unhindered. On these lines, the liability of directors under GST would also stand on an independent footing.

Section 88 provides for joint and several liabilities over the directors of the company unless they prove that such non-recovery was not on account of any gross neglect, misfeasance or breach of duty in relation to the affairs of the company. While this provision is specific to cases involving liquidation, it does not specifically provide for cases where the Corporate Debtor is taken over by a resolution applicant. Therefore, Centre / State may not be in a position to invoke the said provision in case of reduction of debt due to the respective Governments.

In the alternative, the taxman would like to go after the transferee of business (especially in case of a takeover / merger by resolution applicant) u/s 85 which provides for recovery action against the transferee of the business for recovery of taxes from such transferee. While the said provisions are open-ended, it would be contrary to the IBC provisions which give finality to dues to the resolution applicant and hence any such claims would have to be eclipsed into the resolution plan (refer Arcellor Mittal’s case, Supra). Another viewpoint would be that the resolution plan would have the effect of determination of tax dues and no other forum or civil authority is permitted to alter these dues from the Corporate Debtor.

Implications over criminal or personal penalties against directors, etc.
Parallel proceedings such as prosecution, personal penalties are permitted to be invoked against the directors of Corporate Debtors. The said proceedings would not form part of the insolvency process and would remain unaffected by the resolution plan. The affected persons would have to contest these matters at the appropriate forum on merits and cannot take shelter under the resolution scheme.

CONCLUSION

The taxman should appreciate the macro-economic aspects of introducing this legislation. It is here where the taxman should don the entrepreneur hat and swallow the bitter pill for a better future of the enterprise and of the economy as a whole. It was stated by the Court that ‘What is important is that it is the commercial wisdom of this majority of creditors which is to determine, through negotiation with prospective resolution application, as to how and in what manner the corporate resolution process is to take place’. It is only when such an approach is adopted that the IBC resolution process would yield the desired results.

shailesh.kwebmaker

ACTIONABLE CLAIMS – TAXABILITY UNDER GST

INTRODUCTION

The levy of tax on ‘actionable claims’ has seen substantial litigation under the Sales Tax / VAT regimes. The primary reason for that was that the definition of goods under the Sales Tax / VAT regimes excluded actionable claims. Similarly, under the GST regime, too, actionable claims are generally excluded from the purview of taxability. Therefore, it is important to understand what constitutes an ‘actionable claim’.

The definition of actionable claim is provided u/s 3 of the Transfer of Property Act, 1882 as under:
‘actionable claim’ means a claim to any debt, other than a debt secured by mortgage of immovable property or by hypothecation or pledge of movable property, or to any beneficial interest in movable property not in the possession, either actual or constructive, of the claimant, which the Civil Courts recognise as affording grounds for relief, whether such debt or beneficial interest be existent, accruing, conditional or contingent;

It is apparent from the above definition that an actionable claim is a claim, or rather a right to claim, either an unsecured debt or any beneficial interest in movable property which is not in the possession of the claimant. So far as the first limb of the definition is concerned, it seems to cover only unsecured debts. Therefore, it should cover cases such as bill discounting where a business sells its receivables to another person, generally a banking and financial institution, and receives the consideration upfront, though a lower amount than what is receivable. The receivable is subsequently realised by the bank and the difference between the amount realised and the amount paid for bill discounting is its margin / profit.

The second limb of the definition has been analysed in detail by the courts. In the context of lottery tickets, the division Bench of the Supreme Court in the case of H. Anraj & Others vs. Government of Tamil Nadu [(1986) AIR 63] had held that lottery tickets were goods and therefore liable to sales tax. However, the said decision was later set aside by the Constitution Bench in the case of Sunrise Associates vs. Government of NCT of Delhi and Others [(2006) 5 SCC 603-A]. While doing so, the Court had laid down the following principles:

• The fact that the definition of goods under the State laws excluded actionable claims from its purview would demonstrate that actionable claims are indeed goods and but for the exclusion from the definition of ‘goods’, the same would have been liable to sales tax.
• An actionable claim is only a claim which might connote a demand. Every claim is not an actionable claim. A claim should be to a debt or to a beneficial interest in movable property which must not be in the possession of the claimant. In the context of the above definition, it is a right, albeit an incorporeal one. In TCS vs. State of AP [(2005) 1 SCC 308] the Court has already held that goods may be incorporeal or intangible.
• Transferability is not the point of distinction between actionable claims and other goods which can be sold. The distinction lies in the definition of an actionable claim. Therefore, if a claim to the beneficial interest in movable property not in the vendee’s possession is transferred, it is not a sale of goods for the purposes of the sales tax laws.
• Some examples of actionable claims highlighted by the Court include:

Right to recover insurance money,

A partner’s right to sue for an account of a dissolved partnership,

Right to claim the benefit of a contract not coupled with any liability,

A claim for arrears of rent has also been held to be an actionable claim,

Right to the credit in a provident fund account.

• An actionable claim may be existent, accruing, conditional or contingent.
• A lottery ticket can be held to be goods as it evidences transfer of a right. However, it is the right which is transferred that needs to be examined. The right being transferred is claim to a conditional interest in the prize money which is not in the purchasers’ possession and would fall squarely within the definition of an actionable claim and would therefore be excluded from the definition of goods.

In the context of transferrable REP licenses which gave permission to an exporter to take credit of exports made, the Larger Bench in the case of Vikas Sales Corporation vs. Commissioner of Commercial Taxes [2017 (354) E.L.T. 6 (SC)] held that the Exim License / REP Licenses were goods since they were easily marketable and had a value independent of the goods which could be imported using the said licenses, and therefore they could not be treated as actionable claims.

Actionable claims vis-à-vis GST
Section 9 of the CGST Act, 2017, which is the charging section for the levy of GST, provides that the same shall be levied on a supply of goods or services, or both. The terms are defined u/s 2 as under:

(52) ‘goods’ means every kind of movable property other than money and securities but includes actionable claim, growing crops, grass and things attached to or forming part of the land which are agreed to be severed before supply or under a contract of supply;
(102) ‘services’ means anything other than goods, money and securities but includes activities relating to the use of money or its conversion by cash or by any other mode, from one form, currency or denomination, to another form, currency or denomination for which a separate consideration is charged;

Unlike the Sales Tax / VAT regimes where actionable claims were excluded from the definition of goods, GST law specifically provides that goods shall include actionable claims. Thereafter, Schedule III treats the supply of actionable claims – other than lottery, betting and gambling – as being neither a supply of goods nor a supply of service, thereby excluding the supply of actionable claims from the purview of GST. However, what is the scope of coverage of actionable claims?

Section 2(1) of the CGST Act, 2017 defines actionable claim to have the same meaning as assigned u/s 3 of the Transfer of Property Act, 1882. The definition under the Transfer of Property Act, 1882 has been given above.

GST on lottery tickets
The intention of the Legislature to tax lotteries is loud and clear from the fact that Schedule III entry only treats actionable claim – other than lottery, betting and gambling – as neither a supply of goods nor a supply of service. The Rate Notification for goods also specifically provides the rate applicable on lotteries as 28%. Further, Rule 31A of the Valuation Rules also clearly provides a specific method to determine the value of supply in case of lottery tickets.

Despite such clarity, the issue of the validity of the levy of tax on lottery tickets has been raised before several courts. The Calcutta High Court, in the case of Teesta Distributors vs. UoI [2018 (19) GSTL 29 (Cal)] had upheld the levy of GST on lottery tickets and held as under:
• The Centre or the State Government had not exceeded their jurisdiction in promulgating the statutes for the levy of GST on lottery tickets,
• The levy did not violate any constitutional or fundamental rights,
• The differential rate of tax was permissible and it was not discriminatory. Further the Government was within its rights to have the same,
• The definition of goods as per the Constitution of India is an inclusive definition with a very wide sweep to cover both tangible as well as intangible products.

The issue again came up before the Larger Bench of the Supreme Court in the case of Skill Lotto Solutions India Private Limited vs. UoI [2020 – VIL – 37 – SC]. Dismissing the petition, the Court held as under:
• The definition of goods u/s 2(52) does not violate any constitutional provision nor is it in conflict with the definition of goods given under Article 366(12). Therefore, there is nothing wrong with actionable claims being included within the scope of goods u/s 2(52).
• The decision of the Constitution Bench in the case of Sunrise Associates holding lottery as actionable claims was a binding precedent and not obiter dicta.
• Schedule III entry, while treating actionable claims sans lottery, betting and gambling outside the purview of supply of goods or services for the purpose of section 7, was not discriminatory in nature.
• On the issue of the validity of Rule 31A which determined the value of taxable supply based on the price of the ticket without excluding the prize money component thereof, the Court held that the value of taxable supply is a matter of statutory regulation, and when the value is to be transaction value to be determined as per section 15, it is not permissible to compute the value of taxable supply by excluding the prize which has been contemplated in the statutory scheme. Therefore, while determining the value of supply, prize money was not to be excluded.

GST on activities of betting, gambling
The terms ‘betting’ or ‘gambling’ have not been defined under the CGST Act, 2017. But there is a similarity between the two. Both generally refer to setting aside a certain amount in expectation of a much larger amount on the basis of the occurrence or non-occurrence of a particular future event. The person who collects the amount promises to pay the prize money on the occurrence of the said event. However, the distinction between betting and gambling would be that betting would be something which would depend on an event where the activity is done / carried out by a different person altogether, for example, horse racing, sports, etc., while gambling would involve the person himself undertaking the activity.

The fact that Schedule III specifically excludes betting or gambling from the scope of actionable claims would demonstrate that there is not an iota of doubt as to whether or not the activity of betting or gambling is an actionable claim. The only question that would need consideration is whether the specific activities of betting / gambling which require a certain skill set would be liable to tax or not. The reason behind this is because the Supreme Court has, in the case of Dr. K.R. Lakshmanan vs. State of TN [1996 AIR 1153] held as under:

The expression ‘gaming’ in the two Acts has to be interpreted in the light of the law laid down by this Court in the two Chamarbaugwala cases, wherein it has been authoritatively held that a competition which substantially depends on skill is not gambling. Gaming is the act or practice of gambling on a game of chance. It is staking on chance where chance is the controlling factor. ‘Gaming’ in the two Acts would, therefore, mean wagering or betting on games of chance. It would not include games of skill like horse racing. In any case, section 49 of the Police Act and section 11 of the Gaming Act specifically save the games of mere skill from the penal provisions of the two Acts. We, therefore, hold that wagering or betting on horse racing – a game of skill – does not come within the definition of ‘gaming’ under the two Acts.

The above decision clearly lays down that any activity which involves application of skill would not be treated as betting or gambling. In the context of card games such as rummy and bridge, the Bombay High Court has, in the case of Jaywant Sail and Others vs. State of Maharashtra and Others held that the same involves application of skill and the same cannot be treated as betting / gambling.

Whether the above precedents would apply under the GST regime as well and can it be claimed that when the application of a skill set is involved, the same would not classify as betting / gambling? This issue had come up before the Bombay High Court in the case of Gurdeep Singh Sachar vs. UOI [2019 (30) GSTL 441 (Bom)]. In this case, the petitioner had filed a criminal PIL against a gaming platform which allowed participants, upon payment of fees, to create fantasy teams and the performance of each player would be calculated based on the actual performance of the players during a sports event. From the fees collected from the participants, the portal would retain certain amounts for itself as service charges and the balance amount would be used for paying the prize money to participants. The portal was paying GST under Rule 31A(3) only to the extent of the amounts retained by it.

The petition alleged that the portal was violating the provisions of the Public Gaming Act, 1867 as well as the provisions of Rule 31A of the CGST Rules, 2017 which required payment of tax on the entire value and not after reducing the prize money component – which has also been confirmed by the Supreme Court in the case of Skill Lotto (Supra). Relying on the decision in the case of Dr. K.R. Lakshmanan (Supra), the High Court held that the online game conducted by the portal involved application of skill and, therefore, the same could not be treated as betting / gambling. Since there was an application of skill, the provisions of the Public Gaming Act, 1867 were not applicable in view of the specific provision of section 12 thereof which provided that the Act shall not apply in cases involving the application of skill.

On the GST front, the Court held that the activities carried out by the portal did amount to actionable claims; however, the same could not be treated as lottery, gambling or betting. Therefore, the same would be covered under Entry 3 of Schedule III and hence the said activities were outside the purview of the levy of tax. Since tax itself was not payable, the question of operation of Rule 31A (3) was not applicable.

However, while dealing with the issue of rate of tax, the Court held that the portal was right in discharging tax at 18% on the platform fee, i.e., the amounts retained by it from the escrow account. In a way, the Court held that the platform fee does not partake the character of actionable claim but is in the nature of an independent service rendered by the platform.

So far as taxability on the recipient of the prize money is concerned, the Appellate Authority for Advance Ruling has, in the case of Vijay Baburao Shirke [2020 (041) GSTL 0571 (AAAR-MH)] held that the prize money is not a consideration either for supply of goods or supply of service. An interesting observation made by the Authority has held that not every contract becomes taxable under the GST law. The AAAR further held that every supply is a contract but every contract is not a supply.

GST on chit funds
Chit funds are regulated by the Chit Funds Act, 1982. This is a unique financing model. Under this, a person generally known as trustee or foreman, organises the fund. And people participate in it by contributing a fixed amount on a monthly basis. A chit is prepared for each participant and every month one chit is drawn and the participant whose name comes out receives the money. The activity is carried on regularly till the name of each participant is drawn out. In other words, each participant has a right to receive the money. Generally, the trustee or foreman retains his charge for organising the fund.

In the above business model, the issues that would need consideration are:
• Is there an element of actionable claim present in the above model?
The Supreme Court has, in the context of service tax in the case of UoI vs. Margdarshi Chit Funds Private Limited [2017 (3) GSTL 3 (SC)] held that in a chit business, the subscription is tendered in any one of the forms of ‘money’. It would, therefore, be a transaction in money. Once it has been held that chit fund is nothing but a transaction in money, it would be incorrect to treat it as an actionable claim.

However, even if one analyses the definition of actionable claim for academic purposes, it would be difficult to arrive at a conclusion that there is an element of actionable claim present in the said model. In pith and substance, the chit fund is nothing but a financing model where a person periodically invests funds and the same amount is received back by him, albeit after some reduction on account of foreman / trustee charges. The person whose name comes out first is set to gain more as he gets to use the sum for a longer period compared to the person who receives it at the end.

However, the fact is that the participant enjoys the claim to a movable property, i.e., the prize money. And the only issue that remains is what is the legal remedy that a participant whose name has been picked in the lot has in case the foreman fails to pay the prize money. In this respect, reference to section 64 of the Chit Funds Act, 1982 is important. Sub-section (3) thereof provides that civil courts shall have no jurisdiction to entertain any suit or other proceedings in respect of any dispute. The issue as to whether Consumer Forums have jurisdiction over chit fund matters is already in dispute with contrary decisions by the Madras High Court in N. Venkatsa Perumal vs. State Consumer Disputes Redressal Commission [2003 CTJ 261 (CP)] and the Andhra Pradesh High Court in Margadarsi Chit Fund vs. District Consumer Disputes Redressal Forum [2004 CTJ 704 (CP)]. Therefore, it can be said that there is substantial confusion over whether or not civil courts can have jurisdiction over civil matters, specifically in view of the extant provisions of the Chit Fund Act, 1982 and perhaps, the finality of this issue can be a basis to determine whether chit funds can actually be treated as actionable claims.

• Whether the foreman / trustee is liable to pay GST on the charges retained by him?
The answer to the above question would depend on the classification which one accords to the chit fund business. If one takes a view that the activity of a chit fund is nothing but a transaction in money, the charges retained by the foreman / trustee would be liable to GST. The Rate Notification prescribes the GST rate at 12% on services provided by the foreman / trustee subject to the condition that input tax credit on inputs used for providing such service has not been claimed by the foreman / trustee. However, there is still no clarity on whether the foreman or trustee shall be liable to pay GST only on the charges retained by him or on the whole amount collected from the participants. Under the Service Tax regime (though the levy was stuck down in the Delhi Chit Funds Association case), an abatement was provided in relation to the service provided by the foreman / trustee. Taking a cue from the same, one may take a position that a foreman / trustee is liable to pay GST only on the commission retained by him and not on the entire amount.

However, if one takes an aggressive view and treats the participation in chit fund as an actionable claim, the question of taxability of the amounts retained by the foreman / trustee should not arise since it would be a consideration for a transaction which is neither a supply of goods nor a supply of service.

In the context of GST on chit funds, an application for a ruling was filed before the AAR seeking clarity on whether or not additional amount collected from participants for delay in paying the monthly amounts were includible in the value of taxable service. The Authority in the case of Usha Bala Chits Private Limited [2020 (39) GSTL 303 (AAR-GST-AP)] held that the additional amount received was classifiable as principal supply of financial and related services and therefore liable to GST @ 12% under Entry 15 of Notification 11/2017-CT Rate dated 28th June, 2017.

GST on assignment of escalation claims
In case of infrastructure companies, substantial amounts are stuck in escalation claims which are subject to conclusion of arbitration proceedings. In order to manage cash flows and monetise the same, such companies at times assign such escalation claims to financing companies. The arrangement is that all the future proceeds of the said escalation claim are assigned to another party which would upfront pay a discounted amount to such infrastructure companies. Once the escalation claim is settled, the entire amount sanctioned would be received by the financing company on which the infrastructure company would have no rights.

It appears that the above transaction would qualify as assignment of actionable claim. The construction company has a right to claim the escalation costs from the clients, which they assign to another company which would squarely fall within the ambit of actionable claim.

The issue, however, would remain with respect to the payment of tax on reaching of finality of such actionable claims. It is important to note that the escalation claim is for receipt of consideration for a supply made by the infrastructure company. Generally, such contracts are in the nature of ‘continuous supply of services’ and therefore the tax on the same is payable at the time when the client accepts the provision of service. The question that would arise is who would be liable to pay the tax on such underlying service in such cases – the contractor / infrastructure company, or the assignee company to which the right has been assigned?

The fact remains that the service has been provided by the infrastructure company and therefore the liability to pay tax thereon shall also be on the infrastructure company. However, one also needs to keep in mind that the journey of an escalation claim reaching finality is generally long. It might happen that the escalation claim approved in 2021 might pertain to a service performed in 2011, i.e., at the time of levy of service tax when the service might have been exempted, while under the GST regime the same becomes taxable. In such a situation, the issue of whether or not the liability to pay tax on such service would arise on account of transition provisions [see section 142(11)] is something which one might need to analyse.

GST on vouchers
Vouchers are pre-paid instruments (PPI) that facilitate purchase of goods and services, including financial services, remittances, funds transfers, etc., against the value stored in / on such instruments. Such PPIs in India are regulated by the Reserve Bank of India which recognises three different kinds of instruments, namely:
• Closed system PPI: Issued by an entity for facilitating the purchase of goods or services from that entity only. For example, vouchers issued by broadcasting companies, telecoms, etc., which can be used against services provided only by such service providers.
• Semi-closed system PPI: Issued by banks as well as non-banks for purchase of goods or services, remittance facilities, etc., for use at a group of clearly identified merchant locations / establishments which have a specific contract with the issuer (or contract through a payment aggregator / payment gateway) to accept the PPIs as payment instruments. Sodexo vouchers is an example of such PPIs.
• Open system PPI: Issued by banks for use at any merchant for purchase of goods and services, including financial services, remittance facilities, etc. Cash withdrawal at ATMs / Points of Sale (PoS) terminals / Business Correspondents (BCs) is also allowed through these PPIs.

The closed system PPIs are not regulated by the RBI. However, the issuance of the same denotes an agreement by the issuer to supply certain goods or services, as the case may be. But the question that would need analysis is whether such vouchers can be constituted as an actionable claim or it is just an instrument to receive consideration for an agreement to supply goods or services? While the former appears to be a more appropriate answer, the fact remains that the PPI is nothing but a means to receive the consideration for supply of goods or service and therefore the same should be liable to GST at the time of issuance.

Therefore, if at the time of issuance all the elements for the levy of tax are known, i.e., recipient, nature of supply, place of supply, tax rate, etc., then GST should be paid at that moment itself by the person who issues the voucher. There would, however, be an issue of the value on which such issuer would be discharging tax. For example, for a voucher of Rs. 100, the company issuing the voucher would be receiving only Rs. 70, the price at which it sells to the distributor. The distributor might sell the voucher to the retailer for Rs. 85 who would further sell it to the consumer for Rs. 100. The question that would remain is whether the issuer would be charged tax on Rs. 100 or on Rs. 70? A more appropriate solution for this would be to look at the nature of the arrangement, i.e., whether the transaction is a P2P arrangement or a P2A arrangement, to determine the correct course of action.

Another issue which might be faced is in case where the goods or service to be supplied is not known. For example, a retailer, say Big Bazaar, issues a voucher of Rs. 1,000 which can be redeemed at any of its outlets for purchase / sale of goods or services or both, which may be taxable or exempt. In such a case, whether the retailer would be required to pay tax at the time of issuance of the voucher or its redemption shall remain open since all the elements for the levy of tax are not known at that time. In such a case, in view of specific provisions contained in sections 12(4) / 13(4), the tax would be payable at the time of redemption of the voucher. This view has been upheld by the AAR in the case of Kalyan Jewellers India Limited [2020 (32) GSTL 689 (AAR-TN)].

However, the above situation would change in case of semi-close and open system PPIs which are regulated by RBI and recognised as a legal means of tender and, therefore, more aptly classified as ‘money’ as defined u/s 2(75) of the CGST Act, 2017. Once the said PPIs are classified as money, the same are excluded from the definition of goods as well as service and therefore the question of payment of GST on the same does not arise. Similarly, once PPIs are classified as money, the need to analyse whether such PPIs would be treatable as actionable claim or not should also not remain.

GST on assignment of debts – secured / unsecured
Assignment or sale of secured / unsecured debts by banks is a common exercise undertaken to reduce their loan book. The debt could be of varied nature, such as loan for properties, business loans, etc., and may be secured or unsecured. However, all debts are not actionable claims which is apparent on a perusal of the definition of actionable claims as per which all debts other than a debt secured by mortgage of immovable property or by hypothecation or pledge of movable property are treated as actionable claims.

So far as the debt which gets classified as ‘actionable claims’ is concerned, there is no doubt regarding its non-taxability in view of the Schedule III entry. However, an issue arises in the context of debt which has been secured by mortgage of immovable property or by hypothecation or pledge of movable property and treated as actionable claim. It is important to note that even the said debt is a property for the bank and has all characteristics to be treated as goods, i.e., utility, capability of being bought and sold and, lastly, capability of being transmitted, transferred, delivered, stored and possessed. Therefore, while such debt does not qualify to be an actionable claim, the question that remains for consideration is whether the same would classify as goods for the purpose of GST. Can a view be taken that such debt is nothing but money receivable by a bank and therefore, even otherwise, it continues to be nothing but a transaction in money and hence cannot be treated either as goods or service?

The Board has attempted to clarify on this issue as under:

Sr.
No. and Question

Answer

40. Whether
assignment or sale of secured or unsecured debts is liable to GST?

Section 2(52) of the CGST Act, 2017 defines
‘goods’ to mean every kind of movable property other than money and
securities but includes actionable claims. Schedule III of the CGST Act, 2017
lists activities or transactions which shall be treated neither as a supply
of goods nor a supply of services and actionable claims other than lottery,
betting and gambling are included in the said Schedule. Thus, only actionable
claims in respect of lottery, betting and gambling would be taxable under
GST. Further, where sale, transfer or assignment of debt falls within the
purview of actionable claims, the same would not be subject to GST.

Further, any charges collected in the
course of transfer or assignment of a debt would be chargeable to GST, being
in the nature of consideration for supply of services

However, the above clarification seems to have not taken into consideration the fact that the definition of actionable claims covers only debts other than those that have been secured by mortgage of immovable property or by hypothecation or pledge of movable property. Therefore, this is going to be an open issue for the banking sector while dealing with such transactions.

GST on partners’ remuneration
Whether remuneration received by a partner from a partnership firm is liable to GST or not has been a controversy since the introduction of GST. In the case of CIT vs. R.M. Chidambaram Pillai [(1977) 106 ITR 292 (SC)] the Court held that the partners’ remuneration was nothing but a share in profit.

Even the Board has clarified in the FAQ that partners’ salary will not be liable to GST. The AAR in the case of Arun Kumar Agarwal [2020 (36) GSTL 596 (AAR-Kar)] has also held that partners’ salary is not liable to GST in view of Entry 1 of Schedule III which keeps the employer-employee transactions outside the purview of GST. Importantly, while dealing with the issue of share in profits, the AAR has held that the same is mere application of profit and therefore cannot be liable to GST. Perhaps this reasoning can be applied while dealing with the partners’ remuneration since the Supreme Court has already held in the context of Income-tax that partners’ profit is nothing but application of profits.

Other transactions
The Tribunal has, in the case of Amit Metaliks Limited vs. Commissioner [2020 (41) GSTL 325 (Tri-Kol)], held that compensation / liquidated damages payable on cancellation of agreements is nothing but an actionable claim and therefore cannot be treated as consideration. The reasoning accorded by the Tribunal was that the compensation was nothing but debt in present and future and, therefore, was an actionable claim.

In the case of Shriram General Insurance Company vs. Commissioner [2019 (31) GSTL 442 (Tri-Hyd)], the Tribunal held that surrender / discontinuance charges retained by the insurance company on premature termination of a unit-linked insurance policy was not consideration for a taxable service provided, but rather a transaction in an actionable claim which was excluded from the levy of service tax.

The AAR in the case of Venkatasamy Jagannathan [2019 (27) GSTL 32 (AAR-GST)] has held that an agreement to receive a share in profit from shareholders for strategic sale of equity shares over and above the specified sale price per equity share was nothing but an actionable claim and, therefore, could not be treated as supply of goods or services.

In Ascendas Services (India) Private Limited [2020 (40) GSTL 252 (AAAR-Kar)], the Authority held that bus passes were not actionable claims as the same were merely a contract of carriage.

CONCLUSION

What constitutes actionable claim involves substantial application of thought. However, the benefits of a transaction being treated as an actionable claim are many, the primary one being exclusion from the levy of tax itself. Therefore, one needs to be careful while analysing such transactions as the monetary impact might be substantial.

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GOVERNMENT INFRASTRUCTURE PROJECTS

INTRODUCTION

Infrastructure development is one of the stated priorities of the Government. While it is primarily the responsibility of the Government to ensure speedy infrastructure development and provide access to such infrastructure to the citizens at minimal possible cost, over a period of time participation of the private sector has been solicited through the Public Private Partnership (PPP) model.

For example, under the Build Operate & Transfer (BOT) model, the Government or its designated agencies and the successful bidder enter into an agreement termed as ‘Concession Agreement’ wherein the Government / its designated agency agree to grant a concession to private sector infrastructure companies who in legal parlance are known as ‘concessionaires’. The grant of such a concession permits the concessionaire to build the infrastructure (as may be agreed), operate it over a period of time and ultimately transfer it back to the Government. There is a nominal fee which is generally payable by the infrastructure company for such a right granted by the Government / its designated agency. This charging of fee by the Government / its designated agency indicates that the concessionaire is the service recipient in the current case and the Government / its designated agency assumes the role of a service provider.

Under this model, the revenue for the infrastructure company could be in different forms. The most common method of revenue generation for it is the grant of the right to collect usage charges. This right is granted to the infrastructure company for the contract period. The second model which is also very common is the annuity model wherein the Government / its designated agencies agree to make a fixed periodic payment to the concessionaire, while the collection of usage charges is done by the Government / designated agency themselves. There is also a third revenue model, commonly known as the hybrid annuity model, where collection of usage charges for a certain period is with the concessionaire and after that period the Government / designated agencies collect the usage charges themselves and pay a lump sum annuity to the concessionaire.

The above models of infrastructure development are in stark contrast with other traditional models in which the private sector contractor is expected to construct the infrastructure as a contractor and receives a pre-defined consideration.

Such different models result in diverse GST consequences both on the levy of tax on the development efforts as well as the claim of input tax credit (ITC). Further, the receipt of usage charges during the O&M period also has different GST consequences. This article deals with some of the GST issues arising in such infrastructure development projects.

GST IMPLICATIONS ON BOT PROJECTS

While analysing the GST implications on a Government project, the first step is to understand the nature of the project. Let us see this with the help of a standard project under the BOT model where the infrastructure company enters into a ‘concession agreement’ with the Government / designated agency. Generally, the agreements are worded in such a manner as to state that the Government / designated agency has agreed to ‘grant a concession’ to the concessionaire, i.e., the infrastructure company, for which the latter has to pay a nominal consideration (generally, Rs. 1). In such cases, it is apparent that it is the infrastructure company which receives the supply and the Government / designated agency which actually makes the supply. While the tax implications would be immaterial in view of the nominal consideration, the legal issues could be identified as under:

• Whether the supply by Government / designated agency would qualify as supply of goods or services?
While an intangible property is treated as goods, in view of the decision in the case of Tata Consultancy Services vs. State of AP [2004 (178) ELT 22 (SC)], it needs to satisfy the tests of utility, capability of being bought and sold and, lastly, capability of being transmitted, transferred, delivered, stored, possessed, etc. While undoubtedly in the current case the rights would have been granted to the concessionaire, such rights would be lacking the characteristics referred to in the TCS case. In such a situation, it would be more appropriate to treat the rights granted as service rather than goods.

• If supply of services, whether the recipient would be liable to pay GST under RCM?
Once it is concluded that the supply is that of service and the service provider is the Government / designated agency, the provisions of reverse charge would get triggered and there would be a liability to pay GST under reverse charge mechanism. Of course, the recipient can claim exemption if the value of service does not exceed Rs. 5,000 as provided for vide Entry 9 of Notification No. 12/2017-CT (Rate) dated 28th June, 2017.

GST implications on core revenue
Let us now discuss the GST implications on the core revenue, i.e., usage charges collected by the concessionaire. Under the BOT model, there are different ways in which the concessionaire receives the said revenue, namely:
• Standard Model – Collection of usage charges,
• Annuity Model – Periodic payment from the Government / designated agencies,
• Hybrid Model – Collection of usage charges plus periodic annuity payment from the Government / designated agencies.

The tax implication on the first model is very simple as one merely needs to analyse the tax implications on the collection charges, which may vary depending on the nature of the collection charges. For example,
• collection of usage charges in respect of access to road is exempted by Entry 23 of Notification No. 12/2017-CT (Rate);
• services provided by way of transportation of passengers through rail (other than first class / an air-conditioned coach), including metro rails, is exempted vide Entry 17;
• services provided by way of transportation of passengers through rail by way of first class / an air-conditioned coach is liable to GST @ 5%;
• services of transportation of goods by rail is liable to GST @ 12% except in case where Indian Railways itself undertakes the transportation, in which case the same is liable to GST @ 5%;
• in case of ports (air / sea), there is no exemption and therefore charges collected from such users are liable to GST @ 18%.

The controversy revolves around the annuity model for roads. An annuity is a periodic payment made by the Government / designated agency to the concessionaire. Under this model, the collection of toll / usage charges is undertaken by the Government / designated agency and the concessionaire has no role to play in the same. There is a controversy around taxability of such annuity payments. This is because in case of such agreements the transaction structure takes a shift and even the concessionaire becomes a service provider, to the extent that he has constructed the infrastructure for which he has received the annuity payments from the Government / designated agencies. In that context, the annuity payments become liable to GST @ 12%. This has also been clarified by the recent CBIC Circular 150/06/2021-GST dated 7th June, 2021 wherein the Board has clarified that the said exemption will not apply to annuity paid for construction of roads. However, the said Circular apparently makes Entry 23A of Notification No. 12/2017-CT (Rate) which exempts service by way of access to a road or a bridge on payment of annuity, irrelevant. The said exemption Entry was introduced after discussions at the GST Council meeting held on 13th October, 2017 which read as under:

‘Agenda item 13(iv): Issue of Annuity being given in Place of Toll Charges to Developers of Public Infrastructure – exemption thereon
61. Introducing this Agenda item, the Joint Secretary (TRU-II), C.B.E. & C. stated that while toll is a payment made by the users of road to concessionaires for usage of roads, annuity is an amount paid by the National Highways Authority of India (NHAI) to concessionaires for construction of roads in order that the concessionaire did not charge toll for access to a road or a bridge. In other words, annuity is a consideration for the service provided by concessionaires to NHAI. He stated that construction of roads was now subject to tax at the rate of 12% and due to this, there was free flow of input tax credit from EPC (Engineering, Procurement and Construction) contractor to the concessionaires and thereafter to NHAI. He stated that as a result, tax at the rate of 12% leviable on the service of road construction provided by concessionaire to NHAI would be paid partly from the input tax credit available with them. He stated that the Council may take a view for grant of exemption to annuity paid by NHAI / State Highways Construction Authority to concessionaires during construction of roads. He added that access to a road or bridge on payment of toll was already exempt from tax. The Hon’ble Minister from Haryana suggested to also cover under this provision annuity paid by State-owned Corporations. After discussion, the Council decided to treat annuity at par with toll and to exempt from tax, service by way of access to a road or bridge on payment of annuity.’

Interestingly, before the above clarification from the CBIC, the issue was dealt with by the AAAR in the case of Nagaur Mukundgarh Highways Private Limited [2019 (23) GSTL 214 (AAAR-GST)]. In this case, the AAAR held that annuity paid during the construction phase would be liable to GST under SAC 9954, while annuity paid during the O&M phase would be exempted under SAC 9967. However, the said ruling seems to be on a weak footing mainly because there is nothing in the concession agreements which states that the annuity paid post completion of work is towards the O&M phase only and not towards the construction activity. Therefore, appropriating annuity paid during the O&M phase towards the toll charges seems to be improper.

A proper clarification on this issue would certainly be forthcoming since the amounts mentioned in such contracts are generally inclusive of GST and if ultimately it is held that GST is indeed payable on the annuity component, the entire financials for the project would be impacted since it would have a 12% GST impact, of course with corresponding benefit. But it should be kept in mind that in case of long-term projects, if a position has been initially taken that the annuity was not liable for GST, corresponding ITC would not have been taken and the same would now be time-barred. Therefore, the GST credit may be available only prospectively and the benefit may not be substantial to that effect.

INPUT TAX CREDIT IMPLICATIONS
This now takes us to the next aspect of ITC. To understand the ITC-related implications, it may be important to put down the chronology of events:
• The concessionaire receives services from the Government / designated agency;
• The concessionaire undertakes the development of infrastructure activity, which entails paying GST on various inward supplies;
• The revenue is earned by collecting usage charges from the users.

It is imperative to note that in most of the cases, the infrastructure so developed is an immovable property, such as roads, airports, seaports, metro rail, etc. Therefore, the issue remains whether ITC can at all be claimed in view of section 17(5)(c)/(d) of the CGST Act, 2017 which restricts claim of ITC on account of goods or services (including works contract services) received for construction of an immovable property on own account. Of course, the said restriction applies only if the cost incurred towards the same is capitalised in the books of accounts.

This opens up an important dimension from the accounting perspective. It should be noted that the concessionaire is not the owner of the infrastructure project and therefore the amounts are not capitalised in the books of accounts as Fixed Assets, but rather treated as intangible asset / Financial Asset, which is amortised over a period of time as per the guidelines laid down by the relevant Ind AS. If one takes an aggressive view, the restriction u/s 17(5) may be circumvented and make such concessionaire eligible for ITC.

Secondly, in the case of Safari Retreats Private Limited vs. CC of GST [2019 (25) GSTL 341 (Ori)], the provisions of section 17(5)(d) have been ultra vires the provisions of the object of the Act and it has been held that ITC should be allowed on receipt of goods or services used in the construction of an immovable property which is used for providing an output service. However, it needs to be kept in mind that the Revenue appeal against this order is currently pending before the Supreme Court.

The above discussion would be relevant only in case of projects for airport / seaport where the usage charges to be collected from the users are taxable. However, in case of road projects / metro rail projects there is an exemption from tax on collection of charges and, therefore, even otherwise the claim of credit would be hit by section 17(2) of the CGST Act, 2017 and therefore ITC may not be eligible.

GST IMPLICATIONS ON OTHER GOVERNMENT PROJECTS
In case of projects not under the PPP model, where the contract is given to the infrastructure company for a fixed consideration, the GST implications would be of a different level. This is because Entry 3 of Notification No. 11/2017-CT (Rate) prescribes a lower effective GST rate of 5% / 12% on specific services. However, the said concession is subject to satisfaction of conditions such as:

To whom have the services been supplied?
The entries require that the service should be provided either to the Central Government, State Government, Union Territory, Local Authority, Government Authority or Government Entity.

What constitutes Government Authority / Government Entity has been defined in the Notification itself as under:

Government
Authority

Government
Entity

[(ix) ‘Governmental Authority’ means an
authority or a board or any other body, –

(i) set up by an Act of Parliament or a
State Legislature; or

(ii) established by any Government,

with 90% or more participation by way of
equity or control, to carry out any function entrusted to a Municipality
under Article 243W of the Constitution or to a Panchayat under Article 243G
of the Constitution

(x) ‘Government Entity’ means an authority
or a board or any other body including a society, trust, corporation,

(i) set up by an Act of Parliament or State
Legislature; or

(ii) established by any Government,

with 90% or more participation by way of
equity or control, to carry out a function entrusted by the Central
Government, State Government, Union Territory or a Local Authority.]

From the above, it is apparent that the only distinction between Government Authority and Government Entity is that the former carries out functions entrusted to any Municipality under Article 243W or a Panchayat under Article 243G, while the later carries out any function entrusted to it by the Government.

Nature of service
The next aspect that needs to be looked into is the nature of supply being made. Clauses (iii) and (vi) provide that composite supply of works contract supplied to Central Government, State Government, Union Territory, a Local Authority, a Governmental Authority or a Government Entity by way of construction, erection, commissioning, installation, completion, fitting out, repair, maintenance, renovation, or alteration of, should be considered as eligible for the lower tax rate.

The above highlighted portion is relevant. It requires that the supply should be a composite supply of works contract. This indicates that the supply has to be in relation to an immovable property, owing to the fact that the definition of the term ‘works contract’ applies specifically to immovable property under GST. This aspect was recently dealt with by the AAR in the case of Nexustar Lighting Project Private Limited [2021 (47) GSTL 272] wherein the Authority held that a contract for installation of streetlights did not qualify as a works contract and therefore benefit of lower tax rate was not available.

Service in relation to
The next aspect that needs analysis is whether or not the services are provided in relation to the following:

Under Entry 3 (iii)
(a) a historical monument, archaeological site or remains of national importance, archaeological excavation, or antiquity specified under the Ancient Monuments and Archaeological Sites and Remains Act, 1958 (24 of 1958);
(b) canal, dam or other irrigation works;
(c) pipeline, conduit or plant for (i) water supply, (ii) water treatment, or (iii) sewerage treatment or disposal.

Under Entry 3 (vi)
(a) a civil structure or any other original works meant predominantly for use other than for commerce, industry, or any other business or profession;
(b) a structure meant predominantly for use as (i) an educational, (ii) a clinical, or (iii) an art or cultural establishment; or
(c) a residential complex predominantly meant for self-use or the use of their employees or other persons specified in paragraph 3 of the Schedule-III of the Central Goods and Services Tax Act, 2017.
[Explanation. – For the purposes of this item, the term ‘business’ shall not include any activity or transaction undertaken by the Central Government, a State Government or any Local Authority in which they are engaged as public authorities.]

Under Entry 3 (vii):
Composite supply of works contract involving predominantly earth work, that is constituting 75% of the value of works contract.

Care should be taken specifically while dealing with Entry 3 (vi)(a) where the interpretation of the phrase ‘for use other than for commerce, industry, or any other business or profession’ has created substantial confusion. For example, in the context of works contract services provided in relation to electricity generation plants, the AAR has on multiple occasions held that the activities carried out by electricity generating / distribution companies cannot be treated as ‘for use other than for commerce, industry, or any other business or profession’. One may refer to the recent decisions of the AAAR in the cases of R.S. Development & Constructions Private Limited [2021 (48) GSTL 162 (AAAR – Kar)], Manipal Energy & Infratech Private Limited [2020 (40) GSLT 237 (AAAR – Kar)], etc.

Entry (vii) provides for levy of GST @ 5%. However, the condition is that the service involved should be a composite supply of works contract involving predominantly earth work that is constituting 75% of the value of the works contract. While the term ‘earth work’ has not been defined under the GST law, the same was analysed by the AAAR in the case of Soma Mohite Joint Venture [2020 (041) GSTL 0667 (AAAR – GST – Mah)] wherein the Appellate Authority held that earth work includes both excavation and fortification. Therefore, so long as earth work constitutes more than 75% of the value of a works contract, the benefit of a lower tax rate should be available. However, for such benefit care should be taken to ensure that the contract specifically mentions the consideration for such activity separately. If the break-up is not available, the benefit of the lower rate may be denied.

Common condition
A common condition for Entries (iii) and (vi) when the services are provided to a Government Entity is that the said Government Entity should have procured the said services in relation to a work entrusted to it by the Central Government, State Government, Union Territory or Local Authority, as the case may be.

In Shri Hari Engineers & Contractors [2020 (38) GSTL 396 (AAR – GST – Guj)], the AAR had denied the benefit of lower tax rate for the reason that the Railtel Corporation of India Limited, which had issued the contract, was not entrusted to carry out the said activity by the Central Government / State Government / Union Territory or Local Authority.

Therefore, while concluding classification under Entry 3 (iii) or Entry 3 (vi), fulfilment of this condition should be looked into and documentary evidence to support the same should be obtained.

Extension of benefit to sub-contractors
Vide Entries 3 (ix) and 3 (x), the benefit of lower tax rate is also extended to sub-contractors who make composite supply of works contract to the main contractor. However, it is imperative to note that this benefit applies only for works contract services and not stand-alone services and the same would be liable to GST @ 18%.

Exemption
In addition to lower effective tax rate, certain services supplied to Government have been exempted vide Notification No. 12/2017-CT (Rate). The same is tabulated in the following Table:

Entry

Nature
of supply

Supply
relating to

Service
provided to

Pure services (excluding works contract
services or other composite supplies involving supply of any goods)

Any activity in relation to a function
entrusted to a Panchayat under Article 243G / to a Municipality under
Article 243W of the Constitution

Central Government, State Government, Union
Territory, Local Authority, a Governmental Authority or a Government Entity

Composite supply of goods or services
(goods not being more than 25% of the value of the composite supply)

Any activity in relation to a function
entrusted to a Panchayat under Article 243G / to a Municipality under
Article 243W of the Constitution

Central Government, State Government, Union
Territory, Local Authority, a Governmental Authority or a Government Entity

What constitutes ‘pure services’ has not been defined under GST. However, by nomenclature, it seems that supply which does not have any element of supply of goods involved in it would be treated as pure service, for example, consultancy service. This view finds support from the decision of the AAR in the case of R.R. Enterprises [2021 (47) GSTL 309 (AAR – GST – Har)] wherein the Authority held that since only manpower supply services were to be provided by the applicant and since no supply of goods is involved, such services qualify as pure services.

The important aspect which needs to be looked into while dealing with exemption entries is that the services provided should be in relation to a function which has been entrusted to a Municipality under Article 243W or Panchayat under Article 243G. However, the service need not be provided directly to the Municipality or Panchayat. It may be provided to the Central Government / State Government / Government Authority / Government Entity.

The only caveat is that the service should be provided in relation to an activity specified in Article 243W / Article 243G. Whether a particular activity is covered under Article 243G / 243W or not has been dealt with by the AAR on multiple occasions.

In the case of Lokenath Builders [2021 (46) GSTL 205 (AAR – GST – WB)], it was held that waste disposal services by engaging garbage-lifting vehicles and other cleaning equipment without any supply of goods would be a pure service and an activity covered under Entry 6 of the 12th Schedule and therefore eligible for exemption.

In MSV International Inc. [2021 (49) GSTL 171 (AAR – GST – Har)], while the Authority held that the services provided in relation to construction of State / district highways was a pure service, the same would still not be eligible for exemption benefit since the construction of State / district highways was not an activity entrusted to a Municipality under Article 243W / Panchayat under Article 243G of the Constitution.

Similarly, the exemption benefit was denied by the AAR for services provided to National Institute of Technology, an institute of higher education, which was not covered under Article 243W / 243G of the Constitution. (Refer National Institute of Technology [2021 (47) GSTL 314 (AAR – GST – Har)].

In Janaki Suhshikshit Berojgar Nagrik Seva Sansthan Amravati [2021 (46) GSTL 277 (AAR – GST – MH)], the AAR denied the benefit of exemption to service of supply of manpower to Government Medical College. The conclusion of the Authority was that supply of manpower was not covered under either the 11th or the 12th Schedule.

In the view of the authors, the above ruling does not represent the correct position of law. Entry 6 of the 12th Schedule, public health, is the responsibility of the Municipality and therefore it is bound to make necessary arrangements to deliver the same to the citizens. Any service provided by a vendor towards the said activity can therefore be said to be in relation to a function entrusted to the Municipality under Article 243W of the Constitution and therefore eligible for exemption.

There are some other examples of service which can also be eligible for the exemption, such as:
• advertisements placed in the newspapers creating awareness by the Municipal Corporation would be eligible for exemption since activities in relation to public health awareness are among the activities entrusted to the Municipality under Article 243W;
• services provided in relation to collection of parking charges on behalf of the Municipality are covered under Entry 17 of the 12th Schedule of the Constitution and therefore should be eligible for exemption.

The above discussion clearly brings out the need to analyse the tax position of any project at the tendering stage itself. This is because in case of Government projects usually the contract value is treated as inclusive of GST and the contractor has to bill accordingly. If during the tendering process the company bids assuming eligibility for exemption / lower GST rate and ultimately it turns out that the supply was taxable at the normal rate, the implications would be catastrophic.

ARBITRATION CLAIMS
An important part of Government projects (which is also present in private transactions) are the arbitration clauses in the agreements. At times, due to contractual disputes, the parties to a contract may opt for arbitration and reconciliation and there can be flow of money (both ways) depending on the outcome of the project.

While determining taxability of arbitration claims, a detailed reading of the arbitration award is very relevant. For example, in the case of BOT arrangements discussed above, there is a clause for payment of grant to the concessionaire. If there is a delay in payment of grants, the concessionaire may seek compensation and can go for arbitration on the said issue. If the arbitration award is on account of such a dispute, it may not be taxable since the grant itself was not taxable in the first place.

However, if the arbitration award is for a contractual dispute, for example, the contractor lodges a claim of Rs. 2 crores on the client for work done, while the client approves the claim only to the extent of Rs. 1.75 crores – in such cases, the contractor has an option to resort to arbitration for the disputed amount and if the arbitration is in his favour, he would be entitled to receive the differential amount along with costs as may be granted by the arbitration award. In such a case, a more appropriate position would be to say that the differential amount received is towards a supply and therefore liable to GST.

Arbitration claims – rollover from pre-GST regime
In the case of arbitration awards, it has to be kept in mind that the outcome period of the dispute under arbitration is very long. It is possible that arbitration claims for work done during the pre-GST regime get concluded under the GST regime. This will lead to substantial challenges for the contractors for the following reasons, especially in cases where the dispute is on account of quantification of work done:
• Under the pre-GST regime, services to Government were exempted or were taxable at a substantially lower rate (post abatement). Similarly, even under the VAT regime, the applicable tax rate for works contract was on the lower side, say 5% / 8%.
• The work for the said service would have been completed under the pre-GST regime. However, it is seen that the tax on the said amount is not discharged as the claim is not approved by the client and it has been an industry practice to pay tax on such amounts only when the matter reaches finality.
• The issue that arises is whether the tax on such arbitration awards would be payable under the pre-GST laws, i.e., VAT / Service tax, or as per the provisions of the CGST / SGST Acts? The answer to this question would be relevant since under the pre-GST regime the effective tax rate would have been lower as compared to the effective GST rate which is 12% for supplies to Government.

To deal with the above situation, let us refer to section 142(11) of the CGST Act, 2017 which provides that to the extent tax was leviable under the erstwhile VAT Acts or under Chapter V of the Finance Act, 1994, no tax would be leviable under the CGST Act, 2017. It is imperative to note that in case of such roll-over arbitration disputes, the work is already completed before the claim is lodged. It is mere quantification of the work which takes place upon resolution of the dispute and, therefore, it can be said that the tax was actually leviable under the VAT Acts / Finance Act, 1994 itself when the activity was actually carried out and hence a view can be taken that no GST is leviable on such arbitration awards.

Arbitration claims – in the nature of liquidated damages
The next point of discussion would be arbitration claims where the award is in the nature of liquidated damages. Liquidated damages are dealt with under the Indian Contract Act, 1872 within sections 73 and 74. Section 73 states that ‘when a contract has been broken, the aggrieved party is entitled to get compensation or any loss or damages which has been inflicted to him / her naturally during the usual course of breach of contract or about which the parties to the contract had prior knowledge when they entered the contract.’

Similarly, section 74 states that ‘when a contract has been broken, and if a sum is named in the contract as the amount to be paid for such breach, or if the contract contains any other stipulation by way of penalty, the party complaining of the breach is entitled, whether or not actual damage or loss is proved to have been caused thereby, to receive from the party who has broken the contract reasonable compensation not exceeding the amount so named or, as the case may be, the penalty stipulated for’.

Therefore, when an arbitration award is on account of breach of contractual terms, which results in grant of damages to either party, the same would not constitute consideration under the Contract Law and therefore there cannot be any liability towards GST on the same.

TDS DEDUCTION & ASSOCIATED CHALLENGES
Section 51 of the CGST Act, 2017 obligates Government / designated agencies to deduct TDS on payments made for taxable supply of goods or services, or both, received by them.

Unfortunately, as a universal rule TDS is deducted on all payments, including on grants, arbitration awards, etc., without actually analysing whether or not the said payment is towards receipt of taxable supply of goods or services, or both. This results in difficulty for the concessionaire / contractor. This is because if they would have taken a position that they have not made any supply / the supply made by them is exempt, the TDS provisions would not have got triggered. If in such cases also TDS is deducted and if they accept the same, it is likely that the Department may challenge their claim stating that their clients themselves treat the supply as taxable supply, leaving such concessionaires / contractors in a Catch-22 situation.

Of late, it has also been seen that the tax authorities have been issuing notices based on mismatch between the credits reported in GSTR7 by the tax deductors vis-a-vis the liability reported by the contractors. It is imperative to note that there will generally be a time gap between disclosure of liability by the supplier and deduction of tax by the deductor. This is because the supplier would pay the tax when he issues the invoice to the deductor-client. However, such invoice goes through the approval
process which generally consumes time and before the invoice is accounted by the deductor-client and TDS is deducted.

It is therefore advisable that before any TDS credit is claimed, the same be reconciled with the month in which the corresponding liability was discharged and, preferably, if the client has deducted TDS in advance (on provisional basis), such credit should be kept deferred and claimed only when the actual invoice is issued by the contractor and the corresponding liability discharged.

CONCLUSION
The general perception in the industry is that doing business with the Government is a profitable venture. But there are many complications and confusions which make such businesses quite risky. It is always advisable for taxpayers to be very careful while taking a position on a transaction with Government as the tax would generally have to be paid out of one’s own pocket, thus having a severe impact on the overall profitability of the venture.

shailesh.kwebmaker

DEPARTMENT AUDIT

INTRODUCTION

For long taxes in India and the world over have worked on the principle of self-assessment, meaning a registered taxpayer (RTP) would himself assess his liability and discharge the same as per the provisions applicable under the respective statute by filing the prescribed returns. Once the self-assessment process is concluded, the tax authorities initiate the process of verifying the correctness of the taxes paid by the RTP under the self-assessment scheme which involved interaction with the RTPs / their consultants.

Under the pre-GST regime, with the presence of multiple taxes, there were multiple assessments in different forms that an RTP had to undergo. The VAT law provided for a concept of assessment which was done on a year-on-year basis requiring the RTP to visit the tax department with box-loads of files to demonstrate various claims and positions taken by him, while the Central Excise / Service tax followed a detailed Audit structure, which was commonly known as EA-2000 Audit, and in respect of which a detailed manual for the tax officials on how an Audit on taxpayer records should be carried out was also issued.

Apart from these, there were provisions for investigation, special audits, etc., under the respective statutes which empowered the tax authorities to undertake further verification. The same practice has also been followed under the GST regime with the law providing for different methods of assessment such as Provisional Assessment (section 60), Scrutiny in different scenarios (sections 61 to 64), Audit by Tax Authorities (section 65), Special Audit (section 66) and investigation (section 66).

ASSESSMENT VS. SCRUTINY VS. AUDIT VS. INVESTIGATION

The term assessment has been defined u/s 2(11) to mean determination of tax liability under this Act and includes self-assessment, re-assessment, provisional assessment, summary assessment and best judgment assessment. The above definition demonstrates that while there can be different forms of assessments, their purpose is to determine the tax liability of a person, whether or not such person is registered.

But while the term ‘scrutiny’ has not been specifically defined, the way the provisions u/s 61 have been worded indicate that scrutiny is to be seen vis-à-vis the correctness of the particulars furnished in the returns. Therefore, the scope of scrutiny would generally cover cases where there is a mismatch between GSTR1 and GSTR3B or non-disclosure of certain information in the returns, etc. In other words, the basis for scrutiny proceedings should only be the returns filed and nothing else. In that sense, this is similar to intimation issued u/s 143 (1) of the Income-tax Act.

The term ‘audit’, on the other hand, has been defined u/s 2(13) to mean the examination of records, returns and other documents maintained or furnished by the registered person under this Act or the rules made thereunder or under any other law for the time being in force to verify the correctness of turnover declared, taxes paid, refund claimed and input tax credit availed, and to assess his compliance with the provisions of this Act or the rules made thereunder.

Lastly, the term investigation, which generally encompasses ‘inspection, search, seizure and arrest’, is undertaken by the tax authorities when they have reason to suspect suppression by an RTP whether of liability on supply of goods / services or claim of input tax credit. Any proceedings under this category can be initiated only after approval by the competent authority and empowers the tax authorities to confiscate the records of the RTP.

A plain reading of the above clearly indicates the distinction in the concept behind each of the steps and the very distinction needs to be respected. The same can be summarised as under:

•   Assessment – determination of tax liability,
•   Scrutiny – to verify the correctness of the returns filed,
•   Audit – to verify the overall compliance with the provisions of GST, including returns filed, credits / refunds claimed, etc.,
•   Investigation – to undertake verification based on specific information received relating to suppression by an RTP– either in respect of liability or input tax credit.

A primary question which generally arises and is also experienced in daily proceedings is whether there can be parallel proceedings. For example, can scrutiny of an RTP be undertaken when the audit for the same period is already going on? Or can an RTP be subjected to parallel proceedings – audit by one wing and investigation by another? In a recent decision in the case of Suresh Kumar PP vs. Dy. DGGI, Thiruvananthapuram [2020 (41) GSTL 308 (Ker.)], the single-member Bench had refused to intervene when parallel proceedings, audit u/s 65 and investigation were initiated. In fact, the HC held that interferences in process issued for auditing of books as well as order of seizure of the documents would help the Department in correlating the entries in document and at the time of auditing of the account.

When appealed before the Division Bench [reported in 2020 (41) GSTL 17 (Ker.)], while the High Court held that there was no infirmity in the audit and investigation proceedings being continued simultaneously, the Revenue itself submitted that once the investigation proceedings are initiated, the audit proceedings shall stand vacated. This is an important takeaway from this judgment (although in favour of Revenue) for RTPs who are facing parallel proceedings at the same time for the same period. The RTP can always contend that since the Department has taken a stand in one case that once investigation commences audit proceedings shall be discontinued, the same should be followed in other cases as well. However, it remains to be seen whether or not the Revenue follows this stand in all the cases.

In this background, we shall now discuss the provisions relating to audit u/s 65 for which many RTPs have already started receiving notices and some important aspects which revolve around the same.

SCOPE OF AUDIT

The term ‘audit’ has been defined u/s 2(13) and reproduced above. On going through the same, it is apparent that the scope of audit is to be restricted to ‘examination of records, returns and other documents maintained or furnished by the registered person’.

While the term ‘record’ has not been defined, the term ‘document’ has been defined u/s 2(41) to include written or printed record of any sort and electronic record as defined in clause (t) of section 2 of the Information Technology Act, 2000 (21 of 2000). Section 145 further provides that any document, which is maintained in a microfilm or reproduced as image embodied in a microfilm or a facsimile copy of a document or statement contained in a document and included in printed material produced by a computer or any information stored electronically in any device or media including hard copies made of such information, shall be deemed to be a document for the purposes of this Act. It is, therefore apparent that all documents which are stored in a scanned copy should be sufficient during the audit purpose. This should apply also for copies of purchase invoices, sales invoices, etc., which, during the audit, tax authorities generally insist upon for physical verification.

The second important takeaway from the definition of ‘audit’ which to some extent also defines the scope of ‘audit’, is that the examination is to be of the documents maintained or furnished by the registered person, i.e., things which are within the reach of the RTP being audited. Therefore, what can be the subject matter of audit is only such documents / records which are maintained / furnished by the RTP and are within his control. Therefore, the audit team cannot insist on a reconciliation based on figures appearing in form 26AS and demand tax on the mismatch since the form 26AS is not maintained / furnished by the RTP, but prepared by the Government based on disclosures made by the RTPs’ clients / suppliers. This view finds support from the decision of the Tribunal in the case of Sharma Fabricators & Erectors Private Limited vs. CCE, Allahabad [2017 (5) GSTL 96 (Tri. All.)] where the Tribunal had set aside the demand raised based on TDS certificates issued by the clients and not the books of accounts of the RTP.

A similar issue is likely to arise in case of mismatch between GSTR3B and GSTR2A. GSTR3B is the monthly return wherein an RTP also lodges a claim for input tax credit while GSTR2A is the document wherein the supplies disclosed by the supplier in GSTR1 are disclosed and auto-populated and made available to the recipient. A strong view can be taken that GSTR3B and GSTR2A are not comparable documents as GSTR2A is not maintained / furnished by the recipient. However, such a stand may not be accepted by the Department after the introduction of Rule 36(4) as the scope of audit is to look at the overall correctness of the returns furnished by the RTP and compliance with the various provisions of the Act and Rules framed therein.

In fact, on the issue of whether an audit can be conducted when there is apprehension that certain amounts were kept outside of the accounts, the Supreme Court has, while admitting the appeal in the case of Commissioner vs. Ranka Wires Private Limited [2006 (197) ELT A83 (SC)], sought an affidavit from the Revenue as to why the audit was conducted when the show cause notice alleged that certain amounts were kept out of the accounts. This indicates that even the Supreme Court is of the view that in a case where the dispute revolves around transactions outside the books of accounts of the RTP, the same is a fit case for investigation and not audit.

LEGAL VALIDITY

Under the Service Tax regime, the power to conduct audit was derived from Rule 5A of the Service Tax Rules, 1994. However, there were no enabling powers under the Finance Act, 1994 empowering the Central Government to frame rules relating to Department Audit. For this reason, the Delhi High Court has, in the case of Mega Cabs Private Limited vs. UoI [2016 (43) STR 67 (Del. HC)] held Rule 5A as ultra vires the provisions of the Finance Act, 1994. This dispute continued even after the introduction of GST where the notice for conducting audits was challenged on the grounds that the savings clause under the CGST Act, 2017 did not save the right of the Revenue to conduct audit u/r 5A of the Service Tax Rules, 1994. There have been conflicting decisions of the High Courts in this regard and therefore the dispute will reach finality only with a judgment of the Apex Court.

However, the above decision may not continue to apply under GST. The basis for the conclusion in the case of Mega Cabs (Supra) was that there was no enabling provision under the Finance Act, 1994 which empowered the Central Government to make Rules relating to audit. However, under the GST regime there are specific provisions which empower the Government to undertake Department Audit and frame rules in regard to the same.

AUDIT U/S 65 – PROCEDURAL ASPECTS

The detailed procedure to be followed while conducting audit has been provided for u/s 65 of the CGST Act, 2017. In addition, the CBIC has also issued a detailed Manual for steps to be followed before, during and after the audit.

Selection of registered person for audit

This is the first step of the audit process. This requires following of the risk-assessment method for selection of the RTP who shall undergo audit. The entire process would be facilitated based on the available registered person-wise data, the availability of which would be ensured by the Audit Commissionerate. Based on the process of risk assessment undertaken, the list of RTPs selected for the audit would be shared with the Audit Commissionerate, along with the risk indicators, i.e., area of focus for the Audit Team. The Audit Commissionerate would also be at liberty to select RTPs at random for undertaking of audit based on local risk perception in each category of small, medium and large units as well as those registered u/s 51 and 52 to verify compliance thereof.

The Manual also speaks of accrediting such RTPs, who have a proven track record of compliance with tax laws, though the procedure for such accreditation is yet to be provided. RTPs who have received accreditation shall not be subjected to audit up to three years after the date of the last audit.

Authorisation for conducting audit

The first formal step after selection of the RTP liable to be audited is authorisation u/s 65(1) to conduct the said audit, either by the Commissioner or any officer authorised by a general or specific order. U/r 101 it has been provided that the period of audit shall be a financial year or part thereof, or multiples thereof. This is the enabling provision for initiating the audit process and unless a valid authorisation has been obtained, the entire proceedings would be treated as null and void.

One may refer to the decision of the Karnataka High Court in the case of Devilog Systems India vs. Collector of Customs, Bangalore [1995 (76) ELT 520 (Kar.)] where a notice not issued by a ‘proper officer’ was held to be invalid. On the other hand, recently the Delhi High Court has, in the case of RCI Industries & Technologies Limited vs. Commissioner, DGST [2021-VIL-31-Del.], held that if an officer of the Central GST initiates intelligence-based enforcement action against an RTP administratively assigned to a State GST, the officers of the former would not transfer the said case to their counterparts in the latter Department and they would themselves take the case to its logical conclusion.

A question might arise as to whether or not the auditee should be given an opportunity of being heard before his name is selected for the purpose of conducting audit u/s 65(1). This aspect has been dealt with by the High Court in the case of Paharpur Cooling Towers Limited vs. Senior Joint Commissioner [2017 (7) GSTL 282 (Cal.)] wherein, in the context of VAT, the Court held that subjecting an assessee to audit does not result in adverse civil consequence and therefore the question of giving a hearing before selection does not arise.

However, while selecting an RTP for special audit, the Delhi High Court has held in the case of Larsen & Toubro Ltd. [2017 (52) STR 116 (Del.)] that since an order for special audit is likely to cause prejudice, hardship and displacement to the assessee, the requirement of issuance of a show cause notice ought to be read into section 58A of the Delhi Value Added Tax Act, 2004 so as to grant reasonable opportunity for representation.

Pre-Audit preparation

This is where the actual audit process concerning an RTP commences. The first step is to prepare the Registered Person Master Profile (RPMF) which contains details that can be extracted from the Registration Certificate, such as application for registration, registration documents and returns filed by the registered person as well as from his annual return, E-way Bills, reports / returns submitted to regulatory authorities or other agencies, Income-tax returns, contracts with his clients, audit reports of earlier periods as well as audits conducted by other agencies, like office of the C&AG, etc., most of which will be available in the GSTN.

The Manual speaks about a utility ‘RTPs at a Glance’ made available to the Audit Team which would contain a comprehensive data base about an RTP. It appears primarily to be a facility exclusively for the Audit Team and not for the auditee. The Manual also requires that before the start of each audit the RPMF should be updated based on the details available or sourced from the auditee and the same should be updated periodically after completion of audit. Various documents gathered during the audit, such as audit working papers, audit report duly approved during Monitoring Meeting, etc., along with the latest documents should also form part of the RPMF.

AUTHORS’ VIEWS

The Audit Manual speaks about RPMF which needs to be collated and updated by the Jurisdictional Audit Commissionerate. This is a novel concept aimed at improving the quality of the process and would also help the Audit Team become aware about the auditee. However, maintenance of records in the specified format prescribed in the Audit Manual is not something new but one that was also used during the EA 2000 Audit. Past experience indicates that the Audit Teams generally shift the onus to compile and collect the basic details which is cast on them on to the auditees and such an exercise is started only when the audit nears completion and the file is to be put before the monitoring committee for review.

In fact, in the notices currently received it is seen that even the RPMF is being sent to the auditee for submission along with intimation in Form GST ADT 01 and the list of documents required for the audit. Therefore, perhaps to this extent, the process laid down by the Manual appears to have failed to achieve the stated objective. This is because only after the profiling activity is undertaken is the audit allocated to the audit parties.

Audit intimation

The next step, after undertaking profiling of the RTP / auditee, is to allocate the audit to the audit parties. The audit parties are expected to issue intimation in Form GST ADT 01 giving the auditee at least 15 days to provide the details required for the audit as provided for u/s 65(3). An indicative list of information to be requisitioned by the audit party has been provided in Annexure III of the Audit Manual.

Section 65 clearly requires that a general / specific order be issued by the Commissioner / an officer authorised by him stating that the RTP has been selected for Department Audit for the period specified therein. Such a list has already been released by the Maharashtra State authorities where the audit will be conducted by the respective State Audit Team. Any RTP receiving intimation for audit should check:

• Whether the notice has been received from his jurisdiction, i.e., an RTP allotted to State cannot be audited by Central authorities and vice versa;
• The second point to check is whether the general order specifically mentions the RTP. If not, a request for a specific order should be made in writing to the Audit Team as absence of the same would render the entire proceedings being without the authority of law and any proceedings emanating from such an exercise might not survive the test of law.

Vide Explanation to section 65, it has been clarified that the term ‘commencement of audit’ shall be the date on which the records and other documents called for by the tax authorities are made available by the registered person, or the actual institution of audit at the place of business, whichever is later. This is important because section 65 provides that once the audit process commences, the same must be concluded within three months which period can be extended by the Commissioner for a further period of up to six months for reasons to be recorded in writing.

It is therefore of utmost importance that the RTP under audit maintain proper communication regarding submission of documents and once all the documents sought by the Audit Team are submitted, a formal letter intimating them about the same should be filed. This is important because under the service tax regime, while dealing with the issue of what constitutes commencement of audit, the Tribunal has in the case of Surya Enterprises vs. CCE & ST, Chennai II [2020 (37) GSTL 320 (Tri. Che.)] held that mere issuance of a letter requesting for submission of documents could not be considered as initiation of audit. The Department had to demonstrate that the audit was commenced by producing its register of audit visit.

Desk Review

On the basis of the response of the auditee, the Audit Party is expected to undertake a Desk Review to understand the operations, business practice and identify potential audit issues. The Desk Review proposed in the Manual is an exhaustive process to be undertaken by the Audit Party for the preparation of the audit plan, which includes:

•   Referring to RPMF which would throw up various points meriting inclusion in the audit plan;
•   Analysis of exports turnover, turnover of non-taxable / exempted goods and service to obtain a clear picture of the transactions not considered for tax payment and arrive at a prima facie opinion on the correctness of such claims;
•   Determine the various mismatches, such as GSTR1 vs. GSTR3B, credits as per 3B vs. 2A, etc., which should be discussed in the Audit Plan for verification at the time of audit;
•   Undertake ratio analysis, trend analysis and revenue risk analysis based on the documents obtained up to that stage and reconciling the same with the Third Party Information, such as Form 26AS, ITR, etc., and analysing the variances;
•   Prepare a checklist (different checklists have been prescribed for traders and composite dealers)

Audit plan

The next activity is to prepare the audit plan based on the above activities undertaken by the Audit Team. The Manual specifically highlights the importance of the Audit Plan and the steps preceding its preparation. It also specifies the preferable format in which the Audit Plan is to be prepared and requires that the same should be discussed with the Assistant / Deputy Commissioner and finalised after approval of the Commissioner / Joint or Additional / Deputy or Assistant, as the case may be.

Audit verification

The next step is to undertake audit verification. Section 65(2) provides that the audit ‘may’ be conducted at the POB of the RTP or in their office. The purpose of audit verification, as per the Manual, is to perform verification activities and obtain audit evidence by undertaking verification of data / documents submitted at the time of desk review and verification of points mentioned in the Audit Plan.

The primary activity to be carried out during Audit Verification is evaluation of internal controls which has been dealt with extensively in the Manual as it lays down different techniques to be followed for this process, including walk-through, ABC analysis, etc., and requires the various findings to be recorded in the working papers, the formats of which have also been specified in Annexure VIII of the Manual.

Additionally, the auditor is also required to undertake verification of all the points mentioned in the Audit Plan. The primary point to verify is whether any weakness in internal control of the auditee has resulted in loss of revenue to the Government. The Audit Team is also expected to verify various documents submitted to Government Departments which can be used for cross-verification of information filed for the assessment of GST.

Audit observations

The next step as per the Manual is to communicate the various audit observations to the auditee and obtain his feedback on the same. The Manual categorically states that an audit observation is not a show cause notice but only an exercise for understanding the perspective of the auditee on a particular issue and clearly states that wherever a suitable reply is provided by the auditee, the same may be removed from the findings and excluded from the draft audit report after approval of the seniors.

However, the Manual further states that where the response of the auditee is not forthcoming, the observation should be included in the draft audit para specifically stating the non-submission of response by the auditee.

This is an important step in the Manual. Even under the EA 2000 Audit it has been seen that whenever an observation letter is shared with the auditee, it is more in the nature of a show cause notice, rather than seeking the viewpoint of the auditee on a particular issue and in the observation para itself there is a statement saying that the payment of the tax amount, along with interest and penalty, be made and compliance be reported to the Audit Team. This contrasts with the purpose of the concept of communication of observation as it takes the shape of a recovery notice rather than a routine communication.

Unless the Audit Team is sensitised about this aspect, the Audit Manual will lose its purpose as it is unlikely the approach of the Audit Team would change even after issuance of this Manual. It has also been seen that the Team expects a reply to the observation para, at times in one to two days. The Audit Team needs to be sensitised to the fact that the auditee resources must also carry out their regular activity and they can, at no point of time, be fully dedicated only to the Department Audit process. Even otherwise, certain observation paras may involve legal issues that may need more time, including the auditee obtaining legal advice for drafting a reply to the same in which case a reply at such a short notice may not be feasible. Therefore, it is essential that a standardised format for sharing of audit observation and sufficient time to the auditee for replying to the same be prescribed.

Preparation of audit report

Once the above exercise is concluded, the Audit Team is expected to prepare a draft audit report for onward submission to senior officers and should be placed before the Monitoring Cell Meeting (MCM) for discussion on various points raised therein. It is during the MCM that the decisions of issuing notices, including invocation of extended period of limitations, are taken or issuance of a show cause notice can be waived.

Based on the decisions taken during the MCM, a Final Audit Report (FAR) has to be prepared which will also be conveyed to the auditee. Section 65(6) provides that on conclusion the ‘Proper Officer’ shall within 30 days inform the auditee about the findings, the reasons for such findings and his rights and obligations. The same shall be intimated in form GST ADT 02 as notified vide Rule 101(5). It is only after the issuance of the final audit report u/s 65(6) that recovery proceedings u/s 73 or 74 can be initiated.

It is imperative to note that generally the recovery proceedings are initiated before the issuance of the FAR. At the time of receipt of a show cause notice, the auditee needs to ensure whether the same is received prior to the issuance and receipt of the FAR or afterwards. It is imperative to note that even under the pre-GST regime, (recently) in Sheelpa Enterprises Private Limited vs. Union of India [2019 (367) ELT A17 (Guj.)] the High Court has admitted a writ petition challenging the validity of a show cause notice issued prior to the issuance of the FAR.

The Final Audit Report shall comprise of the decision taken on the audit paras, including cases where the show cause notice is issued / to be issued and cases where a decision to not initiate proceedings has been taken.

Respecting timelines

Section 65, Rule 101 of the CGST Rules, 2017 and the Audit Manual issued by the CBIC strongly reiterate the importance of adhering to timelines, both for initiation of audit as well as conclusion. The fact that this aspect has been specifically included in the statute demonstrates the intention of the Legislature to ensure timely compliance of the proceedings. This is a positive aspect because under the EA 2000 there were no strict timelines prescribed, but rather only guidelines which meant that the EA 2000 audit in many cases kept going on for a long stretch of time.

While this is a positive move on the part of the Legislature to include the timelines in the statute itself, it will also cast an onerous responsibility on the auditees to ensure that they have submitted all the information sought by the Audit Team within the prescribed time. Besides, proper documentation and acknowledgement of submission of documents would also be important since it is possible that the Audit Team might dispute the date of ‘commencement of audit’ itself citing receipt of incomplete data. It is therefore advisable that the fact of non-availability of certain details (for instance, state-wise trial balance) be intimated to the Audit Team at the initial stage itself.

The RTP should also note that in case of delay in submission, there might be adverse action taken on account of non-submission. For example, if an RTP has claimed certain exemption and the supporting documents for which are not submitted within the timelines prescribed by the Audit Team, it is possible that they may end up with an observation letter which would result in unnecessary initiation of a protracted litigation since the experience suggests that an observation para generally culminates in issuance of a show cause notice.

Therefore it is imperative that an RTP who has already received audit notice or is likely to receive one, prepares basic documentation which can be shared immediately with the Audit Team as and when asked, such as state-wise trial balances, details of exports along with FIRC details, basis for claim of exemption, reconciliation of earnings / expenditure in foreign currency with GST filings, etc. Perhaps a lot of the information sought by the Audit Team is generally required during the audit u/s 35. It would therefore be prudent that the RTP / consultants prepare the supporting file during the audit u/s 35 itself so that not only is there no duplication of work, but they also become aware of any specific issues.

An assessee, who was also registered under service tax, will agree that a lot of litigations under that tax were on account of non-submission of the above information. Of course, the Courts have time and again held that demand cannot be based merely on account of a difference in two figures and should be supported with proper evidence. One may refer to the decision of the Tribunal in the case of Go Bindas Entertainment Private Limited vs. CST, Noida [2019 (27) GSTL 397 (Tri. All.)].

Other points to note

An audit process involves substantial human element and therefore needs to be handled carefully on all fronts, be it sharing of information or interacting with the Audit Team owing to the subjectiveness of the auditor. The auditee / their consultants must bear this aspect in mind while interacting. It is important that at no point of time should they antagonise the Audit Team. This is important because if such a situation arises, it is likely that the Audit Team might raise meritless observations which would culminate in the issuance of show cause notices and the initiation of unnecessary protracted litigations.

One important aspect which needs to be noted by the readers, although out of context but arising from the Department Audit process, is that whenever a notice is issued by the Audit Team it is generally issued invoking the extended period of limitation alleging fraud, wilful misstatement, etc., with the intention to evade payment of tax. Such audit notices generally allege that ‘had the audit not been conducted, the fact of the said contravention, which can be either non-payment of tax / excess claim of input tax credit and so on, would have gone unnoticed’. It is imperative to note that merely making such a statement is not sufficient for invocation of extended period of limitation. There must be some demonstration that there prevailed an intention to evade payment of tax and the allegation of fraud, wilful misstatement, etc., should be demonstrated with supporting documentation by the Audit Team. The Mumbai Bench of the Tribunal has, in the case of Popular Caterers vs. Commissioner, CGST, Mumbai West [2019 (27) GSTL 545 (Tri. Mum.)], held that suppression can’t be alleged merely because the Audit Team found certain credits inadmissible.

The High Court has, in the case of Haiko Logistics Private Limited vs. UoI [2017 (6) GSTL 235 (Del.)] raised serious questions on the act of seizure of documents undertaken during the audit process.

Similarly, no summons can be issued in pursuance of the audit process. The Tribunal in the case of Manak Textiles vs. Collector of Central Excise [1989 (42) ELT 593 (Tri. Del.)] held that a statement made to an audit party is not valid as the Audit Party has no authority to record any statement. This principle should apply under GST also as audit is conducted u/s 65 while powers to record statements are governed u/s 70.

CONCLUSION

While the Audit Manual indicates the intention of the CBIC to make the entire process smooth and systematic, it remains to be seen how the same is implemented. Past experience shows that the Department Audit is generally an exhausting process resulting in unwarranted litigation, which in India is protracted and costly. It is therefore important that the RTP prepare for audit on an annual basis, irrespective of whether a notice for the same is received or not, and keep the documentation ready to the extent possible.

shailesh.kwebmaker

TRANSITIONAL CREDIT TUSSLE

India’s
policy-makers introduced the GST law with the objective of removing the
cascading effect of taxes and replacing it with a single value-added tax across
the country. The Statement of Objects and Reasons for the Constitutional (One
Hundred and Twenty Second Amendment) Bill, 2014 and the memorandum introducing
the GST Bill(s) had as their objective a seamless transfer of Input Tax Credit
along the value chain of a product and consequently to reduce the cost of
production and inflation in the economy.

Effective
1^stJuly, 2017, the key compliance for a taxpayer was to prepare and
file his Transition Forms (in Form Tran-1 and / or Tran-2).The transition
credit became a critical entry step for taxpayers to avail the benefit of GST
and commence their journey into an idealistic value-added tax system. Many
large enterprises had blocked their working capital in such taxes and were
seeking early utilisation of their credit against their output taxes. Despite
the lack of robust legal and technical support from the regulatory authorities,
most business houses succeeded with the advice of tax practitioners, but there
was a set of businesses (a small percentage of the total GST registrations) who
struggled to perform their transition obligations. The eligibility or
ineligibility of transition credit is not the subject of discussion of this
article – and nobody denies a rightful claimant this transition credit; what is
under debate is the strict time limit imposed by the Revenue authorities in
complying with the transition credit formalities.

A
significant number of taxpayers failed to exercise their transitional credit
rights. The reasons were varied and we may categorise the taxpayers into broad
categories of those (a) unaware of the entitlement of transition credit (MSMEs,
rural and semi-urban entities, etc.); (b) aware but clueless about filling up
the transition forms due to lack of appropriate advisers and regulatory
support; (c) facing technical challenges (at their end or at the GSTN portal
end); and (d) those who genuinely missed the bus due to multiple extensions,
the peculiar due date of 27^th December, 2017 and so on.

Thus,
taxpayers are in a tussle before the Courts to resolve this deadlock where they
are pleading for condonation but the Revenue is contending that 180 days was
sufficient time and no leniency is to be given to taxpayers on this subject.
Revenue also claims that the plea of technical difficulties is a mere alibi and
the sole proof of a genuine attempt to file a transition is the GSTN system log
and nothing else.

BACKGROUND TO TRANSITION COMPLIANCE

Section
140 provided for the claim of transition credit under multiple scenarios.
Unlike the time limits prescribed for availing GST Input Tax Credit (ITC) u/s
16, there was a clear absence of any time limit under the primary enactment.
Rule 117 of the CGST Rules notified that the declaration ought to be filed
electronically within 90 days from the appointed date. The proviso provided for an extension by the
Commissioner by another 90 days based on the recommendations of the GST
Council. Accordingly, the initial time limit stood at 28^thSeptember,
2017 which was subsequently extended by Order Nos. 3/2017, 7/2017 and 9/2017 to
31^st October, 30^th November and finally to 27^th
December, 2017. In fact, 27^thDecember, 2017 was the last
permissible date for extension of filing Tran-1 under Rule 117 of the CGST
Rules. The said orders were issued by the Commissioner of GST in terms of
powers exercised under Rule 117 read with section 168 of the CGST Act. The
transition forms were disabled on the GSTN portal immediately after (on 28^thDecember, 2017) and hence taxpayers who could not file their returns were
not permitted to make any electronic submission of their transition data.

Apart from
the taxpayers in general, to give effect to Court directions (discussed later),
Rule 117(1A) was introduced which provided case-specific extensions to taxpayers
who proved their bona fides of facing
technical difficulties. The overall time limit of Rule 117(1A) was frequently
extended until 31^stMarch, 2020 and effectively stood extended up to
31^st August, 2020 (under the general Covid Notifications).

BONE OF CONTENTION

The
primary grievance of taxpayers on the legal front was that the time limit
specified in Rule 117 was beyond the powers delegated to the Central Government
u/s 140 of the CGST Act. The section provided for prescription of rules for the
limited purpose of defining the manner or form in which the declaration u/s 140
was to be made by the taxpayers. The section did not delegate the powers of
fixing or extending time limits for filing the Transition declaration. Revenue,
on the other hand, considered section 164 as empowering them to make rules for
any purpose of the Act. The matter was challenged in multiple High Courts and
contrary rulings have been delivered (discussed later). Revenue authorities
quickly recognised the deficiency in the provisions of section 140 and
introduced a retrospective amendment vide
Finance Act, 2020 empowering the Central Government to validate the time limits
specified in Rule 117. Interestingly, the amendment was brought in to validate
a time limit which had already expired / lost its utility and is certainly
questionable before the Courts.

The other
grievance of taxpayers was that the multiple extensions were on account of a
lack of readiness of the GST portal and sufficient time was not provided for
filing the Transition returns. Those taxpayers who had the available data were
facing technical difficulties either with the web portal or the Transition
form. Revenue acknowledged that taxpayers faced technical difficulties and
quickly formed an IT Grievance Redressal Committee (ITGRC) on the directions of
the High Courts of Allahabad and Bombay.

Revenue
issued Circular No. 39/13/2018-GST dated 3^rdApril, 2018 setting up
a committee on the basis of the approval granted by the GST Council vide its 26^thmeeting held on 10^th March,
2018. The Circular defined a very narrow entry point to approach the ITGRC,
i.e.,

Where
the taxpayer has made a bona fide
attempt to file the Tran return and recorded by the system logs maintained by
GSTN;

No
amendment is permissible to the data already available in the GSTN servers and
ITGRC cannot be used as a forum to revise Transition claim data;

Field
formations were directed to verify the data and collection of information at
the time of seeking special permission to open the GSTN portal;

ITGRC
would approve the opening of the GST portal for the specified taxpayers who met
the criteria set forth by the ITGRC and established technical difficulties
conclusively.

Seeing
this ray of hope, many taxpayers approached the ITGRC with their grievances and
sought filing of the Tran returns. But much to their disappointed, many
taxpayers failed to meet the stringent criteria set forth by the ITGRC and once
again knocked at the door of the Courts for justice. The following applications
were rejected by the ITGRC:

Lack
of digital evidence like screenshots, help-desk correspondence, etc.;

Unawareness
about the due date;

Lack
of knowledge of computer systems;

Mistakes
committed while filing online; and

Ignorance
with the hope that the due date would be extended,
etc.

The tussle
regarding Transition credit is now before several Courts and case-specific
decisions are being delivered on this front to resolve the issue. The decisions
would be clubbed based on the similarities of the issues and the decision
rendered.

DIVERGENT VIEWS OF THE COURT

Type 1
decisions: Recognised that transition credit is a
vested right and procedural lapses cannot submerge this right.

In Siddharth Enterprises (2019) (9) TMI 319,
the Gujarat High Court was examining a matter where the taxpayer did not file
the transition return due to technical challenges and challenged the time limit
provisions under Rule 117 as being ultra vires
the statute. The taxpayer argued that the intention of the Government is not to
collect tax twice on the same goods; section 140(3) grants a substantive right
which cannot be curtailed by procedural lapses; right accrued / vested under
the existing law and is saved under GST; right of credit is a constitutional
right; doctrine of legitimate expectation is applicable to such credit. The
Court laid down a very elaborate order and affirmed that credit is due to the
taxpayer in terms of section 140. The key findings of the Court were as
follows:

Credit
legally accrued under the erstwhile laws is a vested right and cannot be taken
away by virtue of Rule 117 with retrospective effect on failure to file the
Transition form. The provision of credit is as good as tax paid and such right
cannot be offended on failure to file the form;

The
denial of transition credit is against the policy of avoiding the cascading
effect of taxes which has been explicitly set out in the Statement of Objects
and Reasons of the Constitutional Amendment bill;

Section
16 grants time until September, 2018 to claim the ITC while the transition
credit has been limited until 27^th December, 2017 which is
discriminatory and without any rationale;

The
doctrine of legitimate expectation mandates that a person would have a
legitimate expectation to be treated by any administrative authority in a
particular manner based on the representations or promises made by such
authority. The vested right of ITC cannot be withdrawn after compliance of
conditions under the erstwhile laws;

Input
Tax Credit is a property right in terms of Article 300A and cannot be denied on
procedural lapses.

These
views were subsequently adopted in Heritage
Lifestyles & Developers Private Limited (2020) (11) TMI 236 wherein
the coordinate bench of the Bombay High Court observed the divergent decision
of NELCO (discussed below) and yet held
that the substantive right of credit cannot be denied on procedural grounds and
technicalities cannot hinder substantial justice.

Type 2
decisions: Input Tax Credit is a concession and not
a right and hence prescription under rule 117 is valid law which mandates
strict compliance.

In NELCO Ltd. (2020) (3) TMI 1087, the
Bombay High Court examined the challenge to the time limit under Rule 117. The
taxpayer had attempted filing the Transition return, submitted their browsing
history and communicated their grievance via email multiple times but failed to
receive a suitable response. The line of argument adopted in this case was more
on the vires of Rule 117 and the phrase
‘technical difficulties’ in 117(1A). The taxpayer contended that the said
phrase would refer to difficulties both at the taxpayer’s end as well as the
GSTN end. Revenue contended that presumption of legality of law and subordinate
legislation cannot be negated until it is arbitrary or unreasonable. Section
164(2) has granted a general rule-making authority to the Government for the
implementation of the Act which includes, amongst others, the right to specify
the time limit for filing of transition declarations. The Court finally upheld
Revenue’s contentions as follows:

Section
164 grants rule-making powers of the widest amplitude and is sufficient to
validate Rule 117. It does not rule contrary to the parent enactment. Once the
rule is held to be valid, the time limit prescribed therein operates strictly;

Rule
117(1A) has been inserted to address genuine technical difficulties and
provides for a uniform and technically capable criterion for ascertaining the
claim and the taxpayer should follow this process;

Input
Tax Credit being a concession should be utilised in a time-bound manner;

‘Technical
difficulty’ should be understood as those at the GSTN server-end and not
elsewhere. When multiple taxpayers succeeded in filing the form, there was no
reason for citing technical reasons for non-filing. The system log is an
unquestionable criterion for ascertaining the genuineness of the claim of
technical difficulty and the absence of such a criterion may make the
examination subjective.

These
views were subsequently followed in P.R.
Mani Electronics (2020) (7) TMI 443.

Type 3
decisions: Recognised technical glitches at the
taxpayer’s end and granted a time limit of three years from introduction of GST
to claim the transition credit.

In Brand Equity (2020) (7) TMI 443 which
included many other matters as a batch, the claim of transition credit could
not be complied with due to various reasons (such as a genuine lapse, system
error, preoccupation, etc.). In such cases, taxpayers admittedly did not have
any evidence of a GSTN error and Courts were examining the cases on meritorious
grounds rather than technical grounds. Taxpayers argued that GST being a new
levy suffering from technical glitches, the procedures should be applied
liberally. The Courts observed as follows:

Evidently,
the GSTN portal was riddled with shortcomings and inadequacies. The online
portal should be able to perform all functions of the law with all
flexibilities / options. The Government cannot be insensitive to the
difficulties faced by trade;

Credit
duly accumulated under the erstwhile laws are vested rights and in the absence
of a mechanism to claim refund under the said laws, taxpayers rightly entitled
to migrate this credit into GST;

There
is nothing sacrosanct in the time limit of 90 days since it has been extended
multiple times on account of an inefficient network. The Act does not specify a
strict time limit for claiming the transition credit;

The
classification of extending the time limit to specified taxpayers faced
challenges at the GSTN and not extending to taxpayers in general is arbitrary
without reasonable basis;

Government
cannot adopt different standards for itself and for the taxpayers when both
were facing technical issues at their respective ends;

Taxpayers
cannot be robbed of their vested rights within 90 days when civil laws grant
the right for three years;

Rule 117 is directory and cannot
take away a substantive right. The phrase ‘in the manner prescribed’ can be
prescription of the form and the content but not the time limit;

But
it is also not permissible to claim this transition credit as being a perpetual
right and as a guiding principle subject to the civil law limitation of three
years. Accordingly, all transition credit claims until June, 2020 would be
valid in law. Government has been directed to open the portal in order to
implement this decision.

The said
decision was a breakthrough for the taxpayers struggling to seek admittance of
their transition credit claims. The decision cut across all arguments of
technicalities, etc., and addresses the root point that vested rights ought to
be granted and time limit cannot be a garb for denial of such rights.

Type 4
decisions: Recognised that GSTN
had technical difficulties and taxpayers ought to be granted an opportunity to
file the transition returns.

In Tara Exports (2020) (7) TMI 443, the
taxpayer pleaded that there was an attempt to file the Tran-1 online but faced
technical difficulties due to which a manual Tran-1 was filed within one month
of the expiry of the due date. It was contended that GST is in a ‘trial and
error phase’ and inefficiencies of the system cannot debar the claim of credit.
Other arguments on vested right and procedural lapses were also adopted. The
Court recognised that GST was a progressive levy with several technical
glitches in the early stages. Credit which was legitimately accrued to the
taxpayers ought not to be denied on such grounds. Filing of transition return
was procedural in nature and the substantive right of credit should prevail
over procedural lapses. The Court held that since genuine efforts were made by
the taxpayer and evident from records, Revenue was directed to allow the
transition credit. These views were echoed in multiple decisions that followed.

Type 5
decisions: Recognised that GSTN
was underprepared and taxpayers need not submit proof of technical
difficulties.

In Garuda Packaging Pvt. Ltd. (2019) (10) TMI 556 and Kun United Motors Pvt. Ltd. (2020) (9) TMI 251,
the taxpayers made an attempt to file the return online but faced portal
challenges. The taxpayers filed a letter one year later about their inability
to file Tran-1 but the application was rejected by the ITGRC on the ground that
no such record was available. The taxpayers submitted letters of the details of
eligible credit since they were unable to file the transition form and made
multiple personal visits to the range offices. The High Court held that
non-filing of screenshots cannot be a ground to reject the plea of technical
difficulties. The GST system being still in a trial and error phase, it will be
too much of a burden to expect the taxpayer to comply with the requirements of
the law where they are unable to even connect to the system on account of
network failures or other failures. The Court finally directed the Revenue to
re-open the portal and enable filing of the Tran-1 return. These views were
relied upon in several decisions which followed later.

POSITION OF THE TAXPAYER

The taxpayer is now in a slightly tricky position with divergent views
from multiple High Courts across the nation. The Bombay High Court in NELCO applies the time limitation very strictly and denies credit to
non-vigilant taxpayers but also agrees that taxpayers who have evidence to
substantiate the technical difficulties at the GSTN portal end are permitted to
apply to the ITGRC for re-opening of the portal for claim of credit. The vast
majority of Courts have taken a liberal view on account of the early stage of
the GST law and permitted the transition credit as a substantive right of the
taxpayers. Of course the above decisions would be subject to challenge from
either side before the Supreme Court and the last word on this is awaited. The
taxpayers until then would have to await the outcome and make suitable
provisions / contingencies in the financial statements in case of any
unforeseen decision. The following Table can be a guiding factor for
ascertaining the contingency levels:

Type of
assesse

Grounds
for claim

Unaware
of entitlement as on 27^th December, 2017

Substantive
right and plead condonation of compliance

Attempted
logging onto system but lack proof and made alternative claims within 27^th
December, 2017

Substantive
right claimed within time and plead procedural deviation of filing on common
portal

Attempted
logging / filing onto system but lack proof and made alternative claims after
27^thDecember, 2017 – no evidence in form of screenshots

Substantive
right claimed within time and plead genuine attempt but admit lack of proof.
Rely on High Court decisions as above

Attempted
filing onto system but lack proof and made alternative claims after 27^thDecember, 2017 – possess evidence in form of screenshots

Same
as above but strong case despite NELCO

Successfully
filed but short claimed transition credit in the form

Same
as above

Reported
the data but in wrong data field

Same
as above

The objective behind the
GST revolution was certainly commendable and generated euphoria in the country.
There was high expectation from the regulatory authorities of a smooth
transition and handholding of the business enterprises into this tectonic
change in the indirect taxation systems in India. Naturally, the size and
complexity of the Indian economy placed a challenge before the regulatory
authorities to educate and empower small, medium and large business houses.
Help desks / grievance centres were expected to be well in place before the
opening bell – but unfortunately it was the litigation floodgates that were
opened.

This
tussle is far from closure and the divergent views of Courts are certainly
subject to the decision of the Supreme Court. It is hoped that the Apex Court
views the spirit of the law and also appreciates the genuine difficulties
prevailing at the time of introduction of GST on the technical front. Apart
from pure interpretation of law, it would also be important to appreciate the
economics of the subsumation of erstwhile laws and transition into a single
consolidated value-added tax regime. If the new law is not implemented in the
spirit of the VAT system, a critical objective of this change would be diluted.
One may view this tussle as prolonged but it also reminds taxpayers to be
vigilant and cautious in complying with the law promptly.

shailesh.kwebmaker

REFUND OF TAX ON INPUT SERVICES UNDER INVERTED DUTY STRUCTURE – WHETHER ELIGIBLE?

INTRODUCTION

Goods & Services Tax, often touted as ‘One Nation, One Tax’, in
practice consists of many State-specific contradictions due to conflicting
advance rulings. Further, in the case of writ matters we are witnessing
conflicting High Court rulings as well. One such controversy that has come to
the fore pertains to refund of unutilised input tax credit (ITC) under inverted
duty structure in view of two conflicting decisions:

i) VKC
Footsteps India Private Limited vs. Union of India & others –
2020-VIL-340-Guj.

ii) Transtonnelstroy
Afcons JV vs. Union of India & others – 2020-VIL-459-Mad.

In this article, we have analysed the relevant provisions under the
Central Goods & Services Tax Act, 2017 and rules framed thereunder on this
particular topic, the interpretation giving rise to the current issue and the
judicial perspective on it. Of course, the matter will reach finality only
after a Supreme Court decision on the issue.

BACKGROUND OF RELEVANT PROVISIONS

Section 54 of the CGST Act, 2017 deals with the provisions relating to
refunds. While section 54(3) provides for refund of any unutilised input tax
credit (ITC), the first proviso thereof restricts the right to claim
such refund only in the case of zero-rated supplies made without payment of
tax, or where the accumulation of credit is on account of the rate of tax on
inputs being higher than the rate of tax on output supplies (other than
nil-rated or fully exempt supplies). The relevant provisions are reproduced for
reference:

(3) Subject to the provisions of sub-section (10), a registered person
may claim refund of any unutilised input tax credit at the end of any tax
period:

Provided that no refund of unutilised input tax credit shall be allowed
in cases other than —

(i) zero
rated supplies made without payment of tax;

(ii) where
the credit has accumulated on account of rate of tax on inputs being higher
than the rate of tax on output supplies (other than nil rated or fully exempt
supplies), except supplies of goods or services or both as may be notified by
the Government on the recommendations of the Council.

The procedure for determining the refund due in case of Inverted Duty
Structure is provided for u/r 89(5) of the CGST Rules, 2017 which provides that
the amount of refund shall be granted as per the following formula:

Turnover of Inverted Duty Structure
of goods and services *
Net ITC
________________________

Adjusted
Total Turnover

The term ‘Net ITC’ referred to in the above formula is defined to mean
ITC availed on inputs during the relevant period other than ITC availed for
which refund is claimed u/r 89(4A) or 89(4B) or both. The same is an amended
definition notified vide Notification No. 21/2018 – CT dated 18^th
April, 2018 and given retrospective effect from 1^st July, 2017 vide
Notification No. 26/2018 – CT dated 13^th June, 2018. The pre-amended
definition of ‘Net ITC’ gave the meaning assigned to it in Rule 89(4) which
covered ITC availed on inputs and input services during the relevant period
other than the ITC availed for which refund is claimed under sub-rules (4A) or
(4B) or both.

UNDERSTANDING THE DISPUTE

GST works on the principle of value addition, i.e., tax paid on ‘inputs’
is available as credit to be used to discharge the tax payable on ‘output’. In
other words, what goes IN, goes OUT. On a plain reading, this principle also
appears to be applicable for application of section 54(3) (first proviso
referred above) as well as Rule 89(5). This is because though the proviso
uses the term ‘inputs’, it finds in its company the term ‘output supplies’. The
proviso does not restrict the output supply to be only that of goods. In
other words, if output supply, liable to tax at a lower rate, can be of either
goods or services, the same principle should be applied in the context of
inward supplies also, i.e., it can be both goods as well as services. If this
is not done, the very purpose of the provision becomes redundant.

Let us understand this with the help of a live example. Diamonds are
taxed at a lower rate under GST, generally 0.25% or 3% depending on their
characteristics. On the other hand, the expenses to be incurred by a person
engaged in the supply of diamonds are all taxable at 18%. For example, rental
services, grading services, security services, etc., all attract tax at 18%.
Unless the above interpretation is applied, all suppliers engaged in supply of
diamonds would never get covered under the scope of ‘inverted duty structure’
and would therefore always end up with an unutilised ITC which would never get
utilised since the tax on output supplies would perennially be lower and there
would be ITC on account of purchase of diamonds itself which would be sufficient
for utilisation against the tax payable on output supplies.

Therefore, while interpreting the proviso to section 54(3), the
following questions need consideration:

(i) Whether the term ‘inputs’
referred to in the proviso has to be interpreted as defined u/s 2(59) of
the CGST Act, 2017 which would render the provision non-workable, or should it
be read in context?

(ii) Does the principle of Noscitur
a Sociis apply to this matter and can section 54(3) be liberally
interpreted?

Here are a few judicial precedents relevant to the current dispute and
also to the above questions:

(a) CIT vs. Bharti Cellular Limited [(2009) 319 ITR 319 (Del.)]

This decision was in the context of what constitutes technical services
for the purpose of section 194J. In this case, the Court, relying on the
decision of Stonecraft Enterprises vs. CIT [(1999) 3 SCC 343] held
as under:

19. From this decision, it is apparent that the Supreme Court employed
the doctrine of noscitur a sociis and held that the word minerals took colour from
the words mineral oil which preceded it and the word ores which succeeded it. A
somewhat similar situation has arisen in the present appeals where the word
technical is preceded by the word managerial and succeeded by the word
consultancy. Therefore, the word technical has to take colour from the word
managerial and consultancy and the three words taken together are intended to
apply to those services which involve a human element.

This concludes our discussion on the applicability of the principle of noscitur
a sociis.

(b) Southern Motors vs. State of Karnataka [2017 (368) ELT 3 (SC)]

34. As
would be overwhelmingly pellucid (clear) from the hereinabove, though words in
a statute must, to start with, be extended their ordinary meanings, but if the
literal construction thereof results in an anomaly or absurdity, the courts
must seek to find out the underlying intention of the Legislature and, in the
said pursuit, can within permissible limits strain the language so as to avoid
such unintended mischief.

Regard must be had to the clear meaning of
words and matter should be governed wholly by the language of the notification,
equity or intendment having no place in interpretation of a tax statute – if
words are ambiguous in a taxing statute (not exemption clause) and open to two
interpretations, benefit of interpretation is given to the subject.

The above discussion indicates that the term ‘inputs’ referred to in
clause (ii) to the first proviso of section 54(3) is to be given a wider
import and not to be restricted to the definition of inputs provided u/s 2(59)
of the CGST Act, 2017. Therefore, the important question that arises is what is
the cause for the current litigation? The dispute stems from Rule 89(5)
prescribed to lay down the methodology to determine the amount eligible for
refund claim under the 2^nd clause of the 1^st proviso
of section 54(3) and the manner in which the term ‘Net ITC’ has been defined
therein to mean ITC availed on inputs during
the relevant period other than ITC availed for which refund is claimed u/r
89(4A) or 89(4B) or both.

By interpreting clause (ii) of the first proviso to section 54(3)
r/w/r 89(5) literally, the Revenue authorities have been denying the refund of
unutilised ITC due to inverted duty structure to the extent the accumulation is
on account of input services. In fact, in a few such cases, the taxpayers had
opted for advance ruling on the subject and the Authority for Advance Ruling
has also agreed with the Revenue’s view. Some relevant rulings include the
ruling by the Maharashtra Authority in the case of Daewoo TPL JV [2019
(27) GSTL 446 (AAR – GST)] and Commissioner (Appeals) in
Sanganeriya Spinning Mills Limited [2020 (40) GSTL 358 (Comm. Appeals – GST –
Raj)].

VKC FOOTSTEPS: BEGINNING OF THE BATTLE

In the case of VKC Footsteps, they were faced with a similar challenge
where their refund claim was rejected to the extent it pertained to input
services and therefore they had challenged the validity of Rule 89(5)
restricting the claim of ITC only to the extent it pertained to inputs and not
input services / capital goods.

VKC Footsteps made their case before the Gujarat High Court on the
following grounds:

i) GST is a value-added tax where
the tax is borne by the end customer and businesses do not have to bear the
burden of the said tax as they are eligible to claim credit of taxes paid by
them on their inward supplies.

ii) That even before the
introduction of GST, the Government was aware of a situation where there could
have prevailed an inverted duty structure and the associated problem of credit
accumulation thereon and to overcome this particular anomaly clause (ii) to the
first proviso of section 54(3) was included in the statute.

iii) Section 54(3) specifically
provided for refund of unutilised ITC. There is no restriction u/s 54(3)
restricting the claim of refund to inputs only.

iv) Rule 89(5) has restricted the scope
of operation of the clause by excluding the credit of taxes paid on input
services from the scope of ‘Net ITC’ for determining the amount eligible for
refund and, in fact, deprived the taxpayer of his crystallised and vested right
of refund. For these reasons, it was argued that Rule 89(5) was ultra vires
of the provision of the Act and therefore liable to be set aside.

v) The petitioners had also placed
reliance on the decisions in the cases of Shri Balaganesan Metals vs.
M.N. Shanmugham Shetty [(1987) 2 SCC 707]; Lucknow Development Authority vs.
M.K. Gupta [(1994) 1 SCC 243]; and Lohara Steel Industries
Limited vs. State of AP [(1997) 2 SCC 37].

The Revenue countered the above with a single argument that Rule 89(5)
was notified within the domain of powers vested with the Central Government by
virtue of section 164. It was argued that this section empowered the Centre in
the widest possible manner to make rules on the recommendations of the GST
Council for carrying out the provisions of the Act. Rule 89(5) was notified in
exercise of these powers and therefore cannot be held ultra vires as it
only provides the method of calculating the refund on account of inverted duty
structure. Revenue relied on the decision in the case of Willow-wood
Chemicals Private Limited vs. UoI [2018 (19) GSTL 228 (Guj.)].

After hearing both the parties, the Gujarat High Court held that Rule
89(5) was ultra vires the provisions of section 54(3) of the CGST Act,
2017 based on the following conclusions:

(A) Rule 89(5) excluding credit of
input services from the scope of ‘Net ITC’ to determine the amount of eligible
refund is contrary to the provisions of section 54(3) which provides for refund
of claim of ‘any unutilised input tax credit’. The Court further held that
clause (ii) of the first proviso to section 54(3) refers to both supply
of goods or services, and not only supply of goods as per amended Rule 89(5).

(B) Rule 89(5) does not demonstrate
the intention of the statute. Therefore, the interpretation in Circular
79/53/2018 – GST dated 31^st December, 2018 was incorrect.

TRANSTONNELSTROY AFCONS JV: THE SAGA
CONTINUES

Around the same time, the Madras High Court also had occasion to examine
the same issue. The detailed decision in the case of Transtonnelstroy
Afcons JV reignited the controversy. The judgment records a series of
arguments put forth by the petitioner, countered by the respondents and
rejoinder submissions by both sets of parties rebutting the opposite parties’
submissions. We have attempted to summarise (pointwise) the submissions of the
parties.

Vires of Rule 89(5) vis-à-vis
sections 164 and 54(3) of the CGST Act, 2017

The petitioners, placing reliance on the decision of the Supreme Court
in the case of Sales Tax Officer vs. K.T. Abraham [AIR 1967 SCC 1823]
contended that clauses which empower framing of rules only in respect of form
and manner of application are limited in scope. They further contended that a
general rule-making power cannot be resorted to to create disabilities not
contemplated under the CGST Act, 2017 – Kunj Behari Lal Butail vs. State
of HP [(2000) 3 SCC 40].

The petitioners further relied on the decision of the Gujarat High Court
in the case of VKC Footsteps wherein it has held that Rule 89(5)
as amended is contrary to the provision of section 54(3).

In response, the respondent (Revenue) contended that wide Parliamentary
latitude is recognised and affirmed while construing tax and other economic
legislations and that Courts should adopt a hands-free approach qua economic
legislation – Federation of Hotel & Restaurant Associations of India
vs. UoI [(1989) 3 SCC 634] and Swiss Ribbons Private Limited vs.
UoI [(2019) 4 SCC 17].

The respondent further contended that no restriction can be read into
the rule-making power of the Government. Section 164 is couched in extremely
wide language and the only limitation therein is that the Rules should be
applied only for fulfilling the purpose of the CGST Act – K. Damodarasamy
Naidu vs. State of TN [2000 (1) SCC 521)] wherein the Court held that
the distinction between goods and services was valid in case of composite
contracts.

Entitlement to claim refund stems from
section 54 – operative part and not proviso

On their part, the petitioners contended that the general rule for
entitlement of refund of unutilised ITC is contained in section 54(3), while
the principle merely sets out the eligible class of taxpayers who can claim the
refund. Since the entry barrier is satisfied, i.e., they are covered under the
inverted duty structure, the primary condition that the credit accumulation is
due to inverted duty structure is satisfied. The proviso does not
curtail the entitlement to refund of the entire unutilised ITC and merely sets
out the eligibility conditions for claiming such refund. This was also
reiterated during the rejoinder submissions.

The petitioners also stated that the use of the phrase ‘in the cases’
indicates that the proviso is intended to specify the classes of
registered persons who would be entitled to refund of unutilised ITC and not to
curtail the quantum or type of unutilised ITC in respect of which refund may be
claimed.

Scope of clause (ii) of first proviso
to section 54(3)

The petitioners further argued that section
54(3) is drafted in a manner to entitle a claimant for refund of full
unutilised ITC. Therefore, the provisions should be interpreted by keeping the
context in mind. The intention of Parliament was to deploy the words ‘inputs’
and ‘output supplies’ as per their meaning in common parlance. Therefore, the
definition of input u/s 2(59) should not apply since that definition applies
only when the context does not require otherwise. They further relied on the
decision in the case of Whirlpool Corporation vs. Registrar of Trade
Marks [(1998) 8 SCC 1]; M. Jamal & Co. vs. UoI [(1985) 21 ELT 369]; and
Padma Sundara Rao vs. State of TN [(2002) 3 SCC 554].

In response to the above, the respondent referred to the Explanation to
section 54 wherein it has been clarified that refund shall include tax paid on
inputs / input services. On the basis of this, Revenue contended that the terms
‘inputs’ or ‘input services’ were consciously used in section 54 – CIT,
New Delhi vs. East West Import and Export (P) Limited [(1989) 1 SCC 760] and
CST vs. Union Medical Agency [(1981) 1 SCC 51]. The Revenue further
argued that this classification of inputs, input services and capital goods is
continuing since the CENVAT regime and, therefore, even in trade parlance the
same meaning which was applied under the CENVAT regime should continue to apply
under GST.

The respondents further argued that if a term is defined in the statute,
the Court should first consider and apply such a definition and only in the
absence of a statutory definition can the Court consider the definition under
common parlance meaning of the term – Bakelite Hylam Limited vs. CCE,
Hyderabad [(1998) 5 SCC 621].

Manner of interpretation of tax statute –
Strict vs. liberal

The petitioners contended that strict interpretation of a taxing statute
applies only when interpreting a charging provision / exemption notification – Gursahai
Sehgal vs. CIT [AIR 1963 SC 1062] and ITC Limited vs. CCE [(2004)
7 SCC 591]. The petitioners further contended that if section 54(3) is
not interpreted in this manner, the same would be violative of Article 14 of
the Constitution as it would amount to discrimination between similarly placed
persons. They placed reliance on the decision in the case of Government
of Andhra Pradesh vs. Lakshmi Devi [(2008) 4 SCC 720].

In response to the above contentions, the respondents argued that if it
is held that section 54(3)(ii) is violative of Article 14 of the Constitution,
the correct approach would have been to strike down the provisions and not to
expand it to include the person discriminated – Jain Exports Private
Limited vs. UoI [1996 (86) ELT 478 (SC)]. The respondents further
argued that a refund provision should be treated at par with an exemption
provision and should therefore be construed strictly and any ambiguity should
be resolved in favour of the Revenue as held by the Supreme Court in the case
of Dilip Kumar & Co. The Revenue also relied on the decision
in the case of Ramnath vs. CTO [(2020) 108 CCH 0020]. And on
decisions wherein ITC has been equated with a concession and therefore the
terms and conditions associated with it should be strictly complied with – Jayam
& Co. vs. AC(CT) [(2016) 15 SCC 125] and ALD Automotive
Private Limited vs. AC(CT) [2018-VIL-28-SC].

Vide their rejoinder
submission, the petitioners argued that a tax statute should not always be
construed strictly, which can be defined either as literal interpretation,
narrow interpretation, etc. Further, the decision in the case of Dilip
Kumar & Co. was distinguishable as it dealt with interpretation of
an exemption notification which is not similar to refund. Reference was made to
the decision in the case of Ramnath equating exemptions,
incentives, rebates and other things as similar. However, refund of unutilised
ITC is not similar to exemptions, incentives or rebates.

The respondents vide a sur-rejoinder contended that refund
is akin to an exemption / rebate / incentive. Refund is at best a statutory
right and not a vested right and therefore can be exercised only if the statute
grants such right. Reliance was placed on the decision in the case of Satnam
Overseas Export vs. State of Haryana [(2003) 1 SCC 561].

Reading down of the provisions was required

The petitioners further contended that the validity of the provisions
could be upheld only by resorting to reading down the said provisions – Delhi
Transport Corporation vs. Mazdoor Congress & Others [1991 (Supplement) 1
SCC 600] and Spences Hotel Private Limited vs. State of WB &
Others [(1991) 2 SCC 154].

In response, the respondents contended that reading down is intended to
provide a restricted or narrow interpretation and not for the purpose of
providing an expansive or wide interpretation. Words cannot be added to the
statute for the purpose of reading down the statute. The Revenue further
referred to decisions where it has been held that Courts cannot remake the
statute – Delhi Transport Co. (Supra) and UoI vs. Star
Television News Limited [(2015) 12 SCC 665]. The respondents further
argued that a proviso performs various functions such as curtailing,
excluding, exempting or qualifying the enacted clause and may even take the
shape of a substantive provision – S. Sundaram Pillai vs. V.R.
Pattabiraman [(1985) 1 SCC 591] and Laxminarayan R. Bhattad vs.
State of Maharashtra [(2003) 5 SCC 413].

During the rejoinder submission, the petitioners submitted that the
words ‘on inputs’ in Rule 89(5) should be deleted to ensure that the Rule is
not ultra vires to section 54(3). To support the contention of reading
down, the petitioners relied on the decision in the case of Lohara Steel
Industries and D.S. Nakara vs. UoI [(1983) 1 SCC 37].
They further contended that the purpose of a proviso is to exempt,
exclude or curtail and not to expand the scope of the main provision – ICFAI
vs. Council of Chartered Accountants of India [(2007) 12 SCC 210 (ICFAI)].

During the sur-rejoinder submission, the respondents contended
that reading up is not permitted when resorting to the principle of reading
down – B.R. Kapur vs. State of TN [(2001) 7 SCC 231].

Inequalities should be mitigated – Article 38
of the Constitution

The petitioners further argued, referring to Article 38, that the
legislation should be interpreted in such a manner as to ensure that
inequalities are mitigated – Sri Srinivasa Theatre vs. Government of
Tamil Nadu [(1992) 2 SCC 643]; Kasturi Lal Lakshmi Reddy vs. State of Jammu and
Kashmir [(1980) 4 SCC 1]; and UoI vs. N.S. Rathnam [(2015) 10 SCC
681].

The respondents contended that the classification of a registered person
into who is entitled to claim and who is not entitled to claim the refund by
differentiating based on those who procure input goods vs. those who procure
input goods and input services was legitimate. The respondents further argued
that the distinction between treatment of goods and services emanated from the
Constitution wherein goods were defined in Article 366(12) while services were
defined under Article 366(26)(A). More importantly, equity was not an issue in
the current case since there was no restriction from the claim of ITC. The
restriction applied only on claim of refund, to the extent that ITC was on
account of input service, the same continued to be a part of the taxpayers’ credit
ledger.

The petitioners vide a rejoinder submission contended that the
validity or invalidity of classification would depend on the frame of
reference. They further contended that there is no material difference in the
treatment of goods and services under GST law. Goods and services are treated
similarly when dealing with the four basic elements of the GST law, i.e.,
taxable event, taxable person, rate of tax and measure of tax. The only
distinction is in relation to provisions relating to determination of place of
supply, time of supply, etc. They further contended that GST was a paradigm
shift and therefore the historical segregation between goods and services
cannot be relied upon to contend that unequal treatment of goods and services
is valid. In fact, the purpose of introducing GST is to consolidate goods and
services and treat them similarly by keeping in mind that taxes are imposed on
consumption, irrespective of whether goods or services are consumed.

In the sur-rejoinder submission by the respondents, they
contended that the distinction between goods and services continues to apply
under GST also since the nature and characteristics of goods and services are
coherently different – Superintendent and Rememberancer of Legal Affairs,
West Bengal vs. Girish Kumar Navalakha [(1975) 4 SCC 754]; State of Gujarat vs.
Ambika Mills [(1975) 4 SCC 656]; and R.K. Garg vs. UoI [(1981) 4
SCC 675].

CONCLUSION OF THE COURT

After hearing both the parties exhaustively, the Court proceeded with an
analysis of the decision of the Gujarat High Court in the case of VKC
Footsteps and prima facie opined that the decision did not seem
to have considered the proviso to section 54(3) and, more significantly,
its import and implications and therefore proceeded on an independent analysis
of the relevant provisions. The Court referred to various decisions revolving
around the scope and function of a proviso relied upon by both the
parties, arrived at a conclusion that the proviso in the case of section
54(3) performed the larger function of limiting the entitlement of refund to
credit that accumulates as a result of the rate of tax on input goods being
higher than the rate of tax on output supplies. On this basis, the Court
proceeded to conclude that Rule 89(5) was intra vires. It opined that
the Gujarat High Court in VKC Footsteps had failed to take into
consideration the scope, function and impact of the proviso to section
54(3).

The Court also dealt with the argument on the manner of interpreting the
term ‘inputs’ used in the proviso. It concluded that the statutory
definition as well as context point in the same direction, that the word
‘inputs’ encompasses all input goods other than capital goods and excludes
input services. This conclusion was arrived at based on the following
reasoning:

The definition of inputs u/s 2 excludes capital goods. If the
common parlance meaning was applied, it would result in a conclusion that would
be antithetical to the text.

Section 54 itself refers to inputs as well as input services
on multiple occasions. Therefore, merely because the undefined word ‘output
supplies’ is used in the proviso, one cannot read the word ‘inputs’
preceding it to include input service also.

Dealing with the issue of strict vs. liberal interpretation, the Court
concluded that the refund claims should be strictly interpreted since it was a
benefit / concession.

The Court also held that the classification, by virtue of which the
right to claim refund of unutilised ITC on account of input services was
curtailed, was not in violation of Article 14. Though it held that the object
of GST was to treat goods and services similarly, this is an evolutionary
process. There are various instances where goods and services are treated
differently, be it the rate of tax or provision for determination of place of
supply. However, the Court abstained from dealing with the arguments relating
to reading down since it had already held that section 54(3)(ii) was not in
violation of Article 14 of the Constitution.

AUTHORS’ VIEWS

Both the decisions referred to above deal with a similar fact matrix,
are detailed and reasoned orders but bear diverse outcomes. However, there are
some aspects which still remain unaddressed and could have been considered in
the current dispute:

1. The Madras High Court
decisions, while concluding that section 54(3)(ii) covers only input goods and
not input services, appears to have not dealt with the key issue raised by the
petitioners, i.e., the intention of the Legislature based on which substantial
arguments were advanced by the petitioners. Even when dealing with the
arguments of applying contextual definition / understanding of the terms, the
Court has held that in interpreting a tax statute the requirement to stay true
to the statutory definition is more compelling. However, while concluding so,
the Court has not considered its own decision in the case of Firm
Foundation & Housing Private Limited vs. Principal CST, Chennai [2018 (16)
GSTL 209 (Mad.)] wherein it has been held that there is enough
precedent available to support the view that Courts will interfere where the
basis of the impugned order is palpably erroneous and contrary to law.

2. The decision in the case of TCS
vs. UoI [2016 (44) STR 33 (Kar.)] is also relevant in the current case.
This involved determination of whether or not a company would be liable to pay
tax under the category of ‘consulting engineer’ services? In this case, the
Court held that when the language of a statute in its ordinary meaning and
grammatical construction leads to manifest contradiction of its apparent
purpose or to inconvenience or absurdity, hardship or injustice, construction
may be put upon that which emphasises the meaning of the words and even the
structure of the sentence.

3. The
Madras High Court concluded that if the interpretation of the petitioners was
accepted that the term ‘inputs’ used in section 54(3)(ii) was to be interpreted
in context with the words accompanying it, it would lead to an interpretation
that even unutilised ITC on account of capital goods would have been eligible
for refund. However, it appears that the Court has not considered the fact that
the Explanation to section 54 specifically provides that refund of unutilised
ITC shall be permitted only to the extent that it pertains to inputs / input
services.

4. As for the question whether
refund when provided in the legislation itself can be treated as a concession,
or it is a right which cannot be curtailed, one needs to keep in mind that
although section 17(5)(h) of the CGST Act, 2017 specifically stated that
certain ITC would be treated as blocked credits, the Orissa High Court in the
case of Safari Retreats Private Limited vs. Chief Commissioner of GST
[2019 (25) GSTL 341 (Ori.)] held the same ultra vires. Of
course, this matter is also currently pending before the Supreme Court, but the
bearing of the outcome of the same on the current dispute cannot be ruled out.

We now stand at a
juncture wherein two Hon’ble High Courts have given detailed and well-reasoned
judgments but diverse decisions on the issue of whether refund of unutilised
input tax credit, on account of input services, would be eligible or not? As a
natural corollary, the aggrieved parties will approach the Supreme Court to
settle the controversy and also lay down the principles of interpretation under
GST. The final decision of the Supreme Court in this matter will either blur
the lines of distinction between goods and services, or underline them in bold.

shailesh.kwebmaker

AGENCY IN GST

The concept of Agency has been engrafted in
the GST law on multiple fronts. Common law attributes representative powers to
the concept of agency but this traditional essence of agency has been altered
under GST. With the deviation from common law concepts of agency, we would have
to examine the contextual understanding of agency and test the fitment in
various practice areas of GST.

AGENCY UNDER CONTRACT ACT

Agency is a
special contract recognised under the Contract law. Section 182 of the Indian
Contract Act, 1872 defines an ‘agent’ as a person employed to do any act for
another, or to represent another in dealings with third persons. The person for
whom such act is done or who is so represented is called the ‘principal’.
Agency can be established either by an express oral / written agreement or even
from surrounding circumstances (section 187).

Thus, the test
of establishment of a contract of agency is a mixed question of law and facts.
An express contract is not an essential ingredient of agency but, on the other
hand, agency should not be concluded by the mere use of a terminology in an
arrangement. It is more behavioural rather than contractual in the sense that
mere terms do not automatically form the basis of agency. The Supreme Court in Assam
Small Scale Ind. Dev. Corp. vs. JD Pharmaceuticals 2005 (10) TMI 494
observed:

‘The
expressions “principal” and “agent” used in a document are not decisive. The
nature of transaction is required to be determined on the basis of the
substance there and not by the nomenclature used. Documents are to be construed
having regard to the contexts thereof wherefor “labels” may not be of much
relevance.’

The principles
of agency are to be examined with reference to the authorities exercised by a
person while engaging with a third party. An agent functioning within the
authority granted to it would be in a position to bind its principal by its
acts as against a third party (section 226). This forms the core of an agency
relationship under general law. To the extent that an agent surpasses its
authority, the third party would have to exercise its right against the agent,
in its personal capacity, without any recourse to the principal (section 227).
In fact, if the excessive authority is not separable from the original
authority, the whole contract can be repudiated by the principal (section 228)
and the remedy available to the third party is limited only against the agent.

A principal can
disown any acts beyond the agent’s authority in which case all implications
would fall upon the agent in its personal capacity (section 196).
Alternatively, the principal with knowledge of material facts can either
expressly or impliedly ratify the acts of the agent and all consequences of
agency would follow on such ratification (section 199). These are the critical
provisions which govern principal-agent contracts in general.

AGENCY UNDER SALE OF GOODS ACT

The Sale of Goods Act governs the principal-agency relationship on
matters involving sale or purchase of goods. The Act defines a ‘mercantile
agent’ as having in the customary course of business such authority either to
sell goods, or to consign goods for the purpose of sale, or to buy goods, or to
raise money on the security of goods. In contradistinction to the Contract Act,
the Sale of Goods Act narrowed down the authority under the agency
transactions, for its purpose, as those which have a reference to sale or
purchase of goods. A mercantile agent under the Sale of Goods Act is one who
has control and / or possession over the goods and the authority from the
owner-principal to pass the property in goods to a third party.

Section 27 of
the Sale of Goods Act acknowledges transfer of valid title on sales performed
by a mercantile agent even though such agent may not himself possess the title
over the goods. This comes with the obvious rider that such agent should act
within its authority and the buyer of such goods acquires the title in good
faith with knowledge about this authority. Section 45 grants rights to the
agent to step into the shoes of its principal as an unpaid seller and enforce
such rights as against the buyer for recovery of the price of the goods due to
it and accountable to its principal.

AGENCY ERSTWHILE VAT / CST LAW

Sale under the
VAT / CST laws was nomen juris, i.e. understood as per the prevailing
Sale of Goods Act, 1932 – involving transfer of title in goods. Accordingly,
transfer of goods by the principal to its agent was normally considered as a
delivery / stock transfer and not a transaction of sale. The Supreme Court in Sri
Tirumala Venkateswara Timber and Bamboo Firm vs. Commercial Tax Officer,
Rajahmundry [(1968) 2 SCR 476] explained the distinction between a
contract of sale and agency as follows:

‘As a matter of
law there is a distinction between a contract of sale and a contract of agency
by which the agent is authorised to sell or buy on behalf of the principal and
make over either the sale proceeds or the goods to the principal. The essence
of a contract of sale is the transfer of title to the goods for a price paid or
promised to be paid. The transferee in such a case is liable to the transferor
as a debtor for the price to be paid and not as agent for the proceeds of the
sale. The essence of agency to sell is the
delivery of the goods to a person who is to sell them, not as his own
property but as the property of the principal who continues to be the owner of
the goods and will therefore be liable to account for the sale proceeds. The
true relationship of the parties in each case has to be gathered from the
nature of the contract, its terms and conditions, and the terminology used by
the parties is not decisive of the legal relationship.’

Under Sales
Tax, the transaction through the medium of agents takes into account two
phases, (a) that which takes place between the agent and principal on one part,
and (b) that which takes place between the agent (on behalf of the principal)
on one part and the third person (a seller or purchaser) on the other part.
Therefore, the true test of whether two persons were under a
principal-to-principal relationship or under a principal-agent relationship was
to ascertain whether there was any inter se transfer of property in
goods between such persons. If after the transfer the risks of loss or injury
over goods would be that of the buyer to the exclusion of the seller, such
relationships would not be a principal-agency relationship.

Yet, in VAT
laws the definition of ‘sale’ included transfer of goods by the principal to
its selling agent or by the purchasing agent to its principal in cases of (a)
difference in the sale price being accounted back to the principal; (b)
non-accountal of all collections to its principal; (c) acting on behalf of
fictitious or non-existent principal. This was perhaps only done to address the
cases of tax frauds or sham transactions where terms of agency were used to
camouflage the transaction of sale.

Sales tax laws
also made reference to the relationship of agency while setting the scope of
the phrase ‘dealer’. This was done in order to acquire powers to make
assessments over mercantile agents dealing in respect of non-resident dealers
and enforce joint or several liability over transactions of the agent on behalf
of its principal.

AGENCY UNDER ERSTWHILE SERVICE TAX

The Service Tax
law had adopted a different understanding of agency. Until the negative list
regime, agency was identified as a service to its principal, say advertising
agent, insurance agent, air travel agent, custom house agent, real estate
agent, etc. The objective was to tax the inter se services rendered by
the agent (on its own account) to its principal. The general law prevailed on
services rendered by the principal through its agent and all consequences of
agent’s action would flow back to the principal in entirety without any
fictional element.

Even after the
introduction of the negative list scheme, the definition of ‘assessee’ included
an agent. With this as the basis, taxes discharged by agencies were considered
as sufficient compliance in the hands of the principal [Zaheer R. Khan
vs. CST 2014 33 STR 75 (Tri-Mum) and Reliance Securities Ltd. vs. CST 2018 (4)
TMI 1335 (Tri-Mum)]. The Tribunal also held that once the entire value
in a transaction chain has been taxed, additional tax on the principal would
amount to double taxation of the same amount which is impermissible.

AGENCY UNDER THE GST LAW

Schedule 1 to
section 7 of the GST law deems a supply of goods by a principal to its agent
for subsequent sale and a purchase of goods by an agent to its principal even
though without consideration, as a supply liable to tax. Effectively, Schedule
I treats the principal and agent as different persons for the purposes of the
Act. It treats a mere movement by the principal to its agent or vice versa
as a supply – equivalent to a buy-sell transaction. It is in this context that
section 2(5) defines an agent as follows:

‘(5) “agent”
means a person, including a factor, broker, commission agent, arhatia, del credere agent, an auctioneer or any other mercantile
agent, by whatever name called, who carries on the business of supply or
receipt of goods or services or both on
behalf of another;’

The definition
u/s 2(5) triggered off a controversy initially over the inclusion of factors,
brokers, commission agents, etc., which are specifically mentioned in the
definition of agent but do not have authoritative scope on representing and
concluding contracts on behalf of their principals. For example, a broker is
one who has limited authority to identify buyers / sellers of goods and a
commission agent is one whose only interest is to receive a commission for
fixing a supply contract between its principal and a third party; both these
persons would not possess the authority of concluding supply contracts with a
third party and binding the principal with their actions.

On a careful
reading of the definition one would observe that the necessary ingredient of
agency under GST is the authority to effect
a supply / receipt on behalf of its principal. This is because under
general law the scope of functions of the agent could take various forms such
as logistics, liaising, negotiations, etc., but the GST law has narrowed the
scope of agency u/s 2(5) to only functions w.r.t. effecting a supply or receipt
of goods on behalf of the principal. Section 2(5) also uses the phrase ‘or any
other mercantile agent’, implying that the preceding categories of agent are of
the type who have satisfied the condition of being a mercantile agent (as
understood under the Sale of Goods Act) though they are called by different
names. The phrase ‘whatever name called’ only reinforces the accepted practice
of looking into the substance of the relationship and not just the form.
Therefore, a person may be termed as a ‘factor’ or ‘a commission agent’ in
trade / general law parlance but would acquire agency u/s 2(5) only if he
possesses the power to enter into binding supply arrangements on behalf of his
principal. It is also possible to interpret that only those cases of agency
would be applicable to Schedule I which involve a delivery of goods to / from
the selling / buying agent and such agent possesses the authority to effect the
supply on behalf of its principal.

This
interpretation was also acknowledged by the CBEC Circular No. 57/31/2018-GST
which read as follows:

‘7. It may be
noted that the crucial factor is how to determine whether the agent is wearing
the representative hat and is supplying or receiving goods on behalf of the
principal. Since in the commercial world, there are various factors that might
influence this relationship, it would be more prudent that an objective
criteria (sic) is used to determine whether a particular
principal-agent relationship falls within the ambit of the said entry or not.
Thus, the key ingredient for determining relationship under GST would be
whether the invoice for the further supply of goods on behalf of the principal
is being issued by the agent or not. Where the invoice for further supply is
being issued by the agent in his name then, any provision of goods from the
principal to the agent would fall within the fold of the said entry. However,
it may be noted that in cases where the invoice is issued by the agent to the
customer in the name of the principal, such agent shall not fall within the
ambit of Schedule I of the CGST Act. Similarly, where the goods being procured
by the agent on behalf of the principal are invoiced in the name of the agent
then further provision of the said goods by the agent to the principal would be
covered by the said entry. In other words, the crucial point is whether or not
the agent has the authority to pass or receive the title of the goods on behalf
of the principal.’

Though the
aspect of representative authority has been affirmed by the CBEC, it has
questionably used the manner of raising the invoice as the ‘objective criteria’
for ascertaining the representative authority. From the perspective of substance
over form, a mere mention of a name in the invoice cannot decide the presence
or absence of agency. Nevertheless, this appears to have been done from a
practical standpoint to overcome possible procedural challenges with place of
supply, credit flow and inter-government settlements.

While this is
the contextual understanding of agency under Schedule I, there is another type
of agency which has been subtly recognised under the GST law. The phrase
‘agent’ has also been used in the definition of supplier, principal, place of
business, output tax, etc. The consequence of this is that all activities of an
agent would merge into the assessment of the principal and treated as being
concluded by the principal for the purposes of GST. For example, output tax and
supplier have been defined as follows:

‘(82) “output
tax” in relation to a taxable person, means the tax chargeable under this Act
on taxable supply of goods or services or both made by him or by his agent but
excludes tax payable by him on reverse charge basis’.

‘(105)
“supplier” in relation to any goods or services or both, shall mean the person
supplying the said goods or services or both and shall include an agent acting
as such on behalf of such supplier in relation to the goods or services or both
supplied;’

The above
definition implies all taxes charged in agency capacity would be included in
the assessment of the principal. Moreover, a person would be considered to be a
supplier even though the goods are in fact being supplied by its agent.

This leads to a
head-on collision with the Schedule I situation discussed above. Ordinarily
speaking, after applying Schedule I and treating the principal and agent as
different persons under the law, one would have expected that all supplies of
the agent would be delinked from the principal’s activities for all purposes of
the Act. One would have expected that the deemed supply by the principal to the
agent would terminate all responsibilities of the principal over the subject
goods for the limited purpose under GST. All assessments of tax would be
conducted in the hands of the agent in its fictional capacity of a buyer of
goods. The inclusion of the agent’s turnover in the hands of the principal u/s
2(82) / 2(105) apparently conflicts with the consequence of agency under
Schedule 1. It would result in a turnover being taxed twice, (a) once in the
hands of the agent (by virtue of Schedule I), and (b) again in the hands of the
principal (by virtue of the definitions such as output tax, supplier, etc.).

This deadlock can be resolved through two theories: (A) The phrase ‘on
behalf of’ has been commonly used only in section 2(5) and Schedule I.
Moreover, Schedule I is only limited to supply of goods and not services.
Therefore, one could view section 2(5) as directly applicable to Schedule I
transactions and not beyond. All other references to agent in the Act are only
for supply of services and not for supply of goods, in which case their
turnover would continue to still be included in the hands of the principal.
This school of thought suffers from a very critical deficiency that the
definition of agency has been used with reference to goods and / or services
and it would not be correct to ignore the specific mention of services while
interpreting the definitions in the context of the agent’s activities; (B) An
agent could acquire representative capacity for various purposes such as making
/ receiving supply, making / receiving payments, etc. Of the various
authorities which an agent can acquire from its principal, section 2(5) read
with Schedule I is limited to agency exercising the authority to effect supplies on behalf of the principal w.r.t. supply
of goods. Where the agent has other representative authorities (such as
carrying, forwarding, consignment agents, ancillary activities to enable a
supply of goods, etc.), the activities would be considered to have been made by
the principal itself and all consequences would follow therefrom. For services,
in the absence of a parallel Schedule I situation, all agents’ actions would be
assessed in the hands of the principal directly.

The consequence
of the latter interpretation may be as follows: For example, Steel Authority of
India appoints an agent for receiving supplies, storing them, procuring orders
and selling these goods to third parties, giving the principal a true account
of the sale proceeds for a commission. Here, the agent has the authority to
negotiate the price, bind SAIL with the price negotiated (of course within
authority) and effect the sale on behalf of SAIL. SAIL would be considered to
have made a Schedule I supply to its agent at the time of dispatch of the goods
and the agent will be considered to have received the goods and making a
subsequent supply to third parties. In effect, there are two supplies in this
arrangement and the agent, though only a medium, will be treated as a buyer for
all purposes of the Act. In such a scenario, the consequence of pricing,
assessment, input tax credit at the principal and agent’s end would have to be
viewed independently.

In contrast to
this, another case could be of Indian Oil Corporation appointing ‘carrying and
forwarding agents’ for receiving, storing and dispatching the goods on behalf of
IOCL. Here the carrying and forwarding agent would not have the authority to
negotiate and / or conclude contracts on behalf of IOCL. The instruction for
movement is also given by IOCL and the agent merely arranges for logistics and
ancillary functions associated with the main supply. In such a scenario, the
law states that even if the tax invoice is raised in the name of the agent on
behalf of IOCL, the supply having taken place by IOCL, the output tax,
turnover, etc., would have to be included in the assessment of IOCL. In such a
scenario there is only one supply, i.e., by the C&F agent under the IOCL’s
authority to the third party which would be assessed in the hands of IOCL
directly. The crucial difference is that the SAIL agent has the authority to bind
its principal under general law with the transactions of supply, while the IOCL
agent was not granted the authority to bind IOCL with its sale transaction and
had limited authority of possession and / or dispatch of the goods.

While these are
simplistic models, real-life transactions pose considerable challenges. One
would have to appreciate the true purport of commonly-used terms such as
factor, del credere agent, commission agent, consignment agent, etc.

(a) Commission agent – is a mercantile agent who sells or disposes goods by exercising
authority to conclude contracts on behalf of its principal.

(b) Factor – is generally
a mercantile agent who sells or disposes goods by taking possession or control
over the goods which are entrusted to him by the principal.

(c) Del credere agent / Pukka arhatia – is one who guarantees that the price of the goods sold would be
recovered and indemnifies against any loss caused on account of non-recovery of
sale price.

(d) Broker / Kutcha arhatia – is one who mediates a transaction between two principals but does not
acquire or transfer any title over the goods on anyone’s behalf. The broker
acts as a negotiator for each end of the transaction but cannot bind anyone to
the transaction. It is famously stated that all agents are brokers but all
brokers may not be agents.

(e) Auctioneer – is one who
exercises authority to conclude the price of the goods under sale on the drop
of the hammer.

One may refer
to the principle outlined by the Supreme Court in Commissioner of Sales
Tax vs. Bishamber Singh Layaq Ram [1981] 47 STC 80 while
differentiating an authoritative agent and a general agent as follows:

‘The crucial
test is whether the agent has any personal interest of his own when he enters
into the transaction or whether that interest is limited to his commission
agency charges and certain out of pocket expenses, and in the event of any loss
his right to be indemnified by the principal. This principle was applied in the
case of pakki arhat by Sir Lawrence Jenkins, C.J., in Bhagwandas Narottamdas vs. Kanji Deoji [1906] ILR 30 Bom. 205 and approved of by the Judicial Committee in Bhagwandas Parasram vs. Burjorji Ruttonji Bomanji (1917-18) LR 45 IA 29 and by this Court in Shivnarayan Kabra vs. State
of Madras [1967] 1 SCR 138.’

The other
relevant decision is the case of Kalyanji Kuwarji vs. Tirkaram Sheolal
AIR 1938 Nag. 254:

‘The test to my
mind is this: does the commission agent when he sells have authority to sell in
his own name? Has he authority in his own right to pass a valid title? If he
has then he is acting as a principal vis-a-vis
the purchasers and not merely as an agent and therefore from that point on he
is a debtor of his erstwhile principal and not merely an agent. Whether this is
so or not must of course depend upon the facts in each particular case.’

The above
variants of mercantile agents u/s 2(5) of the GST law should be contextually
understood as those which have the authority to conclude the supply on behalf
of the principal supplier. Any other arrangement which as termed in the manner
specified above would not be considered as agency under GST law, and the latter
school of thought would accordingly apply.

CHALLENGES UNDER AGENCY RELATIONSHIP

Whether secretly
accounted profits / collections liable to GST as an independent activity?

A critical
dimension to the aspect of agency is that the agent is obligated to account for
all the collections to the principal. The agent is permitted to retain the
commissions, expenses and service fee due to it under the agency contract but
cannot secretly profit from the agency. The secreted profits of agency are held
without the knowledge of both the third party as well as the principal. Going
by the previous discussion, agency would take two forms under GST – (a)
Schedule I scenario where agents are treated on par with a principal, (b) the
other scenario where the agent’s functions are assessed in the hands of the
principal in entirety without any fiction.

In the former
scenario, if an agent procures the product at a deemed value of Rs. 85 and
supplies the product at a final price of Rs. 100 and accounts only Rs. 95 as
the collection to the principal, the secreted profit of Rs. 5 may not be a
discernible supply to anyone. It is a profit which has been retained by the
agent from its gross collections and not as a consideration for the agency
services. While the agent may have committed a breach under general law (which
is subject to ratification by the principal himself), tax laws would have to
implement this in its narrow sense. The secreted profit cannot be termed as a
consideration for any identifiable supply and hence may not be taxed at all.
Viewed from another angle, when the entire Rs. 100 has already been taxed as a
consideration of the sale price of goods to the third party, there is nothing
left to tax and Revenue cannot contend that Rs. 5 has escaped the tax net
altogether.

In the latter
scenario, where assessments are made in the hands of the principal, the secreted
profit of Rs. 5 would not be disclosed to the principal, resulting in short
reporting of the tax liability in the hands of the principal to this extent.
But even in such a scenario, the Rs. 5 cannot be taxed in the hands of the
agent as an identifiable supply activity. In contrast to the former scenario,
though there is a net shortfall in payment, the shortfall in payment cannot be
fixed as the liability of the agent for its agency function. At the principal’s
end, the said amount does not accrue to the principal, cannot be termed as a
consideration due to the principal and hence may not form part of the taxable
value of the supply.

The important
principle emerging from this example is that any surplus does not automatically
acquire the character of a supply unless there is a consensus over the activity
between both parties and such parties identify the consideration for such
consensual activity.

Whether
e-commerce activity makes the market place website ‘an agent’?

E-commerce
market place models have multiple variants. In today’s e-commerce business
models where a substantial part of the transaction is concluded by the
e-commerce company on behalf of the seller, there is a challenge in identifying
the relevant basket of agency, i.e. mere C&F agent or a mercantile agent.
Websites such as Amazon, Flipkart, etc., provide multiple facilities to sellers
such as (a) product hosting services, (b) fulfilment centres offering
warehousing, logistics, packing, etc., (c) direction over promotional schemes
for products, (d) incentives and price support to portal sellers, and (e)
collection of payments, etc. The web portal clearly depicts the name of the
seller and the prices offered by the seller which are accepted by the buyer at
the click of a button on the portal. The final invoice is raised in the name of
the seller of goods with the branding, logo and packaging of the web portal but
the payments are made to the web portal. The portal also hosts product
descriptions, customer reviews, seller rating, etc., of the product.

One may contend
that the web portal has portrayed itself as an agent of the seller and the
seller having accepted such a portrayal has impliedly accepted this
principal-agency relationship. By such implicit actions, the marketplace web
portal may be treated as an agent of the principal and effecting supplies on
their behalf. Hence, the transaction would be covered under Schedule I. The
other view may be that these are a host of services provided by a marketplace
web portal and the web portal does not hold out to make warranties /
representations over the product pricing, quality, description, etc. Moreover,
the GST law has imposed TCS provisions for e-commerce operators and treating
them as a separate class of persons who effect collections on behalf of
sellers. Hence, the web portals are not agents as defined in section 2(5) read
with Schedule I. At the most they may be termed as brokers who merely connect
the buyer and the supplier over an e-commerce platform but are not effecting a supply on behalf of the
seller. The issue is wide open and one would have to await clarity on this
front in the years to come.

Intermediary
services under place of supply for goods / services

Agency has also
been used in a different form in the IGST Act. Section 2(13) defines
‘intermediary’ to mean a broker, an agent or any other person, by whatever name
called, who arranges or facilitates the supply of goods or services or both, or
securities, between two or more persons, but does not include a person who
supplies such goods or services or both or securities on his own account. This
phrase is a legacy from the service tax era and has been used in the context of
determining the interstate character of supplies in overseas trade or commerce.

The said
definition includes similar terms such as broker, agent, etc. The important
distinctions between the definition of agent and intermediary are as follows:

1. Intermediary definition is applicable
for the limited context of ascertaining the place of supply of services being
rendered by the intermediary as a principal and not for;

2. Agent u/s 2(5) enlists categories of
‘mercantile agents’ while intermediary u/s 2(13) enlists categories of ‘agents’
in general. This is critical as one can contend that where one acquires the
status of a mercantile agent the element of intermediary does not arise in view
of the deeming fiction in Schedule I.

3. The definition of intermediary excludes
supply of goods / services ‘on own account’. This probably implies that goods
which are supplied on own accounts, including those deemed as a supply by the
agent under Schedule I, would stand excluded from the scope of this definition.

4. Therefore, the concept of intermediary
has to be distinguished from the concept of agency u/s 2(5) and the obscure
line of difference is the extent of authority granted to the person concerned.

As it appears, the principles of agency under GST
are multi-faceted with the same term having contextual meanings. This makes the
job of tax advisers a precarious walk over a tight rope. Apart from the concept
of agency, one may also need to address certain other relationships (such as
master-servant, bailee-bailor, brokers, consignment agents, etc.) which fall on
the peripheries of an agency relationship and draw a line of distinction while
interpreting these terms. This can be taken up in a separate article.

shailesh.kwebmaker

INTERMINGLING OF INCOME TAX AND GST

Tax laws are not made in a vacuum.
They are expected to be legislated keeping in mind the prevailing social,
economic and legal structure of a State. Yet, once legislated, taxing statutes
are to be implemented strictly and literally without consequences under other
tax laws. It is for the limited purposes of resolving any ambiguity over
undefined terms and / or unclear obligations of transaction where the Courts
have resorted to ancillary tax laws. It becomes imperative for tax subjects to
reconcile multiple laws prior to concluding transactions. This approach
involves a conceptual study and a cautious application of the respective laws
and their precedence.

Enactment of the Goods and Services
Tax laws in India would certainly have parallel implications under the existing
Income tax enactment. The business practices and accounting methodology under
the pre-existing enactments would need to be examined under the GST lens. We
are aware that gross income / receipts / turnover in the Profit and Loss
account of an Income tax return does not equate to aggregate turnover of a GSTR
annual return. Why is this so? Fundamentally, supply represents rendering of
service / sale of goods (outward obligation), while income is the consequence
flowing back from such supply (also called consideration); in other words,
supply of goods is the outward flow of a benefit and the consideration emerging
from such supply is termed as income.

Therefore, supply and income are two
facets of the same coin (one being the source and the other being the
consequence) and are to be viewed differently. They meet only when both
parameters, i.e., outward benefit and corresponding consideration are present
in a transaction; the absence of one any of these elements causes a divergence
in treatment under the respective laws. The other fundamental difference is the
geographical spread of the legislation – Income tax is a pan-India legislation
and GST is a hybrid of both national and State-level legislations.

An attempt has been made in this
article to identify variances and consistencies between both the tax enactments
from a conceptual perspective under four broad baskets: Charge, Collection,
Deductions / Benefits and Procedures.

A) CHARGE OF TAX

Income
perspective

Income tax is a direct tax on the
income from a transaction (see pictorial representation). The tax can be said
to be outcome-based since it is imposed on the end result, i.e., net business
profit, net capital gains, net rental income, etc. The basis of charge of
Income tax is ‘accrual’ or ‘receipt’ of ‘income’ depending on the accounting
methodology or specific provisions. Income is a term of wide import and has
been defined in section 2(24) in a very wide manner. Its normal connotation
indicates a periodical money return with some sort of expected regularity from
a definite source. It implies the net take-away from a transaction or series of
transactions. Yet, this definition has been the subject matter of scrutiny at
all levels in judicial fora. Every passing Finance Act has only widened the
scope of this term to include artificial items which do not fall in the normal
connotation of income. Certain extensions to this definition overcome general
understanding such as capital receipts, chance-based (lotteries, etc.)
receipts, absence of consideration, etc. For instance, courts have held that
capital receipts do not fall within the natural scope of the definition of
income. As a consequence, compensation on destruction of capital assets was
held to be capital in nature and included in Income tax only by artificial
extension. Capital receipts are thus an extended feature of income, and
therefore any capital receipt not specified in the enactment is outside the net
of Income tax.

GST, on the other hand, is a
transaction-based indirect tax. Transaction of ‘supply’ forms the basis of
charge. However, the term supply appears to be widely defined; it is fenced
with the requirement of being in the nature of sale, lease, exchange, barter,
license, etc. in the course or furtherance of business. Business has been
extended to include occasional, set-up related and closure-related
transactions. The transaction of supply is not significantly influenced by the
intention behind holding the asset. The behavioural aspect may be with
reference to the contractual terms but not behind the ownership of the asset.
For instance, GST may not concern itself with the intention behind holding the
asset but would lay higher emphasis on whether, in fact, the asset was sold or
not. To elaborate this with an example, a manufacturer temporarily leasing an
asset during its construction phase prior to its set-up may not be considered
as generating an income from business but reducing its capital expenditure (a
capital receipt), though such transaction would still be liable to GST. GST
does not treat capital and revenue transactions too differently; sale of
capital assets (or even salvage value), though capital in nature, would be
taxable under the said law.

On the other hand, Income tax
permits deduction of bad debts since it follows the ‘income’ approach. As a
corollary, the write-back of a revenue liability is also income. Since the
charging event of GST ends with the completion of supply, recovery of the
consideration, though relevant for Income tax, may be inconsequential for GST.
On the other hand, there may be certain transactions which are supply but may
not result in any income to the supplier. Recovery of costs may not necessarily
impact the income computation as they are generally netted off, but the very
same transaction could have implications under GST (say, freight costs).

Schedule I transactions certainly
pose a challenge when juxtaposed between Income tax and GST. Take the example
of the movement of goods between principal and agents. While for Income tax
this movement would not have any implications in either hand, under GST this
would be treated as an outward supply from the principal to its agent and a
corresponding inward supply to the agent, akin to a sale and purchase between
these parties. This would be the case even for a transaction between principal
and job-worker crossing the statutory threshold. The principal would have to
forcefully record this as an outward supply but would not give any
corresponding effect in its Income tax records. Therefore, while all GST
consequences would follow, Income tax would refrain from recognising these
transactions, leading to permanent variance between two values for the
taxpayer; for example, Income tax books would report this as stock held with
the job-worker, while the goods would strictly not form part of inventory of
the principal for GST purposes.

Apart from such variances, the
general phenomena of income and supply would more or less reconcile with each
other. The net consequence of the above-cited difference is that a
comprehensive coverage of either Income tax or GST cannot be made only by
reviewing the Profit and Loss account or Income tax computation of the
taxpayer. Transactions beyond Income tax records would need to be examined from
a GST perspective as well.

Characterisation
perspective

The other linkage is the
characterisation of transactions under both laws. Income tax u/s 14 provides
for five broad heads of income: (a) salary, (b) income from house property, (c)
business or profession, (d) capital gains and (e) other sources. The Supreme
Court in the famous case of East Housing & Land Development Trust
Ltd. vs. Commissioner of Income Tax (1961) 42 ITR 49(SC) held that:

‘The classification of income
under distinct heads of income is made having regard to the sources from which
the income is derived. Moreover, Income tax is levied on total taxable income
of the taxpayer and the tax levied is a single tax on aggregate tax receipts
from all sources. It is not a collection of taxes separately levied under
distinct heads but a single tax’.

The distinct heads are for the
purpose of differential computation methodologies of income depending on the
source of income. Income tax would treat computation of gains on sale from
capital assets differently from that of gains on sale of a stock. In fact, any
conversion of capital assets into stock in trade or vice versa would
have Income tax implications but no GST implications. A trader reclassifying an
asset from one balance head to another would not have any GST implications. The
reason for this difference is probably that GST does not look through the
intention of supply; it rather looks at the fact of a supply taking place for
taxation.

Income resulting from an
employer-employee / master-servant relationship is separately taxable under the
head ‘Salaries’ under Income tax. The litmus test of master-servant
relationship would be the extent of supervisory control of the master over the
individual while rendering the said service – independence in functioning would
provide the extent of control exercised by the master [Ram Prashad vs.
CIT (1972) 86 ITR 122 (SC)]. Under Income tax, the definition of salary
includes wages, allowances, accretion to recognised provident funds, etc.
Though the definition of salary u/s 17(1) does not include ‘perquisites’ within
its fold, it is nevertheless taxable under the head ‘Income from salary’ u/s
17(2). The Supreme Court in Karamchari Union vs. Union of India (2000)
243 ITR 143 (SC) stated that the definition of salary itself includes
any allowance, perquisite, advantage received by an individual by reason of his
employment. The perquisites are valued based on the net benefit being provided
to the employee (i.e., gross value of benefit minus the recoveries, if any).

The above analogy could be extended
to GST in matters involving examination of services rendered between the
employer and the employee in the course of employment. From an employee’s
perspective, the commissions, bonuses, monetary / non-monetary benefits arising
on account of employment even received after termination would be excluded from
the net of GST. But one should be cautious to ascertain the capacity under
which the individual is rendering these services. A director, for instance, can
hold two capacities – as an employee and as a director (agent of the company).
Services rendered as an agent of the company would not fall within the
exclusion but those rendered out of a master-servant relationship would stand
excluded.

Under the GST law both employer and
employee are treated as related persons in terms of the explanation to section
15. Schedule I deems certain services between related persons as taxable even
in the absence of a consideration. Therefore, from an employer’s perspective,
in cases where he is providing services for a subsidised charge to an employee
on duty (say subsidised rent accommodation, transport facility, etc.), there
appears to be some ambiguity whether such transaction entails GST. This is
because Schedule III excludes services by an employee to an employer in the
course of, or in relation to, employment, but not the reverse.

Certain services by an employer to
his employee arise on account of the obligations he takes over as part of the
employment agreement (such as providing rented accommodation, transport,
medical facilities, etc.). In the view of the authors, such activity is in the
nature of a ‘self-service’ and the recovery if any is towards the costs of such
activity rather than an independent supply, or an outward flow of benefit to
the employee. We can view this as follows:

The employer provides such benefits
as a condition (express or implied) of the employment. Some activities may also
be gratuitous / implied in nature, such as serving tea during official hours.
Some activity may be either provided free of cost or chargeable at a subsidised
cost (factory lunch). The benefits which are made available to the individual
have emerged from the status of a master-servant relationship. These benefits
are provided by the employer as a means for improving efficiency, productivity,
retention, etc. for his business. Though these actions provide some benefit to
the employee, such benefits are not solely for exclusive personal consumption.
In such cases it can be stated that there is no independent supply from the
employer to the employee, rather, a non-monetary benefit provided to the
individual. Even in case an amount is charged (either at cost or subsidised
rate), it represents a cost recovery / reduction in the quantum of non-monetary
benefit, but not a supply.

Such a view resonates from the fact
that while computing the value of perquisites in the hands of the employee, any
costs recovered by the employer towards the provision of such non-monetary
benefit is reduced from the valuation of salary. Such costs are not treated as
an expense of the employee, rather, they are reduced from the gross value of
monetary benefit received during the course of employment. The employer also
does not treat this transaction as part of his income generation activity but
considers this a reduction of his salary costs.

We should distinguish the above
scenario from a case where an employer provides benefits beyond the contract of
employment, or renders exclusive benefits to individuals in their personal
capacity.

Situs
perspective

Income tax is imposed on income
which accrues or arises or is received in India, or deemed to accrue or arise,
or received in India. The situs of accrual and receipt of such income
plays an important role in deciding the tax incidence under the Act. Indian
Income tax follows a hybrid of residence and source-based taxation and where
multiple sources exist, the principle of apportionment comes to the fore for
taxation. The Supreme Court in Ahmedbhai Umerbhai [1950] 18 ITR 472 (SC)
held that the place of accrual need not necessarily be the place where the sale
is consummated (i.e., the transfer of property in goods takes place) and income
can be attributed between different places depending on the acts committed at
these places.

Income tax has a recognised
principle of profit attribution where cross-border transactions are attributed
to each nation based on Transfer Pricing principles (involving functions
performed, assets employed and risks assumed). In Anglo-French Textile
Company Ltd. vs. Commissioner of Income-tax [1954] 25 ITR 27 (SC), the
Court stated that sale is merely a culmination of all acts to realise the
profit earned therefrom. The terms accrue and arise themselves have an inherent
principle of apportionment within them and in the absence of a specific
statutory provision (as it was then), general principles of apportionments
would be applicable; of course, subject to application of international treaty
covenants.

GST, on the other hand, taxes all
supplies in their entirety even if such supply takes place partly in India
(section 5-14 of the IGST Act). Being a transaction-based levy, the trigger of
supply takes place in terms of the place of supply provisions. Unlike the
Income tax law, the place of supply would be the particular place as stated in
the statute (rather than a spread) which would closely replicate the place of
probable consumption of the goods or services. Place of supply cannot be spread
across geographies and subjected to apportionment principles. For example, the
Indian branch of a foreign bank may be contracting for banking and financial services
with a multinational group directly but with active assistance from its
headquarters outside India. Income tax would require the profit from this
activity to be attributed to all the relevant jurisdictions based on a
functional analysis, but GST would treat this contractual consideration as
taxable entirely in India. It’s a different matter that the headquarters may
separately raise a GST invoice on the branch office to recover its costs.

IGST law has specific provisions for
identifying the location of supplier or recipient based on the business
establishments across jurisdictions. The term ‘business establishment’ is
defined to involve people, places and permanence and it forms the basis to
decide the location of supplier or recipient (usually residence-driven). The
terms ‘business establishment’ and ‘permanent establishment’ (business
connection) are on similar platforms to some extent. ‘Permanent establishment’
also uses these three parameters (such as a Fixed Place PE, Service PE,
Equipment PE, etc.) to decide the extent of income attributable to a
jurisdiction. The variance is because (a) Income tax has already experienced
significant evolution with changing business dynamics due to which the
permanent establishment concept is quite enlarged to agency functions, etc.;
(b) Income tax does not treat the condition of permanence, place or people as
cumulative and has, over the years, diluted this to significant economic
presence (say, presence of internet users). It may not be totally incorrect to
say that ‘business establishment’ under GST would necessarily entail a
permanent establishment for the overseas enterprise under Income tax, but the
reverse may not always be true.

B) COLLECTION OF TAX

Income tax is an annual tax. It is
imposed for each year called the assessment year based on the income which is
accrued or received in the preceding year (called previous year). Section 4 of
Income tax prescribes a unique methodology of taxing income of a particular
year (previous year) in the subsequent assessment year. Taxes paid during the
previous year take the form of advance tax and the tax paid during the
assessment year is termed as final self-assessed tax. The liability to charge
arises not later than the close of the previous year but the liability to pay
tax is postponed based on the rates fixed by the yearly Finance Act after the
close of the previous year.

The Supreme Court in CIT vs.
Shoorji Vallabhdas & Co. [1962] 46 ITR 144 (SC) held:

‘Income-tax is a levy on income. No
doubt, the Income-tax Act takes into account two points of time at which the
liability to tax is attracted, viz., the accrual of the income or its receipt;
but the substance of the matter is the income. If income does not result at
all, there cannot be a tax, even though in book-keeping an entry is made about
a “hypothetical income” which does not materialise. Where income has, in fact,
been received and is subsequently given up in such circumstances that it
remains the income of the recipient, even though given up, the tax may be payable.
Where, however, the income can be said not to have resulted at all, there is
obviously neither accrual nor receipt of income, even though an entry to that
effect might, in certain circumstances, have been made in the books of
account.’

Similarly in CIT vs. Excel
Industries 2013 38 taxmann.com 100 (SC) and Morvi Industries Ltd.
vs. CIT (Central), [1971] 82 ITR 835 (SC) the Court considered the
dictionary meaning of the word ‘accrue’ and held that income can be said to
accrue when it becomes due. It was then observed that: ‘……. the date of
payment ……. does not affect the accrual of income. The moment the income
accrues, the assessee gets vested with the right to claim that amount even
though it may not be immediately’.

GST is a transaction-based tax with
reporting and tax payments being made on a monthly basis. Time of supply
provisions (sections 12 and 13) fix the relevant month in which taxes are
payable. The leviability of GST is on supply of goods / services and charge of
tax is applicable even on an agreement of supply (section 7). In view of this,
goods sold but rejected on quality parameters prior to its acceptance itself,
may be a supply in terms of section 7 but would certainly not be an income to
the taxpayer. For example, the taxpayer has removed goods on 31^stJanuary
for sale which are subject to quality approval at the customer’s end for
payment; this would be a supply for the taxpayer for the month of January but
would be income for the very same taxpayer only when the goods are accepted by
the customer and the right to receive the consideration comes into existence in
favour of the supplier. It would be a different case that in case of rejection
the taxpayer can seek a refund of the GST already paid, but one would
appreciate that the GST law is distinct insofar as it imposes taxes and then,
subsequently, grants refund, while Income tax would refrain from imposing tax
itself.

Under Income tax the year of accrual
(other than specified exceptions) determines the relevant assessment year.
Importantly, each assessment year is a water-tight compartment and accruals
pertaining to a particular assessment year have to be considered in the
computation of Income tax for that year only and cannot be adopted in any other
assessment year. This is because Income tax is a single tax (refer preceding
discussion) of an assessment year and can be determined only when all incomes
are reporting in tandem. But GST is a transaction tax and reporting of each
transaction is independent of the other. GST, hence, has this peculiar feature
of permitting transactions of a tax period to cross over to other tax periods
and even financial years. Reporting of transactions in subsequent periods is
not fatal to taxation as each transaction is independent and does not impact
the overall taxability.

C) DEDUCTIONS / BENEFITS

Income tax law is required to grant
deduction of expenses or costs as a matter of statutory limits and
Constitutional mandate. This is because the entry for taxation in terms of
Entry 82 is with reference to income and not receipts (for example, income by
way of diversion of overriding title would not be income in its true sense
though it may be received by the taxpayer). Section 28 levies a tax on the
‘profit and gains’ from business, section 45 taxes capital ‘gains’, etc.; no
doubt, the Legislature exercised its liberty in denying certain deductions
(penal expenses) and limiting the quantum of deductions (30% deduction in case
of house property income), but the law is drafted to ascertain the income and
not the gross receipts of a taxpayer. As a consequence, it may not be illegal
for assessing officers to grant deduction of expenses from the records
available even if the same were not availed by the taxpayer.

GST also grants a deduction in the
form of input tax credit – this benefit does not emerge from the Constitution
but from the underlying principle of value-added taxation and statutory
provisions made therefrom. The Legislature has a wider latitude insofar as
barring input tax credit on certain inputs (such as motor vehicle, building /
civil structures, etc.) as part of Legislative liberty and one cannot question
this discretion. A theoretical understanding of the statute may also suggest
that the Legislature may have the discretion to deny all input tax credit if it
decides to do so as a matter of policy. Given this, it may not be imperative
for the assessing authority to grant input tax credit if such a claim has not
been put forward. The statute believes that unavailed input tax credit
represents a tax burden passed on to the next person in the value-chain and
hence there is no obligation to grant input tax credit suo motu while
performing an assessment.

As regards the scope of deductions,
both these laws seem to have reconciled on the principle of business purpose.
Income tax permits deductions of business expenses while calculating profits
and gains from business or profession. Apart from specific deductions, there is
also a residuary category for claiming deduction of business expenses u/s 37. GST
has also followed a similar path and granted benefit of input tax credit on
most business inputs / expenses. Both the Income tax deduction and GST credit
are fettered with respective ancillary conditions, but these laws seem to have
aligned themselves as a matter of principle. Therefore, a disallowance u/s 37
on personal expenses may also result in a corresponding disallowance of input
tax credit and vice versa. On the capital assets front, while Income tax
grants depreciation on ownership and use of assets, GST does not concern itself
with ownership of assets and mere business use would be sufficient for claim of
input tax credit.

D) PROCEDURES

Under Income tax the law prevailing
as on the first day of an assessment year would be the relevant law for taxability,
but in the case of GST the law prevailing as on the date of the transaction
would be the basis of chargeability.

Income tax has adopted a concept of
self-assessment on an annual basis. Being a Central legislation, state-level
reporting is not relevant and entity-level compliance has to be performed. GST
has adopted a monthly assessment methodology with registration-level compliance
for each State, respectively. This makes GST data much more granular in
comparison to the Income tax data collation.

On the assessment front, Income tax
has a tested system of summary assessment, scrutiny assessment, best judgement
assessment, reassessment, review, etc. A taxpayer can be assessed multiple
times for the same assessment year. GST has adopted a hybrid system of
adjudication and assessment (borrowed partially from Excise and VAT laws).
Unlike Income tax where the assessment involves both fact-finding and
adjudication of law, GST has kept the fact-finding exercise under audit
procedures which is independent of legal adjudication (show cause proceedings)
and probably performed by different officers.

CONCLUSION

Income and GST certainly meet and part at
multiple points. This diversity would cause variance in differential tax
treatments and hence need careful examination. Supply may or may not be backed
by an income and similarly an income may or may not arise from a supply. With
increasing interchange of information of GSTR9/9C and Income tax return
(comprising the P&L and balance sheet) between Government departments, it
is expected that taxpayers should reconcile these variances as a matter of
preparedness before assessing authorities under both laws. It is suggested that
Government implement exchange programmes among tax departments for field
formations in order to effectively administer these tax laws.

shailesh.kwebmaker

INTERLINKING BETWEEN GST AND CUSTOMS

LEGISLATIVE FRAMEWORK – GST VIS-À-VIS CUSTOMS

The levy of GST finds its genesis under
Articles 246A and 269A of the Constitution of India. Article 246A confers
powers on both Parliament and the State Legislature to make laws with respect
to goods and services tax imposed by the Union or such State. Two points to be
noted here are:

(a) Vide the proviso to
Article 246A, Parliament has been given the exclusive power to make laws with
respect to goods and services tax where the supply of goods or services or both
is in the course of interstate trade or commerce. The mechanism for levy,
collection and sharing of tax on such supplies is provided under Article 269A.
Explanation 1 to Article 269A further provides that the supply of goods or
services in the course of import into the territory of India shall be deemed to
be a supply in the course of interstate trade or commerce.

(b) Article 286 restricts the states from
levying tax on sale or purchase of goods or services or both if such supply
takes place outside the state or in the course of import into or export out of
the territory of India.

It is by virtue of the above framework that
Parliament has enacted the Integrated Goods & Services Tax (IGST) Act, 2017
and the Central Goods & Services Tax (CGST) Act, 2017 for levy and
collection of tax on interstate supplies and intrastate supplies, respectively.
Similarly, the states have enacted the State Goods & Services Tax (SGST)
Act, 2017 for levying tax on intrastate supplies. The determination whether or
not a supply is in the course of interstate trade or commerce is dealt with
under sections 7 and 8 of the IGST Act, 2017. Section 7 thereof provides that
supply of goods imported into the territory of India till they cross the
customs frontiers of India shall be treated as supply of goods in the course of
interstate trade or commerce.

There is an apparent dual levy on import of
goods under the Constitution in view of Article 269A treating import of goods
as interstate supply of goods or commerce and Article 246 empowering the levy
of customs duties. It is for this reason that the charging section for levy of
IGST u/s 5 specifically excludes the levy and collection of integrated tax on
goods imported into India from its purview and provides that the same shall be
levied and collected in accordance with the provisions of section 3 of the CTA,
1975 on the value determined under the said Act at the point when the duty of
customs is levied on the said goods u/s 12 of the Customs Act, 1962.

Therefore, when dealing with a cross-border
transaction involving goods, there is a close interplay between the provisions
of GST and Customs requiring determination of the statute under which the duty
/ tax has to be discharged. It therefore becomes important to understand the
meaning of the terms ‘imported goods’, ‘importer’ and the process to be
followed in the case of importation of goods.

‘IMPORTED GOODS’ AND ‘IMPORTER’

‘Imported goods’ is defined u/s 2(25) of the
Customs Act, 1962 to mean any goods brought into India from a place outside
India but does not include goods which have been cleared for home consumption. Similarly,
section 2(26) defines the term ‘importer’ in relation to any goods at any
time between their importation and the time when they are cleared for home
consumption, includes [any owner, beneficial owner] or any person holding
himself out to be the importer.

When goods are imported into India, there
are generally two sets of transactions which are undertaken, one being the
filing of Bill of Entry for Home Consumption, in which case the importer has to
pay duty as applicable on the said goods and get the goods cleared from the
Customs Authorities. Once this is done, the goods are no longer imported goods
and therefore, on all subsequent transfers the tax will be levied and collected
under the GST mechanism by classifying the transaction either as intrastate or
interstate. The second option is to file Bill of Entry for Warehousing, in
which case the goods shall be stored either at a public or a private warehouse
by executing a bond. In the second option, the goods continue to be classified
as imported goods and the payment of duty on such goods gets deferred till the
time the goods are kept in the bonded warehouse and the same shall be assessed
to tax when a bill of entry for home consumption in respect of such warehoused
goods is presented.

In other words, till the time the goods are
cleared for home consumption, i.e., an order permitting clearance of such goods
for home consumption is passed, the goods would be treated as imported goods
and will be subjected to levy and collection of tax u/s 12 of the Customs Act,
1962.

TAX
TREATMENT OF HIGH SEAS SALES

In the case of high seas sales, the sale
takes place before the goods are cleared for home consumption, i.e., a bill of
entry for home consumption is filed and an order permitting the clearance of
such goods is issued by the proper officer. This position has also been
accepted by the Board vide Circular 33/2017 – Customs dated 1^st
August, 2017 wherein they have clarified that in case of high seas sales
transactions (single or multiple), IGST shall be levied and collected only at
the time of importation, i.e., when declarations are filed before the Customs
Authorities for clearance purposes after considering the value addition on
account of such high seas transactions. Even the Authority for Advance Ruling
has held so in BASF India Private Limited [2018 (14) GSTL 396 (AAR –
GST)].

Further, Schedule III has been amended
w.e.f. 1^stFebruary, 2019 vide the insertion of Entry 8(b) to
provide that supply of goods by the consignee to any other person, by
endorsement of documents of title to the goods, after the goods have been
dispatched from the port of origin located outside India but before clearance for
home consumption, shall be treated as neither being supply of goods nor supply
of services.

TAX
TREATMENT OF WAREHOUSED GOODS

A similar treatment will be accorded to
goods where a bill of entry for warehousing is filed, i.e., goods are kept at a
bonded warehouse which falls within the purview of customs area defined u/s
2(11) of the Customs Act, 1962 as any area of a customs station or a warehouse.
This is because when a bill of entry is filed for warehousing, the goods are
not cleared for home consumption and therefore such goods continue to be
classified as imported goods and subject to levy and collection of tax under
the Customs Act, 1962. This view has been followed by the AAR in Sadesa
Commercial Offshore De Macau Ltd. [2019 (21) GSTL 265 (AAR – GST)] and Bank
of Nova Scotia [2019 (21) GSTL 238 (AAR – GST)]. In fact, in Sadesa
Commercial the AAR has also held that if they are engaged exclusively
in undertaking such supplies, i.e., sale of warehoused goods, they would not be
liable to obtain registration under GST.

Prior to the amendment referred to above,
the Board had issued Circular 46/2017-Cus. dated 24^th November, 2017
wherein it was clarified that tax will be levied on multiple occasions, one at
the time when the warehoused goods are sold before clearance for home
consumption, and secondly when the bill of entry for home consumption of such
warehoused goods is presented for clearance. However, vide a later
Circular 3/1/2018 dated 25^th May, 2018, it was clarified that
integrated tax shall be levied and collected at the time of final clearance of
the warehoused goods for home consumption only.

In addition, Circular 46/2017-Cus. was
withdrawn to align with the amendment to Schedule III of the CGST Act, 2017
which deemed supply of warehoused goods to any person before clearance for home
consumption as neither a supply of goods nor supply of services w.e.f. 1^stApril, 2018.

IMPORTS BY
SEZ DEVELOPERS / UNITS

A similar analogy will apply for the purpose
of goods imported into a Special Economic Zone as well. Section 53(1) of the
SEZ Act, 2005 provides that SEZs shall be deemed to be a territory outside the
Customs territory of India for undertaking the authorised operations. However,
this does not imply that the provisions of the Customs Act, 1962 shall not
apply to SEZs as held by the Gujarat High Court in the case of Diamond
& Gem Development Corporation vs. Union of India [2011 (268) ELT 3 (Guj.)].
It is for this reason that when goods are imported into an SEZ, a bill of entry
for re-warehousing has to be filed. Of course, in view of section 26 of the SEZ
Act, 2005 which provides exemption from duties of customs on goods imported
into India to carry on the authorised operations, no duty of customs –
including IGST – is leviable on such imports.

However, a challenge arises when the said
goods are cleared for use in DTA. The goods imported into an SEZ are under a
Bill of Entry for re-warehousing. However, since an SEZ is deemed to be outside
the customs territory of India, section 30 of the SEZ Act, 2005 provides that
any goods removed from an SEZ to the DTA shall be chargeable to duties of
customs, including anti-dumping, countervailing and safeguard duties under the
CTA, 1975 (51 of 1975), where applicable, as leviable on such goods when
imported. In other words, if goods imported into an SEZ are cleared into DTA, a
fresh Bill of Entry for Home Consumption would have to be filed in view of the
fact that the same would be treated as import of goods from a territory outside
India. The Bill of Entry can be filed either by the SEZ unit or by the buyer of
the goods.

TAX TREATMENT OF DUTY FREE SHOPS

The levy of tax on goods sold by Duty Free
Shops (DFS) has always been a subject matter of scrutiny, first under the
pre-GST regime and now under the GST regime. DFS are shops which are set up at
airports / sea ports within the customs territory, i.e., after a person goes
through customs formality if he is commencing an international travel, or
before a person goes through customs formality if he is returning from an
international travel.

The DFS are treated as warehouses licensed
u/s 58A of the Customs Act, 1962. Once the goods reach the DFS, there are two
possibilities –the goods may be bought by an outbound passenger or the goods
may be bought by an inbound passenger. But the fact remains that the goods have
been sold by the DFS before a Bill of Entry for home consumption was filed.
Thus the question that remains is whether or not such sales would be liable to
GST, irrespective of whether the same is from the departure area or the arrival
area. In this context, it would be imperative to refer to the following
decisions of the Supreme Court:

(A) In the case of J.V. Gokal &
Co. (Pvt.) Ltd. vs. Assistant Collector of Sales Tax [1990 (110) ELT 106 (SC)],
the Court explained the phrase ‘in the course of import of goods into the
territory of India’ to mean

(1) The course of import of goods starts at
a point when the goods cross the customs barrier of the foreign country and
ends at a point in the importing country after the goods cross the customs
barrier,

(2) The sale which occasions the import is a
sale in the course of import,

(3) A purchase by an importer of goods when
they are on the high seas by payment against shipping documents of title (Bill
of Lading) is also a purchase in the course of import, and

(4) A sale by an importer of goods, after
the property in the goods passed to him either after the receipt of the
documents of title against payment or otherwise, to a third party by a similar
process is also a sale in the course of import.

(B) In the case of Hotel Ashoka vs.
Assistant Commissioner of Commercial Taxes [2012 (276) ELT 433 (SC)],
specifically in the context of DFS, the Court had held that the sale of goods
from DFS was from outside India and therefore, they were not liable to sales
tax. The Court further held that the sale of goods was before they were cleared
for home consumption, i.e., it was a sale of goods in the course of import into
India and for this reason the state did not have the power to levy tax on such
transactions.

Even in the context of GST, reference to the
decision of the Bombay High Court in the case of Sandip Patil vs. Union
of India [2019 (31) GSTL 398 (Bom.)] is important. In this case, not
only did the Court agree with the above contention, it also held that supply of
goods to outbound passengers would be treated as export of goods and in case of
supply of goods to inbound passengers such inbound passengers would be treated
as importers and they would also not be liable to pay any duty in view of
Notification 43/2017-Cus. dated 30^th June, 2017 and 2/2017-IT (Rate)
dated 28^th June, 2017 r.w. duty-free allowance under the Baggage
Rules. The High Court further held that the DFS would be entitled to claim
refund of accumulated ITC on account of export of goods u/r 89 of the CGST
Rules, 2017. A similar view has also been taken in the case of A1
Hospitality Services Private Limited vs. Union of India [2019 (22) GSTL 326
(Bom.)] as well as Atin Krishna vs. Union of India [2019 (25)
GSTL 0390 (All.)].

One should, however, note that the AAR has,
in the case of Rod Retail Private Limited [2018 (12) GSTL 206 (AAR –
GST)] on the contrary held that the supply of goods from DFS would be
liable to GST. However, this AAR, while referring to the decision of the
Supreme Court in the case of Ashoka Hotel referred above, has
held it to be not applicable since ‘under GST law, scenario has changed and
therefore decision of Apex Court not applicable’. Instead, it refers to the
decision in the case of Collector vs. Sun Industries [1988 (35) ELT 241
(SC)] which was completely on a different footing. It is imperative to
note that the High Court had in the case of Sandeep Patil
distinguished this ruling on the grounds that the facts in the case of Rod
Retail were different since the same was a ‘Duty Paid Shop’ and not a
‘Duty free shop’ as clarified by the Board vide Circular dated 29^th
May, 2018 and therefore the dispensation allowed to DFS would not be affected
in any manner.

Reference is also invited to the recent
decision of the Supreme Court in the case of Nirmal Kumar Parsan vs.
Commissioner of Commercial Taxes [SCA No. 7863 of 2009] wherein in the
case of warehoused goods the Court upheld the liability to pay VAT on goods
sold as stores to foreign-going vessels. However, in this case, the Court made
a peculiar observation that the appellant had not shown anything to demonstrate
that the subject bonded warehouse came within the customs port / customs land
station area and, more so, the state sales occasioned the import of goods
within the territory of India.

INPUT TAX CREDIT IMPLICATIONS

In view of the amendment to section 17(3),
it is further provided that the supply of goods covered under Schedule III
would not be treated as exempted supply and therefore there is no requirement
to reverse Input Tax Credit on account of the same.

RCM ON OCEAN FREIGHT

Generally, when a contract for sale of goods
is executed, the parties need to agree when the risk and rewards associated
with the goods would get transferred. There are two commonly used terms,
namely, CIF – i.e., cost, insurance and freight included; and FOB – i.e., Free
on Board, meaning once the goods reach the port at the foreign country, the
risks and rewards associated with such goods are transferred to the buyer in
which case he shall make arrangements to bring the goods from the foreign port
to a port in India by entering into a separate contract for such services.

For customs, depending on the agreed terms,
the assessable value is generally adjusted, either for actual freight incurred
or on notional basis. For example, if freight cost is not available, the same
is assumed at 20% of the FOB value and the same is added to the transaction
value for determining the assessable value. [Refer Rule 10 of the Customs
Valuation (Determination of Value of Imported Goods) Rules, 2007]. This implies
that the customs duty along with IGST is paid not only on the transaction value
but also on the actual various or notional value of expenses incurred during
the import of such goods. This would also mean that tax is charged indirectly
on the transportation cost in the CIF contracts as well, though the service
provider (shipping line) and the service receiver (foreign seller) may not be
in India.

Despite the transaction being indirectly
taxed, Entry 10 of Notification 10/2017-IT (Rate) dated 28^th June,
2017 imposes a liability on the importer, as defined in section 2(26) to pay
tax on ‘services supplied by a person located in non-taxable territory by
way of transportation of goods by a vessel from a place outside India up to the
customs station of clearance in India’. The Notification further provides
that where the value of taxable service provided by a person located in
non-taxable territory to a person located in non-taxable territory by way of
transportation of goods by a vessel from a place outside India up to the
customs station of clearance in India is not available with the person liable
for paying integrated tax, the same shall be deemed to be 10% of the CIF value
(sum of cost, insurance, and freight) of imported goods.

Therefore, it is apparent that there is a
dual taxation of the freight component, once at the time of clearance of goods
with the customs authorities where the value of freight is included in the
assessable value, and secondly, the tax liability created through the
Notification 10/2017-IT (Rate). Similar provisions existed under the Service
Tax Regime as well where the Gujarat High Court had struck down the entry
imposing liability to pay tax under reverse charge in the case of Sal
Steel Limited vs. Union of India [R/SCA No. 20785 of 2018]. The levy
was struck down primarily because section 94 did not permit the Central
Government to make rules for recovering service tax from a third party who is
neither the service provider nor the service receiver. The Court further held
that there was no machinery provision to demand the tax from the importer.

Under GST, the AAR has on multiple occasions
such as India Potash Limited [2020 (32) GSTL 53 [AAR – AP)]; M.K.
Agrotech Limited [2020 (32) GSTL 148 (AAR – KA)]; E-DP Marketing Private
Limited [2019 (26) GSTL 436 (AAR – MP)] held that there is a liability
to pay GST under RCM on such transactions. However, the Gujarat High Court has
in the case of Mohit Minerals Private Limited vs. UoI
[2020-TIOL-164-HC-AHM-GST] struck down Entry 10 as ultra vires
for the following reasons:

(a) The importer is not the service
recipient since the GST law defines the service recipient as the person liable
to pay consideration,

(b) The place of supply provisions apply
only in case where either the location of supplier or the recipient of services
is outside India. In this case, both the location of supplier as well as
recipient are outside India,

(c) The point of taxation would never get
triggered since neither the payment to the supplier would be reflected in the
books of accounts of the importer, nor the invoice of the shipping line would
be in the name of the importer.

While the levy has been struck down, one
should note that the Revenue is likely to file an appeal before the Supreme
Court and therefore reliance on this decision should be placed keeping in mind
other aspects as well. For instance, in case the decision is overturned by the
Court and the liability to pay tax is confirmed, the same would be along with
consequential interest and probably no Input Tax Credits. Penalty can be
contested on bona fide belief, but it would be a long way away,
especially considering the fact that the payment of tax might in many cases be
a revenue-neutral exercise.

INTERNATIONAL JOB WORK

Section 2(68) of the CGST Act, 2017 defines
the term ‘job work’ as ‘any treatment or process undertaken by a person on
goods belonging to another person’. This activity is deemed to be a supply
of service under GST in view of Entry 3 of Schedule II of the CGST Act, 2017.

The modus operandi in this kind of
transaction is that the owner of goods (generally known as principal) desirous
of getting some work done on his goods, sends the said goods to his job-worker
without any consideration. The said job-worker shall work on the said goods and
return the goods to the principal and recover the charges for carrying out the
said activities from the principal.

Therefore, there are three different events
involved in a transaction of job work, namely, receipt of goods, working on the
said goods (treatment / process) and lastly, return of the said goods. When
both the parties, i.e., principal and job-worker are in the same territory,
there are no tax implications at the time of receipt of goods and sending back
the goods. However, when in the same transaction one of the parties is outside
India, customs duty comes into the picture because there is either an import of
goods, i.e., goods coming into India from a territory outside India in case of
inbound job work or export of goods, i.e., goods being taken out of India in
case of outbound job work.

Under the Customs Act, 1962 the import of
goods for job work is dealt with by Notification 32/1997-Cus. dated 1^st
April, 1997. This Notification exempts goods imported for jobbing from payment
of customs duty leviable under the First Schedule and additional duty leviable
u/s 3 of the CTA, 1975 subject to satisfaction of the condition prescribed.
However, it is imperative to note that vide Notification 26/2017-Cus.
dated 29^th June, 2017 in the context of additional duties u/s 3 of
the CTA, 1975, the exemption is restricted only to the extent of additional
duties leviable under sub-sections (1), (3) and (5) thereof. This would imply
that the integrated tax on import of goods, which is leviable u/s 3(7) of the
CTA, 1975 would be liable to IGST in case of goods imported for job work
purposes, though no consideration is payable by the importer job worker on such
import of goods. The same applies in case of outbound job work, where goods are
re-imported. Notification 45/2017-Cus. dated 30^th June, 2017 exempts
additional duties leviable u/s 3 in the case of re-import.

The first question that would need
consideration is whether the job-worker importing the goods would be liable to
claim credit of integrated tax paid on such imports? For the same, one would
need to refer to section 16 of the CGST Act, 2017 to ensure that the conditions
prescribed therein are satisfied or not. The primary conditions to be satisfied
in this set of transactions are that the goods should have been received in the
course or furtherance of business, the recipient should be in possession of
such tax-paying document as may be prescribed, the recipient should have actually
received the goods, and lastly, he should have furnished the return u/s 39. It
is beyond doubt that the above conditions are getting satisfied and therefore,
the claim of integrated tax paid on receipt of goods for job work by the
job-worker as importer should be allowed. This view has also been accepted by
the AAR in Chowgule & Co. Pvt. Ltd. [2019 (27) GSTL 405 (AAR)].

The next question that would need
consideration is in two parts, taxability of services provided by the job
worker, and secondly whether sending back of goods would amount to exports or
not? As discussed above, the commercial transaction in the current case is
undertaking activity on goods owned by the principal for which the job worker
recovers charges from the said principal. Since this is deemed to be a supply
of service, section 13 of the IGST Act, 2017 shall come into play which deals
with determination of place of supply in case where either the location of the
supplier of service or the location of the recipient of service is outside India,
which applies to the current transaction. Accordingly, one needs to refer to
the various scenarios laid down u/s 13 thereof to identify the applicable rule
for determining the place of supply.

The most directly concerned rule for this
kind of service appears to be section 13(3)(a) which provides that the place of
supply of service in case where the services supplied in respect of goods which
are required to be made physically available by the recipient of services to
the supplier of services, or to a person acting on behalf of the supplier of
services in order to provide the services, shall be the location where such
services are actually performed. In this sense, it would have implied that the
goods on which job work services are being performed being located in India,
the place of supply u/s 13(3) shall be India and accordingly the same would be
liable to tax and not treated as export of services. Similarly, in case of an
outbound job work transaction, the situation would be reverse and job work charges
paid to the foreign job worker would not be liable to GST under import of
services since place of supply would be outside India.

This situation would apply till 31^st
January, 2019 post which the proviso to section 13(3) has come into
force. The proviso provides that section 13(3)(a) shall not apply to
cases where goods are temporarily imported into India for repairs or for any
other treatment or process and are exported after such repairs or treatment or
process without being put to any use in India, other than that which is
required for such repairs or treatment or process. Therefore, w.e.f. 1^st
February, 2019, in case of inbound job works, the place of supply shall be the
location of the recipient of service, i.e., outside India and subject to the
satisfaction of conditions u/s 2(6) of the IGST Act, 2017 shall be treated as
export of service. That being the case, such job-worker may be entitled to
claim refund of accumulated ITC or tax paid on supply of such Zero-Rated
Services. However, in case of an outbound job work transaction, the Indian
principal would now be liable to pay tax under import of services.

It is important to note that this proviso
does not impose any time limit within which the goods have to be exported after
the repairs / process and therefore, no such time limit can be enforced for
return of such goods. One may refer to the recent decision of the Supreme Court
in Bombay Machinery Works [2020–VIL16–SC] which was on a similar
aspect, though in the context of section 6(2) of the Central Sales Tax Act,
1956.

Notification 32/1997-Cus. dated 1^st
April, 1997 requires that the goods should be re-exported within six months
from the date of clearance of such goods or within such extended time period as
the Assistant Commissioner of Customs may allow. It may be noted that the
definition of exports, under GST as well as Customs, is similar and means taking
out of India to a place outside India. Therefore, the sending back of goods
would qualify as export for the purpose of Customs as well as GST.

One important issue which was taken up in
the AAR case of Chowgule & Co. Pvt. Ltd. was that of
eligibility of refund claim. In the said case, the applicant was engaged in
undertaking job work on iron ore which attracts nil rate of duty. In this case,
the AAR held that since the goods being exported are liable for export duty,
the refund of accumulated ITC would not be available in view of the second proviso
to section 54. However, this appears to be on a wrong footing because the
supply undertaken by the applicant was that of supply of services to which the
restriction does not apply.

TAXATION OF INTANGIBLES

Section 2(22) of the Customs Act, 1962
defines the term ‘goods’ to include, among other things, any other kind of
movable property. The Supreme Court has, in the case of TCS vs. State of
Andhra Pradesh [2004 (178) ELT 2 (SC)] dealt with what shall constitute
goods. While dealing with this subject, the Constitution Bench held that goods
may be tangible or intangible property. A property becomes goods provided it
has the attributes having regard to utility, capability of being bought and
sold and capability of being transferred, transmitted, delivered, stored and
possessed.

There can be
different types of intangibles, such as patents, designs, copyrights,
trademarks, etc. Each of these is governed by specific statutes. Such rights
can be transferred either by way of license or assignment. License is a
temporary transfer of rights without any change in the ownership, which would
amount to rendition of service in view of Entry 5(c) of Schedule II of the CGST
Act, 2017, while assignment would mean a change in ownership of the rights and
therefore would be treated as supply of goods in view of Entry 1(a) of Schedule
II. This distinction has been explained in the case of CST vs. Dukes
& Sons Private Limited [1988 (SCC) Online Bom 448].

However, an issue that arises is with
respect to the situs in case of assignment of intangibles. What shall be
the situs of such transfer, i.e., whether the location where the
intangible is registered shall be the situs, or the location of the
owner of such intangible shall be considered the situs? In this regard,
one may refer to the decision of the Bombay High Court in the case of Mahyco
Monsanto Biotech India Private Limited vs. Union of India [2016 (44) STR 161
(Bom).] where the Court has followed the principle of mobilia
sequuntur personam, i.e., location of owner of intangible asset would be
closest approximation of situs of his intangible asset and the location
where agreement is entered would not be relevant.

Given this background, it may be argued that
in case the rights owned by a person outside India are assigned, the same would
be treated as import of goods and therefore no tax can be levied on the same
u/s 5 of the IGST Act, 2017. However, the bigger issue would be whether or not
such imports would be liable to tax u/s 12 of the Customs Act, 1962, especially
when the document of title evidencing assignment of rights is received
electronically? In case the document of title is brought into India, either as
a courier or baggage, there may be customs duty implications on such imports,
but on what value would the same be payable would be a subject matter of
dispute.

A similar challenge would be seen in case of
export transactions, i.e., assignment of rights from India to a person outside
India. Whether such person would be liable to treat such assignment as export
of goods without there being a corresponding shipping bill and, accordingly,
the consequential impact on adjudication of refund claims?

IMPORTS VIS-À-VIS TRANSFER OF RIGHT TO USE
GOODS

Another aspect to be noted is that of cases
where there is a transfer of right to use goods and in pursuance of which goods
are imported into India. Entry 5(f) of Schedule II of the CGST Act, 2017 treats
activities of transfer of right to use goods for any purpose as supply of
services. Therefore, when such service of transfer of right to use such goods
is provided by a foreign party, which would trigger bringing goods from outside
India to India, there will be a dual challenge, one being the levy of IGST on
the rental payments under import of service, and the second being the levy of
IGST u/s 12 of the Customs Act, 1962 which would be on the value of goods and
therefore highly disproportionate to the transaction being undertaken.

To avoid this dual levy of tax, Notification
72/2017-Cus. dated 16^th August, 2017 provides exemption from the
levy of basic customs duty and integrated tax. While 100% exemption is not
provided for under basic customs duty, integrated tax u/s 3(7) of CTA, 1975 is
granted, provided the importer gives an undertaking that he shall discharge the
tax on the said services as import of services.

GOODS SENT FOR EXHIBITIONS

Various exhibitions are held all over India
where people participate and display their goods. There can be a scenario where
an exhibition is being held in India and a person from outside India showcases
his product, in which case he shall bring the goods from outside India to
India; and secondly, a case where a person in India intends to showcase his
products at an exhibition being held outside India.

The procedure for import of goods for
exhibition purposes is dealt with under Notification 8/2016-Cus. dated 5^th
February, 2016. The said Notification provides for exemption from payment of
customs duty and additional customs duty subject to conditions, such as
execution of bond, re-export of goods within the prescribed period of six
months, etc. At times it so happens that the goods are sold at such exhibitions
and therefore, instead of re-exporting the said goods, the same have to be
cleared for home consumption by paying the appropriate customs duty.

However, in such cases such person will have
to apply for registration as a non-resident taxable person and discharge the
applicable tax on the sale value after claiming Input Tax Credit only of the
tax paid on goods imported by him u/s 16. Such non-resident taxable person
shall not be allowed credit of any other inward supplies, except for tax paid
on goods imported by him. Similarly, in case of goods sent for exhibition
abroad, Notification 45/2017-Cus. dated 30^th June, 2017 provides
that no tax shall be payable on re-importation of such goods. This has also
been clarified by the Board Circular 21/2019-Cus. dated 24^th July,
2019.

BRANCH TRANSFER

Branch transfer is a common terminology used
when a branch sends goods to another branch. Under GST, Entry 2 of Schedule I
of the CGST Act, 2017 deems supply of goods or services or both between related
persons or between distinct persons as specified in section 25 when made in the
course or furtherance of business as supply, even though made without
consideration which would require the transaction to be valued at arm’s length
and tax discharged.

The application of this entry in the context
of international branch transfer needs to be analysed. The term ‘distinct
persons’ is dealt with u/s 25(4) which provides that a person who has
obtained or is required to obtain more than one registration, whether in one
State or Union territory or more than one State or Union territory shall, in
respect of each such registration, be treated as distinct persons for the
purposes of this Act.

In other words, it is only the domestic
branches of an entity which come within the purview of distinct persons.
Similarly, a domestic H.O. and foreign branch, or vice versa would not
come within the purview of related persons, since the same would have entailed
existence of more than one person, which is not so in the case of branch transfers.
It is for this reason that in case of domestic transactions the concept of
‘distinct person’ has been introduced.

In this background, one would need to
analyse the tax implications when international branch transfer is undertaken,
i.e., goods are sent to foreign branch / H.O. or vice versa, goods are
received from foreign branch / H.O.

In an outward branch transfer case, it would
be a transaction of export of goods – both under customs as well as GST since
goods are actually going out of India. The supplying branch would have an
option to export the goods under LUT / Bond or on payment of duty.

However, in case of inward branch transfer,
the importer would be required to pay the applicable duty – customs as well as
integrated tax on such imports, subject to specific exemptions or cases where
the import of goods fall under specific scenarios.

CONCLUSION

While both the
Customs and the GST laws operate in different domains with different objectives
in mind, in view of the disconnect in certain cases, one finds instances of
overlap and interplay between these two laws.

shailesh.kwebmaker

FIRST SIGNS OF EVOLUTION

We are experiencing
the first signs of evolution of the GST law and who would have imagined that
the beginning would be from a property dispute matter! A recent decision of a
single-member bench of the Hon’ble Bombay High Court in Bai Mamubai Trust
vs. Suchitra 2019 (31) GSTL 193 has set the tone for the upcoming years
of GST. This article is an attempt to decode the decision and examine its
application.

ISSUE AT HAND

The Bombay High
Court was hearing a suit between a landlord (plaintiff) and a tenant (defendant)
under the Maharashtra Rent Control Act, 1999 regarding adverse possession of a
commercial property. In view of the strong prima facie case of the
landlord to obtain possession of the property, the Court granted interim
protection by placing a condition of payment of an ad hoc royalty by the
defendant to be deposited with the Court Receiver under an agency agreement.
The Court Receiver was directed to invest the royalty received as a fixed
deposit with a nationalised bank. This direction raised three questions for the
plaintiff and the Court Receiver:

(a) Whether the royalty paid by the defendant was
liable to GST during the period of dispute?

(b) If yes, who was liable to collect the GST from
the tenant and pay the same to the Government – whether the Court Receiver or
the landlord?

The primary issue
before the Court was the applicability of GST on the royalty payment by the
defendant to the Court Receiver during the pendency of the dispute. This
required examination of the following entries:

* Provisions of
section 7 defining the scope of supply for the purpose of GST;

* Schedule III –
Entry 2: Services by any Court or Tribunal established under any law for the
time being in force; and

* Applicability of
reverse charge provisions on receipt of services from the Central Government in
terms of Notification 13/2017-CGST(Rate).

Submissions
of amicus curiae: The Court appointed an amicus curiae to assist it in
resolving the issue on legal principles. The submissions made by him were as
follows:

(i) Any amount paid under a Court’s order / decree
or an out-of-Court settlement is taxable only if it is towards an underlying
taxable supply; where the payment is towards restitution of a loss or damage,
i.e. compensatory in nature, such payment would lack the tenets of supply, i.e.
enforceable reciprocity in actions.

(ii) The method adopted for quantifying the
damages, i.e. equating to the commercial rental value should not be confused
with the underlying purport of the payment {Citing Senairam Doongarmall
vs. Commissioner of Income Tax [(1962) SCR 1 257]}.

(iii) Services provided by the Court Receiver were to
be treated as ‘Services by any Court or Tribunal established under any law for
the time being in force’ within the meaning of paragraph 2 of schedule III to
the CGST Act and is, accordingly, not within the ambit of GST.

(iv) Section 92 of the CGST Act provides for
collection and discharge of tax liability by a Court Receiver from the estate
in its control. The Court Receiver would be a convenient point for the Revenue
to collect its tax being the person who is in direct receipt of the
consideration / royalty, where such payment itself is liable to be taxed under
the provisions of the CGST Act. The Court Receiver can discharge the liability
as an agent of the supplier in terms of section 2(105) of the said Act.

Court
Receiver’s submissions: The Court Receiver also
made its submission on the specific question on taxability of the royalty as
follows:

(1) There is a distinction between fees or
remuneration of the Court Receiver under Rule 591 of the Bombay High Court
(Original Side) Rules, 1980 and the moneys paid by a litigant towards the matter
under litigation.

(2) The Court Receiver is an adjunct of the Court
and a permanent department of the Court and its role is to implement interim
protection to litigants. Therefore, the former is clearly covered under
schedule III and not taxable.

(3) Monies paid in the Court of litigation as part
of interim protection are to be examined based on the underlying relationship
between the litigating parties – taxable event of supply cannot be applied on a
notional contract between either of the parties and the Court Receiver.

(4) For example, during the tenure of permissive
use of a property, what is paid by the occupier to the right owner is the
contractual consideration. If such permissive use or occupation is terminated
or comes to an end and the occupation becomes unlawful, the nature of payment
to be paid to the right owner changes from contractual consideration to
damages or mesne profits for unauthorised use and occupation of the
property. GST is payable on the former contractual consideration, but
not on damages payable for unauthorised use and occupation of the property. The
fact that the measure of damages is to be based on market rent should not
influence the nature of the payment being made, i.e. a payment to compensate
the right owner for violation of his legal right. Royalty is towards
compensation and not a contractual consideration.

(5) The Court Receiver may discharge the GST by
including this obligation in the agency agreement. This may obviate the
requirement of the Court Receiver from having to obtain separate CGST
registration for each matter or transaction in respect of which it is appointed
to act by the Court; (though) it is preferable from an audit and administrative
perspective to obtain separate GST registration for each matter, where the same
is paid for by the Court Receiver.

Submissions
of State Government / Union of India

(I) GST may be
recovered from the Court Receiver u/s 92 only if it is conducting a business of
a taxable person. A binding contract has come into existence under the
directions of the Court (i.e. the defendant has to either accept the offer to
retain possession and pay royalty, or vacate the premises).There is an offer,
its acceptance and consideration for forming a valid contract.

(II) The order
permitting the defendant to remain in possession of the suit premises is
essentially a contract and payment of royalty is ‘consideration’ for this
‘supply’ of premises to the defendant pursuant to an order of
the Court. GST will be liable to be paid under the MGST Act. The Learned
Advocate-General relied on a judgment of the Supreme Court in Assistant
Commissioner, Ernakulam vs. Hindustan Urban Infrastructure Ltd. [(2015) 3 SCC
745] (which considers Rule 54 of the Kerala Sales Tax Rules which is in
pari materia with section 92 of the MGST Act) to contend that akin to an
official liquidator who was termed to be a dealer of company assets even though
the express consent of the Company in Liquidation was not present, the Court
Receiver represents the plaintiff and is a supplier of services.

(III) As per the
decision of the Supreme Court in Humayun Dhanrajgir vs. Ezra Aboody
(2008) Bom C.R. 862, royalty is a compensation payable by the occupier
to the right owner in the property towards the use of his rights in his
property. There is a clear supply of service of providing premises (subject, of
course, to the final determination of the rights of the parties to the suit).
Such letting or providing of premises is clearly covered in the scope of
‘supply’ u/s 7 of the CGST Act as also under the definition of ‘services’ u/s
2(102) of the CGST Act.

(IV) The Court
Receiver wears two hats, one as an agent of the Court and another as an agent
of the plaintiff on whose application he is appointed. Tax is only levied
on the services rendered by the Court Receiver as an agent / on behalf of the
plaintiff u/s 92 of the CGST Act.

The findings of the
Court can be segregated into the following sub-headings:

(A) Status of
the Court Receiver and its Court fee: The
Court cited the decision of Shakti International Private Limited vs.
Excel Metal Processors Private Limited 2018 (4) Arb LR 17 (Bom.) which,
in turn, relied on certain Supreme Court decisions and effectively approved the
submission of the amicus curiae that the Court Receiver is a permanent
department of the Court, implements orders of the Court and functions under the
supervision and direction of the Court, hence to be concluded as a ‘Court’¹.
Accordingly, the fee of the Court Receiver is clearly excludible in terms of
Entry 2 to Schedule III of the GST enactments.

(B) GST
liability on income from estate under control of Court Receiver: The Court held that ‘supply’ being an essential ingredient of
taxability, has to be identified for each case; the present case being royalty
payments for use of commercial premises.

On the aspect
of supply: The royalty payment was held as not
being towards a taxable supply for the following reasons:

(a) It was being paid towards damages or compensation
or towards securing any future determination of compensation or damages for a violation
of the legal rights of the landlord (plaintiff) in the tenanted
premises;

(b) The basis of payment is illegal
possession or trespass and hence lacked necessary reciprocity to make it a
supply;

(c) The plaintiff is not in agreement with
continuing possession and hence seeking damages for loss and such loss closely
resembles in monetary terms the rental value of the property;

(d) In contrast, had there been a money suit for
recovery of unpaid rent, certainly the tax is liable on the unpaid
consideration as it represented an agreed reciprocal obligation where one of
the litigating parties was seeking relief of its rights in the contract;

(e) Damages represent an award in money for a civil
wrong which is in contrast to ‘consideration’. While damages are towards
restitution for loss caused on account of violation, consideration is towards
an identifiable supply;

(f) The law of damages is not restricted to only
unpaid consideration, i.e. what ought to have been paid, but also expands to
compensating the loss to a party which may not even be privy to the agreement
(e.g. in torts);

(g) The decision of the Supreme Court in Hindustan
Urban Infrastructure (Supra) is distinguishable as the said decision
pertained to an official liquidator being termed as a dealer of goods of the
company it represents in the course of liquidation;

(h) Royalty for the demise of a property itself has
many colours and the true character is to be determined from specific facts –
the ratio of the decision of the Supreme Court in Humayun
Dhanrajgir vs. Ezra Aboody (2008) Bom C.R. 862 clearly distinguishes
the rent paid for a tenancy as being in the nature of (a) consideration during
the tenure of the tenant; (b) compensatory after the tenure as a disputed
occupant; and (c) mesne profits as being towards the occupancy in spite
of being declared as illegal by a Court;

(i) The Court also accepted the submission that
the measure for computation cannot be the litmus test for ascertaining the
character of a supply;

(j) Contractual obligations would dominate over
consideration while deciding the character of a supply. Even though business
and supply definitions are inclusive, a positive act of supply is a necessary
concomitant of a supply transaction;

(k) The Court cited an example of a Court Receiver
being deputed to make an inventory of goods, collect rents with respect to
immovable property in dispute, or where the property has to be sealed, or the Receiver
is appointed to call bids for letting out the premises on leave and license,
the fees or charges of the Court Receiver are exempt. In providing these
services, the office of the Court Receiver is acting as a department of the
Court and therefore no GST is payable.

Interestingly, as
an obiter, the Court specifies some instances where GST may be
applicable – it may be observed that each of them has a positive act with
reciprocity and hence includible as supply:

(i) Where the Court Receiver is appointed to run
the business of a partnership firm in dissolution, the business of the firm
under the control of receivership may generate taxable revenues.

(ii) Where the Court authorises the Court Receiver
to let out the suit property on leave and license, the license fees paid may
attract GST.

(iii) Where the Court Receiver collects rents or
profits from occupants of properties under receivership, the same will be
liable to payment of GST.

(iv) Consideration received for assignment, license
or permitted use of intellectual property.

On the aspect
of representative capacity of Court Receiver:

Curiously, having
decided that the said royalty is not towards a supply, the Court need not have
examined the provisions designating the Court Receiver as a representative
assessee. Yet, the Court specifically stated that section 92 would be
applicable where the Court Receiver was in control of the business of the
taxable person, a taxable event of supply takes place with respect to such
business on account of which the estate of the taxable person would be liable
to tax, interest or penalty under the CGST Act. Therefore, in the event the
supply is taxable, the Court Receiver would have to take registration and
discharge the tax liability as an agent of the supplier [Court directed that a
clause in the standard form of the agency agreement to the effect may be
included] – the agent appointed by the Court Receiver must obtain registration
and make such payment on behalf of the Receiver and indemnify the Receiver for any
liability that may fall upon the Receiver u/s 92 of the GST Act concerned.

Ratio Decidendi

The following are
the key takeaways from this decision:

(1) Reciprocal obligations arising from positive
actions are necessary for an arrangement to be a supply;

(2) Consideration should be examined as a
reciprocal of a positive act and distinguished from compensations for
restituting a loss;

(3) Measure cannot fix the character of the
payment, it has to be ascertained from contractual obligations and substance of
the agreement;

(4) Schedule II was not invoked as a starting point
for deciding supply, and naturally so in view of the retrospective amendment
setting the role of schedule II as being classificatory and not directory, in
deciding the scope of supply u/s 7 of the GST enactment;

(5) In case of representative persons, distinguish
the receipt while acting as a representative and those on its own account. In
the present facts, the Court Receiver acted as a representative while
collecting royalty payments but acted on its own account in respect of the fee
as a Court Receiver. The former was not taxable on account of not falling
within the scope of supply u/s 7 itself, while the latter was held as being
exempt on account of schedule III of the GST law.

CAUTION OVER APPLICATION

However, the
following should not be immediately concluded from this decision:

(I) All court-directed payments are not
compensatory and damages are to be identified in their true sense based on
facts of the case;

(II) Scope of the term ‘business’ and whether Court
Receiver is in ‘business’ – the Court directly invoked schedule III to hold
that it was exempt under GST and has not examined section 7 on this aspect;

(III) GST implications if the Court in this civil
suit ultimately holds that tenant has rightful possession under the tenancy and
the royalty previously deposited as a fixed deposit (even partially) is
appropriated towards the rent to the landlord;

(IV) Whether or not
there is a supply inter se between the Court Receiver and the principal
in case of supply of goods, especially in the context of schedule I entry 3
which deems transactions between principal and agent as supplies even in the
absence of consideration.

The Hon’ble High Court has delivered a
well-reasoned order and even if the same is to be challenged before higher
forums, the principles set out in this decision seem to be on a solid
foundation. The Court has certainly placed some boundaries over the seemingly
unfenced scope of supply u/s 7. This decision would have implications on
matters involving liquidated damages, demurrage / detention charges, notice pay
recovery, etc. and the underlying character of the obligation would have to be
minutely studied prior to taking support of this decision.

shailesh.kwebmaker

GST IMPLICATIONS ON BUSINESS RESTRUCTURING

INTRODUCTION

In changing
business dynamics, business restructuring has become a norm whereby businesses
undertake activities of merger – wherein two or more entities come together to
form a new entity, resulting in the old entities ceasing to exist; or
amalgamation – wherein one or more entities are subsumed into an existing
entity such that the subsumed entities cease to exist. The next mode of
business restructuring is de-merger, where only specific business divisions are
transferred to a new entity, or are sold to an existing entity. When the above
activities are undertaken as a corporate, the same are governed by the
provisions under the Companies Act, 1956 (now 2013). In the non-corporate
sector, the restructuring transactions are generally undertaken by way of business
transfer arrangements, lease, leave and license and so on, which may not be
governed under any other statute.

Generally, a
business transaction is structured in such a manner that there is transfer of
assets and liabilities as per the terms of the transfer of the business or part
thereof which is being transferred to the transferee. However, this transaction
has its own set of challenges under GST, ranging from whether the transaction
would be liable to GST u/s 9, liability of transferor and transferee in case of
such transfers, input tax credit implications, registration implications, etc.

In this article, we
will try to decode the above aspects and the issues which revolve around
business restructuring.

TAXABILITY
OF CONSIDERATION RECEIVED FOR BUSINESS RESTRUCTURING TRANSACTIONS

An important aspect
which needs to be looked into while dealing with business restructuring
transactions under GST is whether or not the consideration received for the
said transaction attracts levy of GST u/s 9. This is very important since the
consideration involved is substantial and the applicability of GST on such
transactions may be a game-breaker. To analyse the same, one needs to analyse
from two different perspectives, one being whether transfer of business can be treated
as supply of goods, or supply of services or not, and the second being whether
or not the same can be treated as being in the course or furtherance of
business?

Let us first
discuss whether the activity of sale of business, as part of business restructuring,
can be treated as sale of goods, or sale of services, or none of the two. For
this let us refer to the definition of goods as defined u/s 2(52) of the CGST
Act which is reproduced below for ready reference:

‘goods’ means
every kind of movable property other than money and securities but includes
actionable claim, growing crops, grass and things attached to or forming part
of the land which are agreed to be severed before supply or under a contract of
supply;

On going through
the above definition of goods, it is evident that for any item to be classified
as goods it has to be movable property. Therefore, the question that needs to
be analysed is whether or not a business unit is a movable property. While the
term ‘movable property’ has not been defined under the GST law, one can refer
to the decisions under the pre-GST regime which specifically dealt with this
issue. In this context, reference may be made to the decision in the case of Shri
Ram Sahai vs. CST [1963 (14) STC 275 (Allahabad HC)] wherein the
Hon’ble High Court held that ‘business’ is not a movable property and therefore
it is not covered within the meaning of ‘goods’.

Similarly, in a
recent decision the Hon’ble Andhra High Court in the case of Paradise
Food Court vs. State of Telangana [Writ Petition No. 2167 of 2017] had
held as under:

‘16. Two
important things are to be noted from the definition part of the Statute. (i)
The first is that the sale of a business as such is not covered either by the
charging Section, viz., Section 4(1) or by the definition of the expression
goods. While the sale of a business may
necessarily include a sale of the assets (as well as liabilities) of the
business, the expression business is not included in the definition of the
expression goods under Section 2(16).’

While the above
decisions were in the context of the sales tax / VAT regime, it is important to
note that the definition of goods was similarly worded and, therefore, the
principles laid down by the above judgments should continue to apply even under
GST. For these reasons, it can be concluded that the activity of business
restructuring, by way of amalgamation, merger, de-merger or transfer of
business unit, cannot be treated as supply of goods for the purpose of GST.

We shall now
proceed to analyse whether sale of business, as a part of business
restructuring, can be treated as supply of services. For this, let us refer to
the definition of service as provided u/s 2(102) of the CGST Act, 2017 which is
reproduced below for ready reference:

‘services’ means
anything other than goods, money and
securities but includes activities relating to the use of money or its
conversion by cash or by any other mode, from one form, currency or
denomination, to another form, currency or denomination for which a separate
consideration is charged;

On going through the above, it is evident that service has been very
loosely defined under GST. A literal reading of the definition indicates that
anything which is not classifiable as goods would be service. However, the
question that needs to be analysed is whether such literal interpretation of
the definition of supply can be done or not, or whether one needs to refer to
purposive interpretation. It would be relevant to refer to two decisions of the
Supreme Court to understand when purposive interpretation can be resorted to:

(i) Periyar & Pareekanni Rubbers
Limited vs. State of Kerala [2008 (13) VST 538 (SC)]

28. Tax
liability of the business concern is not in dispute. Correctness of the orders
of assessment is also not under challenge. The Tribunal or for that matter the
High Court were, therefore, not concerned with the liability fastened upon the
dealer. The only question was as to what extent the appellant was liable
therefor. It is impossible for the legislature to envisage all situations. Recourse to statutory interpretations therefore
should be done in such a manner so as to give effect to the object and purport
thereof. The doctrine of purposive construction should, for the said purpose,
be taken recourse to.

(ii) Tata Consultancy Services Limited vs.
State of Andhra Pradesh [2004 (178) ELT (022) SC]

68. It is now
well settled that when an expression is capable of more than one meaning, the
Court would attempt to resolve that ambiguity in a manner consistent with the
purpose of the provisions and with regard to consequences of the alternative
constructions.

See Clark
&Tokeley Ltd. (t/a Spellbrook) vs. Oakes [1998 (4) All ER 353].

69. In Inland
Revenue Commissioners vs. Trustees of Sir John Aird’s Settlement [1984] Ch. 382,
it is stated:

Two methods of
statutory interpretation have at times been adopted by the court. One,
sometimes called literalist, is to make a meticulous examination of the precise
words used. The other, sometimes called purposive, is to consider the object of
the relevant provision in the light of the other provisions of the Act – the
general intendment of the provisions. They are not mutually exclusive and both
have their part to play even in the interpretation of a taxing statute.

70. Although
normally a taxing statute is to be strictly construed, but when the statutory
provision is reasonable akin to only one meaning, the principles of strict
construction may not be adhered to.

[See Commnr.
of Central Excise, Pondicherry vs. M/s Acer India Ltd., 2004 (8) SCALE 169].

As can be seen from
the above, the need to resort to purposive interpretation arises only when the
literal interpretation results in ambiguity. It would therefore need to be
analysed as to whether according a transaction of business restructuring by way
of amalgamation, merger, de-merger or transfer of business assets as supply of
service would lead to absurdity? In general, depending on the terms of each
agreement, a transaction for business restructuring by any of the means referred
above would generally include transfer of assets, liabilities, employees, etc.
It would be difficult to perceive as to how a transaction, which involves
transfer of assets, liabilities, human resources, etc., would constitute
service, especially when there are identified elements of goods, transactions
in money, etc., involved. In other words, merely because all the above items
are sold as a bundle making the transaction take the character of a business
unit and going by the literal interpretation, since the transfer of business
unit is not classifiable as goods, it should be classified as service. This is
where the ambiguity / absurdity comes into the picture. Schedule II only deems
transactions of temporary transfer of right to use goods as service. This is
because in case of temporary transfer, the goods revert back to the owners. But
it is not the case here as the items being transferred would not revert back to
the owners. It is for this reason that such business restructuring activity
cannot be classified as service as well.

It may also be
relevant to note that notification 12/2017 – CT (Rate) exempts services by way
of transfer of a going concern, as a whole or an independent part thereof, from
levy of GST. However, merely because there is an entry in exemption
notification would not mean that the transaction was upfront liable to levy of
tax. However, if the entry is treated as valid, it would mean that the
transferor has made an exempt supply and, therefore, trigger the applicability
of the provisions of section 17(2) r/w/rule 42 / 43 of the CGST Rules.

Liability of
transferor vis-à-vis transferee – in case of
transfer of business by sale, gift, lease, leave and license, hire or in any
other manner whatsoever

In case of business
restructuring transactions, there is also a change of ownership. Section 85(1)
deals with liability to pay tax in such cases where the business restructuring
results in transfer of business by sale, gift, lease, leave and license, hire
or in any other manner whatsoever. The section provides that in case of
transfer of business, there shall be joint and several liability of the
transferor as well as the transferee to pay tax up to the time of such
transfer, whether determined prior to or subsequent to the said transfer.

Therefore, what needs to be analysed first is what is meant by the term
‘transfer of business’. This has been analysed by the Supreme Court in the case
of State of Karnataka vs. Shreyas Papers Private Limited [Civil Appeal
3170-3173 of 2000] while dealing with the scope of section 15(1) of the
Karnataka Sales Tax Act, 1957. In this case, the Court held that business is an
activity directed with a certain purpose, more often towards promoting income
or profit. Mere transfer of one or more species of assets does not bring about
the transfer of ownership of the business, which requires that the business be
sold as a going concern. The above view has been followed in multiple instances
wherein the Court has held that transfer of specific business assets cannot be
treated as transfer of business in itself. One may refer to the decisions in
the cases of Rana Girders Limited vs. UOI [2013 (295) ELT 12 (SC)],
Lamifab Industries vs. UOI [2015 (326) ELT 674 (Guj.)], Chandra Dyeing &
Printing Mills Private Limited vs. UOI [2018 (361) ELT 254 (Guj.)], Krishna
Lifestyle Technologies Limited vs. Union of India [2009 (16) STR 669 (Bom.)].

When comparing with
the provision under the Central Excise Act, 1944 (section 11), one important
distinction which comes to mind is that the proviso of section 11
required that the transferee should have succeeded in the business of the
transferor. This aspect was dealt with by the High Court in the case of Krishna
Lifestyle Technologies (Supra) where the Court held as follows:

‘16. Succession
therefore has a recognised connotation. The tests of change of ownership,
integrity, identity and continuity of a business have to be satisfied before it
can be said that a person succeeded to the business. The business carried on by
the transferee must be the same business and further it must be continuation of
the original business either wholly or in part. It would thus be clear from the
above that these tests will have to be met before it can be said that a person
has succeeded to a business. This would require the facts to be investigated as
to whether there has been transfer of the whole of the business or part of the
business and succession to the original business by the transferee.’

While the
provisions under GST do not require succession in interest by the transferee,
it remains to be seen whether the condition shall still be continued to be
applicable under GST, considering the decision in the case of Shreyas
Papers (Supra) wherein the Supreme Court has brought in the concept of
transfer of business as a going concern though no specific provisions were
contained in the Karnataka Sales Tax Act.

It would also be
relevant to note that there are instances where the business is transferred by
State Financial Corporations after taking over control of defaulting borrowers.
The statute under which the State Financial Corporations were incorporated
provided that in case of sale of such assets, though the sale would have been
executed by the State Financial Corporation, it would have been deemed that the
sale was being done by the defaulting borrowers and, therefore, the liability
to pay tax up to the date of transfer shall be on the transferee (refer Macson
Marbles Private Limited vs. UOI [2003 (158) ELT 424 (SC)].

Treatment of
Input Tax Credit in case of transfer of business, amalgamation, merger,
de-merger, etc.

Another GST aspect which revolves around the above set of transactions,
apart from the attached transfer of liability to the transferee, is the
permission to transfer the balance lying in the electronic credit ledger of the
transferor. Section 18(3) provides that in case of change in constitution of a
registered person on account of sale, merger, de-merger, amalgamation, lease or
transfer of business with specific provision for transfer of liabilities, the
taxable person shall be allowed to transfer the input tax credit which remains
unutilised in his credit ledger in such manner as may be prescribed. The manner
has been prescribed u/r 41 of the CGST Rules. While the provisions are silent
w.r.t. the manner of determining the credit appropriable to the transferee, it
provides that in the case of de-merger the input tax credit shall be
appropriated in the ratio of value of assets of new units as specified in the
de-merger scheme. However, in all other cases there is no method prescribed for
appropriating input tax credit. The only requirements prescribed for the
transfer of balance lying in electronic credit ledger are:

(1) A copy of the chartered accountant’s
certificate certifying that the sale, merger, de-merger, amalgamation, lease or
transfer of business has been done with a specific provision for transfer of
liabilities;

(2) Furnishing of Form GST ITC-02 by the
transferor which shall be accepted by the transferee on the common portal; and

(3) Accounting for the inputs and capital goods so
transferred by the transferee in his books of accounts.

REGISTRATION
IMPLICATIONS IN CASE OF BUSINESS RESTRUCTURING

In case of
transactions of amalgamation or merger, one needs to take note of the fact that
there are two different dates, namely, the effective date from which the scheme
would be given effect (which has to be indicated while filing the application
for the amalgamation or merger) and, second, the date of order, when the scheme
is approved by the Court or Tribunal. Generally, the effective date precedes
the order date and under the Income-tax Act, while till the time the order is
received both companies continue to have separate existence, the receipt of the
order requires them to re-file their tax returns as the company which has
merged or amalgamated into the other company has ceased to exist.

However, it is not
so under the GST regime. Section 87(2) specifically provides that the companies
party to a scheme shall continue to be treated as distinct companies till the
date of receipt of the order, and the registration certificate of the
amalgamated or merged company shall be cancelled only with effect from the date
of the order approving the scheme. This specific provision will help in dealing
with the following situations:

(A) Supply of goods or services, or both, between
the companies which are part of the scheme, and

(B) Supply of goods or services, or both, by the
said companies to other persons who are not part of the scheme.

This would imply
that till the date of the order approving the scheme is received, each of the
companies party to the scheme shall continue to comply with the various
provisions of the law, including filing of periodic tax returns, annual returns
and reconciliation statements prescribed u/s 35.

Similarly, section
22(4) provides that any new company which comes into existence in pursuance of
an order of a Court or Tribunal, as the case may be, shall be liable to get
registered with effect from the date on which the Registrar of Companies issues
a certificate of incorporation giving effect to such order.

Therefore, in case of amalgamation /
merger, one needs to take the registration aspect very seriously, to the extent
that upon receipt of approval of the scheme, the application for cancellation
of certificate of registration of the company which ceases to exist in view of
the order, and the application for fresh registration of the company which
comes into existence, is done within the prescribed time limits, and all future
supplies are made / received under the registration certificate of the
continuing company / new company and the use of the GSTIN of the company which
ceases to exist is discontinued with immediate effect.

shailesh.kwebmaker

INTERPLAY OF FIXED ESTABLISHMENT WITH PERMANENT ESTABLISHMENT

Business enterprises with
presence in multiple geographical locations either set up an independent legal
entity (recognised under the host state laws) or operate through extended
establishments such as branch offices, installation / project sites, personnel,
etc. (referred to as multi-location entity – MLE). Such MLEs give rise to
critical tax consequences in both the host state and the parent states. While
the general economic principle in framing fiscal laws for such presence is to
ensure avoidance of double taxation and non-taxation, due to a lack of
consensus on international transactions on the VAT / GST front this objective
is far from being achieved. The issue of taxation is relatively simpler when
the business enterprises set up an independent subsidiary and remunerate them
at arm’s length for all their activities. The complexity arises with presence
through extended establishments as the arrangements between the head office and
these establishments are not clearly discernible or documented for comparison
with external world transactions.

VAT laws globally have termed these extensions as
‘fixed establishment’ – this has been used as a tool to assist them in
identifying the end destination of the service or intangibles. The OECD VAT /
GST guidelines have suggested three approaches in taxation of MLEs for services
and intangibles and to reach the end consumption of the service: (i) Direct use
approach where the focus is on the establishment that uses the services; (ii) Direct delivery approach where the focus
is on the establishment to which the services are delivered (with a presumption that delivery is a good reference
point of use); and (iii) Recharge approach which factors the inefficiencies in
both approaches and requires the MLE to recharge the externally procured costs
to the establishment which ultimately uses the services in order to ensure that
the VAT chain continues to the state of consumption¹.

1 It
is probable that the recharge approach has weighed heavily while drafting
Schedule 1 of the CGST Act

The Income Tax law (along with tax treaties) has
recognised the presence of foreign enterprises in India through business
connections / permanent establishments (PE) for the purpose of taxation. The
term ‘permanent establishment’ has been used with a dual purpose – (a) fixing
the taxing rights over the source of income pertaining to the extended presence
in India; and (b) application of Transfer Pricing Regulations for ascertainment
of arm’s length profits of permanent establishments through a process of profit
attribution. Being a nation-wide law, domestic branches really do not alter the
revenue situation from an income tax perspective and have no significance in
this respect.

Under the Indian GST law, not only do we have to
resolve transactions spanning across national borders, we also have to deal
with transactions over state borders. Article 286 of the Indian Constitution
empowered Parliament to play the role of a mediator for inter-state transactions.
Article 286 articulates the location of the supply and also defines the state
which would have exclusive jurisdiction to tax the supply transactions. To give
effect to this geographical jurisdiction, the IGST law, in addition to other
principles, included the concept of ‘fixed establishment’. The objective of
this term is to identify the taxable person, the source and destination of a
supply and the appropriate jurisdiction for taxing the transaction.

Before venturing into a comparative analysis of
fixed establishment (FE) with permanent establishment (PE), it is imperative
that the underlying objectives of both laws are understood clearly. The VAT /
GST laws have introduced the said concept in order to give effect to the
destination principle, i.e., taxation revenues ultimately accrue to the state
in which the services are consumed and the neutrality principle, i.e.,
non-resident and residents are treated in the same manner, while the Income Tax
laws introduced the concept of permanent establishments in line with the
‘source principle’ of taxation, i.e., the country from which the income has
been generated should have the right to tax the said income. This fundamental
divergence would act as a natural impediment to automatic application of the PE
definition to the FE definition.

FIXED ESTABLISHMENT UNDER GST
– CONCEPT

In general, the GST law defines the term FE in
contra-distinction with the term ‘place of business’. The phrase place of
business (PoB) refers to a place from where business is ordinarily carried out
and includes a warehouse, godown or any other place where the supplies are made
or received. FE has been defined to mean a place (other than the registered
place of business) which is characterised with a sufficient degree of permanence
in terms of human and technical resources in order to supply or receive and use
services for its own needs. The terms PoB and FE are relevant to decide the
‘from’ location and the ‘to’ location of the service activity and consequently
the right location of supplier and recipient of service.

The PoB / FE concept also has some background in
the Service Tax enactment and the Place of Provision of Services Rules. With
similarly worded terms, the education guide on service tax explained the
objective behind the concept of fixed establishment as follows. It was stated
in paragraph 5.2.3 that the term ‘location’ was significant from the
perspective of service provider and recipient in order to ascertain the source
or rendition of a particular service. The paragraph also stressed that the
location also assists in identifying the jurisdiction of the field formation
(under Service Tax being a Central enactment) which would have domain to assess
the transaction. This can probably also support the point that the fixed
establishment concept would play a pivotal role in identifying the appropriate
state to which the taxing domain lies.

FIXED ESTABLISHMENT UNDER
EU-VAT – CONCEPT

The Indian GST definition of fixed establishment
has been influenced by the EU-VAT law. The EU Sixth VAT Directive (Article 43)
adopted the term ‘fixed establishment’ for ascertaining the place of supply of
services. The term was objectively expanded in 2011 by virtue of Articles 11(1)
and 11(2) of the implementing regulations (a procedural law). Prior to this
expansion, certain decisions analysed the definition of fixed establishment,
i.e., the Berkholz² and ARO Lease³ cases. The Berkholz
case involved gaming machines installed by the taxpayer on on-going sea vessels
with intermittent presence of personnel for maintenance of the machines. The
ECJ on consideration of the cumulative requirement of permanence of human
and technical resources held that the FE was not established. Similarly, in
the ARO Lease case a company was engaged in leasing of cars to its customers in
Belgium (these cars were purchased by ARO, Netherlands from Belgian dealers and
delivered to the customers directly in Belgium); it was held by the ECJ that
neither the presence of cars of ARO in Belgium nor the self-employed intermediaries
(Belgium dealers) created a sufficient permanent human and technical presence
to constitute an FE.

With Articles 11(1) and (2) of the EU implementing
regulations, the EU-VAT law has categorised fixed establishment into ‘passive’
and ‘active’ fixed establishments⁴. The IGST law has adopted both in
one definition with the use of the disjunctive phrase ‘or’ in the last few
words of the definition (discussed in detail later). This may be considered as
essential because the concept of fixed establishment has been used to ascertain
both the location of cases where services are either received or provided from
the said fixed establishment.

After the introduction of the implementing
regulation, the Welmory case⁵ examined a situation where a Cyprian
company had appointed a Polish company to maintain and operate a website for
online auction. The entire process of auction was functioning through the
website maintained by the Polish company. The ECJ stated that the economic
activities of the Polish company and Polish customers does not by itself
constitute a fixed establishment and the services of the Polish company should
be viewed distinctly from that of the Cyprian company to the Polish customers.

PERMANENT ESTABLISHMENT UNDER
INCOME TAX – CONCEPT

In Income Tax, the domestic legislation used the
phrase ‘business connection’ which is of very wide amplitude, but taxpayers use
the benefit of a narrower term PE⁶ which is used in most tax
treaties (OECD, US or UN model). The term PE has been defined as a fixed place
of business through which the business of an enterprise is wholly or partly
carried out and includes the following: (a) place of management; (b) branch,
office, factory, workshop, warehouse, etc., (c) building, construction or
installation site; (d) provision of services through presence of personnel; and
(e) dependent agency. In case a foreign enterprise constitutes a PE in a host
state, the PE is to be granted a separate entity status and business profits
attributable to the PE at arms’ length are to be taxed in the state in which
the PE is constituted.

Having understood the broad concept of FE and PE in
GST / EU and Income Tax law, we now proceed to identify the points at which the
said terms would converge / diverge through the assistance of illustrations and
then tabulate the same for future reference.

2 ECJ
EC 4^th July, 1985, 168/84, ECLI:EU:C:1985:299 (Günter Berkholz),
European Court Reports, 1985

3 ECJ
EC 17^th July, 1997, C-190/95, ECLI:EU:C:1997:374 (ARO Lease),
European Court Reports, 1997

4 Passive
FEs being those which only receive / procure inputs / services (cost centres)
and Active FEs which also provide services (profit centres)

5 ECJ
EU 15^th October, 2014, C-605/12, ECLI:EU:C:2014:2298 (Welmory),
Official Journal 2014, C 462

6 OECD
Model Convention on Tax Treaties as an example

CONSTITUTION OF A PE / FE –
COMPARATIVE ANALYSIS

(A) Fixed place PE (basic rule): Stability,
productivity and dependence

Article 5 of Income Tax treaties defines a fixed
place PE as ‘fixed place of business’ through which the business of an
enterprise is wholly or partly carried out. The fixed place PE rests on three
primary tests: (a) place of business; (b) location test; and (c) permanence
test. Article 5(2), in fact, enumerates instances such as branch, office,
factory, workshop, warehouse, etc., which by default satisfy the above tests,
especially the place of business test.

The place of business test
postulates that some portion of the business activity of the MLE enterprise is
conducted through the physical office in India. The extent of business activity
conducted in India is ascertained through a FAR analysis (Functions performed,
Assets employed and Risks assumed) of the PE’s operations in India. But there
is one critical exclusion in terms of conduct of preparatory or auxiliary
activities – in effect, where a part of the business activity is conducted in a
territory and such part is preparatory or auxiliary in nature, the MLE is not
considered to have a permanent establishment in the said territory. In the
context of this Basic Rule PE, the Supreme Court in DIT vs. Morgan
Stanley [2007 (7) TMI 201] was examining whether back-office operations
of a subsidiary constitute a place of business of the parent company. The Court
held that the support function performed would not constitute an extension
of the business activity of the parent. Similarly, the mere fact that the
business of the parent company is outsourced or support functions are performed
by the Indian subsidiary, was considered as irrelevant for the purpose of concluding that the parent company is having
an establishment in India [ADIT vs. E Funds IT Solutions Inc. 2017 (10)
TMI 1011]. These decisions imply that the business activity should be
understood as an extension of the set-up already in place in the parent company
rather than an independent entity.

The location test requires that there has to be a
physical presence of the business in a specific place (though the place may be
mobile within the defined territory). This test warrants that the business
activity should be capable of being tagged to the physical territory either as
equipment, branch or any such physical infrastructure.

As for the permanence test,
the OECD commentary states that the term ‘fixed’ itself warrants a certain
degree of permanence at the location in which the physical infrastructure is
placed in the taxable territory. The phrase ‘fixed’, as an adjective, also
attaches a certain degree of permanence to the place of business which is a
prerequisite under this Article (also stated in the OECD commentary)⁷.
In the absence of a defined time period under the treaties, there is some
relativity in the way jurisprudence has developed to identify the degree of
permanence of an activity. While each case produced different results, a recent
decision of the Supreme Court in Formula One World Championship Ltd. vs.
CIT, Delhi [2017] 80 taxmann.com 347 (SC) examined a Formula One race
arrangement which lasted for approximately three weeks and held that such an
arrangement constituted a fixed place PE. The background to the case involved a
Formula One race conducted by FOWC which involved placement of the entire racing
infrastructure / equipment on Budd International Circuit and FOWC had complete
control over the schedule, equipment and personnel at the location. The Supreme
Court stressed on the disposal test (i.e., FOWC having exclusive and complete
control over the racing circuit) rather than the duration test for testing the
permanence of an activity. In other words, ‘fixed’ was interpreted by the
Supreme Court with reference to the exclusivity and control over the place
rather than the duration of usage (which is relative for each business
activity).

In comparison, the FE definition in IGST law also
relies on a ‘sufficient degree of permanence’. The legislature has used a very
subjective term probably keeping in view varied industry practices. For
example, the Formula One race arrangements which last only for three weeks in a
calendar year at a particular location, was considered as a sufficient degree
of permanence by the Court given the peculiarity of the sporting event.
Moreover, the Court stressed on the adequacy of control over the three-week
period rather than the duration of three weeks. Though speculative, it is
probable that the Court might not have reached the same result in case the
facts were for a long duration project (e.g., oil exploration activities,
etc.). Probably, this test would also be applicable for understanding the FE
definition. Whether the phrase ‘sufficient degree of permanence’ has to be
assessed keeping the disposal test or the duration test in mind, is a question
open for debate.

7 CIT
vs. Visakhapatnam Port Trust 1983 (6) TMI 31

Further, the disposal test
should also be addressed factoring in the nature of supply which is under
consideration, for example, presence of a few weeks would be sufficient for
rendering legal advisory services on a particular issue but a presence of even
a few months would not be sufficient while rendering the very same advisory
services for construction of a building. The service tax education guide states
that the relevant factor is the ‘adequacy’ of the human and technical resources
to render the ‘service’ for deciding whether there is sufficient permanence in
the activity. In the absence of detailed jurisprudence on this subject, one may
imbibe the settled principle under Income Tax while interpreting the FE
definition.

(B) Service PE (Extended PE): Physical presence of
employees

The OECD Model Convention
provides for a service PE if the aggregate presence of the personnel in the
taxable territory is beyond 183 days in a 12-month period⁸. The
nature of services that are rendered by the personnel could be wide in range.
Physical presence of personnel in the taxable territory rendering a service,
irrespective of the type of service, would be prominent in deciding the
constitution of a service PE. But the Supreme Court in Morgan Stanley
(Supra) differentiated the services rendered through own employees of
MS USA and deputed employees of MS USA. The Court held that in the case of own
employees performing supervisory / stewardship activities, there is no service being rendered by the presence
of employees in India to the Indian subsidiary, rather the presence of
personnel is for the sole benefit of the parent company in order to ensure
quality control, confidentiality, etc. On the other hand, the employees of MS
India deputed for assisting the operations of MS India were considered as an identifiable service activity to the
Indian subsidiary, hence a service PE was held to be constituted.

8 UN
Model narrows the test to a 6-month period

Under GST, the reference to
personnel is made in the definition of fixed establishment by use of the phrase
‘human resources’. But this aspect is not a stand-alone requirement for
constitution of a fixed establishment. The human capital is required to be
equipped with a degree of permanence and technical resources (depending on the
nature of work) in order to constitute a fixed establishment. The permanence
test applicable to Fixed Place PE may be adopted while examining the FE arising
out of service personnel. It is also important that the human capital should be
‘capable of availing and rendering the service activity’ to the third party
while being present in the taxable territory.

We may recall that the EU-VAT in Berkholz’s case
held that the presence of personnel to maintain the gaming equipment on an
intermittent basis did not constitute a fixed establishment in the foreign
territory. Probably, the IGST law may also have to follow suit and despite a
service PE being constituted under Income Tax, if the human capital is using
technical resources of the end customer there may be a ground to contend that a
fixed establishment is not constituted. From a practical standpoint, many MNCs
appoint personnel for maintenance and on-site repair of machinery. Where repair
and maintenance is partially conducted from the Indian territory with a
significant portion being conducted remotely, one may view the same as not
constituting an FE in India, but where the said personnel (with their
equipment) are capable of rendering the service exhaustively, the said
personnel can be said to have constituted a PE in India.

The concept of agency PE was introduced to address quasi-presence
of foreign enterprises through dependent representatives in the taxable
territory. Notwithstanding the requirements of a basic rule PE, Article 5
provides for formation of a dependent agency PE where, (a) the person
habitually concludes contracts or even possesses the authority to conclude
contracts; (b) maintains inventory of goods on behalf of its principal; or (c)
habitually secures orders wholly or primarily for its principal in India. The
primary requirement is that a principal-agency relationship is visible and such
agent, if at all, should be one who is NOT operating in his independent
capacity in his ordinary course of business. Evidently, a principal-agent
relationship would be established if the agent acts in a representative
capacity with an ability to bind its principal to its actions.

The Bombay High Court in CIT vs. Taj TV
Limited [2020 (3) TMI 500] examined whether revenues under the
exclusive distribution agreement by Taj TV Limited involving fees from cable
operators and granting them viewing and relay rights, were under an agency
relationship. Under the distribution agreement, Taj TV was given independent
rights to market and promote the TV channels and negotiate and conclude
contracts with sub-distributors. In this decision, the Court observed that Taj
TV under sub-distributor agreement and the cable-operator agreement, acted in
its own capacity and the foreign enterprise did not have any privity in
deciding the pricing of the rights. Hence it was concluded that there was a
principal-to-principal relationship. In contrast, the very same Bombay High
Court in DIT Mumbai vs. B4U International Holdings Limited 2015 (5) TMI
277 on those specific facts held that the Indian entity did not have
any authority to conclude contracts on its own and was under the direction and
control of its principal and hence constituted a DAPE in India.

The secondary requirement of constitution of a DAPE
is that the agent should not be of independent status. ‘Legal and economic
independence’ are the two tests which are usually applied for this clause.
International commentaries suggest that if the agent is responsible for its own
actions, takes risks and has its own special skill and knowledge to render the
agency service, such agent would be termed as an independent agent. In certain
AAR rulings⁹ under Income Tax, the dependency agency test was
applied and held not to be fulfilled on the ground that similar services were
being provided to multiple FIIs and not just one principal. Moreover, the
treaties itself provides for an exclusion where the agent renders its services
to multiple principals, evidencing that it has risk abilities, own skill and
knowledge, etc. to act independently.

As regards the authority to conclude contracts,
paragraph 33 of the OECD commentary states that a person who is authorised to
negotiate all elements of a contract in a binding way on the enterprise can be
said to have the authority to conclude contracts and the mere fact that the
person has attended and participated in negotiations is not sufficient
authority under this PE rule¹⁰.

9 XYZ/ABC Equity Fund vs. CIT (2001) 116 Taxman
719 (AAR); Fidelity Services Series VIII in (2004) 271 ITR 1 (AAR)

10 India
has expressed its reservations to the OECD commentary on this aspect and
submitted that mere participation in negotiations is also evidence of authority
to conclude contracts

In contrast, the IGST law does not have a specific
case of agency for the purpose of fixed establishment for a supplier or its
recipient. It would be interesting to note that section 2(105) of the CGST Act
has extended the definition of a supplier to include its agent as well who is
engaged as supplier of services. By virtue of this inclusion, the location of
the supplier would have to be adjudged after taking cognisance of the presence
of an agent in India. As an illustration, if Taj TV was appointed as an agent
of Taj Mauritius for distribution of channels, the location of the supplier for
the services rendered by Taj Mauritius (i.e., channel access fee) would be
liable to be attributed to the Taj TV (as an agent) of Taj Mauritius resulting
in Taj Mauritius being considered as present in India through the FE-agency
relationship. Unlike Income Tax, the agency relationship need not always be one
who is dependent on the principal. The place of business of the agent would be
considered as the place of business of the principal (to the extent of the
agency relationship) and fixed as the location of supplier of such services. Of
course, the basic FE rule under GST such as permanence, human and technical
resources would still have to be satisfied by the agent in order to qualify as
an FE in India.

The location of supplier and
recipient definitions has been limited only for the service activity and not
transactions of supply of goods. One of the reasons may be that the agency FE may
not be applicable to selling / purchasing agents of goods. This is because
agency transactions in respect of supply of goods are covered under Schedule I
of the CGST Act which deems the principal and agent as separate beings. Once
the agent is equated to a purchaser of goods, by way of a deeming fiction, the
agent would be considered as a quasi-supplier for other purposes of the
Act and not as a representative of its principal. Hence, an agency PE under
Income Tax for supply of goods would not translate into an FE for the very same
principal under GST.

(D) Construction / Installation PE

Tax treaties recognises any construction,
installation, project site, etc., including supervisory activities¹¹
of a foreign enterprise as being construction / installation PEs. The treaties
(OECD – 12 months; UN – 6 months) specify the period beyond which the PE is
said to be constituted. All planning and designing activity prior to physical
visit to the site would be included in the PE (UN Model). The Tribunal in SAIL
vs. ACIT (2007) 105 ITD 679 held that supervisory services provided by
a company even though it was itself not engaged in installation activity would
be sufficient to constitute an installation PE.

The IGST law has not carved out a specific instance
of a construction / installation FE. The fixed establishment definition itself
encompasses any presence of human and technical resources as sufficient grounds
to constitute an FE. Moreover, construction activities generally entail direct
procurement and supply of services and hence all the ingredients of
constituting an FE stand established. Unlike the situation in SAIL’s case above
which involved mere provision of supervisory services, such activities may not
constitute an FE in GST law.

11 Only in UN model treaties

(E) Significant Economic Presence (SEP): Digital
footprint

With increasing digital presence globally, BEPS
Action Plan 1 identified the problems of taxation due to advancement of digital
economy. The concept of significant economic presence (SEP), which could be
represented by the digital footprint of an enterprise, was given legal sanctity
in the Income Tax law. The law has prescribed minimum thresholds on the basis
of digital footprint for constituting significant economic presence in the
country – the thresholds could take the form of number of digital users,
revenue per user, etc. The BEPS Action Plan as well as the memorandum
suggesting this amendment stated that the traditional concept of permanent
establishment requiring physical presence in the taxable territory cannot be
possibly applied to digital transactions and hence alternative criteria such as
the above are necessary for viewing significant economic presence.

The Indian GST law has not considered
this aspect for the purpose of defining fixed establishment. The law has
defined a term ‘Online Database and Information Access or retrieval service
activity’ to tax all digital economy transactions. In fact, this law has
alternatively chosen to place a tax liability by adopting a different approach
and treating this transaction as an import of service into India and taxing the
same in the hands of the business user. In case of B2C transactions, the GST
law has placed the obligation on the foreign company to identify a
representative in India for discharging the tax burden on such transaction.

In summary, the GST FE concept and the Income Tax PE concept converge and
diverge at multiple points which can be tabulated as follows (see Table 1):

ATTRIBUTION / RECHARGE
APPROACH

Income Tax attributes income /
profit to the PE based on the FAR approach. This would involve estimations and
approximations; profitability is not traceable to the transaction level.

Table 1

Aspect

Convergence

Limited Divergence

Complete Divergence

Fixed
PE

Degree
of permanence

Disposal
test which does not seem to be a clear prerequisite in FE; no exclusion for
preparatory / auxiliary activity in FE

Capability
of receipt and / or supply of services is not required in PE

Service
PE

Rendition
of services

Duration
test for PE and FE may be differently viewed

Presence
of technical resources are essential for FE

Agency
PE

Agent
constituting PE / FE

Agency
in respect of goods not part of FE test due to deeming fiction in Schedule I

Dependency
not an FE test ~ multi service agents constituting FE

Construction
PE

Construction
site being place of business

Ancillary
activities may form a Construction PE but not an FE

No
time limit specified for FE and relative to nature of work

SEP

NIL

Treated
as OIDAR and liable for RCM / FCM as the case may be

In GST, India has adopted the
recharge approach in cases of service transactions. For example, with respect
to services directly connected to an FE, the requirement under GST law is to
‘bill from’ the FE / ‘bill to’ the FE which is most directly concerned with the
supply. The FE would then have to recharge the relevant establishment in the
organisation which has consumed the service even partially. In such a manner,
the tax revenues would follow the contractual obligations (with the presumption
that economics would assist in reaching the point of consumption) and hence the
importance of identification of the relevant FE would assume high significance.

However, in cases of agency of supply of goods, the
requirement of the law is to deem them as distinct entities at the outset
itself and equate them to a seller or purchaser of goods. By this approach, the
VAT chain passes through the agent and attempts to reach the end consumption of
goods. This activity takes place at the transaction level rather than
the entity level which is the case in Income Tax. The global apportionment
approach / FAR analysis adopted for attribution of profits to the PE would not
serve any purpose for GST.

In summary, it is observed that though both the concepts are
interconnected at multiple points, there are bound to be divergent answers in
view of the basic structure of both the Income Tax and the GST laws being
different. This concept would be relevant for outbound as well as inbound
presence and hence a balanced interpretation of this concept is essential from
the perspective of all stakeholders. In any case, the attempt should be to
identify the last point in the value chain where the consumption actually takes
place. This destination principle, though unwritten in the law, is the core of
the GST system in place and violation of this principle at the cost of legal
interpretation may cause chaos in the economic distribution of the wealth of
the nation.

shailesh.kwebmaker

INTERPLAY OF GST & EMPLOYMENT REGULATIONS

INTRODUCTION
– SERVICE BY EMPLOYEES EXCLUDED FROM GST

GST is a tax on all supplies of
goods or services, or both, made in the course or furtherance of business.
However, Schedule III, Entry 1 treats services by an employee to the employer
in the course of or in relation to his employment as neither a supply of goods
nor a supply of services, effectively resulting in the situation that such
services are excluded from the purview of GST.

HOW TO
DETERMINE EMPLOYER-EMPLOYEE RELATIONSHIP

It,
therefore, becomes important to analyse the scope of the abovementioned entry.
Since the exact tests of determination of employment contract are not
specifically listed in the GST law, it will be important to understand the said
tests from legal precedents under the general law including various labour
legislations. To begin this journey it may be worthwhile to refer to the
decision of the larger Bench of the Supreme Court in the case of Balwant
Rai Saluja & others vs. Air India Limited & others [Civil Appeal No.
10264-10266 of 2013]. In this case, the Court laid down the following
tests which are required to be satisfied to demonstrate the existence of an
employer-employee relationship:

(i) Who appoints the workers?

(ii) Who pays the salary / remuneration?

(iii) Who has the authority to dismiss?

(iv) Who can take disciplinary action?

(v) Whether there is continuity of service?

(vi) What is the extent of control and supervision?

Various legislations have been
enacted to safeguard the interest of employees employed by employers. Some of
the key legislations are the Factories Act, 1948, the Industrial Employment
Act, 1946, the Industrial Disputes Act, 1947, the Contract Labour Regulation
Act, 1970, the Workmen’s Compensation Act, 1923, and so on. Each of these
legislations has defined the term employee, identified as worker, workmen, etc.
However, it is important to note that the definition of employee referred
to in one legislation is restricted only to that legislation and merely because
a person is an employee under one legislation he does not become an employee in
general of the employer. The Supreme Court in the above decision has
held that for matters which are not related to the specific legislations, one
needs to satisfy the above test to establish the existence of an
employer-employee relationship.

WHAT IS THE SCOPE OF THE ENTRY?

The next point that needs to be
analysed is what all will be included within the scope of the consideration /
remuneration paid to an employee. Generally, the consideration paid to an
employee carries two components, one being the monetary component which would
cover payouts like salary, wages, allowances, etc., and the other being
non-monetary components such as perquisites, rent-free accommodation, etc.,
which are made available to employees under the terms of the employment
contract. Some components may be mandated by the legislature and some may be
part of the employment policy of the employer.

The legislations referred to
above also deal with the meaning of ‘consideration’. For example, section 2
(rr) of the Industrial Disputes Act, 1947 defines the term ‘wages’ to mean all
the remuneration capable of being expressed in terms of money and payable to a
workman in respect of his employment or work done in such employment, and also
includes (a) allowances that the workman is entitled to, (b) the value of the
house accommodation or of the supply of light, water, medical attendance or
other amenities, or of any service, or of any concessional supply of food
grains or other articles, (c) any travelling concession, and (d) any commission
payable on the promotion of sales or business, or both. However, it also
excludes certain items such as (i) any bonus, (ii) any contribution paid /
payable by the employer to any pension fund / provident fund / for the benefit
of the workman under any law for the time being in force, and (iii) any
gratuity payable on the termination of service.

Similarly, section 2(v) of the
Payment of Wages Act, 1932 defines the term ‘wages’ as all the remuneration
(whether by way of salary, allowances or otherwise) expressed in terms of
money, or capable of being so expressed, which would be payable to a person
employed in respect of his employment, or of work done in such employment and
includes (a) any remuneration payable under any award or settlement between the
parties or order of a Court, (b) overtime remuneration, (c) additional
remuneration payable under the terms of employment, (d) any amount due on
termination of employment, and (e) any sum which the employee is entitled to
under any scheme framed under any law for the time being in force, excluding
any bonus, value of benefits, such as house accommodation, electricity or water
supply, medical attendance or other amenity, or of any service excluded from
the computation of wages by a general or special order of the appropriate
government, any contribution paid by the employer to any pension or provident
fund and the interest accrued thereon, any travelling allowance or the value of
any travelling concession and any sum paid to the employed person to defray
special expenses entitled to him by the nature of work.

The above two definitions in the
context of specific legislations clearly point towards what shall constitute
‘consideration’ and it generally intends to include within its scope all
payments made to the employees, except for specific items which are also
excluded only for the purpose of the specific legislations. But the general
principle laid down in the said legislations indicates that all payments made
or facilities extended to the employees as a part of employment contracts would
be treated as a part of the consideration to the employee. This principle was
laid down by the Supreme Court in the case of Gestetner Duplicators
(Private) Limited vs. CIT [1979 AIR 607 = 1979 SCR (2) 788] wherein the
Court held as under:

It is thus clear that if under
the terms of the contract of employment, remuneration or recompense for the
services rendered by the employee is determined at a fixed percentage of
turnover achieved by him, then such remuneration or recompense will partake of
the character of salary, the percentage basis being the measure of the salary
and therefore such remuneration or recompense must fall within the expression
‘salary’ as defined in Rule 2(h) of Part A of the Fourth Schedule to the Act.
In the instant case before us, admittedly, under their contracts of employment
the assessee has been paying and did pay during the previous years relevant to
the three assessment years to its salesmen, in addition to the fixed monthly
salary, commission at a fixed percentage of the turnover achieved by each
salesman, the rate of percentage varying according to the class of article sold
and the category to which each salesman belonged. The instant case is,
therefore, an instance where the remuneration so recompense payable for the
services rendered by the salesmen is determined partly by reference to the time
spent in the service and partly by reference to the volume of work done. But it
is clear that the entire remuneration so determined on both the basis clearly
partakes of the character of salary.

In fact, while determining what
shall and what shall not constitute consideration, one should refer to the
principle of dominant intention theory, as laid down by the Supreme Court in Bharat
Sanchar Nigam Limited vs. UoI [2006 (2) STR 161 (SC)]. The Court in the
said decision held that one needs to look into the substance of the transaction
in order to determine how the same would get covered. Once it is established
that any payment made to an employee or any benefit / facility made available
to him is in the course of an employment contract, irrespective of whether the
same is a mandatory requirement or not, it gets covered within the purview of
that contract and cannot be distinguished from it.

Employer and employees are
related persons – Does this impact the tax treatment of the facilities /
benefits provided to employees?

Section 15 provides that an
employer and his employee shall be deemed to be related persons. Further, Entry
2 of Schedule I deems certain activities to be supplies even if the same are
without consideration. The entry reads as under:

Supply of goods or services or
both between related persons or between distinct persons as specified in
section 25, when made in the course or furtherance of business:

Provided that gifts not exceeding
fifty thousand rupees in value in a financial year by an employer to an
employee shall not be treated as supply of goods or services or both.

In the normal course, various
facilities / benefits are provided by the employer to his employees. Let us
first analyse whether or not the same constitute a supply under GST (without
considering the scope of entries under Schedule I and Schedule III). It is
imperative to note that generally when an employer makes available any
facilities / benefits to the employee, it is not mandatory in nature. For
example, commutation facility extended by the employer may not be availed of by
employees who prefer to travel on their own. It is upon the employee to decide
whether he intends to avail of the facility. Similarly, it is not necessary
that all employees might avail the canteen facility. Rather, they might want to
make arrangements on their own. It is only as a part of the employer’s HR
policy / statutory requirement that the employer makes available the facilities
/ benefits.

However, once it becomes part of
the employment policy, which the employee would have accepted, it becomes part
of the employment contract, i.e., the employer has made available the
facilities / benefits in pursuance to the services supplied by the employee to
the employer. However, there is no contrary service supplied by the employer.
The employer has merely undertaken the activity of incurring the cost to make
available the benefits / facilities to its employees. However, merely because a
cost is incurred does not necessarily mean that the employer has supplied the
service. In Kumar Beheray Rathi vs. Commissioner of Central Excise, Pune
[2014 (34) STR 139], the Tribunal held that the assessee was acting
merely as a trustee or a pure agent as it was not engaged in providing any
service but only paying on behalf of various flat-buyers to various service
providers. In this particular case, even though there was recovery of cost, the
Tribunal has held that there was no provision of service. The argument would therefore
get stronger in a case where consideration is not involved. Similarly, in the
case of Reliance ADAG Private Limited vs. CST, Mumbai [2016 (43) STR 372
(Tri.)(Mum.)], the Tribunal has held that merely incurring expenses on
behalf of group companies and recovering them would not amount to provision of
service. The principles laid down in the said case should also apply to the
current case.

Another aspect to be noted is
that in certain cases, such as telephone facilities / insurance services, there
is a legal impediment to the employer providing such service since they are
regulated services and only those people who are authorised by the Department
of Telecommunication (DOT) or the Insurance Regulatory Development Authority of
India (IRDAI) can provide such a service. Therefore, this is one more basis to
say that by merely making available the facilities / benefits the employer has
not made a supply to his employees, but rather it is a cost incurred by him in
the course of receiving services from his employee and, therefore, is nothing
but just an employment cost for him. This aspect has also been discussed in our
previous article ‘Decoding GST: Inter-Mingling of Income tax and GST’ (BCAJ,
April, 2020).

Therefore, once a view is taken
that making available benefits / facilities does not constitute supply, Entry 2
of Schedule I which deems an activity of supply of goods or services between a
distinct person / related person as supply, even if made without consideration,
would not be applicable. This would be because Entry 2 pre-necessitates that
the activity has to be treated as supply u/s 7.

Another point to be noted is that
if a view is taken that by incurring the above expenses / making available the
benefits to the employees, there is a supply made by the employer, it could
result in additional unwarranted compliances on the part of the employer. Let’s
take an example of insurance facilities / benefits extended to the employee. If
a view is taken that the employer has indeed provided these services, then they
would be in violation of the IRDAI guidelines since they would be engaged in
providing insurance services without necessary approvals. Similar would be the
situation in case of telecommunication facilities made available to the
employees where one needs to obtain approval from DOT, or in the canteen
facilities from FSSAI. Further, in some cases such an interpretation would
result in an absurd application from other aspects also. For example, in case
of rent-free accommodation provided by the employer to the employee, if a view
is taken that the same is a supply of service in view of Entry 2 of Schedule I,
while there would be no tax liability on the outward side since the services of
renting of residential accommodation is exempted from tax, correspondingly, the
Department might take a view that the employer is engaged in providing exempt
services, thus triggering the applicability of the provisions of sections 17(2)
and 17(3) of the Central Goods & Services Tax Act, 2017 requiring
compliances under Rules 42 and 43 of the Central Goods & Service Tax Rules,
2017.

Therefore,
it is apparent that whether or not any amount is recovered from the employee
for any facilities / benefits made available to him, it would be wrong to treat
the same as a supply itself under GST. In fact, the next proposition would be
important, which is to say that the facilities / benefits which are made
available to the employees is nothing but a part of the employee cost incurred
in the course of receiving the services of the employee in pursuance of the
employment contract. This view finds support from the decision of the Andhra
Pradesh High Court in the case of Bhimas Hotels Private Limited vs. Union
of India [2017 (3) GSTL 30 (AP)] wherein, in the context of canteen
recoveries, the Court held that such recoveries have to be seen as part of any
pay package that workers have negotiated with employers and therefore cannot be
construed as service falling within the definition of ‘service’ u/s 65B(44) of
the Finance Act, 1994. The logic behind the above conclusion was that under
service tax the definition of service excluded any service provided by the
employee to the employer in the course of employment from its purview. Since
the recoveries were made in pursuance of the employment contract, they were
excluded from the scope of the definition of service. It is imperative to note
that even under GST, Entry 1 of Schedule III provides that services provided by
an employee to the employer in the course of the employment contract shall be
treated neither as supply of goods nor as supply of services. Therefore, it can
be said that under GST,

(a) Any facilities / benefits made available to the employees would not
be liable to GST as they do not amount to supply of service itself

(b) The facilities / benefits made available to the employees even if
not a statutory requirement but part of the employment policy, should be
treated as covered under Entry 1 of Schedule III and therefore excluded from the
scope of supply itself

(c) Even if any amounts are recovered from the employees, the same would
also be covered under Entry 1 of Schedule III in view of the decision in the
Bhimas Hotels case (Supra) and should be treated as nothing short of
reduction in the employee cost.

Readers might also take note of
the contrary AARs under GST on this subject. In the case of Caltech
Polymers Private Limited [2018 (18) GSTL 350 (AAR)] and upheld by the
Appellate Authority in [2018 (18) GSTL 373 (AAR)], the Authority
has held that the employer is liable to pay GST on amounts recovered from
employees for the canteen facilities extended to them. However, in the context
of recovery of insurance premia from employees, the authority has held that as
the same do not constitute an activity incidental or ancillary to their
business activity, they cannot be treated as supply of service. One may refer
to the ruling in the case of Jotun India Private Limited 2019 (29) GSTL
778 (AAR).

Eligibility
of Input Tax Credit on employee-related costs

There are
specific provisions which restrict claim of Input Tax Credit u/s 17(5) as
under:

(b) the following supply of goods or services or
both:

(i) food
and beverages, outdoor catering, beauty treatment, health services, cosmetic
and plastic surgery, leasing, renting or hiring of motor vehicles, vessels or
aircraft referred to in clause (a) or clause (aa), except when used for the
purposes specified therein, life insurance and health insurance:

Provided
that the input tax credit in respect of such goods or services or both shall be
available where an inward supply of such goods or services or both is used by a
registered person for making an outward taxable supply of the same category of
goods or services or both or as an element of a taxable composite or mixed
supply;

(ii) membership of a club, health and fitness
centre; and

(iii) travel benefits extended to employees on
vacation such as leave or home travel concession:

Provided
that the input tax credit in respect of such goods or services or both shall be
available, where it is obligatory for an employer to provide the same to its
employees under any law for the time being in force.

(g) goods
or services or both used for personal consumption;

Building on
the above discussion, it is important to note that while making available the
various benefits / facilities to their employees, the employers incur various
costs on which GST would have been charged by their suppliers. Therefore, the
question that needs consideration is whether or not credit shall be available
on such expenses incurred.

The
specific reason for this query is that section 17(5) lists items on which
credit shall not be allowed. These are termed as blocked credits. For various
expenses while there is a restriction on claim of credit, an exception has been
provided when the expense is incurred as a statutory requirement. For example,
while in general ITC on food and beverages is not allowed, however, vide
an exception it has been provided that if it is a statutory requirement to
provide such facilities, Input Tax Credit shall be available. For instance,
under the Factory Act, 1948 every factory employing more than 250 employees is
required to maintain a canteen for them. As discussed earlier, for the purpose
of this Act the employees also include those who are not on the payroll of the
employer, i.e., while in general, an employer-employee relationship does not
exist, for the purposes of the Factory Act, 1948 they are treated as employees
and therefore the question that needs consideration is whether the eligibility
to claim credit will apply for such an outsourced workforce also. This would be
specifically important in cases such as construction contracts where generally
the labour is outsourced.

The same
applies to rent-a-cab services, insurance services, etc., as well. However, at
times there are inward supplies received which facilitate the making available
of benefits / facilities to employees. For example, equipment / crockery
purchased for a canteen. There is no specific restriction on the claim of
credit on such items. The restriction applies only to food and beverages and
these do not constitute food and beverages. Therefore, credit on such items
could be claimed.

Another
area that would need deliberation is clause (g) of section 17(5) which
restricts claim of credit on goods or services or both used for personal
consumption. The scope of this entry has seen substantial confusion as to
whether it would apply to goods or services used for employee consumption. For instance,
the company organises a picnic for its staff. Will this get covered under this
entry or not? To understand this, one needs to analyse the scope of the term
‘personal consumption’. However, before proceeding further it would be relevant
to refer to the similar entry in CENVAT Credit wherein Rule 2 (l) states that
specific services which were meant for ‘personal consumption of any employee’
shall not constitute input service. It is imperative to note that while the CCR
specified whose personal consumption, the same is apparently silent under GST.
This would indicate that in the absence of a specification, a view can be taken
that the term ‘personal consumption’ is to be seen in the context of the
taxable person and not the employees and, therefore, subject to other clauses
of section 17(5), credit would be available even if they were meant for
consumption of the employees.

However,
the answers would change in the above case where the cost of making available
the benefits / facilities, whether wholly or partly, is recovered from the
employees. In such a case, it would result in a reduction of cost for the
employer and therefore, to that extent, the employer would not be entitled to
claim credit. However, there are instances where employers take a view that in
a case where credit is allowable and the corresponding costs are recovered from
the employees, GST should be paid on the recovery amount to avoid complicating
ITC calculations. However, one should take a view that paying GST on the
recovery would mean that the employer has accepted liability under Entry 2 of
Schedule I and there might be challenges on the valuation of the supply claimed
to be made by the employer to his employees because section 15 of the Central
Goods & Services Tax Act, 2017 requires such a transaction to be valued as
per the Valuation Rules.

Applicability of GST on payments made to
directors of a company

Entry 6 of
Notification 13/2017 – CGST Rate requires that the GST in case of service
supplied by a director of a company or a body corporate to the said company /
body corporate shall be paid by the service receiver, i.e., the company in case
the service provider is a director / body corporate. However, this particular
aspect of the GST law has seen its share of controversy, with conflicting
decisions under the Service Tax regime as well as a ruling issued by the
Authority for Advance Ruling.

However, before proceeding further, it would be
necessary to go through the background of the concept of directors. Directors
are individuals who are appointed on the Board of a company to protect the
interests of the shareholders and manage the affairs of the company. Generally,
there are two types of directors: executive directors who are involved in the
day-to-day activities of the business, and non-executive directors, also known
as independent directors, whose role is mainly to ensure that the interest of
the shareholders and other stakeholders is largely protected. The maximum
remuneration that can be paid to each class of directors is also regulated.
However, when determining whether the directors satisfy the test of an
employer-employee relationship, there would be a different outcome which is
evident from the following:

Condition

Executive Director

Non-Executive / Independent Director

Who appoints the workers?

Shareholders, on the recommendation of Board, or Board, to be
subsequently ratified by the shareholders

Who pays the salary / remuneration?

Company

Who has the authority to dismiss?

Shareholders

Who can take disciplinary action?

Shareholders

Whether there is continuity of service?

Generally, appointed till end of next general meeting

What is the extent of control and supervision?

Full control and supervision by shareholders

No control / supervision

As is apparent from the above, in
the case of Executive Directors, the test of employer-employee relationship
laid down by the Supreme Court in Balwant Rai Saluja (Supra) is
satisfied. However, it is not so in the case of Independent directors as the
key element of existence and control and supervision is missing. It is
therefore sufficient to say that while Executive Directors satisfy the test of
the employer-employee relationship, the same is not so in the case of
Non-executive / Independent directors. Therefore, in case of directors, while
admittedly notification 13/2017 – CT (Rate) imposes a liability on the company
to pay tax on reverse charge, the issue that remains is whether the payment
made to directors who are in an employer-employee relationship will get covered
within this entry or will it be excluded from the purview of Entry 1 of
Schedule III.

Therefore,
since Schedule III itself excludes transactions where an employer-employee
relationship exists from the purview of supply itself, notification 13/2017 –
CT (Rate) imposing the liability to pay tax on the service recipient is ultra
vires of the provisions of the Act and, therefore, not maintainable. This
aspect has already been considered by the Gujarat High Court in the recent
decision in Mohit Minerals Private Limited vs. UoI & others [2020 VIL 36
Guj.].

In fact, it
is imperative to note that a similar entry requiring payment of tax under RCM
was applicable even under the Service Tax regime where there were two
conflicting decisions. The Division Bench of the Mumbai Tribunal in the case of
Allied Blenders & Distillers Private Limited vs. CCE & ST,
Aurangabad [2019 (24) GSTL 207 (Tri.)(Mum.)] held that directors’
salary would be excluded from the purview of service tax and therefore no tax
would be liable to be paid under Reverse Charge. However, the Kolkata Tribunal
(SMB) has, in the case of Brahm Alloy Limited vs. Commissioner [2019 (24)
GSTL 616 (Tri.)(Kol.)] held otherwise and confirmed the liability to
pay tax on directors’ remuneration, described as salary by concluding that an
employer-employee relationship didn’t exist on account of two reasons; firstly,
the resolution of the company confirming the appointment of the directors did
not cover the terms of appointment / hiring of services and also the action to
be taken for non-performance of specified duties without which it cannot be
construed as to whether an individual was appointed as Promoter-Director or an
employee director; and secondly, payments made in a quarterly and not monthly
manner. It is apparent that the decision in the case of Brahm Alloy
Limited is contrary to the established principles and might not survive
if appealed before a higher authority.

It is also
important to note that under the GST regime, the AAR has, in the case of Clay
Craft India Private Limited [Raj/AAR/2019-20/33] also held to the
contrary, that tax is payable under Reverse Charge. The Authority has concluded
that the services rendered by the director to the company are not covered under
Entry 1 of Schedule III as the directors are not employees of the company.

The next
issue relating to directors is the applicability of reverse charge in case of
directors deputed on behalf of investing companies, in which case the
remuneration is paid to the company and not to the representative directors.
The issue revolves around whether such transactions would be covered under
notification 13/2017 – CT (Rate) or not? It is imperative to note that in this
transaction structure, the transaction is between two different companies /
body corporates wherein one body corporate has deputed a person as a director
on the Board of the other company. In other words, both the supplier and the
recipient of service are a body corporate / company. The notification requires
that the service provider must be an individual, being a director of the
company. However, that is not so in the case of the current set of
transactions. In other words, Entry 6 does not get triggered at all and,
therefore, no reverse charge would be applicable on such transactions.

Is GST applicable on notice period
recoveries / claw-back of payments to employees?

Before
looking into the tax implications of notice period recovery / claw-back, let us
understand the background of these transactions.

Notice
period recovery: Generally, the employment contracts have a clause that if an
employee intends to leave the organisation or an employer intends to
discontinue the services of an employee, each party will be required to give a
notice to the other of their intention to do so, and once the notice is served,
the party giving the notice will be required to serve a notice period, i.e., if
the employee is serving notice, he will be required to continue in employment
for a pre-decided period to enable the employer to make alternate arrangements.
Similarly, if the employer has served notice to the employee, he will have to
allow the employee to continue in employment for a pre-decided period to enable
the employee to find new employment, or prepare for transition. This is
generally treated as serving notice period. However, there are times when the
party giving the notice does not intend to honour the commitment in which case
they are required to compensate the other person monetarily. In case the
employee refuses to serve the notice period, he would be required to pay
compensation to the employer, which would be either adjusted from his full and
final settlement or recovered from him, and vice versa; if the employer
abstains from honouring the notice period clause, he would monetarily reimburse
the employee.

Similarly,
claw-back refers to recovering the amounts already paid to the employees. In
case of senior management employees, there are generally clauses in the
agreement which provide that in case of non-satisfaction of certain conditions
of the employment contract, the payments made to the employees shall be
recovered back from them. For example, if a top level employee is joining a
company from another company, in order to lure him to accept the employment he
is offered ‘joining bonus / incentive’ with the condition that if he does not
continue the employment for a specified period, the same would be liable to be
recovered from him. Similarly, even in case of incentives / bonus, there are
clauses for claw-back of the bonus if there is some action on the part of the
employee which is detrimental to the employer.

The issue
that needs consideration is whether recoveries such as the above would
constitute a supply and therefore liable for GST? It is imperative for the
readers to note that the applicability of GST on notice period recoveries has
been a burning issue right from the service tax regime wherein the following
service was declared to be a deemed service u/s 66E: agreeing to the
obligation to refrain from an act, or to tolerate an act or a situation, or to
do an act;…

A similar
entry has continued even under the GST regime with Entry 5(e) of Schedule II of
the Central Goods & Services Tax Act, 2017 which declares the above to be
treated as supply of service under the GST regime as well, thus keeping the
issue alive. Let us analyse the same.

Whether such recoveries would be covered under Entry 1 of Schedule III?

However,
what needs to be noted is that the above recoveries emanate from a contract of
employment which is covered under Schedule III as neither being supply of goods
nor supply of services. A contract is the logical starting point for any
transaction. In any contractual obligation, the contracting parties are under
an onus to perform the contract. The contracting terms determine the
responsibility and enforce the performance on each contracting party. In case
of non-performance by any party, resort has to be taken to the contractual
relationship to determine the scope of recovery, if any. Hence, the contract is
in toto the binding force in any relationship.

A Latin
maxim, Nemo aliquam partem recte intelligere potest antequam totum perlegit,
says that no one can properly understand a part until he has read the whole.
Hence, it is important to analyse the entire transaction matrix, the
contractual relationship between the employer and the employee, the relevant
contracts / documents before diving into a discussion on the applicability of
service tax. An employment contract is a written legal document that lays out
binding terms and conditions of an employment relationship between an employee
and an employer. An employment contract generally covers an overview of job
responsibilities, reporting relationships, salary, benefits, paid holidays,
leave encashment benefits, details of employment termination and also provides
that in case an employee wants to quit, the employee should provide one month’s
notice before resigning or compensation in lieu of notice period.

The
employment contracts are long-term contracts with the employees. The
understanding and expectations from the employer are that the employee should
provide his services on a continuous basis. The employees are working on
important client projects or certain functions important for the operation of
the business; if any employee resigns in between, that impacts the progression
of the project adversely. To avoid such a situation and give sufficient time to
the employer to make alternative arrangements, the mandatory notice period is
prescribed under the employment contract. However, if the employee wishes to
leave without serving the notice period, the contract provides for recovery of
a certain amount which is generally deducted from the amounts due to the
leaving employee earned in the course of employment.

The ‘notice
period recovery’ is a provision for an eventuality that may arise as per
mutually-agreed terms of the employment contract. Notice period recovery is a
condition of the employment contract agreed mutually and hence is intricately
linked with the employer-employee relationship and arises out of an employment
contract only.

In the case
of Lakshmi Devi Mills Limited vs. UP Government [AIR 1954 All. 705, 714]
it has been held that ‘terms and conditions of service’ not only include the
recruitment or appointment but also all aspects like disciplinary matters,
removal from service, dismissal, etc. Therefore, termination or quitting the
organisation on notice or notice period recovery in lieu thereof is an
integral part of the employment contract. Thus, notice period recovery is just
another condition of the contractual relationship of an employer and employee
just like other terms of the same employment agreement. Hence, the notice
period recovery in lieu of not adhering to the notice period emanating
from the employment contract should get covered under Entry 1 of Schedule III
and therefore excluded from the scope of supply itself.

Is there
any service provided by the employer?

Another
point to be noted is that merely because there is recovery would not convert
the same into consideration. In permitting the employee to leave the
organisation, there is nothing that the employer has done to qualify as
service. For treating something as service, there has to be an activity which
requires doing something for another person. In case of notice period
recoveries, there is no rendition of service from the employer in the case of
permitting the employee to leave the organisation before the completion of the
notice period. The events which precede the employee leaving the organisation
are:

(a) The decision to leave is that of the
employee

(b) The request for termination is made by
the employee

(d) If the employer decides not to insist on
the notice period, even then he cannot insist on the recovery of the notice pay
if the employee wants to serve the notice period; he will be required to
continue the employment till that period

(e) Therefore, the employer has no choice to
decide on whether the employee should stay back for the notice period or
whether he should leave early against recovery of notice pay. This choice is
also made by the employee.

From the
above it is evident that all the activities and decisions are actually carried
out by the employee. And the employer does nothing. He neither decides nor is
in a position to decide. Hence, there is no provision of service by the
employer. Merely because the employee is permitted to leave by the employer
does not by any stretch of the imagination get covered by ‘activity performed
for the employee’.

Would mere recovery of amounts characterise it as consideration?

Another
aspect which would need deliberation is whether or not the amounts recovered on
account of notice period recovery / claw-back clauses can be treated as
consideration? Merely because money is received would not give it the
characteristic of consideration. In the case of Cricket Club of India vs.
Commissioner of Service Tax, Mumbai [2015 (40) STR 973] it was held
that mere money flow from one person to another cannot be considered as
consideration for a service. The relevant observations of the Tribunal in this
regard are extracted below:

‘11.
…Consideration is, undoubtedly, an essential ingredient of all economic
transactions and it is certainly consideration that forms the basis for
computation of service tax. However, existence of consideration cannot be
presumed in every money flow. The factual matrix of the existence of a monetary
flow combined with convergence of two entities for such flow cannot be moulded
by tax authorities into a taxable event without identifying the specific
activity that links the provider to the recipient.

12. …Unless
the existence of provision of a service can be established, the question of
taxing an attendant monetary transaction will not arise.’

Even in the celebrated case of UoI
vs. Intercontinental Consultants and Technocrats Pvt. Limited
[2018-TIOL-76-SC-ST], the Apex Court upheld the decision of the Delhi
High Court that observed that ‘…and the valuation of tax service cannot be
anything more or less than the consideration paid as quid pro quo for
rendering such a service’.

In the case of HCL Learning
Limited vs. Commissioner of CGST, Noida [2019-TIOL-3545-CESTAT-All.],
the Hon’ble Tribunal of Allahabad has categorically held as under:

‘1… From
the record, we note that the term of contract between the appellant and his
employee are that employee shall be paid salary and the term of employment is a
fixed term and if the employee leaves the job before the term is over then
certain amount already paid as salary is recovered by the appellant from his
employee. This part of the recovery is treated by Revenue as consideration for
charging service tax… terms of contract between the appellant and his
employee are that employee shall be paid salary and the term of employment is a
fixed term and if the employee leaves the job before the term is over then
certain amount already paid as salary is recovered by the appellant from his
employee. This part of the recovery is treated by Revenue as consideration for
charging service tax.

2. We hold
that the said recovery is out of the salary already paid and we also note that
salary is not covered by the provisions of service tax. Therefore, we set aside
the impugned order and allow the appeal.’

Therefore,
whether recovery is from salary due / retained or salary already paid, the fact
remains that salary is excluded from service tax and such recovery cannot be
termed as consideration.

Will notice period recovery be covered under Entry 5(e) of Schedule II
to treat the same as supply of service?

The
decision to quit the organisation by the employee is a unilateral decision. The
same is forced upon the employer and he has to accept it. The employer cannot
make any employee work without his consent. Article 23(1) of the Indian
Constitution prohibits forced labour in any form. In other words, statutorily
no employee can be forced to work against his wish. In case the employee wishes
not to serve the notice period and opt to leave the organisation before
completion of the notice period, in such a situation the employer can only
recover the notice period dues.

Further,
the employer would not be tolerating any act in such a case. If the employer
has the option to tolerate or not to tolerate, then it can be said to be a
conscious decision. In such cases, in view of the above discussion, the decision
to quit is thrust upon the employer without any option. Therefore, it cannot be
said that the employer has agreed to tolerate the said act of the employee.

A breach of
contract cannot be said to be ‘tolerated’ and that is why an amount is imposed
to deter breach in contracts. The contract of employment is for receipt of
services from the employee and not for the breach. The Court of Appeal (UK) in
the case of Vehicle Control Services Limited [(2013) EWCA Civ 186],
has noted that payment in the form of damages / penalty for parking in wrong
places / wrong manner is not a consideration for service as the same arises out
of breach of contract with the parking manager.

The Madras
HC has critically analysed the levy of service tax on notice period recoveries
in the case of GE T&D India Limited vs. Deputy Commissioner of
Central Excise, Large Tax Payer Unit, Chennai [2020-VIL-39-Mad-ST] wherein
the OIO had confirmed the demand treating the recoveries as consideration for
providing declared service u/s 66E. In this case, the Court held as under:

‘11. The
definition in clause (e) of section 66E as extracted above is not attracted to
the scenario before me as, in my considered view, the employer has not “tolerated”
any act of the employee but has permitted a sudden exit upon being compensated
by the employee in this regard.

12. Though
normally a contract of employment qua an employer and employee has to be read as a whole, there are
situations within a contract that constitute rendition of service such as
breach of a stipulation of non-compete. Notice pay, in lieu of sudden termination, however, does not give rise to the
rendition of service either by the employer or the employee.’

The above
judgment clearly lays down the principle that notice period recovery cannot be
treated as ‘service’ by an employer, more so a ‘declared service’. Some
monetary recovery by an employer from an employee on account of breach of
contract cannot be said to be consideration for any different service. Breach
of contract leading to recovery does not lead to the creation of a new contract
of tolerating any act of the employee. The notice period recovery, at best,
represents nothing but reduction in salary payable which is due to the employee
which emanates only from the employment agreement. To draw an analogy, for
breach of contracts, certain companies recover liquidated damages from the
amounts due to the opposite party who fails to execute his duties as stipulated
under the contract. In case of notice period recoveries, the employer recovers
notice period recovery from the employee for breach of contract conditions as
stipulated in the employment agreement. The Tribunal has in the case of Reliance
Life Insurance Company Limited [2018-TIOL-1308-CESTAT-Mumbai = 2018 (19) GSTL
J66 (Tri.)(Bom.)] held that the surrender / discontinuance charges
represent penalty or liquidated damages and cannot be considered as a
consideration for any services. On a similar footing, in another case of Gondwana
Club vs. Commissioner of Customs & Central Excise, Nagpur
[2016-TIOL-661-CESTAT-Mum.] the club had recovered certain charges from
the employees for the accommodation provided to them. In this case also, the
Tribunal held as under:

‘7… The
contractual privileges of an employer-employee relationship are outside the
purview of service tax and this activity of the appellant does not come within
the definition of the taxable service of “renting of immovable property” sought
to be saddled on the appellant in the impugned order. Accordingly, the demand
under the head “renting of immovable property service” does not sustain.’

In a very
recent decision, the Hon’ble High Court of Bombay had the opportunity to
analyse the concept of ‘supply’ in relation to violation of legal right and
claim of compensation / damages in the context of the Central Goods &
Services Tax Act, 2017. The Hon’ble High Court in the case of Bai Mamubai
Trust & Ors vs. Suchitra Wd/O. Sadhu Koraga Shetty & Ors
[2019-VIL-454-Bom.] observed as under:

56. I am in
agreement with the submissions of the Learned Amicus Curiae that where a dispute concerns price / payment for a
taxable supply, any amount paid under a court’s order / decree is taxable if,
and to the extent that, it is consideration for the said supply or a payment
that partakes that character. In such cases, the happening of the taxable event
of ‘supply’ is not disputed, but the dispute may be in regard to payment for
supplies already made. This could be, for example, where the defendant denies
the liability to pay the price forming consideration for the supply. The order
/ decree of the court links the payment to the taxable supply and the requisite
element of reciprocity between supply and consideration is present.

57.
However, where no reciprocal relationship exists, and the plaintiff alleges
violation of a legal right and seeks damages or compensation from a Court to
make good the said violation (in closest possible monetary terms), it cannot be
said that a ‘supply’ has taken place.

58. The
Learned Amicus Curiae correctly submits that
enforceable reciprocal obligations are essential to a supply. The supply
doctrine does not contemplate or encompass a wrongful unilateral act or any
resulting payment of damages. For example, in a money suit where the plaintiff
seeks a money decree for unpaid consideration for letting out the premises to
the defendant, the reciprocity of the enforceable obligations is present. The
plaintiff in such a situation has permitted the defendant to occupy the premises
for consideration which is not paid. The monies are payable as consideration
towards an earlier taxable supply. However, in a suit, where the cause of
action involves illegal occupation of immovable property or trespass (either by
a party who was never authorised to occupy the premises or by a party whose
authorisation to occupy the premises is determined) the plaintiff’s claim is
one in damages.

The above
judgment of the Hon’ble High Court clearly explains that a contractual
obligation forced out of a contract for legal violation cannot be said to be an
activity on which tax is applicable. Although the context is under the Goods
& Services Tax law, but the same can be very well correlated with the
Service Tax laws. Violation of contractual terms by way of monetary
compensation does not result into a ‘contract’ between the parties on which tax
is payable. Reciprocal relationship is a must, which is missing in the case of
notice period recovery as succinctly explained in the grounds above.

Based on the
above judgments, analogies and justification as to why notice period recovery
cannot be said to be a ‘declared service’, it is apparent that the recoveries
made from employees on account of non-serving of notice period / claw-back
clauses should not be liable to GST.

INTERPLAY WITH PROFESSION TAX ACT

Each
business having a presence in a particular state and employing a specified
number of employees is required to deduct Profession Tax from the salary
payable to the employees and deposit it with the respective State Profession
Tax Authorities of the branch where the employees are based.

In the
pre-GST regime, entities engaged in providing services in multiple states had
an option to take single registration and, therefore, had limited exposure to
the state authorities. In many cases, it was observed that the Profession Tax
deducted from employee’s salary was deposited in only one state though the
employee was based in a branch in a different state. While under the pre-GST
regime the state had no overview over such cases, with the introduction of GST
such entities are under the radar of the authorities of multiple states and
issues such as non-registration under Profession Tax, non-payment of profession
tax in the correct state and so on might start coming to the fore. In case of
non-compliance, there might be repercussions which might need to be taken care
of.

CONCLUSION

In view of the specific exclusion for services
rendered by employees to employers, it may be important to ensure that the said
exclusion is interpreted in the context of the precedents set under other
legislations.

shailesh.kwebmaker

SPECIFIC TRANSACTIONS IN INCOME TAX & GST

In continuation of the article
published in the April, 2020 issue of this Journal, we have detailed certain
other areas of comparison between the Income tax and the GST laws

REVISION IN
PRICE OF SUPPLY – ACCRUAL OF INCOME VS. SUPPLY OF SERVICE

The time of supply
and the accrual of income are generally synchronous with one another. The
earlier article discussed that the supply aspect of a contract generally
precedes the claim of consideration from the contract. In most contracts, the
right to receive consideration starts immediately on completion of supply
resulting in co-existence of supply and income in a reporting period. Yet, in
certain cases the occurrence of supply and the consequential income therefrom
may spread over different tax periods. This concept of timing can be understood
from the perspective of tax treatments over retrospective enhancement of price
/ income. Income tax awaits the right to receive the enhanced income but excise
retraces any additional consideration back to the date of removal and is not
guided by the timing of its accrual.

Under the Excise law, there was
considerable debate on the imposition of interest on account of revision of the
transaction value subsequent to removal of excisable goods. The Supreme Court
through a three-judge Bench in Steel Authority of India Ltd. vs. CCE,
Raipur (CA 2150, 2562 of 2012 & 599, 600 & 1522-23 of 2013) was
deciding a reference in the light of decisions in CCE vs. SKF India Ltd.
[2009] 21 STT 429 (SC) and CCE vs. International Auto Ltd. [2010]
24 STT 586 (SC) wherein the question for consideration was the due date
of payment of the excise duty component on subsequent enhancement of a
tentative price. In other words, whether the date of removal of goods would be
relevant in case of a subsequent enhancement of price with retrospective
effect. The Court, after analysing the provisions of sections 11A, 11AB, etc.
held that the date of removal was the only relevant date for collection of tax
and the transaction value would be the value on the date of removal. Even
though the price of the transaction was not fixed on the date of removal,
subsequent fixation of price would relate back to the date of removal and
interest would be applicable on the additional price collected despite the
event taking place after the removal.

In service tax, the taxable event was
the rendition of service [Association of Leasing & Financial Service
Companies vs. UOI; 2010 (20) STR 417 (SC)]. Rule 6 of the Service Tax
Rules r/w the Point of Taxation Rules provides for payment of service tax based
on the invoice raised for rendition of service. In case of regular services,
the invoice was considered as a sufficient trigger for taxation, while in the case
of continuous services the right to claim consideration was considered as the
appropriate point of time when tax would be applicable. The said rules seem to
be the source of the provisions contained in the GST law, especially for
services. Where provision of service is the point of taxation, the principles
as made applicable to removal under the Excise law would also be applicable to
service tax laws.

In sales tax law, the term turnover
(and sales price) was defined on the basis of amounts receivable by the dealer
towards sale of goods. The Supreme Court in Kedarnath Jute Manufacturing
Co. Ltd. [1971] 82 ITR 363 (SC) stated that the liability to pay sales
tax would arise the moment the sale was effected. In the case of EID
Parry vs. Asst. CCT (2005) 141 STC 12 (SC), the Court was examining
whether interest was payable on short payment of purchase tax on account of
enhanced purchase consideration payable after fixation of the statutory minimum
price of sugar under the Government Order. The Supreme Court held that no
interest was payable on such enhanced consideration and any tax paid earlier
was a tax paid in advance. In fact, the Court went a step further stating that
the amount paid towards the provisional price fixed by the government is not
the price until finalised by the government for the transaction of sale.

Now under the GST law, tax on supply of
goods / services is payable on the invoice for the supply, i.e. typically on or
before the removal of goods or the provision of service. From the perspective
of supply of goods, the collection of taxes under GST has blended the sales tax
concept (relying on invoice) and the excise concept (relying on removal).
However, there is a clear absence of a condition of ‘right to receive’
the consideration from the recipient while assessing the supply of goods.

One probable reason would be that the
legislature has presumed an invoice as evidence of the supplier completing its
obligation under the contract, resulting in a right to receive the
consideration. The other reason could be that the legislature is fixing its tax
at the earliest point in time (which it is entitled to do), i.e. when the
outward aspect of a contractual obligation takes place and is not really
concerned with the timing of its realisation. Both reach the same conclusion,
that while income tax stresses on ‘right to receive’,
GST latches onto the transaction immediately on ‘completion of obligation to
supply’ and does not await realisation
of consideration to establish taxing rights. In effect, the time of supply for
GST may in many cases be triggered even before the income accrues to the
taxpayer and as a consequence creating a timing difference between both laws.
Therefore, even if prices are tentative, it may be quite possible to tax the
transaction and subsequent fixation of prices of supply of goods or services
would not assist the taxpayer in claiming that the point of tax liability is
the point of fixation of the price.

One caveat would be that in case of services
the law does not have any tangible substance to trace its origin and
completion, and hence as a subordinate test adopts receipt of consideration as
the basis of the supply (of service) having been complete (both in the case of
regular and continuous supply of service). But this is a matter of legislative
convenience of collection rather than a conceptual point for analysis.

DEPRECIATION
COMPONENT ON CAPITAL ASSETS

The GST law prohibits the claim of
Input Tax Credit (ITC) if such component has been capitalised in the written
down value (WDV) of the block of assets under the Income-tax Act [section 16(4)
of CGST]. This is introduced to prohibit persons from availing a dual benefit:
(1) a deduction from taxable profits under income tax; and (2) a deduction from
output taxes. Taxpayers generally opt to avail ITC and refrain from taking
depreciation on such tax components. In case a taxpayer (erroneously or
consciously) avails depreciation on the ITC component of capital goods without
claiming the credit under GST, does the window to relinquish its claim of
depreciation and re-avail ITC continue to remain open?

We can take the case of motor vehicles
which was originally considered as ineligible for ITC becoming eligible for the
same if the taxable person decides to sell the asset during the course of
business. The answer could be a ‘possible’ yes (of course, with some practical
challenges). Section 41(1) of the Income-tax Act permits an assessee to offer
any benefit arising from a previously claimed allowance / deduction as income
in the year of its credit. Through this provision the assessee may be in a
position to reverse the depreciation effect and state that there is no
depreciation claim on the ITC component of the asset. We may recall that the
Supreme Court in Chandrapur Magnet Wires (P) Ltd. vs. CCE 1996 (81) ELT 3
SC had in the context of MODVAT stated that if the assessee reverses a
wrongly-claimed credit, it would be treated as not having availed credit. This
analogy can serve well in this case, too, on the principle of revenue
neutrality. But the contention of revenue neutrality becomes questionable where
there is any change in law, in tax rates, etc.

However, the
reverse scenario, i.e. giving up the ITC claim and availing depreciation, may
not be as smooth. While there may not be an issue under the GST law, the
Income-tax Act follows a strict ‘block of assets method’ and alterations to
such blocks, except through enabling provisions, are not permissible. The block
of assets method only permits alterations to the block in case of acquisition,
sale, destruction, etc. of assets and does not provide for retrospective change
in the actual cost of the asset. The only alternative is to file a revised
return before the close of the assessment year in which the acquisition takes
place by enhancing the actual cost, or file a revised block of assets during
the course of assessment proceedings.

ASSESSMENT VS.
ADJUDICATION OR BOTH

The Privy Council in Badridas
Daga vs. CIT (17 ITR 209) stated that the words ‘assess’ and
‘assessment’ refer to the procedure adopted to compute taxes and ‘assessee’
refers primarily to the person on whom such computation would be performed
(also held in Central Excise vs., National Tobacco Co. of India Ltd. 1972
AIR 2563). While adjudication and assessment are both comprised in the
wider subject to ‘assessment’, the procedure for assessment under income tax is
distinct from the assessment systems under the Excise / GST laws.

Income tax follows the concept of
previous year and assessment year, i.e. incomes which are earned in a financial
year (previous year) are assessed to tax in the immediately succeeding year
(assessment year). Consequently, income tax liability arises at the end of the
previous year and is liable for payment during the assessment year. The
taxpayer is required to compute the net income arising during the previous year
and discharge its liability after the close of the previous year as part the
self-assessment scheme. The unit of assessment is a year comprising of twelve
months. On the other hand, the liability towards GST is fixed the moment the
transaction of supply takes place with the collection being deferred to a later
date through a self-assessment mechanism, i.e. the 20^th of the
subsequent calendar month (tax period).

The assessment of income under income
tax takes place in multiple stages. The return filed u/s 139 is examined
through a process popularly called summary assessment, the scope of which involves
examination of mathematical accuracy, apparent errors (such as conflicting or
deficient data in the return), incorrect claims based on external data sources
with Income tax authorities (such as TDS, TCS, Annual Information Reports,
etc.) [section 143(1)]. Based on a Computer-Aided Selection System, a return
may be selected for detailed scrutiny assessment on the legal and factual
aspects involving information gathering, examination, application and final
conclusion through an assessment order [sections 143(2) and (3)]. One
assessment year is subjected to a single scrutiny assessment. Once this takes
place, such an assessment cannot be altered other than by a re-assessment. The
re-assessment provisions u/s 147 provide for assessment of escaped income (either
arising after self-assessment or scrutiny assessment) which can be initiated
within a stipulated time frame in cases of escaped incomes. Income tax has
defined time limits for initiation and completion of such scrutiny and
re-assessments.

The Excise and service tax laws follow
a system of adjudication rather than a scheme of assessment. This probably is
on account of the physical administration system adopted by Excise authorities
during the 1900s. The Excise law has bifurcated the administrative function
into two stages, (a) audit / verification function (information collation), and
(b) adjudication function (legal application). These functions are not
necessarily performed by the same authority. The audit function was not
codified in law but guided by administrative instructions. It involved
site-cum-desk activity wherein the authorities performed the information
collection and issued an exception-based report on the identified issues. After
this, the adjudicating authority prepares a tax proposal, referred to as a show
cause notice, giving its interpretation over a subject with the evidence
collected for this purpose. The adjudicating authority would complete the
adjudication after due opportunities and confirm / drop the proposal by
issuance of an adjudication order. The Excise law provided for time limits on
issuance of the show cause notice but did not provide an outer limit to its
completion.

The critical difference between the two
systems can be examined from these parameters:

(1) Source
and scope – Scrutiny assessments are currently selected through a computer-aided
selection process. Though administrative instructions limited the assessments
to identified issues, the officer had the liberty to expand the scope in cases
where under-reporting of taxes is identified. The statute does not limit the
scope of the scrutiny proceedings. Adjudication commences after internal audit
/ verification / inspection reports but not through any random sampling
methodology. The scope of the adjudication is clearly defined and the entire
proceeding only hovers around the issue which is defined in the notice.

(2) Methodology – Income tax
assessments involve both fact-finding and legal application. The onus is on the
officer to seek the facts required and arrive at a legal conclusion, but the
stress is initially on the facts of the case. The diameter of an ideal
adjudication process is driven by application of law and the presumption is
that the adjudicating officer has concluded the fact-finding exercise thoroughly;
however, in practice any deficiency in facts can be made good by seeking an
internal verification report or submission from the taxpayer. In adjudication,
the fact-finding authority and the decision-making authority may not
necessarily be the same, unlike in income tax assessments.

(3) Adversarial
character – Adjudication is slightly adversarial in nature, in the sense that the
notice commences with a proposal of tax demand leaving the taxpayer to provide
all the legal and factual contentions against the proposal. Revenue and
taxpayers are considered as opposing parties to the issue identified.
Assessments do not acquire an adversarial character until the Revenue officer
reaches a conclusion that there is under-payment of taxes.

(4) Multiplicity
and parallel proceedings – Scrutiny proceedings are undertaken only once for a particular
assessment year. Multiple scrutiny proceedings are not permissible for the same
assessment year even on matters escaping attention during the scrutiny
proceedings. Multiple adjudications by different authorities (in ranking /
function) are permissible for a particular tax period, though the issues may
not necessarily overlap with each other. As regards periodicity, there would be
one income tax assessment in force for a particular assessment year but there
can be multiple adjudication orders in force for the tax period. The period
under adjudication is not limited by tax periods or financial years, except for
the overall time limit of adjudication.

(5) Revenue’s
remedy – In income tax, Revenue does not have the right to appeal against the
assessment order of the A.O. Where orders are ‘erroneous’, the Commissioner can
exercise his revisionary powers. Adjudications being adversarial in nature are
orders against which both the taxpayer and the Revenue have the right of
appeal. Revision proceedings are limited in scope in comparison to appellate
proceedings where Revenue is under appeal – for example, revision proceedings
cannot be initiated where the A.O. adopts one of the two possible views (order
would not be erroneous) but the appellate proceedings would be permissible even
in cases where the Commissioner differs from the view adopted by the
subordinate. At the first appellate forum, the Commissioner of Income Tax (Appeals)
[CIT(A)] is permitted to wear the A.O.’s hat and enhance the assessment during
the course of the proceedings. Under Excise, the Commissioner of Central Excise
(Appeals) [CCE(A)] proposing enhancement of tax would have to necessarily
operate as an adjudicating officer assuming original jurisdiction and following
the time limits and restrictions as applicable to the original adjudication
proceedings – for example, the CIT(A) can enhance the assessment of an order
under appeal even if the time limit for assessment has expired, but a CCE(A)
would not be permitted to issue a show cause notice for enhancement after the
time permissible to issue a show cause notice.

(6) Demands
and refunds – Income tax assessments could result in a positive demand or a refund
to the taxpayer. The net result of the computation of income would have to be
acted upon by the A.O. without any further proceeding. Excise adjudications,
being issue-specific, can only result in tax demand or dropping of the
proceedings – but cannot result in refunds. The taxpayer is required to
initiate the refund process through independent proceedings. Consequently,
excess tax paid in respect of capital gains income can be adjusted with short
tax paid on business income. On the other hand, excess tax paid on a
manufactured product cannot be adjusted with short tax paid on any other
product – both these aspects are to be independently adjudicated and the
process of adjustment can only take place through a specific right of
adjustment under recovery procedures.

(7) Time
limits – Income tax has defined the time limits for initiation and completion
of proceedings, including re-assessment, etc. Excise laws are not time-bound on
the completion of the adjudication, though Courts have directed that the validity
of a notice can be questioned where there is unreasonable delay in completion
of the adjudication.

(8) Finality – Assessment orders
under income tax are final for the assessment year under consideration and no
issue for that assessment year can be re-opened or revised except by statutory
provisions under law. Adjudication orders are final only with respect to the
issue under consideration and Excise authorities are permitted to adjudicate other
issues within the statutory time limit. Therefore, multiple adjudication orders
for one tax period are permissible under the Excise law.

(9) Effect
orders – Appellate proceedings are with reference to specific issues and on
the completion of such proceedings the income tax authority is required to
modify the assessment order after taking into consideration the conclusion over
the disputed matter. An adjudication proceeding is itself issue-driven and
hence the appellate orders generally do not require any further implementation
by the adjudication officer unless directed by the appellate authority.

The GST law has adopted a hybrid system
of adjudication and assessment – adjudication seems to be inherited largely
from the Excise law and the assessment scheme has been borrowed from the Sales
Tax law. While sections 59-66 represent the assessment function, section 73/74
performs the adjudication over the issues gathered through assessment activity.
The consequence of having this dual functionality would be:

(a) All
assessments resulting in demand of taxes would necessarily have to culminate in
adjudication without which the demand would not be enforceable under law, even
though it may be liable. Where the assessment results in a refund of taxes, the
Revenue may not proceed further and would leave it to the assessee to claim a
refund under separate provisions, i.e. section 54. This is quite unlike in
income tax where refunds computed under the Act are necessarily required to be
paid and need not be sought by the assessee through a refund application.

(b) Under
sales tax, self-assessment was considered as a deemed assessment in the sense
that the return filed was considered as accepted unless reopened by Revenue
authorities. The assessment order modifies the self-assessment (i.e. return)
and no further adjudication is required to complete the assessment. GST also
treats the return filed as a self-assessment of income. In some cases where
assessments are to be made (best judgement assessment, scrutiny assessment,
etc.), the assessments are interim until final adjudication of the demand
arising therefrom. Though adjudication necessarily succeeds assessments (to
enforce demands), assessment need not necessarily precede adjudication.

(c) Revenue
authorities now have appellate and revision remedies for assessing escaped
taxes. Appellate rights have been granted to both the assessee and to Revenue
against the orders passed under sections 73 / 74 and revision rights have been
granted to the Commissioner to revise the said adjudication order (sections 107
and 108). In effect, Revenue has the option to either appeal or revise the
adjudication order (though in limited cases). This seems to be a concern given
the fact that adjudicating officers are expected to be independent authorities.
With multiple review powers by senior administrative offices on a suo motu
basis, any possibility of reopening of adjudication orders may impair the
quality and fairness of adjudication.

(d) GST
has for the first time introduced an overall time limit for completion of
adjudication and, in effect, capped the time limit for its commencement (three
months from the statutory time limit of completion). This is unlike the Excise
law where time limits of adjudication proceedings are not capped. The enactment
has also rectified an anomaly in the income tax law by stating that notices for
adjudication should be issued at least three months prior to the expiry of the
time limit for adjudication.

To sum up, the GST law seems to have a
blend of both, resulting in wide latitude of powers to the tax authorities and
one should tread cautiously while representing before the tax authorities by
ensuring robust documentation.

UNEXPLAINED
CREDITS – UNACCOUNTED SALES / CLANDESTINE REMOVALS

Income tax contains specific provisions
deeming unexplained credits / moneys or expenditure (assets or income which
cannot be identified to a source). In income tax the said credits are deemed as
income and aggregated to the total income without the need to examine the head
under which they are taxable. Unlike income tax where tax is imposed on a
single figure, i.e. the total income of the assessee for the assessment year,
GST is applicable on individual transactions and identification of the
transaction is of critical importance.

In the recent past there have been
circumstances where inspection proceedings have resulted in detection of
unaccounted assets (such as cash). The practice of the Revenue has been to
allege that unaccounted assets are an outcome of the supply of particular
product / service and liable to tax under GST. This is being done even in the
absence of a parallel provision under GST to deem unaccounted assets as a
supply from a taxable activity. This approach suffers some deficiencies on
account of various reasons: (a) deeming fiction over incomes cannot be directly
attributable to a taxable supply; (b) the levy is dependent on certain factors
such as exemptions, classification, rates, etc. and such facts cannot be left
to best judgement; (c) a defendant cannot be asked to prove the negative (i.e.
prove that he / she has NOT generated the asset from a supply); (d)
presumptions of the existence of a transaction cannot be made without having
reasonable evidence on time, value and place of supply. The provisions of best
judgement u/s 62, too, do not provide wide latitude in powers and are
restricted to cases of non-filers of returns. In the absence of a document
trail or factual evidence, it would be inappropriate for the Revenue to allege
suppression of turnover and impose GST on such deemed incomes under income tax.

In the context of Excise, demands based
on income tax reports have all along been struck down on the ground that such
reports are merely presumptions and cannot by themselves substitute evidence of
manufacture and removal. In Commissioner vs. Patran Pipes (P) Ltd. – 2013
(290) ELT A88 (P&H) it was held that cash seized by income tax
authorities cannot form cogent evidence showing manufacture and clandestine
removal of such goods. The larger Bench in SRJ Peety Steel Pvt. Ltd. vs.
CCE 2015 (327) E.L.T. 737 (Tri.–Mum.) held that the charge of
clandestine removal cannot sustain merely on electricity calculations. In
service tax, too, in CCE vs. Bindra Tent Service (17) S.T.R. 470 (Tri .-
Del.) and CCE vs. Mayfair Resorts (22) S.T.R. 263 (P & H)
2010 it was held by the Courts that surrender of income before income
tax authorities would not be considered as an admission under the Service Tax
law. These precedents are likely to apply to the GST enactment as well, and
unless thorough investigation of these unexplained incomes is performed, tax
liability cannot be affixed to unexplained credits.

TAX AVOIDANCE
PROVISION SECTION 271AAD OF INCOME TAX ACT

By the recent Finance Act, 2020 the
Central Government has introduced a specific penal provision in the Income-tax
Act in terms of section 271AAD. The said section has been introduced to address
the racket of fake invoices – the income tax law has been empowered to impose a
penalty to the extent of the ‘value’ of the fake invoice. The
section is applicable (a) where there is a false entry in the books generally
represented through a fake input invoice (being a case where the supplier is a
bogus dealer, there is no supply of goods / services at all, invoice is fake /
forged); or (b) where a person has participated in such falsification – such as
supplier, agent, etc.

The GST law also contains provisions
u/s 122 to impose a penalty on the supplier to the extent of tax evaded in case
of bogus supplies. A recipient of such supplies is also liable for penalty to
the same extent. Therefore, apart from the basic payment of tax and interest, a
recipient and / or supplier would be liable to an aggregate penalty under both
laws which would exceed the value of the fake invoice, including the GST
component. This is apart from other penalties and consequences of prosecution
and de-registration. The presence of such stringent provisions would pave the
way to both income tax and GST authorities to jointly clean up the system of
this menace and share such information with each other for effective
enforcement. This provision is another step in integration of income tax and
GST laws.

The above instances (which are selected as examples) clearly convey the
need for industry to view any transaction from both perspectives at a
conceptual and reporting level. With the advent of GST, additional
responsibilities would be placed on taxpayers to provide suitable
reconciliation between GST and income tax laws. GST authorities would be
interested in identifying those incomes that were not offered to tax and income
tax authorities would be interested in identifying those supplies which have
not been reported as income. The taxpayer has to survive this tussle and stamp
his claim to the respective authorities.

shailesh.kwebmaker

RETURNS UNDER GST – A NEW LOOK !!

INTRODUCTION

1. When GST was introduced in July,
2017, a lot of noise was created around the proposed elaborate return filing
systems which provided for online uploading of invoices issued by the supplier
systems, monthly reconciliation of transaction between registered persons,
amendment of transaction in case of mis-matches and subsequently filing of the
final return on a monthly basis to be followed by an annual return at the end
of the financial year and audit for suppliers where the aggregate turnover
exceeded the prescribed limit of Rs. 2 crore.

2. However, the system remained in
papers only as implementation was hit with multiple issues, ranging from
non-functional government portal, lack of preparedness amongst all the
stakeholders, confusion relating to the law, and so on. Therefore, dropping the
above proposed structure, the elaborate return filing mechanism was kept on
hold and compliance was restricted to filing of GSTR 1, i.e., details of
outward supplies on either monthly or quarterly basis depending upon prescribed
turnover and GSTR 3B, a summary statement of outward supplies made during the
period and input tax credit availed on inward supplies on a monthly basis.

3. However, the makeshift
arrangement did not serve the purpose of Government to allow credits based on
transaction level matching, identifying defaulting taxpayers at an earlier
stage, etc. Therefore, a new return filing mechanism has been proposed to
re-introduce the concept of uploading of all details relating to outward and
inward supplies and matching of transactions. In this article, we shall deal
with the proposed return forms and various intricate issues revolving around
the same. The entire discussion is based on the proposed return formats made
available on the public platform. The proposed return filing mechanism is
expected to be made applicable w.e.f July, 2019. The enabling provisions w.r.t
the same are contained in section 43A of the CGST Act, 2017.

BROAD FRAMEWORK

4. The proposed framework
bifurcates tax payers into two categories, based on their aggregate turnover
as:

–Tax payers having annualised aggregate turnover during FY 2017-18
not exceeding Rs. 5 crore. Such tax payers have been given an option to
file returns quarterly or monthly. Further, there are three different options
of returns which can be filed by such tax payers, which are Sahaj, Sugam and
Normal returns. However, if opting for quarterly returns, the tax payers would
be required to make payment of taxes on monthly basis only, which would be
considered while filing of quarterly returns. Further, in case of fresh
registration, the turnover of the previous financial year shall be considered
as zero and therefore such taxpayers shall have an option of filing the returns
either monthly or quarterly.

–Tax payers having annualised aggregate turnover during FY 2017-18
exceeding Rs. 5 crore. Such tax payers have to compulsorily file returns on
monthly basis.

5. The following chart explains
the proposed scheme:

6. The option of whether return
has to be filed monthly or quarterly has to be selected at the start of the
financial year. It is important to note that once a periodicity is selected,
the same can be changed only during the start of next financial year. It is
also important to note that in case there is a change in status during the next
Financial Year, it will be the responsibility of the tax payer to opt for the
change. In case no option is selected, the option selected in the previous year
shall continue to be applied for the next Financial Year as well.

7. Once a tax payer opts to file
quarterly returns, the next step that he needs to take is decide the type of
return that he has to file. For such tax payers there are three different
options of return filing available based on the type of transactions carried
out. For instance, Sahaj scheme is feasible for such tax payers who exclusively
provide service to unregistered persons while Sugam is suitable for those class
of tax payers who are providing service to both, registered as well as
unregistered persons but do not make other supplies, such as exempt, non-GST,
zero rated, etc. For the balance tax payers, i.e., who have all kinds of
transactions, the normal option has to be chosen.

8. In case Sahaj option has been
selected, the tax payer can switch to Sugam but not vice-versa. Similarly, in
case a tax payer selects the normal scheme, he can switch to Sahaj / Sugam
scheme. However, the switch can be done only once, at the start of the
financial year. Further, option for switching from Sugam to Sahaj is not
available, except at the start of the financial year.

FLOW OF EVENTS

9. The flow of events preceding
the filing of the above returns, be it Sahaj / Sugam / Normal return is

-Filing of ANX – 1 – this contains details of outward supplies made
during the tax period and details of inward supplies liable to RCM.

-Filing of ANX – 2 – based on details auto-populated from the suppliers
ANX – 1, the recipient shall file details of inward supplies are following the
steps discussed in the subsequent paras.

-Filing of RET – 1/2/3 – basis the details furnished in ANX – 1 and ANX
– 2, the tax payer will be required to file his applicable return and discharge
the applicable taxes, interest, fees, etc.,

-Interestingly, the formats are silent w.r.t the due dates for filing
the Annexures. Only in the context of ANX – 2, it has been stated that the same
shall be deemed to be filed after the return for the relevant period (month /
quarter) has been filed.

10. While the return in case of
Sahaj and Sugam has to be filed quarterly, the tax payer will have to make
payment on monthly basis in PMT-08 on provisional basis, after disclosing the
liability as well as the ITC availed provisionally, which will be available for
offset while filing the quarterly return. However, in all other cases,
compliances will have to be done on a monthly basis.

11. In this article, we shall
discuss in detail the various intricate aspects revolving around the filing of
ANX – 1 , ANX – 2 and RET – 1 along with the amendments through ANX – 1A and
RET – 1A.

ANX – 1 – details of outward supplies and inward
supplies liable to RCM

12. The new mechanism provides the
tax payer an option to upload ANX – 1 during the course of tax period itself
and not after the end of tax period. Further, the details will also be updated
on real time basis and would be made available to the recipient in his ANX – 2
by way of auto-population.

13. It is imperative to note that
the information to be provided in ANX – 1 is segregated into two parts, one
relating to outward supplies and second relating to inward supplies liable to
RCM. However, on going through the proposed formats, one can note that the
details relating to inward supplies required to be reported not only covers
transactions where tax is payable on RCM, but also all other cases where tax is
applicable but not charged by vendors. For instance, import of goods from
outside India / SEZ / SEZ developer and documents on which credit has been
claimed but not disclosed by the supplier in his RET – 1 for more than two tax
periods, if the tax payer files return monthly and one tax period if the tax
payer files return quarterly.

14. The following table lists down
the key information relating to a transaction that would be required to be
reported in ANX – 1:

GSTIN / UIN

– The requirement to file this information
is available in the current scheme as well.

Place of Supply
(Name of State/ UT)

Document Details

– Type

– No.

– Date

– Value

– Under the
current scheme of things, each document type had to be reported separately.
For instance, under the current regime, invoices and credit notes were
reported in separate tables. This is sought to be changed with all document
types, have to be reported under the same head.

HSN Code

– While the
current formats prescribed the need to
disclose the HSN code of goods / SAC of service being supplied to be
disclosed in the GSTR 1, the said functionality was never enabled on the
portal. The same is sought to be reintroduced.

– Under the
proposed scheme, the reporting is mandated as under:

– Interestingly, the need to report HSN
wise summary, containing quantitative details has been done away with.

Tax rate (%)

This is standard
information which is required to be disclosed even under the existing scheme.

Taxable value

Tax amount
(I/C/S/Cess)

– Under the proposed scheme, the tax
amount will be auto calculated and not editable, except by way of issue of
debit notes / credit notes. Cess will have to be inputted manually.

Shipping Bill/ Bill
of Export details (No. & Date)

– If at the time of filing ANX – 1, these
details are not available, an option to update the same at a later date will
also be provided.

15. Once the above set of details
w.r.t each transaction has been collated, the tax payers will need to
segregate, depending on its’ nature, each transaction into:

Segregation into
the basket of

Comments

3A. Supplies made to consumers and unregistered persons
(Net of debit notes/ credit notes)

3A is common across all the three return schemes while
3B is common for Sugam and the normal scheme.

– HSN wise
details need not be reported for 3A, though required for 3B.

– It is
however important to note that disclosure relating to outward supplies liable
for tax under reverse charge need not be reported here.

3B. Supplies made to registered persons (Other than
those attracting reverse charge mechanism) – including edit / amendment

3C. Exports with payment of tax

– The
information sought in this section is similar to what is being required to be
provided in the current scheme as well.

– However, it
is provided that in case of export of goods, details of shipping bill / bill
of export may be provided at a later date also.

3D. Exports w/o
payment of tax

3E. Supplies to SEZ units/ developers with payment of
tax – including edit / amendment

– The
information sought in this section is similar to what is being required to be
provided in the current scheme as well.

– However,
one important aspect that needs to be noted in the context of 3E is that the
supplier will have an option to select whether he / the SEZ Unit / Developer
would claim refund on such supplies or not? The SEZ Developer / unit will be
entitled to avail such credits and claim consequential claim refund of such
tax only if the supplier is not claiming refunds.

– Similarly,
even in the context of 3G, it has been provided that supplier shall declare
who will claim the refund, the supplier or recipient. If supplier is claiming
refund, the recipient shall not be entitled to avail the corresponding
credits.

3F. Supplies to SEZ units/ developers without payment
of tax – including edit / amendment

3G. Deemed exports
– including edit / amendment

3H. Inward supplies attracting reverse charge

– The notes
to the return provides that the details of inward supplies attracting RCM
need to be provided GSTIN wise and not invoice wise. In case of unregistered
suppliers, it has been provided that the PAN wise details may be disclosed.

– Furthermore,
it has been also clarified that the details of advances / debit notes /
credit notes relating to such inward supplies have also to be included in the
summary referred. Interestingly, the notes further provide that in case of
advance payment, the tax credit needs to be reversed in the Return form and
the same has to be claimed only after the said service has been received.

3I. Import of Services (Net of DN/ CN and advances
paid, if any)

3J. Import of goods

– The note
provides that the details of tax paid on import of goods from outside India /
SEZ Units / developers shall be reported here.

– It further
clarifies that this information shall be required to be provided till the
data starts flowing from the ICEGATE (Customs) portal.

3K. Import of goods from SEZ units/developers on a Bill
of Entry

3L. Missing documents on which credit has been claimed
in T-2 / T-1 (for quarter) tax period and supplier has not reported the same
till the filing of the return for current tax period

– This refers
to cases where credit was claimed though not appearing in ANX – 2 but even
after the expiry of two months/1 quarter from the availment of credit, the
same has not been uploaded by the supplier, thus triggering a reversal u/s.
42 (5) of CGST Act, 2017.

16. The above classification at
various junctures mentions “including edit / amendment”. The background to the
same is that the proposed scheme is also expected to work on a concept of
matching of transactions. It has been provided that once a transaction has been
uploaded on the portal, the facility to edit/amend the same shall depend on the
status of the transaction, i.e., whether it has been accepted or not? If not
accepted, the same can be amended upto 10^th of the following month.
However, if accepted, the same can be amended upto 10^th of the
following month, provided the same has been reset/unlocked by the recipient.
However, this restriction of editing/amending a transaction will not apply to
cases where the same pertains to a transaction of supply to a person not filing
returns in RET – 1/2/3, for example supplies made to composition dealers, ISD
or UIN holders and so on). Further, a facility of shifting the documents is
also proposed to be provided for transactions rejected by recipients on account
of wrong tagging. For instance, transaction wrongly tagged as SEZ supply on
payment of tax while the same relates to SEZ supply without payment of tax.

17. In addition to the above, all
tax payers who make supplies through e-commerce operators shall also be
required to disclose the details of turnover made through E-commerce operator
in table 4. However, it is important to note that the details to be disclosed
in table 4 should already be disclosed in table 3 and this is merely for
statistical purpose and would not have any impact on the output liability of
the tax payer.

TRANSITION FROM EXISTING SYSTEM

18. One important question that
arises is how to deal with cases where invoices were issued prior to the
introduction of the proposed scheme. For such cases, there can be three
probable scenarios, as tabulated below:

Scenario

Probable actions

Not reported, either in R1/ 3B

Upload the document in ANX – 1 and discharge tax along
with interest in RET – 1

Reported in 3B, but not reported in R1

Document should be uploaded, but in case of invoice,
since the tax liability would already have been discharged, the same would
have to be disclosed at 3C (5) of RET – 1 as reduction in liability.

However, while dealing with CNs, since the reduction
has already been claimed in the earlier scheme, reporting of CN would require
increase in liability to be reported at 3A (8) of RET – 1.

Reported in R1, but not reported in 3B

This would refer to cases where the tax effect of an
invoice/CN has not be considered while filing 3B. For such cases, w.r.t
invoices, the tax amount should be disclosed at 3A (8) in RET – 1 to increase
the liability and in case of credit notes, the tax amount should be disclosed
at 3C (5) to reduce the liability.

ANX – 2 ANNEXURE OF INWARD SUPPLIES AND MATCHING CONCEPT

19. This annexure primarily deals
with the concept of matching of transactions wherein the transactions reported
by suppliers would be auto-populated on real time basis in this annexure and
the recipient is required to mark each such transaction as either accepted,
rejected or pending.

20. The act of accepting a document
would mean that the recipient has accepted the transaction in all aspects. Acceptance
of a transaction would make it not eligible for edit / amendment by supplier,
unless unlocked.

21. Upon acceptance, if the
supplier has disclosed the transaction in ANX – 1 by 10^th of the
next month, credit of the same can be claimed by the recipient in the month to
which the transaction pertains. However, for transactions disclosed after 10^th
of the next month, credit would get deferred. Let us understand this with an
example. A supplier has issued an invoice on 15^th July, 2019 and
disclosed the same in ANX – 1 on 5^th August, 2019, the recipient can
claim credit of this invoice while filing the return for the month of July,
2019 itself. However, in case the supplier reports this transaction only on 15^th
August, 2019, then the credit will have to be claimed in the next month.

22. The need to reject a
transaction shall arise, as per the instructions to filing ANX – 2, when
recipient does not agree with details disclosed such as the HSN Code, tax rate,
value etc., which cannot be corrected through a credit/debit note or the GSTIN
of the recipient itself is erroneous and therefore the transaction appears to a
person who is not concerned with the same. The notice of rejection of a
transaction would be sent to the supplier only after filing of return by the
recipient and the same would enable the supplier to edit / amend the
transactions in ANX – 1.

23. The third action, i.e., mark
the transaction as pending means that the recipient is either unsure of the
transaction appearing in ANX – 2 or he is yet to receive the invoice for such
transaction or the corresponding supplies would not have been received by them.
Such transactions which are marked as pending would be rolled over to the ANX –
2 for the next period. However, the same would not be available to the
supplier for editing / amendment unless the recipient rejects them.

24. However, if any transaction is
not marked as accepted/ rejected / pending and the return in RET – 1 / 2 / 3 is
filed, the same shall be deemed to be accepted and corresponding ITC shall be
made available for such recipient. Therefore, it would be very important for
the recipient to ensure that all transactions are marked as either accepted,
rejected or pending as failure to do so might result in claim of credit in case
of transactions which were ultimately meant to be rejected or dealt with
ineligible credits.

25. In addition to the above, there
can be instances wherein a recipient has received invoice from a supplier and
accounted the same in his books of accounts. However, such invoice is not
reported by the supplier in his ANX – 1 or has been reported wrongly (say
classified as B2C or tagged to wrong GSTIN and so on). For such transactions,
the recipient of supply shall be required to self-claim credit for such
transactions in the return form. However, such recipient shall be required to
disclose transactions of self – claim of credit in ANX – 1 if the supplier has
failed to report the transaction in his ANX – 1, in the following manner:

-If the supplier failed to report supplies after lapse of two tax
periods in case of monthly return and one tax period in case of quarterly
return being filed by the recipient.

-The details of such transactions
wherein the suppliers have still not filed their returns, but credit has been
claimed by therecipient shall be made available to the recipient through ANX –
2.

RET – 1 – MONTHLY OR QUARTERLY RETURNS UNDER THE NORMAL SCHEME

26. This is the return which each
tax payer is required to file w.r.t his outward and inward supplies. As of now,
the formats suggest that substantial information would be auto-populated from
disclosures made in ANX – 1 and actions taken on various transactions appearing
in ANX – 2 of the tax payer.

27. However, there would be certain
information which would be required to be filled by the tax payer. The same in
the context of outward supplies would be:

3.A.8. Liabilities relating to period prior to the
introduction of current return filing system and any other liability to be
paid

Refer discussion at para 19

3.C.3. Advances received (net of refund vouchers and
including adjustments on account of wrong reporting of advances earlier)

In the current scheme, this information needs to be
furnished in GSTR 1 along with POS wise, rate wise summary.

3.C.4. Advances adjusted

3.C.5. Reduction in output tax liability on account of
transition from composition levy to normal levy, if any or any other
reduction in liability

Refer discussion at para 19

3.D. (1-5) Details of supplies having no liability
[Exempt and nil rated supplies, non-GST supplies (including no
supply/Schedule III supplies), outward supplies attracting reverse charge and
supply of goods by a SEZ unit/ developer to DTA on a bill of entry]

This clause proposes to cover transactions of outward
supplies on which no GST is applicable, such as exempt supplies, non-GST
supplies and so on.

28. Similarly in the context of
inward supplies and input tax credit, the tax payer would require to input
following details which would increase the claim of input tax credit:

4.A.4. Eligible credit (after 1^st July,
2017) not availed prior to the introduction of this return but admissible as
per Law (transition to new return system)

This clause will cover disclosure of credit claim relating to invoices issued
under the GST Regime but prior to the introduction of the new scheme of
returns filing.

4.A.10. Provisional input tax credit on documents not
uploaded by the supplier (net of ineligible credit)

This clause will cover self – claimed credits where
transactions are not appearing in ANX – 2 but claimed by the tax payer on the
strength of the documents available on record.

4.A.11. Upward adjustments to input tax credits due to
receipt of credit notes and all other adjustments and reclaims

In case of credit notes reported by a supplier in ANX –
1 and accepted by the recipient in his ANX – 2, there will be automatic
reversal of input tax credit. However, there can be cases where the recipient
would not have claimed credit in the original invoice itself, thus resulting
in double reversal of credit for the recipient. For such cases, the amount of
tax associated with each credit notes will have to be added back to the ITC
claim of the recipient.

Any other adjustments shall also be reported here.

29. Further following details which
would decrease the claim of input tax credit will also have to be manually
added to the return by the tax payer:

4.B.2. Supplies not eligible for credit (including ISD
credit)

[out of net credit available in table 4A above]

This would cover cases relating to claim of input tax
credit which are covered by section 17 (5) or other cases wherein the claim
of credit is not eligible.

4.B.3. Reversal of credit in respect of supplies on
which provisional credit has already been claimed in the previous tax periods
but documents have been uploaded by the supplier in the current tax period

This clause covers credits which were self-claimed in
the earlier period, and the corresponding transaction has been uploaded by
the supplier and accepted by the tax payer during the current tax period and
therefore in order to avoid double claim, to the extent credit was claimed
provisionally to be reversed.

4.B.4. Reversal of input tax credit as per law (Rule
37, 39, 42 and 43)

This would include adjustments on account of the
specific provisions in the Act

4.B.5. Other reversals, including downward adjustments
to input tax credits on account of transition from composition to normal
levy, if any

This would include all other reversals to input tax
credit on account of reasons, other than the above.

30.In addition to the above, as statistical
information, the tax payer would need to identify the amount of credit which
pertains to capital goods and input services out of ITC available net of
reversals determined in the return. The logic behind this segregation is to
determine the amount of ITC in case the tax payer claims refund of accumulated
ITC on account of zero rated supplies/inverted rate structure. However, this
would pose a substantial challenge since various adjustments to the ITC
reported in the return, such as relating to Rule 43 are at aggregate level and
cannot be identified easily at transaction level and therefore the submission
of information to this extent might pose difficulty.

31. The next field that is relevant relates to
calculation of interest and late fee details at table 6. The liability on
account of interest and late fee due to late filing of returns would be
auto-computed by the system. Interestingly, this would also cover following:

liability on
account of late reporting of tax invoices, for instance, invoice of July
reported in August.

liability on
account of rejection of accepted documents.

32. In addition to the above, the tax payer will be
also required to self-calculate interest liability on account of following:

reversal of input
tax credit on account of various reasons, such as Rule 37, 42, 43, etc., as
well as interest

interest liability on account of delayed reporting of transactions
attracting reverse charge. The time of supply in case of reverse charge
transactions is attracted within 60 days from the date of invoice or date of
payment to the vendor, whichever is earlier. However, in case of supply of
services by Associated Enterprises located outside India, the time of supply is
triggered on the date when the entry is made in the books of accounts or the
date of payment, whichever is earlier. In all such cases where the time of
supply is determined late, the same would result in a liability to pay interest
which would have to be reported here.

• Any other interest liability

33. Once the above action is taken, the tax payer
will have to discharge the liability, either by utilising the balance lying in
electronic cash ledger or electronic credit ledger as per the applicable
provisions and file the return.

ANX – 1A – AMENDMENTS TO ANX – 1

34. Under the proposed scheme, it is provided that
a tax payer can amend the details furnished in ANX – 1 and RET – 1 by amending
the return filed for the tax period in which the transaction was reported.
However, such amendment can be done only for transactions wherein GSTIN level
details were not submitted. In other words, B2B, SEZ and Deemed export
transactions cannot be amended. The same will have to be processed through the
“edit/amendment” route only as discussed above.

35. For other cases wherein amendment is required,
the amendment will have to be given effect for the period to which the
transaction pertains. For instance, a sales invoice was reported in July, 2019
as local sale. In September, 2019, it came to the tax payers’ attention that
the transaction was wrongly reported as local sale though it was an interstate
sale as per invoice. Accordingly, for such transaction, the tax payer will be
required to file ANX – 1A of July, 2019 and then proceed to file RET – 1A to
amend the RET – 1 of that period.

36. The above concept will be applicable in case of
amendment of transaction reported late in ANX – 1 also. For instance, an
invoice dated July, 2019 has been reported in ANX – 1 of September, 2019 and
liability discharged while filing the return for September, 2019. However, if
for such transaction any amendment is required to be done, the same will have
to be done in the month of July, 2019 as the transaction pertains to that
month, though disclosed in September, 2019.

37. An amendment can be done in ANX – 1A only w.r.t
transactions which have been reported in ANX – 1. For instance in the above
example, if an invoice dated July, 2019 was not reported in ANX – 1 of July,
2019, the same cannot be then reported in July, 2019 through ANX – 1A. Such
transactions can be reported only through ANX – 1.

38. The ANX – 1A shall be deemed to be filed only
after the RET – 1A has been filed.

RET – 1A – AMENDMENT TO RET – 1

39. Based on the details amended in ANX – 1A,
amendment to details already disclosed in RET – 1 on account of the ANX – 1A
will have to be done. For instance, in ANX – 1A, the liability under reverse
charge has been increased. The impact of this amendment will be auto-populated
in RET – 1A and the tax payer will have to make disclosures w.r.t the said
amendment as to whether any supplies are not eligible for credits and so on.
Only the impact of amendments will be considered in RET – 1A and not all the
transactions reported in the original return.

40. Basis the amendments disclosed in the RET – 1A,
the net tax payable/refundable will be determined. In case a liability is
determined, the same will have to be paid before the filing of RET – 1A.
However, in case the amendment results in excess payment, or negative liability
as referred in the instructions, the same will be made available to the
taxpayer in the next RET – 1 to be filed after filing of RET – 1A.

CONCLUSION:

41. The proposed scheme of returns, undoubtedly
appear more in the nature of old wine in new bottle, with the scope of details
to be disclosed remaining more or less the same. However, there are certain
substantial changes, such as option to amend the returns itself.

42. In
addition to the above, it will also be important for tax payers to shore up
their IT systems to facilitate the above process through automation rather than
manual intervention to avoid possibility of errors.

shailesh.kwebmaker

RULE 36(4) – MATCHING UNDER ITC

INTRODUCTION

When GST was introduced in July, 2017, heavy
emphasis was placed on the matching process under GST which required a transaction-level
matching of B2B transactions and claim of credit being dependent on the
matching activity in the form of GSTR2. However, due to systems constraints,
GSTR2 as well as GSTR3 were kept in abeyance and the truncated process of
return filing was introduced requiring the taxable persons to file only GSTR1
and a new statement in Form GSTR3B in place of GSTR3 was introduced.

Due to the suspension of GSTR2 and GSTR3
returns, the process of matching of transactions and credits and filing of
returns based on the same could not be implemented. Due to fall in revenue
collections, the Government suspects that the lack of matching could result in
large-scale evasion and false input tax credit (ITC) claims filed by assessees
facing liquidity crunch.

Based on the limited information available,
various Department authorities did issue letters or notices to the assessees
highlighting an aggregate-level mismatch in the input tax credit claims and the
credits reflecting in GSTR2A. However, the authorities could not enforce the
matching process since they lack legislative mandate in view of the suspension
of the process of filing of GSTR2 and GSTR3 returns. It may be noted that the
provisions of sections 42 and 43 requiring payment of tax on account of provisional
mismatch not being rectified in two months is dependent upon sections 37 and 38
for claim of credit through the process of matching, reversal, reclaim and
reduction.

In pursuance of various recommendations, the
Government proposed to introduce new returns where the flow of information is
unidirectional from the supplier to the recipient. The new returns process also
requires a matching of credit and permits self claim of provisional unmatched
credit for a period of two months to the extent of 20% of eligible matched
credit. To enable the new return-filing process, the CGST Amendment Act, 2018
inserted section 43A. Section 43A(4) thereof deals with prescription of
procedure for availing input tax credit in respect of outward supplies not
furnished and specifically provides for prescription of maximum ITC which can
be availed, not exceeding 20% of the ITC available on the basis of details
furnished by the suppliers and appearing in GSTR2A. However, since the
implementation of the new returns has been postponed, the provisions of section
43A have not been made effective till date.

The procedure as referred to in section
43A(4) has now been prescribed vide an amendment to the CGST Rules, 2017 by
Notification 49/2019–CT dated 9^th October, 2019. Vide the said amendment,
Rule 36(4) has been inserted which provides as under:

(4) Input tax credit to be availed by a
registered person in respect of invoices or debit notes, the details of which
have not been uploaded by the suppliers under sub-section (1) of section 37,
shall not exceed 20 per cent of the eligible credit available in respect of
invoices or debit notes the details of which have been uploaded by the
suppliers under sub-section (1) of section 37

On a first reading of the above provisions,
the issues that crop up could be listed as under:

Legality of the above
amendment;

Applicability on credit
availed in earlier period returns (3B);

Applicability on credits of
earlier period invoices availed before and after 9^th October, 2019;

Whether Rule 36(4) would be
applicable at the time of filing GSTR3B for September, 2019 (the due date of
which was 20^th October, 2019)?

Whether the matching has to
be done at invoice level or consolidated level?

Which GSTR2A to be
considered for doing the matching process?

Implications when the
supplier is required to furnish the details on quarterly basis;

Accounting and disclosure
implications;

Flood of mismatch notices
expected after the amendment.

Considering the above, the CBIC has also
issued clarifications on various points vide Circular 123/42/2019 dated 11^th
November, 2019. However, there are certain open-ended issues which would need
further clarification. We have attempted to analyse the same in this article.

Issue
1: Scope of applicability of the provisions

This can be examined from two different
perspectives, one being the date of invoice and the second being the date of
filing of return. It is relevant to note that under GST, availment of credit
takes place only upon filing of returns under GSTR3B. The various aspects which
would need consideration are:

(a) If the return for period on or before
September, 2019 is not filed and filed after 9^th October, 2019, will
the RTP be required to comply with the provisions?

(b) Will the provisions apply to invoices
dated prior to 9^thOctober, 2019 but credit availed after 9^th
October, 2019?

With respect to (a) above, the CBIC has
clarified that Rule 36(4) would apply only on invoices / DNs on which credit
note is availed after 9^th October, 2019. Therefore, in cases where
the returns were filed before 9^th October, 2019, the amended
provisions should not apply. This is because filing of returns would mark the
availment of returns. Therefore, since at the time of filing the return the
provision was not in place and, more importantly, it has not been given
retrospective effect, Rule 36(4) cannot apply to such cases.

However, there can be instances where the
returns for earlier period, say, August, 2019 and prior are filed after 9^th
October, 2019 or credit relating to invoices dated prior to 9^th
October, 2019 is availed after that date. For such cases, as per the
clarification issued by CBIC, and even otherwise, on a plain reading of Rule
36(4) it would be apparent that the provisions of Rule 36(4) would apply to
such cases. This view also finds support in the decision of the Supreme Court
in the case of Osram Surya (P) Limited vs. CCE, Indore [2002 (142) ELT
0005 SC]. In the said case, Rule 57G of the Central Excise Rules, 1944
was amended to prescribe a time limit for availing credit within six months
from the date of issue of the document. In this case, the Supreme Court held
that credit could not be claimed. However, it is imperative to note that in the
said case the validity of the said Rule was not looked into since the same was
not challenged before the Court.

This aspect was
also noted by the Gujarat High Court in Baroda Rayon Corporation Limited
vs. Union of India [2014 (306) ELT 551 (Guj)] wherein the Court held
that the condition resulted in lapsing of credit which had already accrued in
favour of manufacturer and therefore the rule was violative of Article 226 of
the Constitution. However, it is imperative to note that even the Gujarat High
Court has allowed the credit only on the premise that the Rule was ultra
vires of the Act since the Act did not empower the Government to make rules
to impose conditions for lapsing of credit.

It is imperative
to note that in the current case, section 43A does empower the Central
Government to prescribe rules for imposing restrictions on availing of input
tax credit. For this instance, reliance on the decision of Baroda Rayon
Corporation (Supra) may not be of assistance.

It is, however,
important to take note of the decision of CESTAT in the case of Voss
Exotech Automotive Private Limited vs. CCE, Pune I [2018 (363) ELT 1141
(Mumbai)]. In the said case, the issue was in the context of proviso
to rule 4(7) which introduced time limit for availing credit w.e.f. 1^st
October, 2014. In the said case, the Tribunal held that the amendment did not
apply to invoices issued prior to 11^th July, 2014 (the date of
notification by which the amendment was introduced) for the reason that the
notification was not applicable to invoices issued prior to the date of
notification and, therefore, restriction could not be applied to invoices
issued prior to the said date. However, it is imperative to note that the said
decision referred to the ruling of the Madhya Pradesh High Court in the case of
Bharat Heavy Electricals Limited vs. CCE, Bhopal [2016 (332) ELT 411
(MP)] which also relied on the decision of the Gujarat High Court in
the case of Baroda Rayon Corporation.

In view of the
above, it would be difficult to argue that the provisions of Rule 36(4) do not
apply to invoices dated prior to 9^th October, 2019 on which credit
is availed after that date. However, it can be said with certainty that the
same would not apply to cases where credits were availed before 9^th
October, 2019.

It may also be
important to note that the validity of Rule 36(4) has been challenged before
the Hon’ble Gujarat High Court in SCA 19529 of 2019 and the
matter is currently pending. The challenge is on the ground that since the
provision of section 43A has not been notified till date, insertion of Rule
36(4) is not maintainable. It therefore remains to be seen whether the Court
accepts the argument
and strikes down the provision or it treats Rule 36(4) as being prescribed
under the general powers granted u/s 16(1) of CGST Act, 2017 which empowers the
Government to frame conditions for availment of credit.

Issue 2: Which GSTR2A to be considered for the
matching process?

Assuming that
Rule 36(4) does survive the test of validity, the next question that remains is
with respect to its implementation. This is important because while the
availment of credit takes place at the time of filing of return, it is possible
that credits of invoices issued by suppliers for multiple periods would be
claimed in a tax period. For instance, while filing the GSTR3B for September,
2019, it is possible that the invoices issued by suppliers between April, 2019
and August, 2019 as well as invoices of the previous financial year would be
claimed. In such a case, it is likely that the credit that would be claimed in
GSTR3B would be higher as compared to credits appearing in GSTR2A for
September, 2019. This will open a barrage of notices of GSTR2A vs. GSTR3B
mismatch for different tax periods, though on a cumulative basis there may not
be a mismatch.

To deal with
this particular situation, for credit availed in each month, the data will have
to be analysed vis-à-vis the month to which the invoice pertains and
corresponding comparison with GSTR2A of the respective tax period will be
required. For this reason, the Board has also clarified that the matching will
be done on consolidated basis (after reducing ineligible credits appearing in
2A) and not supplier basis. However, in case credits of the previous financial
year are claimed, it will always be an open issue and care will have to be
taken to ensure that the figures match with the figures reported at Table 8C of
GSTR9.

Another aspect
to be noted is that GSTR2A is a volatile figure, i.e., even after the due date
of filing GSTR1 of a particular month, there is no restriction on filing of
GSTR1 and therefore GSTR2A downloaded on 11^th October, 2019 and 20^th
October, 2019 would represent completely different pictures. While the Board
Circular clarifies that the GSTR2A as on due date of filing of form GSTR1 u/s
37 (1) is to be considered, the 2A downloaded from the portal does not provide
the date on which the supplier has filed the GSTR1. It would therefore mean
that the clarification provided by the Board is not possible to comply with in
the first place itself. More importantly, Rule 36(4) also does not include any
such restriction.

A specific issue arises in cases where the
supplier has opted to furnish GSTR1 on quarterly basis, in which case there
will also be a time gap between the claims of credit by the recipient (which is
on monthly basis) vs. furnishing of information on quarterly basis by the
supplier. For such instances also, the circular clarifies that the credit
should be claimed only after the transaction appears in 2A. This, however,
appears to be harsh considering the fact that even under the earlier mechanism
of GSTR1 -2 -3, the law provided for the concept of self claim of credits up to
two months to enable the suppliers to file their GSTR1 and match the
transaction. Non-extension of the said benefit would appear to be contradictory
to the principles of matching laid down under the Act itself.

Another important aspect is that the
Circular clarifies that maximum ITC to be claimed shall be 20% of the eligible
ITC appearing in 2A. Even this clarification may present practical challenges
to the RTP since it may not be possible to identify the eligibility of credits
appearing in 2A merely based on the name of the vendor. While there may be
specific vendors who are identified as making supplies not eligible for ITC, in
other cases it may not be possible to easily comply with the said requirement.

Issue 3: Accounting and disclosure
implications

The next issue
that needs consideration is the manner in which the disclosure of credit needs
to be done in view of Rule 36(4). There are two different methods which can be
considered for disclosure in 3B, one being to avail and reverse credit in the
same month in 3B, and the other being to avail credit only when the credit
appears in the 2A.

The first method is preferable. Let us
understand this with the help of an example. ARTP receives an invoice from his
vendor dated 1^st September, 2019. However, the said invoice is not
appearing in his 2A. Therefore, in the month of filing GSTR3B, he claims the
credit and reverses the same in view of the provisions of Rule 36(4). This
credit does not appear in his 2A till the time of GSTR3B for September, 2020.
However, on downloading fresh GSTR2A of 2019-20 on 21^st October,
2020, the invoice appears in GSTR2A. In this case a view can be taken that
since the RTP had availed and reversed the credit in compliance with Rule
36(4), once the invoice appears in his GSTR2A in future, he can reclaim the
same and the time limit imposed u/s 16(4) for
availing the credit would not apply since this would be in the nature of
re-claim.

However, this
can also be subject to dispute by the authorities on the ground that the
restriction u/r 36(4) is r.w.s. 16(1). Therefore credit was not available at
the first point and therefore, the action and availment of reversal of credit
is futile and the credit appearing in GSTR2A after the expiry of statutory time
limit would not be eligible by treating the same as re-credits.

Issue 4: Applicability of Rule 36(4) to Input
Service Distributor (ISD)

The next issue
that needs consideration is whether or not Rule 36(4) will be applicable to
ISD? This is because ISD itself per se does not avail credit, the
availment of credit takes place at the receiving unit. This is also evident on
perusal of the definition of ISD u/s 2 which provides that ISD shall mean an
office of the supplier of goods
or services, or both, which receives the tax invoice issued u/s 31 towards the
receipt of input services and issues a prescribed document for the purpose of distributing the credit.

In other words,
ISD does not avail the credit and therefore a view is possible that rule 36(4)
may not be applicable to ISD.

Issue 5: Maintaining details for reconciliation
purposes and responding to mismatch notices

Even before the
insertion of Rule 36(4), assessees have been receiving notices from the
Department for mismatch in credits appearing in GSTR3B vs. GSTR2A. Attempting
to respond to this notice is turning out to be extremely difficult for the
assessees primarily because figures of credit availed in GSTR3B / GSTR2A do not
match with GSTR3B actually filed or GSTR2A downloaded from the portal. This in
itself makes it difficult for an assessee to prepare the necessary
reconciliations. Also to be considered is the time factor playing a part in the
mismatch as discussed earlier.

Therefore, it
would be advisable that for credits claimed in each month, as stated in the
earlier paragraph also, the details should be segregated vis-à-vis the month of
invoice and cumulative data for invoice month-wise credit claimed in a
financial year should be prepared which should be compared with invoice date-wise
credit appearing in GSTR2A. One should also take note of the fact that GSTR2A
of the entire financial year should be downloaded each month since there is no
concept of locking of GSTR1 and therefore the GSTR2A of earlier periods can
keep on fluctuating.

CONCLUSION

The amendment by
way of insertion of Rule 36(4) is going to have its set of ramifications, with
impact on small suppliers opting for furnishing of GSTR1 on quarterly basis to
all taxpayers having to delay their claim of credit on account of non-compliance
by errant suppliers. This will also launch a flood of notices to taxpayers for
mismatch in figures reported in GSTR3B and GSTR2A.

Taxpayers will
have to be very careful in responding to the notices electronically, wherever
they appear on the portal, and manually if notices are not sent through the
GSTN portal. Failure to do so may also have its own set of ramifications,
ranging from ex parte orders to ad hoc confirmation of demands.
Perhaps, this will be a testing time for all, taxpayers as well as their
consultants to step up to the changing scenarios.

shailesh.kwebmaker

REAL ESTATE DEVELOPMENT – A ‘REAL’ CONUNDRUM

GST law has recently overhauled the entire taxation scheme of
real estate development activities. Amidst discussions over inclusion of real
estate in the GST fold, the 33rd GST Council made the following broad
announcements on real estate development activities:

a) GST to be levied at 5% on regular and 1% on
affordable housing (‘final taxes’), without any input tax credit (ITC).
Apartments up to 90 / 60 square metres in non-metro / metro cities having gross
sale value below Rs. 45,00,000 are considered as ‘affordable residential apartments’;

b) Tax on
development rights / TDR / JDA, lease premium, FSI (‘intermediate taxes’) are
to be exempted for apartments sold pre-completion, and taxable where apartments
are sold after completion, in other words, intermediate taxes would be payable
if final taxes are not applicable.

The
philosophy behind the recommendations was stated as follows:

“i. The
buyer of house gets a fair price and affordable housing gets very attractive
with GST @ 1%;

ii. Interest of the buyer / consumer gets
protected; ITC benefits not being passed to them shall become a non-issue;

iii.
Cash flow problem for the sector is addressed by exemption of GST on
development rights, long-term lease (premium), FSI, etc.;

iv.
Unutilised ITC, which used to become cost at the end of the project, gets
removed and should lead to better pricing;

v. Tax
structure and tax compliance becomes simpler for builders.”

In view of limitations in bringing
the said amendments through primary enactments, the 34^th GST Council
adopted the route of issuing notifications to give effect to the said
decisions. The modalities of the scheme were carried out by rate notifications
and other procedural amendments. The rate notifications are the subject matter
of discussion in this article:

Notification 3/2019 – CT(R): Beneficial rates for pure
and mixed residential real estate

CGST sections invoked – 9(1), 9(3), 9(4), 11(1), 15(5),
16(1), 148

Clause

Service description

Effective
tax rate¹

Conditions

3(i)

Affordable residential apartment in RREP² in new / ongoing projects³

NOTE 1

3(ia)

Regular residential apartment in RREP in new projects /
ongoing projects

3(ib)

Commercial apartments in RREP in new projects / ongoing
projects

3(ic)

Affordable residential apartment in REP in new projects /
ongoing projects

3(id)

Regular residential apartment in REP in new projects /
ongoing projects

3(ie)

Affordable residential housing under ongoing projects of
Govt.-specified housing schemes (such as JNNURM, PMAY, etc.) where higher
rate option exercised

NOTE 2

3(if)

All other construction services including commercial
apartments in REP; residential apartments for ongoing projects where option
to continue in old scheme is exercised

12%

3(va)

Works contract service for affordable residential apartments
of new / ongoing projects

12%

NOTE 3

____________________________________________________

1 These rates are aggregate GST rates after
considering the ad hoc land deduction of 33.33%

2 RREP represents a real estate project where
carpet area of commercial apartment is not more than 15%. An REP represents all
the other real estate projects as covered by the RERA law

3 Ongoing projects
represent those cases where commencement certificate has been issued prior to
01-04-2019, actual construction has commenced, the project has not received its
completion / occupancy certificate and at least one apartment has been booked
in such a project. New projects are those which commence after 01-04-2019

Note 1: Cumulative
conditions for the beneficial rate of 1% / 5%

i. The
taxes should only be paid in cash and not by ITC;

ii. ITC on goods and services has not been
availed except to the extent of the completed construction activity / supply as
specified in Annexure I / II of the notification. Adverse variance between
computed and availed ITC should be paid either by credit / cash. Favourable
variance permits the developer to take additional ITC to meet the shortfall;

iii. Landowner’s
area share⁴– Developer to pay the tax on constructed area and the
landowner would be entitled to ITC only against taxable supplies (i.e.,
pre-completion supplies);

___________________________________________________

4 Landowner
promoter is the person who transfers land / development rights / FSI to a
developer promoter against area share in the project

iv. 80/20
rule – 80% of input / input services (other than grant of development rights /
lease premium, FSI, etc., electricity, diesel / petrol, etc.) are from
registered persons. Shortfall is liable to tax @ 18% on reverse charge basis
(RCM). In case of cement, it is expected that the entire material is purchased
from registered persons and any shortfall on this front would be liable to tax
@ 28%. The tax liability on account of the shortfall of RCM would have to be
paid by the end of the quarter following the financial year. In case of cement,
the tax would have to be paid in the same month itself;

v. Project-wise
computations and accounts to be maintained to justify compliance of above
conditions. ITC not availed is required to be reported in the specified column
of GSTR-3B as being ineligible ITC.

Note 2: Conditions
for continuing with the regular rate of 8% / 12% for ongoing projects

i. It
is mandatory to exercise the option of continuing in old scheme within the
specified time limit of 10^thMay, 2019 (extended up to 20^th
May, 2019). Where the option is not exercised, the new rates / conditions would
automatically be considered as applicable.

Note 3: Conditions
to be satisfied by works contractor

i. Aggregate
carpet area of affordable residential apartments is more than 50% of the total
carpet area of all apartments.

ii. In
cases where the above threshold drops below 50%, the beneficial rate would be
denied and developer would have to repay the differential tax on reverse charge
basis

Notifications
4/2019 –CT(R): Exemption to intermediate taxes subject to RCM

CGST sections invoked – 9(1), 9(3), 9(4), 11(1), 15(5),
16(1), 148

Description of services

Amount

Conditions

Services by way of transfer of development rights / FSI on or
after 01-04-2019 for construction of residential apartments intended for sale
prior to completion of the project

Proportionate

Note 4

Upfront lease premium in respect of long-term lease of 30
years or more after 01-4-2019 for construction of residential apartments
intended for sale prior to completion of the project

Proportionate

Note 4: Cumulative
Conditions for the exemption

i. Exemption
would be limited to the proportionate residential carpet area of the project;

ii. Developer
would be liable to repay the tax under reverse charge on the proportionate
value of flats remaining unbooked as on date of issuance of completion
certificate. The tax payable is limited to 1% of value of unbooked affordable
and 5% of booked regular residential apartments, i.e., extent of final taxes
otherwise applicable prior to completion;

iii. The
above liability would be payable on the date of completion / first occupation
of the project, whichever
is earlier;

iv. Value
of the above services would be the fair market value of residential /
commercial area allotted to the transferor of development rights / FSI nearest
to date of allotment.

Notifications
5/2019 – CT(R): RCM of
intermediate taxes

CGST sections invoked – 9(3)

Description of services

Service provider (e.g.)

Service recipient

Services by way of transfer of development rights / FSI, etc.

Landowner

Developer

Upfront lease premium in respect of long-term lease or
periodic rent for construction

Development authority

Developer

Notifications 6/2019 – CT(R):
Special procedures for developers (Section 148): Developers receiving
development rights / long-term lease of land on or after 1^st April,
2019 would be granted ‘deferment’ of payment of RCM taxes up to issuance of
completion certificate or first occupation, whichever is earlier.

Notifications 7/2019 and 8/2019 –
CT(R) (Section 9(4), 15(5)): Enabling notifications for payment of RCM on
procurements from unregistered persons beyond the 80/20 rule. The notifications
also provide for RCM on procurement of all capital goods from unregistered
persons and such goods do not form part of the
80/20 rule.

KEY CONCEPTUAL CHALLENGES UNDER NEW SCHEME

Without going into the
constitutionality and / or the vires of the statute to tax real estate
transactions, including development rights / TDRs, FSI, lease premium, etc.,
the key conceptual issues under the new scheme have been discussed herein:

Issue 1 – Whether the real
estate notification(s) is a rate notification / exemption notification? If it
is a rate notification, is it permissible to place conditions in rate
notifications?

Unlike VAT / Excise / Service tax
laws where the base rates are statutorily fixed with exemption powers being
delegated to the Government, the GST law has delegated both the rate fixation
(u/s 9[1]) and exemption powers (u/s 11[1]) to the Government(s) which gives
rise to the confusion over the powers which are being invoked while prescribing
tax rates.

Rate fixation (commonly termed as
tariff / scheduled rate) is an absolute power u/s 9(1). The section requires
the Government to notify tax rates on all supplies with a cap of 40%. Once the
tariff rates are fixed, tax payers are bound by it with absolutely no
flexibility. Section 11(1) then permits the Government to grant exemptions (a)
wholly or partly; (b) in public interest; and (c) with or without conditions.
An exemption always presupposes a fixed base rate. Notifications under both
these sections have to be backed by recommendations from the GST Council.

In this context, the Supreme Court in
Associated Cement Company vs. State of India & others (2004) 7 SCC
642 had stated as follows:

The question of exemption arises
only when there is a liability. Exigibility to tax is not the same as liability
to pay tax. The former depends on charge created by the Statute and latter on
computation in accordance with the provisions of the Statute and rules framed
thereunder if any. It is to be noted that liability to pay tax chargeable under
Section 3 of the Act is different from quantification of tax payable on
assessment. Liability to pay tax and actual payment of tax are conceptually
different. But for the exemption the dealer would be required to pay tax in
terms of Section 3. In other words, exemption presupposes a liability. Unless
there is liability question of exemption does not arise. Liability arises in
terms of Section 3 and tax becomes payable at the rate as provided in Section
12. Section 11 deals with the point of levy and rate and concessional rate.

This decision implies that the
Governments ought to fix the base rate liability for the public at large and
then proceed to grant exemptions in specific circumstances. In GST, the rate
fixation powers are absolute powers with an upper cap of 40%. It appears that
the Governments have thoroughly mixed both these distinct and independent
powers and notifications are issued for effective rates without any base rate
fixation. If one were to examine the GST Council discussions until 1^st
July, 2017, the agenda of rate fixation culminated into the said rate slabs –
5%(necessities), 12% (processed commodities), 18% (standard commodities and
services), 28% (luxury products) and NIL rate. The entire exercise of rate
fixation by the fitment committee after the 14^th Council meeting
also categorised the rates into the above five rates only. In respect of
services, rates were fixed for taxable services keeping in mind the erstwhile
service tax rates and with majority of the service tax exemptions being
adopted. Therefore, the consensus over services was to tax them at a base rate
of 18% with concessions being given for specific categories.

Let’s take a look at the
notifications issued at the inception of GST which define the rate / exemption
structure:
N– 01/2017 fixed rates for goods u/s 9(1) – this contained a basket of four
rates, i.e., 5% / 12% / 18% and 28%;
N–02/2017 exempted goods u/s 11(1) containing all the NIL rated goods; N–11/2017
was issued u/s 9(1) and 11(1) providing service tax rates between 5%-28% – each
four-digit SAC classification (adopted from the internationally-accepted
standards) was assigned a single rate and in case there were multiple rates
under a single four-digit SAC, the SAC generally contained a residual category
with 18% rate; and N–12/2017 was issued u/s 11(1) exempting services with or
without conditions. The above actions of the GST Council and Governments convey
that services generally had a base rate of 18% and goods had a base rate under
five categories as proposed by the fitment committee.

However, the legal process adopted by
the Governments over rate fixation poses a serious question over all
notifications and in particular the subject real estate notifications which
have prescribed rates and corresponding conditions. The real estate
notification contains various conditions w.r.t. input tax credit, RCM payment,
landowner terms, etc. Placing conditions in rate notifications is clearly not
permissible u/s 9(1). Though the notification also spells out section 11(1) as
its source of power, the above verdict of the Supreme Court presupposing a base
rate liability would come into play. Consequently, ‘conditions’ under the real
estate notifications may be read down as beyond statutory powers.

The alternative view would be that
the Government(s) being the custodian of both powers can choose to combine the
powers and notify the effective tax rates rather than duplicating the process.
While this is certainly alien to indirect tax legislation, it is a possible
view that can be adopted to validate the actions of the Council /
Government(s). In such a scenario, the residuary entry specifying the peak rate
under each service heading could be termed as a base rate, i.e., cases where
the conditions of the specific entry are violated, one may be relegated to the
residuary entry.

Issue 2 – Whether the new real
estate scheme is optional / mandatory?

The new scheme with drastic reduction
in tax rates appears to be highly beneficial from a customer’s standpoint but
raises cost arithmetic of the developer (due to ITC restrictions) requiring a
change in the base price to consumers. This mathematical problem poses a
question whether this new scheme is mandatory at all.

The GST Council and press releases
suggest that the new scheme is mandatory for all new projects and ongoing
projects where the option to continue under the old scheme is not exercised.
The original entry has been completely substituted with this new entry and the
residuary entry specifically excludes services specified in the table from its
ambit.

The issue is also inter-linked with
the fundamental issue of whether N–03/2019 is a ‘rate notification’ or an
‘exemption notification’. It is settled law by the Supreme Court that rate
specifications are mandatory and conditional exemptions are optional.

A cursory view of N–03/2019 clearly
depicts that the notification emerges from ‘public interest’ (refer press
release), contains conditions for availment and has limited its applicability
based on certain parameters (such as flat area, REP conditions, project start
date, etc.). Though both section 9(1) and 11(1) have been invoked, Governments
would certainly be placed in a tricky situation while defending the real estate
rates as being a compulsory levy (as a tariff) or an optional levy (as an
exemption). Where it is contended that the levy is compulsory, all conditions
(such as ITC, RCM, etc.) then stand as a violation of section 9(1) and where it
is contended that the said notification is an exemption with prescriptive
conditions, the notification would be treated as optional.

The implication of treating the entry
as being an exemption also raises a parallel question over the base rate. The
answer to this may probably lie in the residual entry (clause xii) which taxes
services at 18% if not classified elsewhere (though the explanation bars
classification for all the aforesaid real estate entries).

Issue 3 – Can a notification
take away validly availed ITC on transition?

N–03/2019-CT(R) requires the
developer to re-state the ITC balance as on 1^st April, 2019 for new
and on-going projects under the beneficial rate scheme based on futuristic
arithmetical formulation. Annexure I and II of the said notification specify
the ITC to be retained / repaid based on an extrapolatory formula once the
beneficial rates are availed. The intent is to deny dual benefit of low tax
rate and ITC during the transitory phase, especially where percentage of
construction and percentage billing are at variance.

In
simple terminology, the formula attempts to extrapolate the actual ITC availed
on inputs or input services (whether utilised or not) up to 31^st
March, 2019 to a statistical number until project completion. This is then
proportionately reduced for residential or commercial apartments booked prior
to 1^st April, 2019 to the extent of instalments collected from such
apartment buyers. For example, Rs. 10 ITC on a project which is 10% complete is
extrapolated to 100 and then attributed to the value of advances for booked
apartments until 1^st April, 2019 for which tax would have been
payable at the original rates. Assuming 20% flats are booked as on 1^stApril,
2019 and 25% of the advance has been collected, the restated ITC would be Rs. 5
(100*20%*25%). Since the developer has already availed Rs. 10, the balance Rs.
5 becomes repayable as excess ITC availed. If there is a shortfall, the
developer becomes entitled to take additional ITC to the extent of the
shortfall. In effect, ITC would be available only to the extent of value of
supply taxed at rate 8% / 12%.

The said formulation is based on
multiple statistical assumptions:

a) Uniformity in ITC availment during the tenure
of the project;

b) Similarity in the schedule of advance
payments from customers;

c) Consistency on the pattern of construction by developer;

d) Correlating percentage of invoicing with
percentage of construction completion;

e) Accuracy of total project costs, etc.

In a transaction-based levy, has the
Government been empowered to restrict ITC based on statistical results? Is it
also empowered to retroactively reverse ITC rightfully availed and / or
utilised? The answer may probably be NO. The Supreme Court in various instances
has held that ITC rightly availed in compliance with statutory provisions on
the date of availment is as good as ‘tax paid’. It is an absolute right which
cannot be withdrawn, more so by delegated legislations. The Supreme Court has
also stated that ITC is a benefit / concession and hence statutory conditions
need to be strictly complied with.

The notifications have been issued
drawing powers from section 11(1) which permits prescription of certain
conditions for complete or partial exemptions. Explanation 4(iv) to the
notification requires that ITC is reversed as a condition to the availment of
the exemption. This seems to be the apparent source of power for the
Government.

But, section 17(1) and (2) specify
reversal of ITC only in cases of wholly exempt supplies and does not extend to
partially exempt supplies. The section also does not envisage any delegation of
powers for restricting ITC. Section 16-18 permits reversals of validly availed
ITC to the electronic credit ledger only through statutory provisions. However,
the notification requires reversal of ITC of both availed and utilised ITC. The
notification fails to appreciate that attribution of an input invoice
(especially services) to a taxable / exempt activity can be performed only at
the time of its availment and once the credit is rightfully availed, it loses
its original identity. Therefore any attempt to trace a credit after availment
/ utilisation to a taxable / exempt activity for purpose of reversal in
computations would be a futile and inaccurate exercise.

Another issue in this condition is
whether this reversal is ‘person specific’, ‘project specific’ and / or ‘period
specific’. While the notification says that the accounts are to be maintained
project-wise, the computation mechanism gives mixed views – for example, where
a project is taken over by a new developer, would the incoming developer have
access to this 80/20 criterion from project inception or from its take-over?
The formula certainly does not capture this scenario. What happens where there
is a shortfall in the 80/20 rule in initial years (due to sand / jelly
purchase) and sufficiently complied when viewed from a project level at its
finishing stages? The notification suggests that each year is independent on
this front. The press release states that the calculation has to be performed
project-wise and year-wise.

On the other hand, there is an
attempt (through amendments in Rule 42) to reverse credit based on ‘carpet
area’, a clear departure from the requirement of section 17 which specifies
‘value’-based computations. Rule 42 goes on to require reversal right from the
commencement of the project without considering the year of availment of the
credit. This clearly disturbs the uniform law that ITC is final by the end of
the September returns following the financial year closure. Real estate
projects which face delays crossing more than five years would be saddled with
the task of going back to the origin of the project. Thus, one school of
thought clearly raises red flags over the vires of the notification to
prescribe reversal of ITC from multiple fronts.

The other conservative school of
thought would be that real estate notifications are more akin to exemption
notifications and the powers of conditional exemptions are wide enough to
provide substantive and procedural conditions, and this would cover ITC
restrictions in any form even though not empowered under the ITC provisions.
Being an optional notification and having opted for the exemption, one may have
to strictly abide by the conditions of exemption or otherwise continue paying
tax at the higher rate.

Issue 4 – Whether imposition of
RCM under 80/20 procurement rules, booked / unbooked apartment ratio rule,
i.e., on future contingencies, is a sustainable legal condition?

80/20
procurement rule

N–07/2019 imposes RCM on the
developer where the procurements of the project from registered persons fall below
80%. Tax is to be paid at 18% on the shortfall on reverse charge basis except
for cement which is taxable at 28%. There is a requirement of apportionment of
credit exclusively to commercial segment at standard rate, commercial segment
at beneficial rate, residential segment at beneficial rate, common credits and
then test the same at the project level. This condition has certain
shortcomings:

a. This
condition is based on an outcome which may be known only at the end of the
financial year;

b. In
a transaction levy regime where ‘supply’ has to be identified, it appears to
defeat the basic cannon of taxation of identifying the subject of levy;

c. The
notification imposes a tax on an ad hoc figure @ 18% which clearly runs
contrary to the requirements of section 9(3)/9(4). These sections envisage only
a ‘supply / transaction’-based RCM levy and not a result-based RCM levy;

d. One
would not be in a position to raise the self-invoice on RCM transactions of
9(4) under 80/20 rule.

Unbooked
apartment RCM rule

N–04 and 05/2019 impose RCM on
intermediate transactions to the extent of unbooked residential apartments at
the end of the project. This is on the premise that unbooked completed
apartments are outside the ambit of GST. The tax payable is determined based on
carpet area ratios of booked / unbooked apartments, a ratio completely foreign
to GST law. Such ratios also deviate from the economic value-add of a service
and result in disparity in the cost burden to end-customers on the basis of
carpet area ignoring commercial value. Moreover, it appears to be a back-door
entry to tax completed apartments also evident from the cap fixed to that of
underconstruction apartments.

The
fundamental rule of taxation is that there should be certainty on the subject,
time and measure of levy. The Supreme Court in Govind Saran Ganga Saran
vs. Commissioner of Sales Tax and Ors (1985 AIR 1041) held that the
components which enter into the concept of a tax are well known. The first is
the character of the imposition known by its nature which prescribes the
taxable event attracting the levy, the second is a clear indication of the
person on whom the levy is imposed and who is obliged to pay the tax, the third
is the rate at which the tax is imposed, and the fourth is the measure or value
to which the rate will be applied for computing the tax liability. If these
components are not clearly and definitely ascertainable, it is difficult to say
that the levy exists in point of law. Any uncertainty or vagueness in the
legislative scheme defining any of those components of the levy will be fatal
to its validity. These futuristic conditions appear to make the levy uncertain
and vulnerable to challenge.

Issue 5 – Notification grants
benefit to ‘A’ by fulfilment of conditions by ‘B’?

The notification distinctly has
scenarios where benefit to one is subject to the actions of another. This is
absurd

Instance 1: N–03/2019 grants
beneficial works contract rate for affordable housing projects to contractors
subject to fulfilment of the minimum 50% carpet area by the developer. The
exemption is topped with a condition that any shortfall in area would result in
withdrawal of exemption by way of an RCM payment by the developer. Moreover,
the notification 7/8-2019 does not back this levy with an amendment in the RCM
table u/s 9(3).

Instance 2: N–03/2019 grants
beneficial rates to developer provided landowner discharges all the taxes on
his share of apartments sold prior to completion and reversal of ITC on
unbooked apartments. Non-fulfilment of conditions by the landowner on his share
may adversely affect the availment of beneficial rate.

The above conditions of the
notification would necessarily have to be whittled down suitably for its
sustenance.

Issue 6 – Whether condition of
prohibiting tax payment through credit is within the vires of tax
discharge?

N–03/2019 mandatorily directs the
developer to discharge all beneficial rate taxes only through cash. This rule
emerged from discussions in the GST Council that developers are discharging
only 1-5% of their output through cash ledgers. With this assumption, the
Council decided that the new scheme debarring availing of input tax credit
should not result in any credit balance and hence payments should be directed
to be made through cash ledgers only. This runs contrary to the mandate of
section 49(4) which permits rightful electronic credit ledger balance to be
used for payment of any output taxes. Input tax credit is as good as tax paid
and differential treatment to this would defeat this value-added tax scheme.
Developers having input tax credit balance would be left with a dead number if
it is not permitted to be utilised against output taxes. For a developer
engaged only in construction activity, this condition effectively lapses the
input tax credit balance accumulated over the years of operation of the
company.

Issue 7 – What would be the
implication in case of change in any variable of the real estate project (such
as cancellation of flat, valuation of affordable flat, change in project
composition, cancellation of project, etc.)?

The
real estate notification has set up a complex matrix based on project variables
such as apartment dimensions, residential to commercial composition, pre- and
post-1^stApril, 2019 flat inventory, etc. For example, a new
commercial plan may emerge in the third year of the project reclassifying the
project from an RREP to an REP. This changes the entire dynamics of rate
structure and transitional ITC working right from 1^stApril, 2019.
Another example could be a flat previously treated as booked and WIP as on 1^st
April, 2019 is subsequently cancelled. Clause 22 of the real estate FAQ
provides some guidance on this matter but this has multi-faceted implications
on RCM, ITC, etc. The notification does not provide for any claw back of
previous workings. The developer would fall into a situation where the entire
cost structure is impacted and the burden of additional taxes cannot be
recovered from any one. Once again, the Supreme Court’s verdict in Govind
Saran Ganga Saran (supra) may come to the rescue of the tax payers.

The above complexities are just the
tip of the iceberg. The real estate notifications have been intermingled with
the RERA law which is itself in an adolescent stage – any ambiguity will have
repercussions on tax computations, making it difficult for managements to take
decisions. The functioning of this entire scheme through exemption
notifications makes matters very complex. A tax payer who is denied exemption
on certain facts on a future date would be placed in severe hardship as there
is no mechanism to undo all compliances ancillary to the exemption and
reinstate it to the base rate scenario. A fundamental question also lingers
whether this is interfering with fundamental rights in taking business
decisions?

The real estate sector needs to be boosted and
this can take place only with simple laws and tighter monitoring. The
philosophy of the GST Council to simplify real estate tax structure has
evidently taken a back seat. This would be an opportune moment to remember what
Sir Winston Churchill had said: ‘We contend that for a nation to try to tax
itself into prosperity is like a man standing in a bucket and trying to lift
himself up by the handle.’

shailesh.kwebmaker

AN ASSESSMENT OF ASSESSMENT PROVISIONS

Tax
laws are structured on three key pillars – levy, assessment and collection.
Assessment is the link between levy and collection of taxes. Assessment
provisions under indirect tax laws, especially excise law, have evolved from
the era of officer control and assessment to self-assessment.

With
its introduction in 2017, GST law is now about to change gears and enter the
phase of ‘Assessments’. This phase operates as a litmus test over the extent of
percolation of the law into the system both at the Government’s and the tax
payer’s end. Tax payers are about to experience challenges on the front of
assessments, audits and adjudications and this article examines some of the
issues involved.

ASSESSMENT – AUDIT – ADJUDICATION

Though
the above terms are used inter-changeably, they represent distinct activities
in any legal enforcement. The GST law has made specific provisions towards each
of these aspects under its machinery provisions, i.e., Chapter XII –
Assessment; Chapter XIII – Audit; and Chapter XV – Demands & Recovery.

Assessment
has been defined u/s. 2(11) as any ‘determination of tax liability’. Advanced
Law lexicon explains assessment as ‘determination of rate or amount of
something such as tax, damages, imposition of something such as tax or fine
according to an established rate’.

Audit
u/s. 2(13) involves an elaborate exercise of examination of records, returns
and other documents maintained to verify correctness of taxes paid / refunded
and assess compliance under the Act.

Adjudication
has not been defined but the term ‘Adjudication authority’ has been defined as
an authority that ‘passes any order or decision under the Act’. Advanced
Law lexicon explains adjudication as the process of ‘trying and determining
a case judicially’.

Assessment
essentially means computation of the taxes under the law. Audit, on the other
hand, is a special procedure involving desk and / or on-site review of records.
Adjudication involves a judicious process of deciding the questions of law
which emerge from the assessment and audit processes. Assessment and audit are
the processes which lead to the adjudication function and these three functions
come under the overall umbrella of ‘Assessment’ in a tax law.

ASSESSMENT SCHEME

Chapter
XII of the GST law provides for specific instances where an assessment would be
performed:

Type (Section)

Scenarios

Outer
time-limit

Self-assessment (59)

Assessment of the tax dues by the
assessee himself through returns in GSTR-3B & 1

Due dates of filing return

Provisional assessment (60)

Assessment by the officer on specific
request by the assessee in cases of difficulty in ascertainment of the tax
liability

Six months (extendable to 4 years) from application

Scrutiny assessment (61)

Scrutiny of the data reported in returns
on a frequent basis for any visible discrepancies culminating into a demand
u/s. 73 or 74

Within 3 / 5 years from due date of annual return

Assessment of non-filers (62)

Best judgement assessment in case of
non-filing of returns within prescribed time limits

5 years from due date of annual return

Assessment of unregistered persons (63)

Best judgement assessment in case of
unregistered persons which are required to be registered

5 years from due date of annual return

Summary assessment (64)

Assessment in order to protect interest
of Revenue and culminating into a demand u/s. 73 or 74

Within 3 / 5 years from due date of annual return

Any
assessment initiated under these sections would have to meet the prerequisites
of the section and the authority would have to operate within the confines of
these sections while exercising its powers. For example, scrutiny assessment of
the returns u/s. 61 can be initiated only to verify the correctness of the
returns filed and examine the discrepancies noticed therein. The assessing
authority is under an obligation to provide the reasons for invoking section 61
and such reasons should emerge from the returns filed for the period under
consideration. It cannot be initiated for conducting a detailed audit of the
books of accounts of the assessee. Such powers rest within the domain of
sections 65 and 66 only. Similarly, an assessing authority can invoke section
62 only for the months for which the returns are not filed and cannot spread
the assessment for other periods.

Further,
the provisions only provide the circumstances under which assessments can be
initiated. The provisions are not a complete code for enforcement of the demand
and its recovery. Once the assessments are duly initiated and the examination
of records report a discrepancy, the officer would have to enter adjudication
provisions u/s. 73 / 74 for the recovery of tax dues. Where the officer
concludes that the taxes are duly reported and paid, adjudication need not be
invoked and an assessment order confirming the conclusions would be sufficient.

AUDIT SCHEME

Chapter
XIII provides for conducting a regular audit (65) or a special audit (66).
Going by earlier experience where audit provisions in the rules were
challenged, the legislature has introduced these powers in the main enactment
itself allaying any doubts over the jurisdiction to conduct audits. There is no
time limit to conduct an audit of an assessee. However, any demands arising
from these audits would have to follow the process u/s. 73 and 74 which have an
outer time limit of 3 and 5 years, respectively. The key features of regular
and special audit are as follows:

Regular Audit (65)

Special Audit (66)

Performed by authorised officers either on periodical or
selection basis

Performed by appointed chartered accountants / cost
accountants at the specific instance of the Revenue officer on selection
basis only

Audit can be a desk review or an on-site review

Audit would generally be performed on-site

Audit report would record the findings of any tax short
payment / non-payment

Audit report would address specific points defined in the
scope of the audit for further action by the Revenue officers

Proceedings u/s. 73 / 74 would be initiated in case of any
demand

Initiated before any adjudication proceeding

Can be initiated during adjudication proceedings

While
powers of audit are much wider in scope in comparison with assessment
provisions, they, too, are not unfettered powers. Audit officers cannot, in the
garb of audit, perform an inspection of the assessee’s premises. The audit
officers would have to restrict themselves to the transactions recorded in the
books of accounts and their conformity with the returns filed. For example, an
audit officer visiting the premises cannot perform a physical verification of
the stocks and its comparison with books of accounts; an officer cannot perform
seizure of stocks, records, etc., and does not possess powers equivalent to the
Cr.P.C., 1973 which are conferred upon inspecting officers. Where such
discrepancies are identified, the audit officer can at the most report the same
internally for necessary action by the empowered officers. Like assessment
provisions, where the audit officers conclude that demand of taxes has arisen,
it would have to initiate proceedings u/s. 73 or 74 as appropriate.

ADJUDICATION SCHEME

It
is evident that any assessment / audit (except section 62 / 63) involving a
demand would culminate into an adjudication proceeding u/s. 73 or 74. The said
sections provide for issuance of a show cause notice proposing a demand and are
followed by an adjudication proceeding over the issue involved. The section can
be invoked under the following instances as tabulated below:

Instances

Explanation

Examples

Tax not paid or short paid

Output taxes which are legally payable are not paid wholly or
partly

Sale of fixed asset not offered to output tax, etc.

Tax erroneously refunded

Refund sanctioned but on incorrect grounds u/s. 54

Refund in excess of the prescribed formula, etc.

Input tax credit wrongly availed

Credit availed on inputs / input services or capital goods
which are specifically blocked or not available u/s. 16-18

Credit on motor vehicles, rent a cab, etc.

Input tax credit wrongly utilised

Credit rightly availed but utilised incorrectly against
output taxes in terms of section 49

CGST credit utilised for SGST output, etc.

The
key features of sections 73 and 74 are as follows:

While section 73 covers cases where the
reasons for non-payment are bona fide, section 74 can be invoked where
the reasons are on account of fraud, wilful misstatement, and / or suppression
of facts to evade tax payment (fraud cases).

The person from whom such amounts appear to
be recoverable should be put to notice (popularly called show cause notice) as
to why said amounts are not recoverable from him along with interest or
penalty. The adjudication officer has to make out a case in the SCN and offer
the assessee the opportunity to defend itself against the facts and law laid
down before it.

Once the proceedings are initiated, they are
subjected to an outer time limit of 5 years (extended period in fraud cases)
and 3 years (normal period in bona fide cases) for its completion. The
proper officer should initiate the proceedings at least 3 months (6 months in
fraud cases) prior to the time limit for completion of adjudication. The said
time limit is to be calculated from the due date of filing annual return or
date of erroneous refund.

As a dispute resolution measure, the
assessee is provided an option to pay the complete tax and interest (penalty of
15% in fraud cases) before the issuance of the SCN on the basis of its own
ascertainment or the ascertainment of the proper officer. As a second level of
dispute resolution, the assessee is also provided the option to pay the
complete tax and interest (penalty of 25% in fraud cases) within 30 days of the
issuance of the SCN.

Once an SCN is issued for an initial period,
a detailed SCN for a subsequent period need not be issued. A statement
computing taxes payable would be deemed to be an SCN, provided the grounds are
identical to the initial period. Section 74(3) provides that the allegation of
fraud cannot be made in periodical SCNs for subsequent periods.

The proper officer would determine the tax,
interest and penalty (10% in bona fide cases, 100% in fraud cases) by
way of an adjudication order. Where the assessee waives its right of appeal and
pays the tax, interest and penalty (of 50%), the proceedings are deemed to be
concluded.

The above scheme is substantially
similar to section 11A of the Central Excise Act and section 73 of the Finance
Act. The critical difference is with respect to time limitation. While the
erstwhile laws provided for a time limit of initiation of adjudication
proceedings and no outer time limit for its completion, the GST law provides
for the time limit over the conclusion of the said proceedings. The
adjudication proceedings are deemed to be concluded where the order is not
issued within 3 / 5 years.

The
other critical difference is with respect to recovery of erroneous input tax
credit which was contained in rule 14 of the erstwhile rules. Consequent to
inclusion of input tax credit provisions in the Act itself, sections 73 / 74
provide for recovery of input tax credits wrongly availed / utilised. Input tax
credit which has been wrongly availed and not utilised is also recoverable from
the assessee. Whether interest is applicable on such recovery is a different
aspect and needs to be viewed u/s. 50.

OTHER MISCELLANEOUS ADJUDICATION PROVISIONS (SECTION 75)

The
law-makers have scripted many settled legislative principles in this provision.
Most of the provisions have their roots in settled principles of natural
justice, fairness, double jeopardy, speaking orders, etc.

The computation of limitation of 3 / 5 years
is subject to any stay over proceedings by any Court / Tribunal and the period
of stay would stand excluded for such computation. A new provision has been
inserted which extends the period for subsequent years where the Revenue is
under appeal on a similar issue before an appellate forum. The purpose of this
insertion was to enable the tax authority to transfer matters to a ‘call book’
maintained as a practice in the erstwhile regime and keep them pending until
disposal of the appeal. It is unclear whether the specific issue would be kept
pending or all proceedings, including other issues which are not under appeal,
would be subjected to this extension. Cross objections filed by the Revenue are
equivalent to cross appeals and hence can extend the period of limitation.

In cases where the appellate authority or
Tribunal or Court concludes that the grounds on fraud are not sustainable, the
proceedings would continue to be valid for the normal period (of 3 years)
despite such conclusion. Demand for the normal period would have to be adjudged
on its merits in spite of the SCN being set aside for the extended period.

The decision of the adjudicating authority
should confine itself to the grounds specified in the SCN and should not be in
excess of the amounts specified in the notice. The officer is required to pass
a speaking order detailing the facts and provisions leading to the conclusion.

Personal hearing is required to be granted
in case it is specifically requested or the decision contemplated is adverse.
Adjournments are allowed to be granted up to a maximum of three hearings.
Courts have frowned upon the practice of officers providing three alternative
dates for personal hearing in the same notice.

Taxes self-assessed and reported in the
returns remaining unpaid would be recovered without issuance of any SCN in
terms of section 79.

Interest on tax short paid or not paid would
be payable irrespective of whether the same is specified in the adjudication
order.

In cases where penalty is imposed u/s. 73 /
74, no other penalty can be imposed on the same assessee under any other
provision.

In case of any remand or direction by
appellate forums to issue an order, such orders are required to be issued
within 2 years from the communication of such direction.

PRINCIPLES ON ISSUANCE OF SCN

An
SCN is the first step taken by the Revenue to recover any tax demands. It is
the basic and most crucial document in the entire adjudication process. Certain
settled principles of adjudication under the Excise and Service Tax law would
have applicability even under the GST regime:

Issue of a show cause notice is condition
precedent to a demand proceeding. The Supreme Court in various instances held
that any demand can be confirmed only by way of an issuance of a show cause
notice [Gokak Patel Volkart Limited vs. CCE 1987 28 ELT 53 (SC)].
This principle would continue to hold good even under the GST scheme as the
assessment and audit provisions direct that any demand should be recovered
through the mechanism u/s. 73 / 74.

A mere letter of communication cannot be
equated to a show cause notice. The show cause notice should specify the
allegations and the basis for it to be sustainable under law [Metal
Forgings vs. UOI 2002 146 ELT 241 (SC)]. Prejudged SCNs have been
struck down by the Courts as being tainted with bias.

An SCN must contain all the essential
details and relied-upon documents. A show cause is the foundation of the entire
proceeding and the allegations should be clear and supported legally [CCE
vs. Brindavan Beverages (P) Ltd. 2007 213 ELT 487 (SC)].

SCNs on assumptions / presumptions, without
any material evidence and based only on inferences, are not valid in law [Oudh
Sugar Mills Ltd. vs. UOI 1978 2 ELT J172 (SC)].

Show cause notices issued under a wrong
section cannot be invalidated as long as the powers of the SCN are traceable to
the statute [BSE Brokers Forum vs. SEBI 2001 AIR SCW 628 (SC)].

Corrigenda issued to the SCN are valid as long
as they rectify apparent mistakes in the notice and do not enlarge its scope [CCE
vs. SAIL 2008 225 ELT A130 (SC)]. However, the corrigenda can be issued
any time before completion of the adjudication proceeding and may not be bound
by the time limit.

PRINCIPLES FOR DIFFERENTIATING FRAUD AND NON-FRAUD CASES

Wilful
Misstatement, Suppression and Fraud

These
terms have been a matter of considerable litigation since failure of the
Revenue to meet the situations contemplated under these terms invalidated the
entire proceedings irrespective of the merits of the case. While Revenue has
applied these terms mechanically, the assessee has banked upon these terms to
defendits case.

In
Cosmic Dye Chemicals vs. CCE (1995) 75 ELT 721 (SC), the
Supreme Court explained these terms as follows:

Fraud
and collusion – as far as fraud or collusion are concerned, it is evident that
intent to evade duty is built into these very words.

Misstatement
or suppression – so far as misstatement or suppression of facts are concerned,
they are clearly qualified by the word wilful, preceding the words misstatement
or suppression of facts, which mean intent to evade duty.

The
Supreme Court in CCE vs. Chemphar Drugs & Liniments 1989 (40) ELT 276
(SC) observed that fraud, etc., is essentially a question of fact
emerging from a positive act. Non-declaration of any information in the returns
without any deliberate intention does not amount to suppression. Similarly, the
Supreme Court in Padmini Products vs. CCE 1989 (43) ELT 795 (SC)
held that mere inaction or non-reporting does not amount to suppression of
facts.

Suppression
has now been defined in Explanation 2 to section 74 which states that any
failure to report facts or information required to be disclosed in returns,
statements or reports would amount to suppression of facts. This definition has
implicitly removed the requirement that suppression should be wilful and
consequently any failure to report required information would amount to
suppression. However, if one observes section 74, suppression should be
accompanied with intention to evade payment of tax and it appears that despite
its open-ended definition, Revenue has to still establish tax evasion in cases
of suppression.

In
Tamil Nadu Housing Board vs. CCE 1991 (74) ELT 9 (SC), the
Court stated that an intention to evade would be present only in cases where
the assessee has deliberately avoided the tax payment. Cases involving
ambiguity in law or multiple interpretations in laws were not cases of tax
evasion.

The
burden of proof that circumstances of the case warrant invocation of extended
period of limitation is on the Revenue and these circumstances should be
discernible from the records of proceedings against the assessee.

PRINCIPLES IN ADJUDICATION

Adjudicating
officers are quasi judicial officers and have to follow settled legal
disciplines in the process of adjudication. Some of the principles to be
followed are:

Res judicata – the Latin term res
judicata means a thing which is already adjudged, has attained finality and
cannot be reconsidered. Since each tax period is different, the said principle
does not apply directly across tax periods unless underlying assumptions like
law and facts remain the same.

Adjudicating authorities are creatures of
statute and hence vires of a section or entire Act itself cannot be put
to question before such authority. These questions can only be placed before
the High Court under its Writ jurisdiction.

Adjudicating authorities would have to act
on fairness and such proceedings cannot be impaired by instructions, directions
or clarifications from senior officers.

The authorities are bound by the principle
of judicial discipline and should either follow or clearly distinguish
decisions of higher appellate forums while adjudging a matter.

The officer who has heard the assessee
should only pass the order. An incoming officer would have to conduct fresh
hearings prior to passing any order.

Questions on jurisdiction to issue the
notice, order or communication should be made at the first available instance.
In terms of section 160(1) no person can question the proceedings at a later
stage if he / she has acted upon such notice, order or communication.

FIXATION OF MONETARY LIMITS FOR ADJUDICATION

CBEC
in its Circular No. 31/05/2018-GST dated 09.02.2018 has prescribed monetary
limits for optimal distribution of work relating to issuance of SCNs. The following table provides the monetary
limits for adjudication:

Sl. No.

Officer of Central Tax

CGST Limit

IGST Limit

Superintendent

Up to Rs. 10 lakhs

Rs. 20 lakhs

Dy / Asst. Commissioner

Rs. 10 lakhs –
Rs. 1 crore

Rs. 20 lakhs –
Rs. 2 crores

Addln / Jt Commissioner

Above Rs. 1 crore

Above Rs. 2 crores

The
Supreme Court in Pahwa Chemicals (P) Ltd. vs. CCE – 2005 (181) ELT 339
(SC), held that administrative directions of the board
allocating different works to various classes of officers cannot cut down the
jurisdiction vested in them by statute and may be followed by them at best as a
matter of propriety. Issuance of SCN or adjudication contrary to such
directions cannot be set aside for want of jurisdiction, especially as no
prejudice is caused thereby to assessee.

CRITICAL MATTERS IN ADJUDICATION (SECTIONS 73 AND 74)

A) Whether reversal of input tax credit is
recoverable u/s. 73 and 74?

As
the recovery provisions are limited to four scenarios, any recovery outside the
scope of the above terms is without any authority. The Supreme Court in CCE
vs. Raghuvar (India) Ltd. 2000 (118) E.L.T. 311 (S.C.) held that
section 11A is not an omnibus provision to cover any and every action to be
taken under the Act. The said section will apply only when the circumstances
specified therein are triggered.

A
typical example would be the case of reversal of common input tax credit
required in terms of section 17(1)/(2). Strictly speaking, provisions of
section 17(1)/(2) do not place a bar on availing input tax credit. Instead,
these provisions provide for a reversal of input tax credit in excess of what
is attributable to taxable supplies. Non-reversal does not amount to input tax
credits ‘wrongly availed’ or ‘wrongly utilised’. Hence there could be a
challenge on whether the Revenue has powers to invoke sections 73 / 74 to
recover input tax credit reversals under the said provisions. In the context of
Rule 57CC (parallel to Rule 6 of Cenvat Credit Rules and Rule 42 / 43 of GST
rules) which governed common inputs, the Tribunal in Pushpaman Forgings
vs. CCE Mumbai 2002 (149) E.L.T. 490 (Tri.-Mumbai)¹ held that payment of an amount is NOT ‘duty
or credit’ and in the absence of a specific provision to recover the same, the
proceedings are invalid.

B) Whether reversal of transition credit is
recoverable u/s. 73 and 74?

The primary challenge for invoking
sections 73 and 74 for recovery of transition credit arises on account of the
definition of input tax credit u/s. 2(62) r/w 2(63) of the CGST Act. Recovery
of transitional credit could be on account of two reasons, (a) not meeting
erstwhile law conditions (e.g. not an input service, input or capital goods in
terms of Cenvat Rules, etc); and / or (b) not meeting transitional conditions
(e.g. not eligible duties defined under GST, first time credits to traders,
etc). There should be no doubt on the recovery of the former as the
non-compliance emerges under the Cenvat Rules and hence is governed by recovery
provisions of the said rules which are saved under the GST law. Once the said
amount is regularised under the erstwhile law, the transition claim stays
intact in terms of section 142. The latter, however, poses some challenge on
the recovery front.

Sections
73 / 74 can be invoked only for recovery of wrongfully availing / utilisation
of ‘input tax credit’. Input tax credit, by definition, is limited to the taxes
which are charged and paid under the IGST / CGST Acts only. The transition
provisions are a separate code by itself under Chapter XX and cannot be equated
to the input tax credit provisions under Chapter V. Transition credit is
directly credited to the electronic credit ledger and available towards discharge
of tax liabilities unlike input tax credits which have to pass the tests
prescribed in sections 17 and 18 of the GST law.

Now
Rule 121 of the transition provisions provides for recovery of such credit in
terms of sections 73 and 74 of the CGST Act. The parent provisions u/s. 140
delegate its powers to rules only for the limited purpose of prescribing the
manner of availing. The parent provisions do not authorise the Government to
prescribe the recovery provisions. Unlike the Cenvat Rules where availing of
input tax credit was itself in a delegated legislation, transitional credit is
contained in the enactment and cannot be recovered through a subordinate
legislation.

CBEC
Circular No. 42/16/2018-GST dated 13.04.2018 provides that Cenvat credit and erstwhile recovery of arrears of taxes
are recoverable as Central taxes in terms of section 142 of the CGST law. In
one case the Circular prescribes that one may invoke section 79 (such as
garnishee orders, etc.) for recovery, clearly bypassing the step of adjudication.
Circular 58/32/2018-GST dated 04.09.2018 has gone a step further and
stated that the same may be reversed as input tax credit while filing GSTR-3B.
The genesis of these conclusions appears to be hazy and the backdoor entry of
Rule 121 is open for challenge in the Courts.

C) Whether an SCN can be issued where taxes are
fully paid prior to its issuance?

Sections
73 / 74 state that an SCN would be issued where taxes are ‘not paid’ or ‘short
paid’. While section 73 provides for waiver of the penalty, there is no such
waiver in cases covered u/s. 74. In many cases, the assessee discharges the
taxes prior to issuance of the SCN and the taxes are completely paid on the
date of issuance of the SCN. We also observe from the said section that the
notice should specify why the amount specified is not ‘payable’. Section 73(7)
also specifies that in case of any short payment, the SCN should be issued only
to the extent of the short payment. All these provisions indicate that an SCN
cannot be issued where taxes are fully paid prior to its issuance.

Historically,
the Revenue officers would raise the SCN proposing a demand and provide for an
appropriation of the tax already paid by the assessee against the proposed
demand. This practice would keep the demand outstanding until the appropriation
at the time of conclusion of the adjudication proceedings. Whether a similar
practice can be continued given that the provisions are borrowed from the
Central Excise law is a matter of detailed examination.

D) Whether an SCN can be issued only towards
interest or penalty?

In
many cases, the assessee deposits the taxes but fails to compute the interest
on account of delayed payment of taxes. It has been held by various Courts that
interest is an automatic levy and does not require specific notice for its
recovery. Section 75(12) provides that in case of self-assessed tax, the amount
of interest remaining unpaid would be recoverable directly in terms of section
79 without issuance of a show cause notice. Therefore, there is no requirement
of any SCN proceeding to recover interest.

In
cases of fraud where taxes have been completely paid, the Revenue may invoke
adjudication proceedings u/s. 74 for recovery of penalty. As discussed above,
the said section provides only for four instances where the proceedings can be
initiated. It is only when the above conditions are satisfied that penalty can
be proposed against the assessee. Where taxes have been completely paid, none
of the four instances applies and there is a possibility to take a view that an
SCN cannot be issued merely for recovery of penalty. Whether the officer can
then directly invoke section 122(1) may be a matter of examination.

E) What happens where multiple issues are
involved and some issues fall in the fraudulent basket while others fall in the
non-fraudulent basket?

The
examination of a case falling u/s. 73 / 74 has to be performed for each issue
on hand and not in its entirety. There could occur circumstances where some
issues genuinely arise on account of interpretation of law and some issues on
account of evasive acts. The time limitation of 3 / 5 years would have to be
examined for each issue on hand depending on which basket they fall into. The
officer cannot paint all issues with one brush and apply the time limit of 5
years for the proceedings as a whole. Once the issues are segregated, the
proceedings would be governed by the respective sections.

F) Can parallel proceedings be conducted by two
officers either by Central / State workforce?

Section
6(2) of the GST law provides that any proceeding issued on a subject matter by
any officer would not be duplicated with another proceeding of an officer of
parallel rank. This provision is specific to the issue under examination. The
parallel administration can certainly raise other issues provided they have
jurisdiction to assess these in terms of the work allocation between the Centre
and the State administrations.

G) Whether disclosure to Central officer still
results in suppression before the State officer and vice versa?

In
case prior disclosure of information is made to a Central authority, an issue
arises whether the State authorities can allege suppression of information. The
terms are merely an expression of the state of mind of the tax payer. Where the
tax payer has established bona fide in reporting the issue to the
jurisdictional officer, it can certainly pray that the case does not involve a
fraudulent act. Unless the assessee has specifically withheld information being
sought from a particular officer, it can claim itself to be excluded from the
above terms. In fact, it may be interesting for one to even examine whether
reporting of information in one State would amount to sufficient bona fide
in assessments of other States. These are issues which would emerge on account
of State-wise assessments and cross empowerment of administration under the
law.

H) Tax experts are requested for their opinion on
the status of litigation as on balance sheet date in the context of
provisioning in terms of GAAP?

Departmental
audits / assessments are only inquiry proceedings over the tax dues reported by
the assessee and until a specific issue is red-flagged, such proceedings may
not fall within the domain of provisioning / contingency. But where the issue
is ascertained and adjudication proceedings are initiated by way of an SCN, the
tests of provisioning (enlisted below) would have to be performed for the
company:

An entity has
a present obligation (legal or constructive) as a result of past events;

It is probable
that the obligation may entail an economic outflow; and

A reliable
estimate can be made of such outflow.

The
term present obligation has been defined as an obligation whose existence as on
the balance sheet date is probable. Though an SCN is a mere
proposal, the term present obligation requires one to test the probability of
the demand in view of the SCN as on balance sheet date. An SCN is an indication
of a potential demand and the tax expert would have to weigh the issue for its
merits and judicial precedents for concluding on the probable exposure to the
company.

Going by the overall
architecture of the GST law and the work allocation, it appears that audit
would be conducted based on statistical sampling of the assessee, assessments
would be performed on case-specific non-compliance reports and both these
functions would then channel into adjudication proceedings for recovery of tax
dues from the assessee. The GST topography poses multiple hurdles in assessment
of tax payers. Cross empowerment and maintenance of uniformity in State level
assessments would be a game changer. Being a new turf, tax payers and Revenue
would have to traverse the path of assessments cautiously.

shailesh.kwebmaker

IS GSTR3B A RETURN?

INTRODUCTION

Recently, the Gujarat High Court had occasion
to examine an interesting issue of whether GSTR3B is a return as envisaged u/s
16(4) of the CGST Act, 2017. In a detailed judgement, the Court held that the
press release dated 18^th October, 2018 could be said to be illegal
to the extent that it clarifies that the last date for availing input tax
credit relating to the invoices issued during the period from July, 2017 to
March, 2018 is the last date for the filing of returns in Form GSTR3B for the
month of September, 2018. The decision brings to the fore the risks of changing
tax compliance processes without supporting amendments in the legislative
framework.

GUJARAT HIGH COURT DECISION

The pivot of the entire debate revolved
around the time limit for claiming input tax credit as prescribed u/s 16(4) of
the Act. The said provision is reproduced below for ready reference:

A registered person
shall not be entitled to take input tax credit in respect of any invoice or
debit note for supply of goods or services or both after the due date of
furnishing of the return under section 39 for the month of September following
the end of financial year to which such invoice or invoice relating to such
debit note pertains or furnishing of the relevant annual return, whichever is
earlier,

¹Provided that the registered person shall be
entitled to take input tax credit after the due date of furnishing of the
return under section 39 for the month of September, 2018 till the due date of furnishing of the return under the
said section for the month of March, 2019 in respect of any invoice or invoice
relating to such debit note for supply of goods or services or both made during
the financial year 2017-18, the details of which have been uploaded by the supplier
under sub-section (1) of section 37 till the due date for furnishing the
details under sub-section (1) of said section for the month of March, 2019.

Since section 16(4) of the Act refers to a
return to be filed u/s 39, the Court directed itself to the provisions of
section 39(1) of the CGST Act which reads as under:

Every registered
person, other than an Input Service Distributor or a non-resident taxable
person or a person paying tax under the provisions of section 10 or section 51
or section 52 shall, for every calendar month or part thereof, furnish, in such
form and manner as may be prescribed, a return, electronically, of inward and
outward supplies of goods or services or both, input tax credit availed, tax
paid and such other particulars as may be prescribed, on or before the
twentieth day of the month succeeding such calendar month or part thereof.

The search for the correct return format then
led towards Rule 61(1) which prescribes GSTR-3 to be the form in which the
monthly return specified u/s 39(1) should be filed. The said Rule reads as
under:

Every registered
person other than a person referred to in section 14 of the Integrated Goods
and Services Tax Act, 2017 or an Input Service Distributor or a non-resident
taxable person or a person paying tax under section 10 or section 51 or, as the
case may be, under section 52, shall furnish a return specified under
sub-section (1) of section 39 in Form GSTR-3, electronically, through the
common portal either directly or through a facilitation centre notified by the
Commissioner.

The provisions of section 16(4), section
39(1), Rule 61(1) and many other provisions were drafted considering the
original workflow of a two-way transaction level matching through the processes
of filing GSTR-1 followed by auto population of credit in GSTR2A and matching
and self-claim in GSTR-2, resulting in the return in form GSTR-3. However, due
to various reasons, the compliance process was sought to be simplified through
the introduction of form GSTR3B. The same was done not though any amendment in
the Act, but through the introduction of Rule 61(5). The initial verbiage of
Rule 61(5) was as under:

Where the time limit
for furnishing of details in FORM GSTR-1 under section 37 and in form GSTR-2
under section 38 has been extended and the circumstances so warrant, return in
form GSTR3B, in lieu of form
GSTR-3, may be furnished in such manner and subject to such conditions as may
be notified by the Commissioner.

The said verbiage suggested that form GSTR3B
was a substitute for the filing of return in GSTR-3. However, the said verbiage
was substituted with retrospective effect with the following words:

Where the time limit
for furnishing of details in form GSTR-1 under section 37 and in form GSTR-2
under section 38 has been extended and the circumstances so warrant, the
Commissioner may, by notification, specify that return shall be furnished in
form GSTR3B electronically through the common portal, either directly or
through a facilitation centre notified by the Commissioner.

Based on the above, the Gujarat High Court
observed that the Notification No. 10/2017 Central Tax dated 28^th
June, 2017 which introduced mandatory filing of the return in form GSTR3B
stated that it is a return in lieu of form GSTR-3. However, the Government, on
realising its mistake that the return in form GSTR3B is not intended to be in
lieu of form GSTR-3, rectified its mistake retrospectively vide
Notification No. 17/2017 Central Tax dated 27^th July, 2017 and
omitted the reference to return in form GSTR3B being return in lieu of Form
GSTR-3.

The observations of the Gujarat High Court
treating GSTR3B not as a substitute of GSTR-3 but merely as an additional
compliance requirement have widespread ramifications and some of those aspects
are discussed in this article.

IS THERE A DUE DATE FOR CLAIMING INPUT TAX
CREDIT?

While the Gujarat High Court does lay down
that the press release clarifying that the due date of filing the GSTR3B for
the month of September, 2018 to be the due date for claiming input tax credit
is illegal, it does not define any specific date by which the input tax credit
has to be claimed. With the understanding that the return referred to in
section 16(4) is GSTR-3 and not GSTR3B, it may be relevant to once again read
the provisions of section 16(4) to decipher the due date.

It is evident that the provision prescribes
the earlier of two events as the last date for claiming input tax credit:

(i) Due date of furnishing GSTR-3 for
September, 2018 – which has been extended ad infinitum;

(ii) Due date of furnishing the relevant
annual return – to be filed in GSTR-9 as per the provisions of section 44 read
with Rule 80.

Therefore, in general cases, the input tax
credit has to be claimed before the due date of furnishing the annual return in
GSTR-9. However, it may be important to note that fresh input tax credit cannot
be claimed in annual return but has to be claimed in GSTR3B (in interim) and
the GSTR-2 (in finality, as and when it is operationalised). Therefore, it will
be important to claim the input tax credit in any GSTR3B filed before the due
date of the filing of the GSTR-9.

WHAT IS THE IMPACT OF ROD ORDER EXTENDING THE
TIME UP TO MARCH?

Through CGST (Second Removal of Difficulties)
Order, 2018, the Government inserted a proviso to section 16(4) and purportedly
sought to extend the September deadline to March. However, the decision of the
Gujarat High Court and the verbiage of the said proviso suggests a different
interpretation. Let us look at the proviso once again:

Provided that the
registered person shall be entitled to take input tax credit after the due date
of furnishing of the return under section 39 for the month of September, 2018
till the due date of furnishing of the return under the said section for the
month of March, 2019 in respect of any invoice or invoice relating to such
debit note for supply of goods or services or both made during the financial
year 2017-18, the details of which have been uploaded by the supplier under
sub-section (1) of section 37 till the due date for furnishing the details
under sub-section (1) of said section for the month of March, 2019.

On a fresh reading of the said proviso, one
would notice that the reference to annual return is missing in the proviso. It
merely refers to the return in section 39 (which as per the Gujarat High Court
decision is GSTR-3 and not GSTR3B) and specifies that the credit can be claimed
till the due date of furnishing the return in GSTR-3 of March, 2019. This
absence of any reference to annual return in this proviso effectively means
that the input tax credit can be claimed at any point of time till the
Government notifies the due date for GSTR-3. However, it may be noted that the
proviso is restrictive in nature and covers only cases where the invoices have
been uploaded by the supplier in form GSTR-1 by the due date of filing GSTR-1
for March, 2019.

AMENDMENTS TO GSTR-1

Section 37(3) of the CGST Act, 2017 permits
rectification of any error or omission of the details furnished in GSTR-1. However,
such rectifications are not permitted after the date of furnishing the return
u/s 39 (GSTR-3, as per the High Court interpretation) for the month of
September or furnishing of the annual return, whichever is earlier.

Applying the above observations relating to
input tax credit, the date of furnishing the annual return would be the outer
date before which the amendments to GSTR-1 can be carried out. It may be noted
that unlike section 16(4) which uses the phrase ‘due date’ of return, section
37(3) uses the phrase ‘date’ of furnishing the return.

WHAT IS THE DUE DATE OF PAYMENT OF TAX?

Section 39(7) prescribes the due date for
payment of tax. The said due date of payment of tax is linked to the date of
filing the return (GSTR-3, as per the decision of the High Court). Due to the
introduction of an interim return in GSTR3B, a proviso was inserted in section
39(7) to provide as under:

Provided that the Government may, on the
recommendations of the Council, notify certain classes of registered persons
who shall pay to the Government the tax due or part thereof as per the return
on or before the last date on which he is required to furnish such return,
subject to such conditions and safeguards as may be specified therein.

Apart from this, Rule 61(6) was inserted in
the CGST Rules, 2017 to provide as under:

Where a return in
form GSTR3B has been furnished, after the due date for furnishing of details in
form GSTR-2,

(a) Part A of the return in form GSTR-3 shall be
electronically generated on the basis of information furnished through form
GSTR-1, form GSTR-2 and based on other liabilities of preceding tax periods and
Part B of the said return shall be electronically generated on the basis of the
return in form GSTR3B furnished in respect of the tax period;

(b) the registered
person shall modify Part B of the return in form GSTR-3 based on the
discrepancies, if any, between the return in form GSTR3B and the return in form
GSTR-3 and discharge his tax and other liabilities, if any;

(c) where the amount
of input tax credit in form GSTR-3 exceeds the amount of input tax credit in
terms of form GSTR3B, the additional amount shall be credited to the electronic
credit ledger of the registered person.

The above provisions have to be read along
with Notification 23/2017 prescribing return in form GSTR3B. Para 2 of the said
Notification lays down the condition requiring the discharge of the tax payable
under the Act. The phrase ‘tax payable under the Act’ is defined under clause
(ii) of the Explanation to mean the difference between the tax payable as
detailed in the return furnished in form GSTR3B and the amount of input tax
credit entitled to for the month.

Having reconciled to the position that GSTR3B
is an additional compliance return and not a substitute for GSTR-3, the
following propositions emerge:

(1) GSTR3B is an additional ad hoc
compliance requirement (akin to advance tax requirement under income tax);

(2) As and when the process of GSTR-2 and
GSTR-3 is operationalised, the difference between the tax payable as per GSTR3B
and GSTR-3 shall be payable under Rule 61(6)(b). There is no reference to any
interest payable on such difference and since the due date of the said payment
is not notified, it is not evident whether there is a delay in the said
payment;

(3) Similarly, Rule 61(6)(c) would also
permit the differential input tax credit to be credited to the electronic
credit ledger at that point of time.

THE WAY FORWARD

The Gujarat High Court decision clearly
demonstrates the perils of administering the law through notifications and
bringing about fundamental amendments to processes and compliances without
corresponding legislative amendments. It is important for the Government to
look at this decision as a wake-up call and review comprehensively all such
disconnects in law and practice and propose suitable amendments in the
legislative framework so that the law is aligned to the practices expected of
the taxpayers.

shailesh.kwebmaker

COMPOSITION SCHEME – A PUZZLE UNDER GST

INTRODUCTION

Indirect tax is generally perceived as a
transaction level tax, i.e., each transaction is taxed and assessed separately.
It is possible that a person may be liable to pay tax on certain transactions,
while other transactions may be exempted from tax or excluded from the levy
itself. Therefore, in order to ensure that the taxes are discharged properly,
the businessman needs to review each transaction and check for taxability
thereof. Once the taxability is looked into, the next step is reporting the
transaction, claiming input tax credits, making payment of taxes, etc.

The above process in the context of the Goods
and Services Tax (GST) has been perceived in the form of filing GSTR 1 (details
of outward supplies), GSTR 2 (details of inward supplies), GSTR 3 (monthly
return and payment of taxes) and GSTR3B (which was introduced as a stop-gap
measure in place of GSTR 2 and 3 but is a statement for claiming input tax
credit and making payment of taxes for a particular month).

Even without going into the specifics of the
above process, it is apparent that the same is rigorous and exhaustive in
nature and, most importantly, unyielding for a small businessman having small
value transactions in huge volume (typically the unorganised sector).

Considering the time and resources involved in
the above process, GST has been perceived as a hindrance to ease of doing
business because at times it is possible that the time spent on complying with
the law is more than the time spent on doing business itself, which would
perhaps render the entire activity redundant.

It is for this reason that like the VAT regime,
even the GST law provides an option to small taxpayers to opt for the
composition scheme and pay a lump sum tax on supplies made based on turnover
without claiming input tax credit and minimum compliances. In this article, we
shall discuss the salient features of the composition scheme and the various
amendments since the introduction of the law. Before proceeding further,
readers may note that the provisions relating to taxation under the composition
scheme have undergone multiple amendments and we have tried to cover the same
in this article.

STATUTORY PROVISIONS

1. The
levy of GST is u/s 9 of the CGST Act, 2017 which applies to all suppliers
making taxable supplies. However, an exception is carved out for specific cases
u/s 10 which provides that any registered person, whose aggregate turnover in
the preceding financial year did not exceed Rs. 50 lakhs (which can be
increased up to Rs. 1.50 crores vide notification) may, instead of paying tax
u/s 9, i.e., under the normal scheme, opt to pay tax at such rate as may be
prescribed.

2. The
turnover limit for opting for composition scheme, as notified from time to
time, is tabulated below for reference:

Notification
No.

Turnover
limit for
non-specified states

Turnover
limit for specified states

08/2017
– CT dated 27.06.2017

Rs.
75 lakhs

Rs.
50 lakhs

46/2017
– CT dated 13.10.2017

Rs.
1 crore

Rs.
75 lakhs

14/2019
– CT dated 07.03.2019

Rs.
1.5 crores

Rs.
75 lakhs

However, if multiple registrations are obtained
for a single PAN, the option to pay tax u/s 10 will have to be exercised for
all such registrations. It cannot be exercised only for selective
registrations. Further, the following class of registered persons are not
eligible to opt for paying tax u/s 10:

(i) A registered person engaged in the supply of
services other than those referred to in entry 6(b) of Schedule II, i.e.,
supply by way of or as part of any service or in any other manner whatsoever of
goods being food or any other article for human consumption;

(ii) The registered person should not be engaged
in making supply of goods which are not liable to tax under this Act;

(iii) The registered person should not be
engaged in making inter-state supply of goods or services;

(iv) The
registered person should not be engaged in supplying goods through e-commerce
operators required to collect tax at source u/s 54;

(v) The
registered person should not be a manufacturer of notified goods;

(vi) The
registered person should not be a casual taxable person or a non-resident
taxable person (condition inserted by Finance Act, 2019).

From the above it is apparent that the
composition option was introduced only for a supplier of goods. However, this
resulted in specific difficulties where a supplier was pre-dominantly engaged
in supply of goods, but occasionally undertook supply of services as well. For
instance, a trader in goods received commission for a one-off transaction.
Under the above conditions, since this would result in the registered person being
engaged in supply of services, he would become ineligible to continue under the
composition scheme requiring him to withdraw and pay tax under the normal
scheme. To overcome such difficulties, a second proviso to section 10(1) was
inserted w.e.f. 1^st February, 2019. The proviso provided that a
supplier of goods, opting for the composition scheme, may supply services
provided that the value of supply of service does not exceed 10% of turnover in
a state / UT in the preceding financial year, or Rs. 5 lakhs, whichever is
higher.

Further, vide Finance Act, 1994, the option to
pay tax under composition has been extended to suppliers of services vide
insertion of sub-section (2A). The said section provides an option to
suppliers, whose aggregate turnover was less than Rs. 50 lakhs in the preceding
financial year to pay tax under composition, provided they satisfy the
conditions prescribed therein. The conditions are similar to (b) to (f) as
stated above, with the only change being that the conditions apply for services
also.

The scope of ‘aggregate turnover’ referred to in
section 10 is to be derived from its definition u/s 2(6) which is defined to
mean aggregate value of all taxable supplies, exempt supplies, export of goods
or services or both, and inter-state supplies of a person having the same PAN
to be computed on an all-India basis, but excluding GST and cess. This resulted
in a lot of confusion because all small businesses which had opted for the
composition scheme would have interest income, which is treated as exempt
service under GST in view of entry 27 of notification 12/2017 – CT (rate) dated
28^th June, 2017, resulting in apparent non-satisfaction of the
condition prescribed u/s 10. To resolve this conflict, CBIC clarified vide
Removal of Difficulty Order No. 01/2017 – CT dated 13^th October,
2017 that while determining aggregate turnover, the value of supplies shall not
include exempt supply of services provided by way of extending deposits, loans
or advances insofar as the consideration is represented by way of interest /
discount. Further, the Finance Act, 2019 also amended section 10 by inserting
an Explanation to that effect.

The rates notified u/s 10 since the introduction
of GST are tabulated for reference:

Activity
of Supplier

Not.
8/2017 – CT dated 27.06.2017

Not.
1/2018 – CT dated 01.01.2018

Not.
3/2019 – CT dated 01.02.2019

In
the case of manufacturer

2%
of turnover in a state

1%
of turnover in a state

In
the case of a supplier, making supply by way of or as part of any service or
in any other manner whatsoever of goods being food or any other article for
human consumption

5%
of turnover in a state

In
case of other suppliers

1%
of turnover in a state

1%
of turnover of taxable supplies of goods in a state

1%
of turnover of taxable supplies of goods and services in a state

It is not mandatory for a registered person
satisfying the above conditions to pay tax under composition. For this reason,
it has been provided that any person, including a registered person opting to
pay tax u/s 10, shall need to give intimation in the prescribed format
regarding the exercise of the said option. The same is tabulated as follows:

A person opting to pay tax under the composition scheme in form GST
CMP-01 shall also be required to declare the stock on the date of opting for
composition levy in form GST CMP-03, while a person opting to pay tax in form
GST CMP-02 shall make a declaration in form ITC-03 within 180 days from the
date on which such person commences to pay tax u/s 10.

The purpose behind GST CMP-03 as well as GST ITC-03 is to ensure that a
person opting to pay tax u/s 10 of this Act should not have claimed the benefit
of taxes paid on inputs / capital goods lying in stock on the date of opting
for the composition scheme, and for this reason such person is required under
the Act to pay back the benefit taken under the earlier regime / existing
regime either from the balance in the credit ledger or by making a deposit in
the cash ledger. It is also provided u/s 18 that the balance lying in the
credit ledger after making the above reversal shall lapse. Further, Rule 5 also
imposes additional conditions, namely:

(a) In case of registered person opting to pay tax u/r 10(3), the goods
held in stock on the appointed day should not have been purchased in the course
of inter-state trade or commerce / imported / received from branch outside the
state or from an agent / principal outside the state;

(b) The goods held in stock should not have been purchased from
unregistered persons, and if purchased from unregistered persons, the
applicable tax u/s 9(4) should have been paid;

(c) The person opting to pay tax u/s 10 shall have to comply with the
provisions of section 9(3) and 9(4), i.e., the provisions relating to payment
of tax under reverse charge shall continue to apply on them;

(d) He should not have been engaged in the manufacture of notified goods
during the preceding financial year;

(e) He shall mention the words ‘composition taxable person, not eligible
to collect tax on supplies’ at the top of the bill of supply issued by him;

(f) He shall mention the words ‘composition taxable person’ on every
notice / signboard displayed at a prominent place at his principal place of
business and every additional place or places of business.

Once the option to pay tax u/s 10 has been
exercised, the same shall remain valid as long as the registered person
satisfies all the conditions mentioned in section 10 and the corresponding
Rules. Similarly, once the option is exercised, the registered person shall
continue to pay the tax under this scheme and there shall be no need to file
fresh intimation every financial year.

The important conditions to be satisfied are
that a person opting to pay tax u/s 10 cannot collect tax from the customer and
cannot claim input tax credit, including credit of tax paid u/s 9(3) and 9(4),
i.e., RCM. Further, for all supplies made by a person paying tax u/s 10, a bill
of supply needs to be issued containing the particulars prescribed in Rule 49
of the CGST Rules, 2017.

However, once the registered person ceases to
satisfy the conditions prescribed in section 10, he shall start discharging tax
u/s 9 from the day he ceases to satisfy the condition and issues tax invoices
for all supplies made after that
day. In addition, he shall also give intimation in GST CMP-04 for withdrawal
from the scheme within seven days. A person paying tax u/s 10 also has an
option to voluntarily withdraw from the composition scheme even if all the
conditions continue to be satisfied by giving prior intimation in GST CMP-04.

Similarly, even the Proper Officer can deny the
option to pay tax u/s 10 if he has reasons to believe that the registered
person is not eligible to opt for the scheme. However, before denying the
benefit, a notice has to be issued in GST CMP-05 asking such taxable person to
show cause within 15 days as to why the option should not be denied. In such
cases, the registered person shall be required to reply in GST CMP-06, post
which the Proper Officer shall issue an order in GST CMP-07 within a period of
30 days of receipt of such reply, either accepting or denying the option to pay
tax u/s 10 from the date of option or from date of occurrence of event of
contravention, as the case may be.

Any person who opts out of the composition
scheme, either voluntarily or on account of order passed in GST CMP-07, shall
file a declaration in GST ITC-01 to claim the benefit of tax paid on inputs and
capital goods held on the date when such person switched out of the composition
scheme. However, credit of such inputs / capital goods shall not be eligible
after the expiry of one year from the date of issue of tax invoice relating to
such supply. Further, in case of credit in respect of capital goods, the same
shall be allowed after reducing the tax paid by 5% per quarter of a year or
part thereof from the date of invoice / such other documents on which the
capital goods were received by the taxable person. The declaration in GST
ITC-01 has to be filed within 30 days from the date of cessation of payment of
tax u/s 10.

COMPLIANCES

At the time of introduction of GST, a person
paying tax u/s 10 was required to file quarterly returns in GSTR 4 which
contained the details of inward and outward supplies received by such
composition dealers. However, w.e.f. 23^rd April, 2019 a person
paying tax u/s 10 is required to file two returns:

(I) Quarterly
statement in GST CMP-08 containing details of payment of self-assessment tax by
the 18^th day of the month succeeding such quarter; and

(II) Return
for financial year in GSTR-4 by the 30^th day of April following the
end of such financial year.

A person paying tax u/s 10 has to compulsorily
discharge his tax by debiting balance from cash ledger only.

FAQs

Is a taxable person opting to pay tax u/s 10
required to discharge tax under any one of the three options or all the three
options can be opted for simultaneously?

There are different rates prescribed for payment
of tax by a person opting for composition on the basis of whether the supplier
is a manufacturer, or supplier of service covered under schedule II, entry
6(b), or any other supplier. The issue remains that there can be instances
where a supplier eligible and exercising the option to opt for composition is
getting covered under multiple rate entries. The question therefore arises
whether the person will have to opt for residuary entry or opt for specific
entry for each transaction.

One possible view is to say that GST, being a
transaction tax, each transaction needs to be analysed separately and tax has
to be paid depending on the nature of the transaction. Therefore, for a
supplier who is engaged in trading as well as manufacturing activity, for
supplies made as manufacturer he should pay tax at the rate prescribed for
manufacturer, and for other supplies (pure trading) he should pay tax under the
residuary entry.

Are there notified goods for which option to pay
tax u/s 10 is not available?

The option to pay tax u/s 10 is not applicable
for the manufacturer of specified
products, such as ice-cream and other edible ice whether or not containing
cocoa falling under entry 2105 00 00, pan masala falling under entry
2106 90 20 and tobacco and manufactured tobacco substitutes falling under
chapter 24.

What will be the implications if a person,
though not eligible to pay tax u/s 10, does so?

There can be instances where a person not
eligible to opt for payment of tax u/s 10 opts to do so. For such cases it has
been provided that in case a person wrongly opts to pay tax u/s 10, the amount
of tax which would have been payable u/s 9 would be liable to be recovered from
such person notwithstanding the fact that the tax has already been paid u/s 10.
In addition, such person shall be also liable for penalty and the provisions of
sections 73 and
74 shall apply mutatis mutandis for determination of tax and penalty.

shailesh.kwebmaker

INTRA-COMPANY TRANSACTIONS UNDER GST

INTRODUCTION

The charging
section for the levy of GST is under section 9 of the CGST Act, 2017 and the
taxable event, which triggers the levy, is supply, the scope of which is
defined u/s. 7. Section 7(1)(a) thereof defines the normal scope of supply to
include transactions which are generally carried out in the normal course of
business. Section 7(1)(b) includes import of services for a consideration
within the scope. Section 7(1)(c) then refers to schedule I of the Act, wherein
the activities listed are deemed to be included in the scope of supply, even if
made or agreed to be made without a consideration.

Schedule I lists
four specific activities which shall be treated as supply even if made without
a consideration. In this article, we shall discuss entry 2, which reads as
under:

“2. Supply of goods or services or both between
related persons or between distinct persons as specified in section 25, when
made in the course or furtherance of business”.

The scope of the
above deeming fiction is, inter alia, to treat transactions between related
persons or distinct persons as supply, making it liable to tax in the state
from where the supply originates with a corresponding credit, subject to
provisions of section 17 in the state where the supply culminates.

Therefore, what
needs to be analysed to interpret the scope of the above entry is:

What is meant by related person?

What is meant by distinct person, as
specified in section 25?

When can it be said that a supply of goods
or services has taken place between distinct persons?

RELATED PERSON – SCOPE

Vide explanation to
section 15 of the CGST Act, it has been provided that persons shall be deemed
to be related persons, if:

(i) such persons
are officers or directors of one another’s businesses;

(ii) such persons
are legally recognised partners in business;

(iii) such
persons are employer and employee;

(iv) any person
directly or indirectly owns, controls or holds 25% or more of the outstanding
voting stock or shares of both of them;

(v) one of
them directly or indirectly controls the other;

(vi) both of them
are directly or indirectly controlled by a third person;

(vii) together, they directly
or indirectly control a third person; or;

(viii) they are members of the same family.

DISTINCT PERSON – SCOPE

Section 22(1) read
with section 25(1) of the CGST Act, 2017 provides that every supplier is
required to obtain registration in every such state from where he makes a
taxable supply of goods or services or both. Therefore, every taxable person
supplying goods or services or both from multiple states shall be required to
obtain registration in all such states.

Sections 25(4) and
25(5) of the CGST Act deems such separate places from where supplies are made,
whether registration has been obtained or not, to be distinct persons for the
purposes of the Act. In other words, all the locations of a taxable person,
within India but in different states, are treated as distinct persons for the
purpose of GST law.

IDENTIFYING SUPPLIES BETWEEN DISTINCT PERSONS

The important
question that needs consideration while analysing whether entry 2 is triggered
or not, is determining when a supply of goods or services has taken place
between distinct persons. While determining the same in the context of goods
may not be a challenge, owing to the tangibility factor, there will be a
challenge from the perspective of identifying the existence of a service. This
is because when it comes to services, there appears to be confusion on the
scope of the above deeming fiction. Let us try to understand the same with the
help of the following examples of various activities which take place within a
legal entity:

a. A multi-locational entity having a centralised
accounting department for all India operations, which includes a centralised
tax compliance department, too;

b. The head office of a multi-locational entity
receiving auditing services for multiple locations across the country,
including the foreign branches;

c. The senior management, responsible for the
overall operations of the legal entity, operating from the head office which
results in various supplies being made by the multiple locations;

d. An employee from one branch is asked to
support the other branch for a particular project;

e. Multiple branches work on a project, for which
the front-ending to the client is done by a particular branch / head office.

In the above, it is also important to note that at times, the companies
might be accounting the costs / revenue identifying the location to which it
pertains, in which case there will be always a revenue mismatch as costs will
be accumulated in one location while revenue will be lying in another location,
resulting in revenue-cost mismatch and credit accumulation in cost-incurring
locations and liability payout in cash in revenue-generating locations.

A view is therefore
being proposed that in cases where the costs and the corresponding revenues are
booked in distinct jurisdictions, there should be a cross charge of the costs
from the expense-incurring jurisdiction to the income-bearing jurisdiction. Such
cross charge would constitute a consideration for the rendition of ‘service’ by
the expense-incurring jurisdiction to the income-earning jurisdiction and such
deemed / inferred service would be liable for payment of GST due to the
provisions of schedule I entry 2 referred to above. In case the costs are
common costs incurred for multiple revenue-earning jurisdictions, there should
be some reasonable basis of apportionment of costs with similar consequences as
stated above. This view is further corroborated by the ruling of the Authority
for Advance Ruling in the case of Columbia Asia Hospitals Private Limited
[2018 (15) GSTL 722 (AAR – GST)] which was confirmed by the Appellate
Authority as well. The matter is currently pending before the Karnataka High Court.

Though the
objective of schedule I entry 2 and the view expressed above may be to ensure a
smooth flow of credits across multiple jurisdictions, the essential legal
position is that the entry deems certain activities / supplies to be taxable
and therefore imposes a tax in one of the jurisdictions. Therefore, the
question that needs consideration is to what extent can the deeming fiction be
extended to deem an activity carried out by a taxable person as supply of
service?

It is now a settled
proposition of law that a provision imposing a tax has to be strictly
interpreted and cannot be inferred. In fact, the Supreme Court has time and
again held that before a tax can be imposed, the levy has to be certain. To
define this certainty of levy, it is understood that the following constitute
the key corner-stones of the levy:

Certainty of the taxable
event;

Certainty of the person on
whom the levy is cast;

Certainty about the
recipient of service;

Certainty in the rate of
tax;

Certainty in the value on
which the tax has to be charged; and

Certainty as regards the
time at which the tax has to be discharged.

The proposition of
requirement of cross charge canvassed above may not be a correct legal
proposition since there is technically no service rendered by the head office
to the branches and therefore, the deeming fiction needs to be restricted to
the fiction created by the said provision and there are significant
uncertainties in the implementation of the cross charge proposition, resulting
in the probability of the alleged levy itself getting struck down. In
subsequent paragraphs, an attempt is made to understand the answers to the
above issues.

Whether there is certainty of the taxable
event?

The taxable event
under GST is the supply of goods or services or both. It may be important to
note the legislative background of GST. While a plethora of indirect tax
legislations pertaining to various goods and services have been subsumed under
the GST legislation, it is evident that the fundamental distinction between
goods and services is still relevant. It is still not a very comprehensive tax
on all supplies but rather a tax on goods or services or both. This is the
reason why both these terms are defined separately and there are provisions to
determine the nature of supply as either being that of goods or services, or
neither. Further, many provisions like time of supply, rate of tax and place of
supply are distinct for goods and for services.

The term service is
defined u/s. 2(102) as anything other than goods, money and securities.
However, this definition appears to be sketchy and does not in any way define
the essence of what constitutes service and what does not. It is, therefore,
felt necessary that before one embarks to understand the scope of the deeming
fiction referred to above, it may be important to determine the essence of what
constitutes goods and what constitutes services and the essential differences
between the two.

Prior to the
introduction of GST, it was always felt that the fundamental attributes of
goods would be utility, possession, transferability and storage value.
Similarly, the fundamental attributes of service were understood to be an
activity carried out by a person for another for a consideration under an
enforceable contract. It is evident that the concept of ‘goods’ is distinct
from the concept of transaction in ‘goods’ like sale of goods. For example, a
person may possess ‘goods’ and such goods will have utility and value (some
inherent value) and such possession may have no linkage with consideration or
any contract or another person. In distinction to goods, by their very nature
services cannot be viewed in isolation of their rendition or provision. It is
felt that this very essence of goods or services does not change due to the
introduction of GST. The definitions have to be read in this context.

On a co-joint
reading of the definitions under various legislations and the judicial
interpretation, it can be argued that an enforceable contract between two
parties and consideration are essential elements for something to be defined as
a service in general. For example, a musician singing on the road cannot be
treated as providing services to passersby since there is no enforceable
contract between the two. Similarly, acquiring knowledge by reading books
cannot be considered as a service even if the said knowledge is for furtherance
of the business in the future. Most businesses receive free advice from
consultants – all and sundry. The businesses may not even perceive a value in
such advises.

One would generally
consider that an actor provides a service to a film producer. This is because
generally, the producer approaches the actor and pays him a fee for acting in
the movie. However, if a struggling newcomer approaches a producer and offers
to pay him a fee and also act in the movie, one would say that the producer has
provided a service to the actor since the flow of consideration is from the
actor to the producer. Further, it would not be correct to even say that the
actor provided a free service in this case since neither the producer nor the
trade nor the actor himself perceives a value for the ‘acting’ carried out by
him. In that sense, the acting is carried by the actor for himself and not for
the producer.

It is, therefore,
felt that despite a wide residuary definition of service, the essential
attributes of service would be:

An enforceable contract between
two persons;

A consideration flowing from
one person to another;

A defined activity set carried
out by one person for another under specific instructions of another
person.

The issue to be
examined here is whether and to what extent do the above essential elements of
service get diluted due to the deeming fiction prescribed under schedule I
entry 2.

Clearly, the cost
and revenue mismatches across jurisdictions are on account of imbalances in the
underlying activities carried out at the different jurisdictions. For example,
a litigation pertaining to Chennai may land up in Delhi in the Supreme Court
and may be supported by the in-house legal counsel from Mumbai. Would these
activities fall within the mischief of the above deeming fiction?

Admittedly, the
various locations where a taxable person may be registered are deemed to be
distinct persons for the purposes of the GST law since they bear separate GST
registrations. However, does the deeming fiction restrict itself merely to the
distinctness of a person (i.e., entity) or does it create a distinctness
amongst all its relationships with business, employees, clients, assets,
suppliers, government authorities, judiciary, etc.? In order to fit within the
deeming fiction entry mentioned earlier, a series of deeming fictions will have
to be created. This will have its own set of challenges. For example,

The different locations for
which registration would have been obtained would be treated as distinct
persons. This has been provided in section 25. However, nowhere is it stated
that due to such distinctness of establishments, the legal existence of the
taxable person is to be totally ignored;

In the above example, the
in-house counsel will have to be treated as an employee of the legal entity.
This is a deeming fiction, but this is nowhere provided under the law. Further,
the reason for treating him as an employee of Maharashtra registration is
merely because he generally sits in the Maharashtra office. This is again a
deeming fiction since the person who is the employer cannot be determined by
the location where the employee usually sits. Similarly, the payment of the
salary to the in-house counsel may be accounted in the books in Maharashtra. In
most of the cases, the entity maintains common books of accounts. Further,
accounting principles cannot determine the tax implications;

Most
of the other regulations, employment contract, the expectations of the
stakeholders and the conduct of the employee, would not in any way suggest that
the counsel is an employee of a particular registration. Even the GST law may
not restrict the interpretation of the person being an employee of a particular
registration and not the legal entity as a whole. If such an interpretation is
taken by the GST authorities, under which authority could such in-house counsel
located in Mumbai be summoned? Similarly, section 137 of the GST law provides
for liability of officers responsible for the conduct of the business as being
guilty of the offence.

Similarly, can one
really say that the litigation is that of legal entity or will it be said to be
that of registration (and what would be the principles which will determine
this aspect)? Will the artificial distinctness then imply that one office
(registered) has rendered a service to another office (whether or not
registered) by providing the in-house legal counsel requiring a value to be
assigned to such alleged service with a corresponding tax liability in Mumbai
and credit in Chennai? What would be the scenario of hotel booking carried out
by the Delhi office for the in-house counsel? Will the concept of business also
be considered distinctly and, therefore, can it be argued by the Delhi officer
that the stay in the hotel is not for the furtherance of business of the Delhi
branch and therefore input tax credit should not be allowed?

Therefore, the
deeming fiction provided under schedule I entry 2 has to be restricted to the
fiction that it creates. In the absence of a clear intention to extend the
deeming fiction not only to the distinctness of the person but also to all
consequential relationships, it would not be correct to create layers of such
deeming fiction and thereby infer the existence of a service which does not
exist at all and then operationalise the deeming fiction.

Another way to deal
with the cost-revenue mismatch is to suggest that there can be a difference
between a receipt of a supply and the receipt of the benefit of the supply. The
distinction between a recipient of a supply and the beneficiary of the supply
is very well understood in the judicial context. Just because the benefit of a
supply is derived by an artificially dissected distinct person, can it be said
that the original recipient of the supply is a further supplier of service?

The GST law itself
considers the possibility of the recipient of service being distinct from the
beneficiary of service. In this context, the definition of recipient of service
provided under section 2(93) clearly demonstrates that the person liable to pay
the consideration is the recipient of the supply. Further, the definition of
location of recipient of service u/s. 2(70) envisages a joint receipt of
service by more than one establishment and suggests a tie-breaker test to
determine the establishment most directly connected with the supply. The
provision stops at that and does not further provide a deeming fiction to
further suggest that there is a secondary supply by the most directly connected
establishment to the less directly connected establishment.

If the above
proposition is taken as a legal requirement, one may even find the provisions
of input service distributor totally redundant.

In view of the
above discussions, it is felt that there is no element of service rendered by
the corporate office to the branches when there is a cost-revenue mismatch and
certain support functions are performed by the corporate office which may be
intended for the benefit of the branches.

Whether there is certainty about the
person who is liable to discharge the tax liability?

Another important
aspect is the determination of the person who is the service provider and
therefore liable to discharge the GST liability on the so-inferred deemed
supply. It is felt that this aspect itself can be a subject matter of severe
uncertainty.

Let us take an
example of two branches of a taxable person, say Maharashtra and Gujarat
jointly rendering a service to a client. Section 2(15) of the IGST Act will
define either one of the two branches as the establishment most directly
connected with the supply. The issue to be examined is whether there is any
service provided between the two branches? If yes, who renders service to whom?
This question cannot be answered in isolation at all. If at all a conservative
view has to be taken, an additional piece of information will be required as to
which of the two establishments is the establishment most directly concerned
with the supply and then only one can perhaps argue that the less directly
connected establishment is providing service to the most directly connected
establishment. It may be noted that there is no specific deeming fiction to
this effect.

Let us extend the
above example slightly and say that the two branches are jointly rendering free
service to the client. How would one now conservatively operationalise the
deeming fiction?

Therefore, it is
evident that it is difficult to examine who is the service provider with
certainty.

Whether there is certainty about the
person who is the service recipient?

Let us extend the
example provided above to the case of a disaster recovery centre which is
located in Andhra Pradesh. If due to cost-revenue mismatch it is inferred that
there is a requirement to deem a service flow, the question which arises is
whether the Andhra Pradesh unit is rendering services to the corporate office
in Maharashtra or to all the units located across the country? Who is the
recipient of the deemed service alleged to have been provided by the Andhra
Pradesh unit?

Even if a
proportionate cost allocation is carried out across the country, the same may
not be really representative of the receipt of service by the constituent units.
This is because in many cases there may not be a clear period-specific matching
of costs and revenues. To continue the example of VAT litigation, it may be
possible that when the litigation comes up before the Supreme Court, the unit
in Tamil Nadu may have already shut down and therefore there may not be any
distinct person in Tamil Nadu. In such a case, how would one define the
activity to be that of a rendition of service to Tamil Nadu when there is no
such unit? If the cost is cross-charged on proportionate basis to all other
states, the same may be incorrect since they have not received any service at
all.

Whether there is certainty on the nature
of supply and the rate of tax?

The next issue
which arises is the identification of the exact nature of the service rendered.
Each scenario may be different. In the above example, is it the case of legal
services rendered by the Maharashtra office to the Chennai office or is it a
sort of residuary service? The service cannot be described as a legal service
due to various reasons including the regulatory framework in the country. Even
if it is to be treated as a residuary service, the same should be capable of
some description. What is that description? A very common-place answer is that
the same constitutes business support services. This again appears to be a very
circuitous answer because in the normal course the in-house legal counsel would
be expected as a part of his employment contract to perform the said activity.
Notionally attributing a totally different name to the said activity may be
inappropriate.

Similarly, when the
logistics team of the company arranges for the transportation of the products
of the company, does it provide a ‘goods transport agency service’ and
therefore be liable for tax @ 5% or does it provide a business support service?
Does the F&B team provide ‘restaurant services’ or does it provide business
support services? There can be many more examples.

The answers are
obvious. There is really a significant uncertainty in defining the nature of
the supply and the consequent tax rate on such presumed supply.

Whether there is certainty in the value on
which the tax has to be charged?

It is also felt
that if a view is taken that there is a supply between distinct persons under
the above case, the provisions of the law have to provide with certainty the
value of the said supply on which the tax has to be discharged.

Section 15(1) of
the CGST Act, 2017 which deals with the provisions relating to value of taxable
supply, provides as under:

(1) The value of
a supply of goods or services or both shall be the transaction value, which is
the price actually paid or payable for the said supply of goods or services or
both where the supplier and the recipient of the supply are not related and the
price is the sole consideration for the supply.

In the instant
case, there is no transaction value, or the price actually paid by the branches
to the head office. Since there would be one single legal entity, there is no
occasion to maintain state-specific bank accounts and periodic settlements
through receipts or payments from such bank accounts. In some cases, there may
be an internal accounting entry to define location-specific profitability for
MIS purposes. However, this concept of accounting entry is notional and it
deals with location-specific entries and not ‘distinct person’ specific
entries. Further, in many cases there may not be an internal accounting entry
since there may not be any legal requirement to provide for the same.

In the absence of
the transaction value or price, one can say that the value of taxable supply is
NIL with a consequent NIL liability. However, a counter argument could be that
the transaction value is acceptable only if the supplier and the recipient are
not related persons.

The scope of
related persons has already been dealt with in the earlier paragraph. Further,
section 15(4), which is applicable in cases where valuation as per sub-section
(1) is not possible, provides as under:

(4) Where the
value of the supply of goods or services or both cannot be determined under
sub-section (1), the same shall be determined in such manner as may be
prescribed.

From the above, it
appears that reference to section 15(4) is required only when the provisions of
section 15(1) are not applicable, i.e., price is not the sole consideration and
parties are not related. Therefore, the issue is whether the supply made by the
head office to its distinct persons will be classifiable for valuation u/s.
15(1) of the CGST Act or not? This query arises because distinct persons are
not treated as related persons for the purpose of GST, as is evident from the
definition referred earlier.

It can be argued
that the definition of related person deals with legally distinct entities and
not with distinct persons as defined under the GST law. Therefore, the
transaction value of NIL u/s. 15(1) should not be disturbed.

Even if a view is taken
that the distinct persons as defined u/s. 25 fall within the definition of
related persons under explanation to section 15, the question which arises is
how the same will be valued keeping in view the provisions of valuation
prescribed under the CGST Rules. Chapter V of the CGST Rules contain the rules
for determination of value of supply in following specific cases:

Rule 27 – Value of supply of
goods or services where the consideration is not wholly in money;

Rule 28 – Value of supply of
goods or services or both between distinct or related persons, other than
through an agent;

Rule 29 – Value of supply of
goods made or received through an agent;

Rule 30 – Value of supply of
goods or services or both based on cost;

Rule 31 – Residual method for
determination of value of supply of goods or services or both.

Rule 28 of the CGST
Rules, 2017 prescribes for situations of defining a value of supply of services
between distinct persons. Rule 28(a) provides that the open market value of the
supply will be considered for the purposes of valuation. This provision itself
implies marketability of the support functions provided by the corporate
office. Most of the activities carried out by the employees at the corporate
office may be such that they may not be amenable to outsourcing or any element
of marketability. For example, it would not be correct to define the activities
carried out by a director for the company as services which are freely
marketable. Such activities are carried out only due to the specific
relationship as a director of the company. The activity and the relationship is
so closely knit with each other that the activity cannot be looked upon de
hors the relationship. In such cases, it may be incorrect to attribute
marketability and consequently open market value to such supply.

Similarly, the
activities carried out by the employees may be so unique that it may not be
possible to define a value of a service of like kind and quality and therefore
Rule 28(b) would also fail.

Rule 30 provides
for a mechanism to determine the value on the basis of the cost of provision of
service. However, the cost incurred on the activities may also not be easily
determinable. For example, if the in-house counsel appears for the matter in
the Supreme Court, will the salary cost be considered as the cost of provision
of service or will the company cost attributable to retirement benefits also be
added into the calculation? Will the notional cost of his cabin be added? Will
the electricity cost be added? How does one determine with precision the cost
of provision of service and attribute fixed overheads when the so-called
service itself is not clear and there is no identification of the unit of
measurement? Therefore, Rule 30 fails to provide a definitive answer to the
calculation of value of the presumed service.

The second proviso to Rule 28 specifies that the value declared in the
invoice shall be deemed to be the open market value of the goods or services in
cases where the recipient is eligible for full input credit. It is felt that
the condition mentioned in Rule 28 will have to be read down by the courts as
leading to artificial discrimination and also leading to a scenario where the
supplier is expected to demonstrate something which is impossible. Once the
condition is read down or read in context, it can lead to the conclusion that
the transaction value should be accepted.

Whether there is certainty as regards the
time at which the tax has to be discharged?

The next issue to
examine is whether there is any certainty as regards the time at which the tax
has to be discharged. Section 13(2) of the CGST Act prescribes the time of
supply of services to be the earliest of the following dates, namely,

(a) the date of
issue of invoice by the supplier, if the invoice is issued within the period
prescribed under sub-section (2) of section 31, or the date of receipt of
payment, whichever is earlier; or

(b) the date of
provision of service, if the invoice is not issued within the period prescribed
under sub-section (2) of section 31, or the date of receipt of payment,
whichever is earlier; or

(c) the date on
which the recipient shows the receipt of services in his books of account, in a
case where the provisions of clause (a) or clause (b) do not apply.

Essentially, if the
invoice is issued within the prescribed time, the date of issue of invoice or
the date of receipt, whichever is earlier becomes the time of supply. In the
instant case, there is no question of any amount exchanging hands and therefore
there is no date of receipt. One will therefore have to refer to the provisions
of the invoicing rules. Section 31(2) read with section 31(5) prescribes the
outer time limit within which the invoice has to be issued in the case of
continuous supply of services. Accordingly, it is mentioned that the invoice
shall be issued as under:

(i) where the
due date of payment is ascertainable from the contract, the invoice shall be
issued on or before the due date of payment;

(ii) where the
due date of payment is not ascertainable from the contract, the invoice shall
be issued before or at the time when the supplier of service receives the
payment;

(iii) where the
payment is linked to the completion of an event, the invoice shall be issued on
or before the date of completion of that event.

It is more than
evident that the above scenarios are not applicable in the instant case and
therefore the provisions relating to the time of supply cannot be implemented
with reasonable certainty.

To summarise, it is
felt that significant uncertainty exists over various elements towards the
implementation of the proposition to consider the impact of cost-revenue
mismatch as a deemed service by the cost-incurring state to the revenue-earning
state, and such uncertainties vitiate the charge sought to be created by
schedule I entry 2, especially vis-à-vis the supply of services between
distinct persons of the same legal entity.

In view of the above discussion, a view
that the common expenditure incurred by the head office, the benefits of which
are claimed by the various other branches, cannot be construed as supply by the
head office to branches is possible. Therefore, a cross charge may not be
required by the head office to the respective branches.

shailesh.kwebmaker

RECOVERING THE UNRECOVERABLE

Recovery
proceedings are initiated to realise the taxes dues. The proceedings are a
final step towards the realisation of any tax or amount which has been
confirmed as payable after following the due process of adjudication and has
remained unpaid beyond the statutory time limit. Government has set in place
three broad routes for collection of taxes – (a) self-assessment; (b)
adjudication; and (c) tax deduction at source / tax collection at source. Under
Article 265 of the Indian Constitution, not only should the levy of tax be
under authority of law, its collection should also be backed by a clear
authority of law. Recovery is the end stage of collection and any action beyond
statutory boundaries would be unconstitutional and rendered void. This article
aims at discussing the various circumstances under which recovery could be
initiated and their respective modes.

CIRCUMSTANCES
WARRANTING RECOVERY

Self-assessed
/ admitted taxes

The self-assessment
scheme requires taxpayers to compute the taxes and discharge the dues by
reporting in tax returns u/s 39 of the CGST / SGST Act. Self-assessed taxes are
considered as admitted taxes (though there is no estoppel in tax law)
and are recoverable without any adjudication u/s 73/74 (sec. 75[12]).
Self-assessed taxes are payable on or before the due date of filing the returns
and are to be discharged on FIFO basis (section 49[8]), i.e., any payment would
be first adjusted towards previous period tax liabilities and then towards
current period tax dues. The common portal maintains an indelible trail of tax
liabilities and its eventual adjustment.

Primary issues
arising here are: (a) GSTR3B does not appear to be a ‘return’ u/s 39 (refer
our previous article in BCAJ September, 2019) and one may contend
that tax liabilities reported in 3B are not covered by the said section; (b)
GSTR-9 (annual return) may also involve admission of tax liabilities, but this
is a return u/s 44 and not u/s 39; (c) GSTR3B online module does not permit the
taxpayer to file its return without payment of the reported tax liabilities,
and hence reported tax cannot remain unpaid if returns are filed; and (d)
reporting of outward supplies in GSTR-1 statement u/s 37 does not constitute
filing of return u/s 39. In effect, though the taxes are ‘self-assessed’
(liability is determined by the taxpayer), such self-assessment is not through
the return specified u/s 39. Consequently, section 75(12) does not seem to
apply under the current return filing scheme. The Revenue may still want to
invoke recovery provisions on the ground that they are admitted taxes even
though the admission is not by way of a return u/s 39. A better alternative for
the Revenue would be to conduct full-fledged assessment proceedings and then
proceed for any recovery.

Taxes arising
from adjudication / assessments

Taxes assessed by
way of an order of adjudication u/s 73/74 are recoverable after three months
from the date of service of the order. Three months’ time enables the taxpayer
to prefer any appeal before the appellate forum on any aggrieved point of
assessment. Once an appeal is preferred, the tax demand continues unless it is
stayed by a higher forum (say, a High Court, etc.). Section 107(7) provides for
an automatic stay over recovery of demands on payment of 10% of the disputed
tax dues under first appeal (20% in case of second appeal u/s 112[8]). In cases
of multiple issues involved, taxes due on issues not disputed would be payable
on expiry of three months from service of order. The proper officer in such
cases is required to issue a demand notice in DRC-07 and proceed towards
recovery on its expiry. The proper officer can also seek special permission for
recovery in a shorter period in case he believes that the action of the
taxpayer (such as fleeing the country, disposal of assets, etc.) in the interim
may jeopardise the recovery.

Taxes
collected and unpaid

Taxpayers are
required to remit any amount collected as taxes forthwith to the government.
The taxpayer is not allowed to hold on to taxes which are collected,
irrespective of whether such amounts are duly collectible under law. This is
based on the fundamental tenet of indirect
taxation wherein taxpayers are made ‘agents’ of the government and such agents
are not permitted to engage in profiteering from taxes. A classic case would be
where taxable person collects taxes from the recipient prior to its time of
supply (such as advance, including taxes collected prior to sale of goods).
Such amounts are payable forthwith (implying on the immediate due date) and the
taxable person cannot claim that the time of supply of provisions is yet to be
triggered. The section provides for an issuance of a show cause notice and its
conclusion prior to proceeding on the recovery (one-year time limit). Where the
amount is held to be wrongly collected by the taxpayer, the section also
provides for a claim of refund by the person who has ‘borne’ the incidence of
taxes, failing which the same would be credited to the Consumer Welfare Fund.

Recovery of legacy tax liabilities

Section 174(2) saves the rights, obligations or liabilities in respect
of anything done prior to the repeal of earlier laws. Under this provision, tax
demands pertaining to pre-GST periods can be enforced against the defaulter and
recovered under the respective laws. The erstwhile Central excise, VAT laws
contained similar provisions for recovery of tax dues. Simultaneously, section
142(8) of GST law also enables recovery of tax dues which are unrecovered under
the earlier tax laws.

While the recovery proceedings initiated prior to 30^th June,
2017 are saved by the said provisions, a question arises whether Revenue should
initiate recovery (such as garnishee proceedings, etc.) after 30^th
June, 2017 under the erstwhile law or u/s 142(8) of the GST law. One view would
be that section 174(2)(d) r/w/s 174(2)(e) permits any legal proceeding to be
instituted, continued or enforced in respect of tax dues of the earlier laws
despite their repeal w.e.f. 30^th June, 2017. Such legal proceeding
(including recovery proceedings) can be instituted even after the repeal as
long as it pertains to tax dues pertaining to the period prior to the repeal.
The provisions of section 142(8) are in addition to the erstwhile recovery
provisions and the recovery officer can opt for either of these provisions.

The alternative view would be that section 174(2) in its entirety only
permits institution of proceedings qua the tax defaulter. A garnishee
proceeding, which is an independent proceeding, cannot be instituted after 30^th
June, 2017 as there is no pre-existing liability on the defaulter’s debtor to
the government as on the said date. One of the arguments being canvassed in Sulabh
International Social Service Organization vs. UOI 2019 (4) TMI 523 (JH)
is that the term ‘instituted’ refers to proceedings already instituted before
30^th June, 2017. It is on account of this deficiency in the repeals
/ saving provision that section 142(8) comes into operation for recovery
actions instituted after 30^th June, 2017. Therefore, any recovery
proceeding should necessarily be initiated under the GST law. Rule 142A
provides for issuance of DRC-07A for creation and recovery of the legacy tax
liabilities on the GST portal.

Recovery of transitional credit

The transition scheme has been codified for enabling tax credits on
introduction of GST. Recovery of incorrect transition credit falls under two
variants: (a) recovery due to non-conformity with erstwhile provisions, say
Cenvat, availed on input services ineligible under Cenvat Rules. The recoveries
would be either covered under the repeals and savings provisions or u/s 142(8) (alternative
view discussed above); and (b) recovery due to non-conformity with GST
provisions, say ineligible cess carried forward or ineligible credits of stocks
u/s 140(3), etc. These recoveries arise due to violation of GST law and would
be recoverable through specific provisions under GST law rather than any
erstwhile law. However, GST law lacks a specific recovery provision for transitional
items such as these.

Overlooking the literal interpretation and giving a wide meaning to
‘input tax credit’¹ u/s
73/74, transitional credit could at the most be recoverable under the said
sections, in which case it would form part of GST liabilities and hence covered
under the previous heading – Taxes arising from adjudication /
assessments. The scope of section 73/74 in this context has been
discussed in an earlier article.

Recovery in case of clandestine removal /
non-accounted goods

Goods without appropriate documentation are considered as tax-evaded
goods and such goods are liable for seizure. Such evasive acts may be
identified as a result of inspection, search or interception. In case of
hazardous, perishable goods or any other relevant consideration, the proper
officer would dispose of the goods by following the process through DRC-16.
However, the said recovery is subject to the final outcome of the assessment
following the inspection, search or interception.

MODES OF RECOVERY

Recovery by
deduction / adjustments

The section
empowers the proper officer to adjust amounts held by the government (e.g.,
refunds) and due to the taxpayer against any dues to the government. Refund may
be either held by the proper officer himself or by any specified officer.
Amounts lying under the electronic cash ledger balance would also be subject to
such adjustments as being amounts held by the government. The proper officer
would issue DRC-09 intimating the specified officer to adjust the tax dues from
the amounts due to the taxable person. Rule 143 includes, amongst others,
officers of public sector undertakings / State-operated undertakings within its
coverage, implying that the proper officer can directly approach such creditors
for recovery.

Recovery by
detention and sale of goods

The proper officer
or any other specified officer/s is empowered to detain goods belonging to the
defaulter and under the control of the proper officer. The process of acquiring
control over goods has not been specified under the section. One would view
this section as being limited only to goods which are already under control of
the proper officer (say, confiscation of goods u/s 130 or seizure u/s 67). Rule
144 requires the officer to issue a notice in DRC-10 for public auction of
goods under its control and conclude the recovery through DRC-11 and DRC-12. An
issue would arise as to ascertainment of goods which are ‘belonging’ to the
taxpayer. The answer possibly lies in the underlying principle followed by all
the modes of recovery, i.e., recover amounts over which the taxpayer has
financial claim and not just possession / legal title.

Recovery by
garnishee

The proper officer
is empowered to issue a garnishee to a third-party debtor who holds sums to the
account of the taxpayer. A garnishee is an instruction to the third-party
debtor to pay the required sum forthwith or within the time specified, or pay
it on becoming due to the proper officer instead of the tax defaulter. The
proper officer would have to issue the notice in DRC-13 which would have
overriding claim against any other claims of the tax defaulter. The payment by
the third party to the government would constitute sufficient discharge of the
debt due to the tax defaulter (issued in DRC-14). Failure on the part of the
third party to comply with the notice would result in its treatment as a
defaulter under law and initiation of an independent recovery process on such
person. Recovery can also take place where any amounts are due under an
execution decree to the taxable person and the proper officer can request the
court to execute the decree in its favour for settlement of tax dues (DRC-15
and process of Civil Procedure Code, 1908).

Recovery by
distraint (seizure)

The proper officer
can also seize any movable / immovable property belonging to or under the
control of the taxable person and detain the same until the amount is paid.
Unlike detention, this provision extends to all property (such as fixed assets,
land, building, etc.) for recovery proceedings. If the said amount is not paid
within 30 days, the proper officer is empowered to sell the property for
realisation of the amounts due after deduction of the expenses of sale.

Recovery as
land revenue

Amounts due to the
government can be recovered as arrears of land revenue by applying to the
District Collector. The proper officer would issue a certificate to the
District Collector for recovery of the tax dues under the respective Revenue
Recovery Act under which all rents, incomes arising from the land would accrue to
the government account.

Government has
various options for recovery and though not explicit, the general practice has
been to recover amounts based on their ease of recovery without any specific
sequence. It is discretionary for the officer concerned that he may recover the
amount by attachment and if, in the opinion of the officer concerned, the goods
are of such nature that they are not saleable or would not fetch any price he
may not recover the amount by attachment and sale of such goods. The use of the
methods as provided is discretionary and even if the approach was slightly
indirect it need not be interfered with by the court (Prem Chandra Satish
Chandra vs. CCE (1980 6] E.L.T. 714 [All.]).

PROPER ADMINISTRATION AND OFFICER FOR
RECOVERY

Recovery
proceedings are to be conducted only by the ‘proper officer’ who may or may not
be the adjudicating officer. Section 2(91) of the CGST Act grants the Board the
power to assign the recovery functions to specified officers under its
administration. In view of the cross empowerment provisions, the challenge
would arise on the front of deciding the ‘proper officer’ for recovery
provisions. Does adjudication performed by the Centre permit the state tax
officer to proceed on recovery? The 16th Council meeting has provided exclusive
administrative powers to the state / Central administration based on the
allocation agreed between the governments. Moreover, section 6(2) provides that
where the proper officer has initiated a proceeding on a subject matter under
the CGST Act, the corresponding proper officer under the SGST Act is prohibited
from initiating any proceeding and vice versa. Recovery proceedings
would have to be initiated only by the proper officer from the administration
assigned for the taxpayer.

In the case of the
SGST Act, the Commissioner of the state would be empowered to perform the
assignment. Under the CGST law, the delegation is as follows:

Principal /
Commissioner

Reduce the 3-month
moratorium for recovery (proviso to s. 78)

Addl. / Joint
Commissioner

Permission for
transfer of property in case of pending tax dues

Asst. / Dy.
Commissioner

All other powers

Superintendent /
Inspector

Nil

State Commissioners
have also issued necessary instructions delegating their powers to Assistant
Commissioners for performing the recovery functions. Recently, the High Court
in Valerius Industries vs. UOI 2019 (9) TMI 618 (Guj.) held that
the State Commissioner being a delgatee himself, cannot further delegate the
recovery powers conferred by the State to its junior officers. The provision of
attachment of property on this ground was struck down by the court.

PROCEDURE FOR RECOVERY

The basic
requirement of recovery is that there should be a tax due either through self /
revenue assessment. Rule 142 prescribes the forms and the demand notice to be
issued along with the order of assessment directing the taxable person for
payment of tax dues. The notice is required to quantify the tax, interest and
penalty payable on account of assessment. This demand notice should be arrived
at after adjustments of amounts already paid to the government. Once the
pre-conditions for recovery are satisfied, the recipients to whom the
directions are being served would have to be issued a notice instructing them
to either exercise distraint or appropriate the amounts held with them to the
government. Revenue has in multiple cases attempted to recover taxes pending
adjudication or without any adjudication. This action has been clearly struck
down by courts from time to time and as recently as in Mono Steel India
Ltd. vs. State of Gujarat (2019-TIOL-422-HC-AHM-GST) where bank
attachment immediately on issuance of a show cause notice was set aside.

PECULIARITIES UNDER GST

Though there is
standardisation of the legal framework, the current GST structure (CGST / IGST
and 29 states and 7 UTs; pre- 6^th August, 2019) is still fettered
with tax segmentation and multiple state administrations. This poses definite
challenges over acquisition of jurisdiction for proceeding with recovery.
Section 25 has fragmented a single unified legal entity, based on its presence
across the states, into ‘distinct persons’ for purposes of implementation of the
Act, implying that each state registration is ring-fenced from the rest of the
entity. While the Act has placed this fiction from a legal perspective, most
organisations are unified from an operational perspective. The challenges are
explained by way of examples:

Q1 – ‘A’ a multi-locational entity having registration in all states
would still operate on a single bank account, unified debtor / creditor
relationships and directors / workforce. The proper officer in Maharashtra
having jurisdiction over A_MHwould like to proceed with a garnishee
order to a bank or a debtor of A_DEL.

A1 – Explanation to section 79 prescribes that person would include
‘distinct persons’. The officer is within his powers to issue garnishee notice
to any bank / debtor and recover the sums due from the distinct person. In the
context of recovery, one may have to view the entire entity as one person even
though there is a bifurcation for the purpose of levy and collection of taxes.
Of course, this is an issue that would be subject to judicial scrutiny.

Q2 – Extending this example further to a scenario where distinct bank
accounts / debtor lists are maintained based on registrations… does the
officer have jurisdiction to recover sums due from a debtor of another distinct
person of the entity?

A2 – The proper officer can issue a garnishee to any debtor it chooses
to and is not limited by the geographical limits of the state. The proper
officer can issue a garnishee to all bank accounts / creditors for the purpose
of recovery.

Q3 – A_DEL, a distinct person, has been sanctioned a
CGST/SGST/IGST amount. Would the proper officer of A_MH be entitled
to adjust demands with the refunds sanctioned to A_DEL?

A3 – Specified officer has been defined to include any officer of the
Central / state government. The proper officer may direct the officer of A_DEL
to appropriate the refunds to the outstanding demands in Maharashtra.

SPECIAL PROVISIONS IN RECOVERY

Section 80 – Recovery in instalments: A Commissioner is empowered to permit payments of tax dues in
instalments subject to the condition that any default therefrom would make the entire balance outstanding
without any further recovery notice. The officer in such cases directly
proceeds for recovery of the balance amount after the act of default.

Section 81 – Transfer of property void in certain cases: This
section repudiates any transfer of property by sale, mortgage, exchange, etc.,
which is in the possession of a taxpayer if such transfer has been conducted
with an intention to defraud the government. The proper officer in such cases
is permitted to recover its tax dues from the property notwithstanding the fact
that the property has been transferred by the taxable person. The proviso to
the said section carves out an exception for cases where the transfer is made
for adequate consideration in good faith, or with the prior permission of the
proper officer.

Section 82 – Tax to be first charge on property: This section overrides all laws, except the Insolvency and
Bankruptcy Code, 2016, to state that any amount payable as taxes under the GST
law would be a first charge over the property. In Central Bank of India
vs. State Of Kerala [2009] 21 VST 505 (SC), the three-judge Bench held
that in case of specific provisions in the statute, the sovereign State would
have primacy over secured debt for realisation of sovereign dues and
distinguished the decision in Union of India vs. SICOM Limited [2009] 2
SCC 121, delivered in the context of Central excise, held the converse
in the absence of a specific provision in the statute.

Section 83 – Provisional attachment of property: This section empowers the proper officer to obtain the permission
of the Commissioner seeking provisional attachment of property during the
pendency of any proceeding in order to protect the interest of the Revenue.
Such provisional attachment is valid for a period of one year from the date of
attachment.

Section 84 – Continuation and validation of recovery proceedings: Where the demand notice is subject to appeal, revision, etc., any
subsequent enhancement at a higher forum would need to be followed up with an
additional demand notice. The recovery proceedings in respect of the original
demand can be continued without a fresh notice from the stage at which such
proceedings stood immediately before the disposal of such proceedings. For
example, in case a garnishee order has been issued to a debtor and the same has
been stayed by a court, the proper officer need not issue a fresh garnishee
notice after the passing of the order and can proceed for recovery to the
extent the original demand is confirmed. In case of any enhancement, a fresh
demand notice recovery process would have to be initiated.

LIABILITY IN SPECIAL CASES

The GST law
prescribes cases where the recovery provisions can extend beyond the taxable
person. The cases have been tabulated below:

Scenario

Relationship: Taxable person & other
person

Type of liability of the said person

Transfer of business by sale, gift,
lease, license, etc.

Transferee – Transferor

Joint and several liability on tax dues
up to date of transfer

Principal agency transactions

Agent – Principal

Joint and several liability of principal
on goods sold by agent

Amalgamation / merger

Amalgamating and amalgamated company

Tax dues would be assessed separately in
respective companies’ hands from appointed date to effective date of order

Directorship

Private company – Director

Joint and several liability on directors
who are responsible for gross neglect, misfeasance, etc.

Partnership / HUF

Firm – Partners / HUF – Member

Joint and several liability on partners
up to date of retirement (subject to intimation of retirement) or partition

Guardian / Trustee, court of wards, etc.

Minor – guardian / Trustee, etc.

Recovery from the guardian, etc., in the
same manner as recoverable from minor

Death of individual

Deceased – Legal representative

Legal representative liable entirely,
except where the business is discontinued, in which case the liability is
limited to the estates of the deceased

Dissolution

Firm – Partner

Joint and several liability on partners
up to dissolution

Discontinuation of business

Firm / AOP / HUF – Partner / Member

Joint and several liability on partner /
member

One must note that
there is no outer time limit for recovery of tax dues once the adjudication has
been completed within the specified time frame. Generally, one should expect
that the Revenue would proceed on recovery at the earliest for recovering its
arrears.

Recovery is a necessary tool for the
government to realise its taxes. Yet, this tool should be used cautiously and
wisely for effecting its end purpose rather than mere display of authority over
the taxpayer. The erstwhile law as well as GST Law has already experienced
hasty use of these provisions and leading to the closure of the enterprise
itself. The heads of administration should issue circulars limiting the
instances where such provisions should be invoked, in a way ensuring efficient
recovery of taxes rather than killing the golden goose itself.

shailesh.kwebmaker

RECORDS AND THEIR MAINTENANCE

Indirect tax being a transaction-based impost, it relies heavily on
transaction-level documentation for its implementation. The new millennium has
already completed a ‘graduation’ in statutory record maintenance – from preset
formats to content-based requirements. GST is a step in the same direction with
the added advantage of digitisation. This article lists some of the
documentation requirements under GST.

Persons liable to maintain records:

(a) A person who is
registered (or liable to register) is required to maintain books of accounts
and records; distinct persons (such as branches, regional offices, etc.) of
such registered entities are required to maintain separate books of accounts
pertaining to their operations;

(b) Certain designated
persons seeking registration for specific transactions (such as a deductor of
tax u/s 51; an e-commerce operator operating as a collector u/s 52; an input
service distributor) are required to maintain records for the purposes for
which they are designated;

(c) The owner of a place of
storage of goods (such as a warehouse, godown, etc.) and transporters / C&F
agents are also required to maintain records of consignor, consignee and
specified details of goods. This requirement is placed even though the person
concerned does not have any ownership over the goods and their movement.
Independent enrolment forms have been prescribed (in Form ENR-01/02) for this
purpose. It is perceived that this provision is applicable only to person/s who
have possessory rights over the goods and should not be made applicable in
cases where the owner of the place of storage has merely leased out the
premises for storage without any control over the storage of goods.

(d) Casual taxable person /
non-resident taxable person doing business temporarily in a state / country is
required to maintain books of accounts for its operational period in that state
/ country;

(e) Agent (typically,
representative agent) is required to maintain accounts in respect of the
movement, inventory and tax paid on goods of each principal with the statement
of accounts of the principal;

(f) Reporting agencies (such as
state governments, registrars / sub-registrars, stock exchanges, the Goods and
Services Tax Network, electricity boards, etc.) are required to maintain and
report details of information specifically required to be reported in the
information return under GST;

(g) A GST practitioner is
required to maintain records of the statements / returns being filed on behalf
of the registered persons.

List of records (section 35):

Section 35 of the CGST / SGST Acts provides for the maintenance of the
following records by registered persons at each place of business, e.g. each
stockyard would need to maintain a separate stock account of goods:

(i) Production or manufacture
of goods,

(ii) Inward and outward supply
of goods / services,

(iii) Stock of goods,

(iv) Input tax credit availed,

(v) Output tax payable and paid,

(vi) Any other requirement
specified.

In special circumstances, the Commissioner may on application prescribe
waiver over maintenance of specific documents, where the trade practice
warrants such waiver on account of difficulty in maintenance. Since this is a
discretionary power, the Commissioner can prescribe a conditional waiver (such
as subject to alternative document, etc.), too. Such records are required to be
audited by a chartered / cost accountant and submitted with the annual return
for the relevant year.

Specified Contents (Rule 56):

In addition to the above, the rules prescribe maintenance of the
following details:

(1) Stock registers should contain
quantitative details of:

(a) raw
material consumption,

(b) details
of goods imported and exported,

Costing
records with standard conversion ratios can be maintained, especially in case
of standardised goods;

(2) Transactions attracting
reverse charge with details of the inward supplies;

(3) Register of prescribed
documents, i.e., tax invoice, debit / credit notes, receipts / payment / refund
vouchers, bills of supply and delivery challans;

(4) Details of advance receipts,
payments and their adjustments.

Statutorily prescribed documents:

Tax invoices / debit notes / credit notes / e-way bills / receipt
vouchers etc. have been prescribed with their contents. These documents are not
permitted to be revised except where specified in the statute (such as issuance
of a revised invoice with attestation of the GSTIN number for a new registrant).

Tax invoices – These are required to be issued for
any taxable supply in accordance with the timings specified in section 31. It
not only proves supply of goods or services, but is also an essential document
for the recipient to avail Input Tax Credit. There are approximately 17
requirements and the said document is required to be issued in triplicate for
supply of goods and in duplicate for supply of services. Banking and insurance
companies have special instructions / waivers. An invoice document can be
signed with a digital signature of the supplier or its authorised
representative. An electronic invoice issued in terms of the Information
Technology Act, 2000 does not require a signature or digital signature. Persons
with a turnover above Rs. 1.5 crores and up to Rs. 5 crores and those above Rs.
5 crores should quote four-digit HSNs as against the eight-digit HSN in the
customs tariff.

Receipt / refund vouchers and payment
vouchers – These
documents are issued when there is flow of funds between the contracting
parties. This is a new prescription in comparison to the erstwhile laws and
aimed at documenting events occurring before the time of supply. Receipt
voucher is issued for any advance, refund vouchers are issued on refund of any
advance prior to issuance of tax invoice. Payment vouchers are issued by
recipients of supplies who are liable to tax under reverse charge provisions
signifying the date of payment and an affirmation to the supplier that he / she
would be making the payment under reverse charge provisions.

Debit / credit notes – Any upward / downward adjustment in
valuation after issuance of tax invoices can be undertaken only through debit /
credit notes. In the context of GST, these can only be issued in specific cases
u/s 34. But the section does not preclude any entity to issue debit / credit
notes in other circumstances in order to settle or adjust inter-party accounts.
In addition to the details specified in the tax invoice, the debit note and
credit note will also contain reference to the original invoice against which
it is being issued.

Bill of supply – This document is issued in case of an
exempt supply. In case where a taxpayer is making taxable and exempted supplies
(such as retailers), an invoice-cum-bill of supply can be issued containing the
required details.

Delivery challan – This document is required where
movement of goods takes place other than by way of supply, for job work, the
supply of liquid gas and other prescribed scenarios. It is also issued in case
of supply where the movement of goods takes place under completely /
semi-knocked-down condition in batches or lots. This should also be issued in
triplicate with the original document moving along with the goods in movement.

Business specific requirements:

(a) Works contractors are
required to maintain details of receipt of goods / services and their
utilisation in respect of each works contract separately along with the other
details specified above. With effect from 1^st April, 2019,
developers are required to maintain project-wise details of inputs, RCM and
books of accounts under the recently-issued real estate scheme;

(b) While the principal is
principally liable to maintain records of its goods at job worker location, the
job worker is also required to maintain specific records in respect of each
principal’s goods, their consumption / output and their inward / outward
movement; and

(c) Persons under the
composition scheme are required to maintain books of accounts and records with
specific waivers on the input tax credit front.

Electronic records – Rule 57:

Section 4 of the Information Technology Act, 2000 states that
maintenance of records in electronic form would meet statutory requirements
provided that the records should not be capable of being erased, effaced or
over-written and equipped with an audit trail, i.e., any amendment or deletion
of an incorrect entry should be under due authorisation and traceable with a
log of details. The electronic records [section 2(t) states that any data,
record or image or sound stored, received or sent in electronic form is an
electronic record] should be authenticated by means of digital signatures by
authorised agents of the registered person. The GST law also contains
provisions to this effect. Many accounting packages may not meet the
requirement of having an audit trail of data captured in the software and may
be staring at an unintended violation. Section 65B of the Indian Evidence Act,
1872 prescribed that an electronic record duly authenticated as per the IT Act
would serve as a documentary evidence in any proceeding and shall be admissible
in any proceedings without any further proof or production of the original
document.

Not only should the registered person maintain records of the respective
principal place and additional places, but should also take necessary steps for
recovery in case of data corruption or disaster recovery by maintaining
suitable back-ups of such records. In view of this specific prescription,
officers may be empowered to perform best judgement assessments even in cases
where records are irretrievable due to natural causes / accidents, etc., on
ground of non-maintenance of appropriate data recovery mechanisms.

Rule 56(15) requires electronic records to be authenticated with an
electronic signature. Interestingly, the IT Act considers an ‘electronic
signature’ secure and reliable only if the signature was created under the
exclusive control of the signatory and no other person. MSME managements
habitually handing over signatures to others for operational convenience are
finding this requirement to be an uphill task and an unknown risk.

Location / accessibility:

Records are required to be maintained at the principal place of business
specified for each state in which the registered person operates. In case of
additional places of business, location-specific records are required to be
maintained at the respective locations. In peculiar cases of un-manned
structures such as IT infrastructure, windmills, etc., constituting the place
of business, identification / sufficiency and accessibility of records would
become challenging. The documents should be readily accessible to the proper
officer and the taxpayer is duty-bound to assist the officer with all the
security systems in order to facilitate their verification.

Sufficiency in documentation:

GST places the onus on the taxpayer / Revenue to establish the presence
of a fact while invoking the provisions. The Indian Evidence Act, 1872 lays
down principles when evidence is sufficient to prove a fact, its probable
existence or non-existence. Under the Act, documentary evidences are segregated
into primary and secondary evidences and their implications as evidence have
been set out. In tax laws, the first resort to establish a fact is usually the
documentation maintained by the person. Normal accounting set-ups do not meet
all requirements prescribed in GST and information has to be sourced from the
operational set-up of the organisation. Some instances in the context of GST
are explained below:

(i) Time of
supply / raising tax invoice – One of the parameters used to ascertain the time of supply of
services is provision / completion of the service. Services are intangible in
nature and contracting parties usually do not document their start and end
point. An assessee operating under long-duration / phased contracts should
document milestones either with counter party (such as service completion
certificate, warranty certificates, etc.) or external certificates. This would
also assist the taxpayer to claim refund in case of excess payment arising on
cessation of contracts. The tax invoice should, apart from the mere description
of the service, also report the start and end date of the assignment with the
end deliverable in this time frame.

(ii) Input
tax credit claim –
Section 16(1)/(2) requires that the taxpayer establish use / intent to use and
receipt of services for establishing its right of input tax. The primary onus
is on the taxpayer for establishing this fact and once this is established it
would be the Revenue’s turn to establish this fact from records. Rule 57(13)
requires even service providers to establish utilisation of input services.
This becomes challenging and the authors’ view is that mere payment or debit in
the accounts of the assessee may not be sufficient to discharge the primary
onus. While there is no prescriptive list and it is highly fact-specific, the
taxpayer would have to establish the delivery of a service by the service
provider and its acceptance by the recipient, e.g. a company can furnish the
copy of the signed auditor’s report as proof of receipt of an audit service, an
IT company can furnish the repair and service report, etc. The recipient should
stamp the vendor tax invoice (electronic / physical) and map the same with
service completion report of the vendor’s counter signature to establish this
fact at a later date.

(iii) Possession of invoice vs. GTR-2A matching – Input tax credits are permissible on
the basis of invoices of the supplier. Vendors are also mandated to upload the
details of the invoices on the GST portal which can be matched by the recipient
at his / her end. Can this facility in the portal which has been designed to
act as a self-policing system for the Revenue also assist the taxpayer to
contend that the presence of the details on the portal is itself a recognised
invoice and a sufficient substitute to the requirement of possessing of the
original invoices? While one may argue that 2A reports do not capture all
details of an invoice (for testing eligibility, etc.), this is certainly a
plausible defence which taxpayers can resort to. Taxpayers can certainly
establish receipt of service by other collateral documents (such as contracts,
email trails, etc.) and these should ideally meet the requirements of officers
insisting on production of original invoices. The CBEC circular in the context
of refund has waived the requirement of submission of input invoices for
invoices appearing in the GTR-2A statement on the portal (No. 59/33/2018-GST,
dated 4^th September, 2018).

(iv) Inventory in manufacturing and service
set-ups –
Manufacturers and service providers are required to maintain the stock of
consumption of goods. While the prescription is to maintain details of
consumption, it is advisable to map this with the costing records (standard
consumption ratios, etc.), bill of materials, shop floor registers, etc., in
order to produce the same before authorities in case of any allegation of
excessive wastage / clandestine removal, etc. The factory records should
contain the entire trail of consumption of raw materials right from the store
inwards up to the finished goods section. Batch records of inputs and their
journey to the particular batch of final products would be essential where raw
materials and finished goods do not have stable pricing. This also assists in computation
of any input tax reversal in case of ascertaining the input tax credit
component on destruction of goods such as by fire, etc. Service sector (without
a strong ERP) would face the challenge of establishing the consumption of
goods, especially where the unit of measurement of billing is different from
the UOM of the materials indented into the stock. In ‘Bill to Ship to
Movement’, the intermediate supplier should prove that the goods have been
received by the ‘end buyer’ in the transaction chain.

(v) Valuation
under prescriptive rules, i.e., fair market value, rejection, cost plus, etc. – Valuation rules require to first
ascertain fair market value / open market value, non-monetary components, etc.
in case of fixing the taxable value. These values can be documented from market
databases, stock exchange details, regulatory publications, etc. Pricing of
like comparable transactions can be sought from third-party quotations;
purchase orders may be obtained and documented as a justification of the
valuation. In case cost-plus pricing is sought to be resorted to, documentation
of the rejections of other methodology and computation of costs through costing
records becomes essential.

(vi) Identification of inputs / input services /
capital and their usage in exclusive / common category – Rules 42/43 require tax credits to be
categorised in three baskets. The classification is driven by the end use of
the particular input. While the inventory records may record the issuance of
inputs to the particular goods / services, the end use of input services and
their exclusiveness to a particular class of supply (taxable, exempt,
zero-rated) should be documented through cost centres, project costing
documentations, etc.

(vii) Proving against unjust enrichment /
profiteering – Section
49(9) presumes that taxes paid by a person have been passed on to the recipient
of goods / services. Any claim of refund by such person would have to overcome
this burden of proof. As per the learning from erstwhile laws, one should
maintain affidavits, declarations from counter parties, price comparisons for
pre- and post the change in tax rates, costing / accounting records,
identification of end consumer, certifications, etc. for establishing against
unjust enrichment / profiteering.

(viii) Change in rate of goods / services and
cut-off date records: exemption to taxable vice-versa – In case of change in tax status for
goods / services, documentation over the criteria of supply of goods /
services, payment and invoicing should be maintained for all open transactions
on the said cut-off date. Apart from this, input tax credits of inputs in stock
or contained in unfinished / finished goods for availment / reversal should
also be maintained.

(ix) Maintenance of pre-GST documentation – Transitional provisions specify
certain conditions to be prevalent on 1^st July, 2017 for availing benefits under the GST law. Moreover,
the status of certain unfinished transactions on this date (incomplete
services, partially billed services, advances, etc.) should have been
documented. For example, a dealer availing transition credit of stock available
from purchase prior to 1^stJuly, 2017 should be in a position to map
the stock in hand to the invoice which should be within one year from the date
of introduction of GST.

(x) Presence
/ absence of an intra-branch / registration activates – This is certainly a problem whose
solution is ‘elusive’ for all taxpayers having multi-locational presence. No
one, including the government administration, has a clue about this Pandora’s
Box. In a de-clustered environment, companies have started documenting internal
roles and responsibilities of offices and sharing of resources through
time-sheets and building invisible walls within the organisations. These are
passed at board meetings and maintained as per company records for future
production before officers. In clustered environments where the entire set-up
works so cohesively and partitions are impossible to be even envisioned and
documented, companies need to take a conservative approach and discharge the
taxes to protect themselves against any future cash loss.

(xi) Refund provisions require specific details – Refund procedures require certain
endorsements and proofs such as FIRCs / BIRCs for meeting the sanction
conditions. Currently, banks have refused to issue FIRCs on receipt of foreign
inward remittances citing a FEDAI circular. Some banks are issuing the same
only if a specific application has been made by the account holder. Being a
statutory requirement, as a last resort one should pursue this matter with the
banker and obtain alternative declarations which contain all the requirements
of the FIRC and make necessary submissions.

Other regulatory laws:

The Companies Act,
the Income-tax Act, banking / insurance regulation laws, etc. are also
governing organisations in record maintenance and GST requirements can be met
with the assistance of reports under other laws. Entities would of course have
to apply the more stringent provision in order to harmonise requirements across
laws. For example, the Companies Act requires that the books of accounts of the
company should be kept at the registered office except where the Board of
Directors adopts an alternative location with due information to the Registrar
of Companies. This conflict between GST and the Companies Act can be resolved
by the Board adopting a resolution to maintain accounts at distinct locations
to comply with GST laws. In any case, mere access to electronic records at a
particular location is also sufficient compliance with GST requirements in
terms of section 35 of the Act. The Companies Act also requires reporting the
Internet Service Provider credentials where details are maintained on a cloud
platform. The Income-tax Act requires maintenance of transfer pricing
documentation and this could serve as a ground for corroborating the valuation
approach of the taxpayer. Labour laws may require an establishment level
reporting of employees which may serve as deciding the salary costs of a
distinct person under GST. One would have to approach documentation with an
open mind to extract as much information as possible from available statutory reports rather than reinventing the
wheel and duplication of records.

Time limit for retention of records (section 36):

The prescribed records are required to be maintained for a minimum
period of six years from the due date of furnishing the annual return for the
relevant year. In case of any pending legal proceedings as at the end of six
years, the relevant documents pertaining to the subject-matter of dispute are
to be maintained for one year after the final disposal of the proceedings. With
the annual return due dates being extended to 31^st December, 2019,
the due date of assessments and retention of records are also being extended
for the taxpayers concerned.

Implications for non-maintenance of records:

Non-maintenance of
records invites penalty u/s 122 to the extent of Rs. 10,000 or 100% of the tax
evasion, apart from the penalty imposable for non-payment of tax dues. Such
failure would invite best judgement assessment based on other data such as
electricity records, 2A reports, e-way bills, paper slips, past history, etc.
For the first time, the statute has introduced a fiction that non-accountal of
goods or services from records (shortage of goods on physical verification,
numerical variances, storage at unregistered places [rule 56(60)] etc.), would
invite show cause proceedings for recovery of tax on such goods. However, this
presumption is rebuttable with credible evidence, including the fact of
destruction, loss or otherwise of goods.

As one implements the
requirements, the trichotomy of materiality, practicality and technicality
would stare the taxpayer in the face. The dividing line of segregating
documents which are mandatory and those which are ancillary is very thin and
difficult for a taxpayer to decide upon. Law has prescribed the minimum
criteria and it is in the taxpayer’s own interest to implement the law and
maintain additional documents to substantiate his claims under the Act. It
takes less time to do things right than explain why you did it wrong – Henry
Wadsworth.

With
increased self-reporting over digital formats, there is also a high expectation
for the government to gear up its Information Technology capabilities. In a
bi-polar administration, it is very essential that the administration
streamline its documentation demands by avoiding parallel requests consuming
unnecessary time and economic resources. Governments should appreciate that
‘Compliance’ is just a subset of ‘Governance’ and not the other way round.

shailesh.kwebmaker

TIME OF SUPPLY UNDER GST

INTRODUCTION

1. It’s a trite law that for a tax
law to survive there needs to be a levy provision which determines when
the levy of tax would be triggered, i.e., when the taxable event takes place;
and a collection provision which determines when the levy of tax
triggered can be collected by the Department. The levy provision precedes the
collection provision and in the event the levy is not triggered, the collection
provision also does not get triggered. In other words, without levy getting
triggered, the collection mechanism fails. This distinction between the levy
and collection provisions has been dealt with by the Supreme Court on multiple
occasions.

2. In this article, we shall
discuss in detail the provisions relating to collection of tax dealt with in
Chapter IV of the CGST Act, 2017.

TIME OF SUPPLY – CASES UNDER FORWARD CHARGE
(OTHER THAN CONTINUOUS SUPPLY)

3. Section 9, which is the charging
section for the levy of GST, provides that the tax shall be collected in such
manner as may be prescribed. The manner has been prescribed u/s. 12 to 14 of
the CGST Act, 2017. Sections 12 and 13 thereof deal with time of supply of
goods and services, respectively, while section 14 deals with instances when
there is a change in the rate of goods / services supplied.

4. Sections 12 (1) and 13 (1)
thereof provide that the liability to pay tax on supply of goods and / or
services shall arise at the time of supply of the said goods and / or services
and then proceeds to list down events when the time of supply shall be
triggered in the context of goods and services, respectively. The provisions
relating to time of supply, in cases where the tax is liable under forward
charge, is tabulated alongside:

Time of supply in
the case of supply of goods

Time of supply in
the case of supply of services

Section 12 (2):

The time of supply shall be earliest of:

Date
of issue of invoice by supplier or the last date on which the invoice is
required to be issued u/s. 31 (1) with respect to the supply [Clause (a)]

Date on which the supplier receives the payment for
such supply [Clause (b)]

Section 13 (2):

The time of supply
shall be earliest of:

If
the invoice is issued within the time prescribed u/s. 31 (2) – date of issue
of invoice OR the date of receipt of payment, whichever is earlier [Clause
(a)]

If
the invoice is not issued within the time prescribed u/s. 31 (2) – the date
of provision of service OR the date of receipt of payment, whichever is
earlier [Clause (b)]

If
the above does not apply – date on which the recipient shows the receipt of
service in his books of accounts [Clause (c)]

5. As can be seen from the above,
sections 12 (2) and 13 (2) provide that in normal cases, the time of supply
shall be determined based on the issuance of invoice within the timeline
prescribed u/s. 31. The time limit for issuing invoice u/s. 31 is as under:

In case of supply of
goods

In case of supply of
services

Section 31 (1):

Invoice shall be
required to be issued before or at the time of

Removal
of goods for supply to recipient, where supply involves movement of goods

Delivery
of goods or making available thereof to the recipient in any other case

Section 31 (2):

Invoice shall be required to be issued before or after
the provision of service, but within prescribed time limit of issue of
the invoice, which has been prescribed as 30 days u/r. 47 of CGST Rules, 2017

6. From the above, it is evident
that in case of goods, the time of supply is determined based on the nature of
goods. For tangible goods, there are two scenarios envisaged, namely:

Where there is movement of goods involved –
this would cover both, ex-works as well as CIF contracts. Before the movement
of goods is initiated, the supplier will have to issue the invoice,
irrespective of whether the risk and rewards associated with the goods have
been transferred or not;

Where there is no movement of goods – this
would cover situations where the supply of goods takes place only by way of
transfer of title. For instance, transactions in a commodity exchange, where
the sale has culminated and ownership changed hands, but the movement of goods
does not take place. Instead there is merely an endorsement on the warehouse
receipts. In such cases, the invoice will have to be issued before the
endorsement takes place. Further, there are transactions wherein a supplier is
required to keep a bare minimum stock of goods for a particular customer and
the said stock cannot be sold to a third party. In such cases also, when the
goods are appropriated for a particular customer, though the delivery is not
taken by the customer, the time of supply shall get triggered at the moment
when the appropriation towards a particular customer takes place.

7. However, in case of intangible
goods, since the question of movement does not arise, in such cases the time of
supply shall be the date when the transfer takes place. For instance, in a
transaction involving permanent transfer of copyrights, time of supply shall be
the date when the transfer is executed, i.e., when the ownership of the rights
is transferred as per the provisions of the Copyright Act.

PROVISION OF SERVICE – ISSUES

8. However,
the issue arises in the case of services since the triggering of time of supply
is predominantly based on completion of provision of service. However, what is
meant by completion of provision of service is a subjective issue and has its
own set of implications as discussed below:

Method of accounting – it is possible that
the supplier of service would be required to recognise revenue on accrual
basis; however, the provision of service may not have been completed. It is
possible that the Department may treat that the accrual is on account of
completion of service, without appreciating the fact that the service provision
might not have been completed in toto and, therefore, the supplier is
not in a position to issue invoice for claiming the amount from the recipient,
though he may have been required to accrue the invoice as per the accounting
standards.

Client
approval of work proof of completion of service – There are instances when the
actual execution of service might have been completed, but the confirmation of
the same by the client might be pending. For instance, in case of contractors
there is an industry practice of lodging a claim with their principal by
raising a Running Account Bill which contains the detail of work done by the
contractors, which would be then certified by the principal for its correctness
and based on the certification alone would payment be made to the contractor.
In such cases (assuming this is not classifiable as continuous supply of
services), the question that arises is whether the completion of service shall
be on raising the RA bill or when the same is approved by the client? The
answer to this question can be derived from the CBEC Circular 144 of 2011 dated
18.07.2011 which was issued in the context of Point of Taxation Rules, 2011
under the erstwhile service tax regime and clarified as under:

2. These representations have been examined. The
Service Tax Rules, 1994 require that invoice should be issued within a period
of 14 days from the completion of the taxable service. The invoice needs to
indicate inter alia the value of service so completed. Thus it is important
to identify the service so completed. This would include not only the physical
part of providing the service but also the completion of all other auxiliary
activities that enable the service provider to be in a position to issue the
invoice. Such auxiliary activities could include activities like measurement, quality
testing, etc., which may be essential prerequisites for identification of
completion of service. The test for the determination whether a service has
been completed would be the completion of all the related activities that place
the service provider in a situation to be able to issue an invoice.
However, such activities do not include flimsy or irrelevant grounds for delay
in issuance of invoice.

CASES WHERE INVOICE HAS NOT BEEN ISSUED BUT
RECEIPT OF SERVICE ACCOUNTED BY RECIPIENT

9. A specific anomaly lies in
section 13 (2). Clauses (a) and (b) thereof provide for determination of time
of supply of service where the invoice has been issued within the prescribed
time limit or not issued within the prescribed time limit. In other words,
these two scenarios can be there in any supply. However, clause (c) further
introduces a new scenario where neither clause (a) nor (b) applies. Clause (c)
deals with a situation wherein the recipient has accounted for receipt of
service. The question that therefore arises is whether the recipient accounting
for receipt of service can be a basis to say that the provision of service has
been completed? There can be cases where the recipient has merely provided for
expenses on accrual basis, though the service provision may not be completed.

TIME OF SUPPLY – CONTINUOUS SUPPLY

10. However, the above general rule
for cases covered under forward charge mechanism will not be applicable in
cases where the supply is classifiable as continuous supply of goods / services
as defined u/s. 2. and reproduced below for ready reference:

Continuous supply of goods

Continuous supply of services

(32) “continuous supply of goods” means a supply of
goods which is provided, or agreed to be provided, continuously or on
recurrent basis, under a contract, whether or not by means of a wire, cable,
pipeline or other conduit, and for which the supplier invoices the recipient
on a regular or periodic basis and includes supply of such goods as the
government may, subject to such conditions as it may deem fit, by
notification specify;

(33) “continuous supply of services” means a supply of
services which is provided, or agreed to be provided, continuously or on
recurrent basis, under a contract, for a period exceeding three months with
periodic payment obligations and includes supply of such services as the
government may, subject to such conditions as it may deem fit, by
notification specify;

11. The question that therefore
arises from the above, is what shall be covered within the purview of
continuous supply? In the view of the authors, what would classify as
continuous supply would be instances where the supply of goods / service is
continuous in the sense that whenever the recipient, say, starts his stove, the
goods are available. Similarly, renting of immovable property service would
also qualify as continuous supply since the service is continuous in nature.

12. On the other hand, recurrent
supply would mean a supply which is provided in the same form over and over
again, but not on a continuous basis. For instance, a GST consultant has agreed
to file the returns of his client on a monthly basis. This would classify as
recurrent service which the consultant keeps on providing over a period of time
and therefore classified as being in the nature of continuous supply.
Similarly, even in the context of goods, there can be examples of recurrent
supply. A mineral water supplier supplying two bottles of water on a daily
basis is an example of recurrent supply. All such supplies shall qualify as
continuous supply and accordingly the time limit for issuance of invoice shall
be as follows:

In case of
continuous supply of goods

In case of
continuous supply of services

Section 31 (4):

Where successive statements of accounts or successive
payments are involved, the invoice shall be issued before or at the time when
such successive statements are issued or each such payment is received.

Section 31 (5):

Invoice shall be
issued:

Where
due date of payment is ascertainable from the contract – on or before the due
date of payment.

Where
due date of payment is not ascertainable from the contract – before or at the
time when the supplier receives the payment.

Where
payment is linked to completion of an event – on or before the date of
completion of event.

TIME OF SUPPLY – REVERSE CHARGE CASES

13. Sections 12 (3) and 13 (3) deal
with the provisions relating to time of supply in cases where reverse charge
mechanism is applicable. The relevant provisions are tabulated below for ready
reference:

Time of supply in
case of supply of goods

Time of supply in
case of supply of services

Section 12 (3):

The time of supply shall be earliest of:

Date of receipt
of goods.

Date of payment
as entered in the books of accounts of the recipient or the date on which the
payment is debited in the books of account.

Date
immediately following 30 days from the date of issue of invoice or any other
document by the supplier.

If time of supply cannot be determined as per the above,
the same shall be the date of entry in the books of accounts of the recipient
of supply.

Section 13 (3):

The time of supply shall be earliest of:

Date of payment
as entered in the books of accounts of the recipient or the date on which the
payment is debited in the books of account.

Date
immediately following 60 days from the date of issue of invoice or any other
document by the supplier.

If time of supply cannot be determined as per the above,
the same shall be the date of entry in the books of accounts of the recipient
of supply or date of payment, whichever is earlier.

Further in case of supply by associated enterprises
located outside India, the time of supply shall be the date of entry in the
books of accounts of recipient / date of payment, whichever is earlier.

CASES WHERE THERE IS A DELAY IN ACCOUNTING
THE INVOICE

14. At times, it so happens that the
recipient receives the invoice after the lapse of the prescribed time limit,
thus resulting in delay in accounting such invoices as well as discharge of
liability. In such cases, the question that arises is whether there is a delay
in accounting the invoice on account of factors beyond the control of the
recipient; for instance, in non-receipt of invoice within the prescribed time
limit, can interest liability be triggered for late payment of tax? In this
regard it is important to note that the provisions of section 12 (3) as well as
section 13 (3) clearly provide for triggering of liability upon completion of
the event, without any scope of exception.

Therefore, on a literal reading of the provisions, it is evident that interest
would be payable in such instances.

15. However, a contrary view can be
taken that the provision imposes a condition on the recipient which cannot be
fulfilled. It can be argued that the principle of lex non cogitadimpossibilia’
is triggered, i.e., an agreement to do an impossible act is void and is not
enforceable by law. This principle has been accepted in the context of indirect
taxes as well¹. Based on the same, it can be argued that since on
the date of expiry of 30 / 60 days period the invoice itself was not available
with the recipient, it was not possible for him to discharge the tax liability
and therefore it cannot be said that the recipient has failed to make payment
of tax and is therefore liable to pay interest.

TIME OF SUPPLY IN CASE OF VOUCHERS

16. The term voucher has been
defined u/s. 2 (118) to mean

“an instrument where there is an obligation to
accept it as consideration or part consideration for a supply of goods or
services or both and where the goods or services or both to be supplied or the
identities of their potential suppliers are either indicated on the instrument
itself or in related documentation, including the terms and conditions of use
of such instrument”.

17. Vouchers are generally
classified as Prepaid Instruments and are governed by the Payment &
Settlement Systems Act, 2007 read with RBI Circular DPSS/2017-18/58 dated
11.10.2017 wherein it has been provided that there can be two type of vouchers,
namely:

Closed System PPI – wherein the voucher is
issued directly by the supplier (for example, recharge coupons issued by
telecoms, DTHs, etc.) for facilitating the supply of their own goods /
services. In fact, closed system PPI can be used for specific purposes only.
For instance, hotel vouchers issued by various hotel brands can be used for
availing specific service that would be mentioned on the voucher only;

Semi-closed System PPI – wherein the voucher
is issued by a system provider which can be used by the voucher holder to
purchase goods / services from suppliers who are registered as system
participant (for example, Sodexo, Ticket Restaurant® Meal Card, etc.). Such
semi-closed system PPI can be used for procuring any supplies that the system
participant would be making. For example, Sodexo voucher can be used for buying
food-grains as well as vegetables from the system participant.

18. In view of this distinct nature
of the vouchers, depending on the nature of voucher and the underlying
deliverable from the voucher, the time of supply provisions have been prescribed
as under:

In case the voucher
is consumed / to be consumed towards procuring goods

In case the voucher
is consumed / to be consumed towards procuring services

The time of supply,
if voucher used / to be used for supply of goods shall be:

If
underlying supply is identifiable at the time of supply of voucher, the date
of issue of voucher.

In
other cases, the date of redemption of voucher.

The time of supply,
if voucher used / to be used for supply of service shall be:

If
underlying supply is identifiable at the time of supply of voucher, the date
of issue of voucher.

In
other cases, the date of redemption of voucher.

TIME OF SUPPLY – RESIDUARY PROVISIONS

19. Further,
sections 12 (5) and 13 (5) provide that in case the time of supply of goods /
services is not determinable under any of the above sections, the same shall be
determined as under:

If periodical return is to be filed, the date
on which such return is to be filed.

Else, the date on which tax is paid.

20. In addition, sections 12 (6) and
13 (6) provides that the time of supply in case of addition in value of supply
on account of interest, late fee or penalty for delayed payment of
consideration received from customer, shall be at the time of receipt of such
amount and not at the time of claiming the same from the customer.

TIME OF SUPPLY – TAX ON ADVANCES

21. Sections 12 (2) as well as 13
(2) provide that in case the earliest event is the date of receipt of payment,
in such a scenario tax shall be payable at the time of receipt of such advance
consideration. However, it has to be noted that such advance payment has to
pass the test of consideration, as per the definition provided u/s. 2 (31)
which is reproduced below for ready reference:

(31) “consideration” in relation to the supply of goods or services
or both includes —

(a) any payment made or to be made, whether in
money or otherwise, in respect of, in response to, or for the inducement of,
the supply of goods or services or both, whether by the recipient or by any
other person but shall not include any subsidy given by the Central government
or a State government;

(b) the monetary value of any act or forbearance,
in respect of, in response to, or for the inducement of, the supply of goods or
services or both, whether by the recipient or by any other person but shall not
include any subsidy given by the Central government or a State government:

Provided that a deposit given in respect of the
supply of goods or services or both shall not be considered as payment made for
such supply unless the supplier applies such deposit as consideration for the
said supply.

22. From the above, it is more than
evident that for any payment received to be considered as supply, it has to be
in relation to the supply of goods or service. If such relation cannot be
established, the payment would not partake the character of consideration and
therefore tax would not be payable on the same. In fact, in the context of
service tax, the Mumbai Bench of the Tribunal has in the case of Thermax
Instrumentation Limited vs. CCE [2017 (51) STR 263] held as under:

8. In the present case the advance is like earnest
money for which a bank guarantee is given by the appellant. It is a fact that
the customer can invoke the bank guarantee at any time and take back the
advance. Hence the appellant does not show the advance as an income, not
having complete dominion over the amount, and therefore, the same cannot be
treated as a consideration for any service provided. Therefore, the
findings lack appreciation of the complete facts and evidences (only relevant
extracts).

23. It is also pertinent to note
that proviso to sections 12 (2) as well as 13 (2) provide that if a supplier
receives an excess payment up to Rs. 1,000 in excess of the amount indicated in
the tax invoice, the time of supply of such excess payment shall be the date of
issue of invoice in respect of such excess payment, at the option of the
supplier.

24. However, it is important to note
that the tax payable on receipt of advance for supply of goods has been
exempted vide notification 40/2017 – CT dated 13.10.2017 for taxable person having
aggregate turnover not exceeding Rs. 1.5 crore. The same has been further
extended to all taxable persons vide notification 66/2017 – CT dated
15.11.2017.

TIME OF SUPPLY – IN CASE OF CHANGE IN RATE OF
TAX

25. Section 14 deals with the
provisions relating to determination of time of supply in cases where there is
a change in the rate of tax in respect of goods / services / both based on the
following:

Provision of Service

Issuance of Invoice

Receipt of Payment

Effective tax rate
as applicable on

Before change in tax
rate

After change in tax
rate

The date of invoice
or payment, whichever is earlier

Before change in tax
rate

After change in tax
rate

The date of invoice

Before change in tax
rate

After change in tax
rate

Before change in tax
rate

The date of receipt
of payment

After change in tax
rate

Before change in tax
rate

After change in tax
rate

The date of receipt
of payment

After change in tax
rate

Before change in tax
rate

The date of invoice
or payment, whichever is earlier

After change in tax
rate

Before change in tax
rate

The date of invoice

26. However, it is important to note
that the above table will apply only in case where there is a change in rate of
tax or a supply which was earlier exempted becomes taxable and vice versa. This position has been
settled under the pre-GST regime in the case of Wallace Flour Mills Company
Limited vs. CCE [1989 (44) ELT 598 (SC)] wherein the Court held that if at
the time of manufacturing, goods were exempted but the same was withdrawn
during removal, they would be liable to duty on the date of their removal.

27. However, the above cannot be
applied in case an activity which was not classifiable as supply is made liable
to tax in view of the decision of the Supreme Court in the case of Collector
of Central Excise vs. Vazir Sultan Tobacco Company Limited [1996 (83) ELT 3
(SC)] wherein the Court held that once the levy is not there at the time
when the goods are manufactured or produced in India, it cannot be levied at
the stage of removal of the said goods.

CONCLUSION

28. Under the pre-GST regime, the
tax payers were saddled with multiple provisions relating to levy and
collection. The same situation continues even under the GST regime, with levy
being consolidated into a single event of supply and the collection provisions
continue to be complicated with distinct provisions prescribed for goods as
well as services.

29. Failure to comply with the collection
provisions may not only expose the taxable person to interest u/s. 51 in case
of self-determination of such non-compliance, but may also expose them to
recovery actions u/s. 73 if action is initiated by the tax authorities.
Therefore, all taxable persons will have to be careful while dealing with the
provisions relating to time of supply of goods and / or services to avoid such
consequences.

shailesh.kwebmaker

INTERCEPTION, INSPECTION, DETENTION OR SEIZURE, CONFISCATION

GST law had
promised to usher in a host of reforms on hastle free movement goods across the
country. Some of the promising features of GST involved abolition of
check-posts, common way bill management systems, uniformity in law enforcement
across the country thus boosting business efficiency in logistics. This has certainly
freed business enterprises from shackles of traditional law enforcement and is
on course to digitization of enforcement to improve the administrative
effectiveness and minimise hurdles to trade and commerce.

In-transit
inspection plays a critical role in law enforcement. Interception, detention
and seizure provisions of the GST law perform the function of administrating
law on a real-time basis to check tax evasion during movement of goods. Section
68 of Chapter XIV contains enforcement provisions and grants wide powers to the
tax administration. Active tax enforcement not only detects tax evasion but
also acts as a deterrent. This article is an attempt to elaborate provisions in
detail and identify the critical areas one needs to address in such matters.

GENERAL UNDERSTANDING OF INTERCEPTION, DETENTION & SEIZURE

‘Interception’ is generally understood as the act of preventing someone or
something from continuing to a destination. Black’s Law dictionary states: “the
term usually refers to covert reception by a law enforcement agency” and P
Ramanatha Iyer’s Law Lexicon states interception as “seize, catch or
stop (letter etc.) in transmit”.

‘Detention’ is understood as the act of taking custody over someone or
something. Black’s law dictionary states “the act or an instance of holding a
person in custody; confinement or compulsory delay”; Law Lexicon states
“the action of detaining, the keeping in confinement or custody, a keeping from
going on or proceeding”.

‘Seizure’ is understood as the act of capturing or confiscating something by
force (i.e. against the will of the person having possession). Black’s Law
states “the act or an instance of taking possession of a person or property by
legal right or process, esp, in constitutional law, a confiscation or arrest
that may interfere with a person’s reasonable expectation of privacy; Law
Lexicon explains seizure as taking possession of property by an officer
under legal process.

‘Confiscation’ means permanent deprivation of property by order of a court of
competent authority (Law Lexicon). Black’s Law states “seizure of
property for the public treasury”.

One would observe
from the ensuing paragraphs, that each term represents a different stage in a
proceeding and the rigours increase as the stage progresses. For eg.
Interception requires a simple reporting and release of goods but as soon the
goods are proposed for detention and seizure, the intensity of the powers of
the officer increasing. Same goes with once the goods enter confiscation
proceedings, the power of the officers over the goods are more stringent than
in cases of detention. Rights and obligations of the officer and the tax payer
are different at each level of the proceeding and hence one needs to be mindful
of the stage of the proceedings while addressing the questions of the officer.

IN-TRANSIT DOCUMENTATION U/S. 68(1) R/W RULE 138A

Section 68 provides
for carrying specified documents/ devices along with the conveyance of
consignment during the transportation of goods. The section empowers the
‘proper officer’ to intercept the conveyance at any place and require
the ‘person in charge’ of the conveyance to produce the prescribed
documents/devices for verification and allow inspection of goods. The term
proper officer has been defined to mean the officer who has been assigned the
powers of interception by the respective Commissioners of the CGST/SGST. While
determining the proper officer care should be taken that the said officer has
territorial and functional jurisdiction at the point of interception. ‘Person
in charge’ of conveyance has not been defined and should be understood as
referring to the transporter and driver of the conveyance performing the
movement of goods.

Rule 138A (inserted
w.e.f. 30-08-2017) provides for the requirement of carrying a tax invoice, bill
of supply, bill of entry or delivery challan and e-way bill (as applicable). In
terms of section 138A(5), the Commissioner in special cases is permitted to
waive the requirement of e-way bill. The contents of a tax invoice, bill of
supply, delivery challan and e-way bill are prescribed in Rule 46, 46A and 49.
In addition to the said manual documents, e-way bill requirements as generated
from the common portal were mandated vide Notification 27/2017-CT dt.
30.08.2017 w.e.f. from 01/02/2018 but ultimately implemented from 01-04-2018.
Certain States (like Karnataka) implemented these provisions even prior to the
Centre invoking the E-way bill provisions for intra-state transactions.

INTERCEPTING POWERS U/S. 68(2) R/W RULE 138 B

Section 68(2) r/w
Rule 138B grants the powers to the Commissioner or proper officer to intercept
any conveyance for verification of the e-way bill for all inter-state and
intra-state movement. Physical verification of the intercepted vehicle should
be carried out only by empowered officers. In terms of CBIC Circular
3/3/2017-GST dt. 05.07.2017, the Inspector of Central Tax and his superiors
have been granted powers of interception. The proviso of the said rule states
that in case of receipt of any specific information of tax evasion, physical
verification of the conveyance can be carried out by any other officer after
obtaining necessary approval from the Commissioner.

INSPECTING POWERS U/S. 68(2) R/W RILE 138 C

Section 68(2) r/w
Rule 138C requires that every inspection of goods in transit would have to be
recorded online by the proper officer within 24 hours of inspection and the
final report recorded within 3 days of inspection (in Form EWB-03). Sub rule
(2) states that where any physical verification of goods has been performed
during transit in one State or in any other State, no further physical
verification of the said conveyance should be carried out again in the State
unless specific information of evasion is available with the officer
subsequently. Rule 138D specifies that the detention of the vehicle for the
purpose of inspection should not exceed 30 minutes and the transporter can
upload the details in cases where the detention is beyond 30 minutes.

DETENTION & SEIZURE POWERS U/S.129

The proper officer
is empowered to detain the conveyance and the goods during its transit in case
of any contravention of the provisions of the Act (report of detention in Form
EWB-04). The detention proceedings require issuance of a notice, seeking a
reply and concluding the proceeding by way of a detention/seizure order. In
terms of the CBIC Circular dt 05.07.2017 (supra) detention powers can be
exercised only by the Asst/Dy. Commissioner of Central Tax. The goods would be
released by the proper officer only on payment of the applicable tax and
penalty or submission of a security in prescribed form.

The said section
also prescribes the procedure to be adopted on detention of the goods in
transit. In this regard, CBIC has issued circulars (Circular 41/15/2018-GST dt.
13-04-2018; No 49/23/2018-GST dt. 21-06-2018 and No 64/38/2018-GST dt.
14-09-2018) which specify the detailed procedure and forms to the followed
(MOV-01 to MOV-11) by the Central Tax officers in matters of interception,
inspection and detention. Key points emerging from the Circular are as follows:

The jurisdictional
Commissioner or the designated proper officer is permitted to conduct
interception and inspection of conveyances within the jurisdictional area
specified by the Commissioner. One should verify whether the locational
Commissionerate of the region has issued any such trade notice assigning
functional/ geographical jurisdiction.

The proper officer believes
that the movement of goods is with an intention of evading tax, he may directly
invoke section 130 where a fine in lieu of compensation may be imposed.

Where an order is passed
under the CGST Act, a corresponding order shall also be passed under the
respective State laws as well.

Demand of the tax, penalty,
fine or other charges would be uploaded on the electronic liability register
and in case of unregistered persons a temporary ID would be created for
discharge of the liability posted on the common portal.

In cases of multiple
consignments, only goods or conveyance in respect of which there is violation
of the provisions of the Act should be detained while the rest of the
consignment should be permitted to be released by the proper officer.

Consignment of goods should
not be detained where there are clerical errors such as spelling mistakes in
name of consignor/ee, PIN code, locality, document number of e-way bill,
vehicle number, etc. in cases of clerical errors, a maximum penalty of Rs. 500
each under respective law could be imposed.

Section 129 does not
mandate payment of tax in all cases and the owner of goods scan exercise the
option of furnishing a security (in prescribed form and a bond supported by a
bank guarantee equal to amount payable).

CONFISCATION POWERS U/S.130

In cases where the
proper officer has formed the view that any of the five circumstances exists,
the goods are liable for confiscation – where any person:

i. Supplies or receives goods in contravention
of the provisions of Act/ rules with intention of tax evasion

ii. Does not account for goods liable for paying
tax

iii. Supplies goods without obtaining a
registration number

iv. Contravenes any provision of the Act with
intention of tax evasion

v. Uses any conveyance as means of transport for
tax evasion unless the owner of the conveyance has no knowledge of this action

The fine legal
difference between detention and confiscation is that detention is invoked only
on suspicion over tax evasion whereas confiscation require reasons beyond doubt
that the goods are a result of tax evasion [Kerala High Court in Indus
Towers vs. Asst. State Tax officer 2018 (1) TMI 1313]

In terms of the
CBIC Circular dt 05.07.2017 (supra) confiscation powers can be exercised only
by the Asst/Dy Commissioner of Central Tax. In cases of confiscation, the title
over the goods shall vest upon the Government and the owner of the goods cannot
exercise any rights over the goods. Whenever any confiscation of goods is
ordered, the owner of the goods has the option to pay a fine in lieu of
confiscation which shall not exceed the market value of goods confiscated less
the tax chargeable thereon, and shall in no case be less than the amount
specified u/s. 129. In cases of confiscation of the conveyance itself, the fine
shall not exceed the tax payable on the goods under conveyance.

APPROPRIATE TAX ADMINISTRATION

Though GST has been
built on a national platform, legislative powers under IGST, CGST and SGST Act
have certain inherent geographical limitations. In addition to that, the Centre
and State have notified the respective workforce for administration. It would
be thus important to identify the ‘proper officer’ having geographical
jurisdiction over goods under transit.

We can take an
example of a case where goods under inter-state movement from Kerala (KL) to
Delhi (DL) are intercepted by a State officer in Maharashtra (MH) and detained
for lack of proper documentation. Whether the intercepting officer in MH could
be considered as the ‘proper officer’ for interception, detention, seizure,
inspection and adjudication of the goods under movement which is an inter-state
supply from KL to DL? The practical experience thus far is that the State
officers detain the goods and direct the assessee to open a temporary ID in
their State and discharge the taxes as if it is an intra-state sale within MH.

Primarily, three
theories can exist (A) Only Origin State authorities have jurisdiction over
interception; or (B) All state authorities (including origin and destination
state) have jurisdiction over the goods under transit as long as the goods are
physically present in their state boundaries during exercise of powers or (C)
While state authorities have powers of interception, the final assessment of
the tax involved would be made by the officer in the State of origin based on
the detention report.

A) Geographical
jurisdiction

Article 246A(1)
empower both the Centre and State to make laws pertaining to goods and service
tax imposed by the Union or State. 246A(2) grants exclusive powers to Centre to
legislate on matters of inter-state trade of commerce. Article 286 places a
clear embargo on the State to impose a tax on supply of goods or services ‘outside
a State’ and or ‘in course of import or export of goods or services’.
Article 258 provides for the Union to confer powers to the State or its
officers either conditionally or unconditionally, with consent of the President
of India and the Governor of the respective State, in relation to any matter to
which the Executive of the Union extends. Where such powers have been conferred
by the Union to the State, administration costs attributable to the staff
empowered would be payable by the Centre to State. The IGST has not invoked
Article 258 but empowered the State workforce through statutory provisions.

In terms of Article
286(2), the Centre has been placed with the responsibility to formulate the
principles of determining where the supply takes place. It is in exercise of
these powers that the IGST Act has formulated provisions for ascertaining the
character of supply (i.e. intra-state vs. inter-state) based on the place of
supply of such services: Chapter IV and V of the IGST Act read together answer
(a) the characterisation of the supply (inter-state or intra-state); and (b)
where locus of the supply. This is broadly akin to the provisions of section 3,
4 and 5 of the Central Sales Tax Act, 1956 (CST law).

In the context of
administration, the GST council has decided that Centre & State’s
administration would be a unified force. Discussions on cross empowerment in
GST council involved five options which were discussed at length and the fifth
option attained consensus only in the 9^th GST Council meeting (para
28 of minutes of meeting). The key thrust of the decisions where (a) Unified
tax payer and administration interface;(b) Allocation of tax payer base between
the Centre and State based on statistical data for administering the CGST/SGST
Acts (b) Concurrent enforcement powers to Centre & State on entire value
chain based on intelligence inputs of respective field formations; (c) Powers
under IGST law to be cross empowered on the same basis as that of CGST/ SGST
Act. However, Centre has exclusive powers to administer issues around ‘place of
supply’, ‘export’, ‘imports’ etc. These decisions were translated into the CGST
and SGST Act as follows:

Section 6 of CGST/ SGST
cross empowers the corresponding officer as per the allocation criteria agreed
at the GST Council (stated above). Further, it has been agreed that where an officer
has initiated any proceeding on a subject matter under an Act, no proceeding
shall be initiated by the officer of the corresponding administration on the
same subject. This ensured that unified interface was maintained.

In respect of the IGST Act,
section 20 does not borrow the cross-empowerment provisions of the CGST Act.
The IGST Act has a different mechanism of empowerment of both Central/ State
officers. Section 3 grants powers to central tax officers for exercise of all
powers of the Act. The CBIC has issued Circulars No. 3/3/2017dt 05.07.2017
assigning powers to the Central Tax Officers. Section 4 also authorises
officers appointed under the State GST Acts as proper officers under the IGST
Act subject to exceptions and conditions of the GST Council.

The Commissioner of the
State would have thus issued appropriate notifications under their respective
State laws assigning the jurisdiction of enforcement action to the officers and
by virtue of the said notification, they would acquire enforcement jurisdiction
even under the IGST Act. Therefore State officers who are empowered under the
State GST to perform enforcement activity would also be empowered to perform
the enforcement function under the IGST Act.

We may recollect
that CST law empowered the ‘appropriate state’ from where the movement of goods
commenced to collect and enforce payment of tax through their general sales tax
law (Section 9). This enabled the origin state to acquire jurisdiction on
inter-state sale movement and enforcement action. Transit states acquired
enforcement jurisdiction over such inter-state movement through transit pass
and way bill provisions which setup a presumption that the goods have been sold
within the State on failure to produce such documentation. The IGST Act is on a
different footing. Firstly, States do not have the same autonomous powers akin
to section 9(2) of CST Act in matters of collection and enforcement provisions.
The IGST Act is a self-sufficient Act containing its own collection and enforcement
provisions. Secondly, IGST Act has limited itself to appointing the State
officers as proper officers for the purpose the IGST Act (section 4) rather
adopting the provisions of the respective State law. Thirdly, IGST does not
provide for any presumption as to the sale of goods within a state in the
absence of any prescriptive documentation. In other words, the character of the
transaction being an inter-state transaction does not get altered during the
process of detention and/or seizure and tax due on such transaction should be
assessed from the Origin State. Even in case there is a dispute on the
inter-state character, the Centre has exclusive domain over examining its
nature in view of Article 286(2) and the decision of the 9th GST Council meeting.

The following
overall inferences can be formed from above analysis:

Power of legislation is
distinct from the power of administration and it is not necessary that the
power of legislation and enforcement are with the same authority (eg. CST Act).
The administrative provisions of IGST act are self-contained in the said
enactment itself.

IGST Act only borrows the
work force of the State for implementing the Act. State work force is required
to follow the Circulars, Notifications of the CBIC / Central Tax office while
exercising their powers under the IGST Act. The statutory powers are not
sourced from the State legislation independently like section 9(2) of the CST
law (refer discussion below).

There is no specific
notification or circular issued under the IGST Act assigning the functions and
territorial limits to the State workforce. In the absence of a specific
notification or circular one may view that (a) each state workforce would
operate within the respective State boundaries and the role assigned by the
State Commissioner (enforcement, vigilance, audit, range, etc) in that boundary
would operate equally for the IGST Act or (b) the State workforce would have
pan India powers on inter-state transactions and would exercise these powers
under IGST law in the absence of any geographical limits over the officers
under the IGST law. The former seems to be a more plausible approach to
resolving the issue on jurisdiction.

The power of collection on
inter-state supplies from State X lies with the Centre. However, State X in
terms of Article 286 is precluded over imposing tax on supplies occurring in
all other States or in import/ export transactions. Therefore intercepting
officers in State X should refrain imposing any tax on inter-state movement u/s. 129.

Coming to the issue
taken up earlier, MH State should not be considered as the ‘proper officer’ for
the inter-state movement from KL to DL as the jurisdiction of administration is
between the Centre/ State workforce operating from the State of Kerala. An
alternative view would be that the IGST Act being a pan Indian enactment has
borrowed the State officers across India for the purpose of enforcement in
their respective geographical area. MH State may not have administrative power
over the ‘transaction of supply’ but it could have powers over the ‘goods under
movement’ for the limited purpose of interception, inspection, detention and
seizure.

Though the above
powers of interception, detention and release would be exercised by the MH
officer under the IGST Act, the final assessment of the liability on the goods
will have to take place at the Origin State (KL) either by the Central/ State
administration depending on the allocation.

FUNCTIONAL JURISDICTION

Section 2(91) defines the proper officer to mean the person who has been
assigned the function by the Commissioner. CBEC has in its Circular No.
3/3/2017-GST dt. 05-07-2017 designated the Inspector of Central Tax with powers
of interception and the Asst./Dy. Commissioner of Central Tax with the powers
of adjudication over the matter of release of goods u/s. 129. These powers
would be exercised by the respective officers within the confines of the
geography assigned to the said officers. It is expected that similar
Circulars/notifications are issued by the respective State Commissioners
assigning the functional jurisdiction to their officers. Therefore, one would
have to carefully peruse the relevant notification/ circulars under the States
for consideration to establish the function and geographical jurisdiction over
a particular transaction/goods.

OVERALL SCHEME OF SECTION 129

Some important
questions arise on the overall scheme of section 129:

Whether
proceedings u/s. 129 is interim in nature and subject to the final assessment
in the hands of
the supplier?

Section 129
provides for detention, seizure and release of goods by following a prescribed
procedure of issuance of a notice, seeking a reply and furnishing a release
order. A key feature is that it permits release of the goods on furnishing a
security in the prescribed form, indicating that the goods are being released
on a provisional basis and the assessment would be finalised subsequently. But
the provision subsequently goes on to state that on payment of the amount, all
proceedings in respect of the notice would deemed to the concluded. There seems
to be a divergence in the way the provisions are drafted. One theory suggests
that the proceedings are interim in nature and subject to its finalisation
before the assessing authority who would take cognizance of the entire
proceeding u/s. 64, 73, 74 and complete the assessment of the supplier taking
into account the report of the inspecting authority. This was the manner in
which the VAT law was also being enforced across States. The other theory
suggests that the proceedings are conclusive and no further action needs to be
taken at the assessing officer’s end on the subject matter. Now there could be
instances where the supplier would have already reported the transaction in its
GSTR-3B/GSTR-1 and discharged the applicable taxes. If the goods in transit are
subjected to the said provisions and cleared on payment of applicable tax and
penalty, it would result in a double taxation of the very same goods which
clearly does not seem to be the intent of law. It appears to the author that
the scope of section 68 r/w 129 is to examine the completeness of documents and
provide information to the assessing authority, which could be obtained only
from real time enforcement, for finalisation of the assessment and not just to
conclude the entire proceeding at the place of interception. The term
‘contravention’ in section 129 should be understood contextually on with
reference to the compliance of documentation during the movement of goods and
not beyond that. The author believes that all these proceedings would finally
culminate by way of an assessment u/s. 64, 73 or 74.

How do we
harmoniously apply the penalty imposable u/s. 129 vs. 122(1) (i), (ii), (xiv),
(xv), (xviii) vs. 122(2) : specific vs. general : lower vs. higher penalty?

Both section 129
and 122 are penal provisions imposing penalty for offences under the Act. There
is an overlap of the scope of the said sections resulting in ambiguity. The
said sections are briefly extracted below

Section 129

Section 122(1) (i), (ii), (xiv), (xv),
(xviii)

Section 122(2)

Penalty for contravention of goods in
transit

Specific Penalties for movement of goods
without invoice/ documents, evasion of tax, goods liable for confiscation,
etc

Penalty where tax has not been paid or
short paid

100% of tax payable (in case of exempted
goods – 2% of value of goods) (OR)

50% of value of goods less tax paid (5%
in case of exempted goods)

Penalty of 10,000 or 100% of tax evaded
w.e.h.

Penalty of Rs. 10,000 or 10% of the tax
due w.e.h.

The field
formations are consistently applying the provisions which results in a higher
collection without assessing the applicable section under which penalty are
imposable. While certainly section 129 is specific to cases where goods are in
transit, section 122 also provides for cases of imposition of penalty where
goods are transported without cover of documents. One possible resolution to
this conflict may be as follows:

Section 129 is specific to
cases of non-compliance identified during transit and section 122(1)
applies only to cases where the transportation has completed and the
non-compliance is identified after the goods have reached their
destination (say the registered premises)

Section 122(1) is narrower
in its scope in so far as it requires tax to be evaded for its application.
There could be cases where goods have reached the destination without
appropriate documents but duly accounted for in the books of accounts. In such
cases, section 129 cannot be imposed and section 122(1) would apply to cases
involving tax evasion.

Section 122(2) on the other
hand being a general provision for penalty should not apply since section
122(1) and 129 are more specific contenders on this subject matter

PRACTICAL ISSUES ON INTERCEPTION / INSPECTION / DETENTION & SEIZURE

Apart from the
legal analysis, the trade and community are facing multiple challenges at the
ground level on matters of such matters. The issues are tabulated below for
easy reference:

S No

Issue

Possible resolution

E-way bill not containing key particulars such as
Invoice No., Taxable value, Tax , etc OR E-way bill not generated

Supreme Court in Guljag Industries (below) has
stated that mens-rea need not be examined in cases of statutory offences.
Therefore, tax & penalty can be imposed u/s 129 equivalent to the tax in
cases of such violations. Recent decision of MP High Court in Gati
Kintetsu Express Pvt ltd vs. CCT 2018 (15) GSTL 310 affirmed penalty in
case of violation and distinguished Allahabad High Court’s decision in VSL
Alloys (India) Pvt Ltd vs. State of UP 2018 (5) TMI 455.

E-way bill & Invoice is valid and containing
accurate particulars but quantity reported is higher than the physical
quantity in the conveyance (due to evaporation, wastage, water content, etc)

Taxable quantity/value being higher than the physical
quantity, there is no short payment of tax and hence detention would be
incorrect. At the most in case where there is an error, general penalty of
Rs. 25,000/- may be imposed for discrepancies.

E-way bill is valid and generated but invoice/ delivery
challan is not carried along with consignment – all particulars in e-way bill
match with consignment

Rule 138A and CBEC Circular require both the
self-generated document (invoice/delivery challan) and e-way bill to be
carried. E-way bill is a system generated document containing all particulars
of the invoice and a verifiable/non-destructible document and hence superior
in status vis-à-vis the invoice. Ideally no penalty should be imposed in such
scenarios.

E-way bill not reconciling with the some valuation
particulars of Invoice – such as Taxable Value, Tax etc but matching with
other particulars

Officers may disregard the e–way bill entirely and
state that conveyance is without e-way bill in which case the entire penalty
would be imposable. Alternatively, if it is established that e-way bill
relates to the very same consignment, then possibly e-way bill would be
considered for examination, ignoring the invoice and the physical
verification would be performed accordingly. Any excess stock/ value above
the e-way bill may be subject to penalty.

5 & 6

Delivery challan & e-way bill issued and officer contesting
that Invoice should be issued (OR) Wrong Tax Type recorded in the E-way bill
& Invoice i.e. IGST instead of CGST/SGST

Intercepting officer is only required to assess with
the prescribed documents are being carried and they reconcile with the physical
movment of goods. Any dispute on the type of documentation, etc., is not with
the domain of intercepting officer and is for the assesing authority to
examine and take a legal position on that front.

Goods sent on approval and at particular location for
sale within the six months time limit but e-way has expired

This is a tricky issue. Whether goods sent on approval
and retained by the recipient for approval for six months are required to be
under a live e-way bill. While one may say that this is incorrect another
argument would be that goods should be either under a live e-way bill or at
the registered presmises of the supplier and hence registration should be
obtained for places where goods are temporarily stored.

Alternative/ Wrong route adopted by the transporter but
e-way bill valid

Not a contravention of any provision and section 129
cannot be invoked unless the officer is establish tax evasion.

Difference between invoice date : e-way bill date
(could range from few months to year) especially in case of goods consigned
after auction

Inspecting officers are intercepting goods where
invoice is significantly prior to e-way bill. Section 31 permits invoice to
be raised on or before removal of goods. A tax invoice is a permanent
document & does not have any expiry date unlike e-way bill which has is a
temporary document. Therefore, such action is incorrect in law.

Owner of goods – Ex-works/ FOB contracts, etc.

Section 129 requires the owner to come forward for the
entire proceedings. There have been cases where the officer has rejected the
purchaser from hearing the matter. There have been cases where the officer
has called upon the purchaser rather than the seller since the purchaser
resides in the same State. This is a challenge since ownership is differently
understood from the term supplier and recipient.

Whether inspecting officer can question the veracity of
the delivery address (eg. Delivery at a fourth location not belonging to the
customer)

Section 129 is invoked only where there is a
contravention of provisions during movement of goods. Being tax paid goods,
there is nothing which is further payable irrespective of the destination of
goods. Unless there is specific information of tax evasion, the officer
cannot question the veracity of the delivery address.

Multiple consignment – detain only goods in respect of
violation : multiple invoice vs. multiple quantity

CBIC circular (supra) states that in case of multiple
consignments, detention proceedings should be applied only on the consignment
under which there is a violation. In certain cases where an invoice has
multiple line items and the discrepancy is only with respect to one line
item, equity demands that detention proceedings should be restricted only to
the said line item in respect of which there is a violation and the rest of
the consignment should be related without any delay.

Officers not accepting the security for release of
goods u/s. 129

This is clearly violation of statutory mandate by the
Officers.

SOME LEGAL PRECEDENTS

Some judicial
precedents on this subject are as follows:

Failure to report material
particulars on the statutory documents under movement is a statutory offence.
Penalty is for this statutory offence and there is no question of proving of
intention or of mens-rea as the same is excluded from the category of essential
element for imposing penalty. Guljag Industries vs. CTO [2007] 9 VST 1 (SC).

Declaration uploaded on the
website after the detention of goods does not absolve the penalty of the
assessee. The time of declaration is critical. Asst. State Tax officer vs.
Indus Towers Ltd 2018 (7) TMI 1181(Ker-HC)

Squad / enforcement
officers cannot detain goods over dispute on HSN/ classification. This is under
the domain of the assessing authority. At the most, the squad officer could
report this discrepancy to the assessing authority for further action at their
end. Jeyyam Global Foods (P) Ltd., vs. UOI 2019 (2) TMI 124 (Mad-HC)

Supreme Court CST vs. PT
Enterprises (2000) 117 STC 315 (SC) – The inspecting authority has the
powers to question the valuation of the goods under the Madhya Pradesh Sales
Tax Act. This decision was rendered in view of the specific requirement that
inspecting authority could detain goods in case of evasion on the value of goods.

CONCLUSION

Provisions of
interception, detention and seizure are open ended giving wide powers to the
officer. This could result in dual taxation of the very same goods without any
input tax credit in the hands of the recipient. Moreover, diverse practices are
being followed among the field formations across the country leading to
inequities in application of law. Certain legal provisions are overlapping
giving choices to the administration over the subject goods and the inclination
of the administration is to choose a stricter provision thereby making the other
provision practically redundant. There
are multiple challenges on the front of administration, appeal, etc., which
needs to be addressed both at the macro and micro level by the GST council.
Therefore, it is imperative that the GST council and the Government take
proactive steps in cleansing the entire scheme in order to bring uniformity in
implementation of law across the country.

shailesh.kwebmaker

JOB WORK : OLD WINE IN BETTER BOTTLE? (PART 2)

In the previous article, we
concluded that the GST law has widened the scope of job work from its
predecessor law by considering ‘any’ treatment or process undertaken on goods
belonging to another registered person as a ‘job work’. Job work under GST law
could be viewed from two vintage points – (a) job worker’s view point with
respect of determination of his output tax liability; and (b) recipient/
principals’ view point with respect to movement of goods and retention of input
tax credit. The said article aims at discussing Job Work under various sub
topics from these viewpoints.

A) Supply – whether deemed Supply between distinct persons?

Movement of goods for job work
reduces the cash flow cost (to the extent of tax component) of an organisation.
GST law has innovated with the concept of distinct persons wherein distinct
registration numbers having the same PAN is deemed as independent persons (even
though they may be in the same state). Does this fiction extend even to job
work arrangements? Whether factory A can operate as a job worker for factory B
as distinct persons even-though they are holding the same PAN?

Section 25(4) of the CGST Act
states that a person having registration in multiple states would be treated as
distinct persons in each of the State for the purpose of the CGST/IGST/SGST
Act. This deeming fiction seemingly applies to all provisions of the GST law.
Schedule I deems transactions without consideration between distinct persons as
taxable only when there is a ‘identified supply’ between such distinct persons.
Since job work arrangements do not entail a supply (in the nature of sale,
barter, exchange, etc) between factory A to B, it would be permissible to move
goods between states without any GST implications. The goods can undergo
processing and cleared therefrom on payment of GST. While there may be
practically challenges to prove the aspect of a principal-job worker
relationship without a written contract between factory A to B, the self
generated delivery challan and ITC-04 should ideally serve as an expression of
the job work arrangement.

B) Classification – Supply of Goods/ Services

Job work as a Supply of Service – Job work
transactions have been deemed to be a ‘supply of service’ under Entry 3 of
Schedule II. The scope of the entry is wider in comparison to the definition of
job work in as much as it does not require the owner of the goods to be a
registered person. This entry would certainly put to rest any litigation over
the classification of such transactions on the grounds of percentage of
material involved, dominant intention, end deliverable, etc. In its Circular
No. 52/26/2018-GST, CBEC has stated that body building activity involving
supply of the entire body over the chassis owned by the principal is taxable as
supply of services @ 18% and not at the rate applicable to the goods (28%).
Therefore, in job work arrangements one would necessarily have to examine the
tax rate and exemption as applicable to services irrespective of the rate
applicable to the goods involved in such contract. The modelling of contracts
as job work or sale and purchase would become significant where the applicable
tax rate for the goods is substantially lower say exempt/ 5-12% in comparison
to the standard job work rate of 18%.

Job work vs.Works contract – Is there
an overlap between job work (section 2(68)) and works contract (section 2(119))
where an immovable property is involved in the arrangement? For eg. fabrication
services at site during construction of building/ storage tank for the
principal/ contractee could have two aspects:

Process of fabrication as
a treatment / process on goods. SAC classification under job work (99887)
states that such fabrication manufacturing services of metal structures, steam
generators, etc., is classifiable as job work and taxable at 18%.

Process also involves
erection of movable property as an immovable property. SAC classification (99544)
covers assembly and erection of prefabricated constructions under the works
contract / construction service category and taxable at 18%.

Explanatory notes to the SAC
classification codes provide that specific description would prevail over
general description. Going by this principle, it appears that classification as
a works contract prevails over job work (on the basis of the specific
definition of work contract w.r.t. immovable properties) and the tax rates as
applicable to work contract would apply. The end deliverable under the
contractual arrangement is the erection of the civil structure and job work
should be considered as only the means and not the end.

The important
point to note here is that the classification of service under Schedule II is
relevant only with reference to the job worker’s view point (i.e. his output
tax liability). This classification at the job worker’s end should not bar the
principal from availing the benefits of job work procedures. The principal
should still be permitted to send the goods to the job workers premises for any
specific activity (such as twisting, bending, etc.) under job work procedure
even-though the job worker may ultimately raise a works contract invoice on its
output activity. While this view is subject to debate, the author believes that
understanding of job work from the principal’s perspective does not necessarily
have to translate into the classification as a job work on the job worker’s
output invoice.

Job work vs. Manpower Supply
Contracts – Job work has been specifically defined unlike manpower service
contracts. In certain instances where a person outsources specific processing
functions of a product to third party either on man-day/man-hour basis, the
dividing line between it being classified as a job work contract or a manpower
contract is blurred. In cases where the supplier takes responsibility over the
assignment of personnel to a particular entity for a specified job but does not
undertake the obligation over the quantum / quality of output from such
assigned personnel, the contracts would typically be in the nature of manpower
supply contracts (SAC 998513/4). Where the supplier takes over the obligation
of ensuring the quality / quantum of the product processed by the personnel so
assigned under its supervision and direction, the supplier would be
classifiable as a job worker. Decisions under both excise/ service on whether a
person is a ‘manufacturer/ service provider’ or mere supplier of hired labour
would provide some guidance on this aspect.

C) Place of
Supply – Inter-State / Intra-State

Job work transactions being
classified as ‘supply of service’ would be governed by the place of supply
provisions as applicable to services u/s. 12/ 13 of the IGST Act. Some unique
instances have been provided below:

Job work for SEZ units/ developers – Supply of
job work service would be an inter-state supply, irrespective of the location
of the supplier of service or the place of supply u/s. 12 of the IGST Act, as
long as they are carried out for authorised operations of the SEZ unit/
developer. For the SEZ unit/ developers where physical movement of goods takes
place across the SEZ area, one will have to follow procedures of procurement of
‘goods’ under the SEZ rules (Rule 41/ 50 of SEZ rules which are discussed
later) even though the transaction may be classified as a supply of ‘service’
under the GST law. The deeming fiction of treating job work as a service
transaction under Entry 3 of Schedule II has limited operation under the GST
law and does not extend to the SEZ law.

Export of goods outside India for
Job Work – Export of goods under job work arrangements outside India would
be governed by section 13 of the IGST Act. Section 13(3) read as follows:

“(3) The place of supply of the
following services shall be the location where the services are actually
performed, namely :-

(a) Services
supplied in respect of goods which are required to be made physically available
by the recipient of services to the supplier of services, or to a person acting
on behalf of the supplier of service in order to provide the services:… ”

Generally, job work would be
regarded as performing a treatment/ process on goods under physical possession
(as a bailee). The definition of job work indicates the activity would be
clearly governed by section 13(3) – performance based activity and the place of
supply in case of exported goods would be location where the services are
actually performed i.e. outside India. Since the place of supply is outside
India, the transaction would not be taxable in the hands of the job worker
supplier.

The transaction would also not
qualify as an import of service in terms of section 2(11) of the IGST Act.
Though the RCM notification issued u/s. 5(3) of the IGST seeks to impose tax on
reverse charge basis on the basis of location of the recipient and not on the
basis of place of supply rules, in view of the author, this is a transaction
outside India and not taxable under the provisions of section 5(1) of the IGST
Act itself. No RCM liability can be attached on a non-taxable transaction.

From a customs perspective, export
movement is generally duty free except for some export duty goods. For Import
movement Notification 45/2017-Cus dt. 30-06-2017 grants customs duty exemption
(incl. IGST) to goods originally exported, at the time of reimport within 3
years, provided the goods are ‘same’ as those exported. Explanation to the
notification states that the goods would not be same if they are subjected to
re-manufacturing, reprocessing through melting, recycling or recasting abroad.
In such arrangements, challenge would arise on whether the job worked goods
constitute ‘same’ goods. In case the goods do not get the customs duty
exemption, it would be regarded as a fresh import and subjected to customs duty
incl. IGST on the enhanced value of the product.

Be that as it may, one can
certainly take a view based on the celebrated decision of Hyderabad
Industries vs. UOI 1999 (108) E.L.T. 321 (S.C.) that IGST component u/s.
3(7) of the Customs Tariff Act is counter-veiling in nature and hence cannot be
imposed on imports under job work in the absence of a transaction of ‘supply’
between the parties involved¹. The transaction is deemed to be a
supply only in limited cases when the conditions of job work are breached by
the principal and not otherwise.

___________________________________

1 There is a slight variation in the way section 3(1), (3) and
(5) are worded in comparison to 3(7) of the Customs Tariff Act, 1975.

Import of goods into India for Job
work – Goods are imported into India for job work. While the job work
is performed in India, the location of the recipient of such job work (i.e.
principal) is outside India. Strictly speaking this arrangement does not fall
within the ambit of the definition of job work since the owner of the goods is
not a ‘registered person’. Nevertheless we will analyse this job work
transaction as understood in commercial sense.

Under the GST law, by application
of section 13(3), the place of supply would be held to be in India. By way of a
proviso² to section 13(3) (extracted below), the place of supply in
such transactions has been fixed to the location of the recipient of job work
services rather than the place of performance of the job work.

“Provided further that nothing
contained in this clause shall apply in the case of services supplied in
respect of goods which are temporarily imported into India for repairs or for
any other treatment or process and are exported after such repairs or treatment
or process without being put to any use in India, other than that which is
required for such repairs or treatment or process;”

In view of this proviso, the
transaction would be considered as an export of service and zero-rated in terms
of section 16 of the IGST Act. The Customs law vide Notification 32/1997 dt.
1-4-1997 permits temporary imports into India for the purpose of job work,
etc., subject to certain conditions over time limit, use etc. Therefore, import
of goods for job work should not have any implications in India.

Inter-state job work – Job work
transactions would be inter-state or intra-state and largely dependent on the
location of the supplier and recipient of the service in terms of section 12(1)
of the IGST Act. Where the location of the supplier and recipient is in the
same state, it would be an intra-state transaction and vice-versa. Except in
cases involving an immovable property, the location of supplier of service and
recipient of service would be the only determinants in deciding the inter-state
character of the transaction. Provisions of CGST Act would apply to inter-state
transactions as well (section 20 of IGST Act) and hence all benefits extended
to intra-state arrangements would equally apply even to inter-state movements.

From a principals perspective for
intra-state job work movement, further supply of goods after job work either
from the principal location or job workers location would not pose any
particular challenge since the registered location of the supplier and the
physical location of the goods is in the same state. The further supply would
be treated as inter-state or intra-state depending on the movement of the
goods.

In certain inter-state job work
movement where the principal does not receive the goods back but decides to
supply the processed/ job worked goods directly from the job worker’s location
to its customer, there is a challenge in deciding the location of the supplier.
This is primarily because the registered location of the supplier is different
from the physical location of goods. It is depicted below:

________________________________________________

2 Broadened
by the IGST amendment Act, 2018 and yet to be notified.

In such transactions, the initial
movement of goods takes place from KA-MH under a delivery challan for the
purpose of job work. The supplier may or may not have a confirmed order for
supply of the said goods to a customer in MH. Assuming there is no confirmed
order, after job work, the principal supplies the goods directly to its
customer in MH. A question arises on the type of tax to be charged on the sale
invoice (i.e. IGST/ CGST+SGST).

The IGST Act states that where the
supply involves movement of goods within a state, the transaction would be
intra-state, else it would be classified as an inter-state transaction. In this
case, the first movement of goods by the supplier is under an arrangement of
job work and not under a binding contract of supply with the customer. It is
only when the order is received from the customer in MH that the second
movement commences, which then terminates in MH. Going by the fabric of the
entire GST law and also the fact that job work is merely facilitation provision
and does not materially alter other obligations under GST, one can take a stand
that this is an inter-state transaction despite the fact that the movement
commences and terminates in the same state³. This reconciles with
the overall scheme of source and consumption principle of value-added scheme of
taxation.

_________________________________________________

3 It
must be noted that this is not a Bill to Ship to case as is envisaged in
section 10(1)(b) but a case where the billing location and dispatch location
are in different states.

D) Valuation
under job work

Job work transactions are liable to
tax on its transaction value i.e. price paid or payable by the principal to the
job worker for the job work service. There is a clear departure from the excise
principle of notionally re-valuing the goods after job work and subjecting the
same to excise duty. Under job work, valuation is only restricted to the
service rendered by the job worker. The price charged for the job work service
would then be subject to all the additions/ exclusions as provided u/s. 15(2)
and (3) of the Act. Certain important points have been stated below:

Recoveries on disposal of
scrap/ waste from Job Work

The erstwhile Cenvat rules was
silent on the treatment of waste and scrap arising during the course of
manufacturing final products at the premises of job worker. This resulted in
litigation on the person liable to excise duty on such waste/ scrap. Section
143(5) of the GST law now provides that the waste and scrap generated during
the job work may be supplied by the registered job worker directly from
his place of business or by the principal in case the job worker is not
registered. A question arises on whether the liability of recoveries on waste/
scrap generated from job work arises on the job worker in all cases?

In this context, job work contracts
can be classified into two categories: (a) Contracts where the responsibility
of utilisation and/ or disposals of scraps or waste emerging from the goods is
on the job worker. In such cases by virtue of the contract, the scraps and
waste are to the account of the job work and any recoveries from waste/ scraps
would be retained by the job worker. Accordingly, such recoveries should be
taxable in the hands of the job worker and not the principal. (b) In other contracts waste and scraps are
to the account of the principal and the job worker has to report the generation
of such items to the principal. The principal may either receive the goods back
or direct the job worker to dispose them under its authorisation to a third
party. Generally, two sub-scenarios arise in this category (b-i) principal
sells the goods under its invoice and directs the job worker to collect the net
proceeds (as a collection agent). The principal should report this turnover and
discharge the tax liability on such transaction; (b-ii) job worker sells the
goods in its possession under its own invoice effectively operating as a
‘selling agent’ of goods belonging to the principal – in such case the
recoveries would be taxed in the hands of the principal (as a deemed supply
between principal and agent under Schedule I) as well as in the hands of the
job worker (as a selling agent).

Is there a conflict that may
possibly arise by virtue of a contract and the statute? In view of the author,
the provisions of section 143(5) should not be given a strict application in
all cases in view of the use of the term ‘may’. The contract should be given
prominence before determining the person liable to pay tax on such recoveries.
Section 143(5) should be understood as giving an option to the principal to
decide the more economical and viable options viz., to bring back the wastes
and scraps or to clear the same from job worker premises on payment of taxes by
himself or by the job worker, as the case may be.

The following judgements General
Engineering Works vs. CCE 2007 (212) ELT 295 (SC) clearly explains the
position of earlier law and the importance of contractual terms in order to
ascertain the appropriate value:

“4. It is an admitted position that
to manufacture 100 Kgs. of points and crossings, 105 Kgs. of raw material has
to be used. Therefore, in working out the value of points and crossings the
cost of 105 Kgs. of raw material would have to be taken into account.
Undoubtedly, when points and crossings are manufactured a small quantity of raw
material become scrap/waste. But that does not detract from fact that to
manufacture 100 kg. of points and crossings 105 kg. of raw material has to be
used. This element i.e. the cost of raw material would remain the same
irrespective of whether scrap/waste is returned to the Railways or kept by the
Appellants. The Appellants charge what are known as conversion charges. This
includes their labour charges. Such conversion charges would have to be added
to the cost of raw material. To this would have to be added profits, if any,
earned by the processor (Appellant). Thus suppose the conversion charges are
Rs. 450/-, the cost of 105 Kgs. of raw material is Rs. 1,000/-, and Rs. 50/- is
earned from sale of scrap the value of the points and crossings would be Rs.
1,500/-

5. It must be clarified that the value of scrap would be included in the value
of the points and crossings only in case where it is shown that the conversion
charges get depressed by the fact that the processor is allowed to keep and
sell the scrap. Thus in the example given above, it would have to be shown that
the conversion charges are Rs. 450/- because Rs. 50/- is earned from the sale
of scrap. If the conversion charges are not depressed or if the scrap/waste is
returned then, their value will not get added.

6. The burden of proving that the
price is so depressed would be on the Revenue. But one of the methods of
proving it would be through the contract between the parties itself. In this
case the contract is on record. The contract provides as follows : –

“The prices quoted are based on the
free supply of Rails by you at our works, Bharatpur, Western Railway,
Rajasthan. The tonnage for Rails will be 5% more than the net requirement of
Rails required for different items of Switches, 5% being the manufacturing
wastage…………

The total requirement of Rails for
different items would be forwarded to you within ten days of receipt of your
formal order. Manufacturing wastage of 5% has been considered and therefore
this wastage will not be separately accounted for and shall not be returned. Any
surplus materials received from you against the contract, will be returned to
you and dispatched to the destination as advised by you, F.O.R.”

7. Thus, the contract clearly
indicates that the price (conversion charges) have been worked out on the basis
that 5% wastage would be available to the Appellants. This indicates that the
price has been affected by the sale of scrap. In this view, we are in agreement
with the view of the Tribunal that in computing the value of points and
crossings the value of scrap sold has to be taken into account.”

Includibility of Value of FOC items
(such as inputs, moulds, dies, etc.)

Job workers in many instances are
supplied with moulds, dies, etc., for rendering the service. The Central excise
and GST law both use the phrase that ‘price should be sole consideration’.
Under excise provisions, explanation to Rule 6 of the Central Excise
(Determination of Price of Excisable Goods) Rules, 2000 required the
manufacturer to include the amortised value of moulds, etc., in the value the
final product manufactured by the job worker. This practice under excise law
would certainly pose challenges during the GST period. The issue is whether a
notional value is to be attributed to the value of job work service on account
of (a) price not being the sole consideration in view of the FOC item; or (b)
in view of section 15(2)(b) of the GST law requiring the supplier to notionally
add value of all expenses incurred by the principal. Both are in some sense
correlated and section 15(2)(b) is an elaboration of the adjustment where price
is not the sole consideration.

Section 15(2)(b) has the following
cumulative conditions:

Supplier (job worker) is
making a supply (job work service) to its recipient (principal), typically
under a contract;

An amount is liable to
be paid by the supplier (job worker);

Such amount has been incurred
by the recipient (principal)

And accordingly this is
not included in the price payable for supply (job work service)

In job work arrangements, the
moulds are purchased by the principal for multiple commercial reasons such as
high costs, IPR protection, etc. This is done in its own interest. One of the
primary conditions of section 15(2)(b) is that there has to be a primary
liability on the job worker to incur an expense, either under a contract or as
part the scope of work assigned to the job worker, which is subsequently taken
up by the principal, thereby reducing the net price as originally agreed in the
contract, for eg. a textile manufacturer agrees to outsource the dyeing of x
mtrs of textile with dyes/inks/ impressions as part of the responsibility on
the job worker and fixes a price of y/mtr. Subsequently, the manufacturer
procures the ink of specified type and supplies the same to the job worker and
reduces the price payable to y-1/mtr. In such cases, the dye could be
notionally added onto the value of supply in the hands of the job worker. In a
contrasting case, if the price was originally agreed at y 1/mtr with the supply
of dye being part of responsibility of principal, there is no liability on the
job worker to use his own dye for the process. The important driver for trigger
of this provision is that the liability of job worker should precede
the act of incurring the expense by the recipient. Fulfilment of one’s own
obligation is distinct from fulfilment of another person’s obligation and
15(2)(b) is addressing only the later obligation. In a transaction based law,
price agreed for a set of obligations (as a counter promise) should be the only
basis for valuation under GST.

E) Compliance of Job work
provisions

Outsourcing
by job worker himself – The law permits the principal to send the goods for job work to
multiple job workers. Outsourcing by job workers as a principal himself may be
permitted contractually but the law does not contain specific provisions for
job workers to send the goods at their own behest (in capacity of a principal).
One may view this from two perspectives.

The definition
of job work suggests that the law does not mandate that the goods should belong
to the principal i.e. the goods can be belong to any registered person. The
term principal is understood only u/s. 143 as being the person who ‘sends’ the
goods for job work. Therefore, this
suggests that the job worker can function as a principal while sending the
goods for a second level job work. All provisions of the law as applicable to
principals would equally apply to the job worker when operating as a principal.

The other aspect is from the point
of view of section 143(2) which states that the accountability of the goods
under job work always lies with the principal. The accountability on the
principal u/s. 143(2) has been placed as a consequence of the fact that he has
availed input tax credit on such goods. This responsibility over the goods
under law cannot be shifted from the primary principal to the job worker. Even if there is a clandestine removal of
goods without authorisation/ knowledge of the principal at any point of time,
the recovery of the tax on such goods would only be made by the person availing
the benefit of input tax credit i.e. principal. Since the job worker has not
availed the benefit of input tax credit on such goods, the onus is always on
the principal who has availed this facility to ensure that the goods are within
its supervision until all the conditions of job work are satisfied. While
outsourcing by a job worker to a sub-job worker is not barred, the
accountability over the goods under law still rests on the primary principal
only.

In-house job
work activity – There are instances where a job worker performs the job work
activity in the premises of the principal for commercial reasons. In such
cases, the place of supply provisions would operate on similar lines and the
location of the principal and the job worker would decide the inter-state
character of the transaction (unless the job worker constitutes a fixed
establishment in the premises of the principal). Under these arrangements, the job
worker may have to move certain tools, equipments etc to the principal’s
premises and return those back to the original location. Section 19 and 143 is
applicable only cases where principal moves goods to the job worker’s premises
and not the other way round. However, in cases of in-house job work activity,
the principal does not need the facility of these sections since the entire
activity is occurring in-house. The job worker on the other hand is moving the
goods without an intent of supply but self-use. In view of the author, in the
absence of a transaction of supply between the job worker and the principal,
the job worker can still move the goods to the principal’s location and retain
the input tax credit by use of a delivery challan.

Possible consequence of violation
of Job work provisions

Violation of job work provisions
can be clubbed under two baskets (a) violation of substantial requirements
(such as arrangement not falling under the scope of job work, non-return of
goods within prescribed time etc) (b) violation of procedural requirements
(such as non-filing of ITC-04, etc).

(a) Violation
of substantial provisions: Conceptually any violation should be rectified
by restoring the benefit originally granted to the tax payer. In a job work transaction,
the principal avails the benefit of input tax credit on inputs/ capital goods
(i.e. skips the stage of reversal and reclaim) even-though the goods are not in
its possession. Section 143(3) & (4) deems the inputs/ capital goods as
being supplied by the principal to the job worker if they are not returned
within the time limit. Valuation rules do not provide any mechanism for
valuation of goods violating the job work provisions. In the absence of a
contractual consideration for the deemed supply of goods, does this mean that
the principal would have to pay tax on a notional value in terms of open market
value of the goods under job work? In the view of the author this may not be
so. The deeming fiction is to be understood in the context of the original
benefit extended to the supplier which is limited to recover the input tax
credit availed on the goods which have violated the job work provisions. It
would be legally in appropriate to assume this transaction as an independent
supply and subject it to tax in the hands of the principal at a notional value.

(b) Violation
of procedural provisions: Any procedural violation which is curable and
condonable should not have any adverse implication. Where the principal has
failed to make the necessary intimations of goods sent for job work, it can be
cured by producing books of accounts/ records evidencing the outward and inward
movement which conclusively establish the use of the goods under job work. In
cases where goods are duly accounted, it would be incorrect to saddle the
principal with an additional tax liability by invoking provisions of section
143(3) / (4). The penal provisions for non-filing of the relevant forms would
continue to apply.

F) Procedural matters

Documentation requirements

Movement of goods between the
principal and job work is required to be covered under a delivery challan (DC)
in terms of Rule 45 r/w 55(1)(b) of CGST/ SGST Rules. This is also required to
be accompanied by a e-way bill in terms of Rule 138(1)(ii) of the said Rules.
Certain specific provisions have been provided under the e-way bill rules for
job work arrangements (CBEC Circular No. 38/12/2018):

Where goods are sent by
principal to only one job worker: The principal shall prepare a DC for sending
the goods to a job worker. Two copies of the DC may be sent to the job worker
along with the goods. The job worker should send one copy of the said challan
along with the goods, while returning them to the principal. The FORM GST
ITC-04 will serve as the intimation as envisaged u/s. 143 of the CGST Act,
2017.

Where goods are sent from
one job worker to another job worker: In such cases, the goods may move under a
DC issued either by the principal or the job worker. In the alternative, the DC
issued by the principal may be endorsed by the job worker sending the goods to
another job worker, indicating therein the quantity and description of goods
being sent. The same process may be repeated for subsequent movement of the
goods to other job workers.

Where the goods are
returned to the principal by the job worker: The job worker should send one
copy of the DC received by him from the principal while returning the goods to
the principal after carrying out the job work.

Where the goods are sent
directly by the supplier to the job worker: In this case, the goods may move
from the place of business of the supplier to the place of business/premises of
the job worker with a copy of the invoice issued by the supplier in the name of
the buyer (i.e. the principal) wherein the job worker’s name and address should
also be mentioned as the consignee, in terms of Rule 46(o) of the CGST Rules.
The buyer (i.e., the principal) shall issue the challan under Rule 45 of the
CGST Rules and send the same to the job worker directly in terms of para (i)
above. In case of import of goods by the principal which are then supplied
directly from the customs station of import, the goods may move from the
customs station of import to the place of business/premises of the job worker
with a copy of the Bill of Entry and the principal shall issue the challan
under Rule 45 of the CGST Rules and send the same to the job worker directly.

Where goods are returned
in piecemeal by the job worker: In case the goods after carrying out the job
work, are sent in piecemeal quantities by a job worker to another job worker or
to the principal, the challan issued originally by the principal cannot be
endorsed and a fresh challan is required to be issued by the job worker.

E-way Bill requirements

E-way bill is required to
be issued for movement of goods under a DC. The e-way bill is generally
required to be generated by the person causing movement of goods. In case of
job work, the provisions permit the either the principal or the job worker to
raise the e-way bill for movement.

Quarterly
reporting of movement in Form ITC-04

Rule 45(3) of the CGST
Rules provides that the principal is required to furnish the details of DCs in
respect of goods sent to a job worker or received from a job worker or sent
from one job worker to another job worker during a quarter in FORM GST ITC-04
by the 25th day of the month succeeding the quarter or within such period as
may be extended by the Commissioner. FORM GST ITC-04 will serve as the
intimation as envisaged u/s. 143 of the CGST Act.

G) Challenges in
Compliance

Difference in unit of measurement
(UOM)/ quantity

Many a times, difference arises in
the UOM between goods sent and received under job work. Form ITC-04 originally
required that goods sent and received should be strictly correlated in terms of
the original UOM. The law also required the original delivery challan should be
enclosed with the delivery challan raised on return of goods. While in practice
there many reasons due which it is impossible to make a one-to-one correlation with
each outward and inward movement (eg. raw materials sent in batches, raw
materials losing their original identified, etc). The form has now been
recently rationalised wherein one-to-one correlation between outward challan
and inward challan is not mandatory if it is impossible for the principal to
ascertain. Therefore, as long as the principal can establish the conversion
ratio and account of the goods under job work, it may not be mandatory for the
principal to report each outward movement with the inward movement.
Whether job work provisions are applicable where raw material is exempt and
job worked product is taxable?

Section 143/ 19 are applicable only
on inputs/ capital goods i.e. goods used in business and on which tax is
leviable under the GST law. In cases where the raw material is exempt (such as
sugar to sugar cane), one may take a stand that since input tax credit has not
be availed on such goods, job work provisions need not be strictly followed.

Whether procedural provisions (such
as e-way bill) applicable when raw material is taxable and job worked product
is exempt?

Job work provisions are applicable
when the inputs under consideration are tax suffered goods and irrespective of
the taxability of goods on their return after job work provisions. Reporting
such movement is mandatory in ITC-04. However, e-way bill requirements are
waived for exempted goods. Therefore such goods may be returned under the cover
of a delivery challan and need not be accompanied with an e-way bill.

What is the value to be declared by
the job worker in the e-way bill on its return?

Certain challenges have been raised
on the value to be declared on the delivery challan on outward and inward
movement of goods under job work. One view suggests that the approx. market
value at the time the movement of goods should be adopted i.e. the return of
goods should be enhanced by the job work charges. The other view may be to adopt the value of
cost of the input/ capital goods under job work for both outward and inward
movement. A third view may be to adopt the value on which input tax credit has
been availed on such inputs/ capital goods for both outward and inward
movement. The author is inclined to believe that the third view conceptually
aligns with the objective of the job work provisions under GST.

Special provisions for SEZ unit/ developer.

A
SEZ unit/ developer is permitted to sub-contract a portion of their processing
activity to other SEZ / EOU or DTA units (in terms of Rule 41 of SEZ Rules).
SEZ unit are also permitted to temporarily remove their capital goods/ inputs
to DTA without payment of duty for job work, testing, repair, refining,
calibration and return thereof (in terms of Rule 50 of SEZ Rules). Rule 40/51
both provide for strict procedures to be followed for outsourced processing
activities to a DTA including the time limit for return, account of the goods cleared, wastage, quantum of
outsourcing, return of moulds, jigs, tools, etc. There could be variances
between the GST law and the SEZ requirements and the SEZ unit as a principal of
the transaction would have to necessarily comply with the more stringent
requirement in order to retain its SEZ benefits.

H) Conclusion

Job work provisions should be
understood as a provision of convenience. Accordingly any misuse/
non-compliance should be viewed as a recovery of the benefit granted and not
beyond that.

shailesh.kwebmaker

Job-Work : Old Wine In Better Bottle? (Part-1)

Job Workers are generally understood as
persons who perform a part of a manufacturing process on goods belonging to another.
Traditionally, job workers performed outsourced manufacturing/ processing
activities by receiving goods belonging to their principal and returning the
same after due processing. The arrangements are usually made for certain
commercial reasons, such as:

1. Work requires special skilled labour

2. Work can performed only with specialised
machinery

3. Infrequent requirement not requiring a
full-fledged set-up

4. Job worker can perform same/ similar tasks at
lower operating costs

5. Paucity of space for job work activity

The objective of this article is to discuss
the concept of job work from the perspective of its scope and the general
procedures involved in a job work arrangement.

Job Work – A specie of a Contract

Job work contracts are usually a combination
of a service contract coupled with bailment. The owner of the goods delivers or
transfers possession over his goods to another person with a condition of
returning the goods or disposing them under the directions of the owner. The
essentials of a contract of job work would be as follows:

1. The objective of the contract is to perform a
process/ treatment over the goods

2. For the purpose of its fulfilment, the owner
of goods (generally called the principal) delivers/ transfers the possession of
goods with a specific mandate to the transferee (called the job worker) under a
contract of bailment

3. Ownership continues to rest with the
principal awarding the job work

4. The job worker performs his process on the
goods received and on completion delivers the goods back to the principal or
any other place as designated by the principal

5. Job worker would have to account for the
consumption of goods/ scrap and wastage

6. Job worker would ensure that the goods are
not merged / mixed with own goods or any other principals’ goods

7. Job worker is required to take reasonable
steps for the safety of the goods in capacity as a bailee of these goods

Job Work – Its relevance and history

The concept of Job work was originally
contained in the Excise law. Excise law was an activity driven law in the sense
that the manufacturing process in a factory formed the basis of imposition of
duty. The ownership over goods was not relevant for deciding the taxable person
(1988 (38) E.L.T. 535 (S.C.) Ujagar Prints, etc. vs. UOI). It laid
emphasis on the physical location, movement and identity over the goods and
considered the terms of contract between the parties as an inessential element.
Therefore, every removal of goods, whether in processed or unprocessed form,
whether under a contract of sale, bailment or otherwise, had excise
implications either as duty payment or Cenvat Credit reversal. In order to
overcome the procedural difficulties of an intermittent duty payment or credit
reversal, the Government extended certain benefits to job workers and reduced
multiplicity of tax implications and compliance under job work transactions.
The benefits can be put into two baskets:

i. Notification 214/86-CE dated 25-03-1986
granted duty exemption in case a job worker was engaged in manufacturing
activity as long as the principal undertook to discharge the applicable duty on
the finished goods. Notification
83/94-CE and 84/94-CE exempted job worker manufacturer and supplier
manufacturer under the SSI scheme from payment of duty.

ii. Rule 4(5) of Cenvat Credit Rules, 2004
allowed the manufacturer/ service provider to retain the Cenvat Credit availed
on inputs/ capital goods where such goods were sent for the purpose of job work
and returned within the prescribed time limit.

The important point that needs to be
observed is that both these benefits operated under different domains. The
former granted a duty benefit which was otherwise applicable in case of a
manufacturing activity undertaken by a job worker and the latter granted the
benefit of retaining Cenvat Credit inspite of goods being physically removed
for a specific purpose. Yet, the common intent behind this was to relax the
complexities in view of physical movement of goods and ensuring that the goods
are duly accounted at the original location after the job work.

On the other hand, the Sales tax / VAT law
did not contain specific provisions in respect of job work. Infact, one may say
that this was not essential because the levy was a transaction based levy with
the sole emphasis on the ‘transfer of ownership’ over the goods. As long as the
principal retained its ownership over the goods, any manufacturing activity on
such goods did not lead to tax implications. Pure job work being a contract for
service and bailment did not fall within the ambit of VAT (except for some
stray works contract cases). The movement of goods (inter-state or intra-state)
for job work coupled with transport documents did not generally have any
sales/VAT tax implications. At most, the law prescribed certain documentation
for movement of goods in order to protect the interest of revenue and tap any
diversion of goods.

One may say that excise is a ‘boundary’
based law whereas sales tax is a ‘transaction’ based law. Therefore, concept of
job work had prominence under the excise law rather than the sales tax
law.

Concept of Job work under GST

The GST law is considered a pseudo-sales tax
law with its peripheries made from the excise law. Two important facets of the
law are (a) it’s a contract based transaction law; and (b) it’s a multi-point
levy on both goods and services. Every form of value addition, whether on goods
or of service is taxed under the GST law at the transaction level and not at
the unit level. Job work itself being a value-added activity is a ‘taxable
service’ and did not require any special treatment.

Yet, the GST law has introduced the concept
of job work. The only possible reason
attributable to such a move could be that job work arrangements would involve
significant to and fro movement of goods between the principal and the job
worker. Hence from a revenue perspective it was important to ensure that the
inventory of goods (esp. tax credited goods) are duly accounted for by the
principal after completion of job work. Reporting of outward and inward
movement of goods for job work enables the revenue to ascertain the end-use of
the goods.

Framework of Job work under GST

Job work provisions are contained u/s. 19
and 143 with certain transitional provisions u/s. 141. Job work has been
defined u/s. 2(68) to mean any treatment or process undertaken by a person on
goods belonging to another registered person and the term job worker should be
construed accordingly. Section 19 is titled ‘Taking input tax credit in respect
of inputs and capital goods sent for job work’ and placed under the Input tax
Credit chapter (Chapter V). Section 16, 143, 141 use terms such as ‘inputs’ and
‘capital goods’ rather than ‘goods’ in general implying that the job work
provisions should be understood to extend only to those goods which are
availing the benefit of ITC. This indicates that job work provision were
intended to operate in the lines of Rule 4(5) of Cenvat Credit Rules, 2004 and
not as an exemption from payment of tax.

An examination of the general provisions and
the waiver conditions in section 19 and 143 further substantiate this
conclusion. Section 19 provides a relaxation to one of the primary conditions
of availing input tax credit i.e. the receipt of goods u/s. 16(2)(b). The
section state the following:

– Credit on Inputs / capital
goods is permitted even in cases where such goods are directly sent to the
job-workers premises for job work without first being brought to the premises
of the principal provided they are returned in the specified period;

– the goods are returned to
the principal within a period of one year or three years; and

– in case of any violation,
the inputs/ capital goods originally sent out would deemed to be supplied by
the principal to the job worker on the day they were originally removed

Section 143 under Chapter XXI –
Miscellaneous contains procedural provisions to be followed in job work
transactions which state the following:

– The principal is permitted
to send inputs/ capital goods to a job worker without payment of tax provided
they are returned within the prescribed period of one/ three years

– It is permitted to supply
these goods directly from the job workers premises without bringing the same
back to the principal’s place of business if the job worker is registered or
the job workers place of business is included in the certificate of
registration of the principal

– The principal is
accountable for the goods sent on job work

– Waste and scrap generated
during job work is permitted to be supplied by a job worker directly from his
place of business on payment of tax

– An extended meaning to the
term input has been provided which states that intermediate goods would also be
termed inputs – implying that intermediate goods would be permitted to remove
without payment of tax to a job worker.

Section 19 and 143 contain similar
provisions i.e. permitting zero-tax movement of goods back and forth between
the principal and job worker. The content of both the sections overlap each
other except on three points (a) treatment of scrap/ wastage; (b) inclusion of
intermediate goods for job work activity and (c) permitting clearance of goods
from job worker premises. Yet, one noticeable difference between section 19 and
143 is that while section 19 talks about ‘retention of the input tax credit’
in the hands of the principal, section 143 grants the benefit of removal of
goods to a job worker ‘without payment of tax’.

Rate of Tax/
Classification under GST

Job work activity has been deemed as a
supply of services under Schedule II of the GST Act (Entry 3). Notification
11-2017- Central Tax (Rate) (as amended) has provided the rates of tax for job
work activities. The said activity has been classified under HSN 9988 &
9989. Explanatory note to HSN 9988 states that it covers services performed on
physical inputs owned by others and are generally characterised as outsourced
manufacturing units, etc. The value of the service is based on the service fee
and not the value of goods manufacturer. HSN 9989 provides for classification
of other manufacturing services and cases which involve intangible inputs and
not necessarily physical inputs. The service rate schedule prescribes the
following rates for job work activities:

HSN/SAC

Scope of activity

Rate of Tax

9988

Printing of news-papers, book, etc;
Textile processing activities; job work for jewellery; food processing
activities; tanning and leather processing activities

Manufacturing of clay bricks, handicraft
goods, etc

Manufacturing of umbrella and Printing
of paper products attracting 12% tax

12%

Other Manufacturing services

18%

9989

Printing of all paper products (under
Chapter 48 or 49) where only content is supplied by the publisher and the
paper belongs to the printer

12%

Other manufacturing services including
publishing, printing, reproduction material recovery activities

18%

Issues under the GST law

A)
What is the scope of the term ‘job work’?

The fundamental question arising under job
work is the extent of value addition that is permissible under a job work
arrangement. Is there any outer limit on the value addition (say the entire/
substantial part of the manufacturing activity)? Can a job worker be the owner
of the principal raw material itself while performing job work? These questions
are to be viewed independently – the former question is on substantial value
addition on account of the ‘processes’ performed by the job work and the latter
question is on value addition on account of the ‘type of inputs’ used by
the job worker?

Addressing the first aspect, it may be
relevant to examine the issue based on a controversy raised by a recent advance
ruling. The Maharashtra Advance Ruling Authority in re: JSW Energy Limited
(GST-ARA-05/2017/B-04) had the occasion to examine whether coal converted
into electrical energy on job work basis would fall within the definition of
job work. The Advance Ruling authority held that the job work was not on
coal rather the coal was consumed in the process of generation of
electricity resulting in a manufacturing activity and hence beyond the scope of
the term job work. The Advance Ruling authority suggested that job work and
manufacturing activity are mutually exclusive and the presence of the term
manufacture limits the scope of the term job work. On appeal, the appellate
advance ruling authority (MAH/AAAR/SS-RJ/01/2018-19) held that the
definition does not permit complete transformation of tangible inputs into intangible
inputs – only minor additions are permitted in a job work arrangement (relying
on Prestige Engineering case discussed below). The AAAR stated that
though processing of inputs resulting in manufacture is permitted under job
work arrangements, the section requires the principal to bring back the inputs
and in the absence of a one-to-one correlation between the inputs and the
processed output, the activity is not within the scope of job work.

We need to analyse the definition of job
work a little more intricately. The term job work is defined to mean a
treatment or process undertaken on goods belonging to another registered
person. The emphasis of the definition is on two things (a) ownership of
goods and (b) treatment/ process being performed on those goods. The
term treatment and process are very generic terms without any limits. In this
context, the term treatment generally means giving some properties (either
chemical, physical or biological) to another item. The term process has been
very widely understood by the Supreme Court in the past. In CCE vs.
Rajasthan State Chemical Works 1991 (55) E.L.T. 444 (SC) it was held that
the natural meaning of process would refer to any treatment of certain
materials in order to produce a good result, a species of activity performed on
the subject-matter in order to transform or reduce it to a certain
stage. The definition of job work reads
as follows:

2(68) “job work” means any treatment or
process undertaken by a person on
goods belonging to another registered person and the expression “job worker”
shall be construed accordingly

In comparison, job work was defined in the
CE notification 214/86 as follows:

“Explanation I. – For the purposes of
this notification, the expression “job work” means processing or
working upon of raw materials or
semi-finished goods supplied to the job worker/ so as to complete a part or
whole of the process resulting in the manufacture or finishing of an article or
any operation which is essential for the aforesaid process”

The AAR held that the treatment or process
should be performed upon the goods
for it to be termed as job work. Grammatically speaking, the term ‘on’ is used
as preposition¹ to establish a relationship between a pronoun and
the rest of a sentence. Preposition generally have an object for which it
establishes a relationship. The legislature have used to term ‘on’ in order to
make goods as the object of the entire
statement. The said preposition is establishing a relationship between the
person and the goods and does not establish a relationship between the
process and the goods. It proves that the term process in the definition is
unqualified and should be understood in its natural and complete sense. Unlike
the central excise definition which requires working upon raw materials,
current definition in GST is limited to performing the treatment on goods.
Since the definition is completely silent on the result of the treatment or
process, the definition should be widely construed.

Now referring to section 19 and 143, we can
infer that both sections require the principal to bring back the inputs and
capital goods within a specific time frame. The AAAR & AAR have commented
that the meaning of job work should also be gathered from section 19 and 143.
Since the provision require the principal to bring back the inputs, the term
job work should be understood as only limited to cases where the identity of
the goods is retained and as such returned to the principal. The AAAR failed to
appreciate that section 143 also permits the principal to ‘supply or export’
such inputs with or without payment of tax from the job-workers premises. Any
interpretation should be made based on contemporaneous circumstances. If such
narrow interpretation is made, principal manufacturers would also be barred
from sending raw materials to job work and clearing the finished products after
the manufacturing activity to end customers. Where the provision itself permits
onward clearance of finished products subsequent to a manufacturing activity,
the requirement of retention of the original identity of goods is an apparent
conflict with the term manufacture. The entire provision would become
unworkable with this absurd interpretation of the AAAR.

_____________________________________________________________

1 The term preposition is a word governing, and
usually preceding, a noun or pronoun and expressing a relation to another word
or element in the clause.

Moreover, when 143(5) itself speaks about
generation of scrap and wastage and use of intermediate goods ‘arising’ from
inputs, it is necessarily referring to a manufacturing activity. This conveys
the intention that job workers are permitted to carry out manufacturing
activity including the fact that the existence of the original input is not
visible in the final product. The AAR
failed to understand that the section does not contemplate that the inputs or
capital goods should be brought back in its original condition – such an
interpretation would defeat the concept of job work itself. It should be
interpreted to mean that inputs should either be contained in final products
after job work in some form or the other or the inputs should cause the further
generation of the new product emerging from the job work process. The important
aspect is that the original input should identifiable (either by its cause,
content, character) with job work process and the final product. The Supreme
Court in Prestige Engineering (India) Ltd. vs. CCE Meerut Samples – 1994
(73) E.L.T. 497 (S.C.) while explaining the scope of the definition of job
work under an exemption notification stated that job work should not be
narrowly understood as requiring the job worker to return the goods in the same
form, this would render the notification itself redundant (since the definition
specifically contemplated ‘a manufacturing process’) but it also cannot be so
widely interpreted to allow an arrangement where the process involves
substantial value addition.

The AAAR commented that coal converted into
electrical energy has not been brought back. The condition of bringing back
should be understood from the original intent under Rule 4(5) of Cenvat Credit
Rules i.e. ensuring tax credited inputs do not escape the taxation net while
the goods leave the premises of the taxable person. As long as they have been
used for a value added activity for the taxable person, the condition should be
understood as satisfied and the benefit should be granted. The narrow
interpretation adopted in the AAR only stifles the intent of the law.

One may also observe that the original
ITC-04 tool on the GSTN portal (form for reporting outward and inward movement
of goods under job work activity) required that quantity code of the original
inputs match with the quantity code of the processed item after job work. This
was a challenge as in many cases manufacturers would receive the processed item
in a different form/ quantity. After representations the revised ITC-04
(amended vide Notification 39/2018 dt. 04-09-2018) has suggested that the
original challan date and number need not be given if one-to-one correspondence
between the original goods send for job work and the returned goods is not
possible. This adds credence to the above conclusion that establishing identity
or existence of the original product is clearly not a requirement of the law
and the term job work should not be narrowed down by the requirement of
bringing back the inputs. This leads to an inescapable conclusion that a job
worker can perform any value added activity on the goods.

B) Are the terms manufacture and job work
mutually exclusive?

The AAR concluded that manufacture is
excluded from the definition of job work in view of a separate definition. This
was part of the ruling modified by the AAAR on appeal by stating that job work
activity may or may not result in manufacture. The term manufacture refers to
processing of raw materials or inputs resulting in emergence of a new products
having a distinct name, character and use. On scanning the entire law, the term
manufacture has been used with limited reference: composition scheme, transitional
credit, deemed export. The term
manufacture is used in completely independent context and does not even
remotely narrow down the scope of the term job work.

In other words, the job work is understood
from a contractual sense while manufacture was understood from the physical
properties of the product. In terms of a contract, if a bailor-baliee
relationship is established between the contracting parties with specific
directions for performing a treatment/ process, it would necessarily be a job
work activity. There could be cases which are job work but do not result in a
manufacturing process and there could also be cases were a manufacturing
activity is not a job work transaction in a contractual sense. It is in view of
this independent concepts that under excise, job worker declaration was
required only where the job worker performed a manufacturing activity. Where
the job worker performed limited testing activities, it was not essential for
the job worker to comply with the exemption conditions of Notification 214/86.

The CBEC in its flyer have stated as
follows:

“Job work sector constitutes a
significant industry in Indian economy. It includes outsourced activities that
may or may not culminate into manufacture. The term Job work itself explains the
meaning. It is processing of goods supplied by the principal. The concept of
job work already exists in Central Excise, wherein a principal manufacturer can
send inputs or semi-finished goods to a job worker for further processing. Many
facilities, procedural concessions have been given to the job workers as well
as the principal supplier who sends goods for job work. The whole idea is to
make the principal responsible for meeting compliances on behalf of the job
worker on the goods processes by him (job worker), considering the fact that
typically the job workers are small persons who are unable to comply with the
discrete provisions of the law.”

The flyer clearly states that job work
activity may or may not result in manufacture. The idea behind the concept of
job work is to facilitate the tax free movement of goods and making the
principal responsible for goods under job work. The explanatory notes to the
HSN/SAC chapter headings also provide explain job work as involving an
outsourced manufacturing activity. Further, the notification prescribing the
rates also specify both manufacturing and processing activities to be included
under the SAC for job work. All these clearly indicate that the concept of job
work overlaps with the concept of manufacture and both need not be considered
as mutually exclusive concepts.

C) Whether
job worker can introduce substantial raw materials in its job work process?

A parallel question is whether the
definition prohibits a job worker from introducing substantial/ critical raw
materials in relative comparison to that received from the principal
manufacturer. A plain reading of the section certainly does not bar this
activity. The definition is open ended and left these matters to the mutual
contractual terms between the principal and job worker. Prima-facie, is
appears that law does not prohibit the introduction of substantial / high value
inputs or critical inputs being used by the job worker during the entire
processing. As an example there is no restriction for a goldsmith to use its
own gold where the solitaire diamond is being supplied by the principal
manufacturer.

However, the Supreme Court in Prestige
Engineering (supra) does not permit an open-ended definition of the term
job work. It stated that the definition should not be widely understood to
permit the job worker from performing substantial value added activity. This
understanding of the law was made while interpreting an exemption notification.
As discussed, the concept of job work is being introduced as a facility for
retaining the Cenvat credit rather than as an exemption provision. The
interpretation should be such that the facility made available is effective
rather than a dead letter. The Madras High Court in 2015 (316) E.L.T. 209
(Mad.) CCE vs. Whirlpool of India ltd held that the definition of Prestige
engineering case is limited to that notification and does not extended over the
Cenvat Credit Rules. Therefore, one can certainly take a stand that the excise
understanding of value added activity should not narrow down the scope of the
prevailing definition.

The CBEC Circular No. 38/12/2018, dated
26-3-2018 has clearly permitted the job worker to use his own goods apart from
the goods received from the principal and has not restricted the type/ nature
of goods to be used by the job worker:

“5. Scope/ambit of job work : Doubts have
been raised on the scope of job work and whether any inputs, other than the
goods provided by the principal, can be used by the job worker for providing
the services of job work. It may be noted that the definition of job work, as
contained in clause (68) of section 2 of the CGST Act, entails that the job
work is a treatment or process undertaken by a person on goods belonging to
another registered person. Thus, the job worker is expected to work on the
goods sent by the principal and whether the activity is covered within the
scope of job work or not would have to be determined on the basis of facts and
circumstances of each case. Further, it is clarified that the job worker, in addition
to the goods received from the principal, can use his own goods for providing
the services of job work.”

Moreover, from
an economics perspective, one would be neutral to the fact that critical inputs
being used by the job worker. Being a value added tax law with job work
services also being taxed under its ambit, it is really immaterial on who
introduces the raw material since commercial terms would automatically
determine the transaction value of the each leg of the supply (incl. job work)
and taxes would be appropriately recovered. From a revenue administration
perspective, the benefit of job work was to tide over the compliance of input
tax credit reversal and availment during the intermediary phase. Revenue would
monitor the job work movement primarily to ensure that the input tax credit
availed on such goods is used for the intended objects only. Where substantial
value / critical raw materials are purchased by the job worker itself, the risk
exposure of granting the benefit u/s. 19 is correspondingly reduced. The input
tax credit on the bullion purchased has been now been availed by the goldsmith
and section 19 operates only the domain of inputs sent by the principal to the
job worker and not on the self-purchased inputs.

Rationally, this credit of bullion does not
jeopardise the input tax credit claim on the diamond purchase and sent by the
principal. Hence revenue authorities should not question the quantum / nature
of inputs being used by the job worker as it not result in any additional revenue.

The above conceptual understanding of job
work can be tabulated with some practical examples:

Sl No

Type of Work

Ownership of Raw material

Job work Process

Whether Job work?

Forging
of metal blocks into specific castings

Metal
Blocks supplied by principal

Foundry
activities

Yes
even though there is a manufacturing activity

Supply
of Coal which is used in power plant for generation of electricity

Coal
owned by principal

Power
generation, conversion of coal into steam is also a process

Yes,
even though tangible inputs convert into intangible output

Supply
of Customised Printed Paper

Paper
and Ink owned by printer

Printing/
publishing activity

May
not be classifiable as job work but as supply of goods but HSN 9989 and
notification permits such activity as job work

Retreading
of Tyres

Old
tyres supplied by the Principal and the retreading material owned by job
worker

Retreading

Yes
– CBEC Circular No. 34/8/2018-GST, dated 1-3-2018 gives a view that where
supplier of retreated tyres own the old tyres, it is a supply of goods

Manufacturing
of bearings with own raw material but based on moulds, dies, etc received
from principal

Ownership
of raw material with job worker and ownership of dies with principal

Manufacturing
activity

Yes
to extent of moulds, dies, etc even though no process or treatment of moulds
since there exists a bailor-bailee relationship over the moulds/ dies, etc

Bus-Body
Building Activity

Chassis
owned by principal

Body
built on chassis

Yes
as per Circular No. 52/26/2018-GST, dated 9-8-2018

Bottling
plants receiving concentrate for processing

Concentrates
usually purchased by bottlers

Contract
manufacturer

No
May not be a job work if there is a principal-principal relationship

Brand
owners merely lending brand for manufacturing activity: Pharma/ FMCG industry

Intangibles
owned by brand owner but all raw materials owned by manufacturer

Licensed
manufacturing / loan licensee

May
not be a job work activity but stated in HSN9989 as any manufacturing
activity involving supply if intangible inputs

Printing
of Paper/ Photographs based on intangible material (such as designs) supplied
by Customer on tangible material

Intangible
materials owned by principal

Printing
activity

May
not be a job work but included in HSN9989 as outsourced manufacturing
activity

Extraction
of paraffin from crude material

Crude
material owned by principal

Extraction/
purification

Yes,
treatment includes extraction

Repairing
a transport passenger vehicle

Vehicle
owned by manufacturer

Repairing/
painting, etc

No
compliance of job work provisions required if not an ITC eligible item

In summary, the concept of job work has not
undergone a substantial change from its parent law. There is no reason to limit
its scope with reference to some terminologies as is being attempted by the
AAR. In fact, the concept of job work has widened in relative comparison to
from its excise origin. Its full effect should be given especially in a value
added system. The AAAR have deviated from the essence of job work and this
needs to be examined by a higher forum. The other procedural issues on job work
can be undertaken in a subsequent article.

shailesh.kwebmaker

SCOPE OF GST AUDIT

Audit is the
flavour of the season and finance/ accounting professionals are busy addressing
this statutory requirement under various laws. The GST council and the
Government of India have recently notified the GST Annual Return (in Form 9)
and the GST Annual Certification (in Form 9C) for tax payers in respect of
transactions pertaining to the financial year 2017-18. This is an annual
consolidation exercise of all monthly reports of GST. We have detailed our
thoughts on the scoping of GST Annual certification/ audit under the GST laws.
One should reserve their conclusion on whether Form 9C is an ‘audit report’ or
‘certificate’ until the end of this article.

GOVERNMENT’S THOUGHT PROCESS

The Indian economy
has progressively evolved from an appraisal system to a self-assessment system.
Business houses are required to self-assess the correct taxes due to the
Government exchequer and report the same in statutory returns on a periodical
basis. The parallel to this liberalisation was the requirement of maintenance
of comprehensive, robust and reliable records for verification and examination
by the tax administration at a later stage. The Government(s) approached
independent statutory bodies having professional expertise on the subject
matter to assist them in verification of the accounting records of the
taxpayers. It is this thought process that lead to the emergence of statutorily
prescribed audits with specific reporting requirements giving the Government
assurance over the accounting records for them to effectively discharge their
administrative duties.

AUDIT VS. CERTIFICATION

While audit report
and certificates are part of attest functions of an auditor, there is a
conceptual difference between an ‘audit’ and ‘a certificate’. As per ‘Guidance
Note on Audit Report and Certificates for special purposes’ issued by ICAI, the
difference between a certificate and report has been provided as under:

“A Certificate is a
written confirmation of the accuracy of facts stated there in and does not
involve any estimate or the opinion”;

“A Report, on the other
hand, is a formal statement usually made after an enquiry, examination or
review of specified matters under report and includes the reporting auditor’s
opinion thereon”.

The reader of a
certificate believes that the document gives him/ her reasonable assurance over
the accuracy of specific facts stated therein. A certificate is normally
expected to entail a higher level of assurance compared to an opinion or report
– a true and correct view. An audit report is more generic and gives an overall
opinion that the reported statements are true and fair (in some cases true
and correct). It must be noted that due to inherent limitation of audit
procedures, an absolute assurance is impossible to provide and in spite of the
words report and certificates being used interchangeably, a professional should
clarify to the users of his services that only a reasonable assurance or
limited assurance can be provided by him.

RECORD MAINTENANCE UNDER GST LAW

Section 35 places a
requirement of maintaining accounts, documents and records. The law places an
obligation on every registered person to maintain separate accounts for each
registration despite the person maintaining accounts at an India level. At
every registration level, the tax payer should maintain a true and correct
account of specified particulars such as production or manufacture of goods;
inward and outward supply of goods or services or both; stock of goods; input
tax credit availed; output tax payable and paid; and other additional documents
mentioned in the rules. Rule 56(1) prescribes maintenance of goods imported/
exported, supplies attracting reverse charge liability and other statutory
documents (such as tax invoices, bill of supply, delivery challans, credit
notes, debit notes, receipt vouchers, payment vouchers and refund vouchers).
Succeeding clauses place requirements on the taxpayer (including service
providers) to maintain inventory records at a quantitative level; account of
advances received, paid and adjustments made thereto; output/ input tax,
details of suppliers and registered and/or large unregistered customers, etc.

Strictly
speaking, section 35 does not require the assessee to maintain independent
state level accounting ledgers/ GLs. The section
limits its scope only to maintenance of specified records (which need not be an
accounting ledger) giving the required details enlisted therein at the
registration level in electronic or in physical form. The taxpayer should be in
a position to provide the details as envisioned in section 35 and its
sub-ordinate rule. This could be understood by a simple example of a company
maintaining a bank ledger for pan India operations. Section 35 does not expect
the taxpayer to maintain a separate bank ledger for each registration, but it
certainly expects that the taxpayer to be in a position to derive the state
level advances/ vendor payments from this consolidated bank ledger when
required. Section 35 is not a prescription of list of ledgers for each registered
person, but a specific list of records relevant for the law.

GST REPORTING REQUIREMENTS

Section 35(5) read
with section 44(2) of the CGST Act and the corresponding Rule 80(3) of the CGST
Rules relates to audit. Section 35(5) places three reporting requirements:

Submission of copy of
audited accounts;

Submit a reconciliation
statement in terms of section 44(2); and

Submit any other prescribed
document

Section 44(2)
requires the taxpayer to submit an annual return (in Form 9), audited annual
accounts and a reconciliation statement. Rule 80(3) prescribes the turnover
threshold (currently 2 crore) beyond which tax payers are required to get their
accounts audited in terms of section 35(5) and furnish a copy thereof along
with a reconciliation statement ‘duly certified’.

An important link
between section 35(1) and 35(5) to be noted here is that though section 35(5)
prescribes audit of the accounts of the assessee, section 35(1) does not specify
the accounting parameters under which this exercise is to be conducted. As
stated in the earlier paragraph, section 35 does not provide for maintaining
accounting ledgers at the state level and hence consciously refrained from
providing the accounting parameters (unlike the Income tax law). The law has
limited itself to specific details for its information requirement. Thus, audit
under any governing statute, or in its absence, an audit based on generally
accepted accounting principles, is considered acceptable under the said
section. The law has thus prescribed mere filing of copy of audited annual
accounts as a requirement u/s. 35(5).

Section 35(5) and
44(2) give rise to two scenarios – first being cases where accounts are not
audited under any other law in which case an audit is required to be conducted
under GAAP; and second being cases where accounts are audited under other
statutes and such accounts would be acceptable under GST. A separate obligation
of maintaining GST specific books of accounts has not been prescribed. In both
scenarios, the audited accounts should be accompanied with the reconciliation
statement duly certified u/s. 44(2).

APPLICABILITY OF GST AUDIT AND ANNUAL RETURN

Annual Return: Every registered person irrespective of the turnover threshold
would be required to file an annual return. The said return in Form 9
consolidates the category wise turnovers, tax liabilities and input tax credit
availment/ reversal as reported in the relevant GST returns. It also captures
transactions/amendments, which spill across financial years. A recent document
issued by GSTN convey that Form 9 would be pre-filled by GSTN in an editable
format. The taxpayer would have to review the data and file the same. Aggregate
of the turnover; output tax and input tax credit details as declared in the GST
returns and consolidated in Form 9 would flow into Form 9C for the purpose of
reconciliation by the auditor.

GST
Certification: Every registered person whose
turnover exceeds the prescribed limit is required to file annual audited
accounts and reconciliation statement. An entity having registration in more
than one State / UT is considered as a distinct persons in every State in terms
of section 25 of the CGST/SGST Act. Distinct persons are required to maintain
separate records and get their records audited under the GST Laws. There seems
to be no ambiguity that Form 9 and 9C need to be filed and reported at the
registration level.

However, there
exists some confusion on whether the turnover limit needs to be tested
independently at each GSTIN level or at the entity level. This confusion arises
primarily on account of the wordings adopted in section 35(5) vis-à-vis Rule
80(3). While section 35(5) uses the term ‘turnover’, Rule 80(3) uses the phrase
‘aggregate turnover’. Aggregate turnover is defined to include the PAN based
turnover and the term turnover is not defined. The closest meaning of turnover
would be expressed by the definition of ‘turnover in a state’ which restricts
itself only to the turnover at a particular GSTIN. Thus on one hand, the section
refers to turnover in a state and Rule 80(3) refers to aggregate turnover i.e.
entity level turnover. A simple resolution of this conflict would be to place
larger emphasis on Rule 80(3) as the powers of prescription have been delegated
and one would have to view the prescription only as per the delegate
legislation. Section 35(5) does not in anyway narrow down the scope of Rule
80(3) by using the phrase ‘turnover’. It merely directs one to refer to the
expression of turnover as laid down by the delegated legislation for the
purpose of deciding applicability. There are several viewpoints that affirm
this stand and it would be fairly reasonable to take the view that audit at
each location should be performed irrespective of the state level turnover as
long as the aggregate limits have been crossed.

While the above
explanation conveys that thresholds are to be tested at the entity level and
applied to all registrations under an umbrella, it would be interesting to
examine the other side of the argument for a better debate:

Registered persons u/s. 25
also includes distinct persons and the provisions should apply independently to
each distinct person. If the law expects a separate audit report for each
GSTIN, it seems unnatural that this one turnover parameter is singled out to be
tested at the entity level.

Deeming fiction of distinct
persons under GST law should be given its full effect unless the law conveys a
contrary meaning and the law has not specifically conveyed any contrary
meaning. Since the deeming fiction has stretched itself to treat a branch as
distinct from its head office, the turnover of the head office cannot be then
included for the purpose of assessing the branch compliance.

Though CGST Act is a
national legislation, it has state specific coverage like its better half (i.e.
SGST Act) and should be understood qua the specific registration and not qua
the legal entity as a whole. Hence turnover in section 44(2) should be
understood as per the of definition ‘turnover in a state’, else turnover would
be left undefined/ unexplained in law. The term ‘aggregate turnover’ in Rule
80(3) being a sub-ordinate legislation should be understood within the confines
of section 44(2) to mean aggregation of all supplies under a particular GSTIN
and not at the entity level.

The author believes
that former view is a more sustainable view and the latter view is only a
possible defence plea in any penal proceeding.

SCOPE OF GST AUDIT

Section 35(5) does
not lay down the parameters of its audit requirement. Though the statute
defines ‘audit’ u/s. 2(13), it appears the definition is a misfit for 35(5).
The said definition seems relevant only for the purpose of special audits
required and directed by the Commissioner u/s. 66. The definition reads as
follows:

‘audit means
examination of records, returns and other documents maintained or furnished by
the registered person under this Act or rules made thereunder or under any
other law for the time being in force to verify the correctness of the
turnover declared, taxes paid, refund claimed and input tax credit availed, and
to assess his compliance with the provisions of this Act or rules made
thereunder’

The above
underlined portion of the definition places a stringent task over the auditor
to verify correctness of all declarations of the taxpayer and make a
comprehensive assessment of compliance of the GST law. The requirement is so
elaborate that the auditor would be required to apply all provisions (including
rules, notifications, etc) to every transaction of the taxpayer, take a view in
areas of ambiguity and provide a report on the compliance/ non-compliance of
the provisions of the Act. Section 35(5) seems to be on a different footing
altogether. It refers to performance of audit of accounts (NOT records, returns
or statutory documents) and submission of the copy of the same, which is
completely different from the definition u/s. 2(13). It therefore seems that
the said definition has limited relevance. It applies to cases where a special
audit is directed by the Commissioner on the ground that the books of accounts
and records warrant an examination by a professional.

If one also reads
9C (discussed in detail later), it does not incorporate any section level
report or overall compliance of provisions of the Act. In fact there is a clear
absence of a section reference or the term ‘compliance’ in the entire form.
This leads to the only inference that audit should be understood in general
parlance and not in terms of section 2(13). As a consequence, one can conclude
that the scope of the audit is undefined and respective governing statutes
would be the basis of any audit of accounts u/s. 35(5). This seems logical
since section 35(1) itself stays away from prescribing maintenance of general
books of accounts. In cases where audit is not governed under any statute,
section 35(5) merely directs conduct of audit of accounts as per generally
accepted accounting principles and standards on auditing. An auditor should
apply the procedures given in the Standards on Auditing, specifically obtaining
representation and clarify the terms of engagement in writing with the auditee.

SCOPE OF GST RECONCILIATION STATEMENT

The scope of
reconciliation statement and its certification are not very well defined under
the GST law. Section 44(2) does give some limited indication on the scope of
the reconciliation statement, which reads as under:

‘a
reconciliation statement, reconciling the value of supplies declared in the
return furnished for the financial year with the audited annual financial
statement, and such other particulars as may prescribed’

The above extract
of section 44(2) conveys that the reconciliation statement is a number
crunching document aimed to bridge the gap between the accounts and returns.
Revenue figures as per accounts are present on one end (‘accounting end’) and
the GST return figures are present on the other (‘return end’). The statement
requires the assessee to provide an explanation to timing/ permanent variances
between these two ends. The framework of Form 9C also echoes of it being a
reconciliation and not an ‘opinion statement’ of the auditor and depends on the
reliance upon the data provided by the client that forms the basis of such
reconciliation.

OVERALL STRUCTURE OF FORM 9C

Let’s reverse
engineer Form 9C to affirm this understanding !!!. Form 9C contains two parts:
Part A contains details of reconciliation between accounting figures with the
Annual return figures. Part B provides the format and content of the
certificate to be obtained by assessee.

The salient
features of Part A of 9C can be categorised under four broad heads as follows
(clause wise analysis may be discussed in a separate article):

Table 5 – 8 –
Outward Supply (Turnover Reconciliation): The
net of taxation of GST extends beyond the operating income of a taxpayer. The
objective of this section is to reconcile the operating revenue as reported in
the profit and loss account with the total turnover leviable to GST and
reported in GST returns. The said section then provides a drill down of this
total turnover to the taxable turnover. Any unreconciled difference arising due
to inability to reconcile or other reasons would be reported here.

Table 9 &
11 Output Tax Liability (Tax Reconciliation):
Output tax liability of a taxpayer is calculated on the taxable turnover of the
assesse. However, there could be inconsistencies between the tax payable and
the tax reported in accounts due to either excess collection or otherwise. This
section requires reporting of differences between Tax GLs in accounts vs. the
numbers reported in the electronic liability ledger. The instructions do not
place an obligation on the auditor to verify legality of the rates applied.

Table 12–16
Net Input Tax Credit (Credit Reconciliation): This
section reconciles net ITC availed as per accounts with that reported in
GSTR-3B. ITC under GST is permitted to spill over FYs and the reconciliation
table bridges this timing gap between accounts and GST returns. There could be
certain unreconciled differences such as:- ITC availed in A/C but not availed
in GST returns, lapsed credits, ineligible credits in A/C but claimed in GSTR 9
etc. The table expects the auditor to report the flow of numbers starting from
the accounts to the GST returns. This part also contains an expense head wise
classification based on accounting heads for statistical and analytical
purposes by the tax administration.

Auditors
Recommendation Of Liability Due To Non-Reconciliation

This section
provides the auditors recommendations of tax liability due to
non-reconciliation. The recommendation is limited only to items arising out of
“non” reconciliation and not on account of legal view points. The auditor can
rely on the tax positions taken by the assessee and need not report the same if
the auditee has a contrary view to the same. Difference in view points would
not be points of qualification in the Auditor’s concluding statement.

Part-A seems to limit itself to a reconciliation exercise at various
levels with the audited accounts. There is no provision which requires the
auditor to provide his/her opinion on the compliance with the sections of the
laws (e.g job work, time or place of supply, etc).

Part B of Form
9C is the Certification statement which has been
divided into two parts:-

(I) Where reconciliation
statement is certified by the person who has audited the accounts- As the title suggests, auditors takes twin responsibilities of
statutory audit (either under the Income tax law, sector specific laws or the
GST law¹) and GST reconciliation statement and would furnish its
report in Part-I. In this report, the auditor reports on three aspects:

(a) that statutory
records under GST Act are maintained;

(b) that financial
statements are in agreement with accounts maintained; and

It must be noted
that Part I is not an audit report even-though it is issued by the same
auditor. The auditor performing the audit would still have to issue a separate
audit report as per relevant professional guidelines certifying that the
financial statements/ accounts are in accordance with GAAP and giving a true
and fair view. In this part, the auditor reaffirms that audit has been
conducted by him and the audit provides assurance that the audited books of accounts
agree with the financial statements.

In cases where the
Mr A (Partner of ABC firm) audits under the Companies Act, 2013, Mr X (Partner
of the same firm) performs audit under the Income tax Act, 1961), and Mr Z
(Partner of the same firm) performs certification under the GST law, Mr A may
have to follow Part-I of the certification statement as it is part of the firm
which conducted the statutory audit.

(II) Where
accounts are already audited under any law (Such as Companies Act 2013, Income
Tax Act 1961, Banking Regulation Act 1949, Insurance Act 1938, Electricity Act
2003). This part applies in cases where a
person places reliance on the work of another auditor who has conducted audit
under another statute. The professional believes that statutory audit conducted
under the respective statutes gives him/ her reasonable assurance that the
figures reported in the financial statements are correct. Therefore, the
auditor only reports on two aspects

(a) that statutory
records under GST Act are maintained;

(b) that
particulars mentioned in 9C are true and correct.

_____________________________________________

1 For eg. An individual earning commercial
rental in excess of 2 crore and reporting the same under ‘income from house
property’ would not be subject to maintenance of books of accounts / tax audit
under the income tax. Such individual
would have to get his accounts audited in view of section 35(5) and then
proceed to obtaining the certification over the reconciliation statement.

It appears that
Part B of Form 9C has used audited accounts as the starting point and sought a
certification from the auditor on the particulars mentioned in the
reconciliation statement to reach the numbers at the return end. When the
starting point is unaudited, section 35(5) places an onus on the assessee to
get the accounts audited (based on generally accepted accounting principles)
and perform the reconciliation pursuant to the audit exercise. The audit
process has limited significance only to give assurance to the user of the
reconciliation statement that the accounting end of the reconciliation
statement is also reliable.

To reiterate, the
pressing conclusion is that the focus of Form 9C is to certify the particulars
required to bridge the mathematical gap between accounting revenue vs. GST
outward turnover, input credit as per accounts vs. input credit as per GST
returns and tax liability as per accounts vs. tax liability as reported in GST
returns. This objective becomes effective only when:

a) The accounts are reliable and are consolidated
into the financial statements.

b) This accounting number is bridged with the GST
number in the return.

The first objective
is fulfilled by placing reliance on the audit report issued by the statutory
auditor that financial statements are a true and fair representation of the
books of accounts maintained by the assessee. The second objective is met by a
reporting certain particulars in Part I of 9C. To summarise 9C Part II is a
limited purpose certificate reporting the correctness of the particulars
contained in 9C only.

COMPARATIVE WITH INCOME TAX REQUIREMENTS

Audit reports/
certificates are not germane to tax laws. Income tax has also traditionally
required an income tax audit u/s. 44AB and also chartered accountant
certificates under various sections (such as 115JB, 88HHE, etc). Section 44AB
permitted assessee to have its accounts audited under the Income tax law or any
other law applicable to the assessee and in addition furnish a report in the
prescribed form (in Form 3CD) verifying the particulars mentioned therein. The
audit report in Form 3CD presently contains 44 clauses placing onus on the
auditor to verify compliance of specific sections and reporting particulars
relevant to each section under the respective clause. Each clause requires the
auditor to apply legal provisions/ tax positions, circulars, etc and give an
accurate report of the eligibility and quantum of deduction claimed by the tax
payer (such as whether assessee has claimed any capital expenditure, compliance
of TDS compliance, claim of specific deductions, etc). Yet, it is also settled
that the auditor’s view on a particular section is not binding on the tax payer
and the tax payer was free to take a contrary stand in its income tax return.
One the other hand, section 115JB required a certificate from the chartered
accountant reporting compliance of computation of book profits under the said
section in terms of the list of clauses u/s. 115JB (in Form 29B).

It appears that
Form 9C is not an audit activity rather a certification of accuracy of
particulars. If a comparative is drawn with Form 3CB/3CD and certification
exercise u/s. 115JB, Form 9C appears to be number oriented certification
exercise rather than compliance oriented exercise such as Form 3CD/29B.
Therefore it would be incorrect to term Form 9C as an ‘audit’ exercise and
rather appropriate to term it as a ‘certification’.

shailesh.kwebmaker

GST ON CO-OPERATIVE HOUSING SOCIETIES

Introduction

A co-operative housing
society is a mutual association wherein the membership is restricted to the
buyers of the flats situated in the said building. The society is managed by a
Managing Committee elected by the Members at the General Body Meeting of the
Society from amongst its members only. The primary role of the Managing
Committee is to manage, maintain and administer the property of the society.
This would include making payments to the municipal / local authorities for the
property tax, water charges, etc., arranging for various facility for the
members, such as security, lift (operation and maintenance), maintaining the
common area and facilities of the society (gymnasium, swimming pool, play or
garden area, etc.). For undertaking the above activities, the society needs
funds, which are collected from its members periodically in the form of
maintenance charges. We shall discuss in this article the levy of GST on such
maintenance charges.

At the outset, it is
important to note that the levy of taxes on the co-operative housing societies,
both under the income tax as well as the service tax regime has seen its fair
share of litigation and therefore, taking precedents from the said laws, we
shall discuss the alternate interpretations for different issues.

GST – Levy provisions

In order to determine
whether GST is leviable or not, reference to the charging section (section 9 of
the CGST Act, 2017) becomes necessary which provides that the tax shall be
levied on all supplies (intrastate or interstate) of goods or services
on the value to be determined u/s. 15 of the CGST Act, 2017 and the said
tax shall be paid by the taxable person.

From the above, it is
evident that the primary requirement for the levy of tax to succeed under GST
is that there should be a supply. While the term “supply” has not been defined
under the GST law, its scope has been explained u/s. 7. Clause (a) of section 7
(1) thereof is relevant which provides that the expression

“supply” includes —

(a) all forms of supply
of goods or services or both such as sale, transfer, barter, exchange, licence,
rental, lease or disposal made or agreed to be made for a consideration by a
person in the course or furtherance of business;

Therefore, to treat a
transaction as supply the following three parameters are important:

– Supply of goods or supply of services

– Supply in the course or furtherance of business

– Supply for a consideration

Can a Co-operative housing
society be said to be engaged in supplying services?

While the activities
undertaken by a co-operative housing society for its members cannot be treated
as supply of goods, the question that needs consideration is whether the same
can be considered as supply of service or not? The term service has been defined
u/s. 2 of the Act to primarily mean anything other than goods and therefore, a
simple answer to this would be that the activities undertaken by a co-operative
housing society is a supply of service to its members.

However, an alternate view
is also possible. It would be important to note that the activities undertaken
by the society for its members come within the ambit of principle of mutuality
which says that a person cannot earn out of himself and a person cannot supply
to one self. Infact, applying the said principle, in the context of Income Tax,
receipts by a co-operative housing society from its members have been held as
not being income. Some of the important decisions in this regard are:

– Chelmsford Club vs. Commissioner of
Income Tax — 2000 (243) ITR 89 (SC)

– Commissioner of Income Tax vs. National
Sports Club of India — 1998 (230) ITR 373 (Del)

– Commissioner of Income Tax vs. Bankipur
Club Ltd — 1997 (22G) HR 97 (SC)

– Commissioner of Income Tax vs. Delhi
Gymkhana Club Ltd. — 1905 (155) ITR 373 (Del)

– Commissioner of Income Tax vs. Merchant
Navy Club — 1974 (96) ITR 2GI (AP)

– Commissioner of Income Tax vs. Smt.
Godavaridevi Saraf — 1978 (2) E.L.T. (J624) (Bom.)

In fact, relying on the
above set of decisions, in the context of service tax, it has been held on
multiple occasions that services provided by a co-operative housing society /
club to its members come within the purview of principle of mutuality and
hence, not liable to service tax. Notable decision in this regard is in the case
of Ranchi Club Ltd. vs. Chief Commissioner [2012 (26) S.T.R. 401 (Jhar.)] wherein
it was held as under:

18. However, learned counsel for the petitioner
submits that sale and service are different. It is true that sale and service
are two different and distinct transaction. The sale entails transfer of
property whereas in service, there is no transfer of property. However, the
basic feature common in both transaction requires existence of the two parties;
in the matter of sale, the seller and buyer, and in the matter of service,
service provider and service receiver. Since the issue whether there are two
persons or two legal entity in the activities of the members’ club has been
already considered and decided by the Hon’ble Supreme Court as well as by the Full
Bench of this Court in the cases referred above, therefore, this issue is no
more res integra and issue is to be answered in favour of the writ petitioner
and it can be held that in view of the mutuality and in view of the
activities of the club, if club provides any service to its members may be in
any form including as mandap keeper, then it is not a service by one to another
in the light of the decisions referred above as foundational facts of existence
of two legal entities in such transaction is missing. However, so
far as services by the club to other than members, learned counsel for the
petitioner submitted that they are paying the tax.

Similar view has been held
in other cases as well.

– Sports Club of Gujarat Ltd. vs. Union of
India [2013 (31) S.T.R. 645 (Guj.)]

– Karnavati Club Limited vs. Union of India
[2010 (20) STR 169 (Guj.)]

– Breach Candy Swimming Bath Trust vs. CCE,
Mumbai [2007 (5) STR 146 (Mumbai Tribunal)]

– Matunga Gymkhana vs. CST, Mumbai [2015
(38) STR 407 (Mumbai Tribunal)]

– Cricket Club of India Limited vs. CST,
Mumbai [2015 (40) STR 973 (Mumbai Tribunal)]

To summarise, in view of
the above judicial precedents, an important proposition that emerges is that
vis-à-vis the supplies to the members, the principle of mutuality continues to
apply even under the GST regime and therefore, any collection from members
continue to be outside the ambit of levy of tax. Therefore, GST shall apply
only in case of services provided to non-members.

However, all the above
decisions are contested by the Department and the matter is pending before the
Supreme Court.

Further aspect to be
examined is whether the said decisions rendered in the context of service tax
would have relevance under the GST Regime. It is felt that the concept of
mutuality not only continues under GST Regime but becomes even more fortified
due to the following reasons:

1. Under the service tax regime, Explanation 3 to
section 65B(44) provided a deeming fiction treating an unincorporated
association and the members thereof as distinct persons. While it was possible
to argue that a co-operative society is an incorporated association and hence
the said deeming fiction is not applicable, the said Explanation did somewhere
indicate the intention of the Legislature. In contradistinction, the GST Law
nowhere has such a deeming fiction. It may also be important to note that such
deeming fiction is created in case of establishments in distinct States or
countries.

2. Entry 7 of Schedule II treats supply of goods
by any unincorporated association or body of persons to a member thereof as a
supply of goods but does not specifically cover services under the ambit
thereof.

Can a co-operative housing
society be said to be providing services in the course or furtherance of
business?

The second aspect that
needs consideration is whether a co-operative housing society is carrying out
its activities in the course or furtherance of business or not? This becomes
essential since in the absence of the same, the service may not get
classifiable u/s. 7 to be covered within the scope of supply itself and hence,
may not attract GST at all (irrespective of position taken in the first case).

In order to determine
whether a co-operative housing society carries out its activities in the course
or furtherance of business or not, it becomes essential to refer to the
definition of business as provided for u/s. 2 (17) of the CGST Act, 2017, which
is reproduced below for ready reference:

(17) “business” includes —

(a) any
trade, commerce, manufacture, profession, vocation, adventure, wager or any
other similar activity, whether or not it is for a pecuniary benefit;

(b) any
activity or transaction in connection with or incidental or ancillary to
sub-clause (a);

(c) any
activity or transaction in the nature of sub-clause (a), whether or not there
is volume, frequency, continuity or regularity of such transaction;

(d) supply
or acquisition of goods including capital goods and services in connection with
commencement or closure of business;

(e) provision
by a club, association, society, or any such body (for a subscription or any
other consideration) of the facilities or benefits to its members;

(f) admission,
for a consideration, of persons to any premises;

(g) services
supplied by a person as the holder of an office which has been accepted by him
in the course or furtherance of his trade, profession or vocation;

(h) services
provided by a race club by way of totalisator or a licence to book maker in
such club; and

(i) any
activity or transaction undertaken by the Central Government, a State
Government or any local authority in which they are engaged as public
authorities;

At this juncture, it is
relevant to note that the above definition is similar to the definition
applicable under the CST Act, 1956 (prior to amendment doing away with the
for-profit clause). In the context of the said definition, the Supreme Court
had in the case of State of Andhra Pradesh vs. Abdul Bakhi & Bros
[(1964) 15 STC 644 (SC)] held that the expression “business” though
extensively used as a word of indefinite import, in taxing statutes it is used
in the sense of an occupation, or profession which occupies the time, attention
and labor of a person, normally with the object of making profit. To regard an
activity as business there must be a course of dealings, either actually
continued or contemplated to be continued with a profit motive, and not for
sport or pleasure. Keeping the said principles in mind (except for the clause
relating to pecuniary benefit), let us analyse as to whether the activities of
a co-operative housing society can be classified as trade, commerce,
manufacture, profession, vocation, adventure, wager or any other similar
activity or not?

To do so, let us first
understand the activities of a co-operative housing society. As discussed
earlier, the main object of incorporating a co-operative housing society is to
manage, maintain and administer the property of the society and thus protecting
the rights of the members of the society thereof. There is no apparent
intention to carry out any of the activities specified in clause (a) which a
co-operative housing society carries out. That being the case, the question of
activities of the co-operative housing society being classifiable as business
under clauses (a) to (c) of the above definition does not arise at all.

The only other clause,
which appears remotely relevant to the current topic of discussion is clause
(e) which is reproduced below

(e) provision by a
club, association, society, or any such body (for a subscription or any other
consideration) of the facilities or benefits to its members.

Let us first understand
the concept of how the co-operative housing society model functions. A builder
develops land by constructing the building and other amenities, sells it to
potential buyers who after the completion of construction and handover of
possession, form a society to manage, maintain and administer the property. The
society incurs expense of two kind, one being directly incurred for the member
(such as property tax, water bill, etc.) and second being common expenses for
all the members (such as lighting of common area, lift operation and
maintenance, security, etc.) which are recovered from the members. However,
what is of utmost importance is that a member does not come to society for
enjoying the said facilities, but to stay there, which continues to be his
right by way of ownership which cannot be denied to him. Even if there is a
case where a member stops contributing to the expenses, other members of the
society cannot deny the access to the member to his unit, though the facilities
extended may be discontinued.

However, it is not so in
the case of a club or association. A person becomes a member only to enjoy the
facilities that the said club or association has to offer. If that be the case,
it can be argued the term “society” used in clause (e) of section 2 (17) is to be
read in context of the surrounding words like club or association and hence,
has to be restricted only to such societies where the purpose of obtaining
membership is to receive benefits/ facilities.

If a conservative view is
taken that the activities undertaken by a co-operative housing society is
classifiable as supply of services in the course or furtherance of business, is
the supply for a consideration?

Section 9 of the CGST Act,
2017 provides that tax shall be levied on the value of supply, as determined
u/s 15 of the CGST Act, 2017. Section 15 (1) provides that where the supplier
and recipient are related and price is the sole consideration for the supply,
the value of supply shall be the transaction value, i.e., the price actually
paid or payable for the said supply of goods or services or both.

Therefore, following
points need analysis, namely:

– Whether the society and member can be
treated as related person or not?

– Is the price sole consideration for the
supply?

To
answer the first question, i.e., whether the society and member are related
person or not, it becomes necessary to refer to understand the scope of
“related person”. Explanation 1 to section 15 provides that

(a) persons
shall be deemed to be “related persons” if —

(i) such persons are officers or directors of
one another’s businesses;

(ii) such
persons are legally recognised partners in business;

(iii) such
persons are employer and employee;

(iv) any
person directly or indirectly owns, controls or holds twenty-five per cent. or
more of the outstanding voting stock or shares of both of them;

(v) one of them directly or indirectly controls
the other;

(vi) both of them are directly or indirectly
controlled by a third person;

(vii) together they directly or indirectly control a
third person; or;

(viii) they are members of the same family;

From the above, it is more
that evident that society and members cannot be classified as related persons
since it is not classifiable under either of the above entries.

Regarding the second point
also, it is more than evident that price is the sole consideration of the
supply. This is because the society does not recover anything over and above
the amounts charged for undertaking the maintenance activity.

That being the case, the
value of supply will have to be determined as per section 15 (1) of the CGST
Act, 2017, i.e., GST shall be attracted on the transaction value.

Charges not to be included
in the taxable value

A co-operative housing
society recovers various charges from its members, such as property tax, water
tax, water charges, NA Tax, electricity charges, contribution to sinking fund
and repairs and maintenance fund, car parking charges, non-occupancy charges,
interest on late payment, etc.

A detailed clarification
on the taxability of the above charges has been issued and the same is
tabulated below for ready reference, along with remarks wherever applicable:

Nature of Receipt

Clarification

Property
Tax

Not
Taxable

Water
Tax*

Not
Taxable

Electricity
charges**

Not
Taxable if collected under Statute

NA
Tax

Not
Taxable

Maintenance
& Society charges

Taxable

Parking
Charges

Taxable

Non-Occupancy
Charges

Taxable

Sinking
/ Repair Fund***

Taxable

Share
Transfer Fee****

Taxable

*The clarification
talks about only water tax. However, most of the local authority do not charge
tax but charge a fee based on usage by the member. However, this aspect may
also not have any impact on the taxability since the water charges are levied
basis the consumption per flat and hence, even if the society recovers the said
expense from members, the same will have to be excluded from the value of
taxable service in view of Rule 33 of the CGST Rules, 2017.

** In most of the
cases, electricity charges are not recovered by the municipal / local authority
but by the private players like Reliance Energy, Tata Power, BEST, etc. To the
extent the electricity charges pertain to the members’ flat, the same is
recovered directly by the service provider from the member. The society may
recover only the electricity charges relating to common area, on which the
claim of non-taxability may not be possible.

*** While the
Government clarification states that tax is applicable on such recoveries, it
can be claimed that the contribution to the said funds is not liable to GST for
the following reasons:

1. Both the funds are statutory requirement under
the bye-laws of the society

2. These funds are meant for specific use which
might happen in distinct future

3. This are in the nature of deposits given by
members to safeguard future expenditure. Deposits by themselves are not liable
for GST.

Basis these three
propositions, a view can be taken that collection of sinking fund / repair
funds are not taxable, irrespective of the clarification issued.

****Share transfer fees
is the fees collected from an incoming member for transfer of ownership from
old member to new member. The issue that arises is that the definition of
business u/s. 2 (17) provides that provision of facilities / benefits by a
society to its’ members shall be treated as business. However, at the time when
the share transfer fees are collected from the incoming member, he is not
actually a member of the society. Only upon completion of the share transfer process
does a person become member of the society. Therefore, share transfer fees
recovered from such incoming members cannot be considered as business under
clause (e) of section 2 (17). In view of the earlier discussion, since the
activities of a co-operative housing society are not covered under any of the
other clauses of section 2 (17), collection of share transfer fees may not be
classifiable as being in the course or furtherance of business and hence, a
view can be taken that the share transfer fees are not liable to tax,
irrespective of the clarification issued.

Exemption for Co-operative Housing Societies

Notification 12 / 2017 –
Central Tax (Rate) dated 28.06.2017 provides an exemption for services by an
unincorporated body or a non-profit entity registered under any law for the
time being in force, to its own members by way of reimbursement of charges or
share of contribution up to an amount of Rs. 7500[1] per month per member for sourcing of goods or
services from a third person for the common use of its members in a housing
society or a residential complex.

Important observations
from the above exemption entries are:

– The monetary limit will
not include the amounts recovered which are not taxable in view of the society.

– The exemption will have
to be decided qua the member.

For instance, if a society
has houses of different sizes and the maintenance charges are decided based on
the house size, there can be an instance where maintenance for certain houses
is below the specified limit and for certain houses is above the specified
limits. In such cases, the exemption will be available for smaller houses with
maintenance lower than the specified limit and no exemption will be available
for houses having maintenance higher than the specified limit.

Registration Related Provisions

Section 22 (1) requires
that every supplier, having aggregate turnover exceeding Rs. 20 lakh in
previous financial year shall be required to obtain registration. The term
“aggregate turnover” has been defined u/s. 2 (6) to mean aggregate value of all
taxable supplies, exempt supplies, exports of goods or services to be computed
on all India basis but shall exclude GST thereof.

It may be noted that the
amounts recovered on account of property tax, water tax, etc., will have to be
excluded while computing the aggregate turnover. This is because they are not
treated as being a consideration received for making a supply (exempt or
taxable).

However, maintenance
charges recoveries which are exempted under Notification 12/2017 would have to
be considered while calculating the turnover of Rs. 20 lakh. Further, the
threshold limit will not apply in case a society is already registered. In that
sense, the threshold limit is a mere misnomer in the context of co-operative
housing society.

Conclusion

While the legal principle
of mutuality appears to be reasonably strong in view of consistent decisions of
the High Court, the matter has still not reached finality since the same is
pending in Supreme Court. In the meantime, the Government notifications and
clarifications suggest that GST is applicable to co-operative societies. In
this background, a decision from the Supreme Court is eagerly awaited to settle
the controversy to its fullest.

[1] Earlier the limit was Rs. 5000 per
month upto 25.01.2018

shailesh.kwebmaker

Refunds Under GST

Introduction

1. Since GST works on the
principle of value addition, it is generally expected that on a net basis, the
tax payer will end up paying differential tax (excess of output tax over the
input tax credit) and there would be very few instances of refunds. However, in
certain scenarios, there could be a possibility of there being no differential
tax liability and in fact, there could be refund. Such refunds can be on
account of multiple reasons, such as:

– Tax on inputs is higher than the tax on
output

– Zero rated supplies, i.e., exports and SEZ supplies where there is no
tax on output while tax has to be paid on inputs

– Excess payment of tax, either on account of
mistake, interpretation issue, dispute, pre-deposit in appeal, etc.

– Excess tax payment resulting on account of
loss making business or discontinuance of business.

2. Under the earlier tax regime,
in all the above scenarios, the above excess payment (irrespective of nature,
i.e., payment of tax or unutilised input tax credit) had to be dealt with under
the provisions of the respective laws, which had different principles and
timelines. For instance, under the VAT regime (in the context of Maharashtra
VAT), there was no restriction on claim of refund of such excess tax except for
the limitation period, which was 18 months from the end of the financial year.
However, under the Central Excise / Service Tax regime, the refund claim was
divided into two parts, namely refund of excess balance of credit and refund of
excess tax payment. The provision relating to refund of excess balance of
credit was primarily governed u/r 5 of CENVAT Credit Rules, 2004 which granted
refund of accumulated credit to exporters of goods / services. Similarly, the
provisions relating to refund of excess tax payments were governed u/s. 11B of
Central Excise Act, 1944. In both the scenarios, general limitation period for
claim of the said refund permitted the claim of refund only within a period of
one year from the relevant date. The entire process of claiming refund had seen
its fair share of litigation under the earlier tax regime with various landmark
decisions in the context of each legislation laying down various important
principles which shall be discussed at appropriate places in this article.

3. We shall now analyse whether
the provisions relating to refund under GST regime, pursuant to the amalgam of
the above taxes, have succeeded in removing various difficulties faced under
the earlier regimes or not. We shall primarily cover the following topics
relating to refunds under GST, namely:

– General provisions

– Form & manner of application

– Documentary evidence to be submitted along
with application

– Various Issues relating to refund.

General
Provisions relating to refund under GST

4. Section 54 of the CGST Act,
2017 read with Chapter X of the CGST Rules, 2017 deals with the provisions
relating to grant of refunds under GST. Refund of Integrated tax paid on zero
rated supplies is dealt with u/s. 16 of the IGST Act, 2017 but the same is also
governed by Chapter X of the CGST Rules, 2017. The general provisions relating
to refund under GST are covered u/s. 54 of the Act.

5. Section 54 (1) provides that any person claiming refund of any tax & interest, if paid before the
expiry of two years from the relevant date, may make an application in such form & manner as may be prescribed.
This would encompass the claim of refund of balances appearing in electronic
cash ledger and electronic credit ledger as well as refund of any tax or
interest paid, but not appearing in the respective ledgers for any reason. The
general provisions relating to such refund claims can be listed as under:

– Refund of balance in electronic cash ledger
– Vide proviso to section 54 (1), it has been clarified that the refund of
balances appearing in electronic cash ledger shall be claimed in the return to
be furnished u/s. 39

– Refund of balance in electronic credit
ledger – There can be different reasons for balance in electronic credit
ledger. Section 54 (3) deals with the provisions relating to refund of
unutilised input tax credit and provides for claim of refund by a registered
person of unutilised input tax credit in following cases:

• Zero rated supplies made
without payment of tax

• Accumulation of credit on
account of rate of tax on inputs being higher than the rate of tax on output

• Refunds due, but not reflected
in either of the ledgers – This would refer to situations such as:

• Cases where zero rated
supplies have been made on payment of integrated tax and the liability has been
discharged using balance in credit / cash ledger, thus reducing the respective
balances

• Cases where liability had been
disclosed & discharged wrongly in the returns

Form &
manner of application

6. Section 54 (1) provides that the application for refund shall be made
in the prescribed form & manner, which as per rule 89 is tabulated below:

Refund on account of

Prescribed form / manner

Balance in electronic cash ledger

In the return to be filed u/s. 39

Integrated tax paid on export of goods out of India

Automated refund subject to matching of information in
shipping bill with disclosures in GSTR 1 (Rule 96)

Unutilised input tax credit on account of zero rated supplies
other than export of goods out of India on payment of integrated tax

In Form RFD-01

Unutilized input tax credit on account of Deemed Exports
(either by recipient / supplier)

In Form RFD-01

On account of Order passed by Appellate Authority / Tribunal
/ Court

In Form RFD-01

Excess payment of tax, if any

In Form RFD-01

Any other

In Form RFD-01

7. However, as of now, the
facility to file refund claim has been enabled only in case of refund on
account of zero rated supplies/ deemed exports.

Refund of
unutilised input tax credit:

8. In order to determine the
amount eligible for refund out of unutilised input tax credit, Rule 89 (4)
prescribes elaborate formula to determine the amount eligible for refund from
the balance lying in the electronic credit ledger in case of zero rated
supplies made without payment of tax. The said Rule provides that the Refund
amount shall be derived by applying the following formula,

Turnover of Zero-rated supply of Goods +

Turnover of
Zero – rated supply of Services *?Net
ITC

Adjusted Total Turnover

9. Each of the terms used in the
above formula has been defined in the rules. For instance, Net ITC has been
defined to mean input tax credit availed on inputs & input services during
the relevant period other than input tax credit availed for which refund is
claimed u/r (4A) or (4B) for specified notifications

10. Turnover
of Zero rated supply of goods / services – has been defined to mean the value
of zero rated supply of goods / services made during the relevant period
without payment of tax under bond / letter of undertaking, other than turnover
for which refund is claimed u/r (4A) or (4B) or both. Further, zero rated
supply of services has been defined to include following payments in the
context of zero rated supplies:

Nature of Payments

Action

Aggregate of payments received during
relevant period for such supplies

Include

Advance received in earlier period for
zero rated supplies, where service provision has been completed during the
relevant period

Include

Advance received during the relevant period for zero rated
supplies, where service provision has not been completed during the relevant
period

Exclude

11. Adjusted Total Turnover has
been defined to mean the turnover in a State / Union Territory as defined u/s.
2 (112), i.e., aggregate value of all taxable supplies & exempt supplies
made including export of goods or services or both but excluding the value of
exempt supplies and the value on which refund has been claimed u/r (4A) or (4B)
during the relevant period.

12. Similarly, relevant period has
been defined to mean the period for which the refund claim has been filed.

13. Just like Rule 89 (4) deals
with determination of refund amount in case of zero rated supplies made, Rule
89 (5) deals with determination of refund amount in case of inverted rate
structure. For this situation, it has been provided that the maximum refund
amount shall be determined by applying the following formula:

Turnover of
Inverted rated supply of
Goods &
Services * Net ITC

Adjusted Total Turnover

14. The definition of adjusted
total turnover as provided u/r 89 (4) has been borrowed for the purpose of Rule
89 (5) as well while Net ITC has been defined to mean input tax credit availed
on inputs during the relevant period other than input tax credit availed where
refund is claimed u/r (4A) and (4B).

Documentary
Evidences to accompany with refund application

15. Further, Section 54 (4)
provides that refund application shall be accompanied by prescribed documentary
evidences which demonstrate that

– the amount of refund is due to the taxable
person; and

– the incidence of the same has not been
passed on to any other person, later being required only in cases where the
amount of refund claim exceeds Rs. 2 lakhs.

16. In addition to the above, each
refund application needs to be supported with documentary evidence prescribed
u/r 89 (2) as under:

Clause

Reason for Refund

Supporting documentary evidence

(a)

Order of a Proper Officer / Appellate Authority / Appellate
Tribunal / Court

Refund of pre-deposit made at the time of appeal file before
the Appellate Authority / Appellate Tribunal

Reference number of the Order & copy of the Order passed

Reference number of payment of said amount

(b)

Export of goods – without payment of integrated tax

Statement containing the number & date of shipping bills
/ bill of export and the date of relevant export invoices

(c)

Export of Services – with or without payment of integrated
tax

Statement containing the number and date of invoices
containing the relevant BRC/ FIRC

(d)

Supply of goods to SEZ Unit / Developer

Statement containing number and date of invoices as provided
in rule 46 along with evidence in the form of endorsement on the invoice by
the specified officer of the Zone that the goods have been admitted in full
in the SEZ Unit / Developer

(e)

Supply of services to
SEZ Unit / Developer

Statement containing the number and date of invoices along
with evidence in the form of endorsement on the invoice by the specified
officer of the Zone that the services have been received for authorized
operations of the Unit / Developer

(f)

Supply of goods / services to SEZ Unit / Developer on payment
of integrated tax

A declaration from the Unit / Developer that they have not
availed the input tax credit of the tax paid by the supplier

(g)

Deemed Exports

Statement containing number and date of invoices

(h)

Inverted rate structure

Statement containing the number and date of invoices received
& issued during a tax period

(i)

Finalisation of provisional assessment

Reference number and copy of final assessment order

(j)

Reclassification of outward supply from intra-state to
inter-state supply

Statement showing details of such transactions

(k)

Excess payment of tax

Statement showing details of such payment

(l)

On account of (e), (g), (h), (i) or (j)

Declaration that the incidence of tax, interest or any other
amount has not been passed on to any other person where the amount exceeds
Rs. 2 lakhs

(m)

On account of (e), (g), (h), (i) or (j)

Certificate from a Chartered Accountant / Cost Accountant
confirming the declaration in clause (l)

Grant of Refund

17. On verification of the above,
if the Proper Officer is satisfied that the amount of claim is refundable, he
may make an Order accordingly and the refundable amount shall be credited to
the Consumer Welfare Fund, except in following cases (Section 54 (8)):

– Refund is relatable to tax paid on
zero-rated supplies of goods or services or both or on inputs or input services
used in making such zero-rated supplies

– Refund relates to unutilised input tax
credit as referred to in section 54 (3)

– Refund relates to tax paid on supply, which
is not provided either wholly or partially and for which invoice has not been
issued or where refund voucher has been issued

– Refund of tax in pursuance of section 77

– Refund of tax & interest or any other
amount paid by the Applicant, if he has not
passed on the incidence of such tax & interest to any other person

– Any tax or interest borne by such other
class of applicants as the Government may notify (Rule 89 (4A) & (4B) have
been inserted to grant refund in case of deemed exports to supplier/ recipient
subject to certain conditions).

Concept of
relevant date

18. The concept of “relevant date”
in the context of refund is important as it forms the basis for determining the
eligibility of the refund claim from the view point of limitation. The said
term is defined through Explanation 2 to Section 54 as under:

Reasons for Refund

Remarks

Relevant Date

Tax paid on Export of goods

By Sea or Air

Date on which the aircraft/ ship leaves India

By Land

Date on which goods pass the frontier

By Post

Date of dispatch of goods by Post Office concerned o/s India

Deemed export of goods

Date on which return relating to such deemed exports is
furnished

Tax paid on Export of Services

Supply completed prior to receipt of payment

Receipt of payment in convertible exchange

Advance received for supply prior to issuance of invoice

Issuance of invoice

Refund of Unutilised input tax credit

As per proviso to section 54 (3)

End of the financial year

Refund on account of

Finalisation of provisional assessment order

Date of adjustment of tax after finalization of assessment
order

Judgment/ decree/ order / direction of Appellate Authority /
Tribunal/ Court

Date of communication

Refund claimed by person other than supplier

Date of receipt of goods or services

Refund in any other case

Date of Payment

19. Having discussed the basic provisions relating to refund, we shall
now discuss on specific issues relating to claim of refund under the GST
regime.

Does the time
limit of 2 years apply in case of refund of balance in Electronic Cash Ledger?

20. A possible reason for balance in electronic cash ledger would be
instances of payment of tax under the wrong head / excess payment of tax. To
deal with such situations, section 54 (1) provides that any person claiming
refund of any tax & interest, if paid may make an application in such form
& manner as may be prescribed, before the expiry of two years from the
relevant date. Further, proviso to section 54 (1) provides that the refund of
any balance in electronic cash ledger has to be claimed in accordance with
provisions of section 49 (6) in the return furnished u/s .39 in such manner as
may be prescribed.

21. One important distinction in the above provisions is that while the
operative part of section 54 (1) specifically deals with refund of tax &
interest paid, the proviso deals with refund of balance in electronic cash
ledger. This distinction is important because it helps us in dealing with the
question of whether the two-year limit applies to claim refund of balance in
electronic cash ledger or not?

22. To answer this question, we will need to refer to the concept of PLA
under Central Excise wherein amounts deposited in PLA were treated as mere
deposits and not actual discharge of tax. In this context, reference to the
decision in the case of Jayshree Tea & Industries Limited vs. CCE,
Kolkata [2005 (190) ELT 106 (Kolkata)] may be relevant wherein the Tribunal
has dealt with the distinction between the amount appropriated towards duty and
amount deposited for payment of duty. The Tribunal held that in the first case,
duty which has been paid to the PLA and appropriated towards liability becomes
property of Government and no person would be entitled to get it back unless
there is provision of law to enable that person to get the duty already
appropriated back. However, for the second case, i.e., amount deposited for
appropriation towards future liability but not appropriated, the said amount
does not become property of Government unless goods are cleared and duty is
levied and therefore, the law of limitation does not apply to such refund
claims.

23. Similarly, in the context of GST, making payment in to electronic
cash ledger under GST is also treated as a “deposit” which is evident on a
reading of section 49 (1), which reads as “Every deposit made towards, tax, interest, penalty, fee or any
other amount by a person … …. … shall be credited to the electronic cash ledger
of such person … … …”

24. Therefore, a view can be taken that the limitation period may not
apply to balance lying in electronic cash ledger since the same is a deposit
and not in the nature of tax, interest, penalty, etc.

Will the above principles be applicable for
refund of pre-deposits made while filing appeal before Appellate Authority /
Tribunals?

25. Sections 107 & 112, which deal with the provisions relating to
Appeal to be filed before Appellate Authority or Appellate Tribunal provide for
pre-deposit of 10% / 20% of the disputed demand before filing of appeal under
the respective sections. The issue that needs consideration is whether the
time-barring principle will apply for such kind of payments, if in future the
matter is decided in favor of the taxable person making the pre-deposit?

26. To answer this question, foremost one needs to determine the manner
in which the pre-deposit compliance has been done by the taxable person, i.e.,
whether by debit in the electronic cash ledger / electronic credit ledger? This
is because once the Order from the Appellate Authority / Tribunal is received
and the Order Giving Effect to the same is given, the amounts will be
recredited to the respective cash / credit ledgers from where they were
initially debited.

27. Once the said amount forms part of cash ledger, the same shall
partake the character of deposit and hence, the above principles of applicability
of time-barring provisions shall continue to apply. In this regard, one can
also refer to the decision of Bombay HC while dealing with a similar issue in CCE,
Pune I vs. Sandvik Asia Limited [2017 (52) STR 112 (Bombay)] wherein it has
been held that the principles of unjust enrichment and Section 11B do not apply
to refund of amounts deposited in compliance with interim order. Similar view
has been held in the case of CCE, Coimbatore vs. Pricol Limited [2015 (39)
STR 190 Madras]

28. However, in cases where the pre-deposit is made through debit in
credit ledger, on receipt of the favorable Order, the pre-deposit amount would
be re-credited to the credit ledger and hence, the above principles shall not
be applicable for such re-credits.

What are the
specific issues in the context of filing of refund claim for unutilised input
tax credit balances appearing in electronic credit ledger?

29. As discussed earlier, section 54(1) provides for refund of any tax
& interest paid. One subset of the same would be balance lying in
electronic credit ledger, i.e., unutilised input tax credit which is dealt with
in section 54 (3). In the context of such balances, there is a specific
restriction on claim of refund except where the balance has arisen on account of:

– Zero rated supplies made without payment of
tax

– Inverted rate structure, i.e., where the tax
rate applicable on outward supplies is lower than the tax rate applicable on
inward supplies.

30. Elaborate process has been prescribed u/r 89 to determine the form
& manner of making application and the amount of refund eligible, which has
been discussed earlier as well. For instance, Rule 89 (4) defines the formula
to be applied for determining the refund amount for zero rated supplies. The
said formula deals with certain terms, which have been defined in the Rules.
The definition has led to various issues which are discussed below.

Timing Issues

31. The core issue with the formula is the aspect of relevant period.
This is because all the terms, namely Net ITC as well as Turnover figures (both
turnover of zero rated supplies as well as adjusted total turnover) are defined
in the context of refund claim for the relevant period, i.e., the period for
which refund claim has been filed.

32. Many a times, there can be a scenario wherein the inward supplies
are received during one particular period prior to the relevant period during
which the outward supplies towards which the refund claim is being filed is
made. Due to this, there is a timing mis-match. Let us try to understand this
issue with the help of following example:

Example: ABC Limited is a manufacturer, predominantly exporting its’
manufactured products. They manufacture based on Orders received from
customers. During the period from January to March 2018, they received an
Export Order for INR 100000. They procured the materials for the same in
January for Rs. 60,000 on which GST @ 18% was charged (i.e., Rs. 10,800) and
claimed as credit. The manufacturing process completed in March 2018 and the
goods were exported in the same month. Applying the formula for refund of the
said tax in the month of March 2018, the same shall be determined as:

Turnover of Zero-rated
supply, i.e., Rs. 100000 * Net ITC (0) = 0

Adjusted Total Turnover, i.e., Rs. 100000

33. Similar issue would arise in case refund is filed in January when
the turnover would be zero and hence again, refund amount would continue to be
zero only.

34. In view of the formula mismatch, unless the taxpayer has continuous
exports, there is a possibility of the refund amount reducing on account of
such timing mismatch.

35. While the method for calculating the amount of refund eligible is
similar to the method prescribed u/r 5 of CENVAT Credit Rules, 2004, the key
difference is in the determination of the denominator, i.e., Adjusted Total
turnover. While the Turnover of zero rated supply of services is determined on
the basis of the payments realised, adjusted total turnover merely refers to
the turnover of export of service, which would primarily cover the value of
services exported, whether or not payments realised. This is in contrast to the
method adopted u/r 5 of CCR, 2004 wherein it was specifically provided that the
value of export of services, for the purpose of total turnover also shall be
determined based on the payment realisation only.

Relevant period

36. Another departure from Rule 5 of the CENVAT Credit Rules, 2004 is
in the context of relevant period, or the period for which the refund claim is
being filed. While u/r 5 of the CENVAT Credit Rules, 2004, the refund claim was
to be filed on a quarterly basis, irrespective of the periodicity for filing
returns, under GST, the term “relevant period” has been defined to mean the
period for which the refund claim has been filed. While the term “period” has
not been defined under the GST law, the term ‘tax period’ has been defined to
mean the period for which return is required to be furnished. Therefore, for
taxable persons whose turnover exceeds Rs. 2 crores, refund claim will have to
be filed on a monthly basis while in case of others, depending on the option of
return filing exercised (monthly vs. quarterly), the periodicity of filing
refund claims should be required to be determined. However, on the portal, even
for taxable persons exercising the option to file quarterly returns, the refund
claims are required to be filed on monthly basis only.

Is it mandatory to file a refund claim in
case of refund of advances received for provision of services on which tax was
discharged or self-adjustment in returns is permissible?

37. Section 31 (3) (d) requires a taxable person to issue a receipt
voucher or any other document as may be prescribed at the time of receipt of
advance payment with respect to supply of goods or services or both. There can
be two outcomes against this advance, namely:

– Supply is made & invoice is issued
against the advance received

– Supply is not made & invoice is not
issued, the advance is refunded for which refund voucher shall be issued as
envisaged in Section 31 (3) (e)

38. The issue that arises is how to treat the adjustment of tax paid on
advances and subsequently refunded to the client. This is because Table 11 of
GSTR 1 provides for disclosure of only advances received & advances
adjusted during the tax period. While what is meant by advances adjusted has
not been dealt with specifically, notes to the format of GSTR 1 provides that
Table 11B shall include information for adjustment of tax paid on advances
received and reported in earlier tax period against invoices issued in the
current tax period. However, there is no specific mention of how the instances
covered u/s 31 (3) (e), i.e., refund of advances received before provision of
supply & issuance of invoice will be dealt with.

39. While section 54 (8) (c) provides for refund of tax paid on such
supplies, it is important to note that the process for filing such refund
claims has not been enabled as on date and hence, if the view that
self-adjustment is not permissible for instances where tax was paid on advance
receipt and subsequently refunded, the same will result in blockage of funds in
the absence of proper mechanism with respect to the same.

Will refund on account of inverted rate structure be eligible if the
rate of inward input services is higher as compared to the rate on outward
supplies?

40. Proviso to section 54 (3) provides that refund of unutilised input
tax credit where the credit has accumulated on account of an inverted rate
structure, i.e., the rate of tax on inputs being higher that the rate of tax on
output supplies. Rule 89 (5) prescribes the method which shall determine the
refund amount in such cases. The formula prescribed for determining the refund
amount states that net ITC shall mean the credit availed on inputs during the
relevant period. The issue that arises is whether the term “input” used in
section 54 (3) refers the term “input” as defined u/s. 2 (59) or it has to be
read as “input supplies” in the context of “output supplies”?

41. This is essential because the formula for output supply covers
outward supplies of both, goods as well as services. Therefore, there is no
apparent logic for considering only the credit claimed on input goods for the
purpose of Net ITC and not input services also.

42. A logical argument is that the input referred to in the proviso has
to be read to be in correlation to the output supply. This is because the term
“output supply” has not been defined in the GST law. What is defined is outward
supply. Had it been a case that the proviso used the term “outward supply” and
not “output supply”, a strong ground to say that Net ITC should include inputs
as defined u/s 2 (59) would have been possible.

However, with use of words input & output supply, in our view, will
have to be read vis-à-vis each other, i.e., Net ITC should include the
credit availed on both inputs, as well as input services.

What will be the
scope of applicability of doctrine of unjustenrichment under GST?

43. One important aspect that needs to be analyzed while dealing with
the subject of refund is that the incidence of tax, interest or any other
amount that is being claimed as refund should not be passed on to another
person. This is known as the doctrine of unjust enrichment. The doctrine states
that if a person pays the tax to the Government and passes it on to his
customer by including it in the sales price, he effectively loses nothing. If
this tax is to be later on refunded to him on the ground that it was not
payable itself at first instance, the refund would be an undeserving benefit. This
principle has been exhaustively dealt with by the Hon’ble Supreme Court in many
cases, the landmark being Mafatlal Industries vs. Union of India [1997 (089)
ELT 0247 SC].

44. The circumstances under which refund shall be granted under GST, as
governed u/s. 54 (8) of the Act are similar to the provisions prescribed u/s.
11B of the Central Excise Act, 1944. Therefore, the principles of doctrine of
unjust enrichment, as applicable in the context of section 11B of Central
Excise Act, 1944 should continue to apply in the context of GST as well.
Therefore, unless specifically mentioned, the principles of doctrine of unjust
enrichment should not apply in the context of GST as well.

shailesh.kwebmaker

DECODING GST – CLAUSE BY CLAUSE ANALYSIS OF GST FORM 9C

This article is oriented towards performing a clause by clause analysis
of GST Form-9C. GSTR-9C has been titled as a reconciliation statement driven
towards reconciliation of data as per books of accounts with the data reported
in the GSTR 9. Therefore, preparation of GSTR-9 has to be treated as being a
pre-cursor to the reconciliation statement to be prepared for GSTR-9C.

Foreword

We have all experienced multiple course corrections in the country-wide
GST implementation including the course correction in reporting front. For
instance, in April 2017, the ambitious plan of item level reporting (at output/
input level) in the form of GSTR-1/2/3 with GSTR-1A/2A was introduced. However,
in July 2017 GSTR-1/2/3 and its compliments have been suspended and replaced
with a surrogate return in the form of GSTR-3B condensed the information
requirement. The said form was meant to collect taxes and tide over the IT
preparedness in implementing this nation-wide law. There was a temporary shift
from item level reporting to aggregated level reporting in the returns.
Entities hence prepared internal workings (at item level) and only reported the
aggregate number in GSTR-3B. Then came October 2017 wherein the requirement to
file GSTR 1 was introduced.

The flip-flop in reporting formats and ambiguity in
law could have given scope for errors creeping into reporting or taxability.
The law permitted tax payers to rectify both these errors during the course of
the tax period with additional time granted until September 2018. Yet there
could be instances where errors remain unrectified. For such instances, GSTR-9
and 9C assume a higher significance for FY 2017-18. The Auditee should view the
exercise of GSTR 9 as an opportunity to review and rectify the ‘errors in
reporting’ and GSTR-9C as an opportunity to get an external view to taxability
and rectify ‘errors in taxability’.

Structure of Form 9C

Traditionally, scope of taxation under VAT/ Service tax/ Excise was
limited to business turnover. With advent of GST the gamut of taxation has
widened unimaginably – from financial / recorded transactions to
non-financial/unrecorded activities; from contractual events (written/ oral) to
non-contractual activities; from external transactions to internal events; from
revenue to capital / non-recurring items. The law has encompassed almost
everything one can imagine. We have in some sense transgressed from a
‘transaction based law’ to an ‘event based law’. The law drills deep into the
information mine of an organisation touching internal actions, behaviors and
movements. It is for this reason that 9C attempts to capture whole lot of
information which is beyond the trial balance/ balance sheet of an
organisation. The form has been structured as follows:

Part-I contains the basic details of registration. Part II, III, IV and
V are the reconciliation tables which are discussed below. It is pertinent to
note that any reconciliation is an examination of the presence/ absence of a
particular number in two comparatives. Therefore, prior to performing any
reconciliation, one needs to be clearly conscious of the composition of
starting point since all adjustments to be made to reach the other end are
based on the presence/ absence of that particular figure in the starting point.
All the clauses of Form-9C should be understood on the basis of this comparative.

Part II: Point No. 5: Reconciliation of turnover declared in audited
annual financial statements with turnover declared in Annual Return (GSTR-9)

This part reconciles the turnover level differences between audited data
and returned data. Conceptually, audited turnover would vary from returned
turnover on account of certain variances. While this part performs a two-way
reconciliation between audited accounts and GSTR-9, one would also have to
factor the background workings of GSTR-3B and make this a triangular
reconciliation to conclude on the tax level differences. The picture below
depicts the journey from BOA to GSTR-9 to GSTR-3B and back to BOA:

i. Timing variance
(TV): GST follows a monthly tax period and permits transactions to spill
over multiple months/ financial years but audited accounts freeze numbers
between two dates i.e. 01/04/XX to 31/03/XX. This spill-over effect creates
temporary differences in Y1 and reversing difference in a subsequent year (say
Y2). There could also be cases where the revenue recognition policy uses
different parameters in comparison to the GST time of supply provisions (eg. a
developer following percentage completion method of revenue recognition whereas
GST follows invoice/ receipt basis). Similarly, GST law requires the taxable
person to pay tax on advances received during the year though not recognised as
revenue, thus resulting in a timing difference between the BOA and returns.

ii. Accounting variance (Permanent variance) (AV): As mentioned
earlier, GST encompasses events which may not be reflected in the entity level
books of accounts (say internal stock transfers, internal cross charges, etc)
and thus creates a permanent variance between two numbers.

iii. Value variance
(Permanent variance) (VV): This represents variances arising on account
of difference in commercial value and GST value (section 15).

PART 5 & 6 – RECONCILIATION OF GROSS TURNOVER

This part reconciles the accounting turnover with the turnover reported
in GSTR-9. The GST turnover would be mapped from GSTR-9 (compilation of all
GSTR-1 returns) with subsequent year adjustments during the period April 2018
to September 2018 (such as rectification in errors in the amendment table,
etc.)

Clause Description

Intricacies

Auditor responsibility/ working Papers

Adjustments/ Illustrations

5A. Turnover as per audited financial statements
for the State/UT (for multi-GSTIN units under same PAN the turnover shall be
derived from the audited financial statement) – Starting Point

Report the revenue from operations of the entity
in the P&L for the financial year April 2017 to March 2018 (incl. the
non-GST period)

Financial year 2017-18 numbers are to be
adopted. For entities having multiple
registrations, the instruction of the form suggests that a GSTIN level
turnover should be extracted from the audited turnover at entity level.

Auditor should obtain the signed financial
statements. In case of multiple
registrations, auditor should obtain GSTIN level data which aggregates to the
audited figure under a representation letter.

Revenue excluding GST component should be adopted
from financial statements

No adjustment should be made to the financial
number and it should be directly planted into this clause. Any adjustments to
this number should be made only via form 9C.

This clause does not require a ‘State level
Trial Balance’ and the auditor can rely on any suitable methodology in the
company which extracts the registration level turnover from the revenue GL
(such as cost centre, location codes, etc).

Other income streams in separate schedules
should not be included here. Only those having GST implications should be
added as a separate line item.

All
subsequent clauses should also be applied at the GSTIN level only.

The auditor should check if the audit
adjustments on account of transfer pricing / IND-AS / provisions, etc., are
accounted for in the books at registration level / consolidated level and
accordingly, the registration level revenue should be arrived at.

Auditor may consider documenting/ reporting the
broad composition of the starting point as an observation in Part-B since all
subsequent adjustments are dependent on this composition.

5B. Unbilled revenue (UBR) at the beginning of the financial year(+)

5H. UBR at the end of the financial year (-)

UBR as reported in the Asset GL as on
01-04-2017and 31-03-2018 (+/-) to be taken at state level

The objective of this clause is to adjust
opening UBR which is billed during the GST period and eliminate fresh
recognition of UBR by reducing it from the audited revenue

It may be advisable to map the opening
composition of UBR with billing under Service tax/ GST period

Auditor to document the revenue recognition
policy and management’s view for its variance with the Time of Supply
provisions

Delay in billing beyond the contractual due
date may need to be analysed considering the provision of Time of Supply
under GST.

A MRL may be obtained with regards to details
of Unbilled Revenue provision of earlier period reversed during the period
under audit and fresh unbilled revenue provision created during the period of
audit

Some entities have taken a conservative stand
and considered UBR as their taxable turnover under Service tax (especially
export entities). In such case, a note
that UBR has not been reported since there is no timing variance between
revenue recognition and time of supply provisions could be provided.

5C. Unadjusted advances (UADV) at the beginning of the financial year
(-)

5I. UADV at the end of the financial year (+)

Report the UADV as on 31-03-2018 and 01-04-2017
as per BS/ location level accounts

Only taxable advances need to be included in
the opening/ closing values i.e. advances on which tax has been paid

In case of decentralised billing/ accounting
practiced during the service tax regime, it would be easy for the assessee to
ascertain the state level opening UADV

In case of service entities having centralised
registration under service tax, the adjustments towards opening UADV and the
service tax turnover may be recorded only in the Form 9C of the centralised
office of the tax payer

Verify opening UADV with the state level
billing in subsequent period to ensure accuracy of the data provided by the
assessee and ensure there is no cross adjustments between branches

If assessee has not offered advances to
taxation during the service tax/ GST period, this clause would become
redundant and an observation should be made in the certificate

Auditor to verify that tax has been paid and
turnover has been reported in GSTR-9 at the time of receipt of advances which
are comprised in the year end UADV

In certain cases tax payers have paid the tax
on advances based on an incorrect place of supply (i.e. IGST instead of
CGST+SGST), necessary adjustments may need to be made at the tax level if not
already adjusted in the returns. Refund of the incorrect tax may be sought by
the assessee through a separate process (refer tax level reconciliation)

5D. Deemed Supply under Schedule I

Transactions without considerations are to be
captured here such as Branch transfers/ intra-entity cross-charges; principal
agent supplies, etc

This should include activities which are deemed
to be supply under the GST law, i.e., covered under schedule I of the CGST
Act but not included in the financial statements/ state level turnover.

Auditor should identify all such cases which
might be covered under Schedule I of the CGST Act.

Auditor may consider reconciling the delivery
challans/ e-way bills generation data for completeness of the reporting.

Some entities have practiced departmental
accounting for state level registration and made consolidation adjustments at
the time of preparation of financial statements. One may verify whether the turnover in 5A
already includes this figure

In case where state level data has been
extracted from cost centres/ location codes, adjustments to the accounting
turnover becomes necessary.

Fixed asset and other inventory registers may
be examined to ascertain whether there are disposals/ write-off of business
assets on which input tax credit has been availed

For instance, branch transfer of goods can be
identified based on the examination of the inventory registers for
identification of inter-state stock movements and its reporting in GSTR-3B/1.
Similarly, deemed supply of service between distinct persons can be
identified by doing a revenue cost analysis for each registration and reviewing
the documented policy in this regard.

Auditor should conduct a review of all assets
and seek representation on the physical location/ presence within the
respective States to determine whether there is any permanent transfer/
disposal of assets

Auditors may consider caveating their report to
the extent that auditing methodologies only facilitate review of identified
branch transfers and that the certificate should not be construed as a
comprehensive identification of all such deemed supplies

In case of supply of goods, tax payers have
been exempted from payment of taxes at the time of receipt of advances. In such cases, closing unadjusted advances
for supply of goods would only comprise of receipts during July 2017 to Nov
2017.

5E. Credit notes issued after the end of the financial year but
reflected in the annual return (+) : apparent error in signage

Credit notes u/s. 35 are issued for cases
involving change in taxable value or on account of goods return or deficient
supplies

Credit notes raised by an entity could be those
which have a GST impact, i.e., satisfy the conditions prescribed u/s. 35 and
those which do not have a GST impact (for example, account settlement credit
notes or bad debts and so on). This
clause is meant to captures the former and that also only to the extent such
credit notes are issued during the subsequent financial year in relation to
supply made during the period under audit are reflected in the Annual return
filed for the period under audit

The auditor will have to review the GSTR 1
filed for the period from April to September of the next financial year and
determine credit notes which are issued in relation to supply made during the
period under audit and further analyse whether the same have been disclosed
in the Annual return or not.

There is lack of clarity on this clause and we
have to await an amendment to this clause.
Credit notes raised during 18-19 are logically not required to be
reported as part of the 17-18 reconciliation.
It is highly probable that this clause might be amended

5J. Credit Notes accounted for in the audited
financial statement but are not permissible under GST (-): apparent error in
signage

Credit notes u/s. 35 are issued for reduction of
taxable turnover (such as price re-negotiation, short shipment, incorrect tax
rate, etc)

This clause would capture all such credit
notes, where reduction in GST is not allowed u/s. 35 as discussed for the
earlier clause.

Identification of credit notes and reasons for
reduction sought in the taxable turnover should be documented as working
papers

Management may seek confirmations on reversal
of credit on the recipient end

5F. Trade Discounts accounted for in the audited
financial statements but not permissible under GST

Trade discounts u/s. 15(3) could be those granted
at the time of supply or post supply

Trade discount here should be understood to
include cash discounts, target discounts, incentives, etc. which do not
satisfy the conditions prescribed u/s. 15(3) for non-inclusion in the value
of taxable supply.

Auditor may consider conducting a sample
analysis of major contracts to identify whether discounts given during the
year on which section 15 (3) benefit has been claimed satisfy the parameters
prescribed therein

Gratuitous discount given by a company on 100^th
year celebration to its all India distributors may not be permissible under
this clause

5G. Turnover during April 2017-June 2017 (-)

Audited financial turnover at the location level
for the said period is to be reduced

The accounting turnover (net of all credit
notes/ debit notes and accounting adjustments) which was used to arrive at
the opening figure should be reduced to nullify the effect of pre-GST period
revenue during the FY.

Turnover in excise/ service tax/ VAT returns are irrelevant for reporting
here.

Auditor would need to understand the process of
ascertaining locational level turnover for April-June’17 especially under
service tax regime since many assessee might have opted for centralised
registration under service tax and would not have identified a turnover to a
specific location

A view with adequate disclosure may be given
that consolidated turnover for April-June’17 is to be tagged to the state
where service tax jurisdiction applies and the disclosure is not having any
adverse tax consequences

5K. Adjustments on account of supply of goods by
SEZ units to DTA units (-)

Report DTA sales by SEZ unit

‘Removals’ from SEZ units are liable to custom
duties as any other imported stock in the hands of the person who declares
himself as an importer on record (generally the DTA buyer). Since buyer discharges the customs duties
on the basis of bill of entry for home consumption, it is not considered as a
taxable supply by the SEZ unit even-though it is a turnover in the accounts

Where the SEZ unit declares itself as an importer on record, pays
the custom duties and also charges IGST on the stock transfer invoice to the
DTA unit, this would form part of the turnover of the SEZ unit and no
adjustments are required in this clause

The auditor may obtain a list of all DTA sales by the SEZ unit and
also obtain a copy of Bill of Entry filed by the customer as importer to
satisfy that the onus of discharging tax was not on the SEZ unit but on the
DTA unit buying the goods

DTA clearances of capital goods by SEZ
developers are not covered in this clause though principally similar implications
would apply (Section 30 of the SEZ Act
operates only for SEZ Unit)

5L. Turnover for the period under Composition (-)

Accounting turnover during the period under
Composition Scheme to be excluded

GSTR-4 data to be reconciled with accounting
turnover under the composition schemeand then excluded under this clause.

5M. Adjustments in turnover u/s. 15 and rules
made thereunder (+/-)

Variances in commercial value and GST value to be
aggregated and reported here

Section 15 and rules may require upward/
downward adjustment to taxable value (such as air travel agent invoices/
money-changer transactions, trading of used goods, admitted undervaluation in
related party transactions, admitted Free-of cost supplies with external
parties, etc)

Auditor can ascertain this figure by a invoice-wise comparison of
revenue GL and GST register (value column)

Auditor may study the upward/downward variance at a conceptual
level and aggregate the same but is not required to attest the said
quantification

Certain value exemption notifications (such as
sale of flats, sale of second hand pre-GST motor vehicles , etc) may also be
included here eventhough they are not part of section 15

5N. Adjustments in turnover due to foreign
exchange fluctuations (+/-)

Difference in valuation due to forex rates
adopted for revenue recognition / GST valuation

In respect of export of goods, the law requires
the customs notified rates to be adopted but commercially agreed currency/
forex rates may vary. Therefore, there will always be a difference in the
value of export of goods reported in the Annual Return vis-à-vis books of
accounts which will have to be reported here.

Auditor to examine the internal accounting policy in respect of
adoption of foreign exchange rates.

In addition, the auditors should obtain a statement of export of
goods during the year with both, the figures as per books of accounts as well
as the shipping bill plotted for verification and record purposes.

Certain accounting practices for companies who have hedged their
foreign exchange exposures on export revenue may be examined

Any variance in turnover due to difference in
foreign exchange rates at the time of receipt of advance and time of its
adjustments may need some reporting

5O. Adjustments in turnover due to reasons not
listed above (+/-)

Residual entry for all other adjustments

All case-specific adjustments may be carried
out here. If the web-portal does not
permit multiple sub-items, it may be advisable to maintain a internal working
and upload a scanned copy if permitted by the web-portal

Auditor to seek representation on this residual
adjustments and maintain working papers on the reasons for the adjustments
and its impact at the tax level. Missed reporting of outward supply should
not be reported here but reported as unreconciled difference

Expense recoveries which are debited to the
profit and loss account

High-sea sales/ drop shipments which are
excluded from GST

Sale of fixed assets, residual value of
destroyed goods, etc.

5R = 5Q-5P : Unreconciled difference between the Accounting
turnover (with adjustments) and the GSTR-9 turnover

Reasons for non-reconciliation to be provided
here

• It is absolutely essential to reconcile the two
turnovers to the last rupee to eliminate the possibility of compensating
reconciling items

Auditor cannot adopt a materiality test for this
unreconciled difference (eg. a Re 10 +ve and Re 9 –ve may result in Re 1
+ve). Auditor to identify every
difference

It is also essential to comment whether tax is
due on this difference and if yes, whether tax has been discharged and the
relevant tax period. If tax has not been discharged, auditor may consider
reporting the same as additional liability

PART 7& 8 – RECONCILIATION OF TAXABLE TURNOVER

This part aims at moving
from the reconciled total turnover as per accounts to the taxable turnover as
reported in GSTR-9. By this stage, the
accounting turnover has been brought to the level of total turnover as per
GSTR-9. Any difference arising in this reconciliation table would primarily
be on account of: (a) short-reporting of non-taxable turnover in GSTR-1 (say
interest income); or (b) short reporting of taxable turnover; (c) incorrect
reporting head. In the author’s view,
it may be advisable to rectify any short reporting of non-taxable turnover
and reporting errors of GSTR-1 in GSTR-9 itself so one is left only with
items having a final impact on the tax liability.

Clause Description

Intricacies

Auditor responsibility/ working Papers

Adjustments/ Illustrations

7A. Annual Turnover after (+/-) adjustments above

Turnover as per accounts with the +/- adjustments

This is an auto-filled data field

NIL

7B. Value of Exempted, Nil rates, Non-GST
supplies, No-Supply turnover (-)

Non taxable items comprised in GSTR-9 are
reported there

Exempted refers to supplies arising from
Notifications (Goods/ Services) u/s. 11 of the respective acts i.e. N-02/2017
and 12/2017

Documentation of the list of exemptions availed
and compliance of exemption conditions may be examined on sample basis

This turnover should be reported net of debit
notes/ credit notes as available from the books of accounts

Turnover having partial exemption such as rate
reduction of 18% to 5% or 0.1% or value reduction (in case of
developers) would not be reported here

Non-GST supplies imply supply of Non-GST
products (such as petroleum)

No-Supply implies turnover covered under
Schedule III i.e. sale of land, etc

Documentation
of the reasons provided by the assessee for treating the turnover as Non-GST/
No-Supply, etc.

7C. Zero-rated supplies without payment of tax
(-)

Export Supplies and Supplies to SEZ units/
developers

Export supplies of goods and services including
to SEZ units / developers from accounts is to be extracted and reported here

Auditor needs to maintain the LUT as part of
its working papers and broad parameters on which the assessee has treat the
transaction as export – a sampling may be undertaken for verification

Same as above

Tax type would be IGST even for same state SEZs

Sample verification of SEZ status of customers
may be carried out on the GSTN portal

7D. Supplies on which tax is to be paid on
reverse charge basis (-)

Turnover of suppliers under RCM

Supplies where the supplier records the
turnover but does not pay the tax are
to be reported here

Auditor needs to maintain the notification
under which the assessee has taken the stand that RCM is being discharged by
recipient

Sample invoices for RCM declaration may be
examined

Same as above

7G = 7F – 7E : Taxable turnover as computed above
and compared with the Turnover as per GSTR-9

There could be +ve/ -ve result

If everything has been captured above, 7G
should ideally be NIL

+ve implies GSTR-9 taxable turnover is greater
than accounting taxable turnover indicating tax refund

-ve implies GSTR-9 taxable turnover is lesser
than accounting taxable turnover resulting in indicating tax payable

Credible explanation should be provided at item
level for the difference

Auditor needs to ascertain all those cases
where there is admittedly a tax liability which is payable but the same has
not been considered by the assessee in its GST workings

Where the tax payer represents to have
discharged the tax liability in subsequent year GSTR-3B, a categorical
representation is important on this point.

There should not be any un-explainable difference
at this stage.

PART 9, 10 & 11 – RECONCILIATION OF RATE WISE LIABILITY AND AMOUNT
PAYABLE THEREON

This part aims at
reconciling the above adjusted taxable turnover at the rate level (as per
accounts) with the tax liability reported in GSTR-3B. Since the accounting turnover has undergone
changes prior to this level, one would have to perform a rate classification
(exempt, 6%, 12%, etc) even for the adjustments made until this point. Therefore, workings for the adjustments
should be maintained at an item level.
This part is also important to examine whether there is any excess
collection of taxes by the tax payer.
The tax GL of the tax payer is the primary source of data for this
clause.

Clause Description

Intricacies

Auditor responsibility/ working Papers

Adjustments/ Illustrations

9. Reconciliation of rate wise liability and amount payable thereon

Rate wise liability as per accounts to be
reported here

Account extracts computing the rate
wise liability at the CGST/SGST and IGST level would have to be aggregated
and reported here (Tax GL)

This should also include rate wise RCM
liability on inwards supplies of goods/ services

Back-up workings of GSTR-3B would have
to be examined with GSTR-9 to ascertain the differences at the tax level

Errors due to using incorrect rates
from HSN schedule could be reported here

Auditor to maintain working papers of
rate wise liability as per accounts vs. rate wise liability as per GSTR-9

To the extent the variance is because
of turnover level un-reconciled differences, as a consequence they may form
part of the un-reconciled tax amounts

Auditor can recommend any additional
liability under this clause

GSTR-3B is primary document for discharge
of tax liability and the back-up workings would provide insights into the
tax level differences beyond those arising due to turnover level

PART 12 & 13 – INPUT TAX CREDIT RECONCILIATION

This part performs an
analysis of the input tax credit availed as per accounts and that reported in
GSTR-3B. The tax administration
expects that accounts are the sole basis for credit availment and hence
difference in accounting and receipt of goods/ services could be the primary
reason for any variance in credits. Practically, multiple errors have been
performed during the GST implementation.
This exercise is a good opportunity to rectify clerical errors (such
as claiming excess credit in a particular head) as well as eligibility errors
(such as blocked credits, year-end mandatory credit reversals, etc). Importantly, this form should not be viewed
as a document to avail/ reclaim any missed credit or even adjust the same
with any output liability.

12A. ITC availed as per
audited financial statements for the state at GSTIN level

ITC ledger extracts for each GSTIN to be reported
here

Account extracts computing the aggregate of ITC as recorded in
accounts would be reported here. This figure should be net of any reversals
made in accounts on the input tax credit front.

Internal working should be made at the tax type level (CGST/ SGST or
IGST) though the reporting is required to be done at the aggregate level.

GSTR-2A reconciliation summary of the tax payer could be examined for
completeness.

Working papers of rate wise input tax credit as per accounts vs.
rate wise input tax credit used for GSTR-3B workings to be maintained.

Auditor to ascertain if input tax credit availed in a particular
state is mapped to another state in accounting systems.

ITC availed in accounts but not claimed in any of the transition/GST
returns may be written off/ ignored.

ISD credit availed in GSTR-3B but availed at a different location in
accounts may come up here.

12B. ITC booked in the earlier financial years
and claimed in current financial year (+)

Transition Credit of earlier financial years to
be reported here

Transition return workings
and the accounting treatment would have to be examined and reported here.

Cases of capital goods claiming credit in accounts during FY16-17
but reported in transition returns would also be covered.

Auditor to document basis of claim of
transition credit and the eligible duties/ taxes claimed u/s. 140.

Centralised Cenvat credit which is distributed
during transition may be adjusted appropriately.

12C. ITC booked in current financial year and
claimed in subsequent financial year (-)

ITC booked in accounts but availed in subsequent
financial year in returns

GSTR-3B workings and the ITC register as per accounts may be
reconciled on a line-item basis and the difference may be reported here.

This ITC register data may also be compared with
the ITC reported in GSTR-2A (Table 9 of GSTR-9).

Auditor need not propose any disallowance of
input tax credit availed in GSTR-3B merely on the ground of non-reporting of
invoice in GSTR-2A.

Auditor need not particularly verify conditions of section 16(2) for
reporting this figure.

All figures reported here should be net of any
reversals or vendor credit notes.

14. Reconciliation of ITC at description level

Ledger level break-up of ITC credit

This table appears to be a ledger-wise breakup
of the expenses and the corresponding ITC reported in 12A/12B/12C.

Auditor would need to obtain ledger level data
and extract the expenses under each ledger on which ITC has been availed.

Column 4 : Amount of eligible ITC availed represents
the actual ITC availed in accounts net of the adjustments in 12B/C at the
ledger level.

ITC from internal stock transfers which do not
appear at a GL level may also be reported as a separate line item

Prima facie examination of ledger
nomenclature / narrations may be adopted for checking eligibility

13 & 15. Reconciliation of ITC at ledger
level

Reasons for non-reconciliation to be provided
here

It is absolutely essential to reconcile the two
turnovers to the last rupee to eliminate the possibility of compensating
reconciling items

Auditor cannot adopt a materiality test for
this unreconciled difference (eg. a Re 10 +ve and Re 9 –ve may result in Re 1
+ve). Auditor to identify every
difference

Eg. Admitted reversals of input tax credit not
reversed in GSTR-3B; availment of credit without receipt/ accounting of
goods/ services; credit availed at the wrong GSTIN location

Reporting horizon of GSTR-9C

Books of accounts have an annual time horizon and the GST-1/3B work on
monthly periodicity with hard close only in September following the respective
financial year. This variance in period
poses a peculiar problem because of a lack of a revision option in GSTR-1/3B
and GSTN storing data based on reporting period rather than the document
date. Let’s take similar yet
contradictory examples (i) debit note raised in FY17-18 delayed reporting in GSTR-3B/1
of 18-19 (ii) debit notes raised in FY17-18 and delayed reporting only in
GSTR-1 in 18-19 (iii) debit notes raised in FY18-19 for enhancement of a price
agreed in FY 17-18 and reported in GSTR-3B/1 if 18-19? Let’s compare these example based on following
parameters

Parameter	Case – 1 : Delayed reporting in 3B & 1	Case – 2 : Delay in reporting only in 1	Case – 3 : delay in recognition
Original Invoice date	01-01-2018	01-01-2018	01-01-2018
Accrual of liability	January 2018	January 2018	January 2018 (*)
Debit note date/ Accounting entry	31-03-2018	31-03-2018	30-09-2018
Date of Reporting additional turnover in GSTR-9	Clause 10 certainly capture this amendment	Clause 10 would capture this amendment only at turnover level	Clause 10 would not capture this and treated as 18-19 transaction
Date of Reporting additional turnover in GSTR-1	This would be a reconciliation item at turnover and tax level for both 17-18 & 18-19	This will be a reconciliation item only at turnover level for both 17-18 and 18-19	Transaction of purely 18-19 though accrual of liability in 17-18

Whether reporting in 9C is anchored to tax liability accrued in FY 17-18
or anchored to accounting and/or reporting the base document? Section 9 r/w 12/13 provide the time of supply for the
‘transaction value’. Legally speaking,
all liabilities accrued in 17-18 (either through current year/ subsequent year
adjustments) should be reported as part of Form-9C irrespective of the date of
accounting and reporting in GSTR-3B/1.
Procedurally, section 35(4) and rule 59 require reporting based on date
of issuance of base document. Going by
this analogy, transactions accounted in 17-18 would form the basis and those
accounted subsequently (for any reasons) should not form part of 17-18. The author believes that this second approach
should be adopted keeping in mind the true spirit of reconciliation i.e.
balance two values based on its composition.

Part – B : General points for Audit observations/
Comments

Part-B is the Auditor’s report over the correctness of contents of the
reconciliation statement. The report
places an onus that the reconciling items are accurate having credible
reasoning. This said report could have
two forms – (a) where the certification is by the person who has also conducted
the statutory audit; and (b) where the certification is placing reliance on the
audited books of accounts examined by another statutory auditor. The prescribed format provides certain areas
where observations/ comment may be provided by the person certifying the
report. Other general points for
consideration during this exercise are:

GSTR-9 is a management document and auditor is not certifying the
contents of GSTR-9. Effectively implying
that auditor is not expected to certify the legal aspects such as
classification, place of supply, time of supply, eligibility of exemption/
zero-rated conditions, valuation. etc.

Compensating tax
adjustments cannot be netted off. Excess
payment can only be refunded by way of a refund application.

Observations should
emphasise that audit methodologies are expected to give a reasonable and NOT an
absolute assurance over the correctness of books of accounts and data reported
in the form.

Auditor’s recommendation
of the liability would generally be resorted for admitted tax liabilities,
numerical errors in reporting/ accounting, patent errors in taxability. In matters having multiple view points,
auditor may consider the management’s view under a representation.

Conclusion

From tax administration perspective, GSTR-9C is like an ‘appetizer’ in a
full course meal of assessments. In
other words, it addresses the limited question prior to any assessment ie. are
reported values are correct when compared to the accounting records. It gives a headstart of items included/
excluded from the returns and hence enables the officer to perform a Top-Down
analysis of the records of the entity.
Once this picture is laid out, the officer is equipped in examining the
nuts and bolts of each transaction (such as time of supply, place of supply,
valuation, rate of tax, eligibility/ ineligibility of credits, etc). Auditor is merely a facilitator and is not
expected to be a judge over the auditee’s decision.

shailesh.kwebmaker

PENALTIES : TO ERR IS HUMAN – IS GST HUMAN?

Payment of taxes is considered a
civil obligation and breach of such obligation results in penal
consequences. The nuances of a duly
enacted statute provide the contours under which the taxes need to be
discharged and penal provisions accompany such legislations for its effective
enforcement. Yet, it is well known that
no statute is enacted with an object to impose penalties. Rather, they are
intended to operate as a deterrent to violating of any provision. Courts have
frequently held that penalty is imposed only in cases of contumacious conduct
by the tax payer. The GST enactment is no different and this resonates from the
Statement of objects and reasons placed before the Parliament while introducing
the Central Goods & Services Tax Bill, 2017:

“…. (i) To make provision for
penalties for contravention of the provisions of the proposed legislation … ”

Practical experiences depict a
contrasting picture. One would have experienced tax administrators (both Centre
and the State) applying the penal provisions mechanically without appreciating
the purpose and instances for which penal provisions are enacted. The following
statements are a common feature in show cause notices and adjudication orders:

“Assessee has intentionally
contravened the provisions of the Act and hence liable for penalty …;
suppressed this information from the revenue with an intention to evade tax
payment….; deliberately avoided the payment of taxes knowing fully well that
the transaction is taxable;….”

Not a single order goes without
imposition of penalty even in cases where the tax demand is under debate at
higher forums. All the tax payers are painted by a single brush leading to
undesirable litigation. Sometimes, administrative authorities do not even
consider it necessary to state that penalty is being imposed and one is
enlightened about the imposition only from the demand notice or computation at
the end of the order. There is a tendency to invoke and adjudicate the penalty
merely by a stroke of a pen, leaving the battle to be fought by the assessee.
Though, Courts have time and again held that penalty is not an ‘additional tax’
rather ‘an addition to the taxes collected’, this starking difference has been
ignored by tax administrators. With this foreward, we have examined the penal
provisions under the CGST law in the subsequent paragraphs:

General Principles of Penalty

Certain principles set down by Courts
while dealing with matters on penalty have been enlisted below:

– Penal
provisions should be strictly construed without much play. Yet, one should
ensure that the constructions fall within the contours of its Statute.

– There
has been considerable debate on whether mens–rea is an essential
requirement for imposition of penalty towards civil offences. While it is
certainly clear that mens–rea need not always be proved for
penalty, the statutory provisions should be examined to reconcile this debate:
(a) examine the statutory provisions for any express or implied requirement of
a guilty mind (such as use of the phrases like suppression, concealment, etc.
have an inbuilt requirement of mens-rea to be established); (b) identify
if the penalty has been intended to be a civil offence or a criminal offence
since the requirement of mens rea in civil offences is comparatively
lower than in criminal offences; and (c) once the requirements of the
provisions have been met, there is no discretion with the officer over the
quantum of penalty for such offence or referring back to the presence or
absence of mens-rea

– The
road to all assessments need not necessarily end with penalty. Though every tax
evasion arises out of non-payment, every non-payment should not be equated with
tax evasion. It has been famously cited that penalty should not be imposed
merely because one has been empowered to do so.

– The
onus is on Revenue to establish that the circumstances warrant imposition of
penalty. Only when this onus is effectively discharged that the tax payer is
required to defend his/her bonafide. Mere suspicion / surmises cannot form the
ground for penalty. Evidences and actions should be placed on record.

– Penalty
should be invoked under a specific clause/ provision and expressly stated out
in the notice/ order. The tax payer cannot be left to search for the provision
under which he/she has been penalised (Amrit Foods vs. CCE, UP 2005 190 ELT
433 (SC)).

– Penalty
invoked under clause (a) cannot be upheld under clause (b). The grounds of
invoking penalty and upholding the same would have to be reconcilable.

– Penalty
should be commensurate with the tax involved.

– Unequals
should not be treated as equals. A mala-fide tax payer and bonafide tax payer
cannot be saddled with same quantum of penalty merely on the ground of non-payment.

– Penalty
cannot be imposed for a future action on the theory of possibilities.

– One
cannot be penalised retrospectively, even in retrospective legislations. Penal
provisions prevailing on the date of offence should be applied.

– If
two reasonable views are possible or in cases of ambiguity, the lineal
construction should be adopted.

Statutorily recognised principles
of penalty (section 126)

The CGST / SGST law for the first
time has penned down certain disciplines for imposition of penalty. These are
principles from settled judicial decisions in the context of penalty:

– Minor
breaches (Tax effect < Rs. 5000) or omission in documentation without
fraudulent intent should not be subjected to penalty.

– Penalty
should be commensurate with the degree and severity of breach.

– Prior
notice and personal hearing should be granted prior to imposing penalty.

– Order
imposing penalty should be speaking about the nature of breach and the
applicable provision under which the penalty is being imposed.

– Voluntary
disclosure prior to discovery of breach of law should be dealt with leniency.

However, this section has given
limited applicability only to penal provisions where a fixed quantum or fixed
percentage has not been prescribed i.e. cases where discretion has been
bestowed upon the officer over the quantum of penalty.

Examination of legal provisions –
Scheme of Penalty under the GST law

The GST Law has elaborately spread
the provisions for penalty across various Chapters. Principally, penalties can
be classified into those which are imposed based on findings on the merits of
the issue in the course of adjudication proceedings (sections 73 and 74) and
those penalties which can be imposed by the proper officer independent of the
adjudication proceedings (broadly similar to that followed in Income tax) by
issuing a separate order i.e. once the ingredients of the respective penal
provisions are satisfied (section 127). There is also a third set of penalties
imposable in cases of goods in transit or evasive acts where goods are liable
for confiscation. On a reading of the entire set of penal provisions, there
appears to be a significant amount of overlap between provisions leading to
multiple touch points for an officer to invoke for imposing penalty.

The overall scheme of penalty has
been depicted in the following chart. In simplistic terms, section 127 r/w
section 73, 74 and 129/130 has carved out three broad pillars on the basis of
which penalty can be imposed.

General understanding of key
terminologies

Prior to examining the above scheme in detail, it is important to
examine the meaning of some terms used in these sections, to be applied
contextually under respective facts and circumstances only:

Term

Understanding
as per Black’s law dictionary and other sources

Offence

A violation of the law; a
crime, often a minor one.

Non-compliance

Failure or refusal to
comply.

Opposite – Compliance- The acting in accordance with a
desire, condition etc.

Contravention

An act of violating a legal
condition or obligation

Fraudulent/ Fraud

Fraud- A known misrepresentation or concealment of a
material fact made to induce another to act to his or her detriment

Fraudulent- Conduct involving bad faith, dishonesty, a lack
of integrity, or moral turpitude

Other legal sources

Mere omission to give
correct information is not suppression of facts unless it was deliberate to
stop the payment of duty. Suppression means failure to disclose full information
with the intent to evade payment of duty. When the facts are known to both
the parties, omission by one party to do what he might have done would not
render it suppression

Suppression

GST law – Explanation 2 to
section 74 defines suppression as ‘non-declaration of facts or information
which a taxable person is required to declare in the return, statement,
report or any other document furnished under the Act or failure to furnish
any information asked by the proper officer

False/Falsifying document

False – Untrue, Deceitful; lying. Not genuine,
inauthentic

Falsifying a record – The crime of making false entries or otherwise
tampering with a public record with the intent to deceive or injure, or to
conceal wrong doing

Other Sources:

“Erroneous, untrue, the
opposite of correct, or true. The term does not necessarily involve turpitude
of mind. In the more important uses in jurisprudence the word implies
something more than a mere untruth; it is an untruth coupled with a lying
intent, or an intent to deceive or to perpetrate some treachery or fraud.

“In law, this word usually
means something more than untrue; it means something designedly untrue and
deceitful, and implies an intention to perpetrate some treachery or fraud”

Tampering/ destroying

Tampering– The act of altering a thing; esp., the act of
illegally altering a document or product, such as written evidence or a
consumer good.

Destroying– To damage something so thoroughly as to make
unusable, unrepairable or non-existent; to ruin.

Tax evaded

The willful attempt to
defeat or circumvent the tax law in order to illegally reduce one’s tax
liability.

Detention

The act or an instance of
holding a person in custody; confinement or compulsory delay.

Not allowing temporary
access to the owner of the goods by a legal order/notice is called detention.
However the ownership of goods still lies with the owner. It is issued when
it is suspected that the goods are liable to confiscation.

Seizure

Seizure is taking over of
actual possession of goods with right of disposal for recovery of dues by the
department in case of perishable / highly depreciable goods. Seizure can be
made only after inquiry/investigation that the goods contravened provisions
of the Act. Title continues with the supplier-owner.

Confiscation

Confiscation of the goods is
the ultimate act after proper adjudication. Once confiscation takes place,
the ownership as well as the possession forcefully goes out of the hands of
the original owner and into the hands of the Government Authority.

A) Adjudication related
penalties (section 73 and 74)

Under the erstwhile scheme, penalty
(u/s 11AC of the Central Excise Act and 78 of the Finance Act) and extended
period of limitation emanated from a common trigger point i.e. fraud,
suppression, etc (prior to amendment by Finance Act, 2015). In cases where
extended period of limitation was dropped, penalty could not be imposed even in
respect of the normal period. In a particular case penalty was dropped even
though extended period of limitation was invoked against the assessee[1]. This
position was altered by Finance Act, 2015 where penalty was imposed even in
respect of cases not involving fraud, suppression, etc albeit at lower scale.
The amendment prescribed various scales of penalty for short payment depending
on the reasons for such non-payment. The GST law has toed the line prevalent
after the 2015 amendment and delinked both the concepts resulting in penalty
being imposable even for bonafide acts.

Section 73 (normal period
assessments) and 74 (extended period assessments) are parallel to the
adjudication provisions of section 73 of the Finance Act, 1994 and section 11A
of the Central Excise Act, 1944. The said provisions empower the proper officer
to initiate adjudication proceedings in cases of short payment/ non-payment,
irregular input tax credit and erroneous refund. During the course of such
proceedings, the proper officer would have an opportunity conclude on the
reasons for non-compliance by the tax payer and classify the cases on the basis
of intent.

The penalty would be imposed in the
order issued under the said section depending on the stage at which the tax
payer makes the payment of the taxes demanded. The important take aways from a
reading of the said provisions are:

1) Penalties
provided under the said section are absolute without much discretion being
granted to the proper officer on the quantum of penalty.

2) There
is no provision parallel to the erstwhile section 80 of the Finance act, 1994
wherein officers were granted powers to waive the penalty if ‘reasonable cause’
is shown by the tax payer.

3) Penalties
are directly linked to the alleged revenue loss to the respective Government.

4) Imposition
of penalties under these section are subject to an outer time limit of 3-5
years from the relevant date (due date of filing the annual return).

B) Non-adjudication related
penalties (section 122 to section 128)

Chapter XIX of the CGST/ SGST law –
‘Offences and penalties’ is a code for imposition of penalties in specific
cases. The said penal provisions u/s. 122 to 128 have been structured to lay
down the triggers for penalty in enlisted cases including detention and
confiscations. Under section 127, these penal provisions would apply only where
the proceedings of sections 62, 63, 64, 73, 74, 129 and 130 do not impose
penalty. The said provisions are as follows:

Section 122(1) – Specific Penalties

This section provides for 21
instances when penalty can be imposed on the tax payer. On a reading of certain
clauses, it appears that the law makers have targeted the issues at a micro
level in many cases. The section 122(1)
can be divided into two sub-parts for a better understanding:

– Part A : Enlists the
triggers for penalty; and

– Part B : Prescribes the
penalty for the enlisted circumstances as follows:

Ad-hoc penalty : 10,000 being the
bare minimum penalty;

(OR)

Proportionate penalty : 100%
penalty to tax evaded; tax not deducted/ collected; short-collected
or not paid; input tax credit availed or passed on or distributed
irregularly or refund claimed fraudulently whichever is higher.

A clause by clause analysis of
section 122(1) has been tabulated below. In the table the author has
categorised the possible reasons underlying a non-compliance into – (a)
clerical errors generally considered as bonafide; (b) interpretative in view of
ambiguity in law and deemed as bonafide; and (c) evasive where it is
intentional.

Clause

Trigger
of penalty

Some
examples

Attributable reasons

Possible
Quantum

(i)

Supply without invoice or
incorrect or false invoice

Clandestine removal

Evasive

10000 or 100% penalty

Human error of not raising
valid invoice

Clerical

10000

Ambiguity in continuous
supply of services/ goods

Interpretative

10000

(ii)

Invoice issued without
supply of goods/ services

Bill Trading

Evasive

10000 or 100% penalty

Invoice issued but goods not
removed

Clerical

10000

(iii)

Collected any tax but fails
to pay within 3 months[2]

Collected and failed to pay

Evasive

10000 or 100% penalty

Failed to include in
GST-3B/1 due to mistake though accounted liability in books of accounts

Clerical

10000

(iv)

Collection in contravention
of the law coupled with failure to pay within 3 months

Tax collected on exempted
goods and not recorded in accounts

Evasive

10000 or 100% penalty

(v) & (vi)

Fails to deduct or collect
tax or after such deduction or collection failed to pay this entire amount

Tax collected on exempted
goods and not recorded

Evasive

10000 or 100% penalty

(vii)

Takes or utilises input tax
credit without actual receipt of goods/ services

Accommodation bills

Evasive

10000 or 100% penalty

(viii)

Fraudulently obtains refund

Falsifying ITC claims

Evasive

10000 or 100% penalty

(ix)

Takes or distributed input
tax credit incorrectly

Falsifying ITC claims

Evasive

10000 or 100% penalty

Incorrect distribution
formula applied

Interpretative

10000

Formula error

Clerical

10000

(x)

Falsifies or substitutes
financial records with intent to evade taxes

Forgery

Evasive

10000 or 100% penalty

(xi)

Fails to obtain registration

Clandestine supplies

Evasive

10000 or 100% penalty

Incorrectly ascertains the
location of supplier

Interpretative

10000

(xii)

Furnishes false information
in respect of registration

Fictitious address

Evasive

10000 or 100% penalty

(xiii)

Obstructs or prevents any
officer

Fails to unlock a godown on
demand

Considered evasive

10000 or 100% penalty

(xiv)

Transports without
appropriate documentation

E-way bill not raised

Clerical

10000

Clandestine supply

Evasive

10000 or 100% penalty

(xv)

Suppresses turnover

Clandestine supply

Evasive

10000 or 100% penalty

(xvi) & (xvii)

Fails to maintain
appropriate records/ information or furnishes false information

Non-submission of inventory
records

Clerical

10000

Non-maintenance

Clerical

10000

False data

Evasive

10000 or 100% penalty

(xviii)

Supplies, transports or
stores any goods liable for confiscation

Clandestine goods

Evasive

10000 or 100% penalty

(xix)

Issues invoice by using
another registered person’s number

Fraud

Evasive

10000 or 100% penalty

Wrong GSTIN of same entity
used

Clerical

10000

(xx)

Tamper material evidence

Fraud

Evasive

10000 or 100% penalty

(xxi)

Tampers with goods under detention

Fraud

Evasive

10000 or 100% penalty

The following observations emerge
from the above tabulation of examples:

1) Prima-facie,
the clauses seem to address all types of non-compliance and not just tax
evasion

2) Evasive
action is omnipresent in every clause, either impliedly or expressly

3) Interpretative
or clerical non-compliance seems to be missing in cases where phrases such as
fraudulent, tampering, falsification, etc are present

4) The
chapter title and section title use the phrase ‘Penalty for certain offences’
indicating that the section is addressing unacceptable defaults or defaults
having the ingredient of a gross violation which is non-curable resulting in
revenue law

5) In
certain cases, proportionate penalty on the basis of ‘tax evaded’ would not be
ascertainable resulting in a situation where there is no comparative to the
adhoc penalty of Rs. 10,000. This throws up two alternative theories:

(a) Section
122 only addresses actions involving tax evasion and not every non payment
(such interpretative / clerical cases); or

(b) Section
122 addresses both cases, but in cases where there is no evasive action, the
penalty imposable for any default is limited to Rs. 10,000

The questions emerging from the
above table are:

Q1 – Whether 21 clauses are
mutually exclusive to each other?

Section 122(1) contains cases which
could fall under more than one clause eg. supply without invoice (clause (i))
and suppression of turnover (clause (xv)). An assessee could be penalised under
either of the clauses – for example transport of goods without invoice would
trigger both clause (i) and (xiv). Though clauses are overlapping, the tax
payer can be imposed with penalty only under one of the clauses for the same offence.

Q2 – Does the prescription of
adhoc and proportionate penalty apply to each of the clauses or only to
specific clauses? In other words, does penalty proportionate to tax evasion, etc. apply to all cases of tax evasion
(express or implied) or only to cases where the clauses specifically use the
phrase ‘tax evaded’.

The provisions of section 122(1)
targets actions which are evasive impliedly and expressly. One argument could
be that the proportionate penalty applies only to cases where tax evasion is
specifically expressed in the clause (such as (x), (xv), etc.). Similar
phrases accompanying the proportionate penalty such as tax short deduction/
collection, input tax credit irregularly availed, refund fraudulently availed
are directly relatable to specific clauses. Since accompanying phrases are
directly relatable to a specific clause(s), the prescription of proportionate
penalty on tax evasion should also apply to specific clauses only.

However, the other argument would
be that once tax evasion has been established, proportionate penalty can be
imposed on the tax evaded irrespective of there being an express prescription
of tax evasion in the clause. Tax evasion is inbuilt in the manner in which the
clauses are worded (such as (i)). The above table depicts that every clause
seems to capture an evasive act even though the term tax evaded has not been
expressly spelt out. The intent of this provision is to address cases of tax
evasion with rigorous penalty equalling the amount of tax evaded. This is the
only way full force may be given to
section 122(1), else the said provision may become a toothless tiger.

Q3 – If the ingredients of tax
evasion have limited applicability, what would be the comparative figure to Rs.
10,000 in cases where the 100% penalty does not apply ?

For eg, if a tax payer issues an
incorrect invoice of Rs. 100,000 taxable @ 18% citing a wrong place of supply,
would one have to compare Rs. 10,000/- and Rs. 18,000 for imposition of penalty
or one can claim that there being no tax evasion, penalty of only Rs. 10,000/-
can be imposed? The answer to this question is dependent on the tax position
adopted on the scope of section 122(1). In cases where the scope of section
122(1) is considered as only addressing ‘offences’ and not all tax
non-compliance, no penalty can be imposed for clerical/ interpretative reasons
as cited in the above case. But where a stand is taken the section 122(1)
extends beyond cases of tax evasion, then a purposive effect to this stand can
be given as follows:

This chart implies that in non-tax
evasion cases, in the absence of a comparative figure, one should consider the
same as zero and then make a comparison leading to the inevitable conclusion
that Rs. 10,000/- would be the applicable penalty. Therefore, in case of a
wrong place of supply, the tax payer may be subjected to a maximum penalty of
only Rs. 10,000/-. This is the only
possible interpretation where penalty for substantive and procedural defaults
can be given effect to.

In summary, the reasonable
interpretation of section 122(1) would be it primarily addresses cases of tax
evasion / tax non-deduction etc. and every clause addresses cases of tax
evasion either expressly or impliedly. Hence, equal penalty can be imposed on
the tax payer irrespective of which clause the case falls under. Section 122(1)
does not have any applicability over procedural/ non-evasive defaults. But if
one were to still extend this provision to procedural defaults, the penalty
imposable would only be Rs. 10,000/-.

Section 122(2) – Tax liability/ refund related penalties

Section 122(2) – This section
provides for two levels of penalty depending on the reasons for non-payment.
The said section has recognised that mens-rea/ state of mind would
establish the gravity of the offence and hence the quantum of penalty. Unlike
section 122(1), the law makers have targeted the non-payment at a macro level
purely on the test of whether there is a short payment of tax to the exchequer
and have not listed down actions resulting in such short payment:

Any reason other than fraud

10,000 or 10% of the tax due whichever is higher

The clause specifically uses
the phrase tax due rather than tax evaded

Fraudulent reason

10,000 or 100% of the tax evaded
whichever is higher

Section 122(2) provides some
inferences as to interpretation of section 122(1) as well as 122(2):

1) Section
122(2) captures all cases of non-payment of tax and imposes a basic penalty of
10% of tax due which can jump to 100% in fraud cases.

2) Though
section 122(2) does not use the term ‘intent to evade’, it is implied by use of
the phrases – fraud, wilful misstatement, suppression, etc.: tax evasion
is always malafide and one cannot evade taxes without having the
intention to do so.

3) Use
of the expression ‘tax due’ in section 122(2) and tax evaded in section 122(1)
clearly establish the distinct domains that each of the clauses address.

4) Section
122(2) is general in its scope and presence of specific clauses in section
122(1) may exclude them outside the scope of section 122(2).

5) Proportionate
penalty u/s. 122(1) is at the same scale as that applicable to fraudulent
actions specified u/s. 122(2)(b). By this interpretation, the first theory over
section 122(1) is strengthened. The legislature would not have in its wisdom
treated non payment for clerical errors at par with those due to evasive acts
u/s. 122(1). It has therefore provided a reduced penalty of 10% or Rs. 10000
only to cases where the penalty is not on account of fraud, etc. and
section 122(1) does not extend its scope over clerical / interpretative
defaults.

Reconciling section 73/74 and
section 122(2)

Section 122(2) seems to be a close
replica of the penal provisions contained in section 73 and 74. Legal
provisions should not be out rightly held to be surplusage. The possible
reconciliation of this overlapping could be:

a. Section
122(2) provides an outer boundary / parameters under which penalty can be
imposed and section 73/74 operate within this confine.

b. Section
73(1) states that penalty would be imposed ‘under the provisions of this Act’,
possibly hinting at section 122(2). Section 73 and 74 grant concessions in
cases of early tax payment along with interest and penalty promoting dispute
resolutions and amicable settlement between the tax payer and the Government.

c. Section
127 which seems to be creating two separate branches is only a surrogate
section. Its role seems to empower the officer to play catch-up by imposing
penalty even if the same has not been imposed under adjudication proceedings;
this section by itself does not make section 122(2) mutually exclusive to
section 73/74.

Section 122(3) – Other Penalties

Section 122(3), provides for
ancillary circumstances or connected persons where penalty of Rs. 25,000 can be
imposed:

– Transporters,
employees, tax professionals, chartered accountants, purchaser of goods, tax
officials, etc. accompanying the assessee, who aid or abet an offence
could also be saddled with a penalty.

– Any
person who acquires or receives goods or services with knowledge that such
receipt is in contravention of provisions of the Act (for eg. procuring a
taxable services/ goods from an unregistered person for more than 20 lakhs in
aggregate in a financial year).

– Failure
to appear or issue invoice or account such invoice in book of accounts.

Section 122(3) also validates the
position that clerical actions which results in tax dues cannot be covered in
section 122(1) since clerical defaults have a fixed penalty of Rs. 25,000 only.

Section 125 – Miscellaneous penalty not specific elsewhere

Penalty of Rs. 25,000 in cases
where no penalty has been prescribed for a contravention of the act or the
rules.

Section 129 – Penalties in case of detention, seizure of goods in
transit

The GST law provides for imposition
of penalties for movement of goods which are in contravention of the statutory
provisions. The said provisions are non-obstante in nature. Two levels
of penalties are prescribed herein:

(a) Owner
comes forward for payment of tax and penalty: Penalty of 100% of the tax
payable or 2% of value of exempted goods or Rs. 25,000 whichever is less.

(b) Owner
does not come forward for payment of tax and penalty : Penalty of 50% of
taxable value of goods or
5% of value of exempted goods or Rs. 25,000 whichever is less.

Two primary ingredients are
required for invoking penalty under this section –(a) the goods should in
transit and are intercepted by the proper officer u/s. 68; and (b) the proper
officer should come to a conclusion that the movement of goods is in
contravention of the provisions of the Act.

It may be important to note that
this section is qua the goods under question and not the transaction
i.e. this section applies equally to transactions having the character of
‘supply of goods’ or ‘supply of services’ in terms of Schedule II to the law as
long as there are goods in movement, for eg. a works contractor engaged in
supply of services (exempted/ taxable) attempting movement of goods would still
fall under this section for production of delivery challan and e-way bills. The
possible areas of contravention could be:

Examples of cases involving
evasion

Examples of cases not
involving evasion

– Presence / validity e-way bill accompanying
the consignment

– Non-accompanying invoice/ delivery challan

– Variance in the physical and invoiced
quantity

– Prima-facie variance in description of physical goods and
that stated on invoice

– Clear diversion of goods to unreported
locations

– Non-reporting all details in e-way bill/
invoice/ delivery challan

– Failure to seek extension of e-way bill on
expiry

Incorrect reporting of details in e-way bill
eg. prima-facie
place of supply being in direct contradiction with address

– Supply of goods reported as supply of
services

Generally, the term ‘contravention’
is used in cases where severity of non-compliance is relatively high compared
to a procedural non compliance. For example, a person raising the e-way bill
fails to update the correct vehicle number on account of clerical reasons and a
person consciously conceals revealing details of the vehicle number ensure
multiple trucks use the same e-way bill. While both have failed to comply with
the law in letter, rationally the degree of the offence and the penalty should
be higher in the case of the latter rather than the former. The law cannot
treat unequals as equals. Given the quantum of penalty, it appears that this
section is only towards addressing revenue loss and not procedural/ clerical
defaults. Applying this intent, a person complying with the law but erring in
reporting the vehicle number should not be saddled with penalties of the
magnitude as prescribed in the section.

Further, the terms ‘detention’ or
‘seizure’ when used on conjunction imply severe cases of non-compliance. As
tabulated earlier, detention followed by seizure forcefully restricts the right
of possession of goods from its original owner. It breaches the right in rem
over the goods of its owner. In a welfare state, this is usually done where the
gravity of the offence is high and not otherwise. One can take a stand that
this section can be applied only to substantive offences where the owner of the
goods has escaped payment of taxes.

However, very recently, the Madhya
Pradesh High Court in Gati Kintetsu Express Pvt Ltd vs. CCT of MP
(2018-TIOL-68-HC-MP-GST) held that Part B of e-way bill is mandatory
and non-compliance of this requirement is amenable to penalty u/s. 129 of the
CGST/ SGST law. The court incorrectly distinguished an earlier favourable order
in VSL Alloys (India) Pvt Ltd vs. State of UP (2018) 67 NTN DX 1
which held that penalty cannot be imposed in case where Part-B of the eway bill
was
not completed.

This section also imposes penalties
on exempted goods with reference to its value upto a maximum of Rs. 25,000.
Impliedly, it equates the offence with a procedural violation since they do not
have any tax revenue impact. But ‘exempted goods’ should not be equated with
exempted supplies. The term exempted goods should be understood on a standalone
basis de-hors whether the transaction under question is enjoying any
benefit under Notification 12/2017-Central Tax (Rate).

Section 130 – Confiscation of goods/ conveyance

Section 130 are penal provisions
invoked as a consequence of either an inspection or interception activitiy. The
instances where this section can be invoked are enlisted below:

1) Undertakes
supply or receipt of goods in contravention of any legal provision with
malafide intent to evade tax – for eg. clandestine removal of goods from
premises or even receipt of goods by the fraudulent buyer.

2) Fails
to account for the goods which are liable for tax – unaccounted sales.

3) Supplies
goods without having any registration or even applying for the same.

4) Contravention
of any provision with intent of evasion of payment of tax.

5) Conveyances
used for illegal activities with connivance of the owner of such conveyance.

The provisions impose penalty or
fine (also called redemption fine) in lieu of confiscation (i.e. for release of
goods). However, in no case will the aggregate of penalty and fine be less than
the market value of goods. In case of confiscation of conveyance along with the
goods, the quantum of fine in respect of the conveyance would be equal to the
tax payable on the goods under transportation. This section applies without
prejudice to the imposition of tax, interest and penalties.

In summary, the possible comparatives between the three pillars
can be tabulated below:

Parameter

Section
73/74

Section
122-128

Section
129 & 130

Type

Transactional penalties

Behavioural penalties

Behavioural but specific to
goods

Source

Books of accounts/ audit, etc.

External information

Interception/ Inspection

Timing of the proceeding

Post-mortem analysis

No specific timing

Real time while in
possession of goods

Time Bar

3/5 years

No specific time bar

Until goods in transit/
possession

Waiver/ Discretion over
quantum

No discretion once
ingredients satisfied

Discretion over imposition
but not quantum except in section 130 where there is a discretion on quantum

Exempted Transactions

NIL

Upto Rs. 10,000/- or
25,000/-

Rs. 10,000/-

Procedure

Part of adjudication
proceedings

Independent of adjudication

Part of enforcement/
vigilance activities

Strength of Evidence

Medium

High

Onus

Revenue

Penalty type – Specific over
general

Specific

Relatively general

Highly Specific

Independent appeal/ linked
to adjudication

Part of adjudication

Independent

Impost on

Tax payer

Tax payer and accompanying
persons

Owner/ Transporter

In a self-assessment scheme, the
onus of accurate tax computations, reporting and payments lie on the tax payer.
In an era where disclosures are of paramount importance, the tax payer is
expected to disclose as much detail as possible to its officers and establish
its bona fide before courts in subsequent proceedings. Ideally, disclosure to
the officer exercising administrative jurisdiction over the tax payer would be
regarded as sufficient proof of bona fide.

On the other side, tax
administrators should appreciate that unlike taxes, penalty provisions should
be studied on a factual basis rather by a strait jacket formula. Any
subjectivity would deliver adversarial results and everyone expects that the
current order undergoes a shift under the GST law.

[1] Sree Rayalaseema Hi-Strength Hypo
Ltd vs. CC Ex, Tirupathi, 2012 (278) ELT AP 167

[2] Twin condition of collection and 3
months from due date of payment should be compulsorily satisfied for this
clause to apply

shailesh.kwebmaker

GOVERNMENT SUPPLIES UNDER GST

INTRODUCTION & POSITION UNDER PRE – GST REGIME

1. In
India, administration is divided into three tiers, namely Central Government,
State Government & Municipality/Local Authority. Each tier is entrusted
with specific powers & responsibility to carry out the various activities
and functions. In the said course, the said authority receives various
goods/services and at times, might even supply goods/services. Article 285
& 289 of the Constitution stipulates that the property of Union/ States is
exempted from taxes levied by the States/Union respectively. However, the same
does not apply to Indirect Taxes. The Supreme Court has held¹ that
indirect taxes levied by the Union/State shall be borne by the recipient
State/Union since the same would not be governed by immunity provided by the
Constitution vide Articles 285 & 289 respectively.

2. Therefore,
considering the above constitutional background, not only the Union/States were
liable to bear the indirect taxes levied, viz., VAT, Central Excise &
Service Tax, there was also a liability fastened to discharge service tax on
sale of goods/services provided by the Union/State. For instance, in the
context of sale of goods, under the VAT regime, certain class of person were
deemed to be a dealer with specific intention to tax specific sales, such as
sale of essential commodities at subsidised rates, auctions undertaken by the
Authorities, scrap, etc., carried out by such Government/Local Authority. This
included Customs Department, Department of Union Government/ any State
Government, Local Authorities, Port Trust, Public Charitable Trusts, Railways,
etc.

3. However,
in the context of services tax, the levy had to be analysed for two different
regimes, one being pre-negative list regime and second being the negative list
regime. Under the positive list regime, only selective services were being
taxed. Further, vide Circular No. 89/7/2006 – ST dated 18.12.2006, CBEC had
clarified that performance of statutory function could not be considered as
rendition of service. However, it was further clarified that “if such authority
performs a service which is not in the nature of statutory activity and the
same is undertaken for a consideration not in the nature of statutory fee/levy,
service tax would be leviable in such cases if the activity undertaken was
classifiable within the ambit of a taxable service”. In other words, the said
Circular prescribed tests to determine the applicability of service tax
vis-à-vis the nature of activity involved.

___________________________________________

1 Sea
Customs Act [AIR 1963 (SC)], Karya Palak Engineer, CPWD vs.
Rajasthan Taxation Board, Ajmer [2004 (171) ELT 3 (SC)]

4. However,
under the negative list regime, the definition of person specifically included
“Government” and provided that all services provided by the Government would be
covered under the negative list, except for following:

(a) Services
by Department of Posts by way of speed post, express parcel post, life
insurance and agency services provided to a person other than Government

(b) Services
in relation to an aircraft or a vessel, inside or outside the precincts of a
port or an airport

(d) Any²
services other than services covered above provided to business entities.

5. While
(a) to (c) above were covered under forward charge, i.e., the Government/Local
Authority providing the service would be required to collect and discharge
service tax, service under (d) were covered under reverse charge, i.e., the
business entity receiving the service would be required to discharge tax.
However, upto 31.03.2016, clause (d) covered only support services which was
defined to mean infrastructural, operational, administrative, logistic,
marketing or any other support of any kind comprising functions that entities
carry out in ordinary course of operations themselves but may obtain as
services by outsourcing from others for any reason whatsoever and shall include
advertisement and promotion, construction or works contract, renting of
immovable property, security, testing and analysis.

_____________________________________

2 Substituted
for “Support services” w.e.f 01.04.2016

6. Further,
the Education Guide had also clarified that services which are provided by
government in terms of their sovereign right to business entities, and which
are not substitutable in any manner by any private entity, are not support
services e.g. grant of mining or licensing rights or audit of government
entities established by a special law, which are required to be audited by CAG
u/s. 18 of the Comptroller and Auditor-General’s (Duties, Powers and Conditions
of Service) Act, 1971 (such services are performed by CAG under the statue and
cannot be performed by the business entity themselves and thus do not
constitute support services.)

7. The
above position was amended w.e.f 01.04.2016 to provide that any service
provided by Government to business entities would be excluded from the scope of
negative list. Further, CBEC vide Circular 192/02/2016 dated 13.04.2016
clarified that whether or not any activity is carried out as statutory function,
the same would be liable to service tax (subject to specific exemptions) so
long as payment is being made for getting a service in return. However, it was
clarified that fines and penalty chargeable by Authority were not leviable to
service tax.

LEGAL POSITION UNDER THE GST REGIME

8. The
charging section for levy of GST provides for levy of tax on all supplies of
goods, except alcoholic liquor for human consumption on the value determined
u/s. 15 and at such rates as may be notified and collected in such manner as
may be prescribed and paid by the taxable person

9. The
term “taxable person” has been defined u/s 2 (107) to mean a person
who is registered or liable to be registered u/s. 22 or 24. Section 2
(84) defines the term “person” to include, among others a local authority;
Central Government or a State Government. Section 22 provides that every
supplier shall be liable to be registered in the state from where he makes
taxable supplies. Therefore, the issue that would need consideration is whether
the Government (Central/State) or Local Authority can be said to be engaged in
making taxable supplies, either of goods or services? To answer the said
question, one needs to determine whether the activities undertaken by the
Government or Local Authority can be classifiable as supply or not. For the
same, reference to section 7 becomes necessary. Section 7 (1) which defines the
scope of supply to include all forms of supply of goods or services or both
such as sale, transfer, barter, exchange, license, rental, lease or disposal
made or agreed to be made for a consideration by a person in the course or
furtherance of business.

10. Section
2 (17), which defines the term business provides that business shall include any
activity or transaction undertaken by the Central Government, a State
Government or any local authority in which they are engaged as public
authorities. In other words, the activities or transactions undertaken by
the Government or Local Authority are deemed to be business and therefore as
long as there is supply of goods/service by such Government/ Local Authority,
they would be classifiable as supply.

TAXABILITY UNDER GST REGIME

11. Therefore,
the question that would need consideration is whether all activities/functions
undertaken by Government/Local Authority has to be treated as supply of goods
or services or not? This question may not be relevant in the context of goods;
however, it would be very relevant in the context of services. This is because
though service has been defined in a very wide manner to mean anything other
than goods, section 7 (1), which defines supply, pre-necessitates the existence
of a contract for treating an activity/transaction as supply. The same is
evident from the fact that section 7 (1) uses the phrase made or agreed to
be made. This would necessarily require the presence of quid pro quo
for any activity undertaken by the Government/ Local Authority, i.e., the
person making the payment should receive something in return. Some instances
where quid pro quo exists in the activities undertaken by Government/
Local Authority include:

companies
engaged in telecommunication sector have to pay license fee to the Department
of Telecommunication for spectrum allocation

builders
are required to pay various charges to the Local Authority in the form of
permission charges, lease premium, staircase allowance, etc., for undertaking
construction activities. Such transactions may amount to service

companies
making payment to ROC in the form of filing fees, fees for increasing
authorised share capital, etc., thus enabling them to comply with the
provisions of the law

12. However,
there can be instances where the element of quid pro quo may not exist.
For instance, in Gupta Modern Breweries vs. State of Jammu & Kashmir
[(2007) 6 SCC 317], the Court was required to decide whether the fees
recovered for audit conducted by Excise Authorities on the records of assessee
were in the nature of a fee or tax? In the said case, the Court held that there
was no quid pro quo between the taxpayer and the Government/Authority
and therefore the amounts were in the nature of tax and not fee. Therefore, if
such amounts recovered by the Government are treated as tax and not fees, the
same would not amount to a service to the licensee by the Government. That
being the case, such payments to the Government may not attract GST.

13. With
regard to taxes levied by Government/Local Authorities under other statutes,
such as property tax, stamp duty, etc., they cannot be treated as being consideration
for any service provided. This view was also expressed by the CBEC in its’
Circular 192/02/2016. One important fact to support this view is perhaps that
tax is a compulsory exaction of funds, not involving any quid pro quo
and no specific performance can be enforced upon payment of the same from the
Government or Local Authority.

14. Similarly,
penalties or fines levied for violation of any statute, bye-laws, rules or
regulations will also not amount to a service. This would be for the reason that
the penalty or fine would not be paid by the recipient for receiving any
specific service, but are infact in the nature of compulsory payments imposed
on him. For instance, car towing charges collected by the State Government for
a car parked in No-Parking Zone. Even if the owner of car would be paying for
the said charges, yet, the same should not be treated as service supplied by
Government since there was no agreement to receive the said service.

15. To
support the above view, one may refer to the Judgment by the New Zealand
Tribunal in Case S65 (1996) 17 NZTC 7408 wherein a taxpayer, who was a
solicitor, was the subject of a disciplinary hearing by the New Zealand Law
Practitioners Disciplinary Tribunal. The taxpayer argued that the costs he was
ordered to pay were a supply of goods or services to him by the Law Societies.

In the said case, it was held that
costs imposed by a disciplinary tribunal were not subject to GST because there
was no “supply”. The costs of prosecuting an allegedly defaulting solicitor
could not be described as the supply of a service; and in the context of the
Goods and Services Tax Act, “services” are generally considered to be some
activity which helps or benefits the recipient. In other words, penalties,
fines, etc., imposed by the Government/ Local Authorities cannot be treated as
consideration for service provided and hence should not attract GST.

LIABILITY TO PAY GST

16. In
a manner similar to the service tax regime, substantial services provided by
the Government/Local Authority to business entities have been covered under
reverse charge mechanism, except for following specific services where the
respective Government/Local Authority is liable to collect and discharge the
tax liability:

Renting of
immovable property services³

Services
by the Department of Posts by way of speed post, express parcel post, life
insurance, and agency services provided to a person other than the Central
Government, State Government, Union territory

Services
in relation to an aircraft or a vessel, inside or outside the precincts of a
port or an airport;

Transport
of goods or passengers

17. In
all other cases of services provided by Government to business entities, the
liability to pay service tax has been fastened on the recipient of service.
While the term business entity has not been defined under GST law, the same
will have to be understood as a person carrying on any business, whether or not
liable to pay GST. For instance, a person dealing in non-GST goods, say
alcohol, is required to obtain liquor licenses for dealing in license. Since
such a person would be a business entity, even though there is no GST
applicable on his outward supplies, he would be required to obtain registration
under GST and discharge the applicable tax thereon. This would also require
such a person to comply with the various provisions of the GST law as well.

18. In
addition to the above, notification 12/ 2017 Central Tax (Rate) also provides
exemption for various other services provided to/by Government/Local
Authorities. Some of the relevant exemptions for services provided by
Government/Local Authorities are listed below:

(a) Services
by Central Government, State Government, Union territory, local authority or
governmental authority by way of any activity in relation to any function
entrusted to a municipality under Article 243 W of the Constitution
[Entry 4]

(b) Services
by a governmental authority by way of any activity in relation to any function
entrusted to a Panchayat under Article 243G of the Constitution [Entry 5]

(c) Services
by the Central Government, State Government, Union territory or local authority
excluding the following services—

(i) services by the Department of Posts
by way of speed post, express parcel post, life insurance, and agency services
provided to a person other than the Central Government, State Government, Union
territory;

(ii) services in relation to an
aircraft or a vessel, inside or outside the precincts of a port or an airport;

(iii) transport of goods or passengers;
or

(iv) any service, other than services
covered under entries (a) to (c) above, provided to business entities [Entry 6]

(d) Services
provided by the Central Government, State Government, Union territory or local
authority to a business entity with an aggregate turnover of up to twenty lakh
rupees (ten lakh rupees in case of a special category state) in the preceding financial
year. However, the same is not applicable to services covered under (i) to
(iii) in (d) above as well as in case of renting of immovable property services
[Entry 7]

(e) Services
provided by the Central Government, State Government, Union territory or local
authority to a business entity where consideration does not exceed Rs. 5000.
However, this exemption is not available in case of services covered under (i)
to (iii) above and in case the services are in the nature of continuous supply
of services and the total consideration payable for the supply during the year
exceeds Rs. 5000. [Entry 9]

(f) Services
provided by the Central Government, State Government, Union territory or local
authority by way of allowing a business entity to operate as a telecom service
provider or use radio frequency spectrum during the period prior to the 1^st
April, 2016, on payment of license fee or spectrum user charges, as the case
may be. [Entry 42]

(g) Services
provided by the Central Government, State Government, Union territory or local
authority by way of-

(i) registration required under any law
for the time being
in force;

_________________________________________________________________________________________________

3 Vide notification 3/2018 dated 25.01.2018, services
of renting of immovable property supplied by Central Government, State
Government, Union territory or local authority to a person registered under the
Central Goods and Services Tax Act, 2017 have been brought within the purview
of reverse charge.

(ii) testing, calibration, safety check
or certification relating to protection or safety of workers, consumers or
public at large, including fire license, required under any law for the time
being in force [Entry 47]

(h) Services
provided by the Central Government, State Government, Union territory or local
authority by way of issuance of passport, visa, driving license, birth
certificate or death certificate [Entry 61]

(i) Services
provided by the Central Government, State Government, Union territory or local
authority by way of tolerating non-performance of a contract for which
consideration in the form of fines or liquidated damages is payable to the
Central Government, State Government, Union territory or local authority under
such contract.
[Entry 62]

(j) Services
provided by the Central Government, State Government, Union territory or local
authority by way of assignment of right to use natural resources to an
individual farmer for cultivation of plants and rearing of all life forms of
animals, except the rearing of horses, for food, fibre, fuel, raw material or
other similar products. [Entry 63]

(k) Services
provided by the Central Government, State Government, Union territory or local
authority by way of assignment of right to use any natural resource where such
right to use was assigned by the Central Government, State Government, Union
territory or local authority before the 1^st April, 2016. [Entry 64]

(l) Services
provided by the Central Government, State Government, Union territory by way of
deputing officers after office hours or on holidays for inspection or container
stuffing or such other duties in relation to import export cargo on payment of
Merchant Overtime charges
[Entry 65]

(m) Services
supplied by a State Government to Excess Royalty Collection Contractor (ERCC)
by way of assigning the right to collect royalty on behalf of the State
Government on the mineral dispatched by the mining lease holders.

19. Similarly,
following services provided to Government/ Local Authority have been exempted:

(a) Pure
services (excluding works contract service or other composite supplies
involving supply of any goods) provided to the Central Government, State
Government or Union territory or local authority or a Governmental authority by
way of any activity in relation to any function entrusted to a Panchayat under
Article 243G of the Constitution or in relation to any function entrusted to a
Municipality under Article 243W of the Constitution [Entry 3]

(b) Composite
supply of goods and services in which the value of supply of goods constitutes
not more than 25 % of the value of the said composite supply provided to the
Central Government, State Government or Union territory or local authority or a
Governmental authority or a Government Entity by way of any activity in
relation to any function entrusted to a Panchayat under Article 243G of the
Constitution or in relation to any function entrusted to a Municipality under
Article 243W of the Constitution
[Entry 3A]

(c) Supply
of service by a Government Entity to Central Government, State Government,
Union territory, local authority or any person specified by Central Government,
State Government, Union territory or local authority against consideration
received from Central Government, State Government, Union territory or local
authority, in the form of grants. [Entry 9C]

(d) Services
by an old age home run by Central Government, State Government or by an entity
registered u/s. 12AA of the Income-tax Act, 1961 (43 of 1961) to its residents
(aged 60 years or more) against consideration upto twenty five thousand rupees
per month per member, provided that the consideration charged is inclusive of
charges for boarding, lodging and maintenance [Entry 9D]

(e) Service
provided by Fair Price Shops to Central Government by way of sale of wheat,
rice and coarse grains under Public Distribution System (PDS) and to State
Governments or Union territories by way of sale of kerosene, sugar, edible oil,
etc., under Public Distribution System (PDS) against consideration in the form
of commission or margin [Entry 11A/ 11B]

(f) Services
provided to the Central Government, State Government, Union territory
administration under any training programme for which total expenditure is
borne by the Central Government, State Government, Union territory
administration [Entry 72]

CERTAIN ISSUES & RULINGS

20. What
will be the scope of functions entrusted to a municipality under Article 243W?

One
particular function performed by the Municipality is to provide permission to
various utility service providers (electricity, gas, etc.,) to carryout
excavation work to laydown underground wire, pipe-lines, etc., for which
charges in the form of access charges & reinstatement charges are levied by
the Municipality.

An
application for Advance Ruling was made before the Authority in Maharashtra by
Reliance Infrastructure Limited [2018 (013) GSTL 0449 (AAR)] as to
whether the above charges would be covered under functions entrusted to a
Municipality under Article 243W or not? The Authority in the said case held as
under:

This restoration work would not result
in performing of the sovereign function. The sovereign function has already
been performed by constructing the road or undertaking maintenance works of the
roads. The restoration work can be equated neither to construction work nor to
maintenance work as suo motu undertaken by the Municipal Authorities. The
restoration charges are also not in the nature that the Municipal Authorities
are performing any job of construction for the applicant. The street or pavement
or road that is dug up is a general road. In view of all above, we are of the
firm view that it should not be disputed that the recovering of charges for
restoring the patches which have been dug up by business entities of the nature
as the applicant cannot be equated to performing a sovereign function as
envisaged under Article 243W of the Constitution.

However,
the Authority in the above case has while appreciating the fact that the
function of construction and maintenance of road is entrusted to the
Municipality under Article 243W, erred in not appreciating the fact that the
reinstatement charges recovered from the utility service providers is merely to
meet the cost incurred for undertaking the functions entrusted to it under
Article 243W, i.e., to maintain the roads. This is done by the Municipality by
appointing contractors, who undertake the activity and charge the Municipality
for the same. The role of Municipality is to ensure that the said function
relating to construction and maintenance of road is properly performed, which
is performed by collecting the said charges from such public utility companies.
In fact, one can say that in case of access & reinstatement charges
collected by the Municipality, it is infact a case of service to self rather
than service to public utility companies as it helps the Municipality to
perform the function entrusted to it under Article 243W.

Interesting
aspect to note in the above case is that there were two different charges
collected by the Municipality, namely reinstatement charges and access charges.
In the case of access charges, the Authority has arrived at a prima facie
conclusion that tax would be payable. However, it has failed to appreciate the
fact that in case of access charges, the Municipality has recovered GST from
the Applicant. The question that therefore would need analysis is whether there
would be double taxation, i.e., the supplier of service also charges GST and
the recipient also discharges GST on the same under reverse charge?

Further,
in another Ruling in the case of VPSSR Facilities [2018 (013) GSTL 0116
(AAR)], the Authority held that cleaning services provided to the Northern
Railways, classifiable as Central Government would not be eligible for
exemption under Entry 3 since the Railways do not carry out any function
entrusted to a Municipality under Article 243W. The Authority further held that
the Municipality was entrusted with functions only in relation to urban areas
and not in relation to railway properties. If this view is accepted, exemption
will not be available in case of services provided by Central/State Government
in relation to carrying out any function entrusted to a Municipality under
Article 243W.

21. Whether
exemption under Entry 6 will extend to other services provided by Department of
Posts?

On going
through the website of Department of Posts, there are three different
categories of service provided, as under:

Premium

Domestic

International

Speed Post

Letter

Express Parcel

Book Packet

EMS Speed Post

Business Parcel

Registered Newspaper

Air Parcel

Logistics Post

Parcel

International Tracked Packets

The
services relating to speed post & express parcel post are explicitly
covered under forward charge. However, other services provided to business
entities by Department of Posts will be covered under clause (d) of Entry 6 of
notification 12/ 2017 and therefore be liable to tax under reverse charge
mechanism.

This
would be important in the case of business delivering goods through posts,
companies mailing annual reports/notices under normal post, magazines posted on
license to post without pre-payment, etc., Off-course, one can claim the exemption
of Rs. 5000 but the same would need to be analysed on a case to case basis.

22. In
case of exemption under Entry 72, can exemption be denied on the grounds that
only cost is borne by the Government and no service is received by the
Government?

Entry 72
provides for exemption to services provided to Government under any training
programme for which total expenditure is borne by them. In such cases, there
are programmes where the service provider is required to identify candidates
for providing training and upon completion of training or as per agreed terms,
the Government makes the payment for such training to the service provider,
i.e., the service is not provided to the Government but only the cost is borne
by the Government.

In such
a case, can the exemption be denied on the grounds that since service is not
provided to Government but the candidate, the exemption is not available.

The
answer to the same would be in negative in view of the fact that the definition
of recipient of service u/s. 2 (93) provides that recipient of supply in case
where consideration is payable for supply shall be the person liable to pay the
service and not the person consuming the service. Therefore, since the claim
for payment for the service is to be made before the Government conducting the
programme, the payment can be enforced only from the Government and therefore,
in view of section 2 (93), it is the Government who is the recipient of
service.

TAX DEDUCTED AT SOURCE

23. Vide
notification 50/2018 – CT (Rate) dated
13.09.2018, in addition to specified class of people referred to in clause (a)
to (c) of section 51, i.e., Department/Establishment of Central Government or
State Government, local authority or Government agencies, following class of
people have been made liable to deduct tax at source on payments to be made on
various supplies received by them:

(a) an
authority or a board or any other body, –

(i) set
up by an Act of Parliament or a State Legislature; or

(ii) established
by any Government,

with 51 % or more participation by way
of equity or control, to carry out any function;

(b) Society
established by the Central Government or the State Government or a Local
Authority under the Societies Registration Act, 1860 (21 of 1860);

24. The rate of TDS
applicable on such payments would be 2%, being 1% CGST and 1% SGST/UTGST in
case of intrastate supplies and 2% IGST in case of interstate supplies.

CONCLUSION

25. To
summarise, under the GST regime, while making payment for any activity or
function undertaken by Government or Local Authority, one will need to analyse
the GST implications on multiple fronts, such as :

whether
the activity undertaken by the Government or Local Authority partakes the
character of a service or not?

Whether
the activity is classifiable under the exemption list or not?

26. The
above exercise will need to be followed rigorously by a business not entitled
for full credit as payment of tax under reverse charge, even on a conservative
basis will have to be taken as cost, which may not be necessary. Off course, a
business eligible to claim full input tax credit might take a conservative view
and not go in to the above hassles by discharging tax on all payments since
there may not be any cash flow issues or unnecessary tax costs.

27. More care needs to be exercised in
case of services provided to Government/Local Authority in view of the fact
that claiming a wrong exemption can have significant repercussions involving
payment of tax out of pocket saddled with consequential interest and penalties.
One further needs to ensure that in each case, the exemption be analysed on
their own rather than depending on the recipients’ claim of exemption, since
the same may not be always correct.

shailesh.kwebmaker

GST – First Principles On Valuation (Part-1)

One of the
important aspects of taxation is the determination of the value on which tax is
sought to be computed and collected. The
Goods & Service Tax law has been designed on value addition principle and
has adopted the ‘transaction value’ approach for defining the tax base. In view of the number of concepts in
valuation, the article has been split into two parts – this article captures
the basic concepts and issues in valuation and the next article would capture specific
instances of valuation.

A) Gist
of the Valuation provisions

The scheme of valuation hovers around
‘transaction value’. Section 15 of the Central/ State GST law contain the
valuation provisions and the scenarios where an adjustment should be made to
arrive at the taxable value. The entire
scheme of valuation can be depicted by way of a flow chart as under:

B)
Analysis of Valuation Provisions

a) Meaning of the term
‘Transaction Value’

Section 15 states that the taxable value
would be the transaction value of supply i.e. ‘price paid or payable’ for the
supply of goods or services. Though the
term ‘price’ is not defined in the GST law, the Sale of Goods Act, 1930 defines
price to mean ‘money consideration’. It
is the price which is contractually agreed between the parties to the
supply. The phrase ‘paid or payable’
implies that the consideration would include all sums which have accrued to the
supplier, irrespective of its actual payment.
As per Customs Interpretative notes to the Customs Valuation Rules, the
said phrase refers to total payment made by the buyer to or for the
benefit of the seller. Payment need not
always involve transfer of money and would include payments through letter of
credits, negotiable instruments, settlement of debt, etc.

b) Consideration – Nexus
Theory

The term consideration has been defined in
section 2(31) of the CGST/ SGST law to refer to any payment (monetary or
non-monetary) or monetary value of an act or forbearance, ‘in respect of’
or ‘in response to’ or ‘for inducement of ’ the supply of goods
or services. It refers to the
counter-promise received in response to the supply and it is immaterial whether
such counter-promise is in monetary or non-monetary form.

On a reading of the definition of
consideration, it can be inferred that a nexus between the payment and the
supply is essential to term it as consideration. The italicised phrases indicates this
requirement. In view of the clear
definition of ‘consideration’, it can be contended that the decision of the
Hon’ble Supreme Court in CCE, Mumbai vs. Fiat India Pvt. Ltd.
would no longer apply¹. Therefore, where prices are subsidised or
set below the cost (such as market penetration sales), it would still be termed
as sole consideration, unless the supplier has received any other direct
benefit for the said supply.

Activities
undertaken by the buyer on his own account are not to be considered as indirect
payments to the seller, even-though that might be regarded as resulting in a
benefit to the seller. As an example,
advertisement expenses incurred to advertise aerated products (finished goods)
manufactured by a third party bottler were held to be excludible from
assessable value of concentrates (which are raw materials) manufactured and
sold under an agreement with the bottlers (CCE, Mumbai v. Parle
International Ltd.²). These costs are incurred by the
concentrate manufacturer on his own account and not as an indirect payment to
the bottler of goods.

1 2012 (283) E.L.T. 161 (S.C.) – The Court had
interpreted the term ‘consideration’ to include market considerations/ factors
which influence price, such as reduction of price for market penetration.
Accordingly, it held that price was not the sole consideration as market
penetration was an additional consideration for deciding the price.

c) Price to be sole consideration

According to Black laws dictionary, ‘sole’
refers to single, individual, separate as opposite to joint. By sole, the legislature requires that price
should be the lone consideration for it to be accepted as the transaction
value. It should not be adversely affected by any supplementary or ancillary
transaction. As per Customs
Interpretative Notes, price would not be regarded as being the sole
consideration, where the seller establishes or places a restriction on the
buyer that sale of goods is conditional to purchase of other goods, and
therefore, reference to valuation rules may be warranted. Further, if money
consideration is affected by any other non-monetary payment or any act or
forbearance, then price is not
considered as a sole consideration and reference should be made to the
valuation rules.

Where price is not the sole consideration
(in case of a non-monetary component in the transaction) or where price is not
determinable, Rule 27 is to be invoked.
A sort of an hierarchial valuation structure has been provided where
subsequent clauses would apply only if the preceding rule fails to provide
reliable basis of valuation:

Once a comparable transaction is identified,
certain adjustments may be required to bring parity for ascertainment of value,
such as:

– Difference
in commercial level of supply

– Difference
in commercial terms (such as freight, insurance, warranty, etc.)

– Difference
in product characteristics (additional features, add-ons, etc.)

In the above flow chart, Open market value
(OMV) would refer to ‘full money value’ of the goods/services supplied at the
same time when the supply being valued is made.
Comparable value (CV) would refer to value of goods or services of like
kind and quality under similar commercial terms. Substantial resemblance to the
subject supply would suffice while determining comparable value. It may be
worth appreciating that the law has made a subtle difference between OMV and
the Comparable Value. This can be
tabulated as follows:

Parameter

Open Market Value

Comparable Value

Price of

Identical Goods

Similar goods

Degree of Comparability

Very High

Substantial resemblance

Time Factor

OMV at the same time of supply

No specification

Priority

Higher

Lower

To cite an example, if a Company is valuing
a related party transaction of say ‘Surf Excel’ washing powder, one cannot
directly adopt the market value of ‘Ariel or Tide’ since these are only
comparable products. The valuation
provisions require that an attempt should first be made to ascertain the market
value of Surf Excel itself, at the same time at which the supply under
consideration is being made. It is only
in the absence of such a market value, should the comparable values of either
Ariel or Tide be adopted (off-course with the justification that they share a
similar reputation). This is more or
less in line with the principle laid down in the Customs Valuation Rules where
a priority is given to identical goods (i.e. goods are same in all respects except
with minor differences not having a bearing on value) over similar goods.

d) Transaction to be between
unrelated parties

Price would be adopted as the transaction
value only if the supply is between unrelated parties. Explanation to the said section deems, inter-alia,
the following persons as related parties:

a. Persons are officers or
directors in one another’s business

b. Persons are legally
recognised partners – say joint venture partners

c. Employer and their
employees

d. One of the parties
directly or indirectly controls the other or they are controlled by a third
person or they together control a third person

e. Members of same family

f. Sole agent or
distributor or concessionaire would be deemed to be related.

The said definition has been borrowed from
the Customs Valuation rules. In cases
where the transaction is between related parties, Rule 28 requires the assesse
to follow the similar pattern as applicable in Rule 27 (above). By way of a second proviso, a concession is
provided by way of an assurance of acceptance of invoice value in cases where
the recipient of such supply is eligible for full input tax credit. It may be interesting to note that the
proviso does not explicitly state whether the full input credit should be
examined at the entity level or at the invoice level eg. A sells to its related
entity B certain goods. B is entitled to
full input tax credit at the invoice level (T4 bucket of Rule 42) but avails
proportionate credit at the entity level.
A view can be taken that the test of full input tax credit should be
examined at the invoice level and not at the assesse level. Simply put, if the recipient is able to justify
that the credit is exclusively for taxable supplies i.e. (for inputs or input
services), then valuation in related party transactions cannot be questioned.
This is purely on the rationale that any under-valuation would be revenue
neutral since the output tax at the supplier’s end would become the input tax
credit at the recipient’s end.

e) Principal-Agent Transaction
for supply of Goods (Rule 29)

Transaction of supply of goods, inter-se,
between the principal and agents have been deemed as supply transactions in
terms of entry 3 of Schedule I of the CGST/ SGST law. The valuation rules would be invoked in the
absence of a ‘price’ between the principal and agent. Rule 29 provides for an option of adopting
the OMV or 90% of the re-sale price of the goods by the supplier.

f) Common provisions for Rule
27, 28 & 29 (Rule 30 & 31)

The valuation rules also provide a last
resort (in cases where value is in indeterminable under the preceding rules)
under Rule 30. The said rule prescribes
that cost of ‘production/manufacture’ or cost of ‘acquisition’ or cost of
‘provision of services’ with 10% mark-up can be adopted as the transaction
value. The rules do not provide for a mechanism to determine such costs. In such cases, it may be advisable to apply
the generally accepted accounting/costing standards³. An indicative
matrix of costs which may be generally included or excluded has been provided
below:

Manufacturing

Trading

Services

Direct
RM Costs

Purchase
Costs

Direct
Salary Costs

Direct
Labour Costs

Inward
Logistics Costs

Other
direct overheads allocable to the service

Allocated
/ Identified Manufacturing Overhead Costs⁴

Product
loss within acceptable limit (such as evaporation, etc)

Project
specific costs

Know-how
/ royalty for production

Loss
of Goods in Storage

Outward
logistic Costs

Administration
Costs

Sales
& Marketing Costs

Financial
Costs

Brand/
Marketing Royalty

After
Sales Support Services

Rule 31, as residuary rule provides that
valuation should be made keeping in line with the valuation principles outlined
in the preceding rules. The purpose of Rule 31 is to ease the valuation
mechanism in the case of failure of the preceding rules to arrive at a
value. It must be appreciated that this
rule is not a ‘best judgement assessment’ as it would still require the person
invoking the valuation to establish failure of preceding methodologies and also
give a justifiable basis of valuation.
To cite an example, in case of renting of an immovable property between
related parties (say recipient is unable to avail entire credit), earlier
mechanisms may not in some circumstances be suitable to arrive at the
appropriate value. It may be possible
for an assessee or the tax officer to use the discounting model or the IRR
model and arrive at the fair lease rental for the subject immovable
property. Similarly, in case of supply
of intangibles, it is challenging to identify the OMV/CV or even the cost of
such intangible. The intangibles may have been developed over a fairly long
period of time (including several failures) which would not be clearly
ascertainable. In such cases, a
discounted free cash flow method from an independent valuer may form a suitable
basis under this Rule. ____________________________________________________________

3 Cost Accounting Standards Issued by Cost Accounting Standards Board (CASB) may form a reliable basis

4 Including cost of consumables

C) Table
comparing the erstwhile valuation schemes

A comparative tabulation of the broad
features of erstwhile law would assist in appreciating the essence of the
valuation scheme:

Parameter

Sales Tax/VAT

Excise Law

Service Tax Law

Customs Law

Taxable Event

Sale transactions

Manufacture of Goods

Service Transactions

Importation / exportation of Goods

Valuation Principle

Price

Duty on goods with reference to its value

Money/ non-monetary consideration

Duty on goods with reference to its value

Base Value

Contracted Price

Transaction value

Gross amount charged

Transaction Value

Valuation Rules

Absent, except to the extent of removal of non-taxable
portion in case of composite supplies

Specific scenarios

Restricted cases

Elaborate and applicable to all cases

Additions to base value

NIL

Additional amount in connection with sale (such as
advertisement, publicity, etc.)

NIL

Freight, Insurance, Handling, etc. and royalty, etc.
in connection with sale of imported of goods

Specific Deductions

Trade Discounts, Freight charged separately

Trade Discounts, Post removal recoveries

Deficiency in services

Post importation recoveries

Reference to time and place for valuation

NIL, being a transaction tax

Valuation at the time and place of removal

NIL, being a transaction tax

Valuation at the time and place of importation / exportation

Scenarios for reference to Valuation rules

NIL

Related party transaction, price not being sole
consideration, free of cost (FOC) supplies, absence of sale/ transaction
value, captive consumption, difference place of sale and place of removal

Consideration either partly or wholly in non-monetary form,
non-taxable component in gross amount charged, FOC supplies, notified
transactions, specific inclusions or exclusions

Similar to excise with additional adjustments for post
importation payments (for royalty, technical
services, etc.) , restrictions placed by supplier, accruals to
importer from sale proceeds, etc.

Valuation methodology

Cost accounting rules prescribed

Value of similar services or Cost of provision of service

Sequential mechanism
of arriving at value based on price of identical or similar goods or either
through deductive or computed price method

Post taxable event adjustment

Post-sale expenses are not relevant

Post removal accruals, those having a nexus with the
transaction of removal/ sale includible

No specific provision but generally included as part of gross
amount charged

Post importation flow back of consideration includible in
specific scenarios

Cum-tax benefit

NIL unless specifically included

Available

Not Applicable

As evident from the table above, the scheme
of valuation under the GST law is a concoction of the valuation scheme under
the erstwhile laws. The settled principles in earlier laws may not have a
direct application to the GST law, yet a possible conclusion/inference can be
drawn from those decisions. Though there is an excise/customs hue to the
current valuation scheme, the term Supply is more akin to the term
sale/service, both being based on a contractual arrangement.

Therefore, the basic tenet of valuation
under GST should ideally follow the sales tax law principle rather than
excise/customs valuation principles. It may be worthwhile to study the
important principles under the earlier law in this context and appreciate the
difference in approach under the said laws.

Sales Tax Law

In the famous
case of State of Rajasthan vs. Rajasthan Chemists Association⁵,
the Hon’ble Supreme Court struck down the attempt of the Legislature to tax a
sale transaction on the basis of the MRP of the product. But importantly, it
stated that unlike in Excise where the duty is on the goods itself, the levy of
sales tax is on the activity of sale rather than the goods itself. Therefore,
the attempt of the Legislature to adopt a measure of tax on the value of goods
at a point distinct from its taxable event is unconstitutional. The legislature
cannot attempt to tax a ‘likely price’ in a contract of sale since what can
only be taxed is a completed sale transaction and not an agreement of
sale.

5 (2006)
147 STC 542 (SC)

Service Tax Law

In the context of service tax, the Delhi
High Court in Intercontinental Consultants and Technocrats Pvt. Ltd. vs. UOI
(2013) 29 STR 9 (Del) stated that the valuation should be in consonance
with the charging provision under the Finance Act, 1994. Since the charging
section levied a tax on service, nothing else apart from the consideration for
the service can be included in arriving at the value of a service. On this
basis, the Court struck down a valuation rule which exceeded the scope of the
charging section of the Service tax law.
In a slightly different context, the Delhi High Court in G.D.
Builders vs. Union of India 2013 (32) S.T.R. 673 (Del.) also stated that
the value of a service should be restricted only to the service component in
the transaction, implying that the valuation scheme is limited by the scope of
the charging provisions.

Excise Law

The excise law has had significant amount of
litigation over the valuation of goods manufactured and removed from the
factory premises of a manufacturer. The excise law has progressively evolved
from a wholesale price approach to a normal price approach and then to a
transaction value approach w.e.f 01. 07. 2000. Though the Central Excise scheme
focused on determining duty on manufacture of goods, the valuation provisions
were linked to the price paid or payable (i.e. including post manufacturing
costs and profits) with adjustments where price was not a reliable basis of
valuation. On a challenge over inclusion of post manufacturing costs/profits,
the Hon’ble Supreme Court in Union of India vs. Bombay Tyres International
case (1983) ELT 1896 (SC), made a clear distinction between the subject
matter of tax and the measure of tax and held that the Legislature had the
flexibility to fix the measure of tax different from the subject matter of
taxation so long as the character of impost is not lost. Courts have concluded that while the levy of
excise duty was on the manufacture or production of goods, the stage of
collection need not in point of time synchronise with the completion of the
manufacturing process; the levy had the status of a constitutional concept, the
point of collection was located where the statute declared it would be. This issue is again under consideration
before a larger Bench of the Hon’ble Supreme Court in the case of CCE,
Indore vs. Grasim Industries⁶ in view of a difference in opinion by the
coordinate three judge bench in Commissioner of Central Excise vs. Acer Ltd.⁶. Be that as it may, the basis of levy of duty
under excise law is clearly distinct from that of the GST law and therefore,
excise law principles should not be directly applied while interpreting the
valuation scheme under the GST law.

GST Law

In GST, the term ‘supply’ is a contractual
term. It comes into existence only under
an obligation of a contract. The list of
transactions cited as examples in section 7 (sale, exchange, barter, lease,
license, etc.) arise out of contractual obligations. In line with the
sales tax law, it is very well possible to contend that the taxable event of
supply should also be understood in the context of the obligations agreed
between parties under a contract.
Consequently, valuation should also be undertaken with due consideration
to the obligations between the contracting parties for the supply. Therefore,
where there was no supply intended between the contracting parties, say FOC
materials, its value cannot be included in the transaction value. This
principle may have implications in various scenarios which have been discussed
later.

Valuation principle – Conceptual aspects

D) Key
principles emerging from a reading of valuation provisions

Conceptual aspects

The following conceptual points may be
applied while addressing a point on valuation in GST:

i. Taxable value is a
function of the contracted price.
Intrinsic value/fair value/market value of goods or services are not
relevant except in specific circumstances.

______________________________________________________________________

6 in Civil Appeal No. 3159 of 2004 & (2004) 8 SCC 173

ii. Price implies monetary
consideration agreed for the subject supply.

iii. Valuation of a supply
would succeed its categorisation – into ‘composite or mixed supply’
basket.

iv. Valuation provisions are an
amalgam of erstwhile laws including the Customs law.

v. Receipt of
price/consideration could be from any third party and not necessarily by the
recipient.

vi. Each supply transaction is
distinct and independent from the previous transactions and price of one
transaction cannot generally have a bearing on another transaction.

vii. Transaction value is not
with reference to any particular time or place – a distinguishing feature in
comparison to the erstwhile Excise law or Customs Law.

viii. Every ‘gross amount
charged’ (like service tax) is not the transaction value – there should be some
nexus between the amount charged and supply of goods/services.

Other Procedural aspects

i. Valuation Rules would
trigger only under specific scenarios – in all other cases, price should be
accepted as transaction value – Onus is on the revenue to establish that the
pre-requisites of invoking the valuation rules have been satisfied. Valuation guidelines have to be followed
necessarily and best judgement assessments are not permissible.

ii. Valuation rules attempt to
identify undervaluation of transaction. While valuation rules do not
specifically prohibit questioning over-valuation, the consequential legal
implications of over-valuation in terms of adjudication/recovery etc. do
not capture cases, such as excess payment of output taxes, etc.

iii. Any upward or downward
revision in price or value should be undertaken by issuance of a debit or a
credit note by the supplier of the goods or services only. Downward revision in
price is different from non-recovery of consideration (such as bad debts). Bad debts are not deductible from taxable or
already taxed value, though non recovery on account of there being no supply of
goods or services or on account of deficient supply are deductible by way of
credit notes.

iv. Valuation rules are not
mutually exclusive. Eg. in case of second hand goods between related parties
operating under the margin scheme, valuation officer can invoke the valuation
rules to recalculate the sale price for arriving at the appropriate gross
margin.

E) Specific
issues in Valuation

Ex-works/
FOB/CIF basis of pricing and delivery

The erstwhile sales tax and excise law were
flooded with disputes over valuation especially in the context of inclusion of
freight, insurance and other costs in the taxable value. The pricing and terms
of delivery in the transaction were critical in deciding the issue on
valuation. Under sales tax law, ex-works
sales indicated exclusion of post-sale freight and insurance charges. Under the
excise law, ex-works delivery terms indicated exclusion of all costs recovered
after removal of goods from the factory gate.

In the context of GST, the price agreed
between parties is considered as the taxable value of the supply. Sub clause
(c) to section 15(2) specifically includes an incidental expense charged by the
supplier for anything done before delivery of goods to the customer. The
law has clearly shifted the goal post from the point of supply to the point of
delivery of goods. All recoveries from the customer until the supply/sale of
goods would be includible in price agreed for the goods. Additional recoveries
post sale/ supply but until delivery of goods would be includible in the
taxable value u/s. 15(2), even if the ownership or price agreed between the
parties is on ex-works or FOB basis. On application of section 15(1) and 15(2),
all pre-delivery costs charged from the customer would be includible in the
taxable value of supply.

There are cases where the sale and delivery
by the manufacturer is ex-works/FOB, but the supplier arranges for the
transportation in pursuance of the buyer’s instructions. The supplier incurs a
‘freight advance’ and recovers the same either in the invoice our buy way of an
additional debit note. In such cases, the supplier has undertaken post-delivery
activities as a ‘pure agent’ of the buyer and hence should not form part of the
taxable value either u/s. 15(1) or 15(2) of the GST law. An alternate
contention can be placed by invoking the concept of composite supply, ie, the
arrangement of transport by the supplier is naturally bundled with the supply
of goods and hence, part of transaction value. Disputes on this front are bound
to continue unless the supplier takes a conservative view in cases where the
recipient is eligible for full input tax credit.

Discount
Policies

Like the issue over freight, the sales tax
law and excise law experience litigation over deduction of discounts. Trade discount granted at the time of sale or
at the time of removal of goods were generally deductible under the sales
tax/excise law. The issue arose especially where discounts were granted after
sale or removal of goods.

Under the excise law, trade discounts given
at the time of removal of goods were considered deductible, while any post
removal discounts were held to be non-deductible. In Union of India & Ors vs. Bombay
Tyres International (P) Ltd.⁷ and subsequently in the case of Purolator
India Ltd. vs. CCE, Delhi⁷, it was held that discounts stipulated
in the agreement of sale but provided subsequently would be eligible for
deduction from the price “at the time of removal”.

In a recent decision of the Hon’ble Supreme
court in Southern Motors vs. State of Karnataka⁸, the
Supreme Court read down a rule contained in the VAT law which required
discounts to be disclosed in the invoice for it to be eligible to claim a
deduction from the total turnover of a dealer. The Court relying upon the
decision of the Supreme Court in IFB Industries Ltd. vs. State Of Kerala and
Deputy Commissioner of Sales Tax (Law) vs. M/s. Advani Orlikon (P) Ltd.⁹ observed as follows:

“21. This Court
referred to the definition of “sale price” in Section 2(h) of the Act and noted
that it was defined to be the amount payable to a dealer as a consideration for
the sale of any goods, less any sum allowed as cash discount, according to the
practice normally prevailing in the trade. While observing that cash discount
conceptually was distinctly different from a trade discount which was a
deduction from the catalogue price of goods allowable by whole-sellers to
retailers engaged in the trade, it was exposited that under the Central Sales
Tax Act, the sale price which enters into the computation of the turnover is
the consideration for which the goods are sold by the assessee. It was held
that in a case where trade discount was allowed on the catalogue price, the
sale price would be the amount determined after deducting the trade discount.
It was ruled that it was immaterial that the definition of “sale price” under
Section 2(h) of the Act did not expressly provide for the deduction of trade
discount from the sale price. It also held a view that having regard to the
nature of a trade discount, there is only one sale price between the dealer and
the retailer and that is the price payable by the retailer calculated as the
difference between the catalogue price and the trade discount. Significantly it
was propounded that, in such a situation, there was only one contract between
the parties that is the contract that the goods would be sold by the dealer to
the retailer at the aforesaid sale price and that there was no question of two
successive agreements between the parties, one providing for the sale of the
goods at the catalogue price and the other providing for an allowance by way of
trade discount. While recognizing that the sale price remained the stipulated
price in the contract between the parties, this Court concluded that the sale
price which enters into the computation of the assessee’s turnover for the
purpose of assessment under the Sales Tax Act would be determined after
deducting the trade discount from the catalogue price.”

7 1984
(17) E.L.T. 329 (S.C.) & 2015 (323) E.L.T. 227 (S.C.)

8 [2017]
98 VST 207 (SC)

9
(1980) 1 SCC 360

The Court also expounded the meaning of
trade discount as follows:

“28. A trade
discount conceptually is a pre-sale concurrence, the quantification whereof
depends on many many factors in commerce regulating the scale of sale/purchase
depending, amongst others on goodwill, quality, marketable skills, discounts,
etc. contributing to the ultimate performance to qualify for such discounts.
Such trade discounts, to reiterate, have already been recognized by this Court
with the emphatic rider that the same ought not to be disallowed only as they
are not payable at the time of each invoice or deducted from the invoice
price.”

The GST law seems to have simplified the law
to the extent that any pre-supply discount is considered as deductible provided
it is recorded in the invoice issued to the customer. The law also provides an
additional deduction in respect of post supply discounts provided two
conditions are satisfied – (a) the terms of discount is agreed before the
supply and (b) corresponding input tax credit has been reversed by the
recipient of supply. As regards the first condition, the law requires that the
principles, eligibility or formula of discount is agreed before the supply
occurs. The quantification of the discount could take place any time subsequent
to the supply by way of credit notes (of-course within the permissible time
limit). The objective is to deny benefit of discounts which are an
afterthought. The second condition
requires that corresponding input tax credit on such discounts is reduced by
the customer.

Price
Support vs Discounts

Section 15(2)(e) provides that price
subsidies (i.e. directly linked to the price of a product), except those
provided by the Central/State Governments are includible in the transaction
value. ‘Subsidy’ refers to paying a part of the cost. Subsidy could be received from any party
interested in the transaction and is not restricted to the manufacturer of
goods. Commercial trade adopts innovative formats and nomenclatures in order to
subsidise the price of their products and promote their sale. One such format
of subsidy is providing a ‘price support’ to the person stocking the goods in
order to liquidate the stocks for commercial reasons. The price support could
be in the form of monetary reimbursements by issuance of credit notes in favour
of the stockist or also in non-monetary form but it ultimately reduces the
original sale price for the stockist. In certain states like Tamil Nadu/
Karnataka, the VAT law required reversal of input tax credit where the sale
price was less than the purchase price but such a provision is absent in the
GST law. Is this price support a subsidy
or a discount or neither of these? The
possible differentiating factors can be tabulated below:

Discount

Price Subsidy

Price Support/ Protection

Deductible from turnover in hands of supplier

Added to the value in the hands of recipient

Depending on whether it is a discount or price subsidy

Contractually agreed at the time of original supply and
provided subject to fulfillment of certain conditions

Usually provided by someone other than the seller of goods

Provided subsequent to the transaction of supply for
liquidating stocks at lower prices

By the seller of the goods but not generally linked to the
subsequent sale price

Pre-agreed & specifically linked to a subsequent sale by
the recipient

Discretionary, ie companies are not obliged to provide it
contractually though it is in their own interest to support their
distribution channels

Could be provided by the seller, manufacturer or even an
online platform

On the above basis, the treatment of price
support may be adopted as follows:

a. Where price support is
provided by the supplier (contracting parties to the supply), it should be
treated as a trade discount and treated in accordance with section 15(3).

b. Where price support is
provided by third parties (such as an online platform), it should be treated as
a subsidy and treated as per section 15(2)(e) and added to the sale value.

Moulds/
Dies/ Tools, etc.

Under the excise law, products were
manufactured from moulds or dies supplied by the buyer of such goods. Generally, the intellectual property of these
moulds and dies continued to be with the buyer of the said goods. These moulds were usually sent on free of
cost (FOC) and returnable basis.

Resultantly, the conditions of transaction
value were not satisfied since the price of the manufactured goods was not the
sole consideration – in view of section 4(1)(a) read with Rule 6 of the Excise
Valuation Rules, such FOC items were termed as additional consideration. The
said rule contained an explanation requiring the manufacturer to amortise or
apportion the value of such moulds, etc. as additional consideration to
the transaction.

The GST law imbibes the concept of ‘price
being sole consideration’ but does not contain corresponding rules like Rule 6
of Excise Valuation rules. Since this
rule was made in order to identify and attribute a value towards additional
consideration, a question arises regarding an attribution similar to excise. There are arguments both for and against this
which have been tabulated below:

Attribution required because:

Attribution not required because:

FOC could certainly result in undervaluation – Price of the
product does not contain the cost of the FOC item and therefore price is not
sole consideration in such cases

GST being a contract/ transaction tax (similar to sales tax/
service tax), unlike Excise, cannot extend beyond the contracted price and
not a notional price

Sole consideration-Similar terms have been used under the
excise law where such an attribution was an accepted legal principle

There is no corresponding rule which requires such addition
like Rule 6. The law is silent on the
mechanism, etc. which indicates that it does not intend to tax such
items

Sales tax law did not contain any such rule for valuation –
The service tax law contained specific rules for inclusion of FOC items
unlike in GST

In the view of
the author, GST being a transaction tax rather than a duty on goods, the case
for a non attribution seems to be a stronger proposition. Reliance can be
placed on the decision of the Hon’ble Supreme Court in Moriroku UT India
(P) Ltd. vs. State of UP 2008 (224) E.L.T. 365 (S.C.), which was
rendered in the context of the sales tax law wherein the court stated that
toolings and moulds supplied by the customer to the manufacturer/seller cannot
be amortised as in the case of Excise Duty under the Central Excise Act,
1944. A CBEC circular dt. 26^th
October, 2017 has been issued in the context of valuation of supply of paraffin
by way of extraction from Superior Kerosene Oil (SKO). The circular clarifies
that the value of supply is the quantity of paraffin retained from extraction
of SKO rather than the entire quantity of SKO sent by refinery for extraction.
This in a way resounds that valuation of supply is with reference to the
charging section and limited to price paid or payable in a supply transaction.

The subsequent article on valuation
would address specific instances where valuation under GST would pose certain
challenges and possible resolutions to such issues by taking hints from the
earlier indirect tax laws.

shailesh.kwebmaker

SEZs Under GST Regime

Introduction

A business dealing with foreign customers,
whether or not exclusively, is required to compete with various foreign
competitors who may be operating in more favourable environment in their own
countries. In order to boost such businesses, who intend to pre-dominantly
engage in export activities, India had adopted a model of Special Economic Zone
(SEZ) to provide level playing field to exporters located in SEZs. Being a unit
located in SEZ or being a developer has its’ own advantages with exemptions
under both direct (income tax) as well as indirect tax laws (Service tax, Sales
tax, Central Excise, etc. upto 30^th June 2017 and Goods &
Service Tax (GST) w.e.f 1^stJuly 2017). This article primarily
analyses the impact of SEZ operations under the GST regime.

Background to SEZ Legislation

The law relating to SEZ is governed by the provisions
of the Special Economic Zones Act, 2005 and various rules, notifications and
circulars issued thereunder. The person who is developing the SEZ is known as
SEZ developer and businesses operating from within the SEZ are known as SEZ
Units. There are elaborate conditions and processes which need to be followed
by both, SEZ developer as well as SEZ unit for getting approvals to set-up/
operate from a SEZ / as an SEZ unit.

On the indirect tax background, two
important provisions of the law are Sections 51 & 52. Section 51 of the Act
provides that the provisions of the SEZ Act shall have an overriding effect
over inconsistent provisions contained under other laws while Section 52 of the
Act provides that a SEZ is deemed to be a territory outside the customs
territory of India for the purposes of undertaking the authorized operations.

Brief Overview of the Provisions specifically
relating to SEZ under the GST Law

– Section 7 of the Integrated Goods &
Service Tax Act, 2017 (IGST Act) deals with the provision relating to
determination of nature of supply, i.e., whether a supply is to be treated as
interstate or intrastate. Clause (b) of sub-section (5) thereof provides that
supply of goods or services or both “to or by” a Special Economic Zone
developer or a Unit shall be deemed to be a supply in the course of
inter-state trade or commerce. This specific provision results in a uniform
treatment to supplies to SEZ / by SEZ Units across the country.

– Having declared all supplies to/ by an SEZ
Unit as interstate supplies, Section 16 (1) of the IGST Act provides that a
supply of goods / services or both, to a SEZ unit or developer shall be treated
as a “zero-rated supply”. It may be important to note that only supplies
to SEZ Unit/developers are treated as zero rated supplies and not supplies by
SEZ Unit/developers.

– Further, Section 16(3) provides that a
person making a zero-rated supply shall be eligible to claim refund under two
options, namely:

• Outright exemption by
applying for a Letter of Undertaking or Bond and subsequently claim refund of
unutilised input tax credit in terms of provisions of section 54 of the Central
Goods & Service Tax Act, 2017 (CGST Act).

• Rebate option, wherein the
supplier shall discharge the liability on the value of zero rated supply by
utilising balance from electronic credit ledger / cash ledger and claiming
refund thereof of the entire amount of tax paid.

– Rule 89 of the CGST Rules, 2017 lays down
various conditions for claiming of refund by suppliers making supply to a SEZ
developer / unit (under either of the above options). Second proviso to Rule 89
(1) requires the supplier to file refund application only after:

• In case of supply of
goods, the goods have been admitted in full in the SEZ for the “authorised
operations” as endorsed by the specified officer of the Zone.

• In case of supply of
services, obtaining evidence regarding the receipt of services for authorised
operations as endorsed by the specified officer of the Zone.

– Proviso to section 25 (2) of the CGST Act
provides that a person having multiple business verticals in a State / Union
Territory may apply for separate registration for each business vertical.
However, for SEZs, rule 8 of the CGST Rules, 2017 provides that a unit of a
person located in an SEZ shall be deemed to be a different vertical from the
units located in DTA and mandates the need for separate registration.

Some Issues

1. Whether Place of Supply is
relevant in case of supplies made to SEZ unit / developer?

– The charging section under the IGST Act
provides that the tax shall be levied on all inter-state supplies of goods or
services or both. Similarly, the charging section under the Central / State GST
Act provides for levy of tax on all intra-state supplies of goods or services or
both.

– What shall be treated to be inter-state or
intra-state supply is dealt with under sections 7 & 8 of the IGST Act,
2017. The general crux of the said section is that if the location of supplier
and place of supply are in same state, the transaction has to be treated as
intra-state, else it will be treated as inter-state supply. How to determine
the place of supply is also covered under Chapter V of the IGST Act.

–   However, there are certain cases where a
deeming fiction has been introduced to treat certain transactions as
inter-state supplies. For instance, supplies in the course of import of goods /
services are deemed to be inter-state supplies u/s. 7 (2) and 7 (4)
respectively. Likewise, the supplies made to or by an SEZ developer / unit are   also
treated   to   be an inter-state supply u/s. 7 (5) (b).

– The question that actually arises is whether
the place of supply needs to be determined in all cases where a transaction is
entered into with / by a unit in SEZ? Let us try to understand this with the
help of the following example:

ABC Limited is a SEZ
Unit. They organize a convention in a hotel located in DTA. ABC Limited has
intimated the hotel that they being an SEZ, the supply is to be treated as
inter-state supply and no tax should be charged on them on account of zero
rating u/s. 16. However, the hotel contends that in terms of provision of
section 7 (3) r.w. Section 12 (3), the location of supplier and Place of Supply
is the same, i.e., the hotel and hence the transaction is to be treated as
intra-state and CGST plus SGST will be applicable. They also claim that GST
being a consumption driven tax and consumption having taken place within the
DTA, tax is applicable.

– There are two aspects which need consideration here:

• Whether section 7 (3) –
which deals with determination of nature of supply in case of services and is a
general provision shall prevail over a specific provision, i.e., section 7 (5)
(b) which creates a legal fiction by deeming all supplies by or to a SEZ unit /
developer as inter-state?

• Whether the nature of
supply is to be determined basis the “person”, i.e., SEZ Developer / unit or
the actual location where the consumption takes place?

– In legal jurisprudence, in the context of
Monopolies & Restrictive Trade Practice Act, 1969, the Supreme Court in the
case of Voltas Limited vs. Union of India [AIR (1995) SC 1881] concluded
that an agreement falling within any of the clauses (a) to (l) will be held to
be an agreement relating to restrictive trade practice because of the legal
fiction and it will be immaterial to consider whether it falls within the
definition of restrictive trade practice in section 2 (o). No exception can be
taken against this view.

– In similar context, if a supply is made to /
by a SEZ developer / unit, it will have to be classified u/s. 7 (5) (b) and not
section 7 (1) or section 7 (3). In fact, this can also be a basis to say that
the provisions relating to determination of place of supply covered under
Chapter V of the IGST Act are not applicable to supplies by / to SEZ as they
merely aid in determining the place of supply, which is one factor for
determining whether a transaction is interstate or intrastate. Cases where the
main section itself treats a transaction to be either interstate or intrastate
shall need no reference to the provisions relating to place of supply.

– Another aspect to bear in mind is that while
the general provisions u/s. 7(1) and section 7(3) are subject to sections 10
& 12 dealing with the place of supply provisions, section 7(5), which interalia
deals with supplies to or by SEZ is not subject to the provisions of
sections 10 & 12 lending further support to the contention that the place
of supply provisions are irrelevant for such supplies.

– To answer the second sub-question relating
to consumption within the SEZ Area, one important distinction that needs to be
brought out is that section 7 (5) (b) is person centric and not consumption
centric, i.e., the section says supplies “to or by a SEZ developer / unit
located in SEZ” and not “in and from a SEZ developer / unit located in SEZ”.
This distinction is essential, because even for general cases for determination
of place of supply in case of services, more relevance is given to the location
of the person and not the location where the services are actually consumed.
For instance, in case of a person providing event management service to a
company located in Mumbai for the event to be held in Delhi, the place of
supply, which needs to be determined basis the location of such person (refer
section 12 (2) (a)) shall be Mumbai and not Delhi, though the services might
have actually been provided in Delhi. In similar context, even in case of SEZ
Developer / Unit, so long as the services are provided to a SEZ developer/
Unit, the location from where the services are provided may not be
relevant.

– In this context, there is one more scenario
which needs consideration here. Let us take an example of a person in DTA
supplying services to a domestic client but the consumption of the service
takes place in a SEZ, for example subcontracting of services. The supplier of
service has obtained an LUT for making such zero-rated supplies. However, the
question that arises is whether this supply shall be treated as zero-rated
supply considering the fact that the supply is not made to a SEZ developer /
unit but to a contractor who in turn renders services to the SEZ Developer/unit
for consumption by a SEZ developer / unit, admittedly in SEZ Area? It can be
said that this transaction shall perhaps be covered by section 7 (1) / 7 (3)
and not 7 (5) (b). This is because while the supply is consumed in SEZ, the
same is not made to a SEZ Developer / Unit. The supply is made to a person in
DTA and hence, the Place of Supply will have to be determined as per the
provisions of Chapter V of the IGST Act. However, it cannot be said that the
said person has made a supply to SEZ developer/ unit and should be eligible for
zero rating.

– To summarise, it can be concluded that:

• In case of supplies made
to a SEZ developer / unit, the transaction always has to be treated as
inter-state supplies and the provisions relating to Chapter V of the IGST Act
are not applicable.

• It is the actual supply to
SEZ developer / unit which is relevant and not the place of consumption. There
might be a case where the supply might have been consumed in the DTA, but the
supply is made to SEZ developer / Unit in which case provisions of section 7
(5) (b) shall continue to apply and the transaction shall be treated as zero
rated supply.

2. Whether the provisions
relating to Reverse Charge are applicable on supplies received by a SEZ
developer / unit?

– The GST law provides for two specific
instances where Reverse Charge Mechanism shall apply, one being the cases where
supply of specified goods / services is notified to be covered under reverse
charge and second being the case where the supply of goods / services, which
are other wise taxable but no tax is levied on account of the supplier being
unregistered.

– At the outset, it should be noted that a
SEZ developer / unit receiving inward supplies (other than those on which
reverse charge is applicable) from registered person are liable to tax subject
to LUT/ Bond. In that context, there is no reason for no tax on inward supplies
on which reverse charge is applicable. Infact, when such supplies are received
from registered suppliers, they can opt to execute LUT / Bond and state so in
their invoice, in which case, the zero rating continues to apply for the SEZ
developer/ unit as well and no tax shall be applicable.

– The notified reverse charge, which is in
effect today is applicable on domestic services as well as import of services.
However, the important question that arise is as per the provision of the SEZ
Act, SEZ is deemed to be outside the customs territory of India. Therefore, the
question that arise is whether the reverse charge provisions can be made
applicable to the SEZ?

– In this regard, reference can be drawn to
the decision of the Gujarat High Court in the case of Torrent Energy Limited
vs. State of Gujarat in Special Civil Application 14856 of 2010 decided on
16.04.2014. The facts of the said case were that the Appellants had a power
generation unit in a SEZ. Section 21 of the Gujarat SEZ Act provided for total
exemption from payment of various state taxes to the units situated in SEZ
area. However, vide a subsequent amendment to the VAT Act by introduction of
Section 5A and amendment to Section 9, a liability was created on SEZ units to
pay tax on purchase of zero rated goods used for purposes specified in Section
9 (5). In this case, the Hon’ble High Court found that the levy was not
sustainable on the grounds that any contrary intention emerging from any other
State fiscal statute would not limit the scope of the non-obstante clause when
no overriding effect is given to the provisions under the VAT Act, which were
enacted much after the SEZ Act.

– In this context, one can say that under
the GST law, by merely not giving an exclusion to the SEZ in the definition of
India in itself cannot make the non-obstante clause ineffective and the
provisions of the SEZ Act providing that the SEZ shall be deemed to be a unit
located outside the customs territory of India shall continue to prevail.
However, such a view may be subject to litigation at the ground level. Further,
it is important to note that the above matter is currently pending before the
Supreme Court and hence, the matter is yet to attain finality.

– However, a conservative view may always be
taken appreciating the fact that a person making zero rated outward supplies is
eligible for refund of accumulated input tax credit. In such a case, the onus
to discharge tax liability on the SEZ shall be as under:

Nature of Supply

Tax Position

Import of Services by a SEZ Unit or Developer for authorized
operations

Exempted as per Notification 18/2017 (Integrated Tax – Rate)

Procurement of goods or services notified to be liable under
RCM from registered dealer

No tax since zero rating continues in cases where the vendor
has obtained LUT

Procurement of goods or services notified to be liable under
RCM from unregistered dealer

IGST payable under RCM

Procurement of goods or services (other than notified) from
unregistered dealer

Since the operation of this provision is currently suspended,
no tax payable

3. What are the conditions
for claiming refund of tax paid / accumulated input tax credit on supplies to
SEZ developer / unit?

– Section 54 of the CGST Act provides for
refund of accumulated input tax credit on account of zero rated supplies made
or taxes paid on zero rated supplies. The section further provides that the
application for refund shall be accompanied by such documentary evidences as
may be prescribed.

– The said documentary evidences required for
filing the refund claim have been prescribed in Rule 89 of the CGST Rules,
2017. Second proviso thereof provides that refund shall be granted only if the
supplies made are used for the authorised
operations of the SEZ Developer / Unit. However, it is important to
note that there is no such requirement under the Act which provides that the
refund shall be allowed for zero rated supplies made. There is no provision under
the CGST Act which provides for any conditions / power to prescribe conditions
for the claim of refund for zero rated supplies, specifically supplies to SEZ
Developer /unit made. Therefore, the question that arises is whether the
provisions of Rule 89 are ultravires to the provisions of the Act or
not?

– However, before proceeding further, it is
also important to understand the need for answering the said question. There
can be two kinds of suppliers making supply to SEZ, one being a person
exclusively / pre-dominantly supplying to SEZ resulting in accumulated credit
and the other being a case where a person is pre-dominantly supplying in DTA
with some supplies to SEZ resulting in accumulated credits being adjusted
against liabilities on account of other supplies.

– In the first case, this aspect will be
important because not all supplies received by a SEZ Developer/ Unit may be
categorised as being received for authorised operations. For instance, an SEZ
unit, supplying software consultancy services, may be receiving supply from a
canteen operator which the proper officer may not certify as being used for
authorized operations & in such case, even if the supplier has opted for
LUT, he will not be able to claim refund of accumulated credits.

– In this context, to decide whether the Rule
89 is ultravires to the Act or not, one can refer to the provisions of
the Supreme Court decision in the case of Indian National Shipowners
Association vs. Union of India [2010 (017) STR 0J57 (SC)]. The issue in the
said case was the validity of the provisions of reverse charge mechanism on
import of services for the period upto 18.04.2006 where the liability was
created by Rule 2(1)(d)(iv) of the Service Tax Rules, 1994 without
corresponding provisions in the Finance Act, 1994. The Court confirmed by the
Bombay High Court ruling [2009 (013) STR 0235 (Bom.)] which held that the Rules
were ultravires to the provision of the Act by holding as under:

… Before enactment of section 66A it is
apparent that there was no authority vested by law in the Respondents to levy
service tax on a person who is resident in India, but who receives services
outside India. In that case till section 66A was enacted a person liable was
the one who rendered the services. In other words, it is only after enactment
of section 66A that taxable services received from abroad by a person belonging
to India are taxed in the hands of the Indian residents. In such cases, the Indian
recipient of the taxable services is deemed to be a service provider. Before
enactment of section 66A, there was no such provision in the Act and therefore,
the Respondents had no authority to levy service tax on the members of the
Petitioners-association.

21. In the result, therefore, the
petition succeeds and is allowed. Respondents are restrained from levying
service tax from the members of the Petitioners-association for the period from
1-3-2002 till 17-4-2006, in relation to the services received by the vessels
and ships of the members of the Petitioners-association outside India, from
persons who are non-residents of India and are from outside India.

– In similar context, till the time provisions
of section 54 are amended empowering the imposition of conditions for grant of
refund, Rule 89 should be treated as ultravires to the provisions of
section 54 and shall have no effect.

4. How shall supplies by SEZ
to DTA be treated?

– While SEZs are formed with specific goal to
promote exports and units within the SEZ are required to achieve specified
export targets, there can be instances when supplies may be made to customers.
Let us try to analyse such scenarios with the help of following examples:

Example
relating to supply of goods by an SEZ to a unit located in DTA

ABC Limited is a trader and has imported
goods in its’ warehouse in Free Trade Warehousing Zone, which is located within
the SEZ in Gujarat, i.e., the goods have not crossed the customs frontier and
the Bill of Entry for Home Consumption is not filed. ABC Limited has a customer
in DTA in Gujarat willing to buy the said goods. Following issues arise in this
transaction for ABC Limited:

a. Will ABC Limited be required to
discharge GST on its’ sale invoice to the customer or customer will discharge
the IGST at the time of filing Bill of Entry for Home Consumption at the time
of removal of goods from the SEZ?

b. Whether the supply is to be treated as
intra-state considering that both the location of supplier and place of supply
are in same state?

– To answer the above question, let us first
refer to the proviso to section 5 (1), which is the charging section for the
levy of IGST, and provides that the integrated tax on goods imported
into India shall be levied and collected in accordance with the provisions of
section 3 of the Customs Tariff Act 1975 at the point when the duties of
customs are levied as per section 12 of the Customs Act, 1962. Further,
reference to section 7 (2) also becomes necessary which provides that the
supply of goods imported into the territory of India till they cross the
customs frontiers of India shall be treated to be a supply in the course of
inter-state trade or commerce.

– What is meant by “imported goods”, while not
defined in IGST Act, is defined under the Customs Act, 1962 as any goods
brought into India from a place outside India but does not include goods which
have been cleared for home consumption”.

– In the above example, since the goods are
being sold from the FTWZ itself, which is a bonded warehouse, in other words, a
customs area under a bill of entry for warehousing, i.e., before the goods have
been cleared for home consumption, they are imported goods. In view of section
7 (2), the supply will have to be treated as interstate supply and in view of
proviso to section 5 (1), since the goods are imported goods, there shall be no
levy under the charging section of IGST Act and tax will have to be levied
under the Customs Act only. Further, it is provided that the Bill of Entry for
Home Consumption can be filed either by the buyer in the DTA or the SEZ unit
(on authorization from the buyer) (Refer Rule 22 of Special Economic Zone
(Customs Procedure) Regulations, 2003.

– However, it is important to note that the
Central Board of Excise & Customs has given a contrary view in Circular
46/2017 dated 24.11.2017 wherein it has been clarified that the supply of the
nature stated in the above example squarely falls within the definition of
“supply” as per section 7 of the CGST Act and shall be liable to IGST in view
of section 7 (2) treating such supplies as interstate supplies.

– However, the above notification clearly
appears to be issued without considering the specific provisions of section 5
(1) clearly keeping the taxability of imported goods outside the purview of
IGST Act and imposing the levy under the Customs Act, 1962 and hence, appears
to be erroneous. Further, the proposition suggested in the Circular hints at
double taxation, as at the time of removal of goods from the SEZ, a Bill of
Entry shall also be required to be filed which will create a tax liability on
the party filing the document as well as the unit within the SEZ shall also be
required to charge IGST on its’ invoice.

– Section 7 (5) (b) clearly states that
supplies by SEZ are to be treated as interstate supplies and hence, if at all
ABC Limited decides to file the Bill of Entry with the authorities (after
obtaining the necessary authorisations), the applicable tax shall be IGST by
treating the transaction as an interstate supply.

– So far as supply of services by SEZ to DTA
is concerned, the same would be a taxable inter-state supply irrespective of
whether the customer is in the same state or not on account of the deeming
fiction under the law.

5. Specific aspects of
dealing with / being a SEZ Developer/ Unit

– Dealing with SEZ developer / Unit, it has to
be noted that the supply being made to the SEZ developer / unit is never to be
questioned at the time of application of LUT. For instance, the jurisdictional
officer of the supplier cannot deny the grant of LUT on grounds that since the
supply is of a goods/ service on which credit would not have been eligible had
the zero rating not been prescribed.

– Registering for GST as SEZ Developer / Unit
– at the time of obtaining registration, care should be taken to ensure that
the fact the person registering is a SEZ developer/ unit is being selected in
the portal as this is expected to have its’ own challenges. For instance, if a
SEZ developer / unit is not registered as such on the portal, it will face a
peculiar situation where it would have charged IGST on all its DTA supplies
(even where the customer is in same state) but the portal will not allow the
same while filing GSTR 1 since the supplier is not registered as SEZ. This will
also impact the credit claim of the customer resulting in disputes. Similarly,
on inward side as well, all the vendors would have charged IGST but while
filing their GSTR 1, they may not be able to select IGST (of course, this
specific issue is not identified since filing of GSTR 2 has been postponed for
the time being).

Conclusions

While the
intention of the law is to ensure that the maximum benefits flow to the SEZ
developer / units to promote exports, the manner in which the provisions have
been drafted has increased the scope of probable tax litigation. While the law
is now in place for more than six months, there is sufficient time for business
in SEZ or dealing with SEZ to take correct tax positions to avoid future pains
!!! _

shailesh.kwebmaker

GST – First Principles on the term ‘Business’

The objective of this article is to
understand the scope and relevance of the term ‘business’ under GST laws and
apply it in context of non-commercial institutions such as charitable trusts,
NGOs, educational institutions, employee welfare trusts, etc. and mutual
associations such as residential welfare associations, trade associations,
clubs, societies, etc. GST is generally understood as an amalgam of VAT and
Service Tax laws. While most of the VAT laws applied to dealers, which
somewhere built in the requirement of business, the service tax laws applied
comprehensively to all persons. In this context, it may be gainful to bear in
mind that the philosophy of the VAT laws is inherited in the GST law to some
extent.

At the outset, it can be argued that the
term supply by itself is a commercial term and is generally not used for
activities undertaken by non-commercial organisations. Though the term ‘supply’
is defined in a very broad manner, presence of a tinge commercial character in
the transaction seems to be essential element (unless specifically made
redundant). When examined in the presence of the terms ‘sale’, ‘transfer’,
‘service’, the term supply is narrow if seen from this perspective. It is
pertinent to note that the law makers have not used the term ‘activity’ (as was
used in the service tax law) but rather chose to use the term ‘supply’ which
indicates the intent of the Legislature to narrow down the scope of
chargeability on this count. Also, the statutory definition of term supply u/s.
7(1) is further qualified by the phrase ‘in the course of furtherance of
business’.

In fact, the term business plays a
significant role in the entire definition of ‘supply’ under section 7 which can
be analysed as follows:

(i) The first clause of supply requires that all forms of supply of
goods or services should be ‘in the course or furtherance of business’ .

(ii) The second clause dispenses with the requirement that the
import transaction should be in the course or furtherance of business; in
other words, non-business transactions which are import of services would
also be termed as supply.

(iii) The third clause r/w Schedule I enlist transactions entered
into without consideration. This clause dispenses with the requirement of
consideration flowing between the taxable persons in such transactions. Even
though certain entries do not use the term business, there is an implicit
requirement of a business activity being present in view of the specific terms
such as ‘business asset’, ‘principal’, ‘agent’, etc.

This interpretation leads one to an
inference that except in case of import of service (as well as import of goods
in IGST transactions), transactions can be termed as a supply only if they
acquire the feature of being a business/ commercial transaction. Further
analogy can also be drawn from various other definitions / provisions under the
GST Law (such as outward supply, capital goods, inputs, composite supply, input
tax credit, place of business, etc). None of these terms attempt to
administer a non-business transaction. Given the scheme of the law, it would be
reasonable to interpret that only transactions in the nature of ‘business’
(except import of service and goods) would have GST implications.

This leads us to question as to whether any
boundaries can be drawn over the term ‘business’ under the GST law.

Definition of ‘Business’

The term business has been defined in an
inclusive manner u/s. 2(17) of the CGST Act to include the following
activities:

a) Any trade, commerce,
manufacture, profession, vocation, adventure, wager or any other similar
activity, whether or not it is for a pecuniary benefit

b) Any activity or transaction
in connection with or incidental or ancilliary to sub-clause (a)

c) Any activity or transaction
in the nature of sub-clause (a), whether or not there is volume, frequency,
continuity or regularity of such transaction

d) Supply or acquisition of
goods including capital goods and services in connection with commencement or
closure of business;

e) provision by a club,
association, society, or any such body (for a subscription or any other
consideration) of the facilities or benefits to its members;

f) admission, for a
consideration, of persons to any premises;

g) services supplied by a
person as the holder of an office which has been accepted by him in the course
or furtherance of his trade, profession or vocation;

h) services provided by a race
club by way of totalisator or a licence to book maker in such club ; and

i) any activity or
transaction undertaken by the Central Government, a State Government or any
local authority in which they are engaged as public authorities;

The primary part of the said definition can
be analysed as follows:

(a) Main activity being in the
nature of ‘trade, commerce, manufacture, profession, vocation, adventure, wager
or any similar activity whether or not it is for a pecuniary benefit’;

(b) Incidental/ ancillary
activity to the above business activity;

(d) Any activity in connection
with commencement or closure of business.

A brief history of a similarly worded
definition under the VAT laws may assist us in understanding the scope of the
term. Historically, the term business was not included in the list of
definitions under the Central Sales Tax Act and other General Sales tax
legislation. It was in 1959 where the Madras General Sales Tax Act defined this
term to include trade, commerce, etc. within its ambit. The definition has
evolved over time and attempted to overcome certain infirmities identified by
judicial decisions. It would be very interesting to note that the Courts not
given an unlimited space to this term even-though the said term was defined in
an inclusive manner.

Legal principles on the term ‘business’

The Central Sales Tax Act, 1956 had defined
the said term as follows:

“‘business’ includes,

(i) And trade, commerce,
manufacture or an adventure or concern in the nature of trade, commerce or
manufacture, whether or not such trade, commerce, manufacture, adventure or
concern is carried on with a motive to make gain or profit and whether or not
any gain or profit accrues from such trade, commerce, manufacture, adventure or
concern; and

(ii) Any transaction in
connection with, or incidental or ancillary to, such trade, commerce,
manufacture, adventure or concern”

The said definition is similar, in terms of
coverage, to clause (a) and (b) of section 2(17) of the GST Law. The respective
state enactments also had similar definitions with modifications in terms of
additional clauses widening the coverage of the term. The debate over the scope
of the term business dates back to the decision of the Hon’ble Supreme Court in
State of Andhra Pradesh vs. Abdul Bakhi And Bros [1964] 15 STC 644 (SC),
wherein the Court held that the expression “business” though extensively used
as a word of indefinite import, in taxing statutes it is used in the sense of
an occupation, or profession which occupies the time, attention and labour of a
person, normally with the object of making profit. To regard an activity as
business there must be a course of dealings, either actually continued or
contemplated to be continued with a profit motive, and not for sport or
pleasure.

In another decision (prior to the insertion
of expansive clauses of incidental/ ancillary activity), the Hon’ble Supreme
Court in Raipur Manufacturing Co. Ltd’s case ([1967] 19 STC 1 (SC)) was
examining whether discarded machinery, sale of waste, scrap or unserviceable
material and by-products fall within the scope of the term ‘business’. The
assessee contended that it was not engaged in buying and/or selling of such
material and the said material was not sold with an objective of profit. The Court observed that the term ‘business’ does
not hinge solely on the motive of earning profit though it predicates a motive
which pervades a whole series of transactions effected by the person. The
Court observed that though the volume and frequency of the transaction was
high, the taxable person cannot be said to have the intention of carrying on
business of such items. Though the residuary price may impact the profit and
loss account by reducing the costs, that does not by itself establish an
intention to carry on business in that product.

They are either
fixed assets of the Company or are goods which are incidental to the
acquisition or use of stores or commodities consumed in the factory. Those goods are sold by the Company for a price which goes into
the profit and loss account of the business and may indirectly be said to
reduce the cost of production of the principal item, but on that account,
disposal of those goods cannot be said to become part of or an incident of the
main business of selling textiles. In order
that receipts from sale of a commodity may be included in the taxable turnover,
it must be established that the assessee was carrying on business in that
particular commodity, and to prove that fact it must be established that the
assessee had an intention to carry on business in that commodity. A person who
sells goods which are unserviceable or unsuitable for his business does not on
that account become a dealer in those goods, unless he has an intention to carry
on the business of selling those goods.

In the same judgement, the Court also held
that sale of by-products (caustic liquor) was an incident of the manufacturing
activity of the Company and was includible in the definition of business under
the Bombay Sales Tax Act under the primary clause itself.

‘For reasons
which we have already set out in dealing with “kolsi”, we are of the
view that waste caustic liquor may be regarded as a by-product or a subsidiary
product in the course of manufacture and the sale thereof is incidental to the
business of the Company and the turnover in respect of both “kolsi”
and “waste caustic liquor” would be liable to sales tax.’

Subsequently, in the post amendment period,
the Hon’ble Supreme Court in Burmah Shell Oil Storage and Distributing Co.
of India ltd. [1973] 31 STC 426 (SC) settled some conflicting High Court
decisions and held that the amendment in 1964 has made the intention of
profit as an unnecessary criteria not only to the primary clause,
but also to the secondary clause of the definition of business. In view of this
amendment, canteen sales, sales of advertisement materials and scrap sales were
held to be taxable under the post amendment period even if they were not
conducted with the object of making profit. Though the decision of Raipur
Manufacturing (supra) was held to be not applicable as regard the intention
of profit, in the view of the author, the intention of carrying on trade,
commerce which was cited in the said decision is still relevant.

In a landmark decision of State of Tamil
Nadu and Another Versus Board of Trustees of the Port of Madras, the Court
was examining the taxability of sale of uncleared or abandoned items by a Port
established under a statute performing statutory functions without any objective
of making profit. It was held that, if the main activity was not business then
any connected or incidental activity of sales would not amount to business
unless an independent intention to conduct business is these connected
activities is established. In this backdrop, the Court held that Port Trust was
not engaged in business and hence the activity of sale of uncleared or
abandoned items cannot be termed as a business activity. This ruling is very
important in the context of educational, social and charitable associations and
discussed in later paragraphs.

In another decision in Board of Revenue
vs. A. M. Ansari [1976] 38 STC 577 (SC), auction of forest produce was held
not to be regarded as a business activity in the absence of a frequency of such
activity. The Supreme Court held that volume, frequency, continuity and
regularity of transactions in a class of transactions should ordinarily be
undertaken to be termed as a business activity.

Application of legal principles of the
definition of business under GST Law

The first clause of the definition is the
bedrock on which most of the clauses of definition rest upon. Except for the
inclusion of profession, vocation, adventure, wager, etc., the said
clause is more or less similar to the definition of the business in the central
sales tax and state sales tax statutes. The clause should be understood in a
commercial sense (as understood by the Supreme Court in Abdul Bakshi’s case
supra) except for the requirement of a profit motive. The clause renders the
intention of making pecuniary benefits as an irrelevant factor in deciding
whether an activity is business. Each of the words in this clause could be
attributed a meaning as follows:

– ‘trade’
primarily refers to exchanging of goods for goods or goods for money with a
secondary meaning of being a repeated activity carried on with a profit motive
which is distinguished from agriculture, etc; but in the context of this Act
should also refer to provision of services and not merely goods

– ‘commerce’
refers to a larger volume of trade though there is not specific scale when a
trade is termed as commerce.

– ‘manufacture’
has been used to cover manufacturing activities which do not fall within the
contours of the term ‘trade’.

– ‘profession’
would refer to an occupation requiring intellectual skill or any other manual
skill controlled by intellect.

– ‘vocation’
refers to calling or the way in which an individual passes his/her life; but in
the context of the previous terms should be understood to refer to activities
such as sports, art not undertaken as a professional but for recreation or
pleasure.

– ‘adventure’
would refer pecuniary risks, a venture, a speculation in which there is
considerable risk of loss as well as a chance of gain; and in the context of
the previous terms should be understood as having a feature of trade, commerce,
manufacture, etc. say conducting research activities connected or not with the
primary business.

– ‘wager’
would refer to betting activities where the possibility of success is highly
uncertain.

The second clause includes activities which
are incidental to the primary business activity. The said clause emphatically
requires that the primary activity should be in the nature of business for the
incidental activity also to be included in the definition. This is in line with
the principles laid down by the Madras Port Trust’s case where the primary
activity of the Trust was of non-business character. As rightly pointed out in
the decision, this conclusion should be reached only after ensuring that the
incidental activity should not be an independent activity to fall within the
first clause itself.

The third clause makes the frequency,
continuity or regularity of the primary activity as irrelevant in deciding
whether the activity is in the nature of business, in other words occasional
transactions. This clause overcomes the Supreme Court’s view in H.A.
Ansari’s case which required that there should be some regularity in
dealings for the transaction to be a business and also overcomes a contention
of the assessee that they are not ‘carrying on’ (a degree of continuity) a
business activity.

The fourth clause specifically includes any
transaction in connection with commencement or closure of business. The purpose
of this clause is to remove any ambiguity over such transactions to be ‘in the
course’ of business. Such transactions though strictly not in the course of
business would also be included in the definition of business. Similarly,
transactions which relate to closure of business would be included though they
are strictly not ‘in the course or furtherance of business’.

It can be inferred that the legislature has
intended to cover transactions even having a remote connection with a business
activity and also made the stage of business irrelevant for the definition of
business. As a consequence, the legislature has widened the scope of items
which would be governed under the law. Further, a definition of wide import
would ensure all transactions are eligible for the benefit of input tax credit
since the eligibility of input tax credit (like taxability) revolves around the
transactions being in the ‘course or furtherance of business’. Having said
this, a question arises whether the definition has implicitly excluded
non-commercial activities which are undertaken by social, charitable or public
organisations from its scope. While the definition is qua the activity, in the
view of the author, the status of the organisation performing the activity
should also be kept in mind to understand the intention behind the activity. A
discussion based on the above thought process has been attempted below.

Charitable Trusts and Charitable Activities

The GST Law has conferred certain exemptions
on specified services by charitable organisations; one exemption is with
reference to services of an entity registered u/s. 12AA of the Income-tax Act,
1961 (IT Act) by way of charitable activities; the other is for services by way
of conducting religious ceremonies, renting of religious place meant for general
public and owned or management by an entity registered u/s.12AA or section
10(23C) of the IT Act, provided the rental charges for the room/ hall, etc.
are within the specified limits. The exemption entries are fairly narrow in its
scope and may result in taxation of other non-commercial activities.

The former exemption entry grants benefit on
two counts i.e. (a) the service should be provided by a 12AA registered entity
and (b) such activities are in the nature of charitable activities. One aspect
(i.e. the subject) has been borrowed from the IT Act while the other aspect
(i.e. the subject matter of taxation) has been provided under said notification
itself by way of an explanation.

The coverage of the first aspect of the
exemption entry is purely dependent upon the status of the registration u/s.
12AA of the IT Act. The Income-tax Act provides that exemption would be
available on specified incomes of charitable or religious trusts under the
provisions of section 11 and 12 provided such eligible trusts are registered
u/s. 12AA of the IT Act. The trust may or may not be enjoying complete
exemption from income tax (say in view insufficient recoupment of income for
charitable purposes, etc.). As long as the trust is holding a valid 12AA
registration certificate, it meets the requirement of the first part of the
exemption entry and the said entity would continue to be covered under the said
clause. Therefore, religious trusts, though not strictly carrying charitable
activities exclusively, would still be covered under this clause, since 12AA
registration is applicable even for religious trust.

The other aspect is with reference to the
scope of services which are eligible for such exemption. The trust which is
registered u/s. 12AA is eligible for exemption only for services ‘by way of’
charitable activities. Charitable need not always mean free or without
consideration; charitable would also refer to subsidised or at minimal costs
with an intent to grant a benefit to the recipient over and above what is charged
for that activity. This entry grants exemption from GST on recoveries from such
activities as long as the activities are for charitable purpose i.e. public
health and awareness in respect of specific diseases; advancement of religion,
spirituality or yoga, educational or skill development programmes for specified
persons and preservation of environment.

The said exemption entries are narrow in the
sense that not all social activities would fall within the term ‘charitable
activities’. The larger question that arises is whether an entity not
registered u/s. 12AA or engaged in activities which are not within fold of
‘charitable activities’ under the exemption notification be liable to GST at
all. Framing a legal proposition, would a non commercial entity engaging in
public service, irrespective of whether registered u/s. 12AA of the IT Act or
not, be liable to be taxed under GST. Two simple examples can be taken:

Example 1 – Old Age Homes under a
Charitable Trust (whether registered u/s. 12AA or not)

ABC trust is owning and operating old-age or
orphanage homes. The said Trust owns the land, buildings and the proceeds from
such trust are necessarily required to be applied for the primary object of the
Trust. The Trust has the following sources of receipts – (a) maintenance
charges for the persons admitted at the old age home; (b) renting of precincts
to third parties for their commercial activities; (c) sale of handmade goods by
old age persons; etc. Admittedly, the trust is not a commercial concern
though it is engaging in certain income generating activities. Clause (a) of
the definition requires that there should be an activity in nature of ‘trade,
commerce, etc’ with or without a pecuniary benefit. Though the intention of
profit has been made irrelevant, the intent to engage in business has not been
dispensed with (refer analysis above) in Burmah Shell case. Moreover in the Madras
Port Trust case (supra) the Court held that mere sale of articles cannot by
itself be termed as business unless there is an intention to engage in such
activity. The Hon’ble Supreme Court in Commissioner of Sales Tax v. Sai
Publication Fund [2002] 126 STC 288 (SC) applying the Madras Port Trust
case has held a similar view. Hence, it can be argued that the Old age Trust
should not be subject to any GST on such transaction even though they are
income generating activities i.e. any sale or service cannot be equated to a
business activity, especially in the absence of an intention to engage in such
activity as an occupation.

Example 2 –
NGO engaged in Charitable activities organising a Marathon (whether registered
u/s. 12AA or not)

An NGO which is registered as a 12AA trust
and engaged in charitable activities relating to public health. The NGO
conducts a marathon for collection of funds and uses the same for charitable
activities¹. The NGO collects participation fee for the marathon and
also receives other income from sponsors and advertisers. The said income is
then deployed for charitable activities. The activity may or may not be an
isolated/ non-recurring activity for the NGO. Applying the definition of supply
and business, the question that needs to be answered is whether the aforesaid
income can be said to be part of a trade/ commercial activity and subjected to
GST. Going by the rationale in the previous case study, a stand can be taken
that the NGO is not engaged in trade, commerce, etc. Though clause (c) taxes
transactions which are non-recurring, such transactions should first qualify as
a business transaction as per clause (a). The marathon activity by the NGO
cannot be termed as a trade, commerce activity and hence the NGO cannot be
termed to be in business. However, this is different from an organisation which
organises a marathon and as a practice chooses to donate a portion of proceeds
for a particular social cause. The differentiating factor is the intent behind
the activity which continues to be highly relevant in the scheme of the
definition of business, though the proceeds may meet the same end-use.

____________________________________________________________________________________________

1 There
is a thin line of difference between services ‘for’ charity and service ‘by
way’ of charity. The exemption entry
only covers the latter but not the former.

Example 3 – Employee Welfare Trust

Companies establish welfare trusts wherein
the employees compulsorily contribute a nominal sum towards membership fees.
The trust is established with an objective of medical aid, scholarships to
employees or their dependants. The trust cannot be said to be engaged in a
trade, commerce or such activity and may not fall within the scope of the term
supply. Moreover, the membership fee is strictly not a consideration since the
amount is not paid for a direct inducement of a supply of service of goods
rather it merely establishes an eligibility at the employees to claim a benefit
provided by the trust. It can therefore
be argued that the Trust is not liable for payment of GST.

In summary, the status of the entity, its
objective (incl. that enshrined in charter documents), pattern of dealings and
the importance of the transaction in the scheme of objects would all play a
role in deciding the intent behind the transaction. As repeatedly held by
Courts, the onus of proving taxability qua business transaction is on
the revenue contending the taxability. Similarly, there is a very good case to
argue that the welfare trusts, social trusts and institutions claiming income
tax exemptions u/s. 10(23C), whether charitable or not, can still be said to be
outside the ambit of GST unless they undertake activities which are
predominantly in the nature of trade, commerce, etc.

Mutual Associations (Trade/Non-Trade), etc.

The fundamental requirement for a
transaction to be termed as ‘supply’ in section 7 of the GST law is the
existence of two or more transacting parties (with or without consideration).
The definition of business includes a provision of a facility/ benefit by a
club, association, society or such mutual benefit body as ‘business’. The
question arises is whether in view of this inclusion any activity by a mutual
concern (such as clubs, resident welfare associations, etc.) to its
members results in a levy of GST on the services of such concerns. In order to
answer this question, it may be essential to relook at the principles under income tax and erstwhile service tax regime.

Mutuality Principles under Income Tax
Law

Mutual societies are formed by pooling
resources for the common benefit of all its members. The mutual societies could
be incorporated or otherwise and it would not alter the concept of mutuality.
Under income tax, an association of members forming a mutual group is not
taxable on the surplus resulted in the hands of the association on the doctrine
of mutuality. This is based on the concept that no one can profit from himself
or trade with himself. The profit or surplus merely indicates that the members
have over-charged themselves and they continue to have a right of disposal over
the surplus or even wind up such surplus.

The Hon’ble Supreme Court in Commissioner
of Income-Tax vs. Bankipur Club [1998] 109 STC 427 (SC) laid down certain
requirements to claim the benefit of mutuality:

– Complete identity of the
contributors and the participators i.e. contributors to the common fund and the
participators in surplus should be an identical body

– Legal form of the
association is immaterial

– Mere fact that some of the
members take advantage of the activities
while the others having the right to do so do not avail of this, does not
affect mutuality

– If money is realised from
members and non-members for the same consideration by giving alike facilities
to all, it evidences profit earning motive and commerciality and mutuality
cannot be said to exist (Commissioner of Income-Tax, Bombay City vs. Royal
Western India Turf Club Ltd. AIR 1954 SC 85).

The relevant extract of the judgement is :

“………if the
object of the assessee-company claiming to be a “mutual concern” or “club”, is
to carry on a particular business and money is realised both from the members
and from non-members, for the same consideration by giving the same or similar
facilities to all alike in respect of the one and the same business carried on
by it, the dealings as a whole disclose the same profit-earning motive and are
alike tainted with commerciality. In other words, the activity carried on by
the assessee in such cases, claiming to be a “mutual concern” or “members’
club” is a trade or an adventure in the nature of trade and the transactions
entered into with the members or non-members alike is a trade/business/transaction
and the resultant surplus is certainly profit income liable to tax……”

In a more recent case of Bangalore Club
vs. CIT [2013] 350 ITR 509 (SC), the Court denied the benefit of mutuality
on the basis that surplus funds which were loaned to a member bank against
interest were at the disposal of such member who used it for commercial
operations. In other words, diversion of funds to third parties or even members
for exclusive use would adversely affect the concept of mutuality and taint the
society with a commercial nature, though to the extent the mutual operations
continue, such benefit would be available.

Mutuality Principles under Service
Tax Law

The service tax law vide Finance Act, 2006
and subsequently in the negative list scheme had by insertion of an explanation
treated a club or association and its members as distinct persons. The
explanation was attempted to dissect the principle of mutuality and impose
service tax on the services of a club or association to its members. A dispute
arose with regard to the impact of the explanation on the club or association
services provided by such mutual associations. The High Court in Ranchi Club
Ltd vs. CCE, Ranchi (2012) 26 STR 401 (Jhar) differentiated between a
‘members club’ and a ‘propreitory club’ for incorporated associations. In a
members club, every member is a shareholder and every shareholder is a member
with no third party transaction and there is no separate legal person in such
case. However, in a propreitory club, where certain shareholders are members or
certain members are shareholders; or members are not owner of the property of
the club, then the club and its members are distinct persons. The Court
followed the decision of the Supreme Court in Joint Commercial Tax Officer
vs. The Young Men’s Indian Association – 1970 (1) SCC 462, which held that
in a member’s club, the club is merely acting as an agent for its members in
the matter of supply of various preparations and there could not be a ‘sale’ in
such arrangements.

In order to tax a mutual concern, it is
imperative that the legislature breaks through the concept of mutuality by
fictionally delinking the mutual society from its members. In the current GST
law, the provisions do not fictionally define the club or its members as
distinct persons or alter the status of mutuality, The inclusion in the
definition of business merely treats the activity as a business activity.
Neither does the current definition of ‘supply’ nor the charging section of GST
law treat the club and its members as distinct persons. In fact, the case of
seeking GST from clubs or mutual society is on a weaker footing in comparison
to the service tax law as there is no parallel to Explanation 3 of section
65B(44) of the Finance Act, 1994, in the current GST law. In fact, in few
specific instances, the deeming fiction to treat branches in two States or in
two countries as distinct persons or supplies between principal and agent as
deemed supplies has been introduced. In the absence of such deeming fiction, it
can be argued that the limited role which the said clause performs is include
the activity as a business activity for the club, association or mutual
society. The said analysis could be applied in the following case studies:

Example 1 – Resident Welfare associations
(RWAs)

RWAs are established for the mutual welfare
of the residents of a particular locality. RWAs collect maintenance fees, rent
out space for commercial establishments, hoardings, etc. The said
associations are formed by the residents with periodical contributions which
are utilised for the maintenance of common areas of the resident establishment.
In the process, it derives income from third parties from the common area but
for the sole purpose of reducing the maintenance costs to residents of the
establishment. Section 7 defining supply requires that there has to be a supply
to another for consideration for it to be termed a supply. The maintenance fee
collected by the RWAs from its members cannot be termed as a transaction
between two parties (in view of the concept of mutuality) and consequently be
outside the scope of taxability. The exemption entries for RWAs (Rs. 5,000/-
per month) may really not have any application to associations which are
conforming to the concept of mutuality.

Renting service by the RWAs to third parties
would not fall within the concept of mutuality. Yet, in such transactions, a
contention can be made that the renting services by RWAs are for the purpose of
reduction of costs of the RWAs and therefore not a business activity in the
sense of being a trade, commerce, etc. It may also be noted that section
2(17)(e) covers only services and facilities to members within the scope of
business and not services and facilities to non members.

Another example would be with respect to the
club facilities which are housed in the RWAs. If the in-house club is
maintained and operated by the third party and the association merely rents out
the place which houses the club, the principle of mutuality would not apply and
GST would be applicable on the services rendered by the third party club. But
where the club is being operated by the association itself, the ground of
mutuality can certainly be taken and GST may not apply in such circumstances.

Example 2 – Clubs or association services
(RWAs)

Clubs provide several facilities to its
members including recreation, restaurants, renting of space, etc.
Member’s clubs operate on the principle of mutuality, own properties on behalf
of the members and hold the funds/ contribution for the members. The club would
have to conforn to the conditions to establish mutuality based on the
principles in Bankipur’s case. While article 366(29A) contains a specific
clause to tax on ‘supply’ of goods by an unincorporated association or body of
persons to a member for consideration as a sale of goods by such association to
its members, the said clause cannot on its own trigger taxation in GST regime
on account of the following reasons:

– The
Calcutta Court in State of West Bengal and Ors vs. Calcutta Club Limited
[2008] 14 VST 499 (Cal) held that though article 366(29A) has been amended,
the vital requirement of consideration continues to be present in the sales tax
law. In a members’ club, the charges paid for the services are merely
reimbursement of the costs incurred by the club and cannot be termed as
consideration between the club and the members².

2 It may be noted that this matter has been
referred to a larger bench of the Supreme Court vide decision [2016] 96 VST 20
(SC) State Of West Bengal And Others vs. Calcutta Club Limited, but in the view
of the author, the decision of the Calcutta High Court states the correct
position of law.

– The
effect of the deeming fiction of Article 366(29A) has not been percolated in
the GST law in the definition of supply or taxable persons (and only in a
limited way in Schedule II of the Act). The requirement of two persons and a consideration
in mutual societies is still wanting in the current GST law.

– Article
366(29A) applies to ‘supply of goods’ and does not apply ‘supply of services’ –
also refer Entry 7 of Schedule II of the GST law. Therefore, a restaurant
services by a mutual society is deemed to be a supply of service & would
not be covered by the said entry.

– Section
25(4) and (5) of the GST law does not seem to cover the aspect of distinct
persons for a club and its members.

The author does see a certain challenge in
taking the stand over non-taxability in view of entry 3 of Schedule I which
deems a supply of goods by an agent to its principal as a GST transaction. This
is in view of the Court observations that clubs operate as an agent of the
members in performing its function. But it may also be noted that the
definition of ‘agent’ does not strictly cover the classes of persons like a
club, society, etc. and hence, may stand excluded.

The exercise of examining the business
aspect of a transaction is a double-edged sword since any attempt to exclude an
act from the term business would have potential consequences over the input tax
credit claim u/s. 17(1), on the ground of it being used either wholly/ partly
for a non-business activity.

This is on the basis that an input or input
service or capital goods on which credit is proposed to be claimed should
necessarily be used ‘in the course or furtherance of business’ for it to be
eligible for credit. But there would certa inly be fresh litigation on the
definition of business and last word is far from being stated.

shailesh.kwebmaker

IGST Framework – Constitutional Aspects

This article is limited to examining the Integrated Goods and Service Tax (‘IGST’) framework in the backdrop of the provisions of Indian Constitution. Specific case studies/ challenges arising under the IGST law would be examined in a separate article.

CONCEPT OF IGST UNDER THE INDIAN CONSTITUTIONAL SCHEME
The Indian constitutional system possess features of a federation with strong unitary elements making it a ‘Union of States’. On these lines, Article 246 of the Indian Constitution provides for the demarcation of legislative powers between the Union and States, with residuary powers resting with the Union. In the context of fiscal powers, the legislative lists clearly demarcate the fields of legislation between the Union and the States and restricts each of them from encroaching the other’s arena. This constitutional set up posed a mammoth task for policy and law makers in designing a suitable GST model for India; ultimately leading to the promulgation of the 101st Constitutional Amendment.

DEVIATION FROM THE CONSTITUTIONAL SCHEME PREVALENT UNTIL NOW
The taxation scheme prevalent after the 101st Constitutional Amendment is a fundamental departure from the mutual exclusivity of fiscal powers between the Union and the States. The policy makers were faced with a tight balancing act of harmonising the tax structure in India across States on the one hand and retaining their constitutional independence on fiscal matters on the other. Instead of granting mutually exclusive taxing powers to Governments by creating specific entries in their respective list of the Seventh Schedule to the Constitution, it was decided to confer parallel/ simultaneous powers (not part of the Concurrent List) through a specific article in 246A. The Union and the respective States would legislate and the corresponding Governments would administer the laws within their respective territory. A parallel power structure was a conscious attempt to ensure harmony in fiscal decisions among the Union and Group of States.

This gave rise to the next challenge over addressing the geographical jurisdiction of States specifically over transaction such as inter state transactions, export, import etc having an element of another geography. It also leads to a supplementary issue of revenue allocation between the States on such transactions. To avoid the tax chaos prevalent in the Pre Central Sales Tax period, ie multiple States seeking to tax the same transaction on the claim that one of many aspects of a sale transaction occurred in their State (such as delivery, transfer of property, etc), which resulted in overlap in taxation on the same event, the Parliament was placed with the responsibility of laying down a robust law governing principles over the jurisdiction of transaction between the States, Dispute Resolution and also international transactions. The idea of implementation of IGST model in India was mooted to tackle this particular problem.

ECONOMICS BEHIND THE IGST LAW
Economically speaking, IGST is a bridge enabling flow of the SGST component of revenue from the Supplier State to Recipient State. Under the erstwhile origin based scheme of CST/ VAT, the State collecting the tax at the point of origination retained the revenue arising from such sale, contrary to the principle of taxing consumption. On this count, it hampered the consuming state to give any tax credit on inter-state purchases and resulted in CST being loaded on the purchase costs.

The GST law, which is guided by consumption (elaborated later) has adopted a modified version of taxing such transactions enabling the flow of revenue to the State of Consumption. The broad modalities are as follows:

– Inter-state supplier will collect the IGST and remit it after adjusting available credit of IGST, CGST and SGST on his purchases

– Supplier state will transfer to the Union Government the credit of SGST payment, if any, used in payment of IGST

– Union Government would apportion the SGST component to the State in which the consumption of the supply takes place (place of supply)

– Importing consumer will consume the goods or services in the State and the State would be entitled to retain revenue on this consumption (B2C transactions)

– Importing dealer will claim credit of IGST while discharging his output tax liability in his own state (B2B transactions) and the chain would continue until final consumption either in the same State or else-where.

Prior to venturing into the IGST laws and the specific provisions, it would be appropriate to understand the basic concepts/ definitions of the IGST Law which would have to be applied to IGST transactions. The concepts are sequentially examined.

1. Territorial Jurisdiction v/s Extra-territorial Nexus

Section 1 of the IGST Act defines the extent of the law and states that the Act extends to the whole of India except to the State of Jammu and Kashmir. With the Integrated Goods and Services Tax (Extension to Jammu and Kashmir) Ordinance 2017, the words “except Jammu and Kashmir were omitted”. This Ordinance came into force w.e.f. 08-07-2017.

Without examining the scope of the term India and its statutory extensions, it would be important to examine the legislative limits of the enactment. The general principle, flowing from the sovereignty of States, is that laws made by one State can have no operation in another State. An issue arises in case of transactions which are said to be undertaken wholly or partly outside India. In the context of Income tax Act, 1922 a challenge was made to the vires of the then section 4(1)(b)(ii) of the said Act which imposed income tax on a branch of the assesse which earned income outside of British India. The Privy Council examined pari-materia provisions of the Article 245(2) (in the Government of India Act, 1935) and upheld the imposition stating:

“The resulting general conception as to the scope of Income tax is that given a sufficient territorial connection between the person sought to be charged and the country seeking to tax him Income-tax may properly extend to that person in respect of his foreign income.”

Subsequently, the Hon’ble Supreme Court in Electronics Corporation vs. CIT & Anr 1989 AIR 1707 (SC) was examining whether technical services provided abroad could be taxed in India on the ground of extra-territorial applicability of law. The Court upheld the doctrine that territorial nexus is an essential ingredient for exercising jurisdiction over a transaction though it left the parameters of determination of nexus slightly open ended.

Subsequently, on a reference made in the above case to the constitutional bench in 2017 (48) S.T.R. 177 (S.C.) GVK Industries Ltd vs. Income tax Officer wherein the Court made detailed observations on the inter-play between territorial limits and exterritorial operation of a law. Furthering the case in Electronics Corporation of India, the Court set down four extreme views for consideration on the proposition of ‘nexus’:

i.   Rigid view – State would have powers if “aspects or causes that occur, arise or exist, or may be expected to do so, solely within India”.
ii.   Slightly liberal view – State would have powers if the event had significant or sufficient impact on or effect in or consequence for India
iii.   Even more liberal view – State would have powers as long as some impact or nexus with India is established or expected
iv.   Extreme view – State has powers to legislate for any territory without any limits.

The Court also explained the contextual meaning of the terms for purpose of application of the nexus theory:

– “aspects or causes”
events, things, phenomena (howsoever commonplace they may be), resources, actions or transactions, and the like, in the social, political, economic, cultural, biological, environmental or physical spheres, that occur, arise, exist or may be expected to do so, naturally or on account of some human agency.

– “extra-territorial aspects or causes”
aspects or causes that occur, arise, or exist, or may be expected to do so, outside the territory of India

[1] [1948] 16 ITR 240
(PC) PRIVY COUNCIL Wallace Brothers & Co., Ltd. v.Commissioner of
Income-tax

[1] Article 245(2)
holds that any statute would not be declared invalid on the ground of
extra-territorial operation

– “nexus with India”, “impact on India”, “effect in India”, “effect on India”, “consequence for India” or “impact on or nexus with India”

any impact(s)on, or effect(s) in, or consequences for, or expected impact(s) on, or effect(s) in, or consequence(s) for : (a) the territory of India, or any part of India; or (b) the interests of, welfare of, wellbeing of or security of inhabitants of India, and Indians in general, that arise on account of aspects or causes.

The Court finally held that the Parliament is certainly restricted from enacting laws with respect to extra-territorial aspects or causes which are not expected to have any direct or indirect tangible / intangible impact to the territory of India. The Court had also strongly refuted the reliance on Article 245(2) and distinguished extra-territorial ‘applicability’ from extra-territorial ‘operation’ of law.

2. Territorial Aspects Theory

Furthering the point of the Court, we may now dissect the law to identify the ‘aspects’ the IGST law adopted in its structure:
•   Supply of Goods or services
•   Location of supplier
•   Place of supply which is inter-dependent on certain elements of a transaction
•   Location of recipient

In applying the territorial aspect theory, it may be fruitful to understand the conceptual role of each of these aspects in the GST law and look for clues which lead to a reasonable answer on the territorial nexus:

a) Scope of Supply (Section 7 of CGST law) – while this is popularly referred as the definition of supply or as the ‘taxable event’, the placement and the verbiage do not clearly suggest so. In fact, the specific inclusion of ‘import of services’ within the scope perhaps may provide an indication that this provision also somewhere examines the situs.

b) Location of Supplier (Section 8 and 9 of IGST Law) – this phrase assists in deciding the location of the supplier of goods or services. It plays a role in deciding the character of the transaction (inter-state or intra-state). Generally speaking, it is the supplier who is the taxable person in GST and the jurisdiction exercised by Central & State authorities is based on his location.

While the location of supplier of goods has not been defined, the location of supplier of services has been defined. The definition states the location would generally be the place for which registration has been obtained. As it is defined, place of business refers to a physical and sufficiently permanent structures for which registration is obtained. It also states that where a service has been rendered from a fixed establishment, the said fixed establishment would be termed as the location of supplier. In case of such multiple establishments, the establishment most concerned may be considered as the location. In the absence of any such location, the usual place of residence of the supplier. In effect, the said concept fixes the situs of the ‘from’ location of a supply of goods or services. It identifies the origination of a supply which is relevant for the purpose of collection of taxes.

c) Place of Supply (Section 10-13 of IGST Law) – Place of supply represents the place of consumption (place of supply is a misnomer). In the context of goods, the IGST law is guided by the destination of goods to ascertain the place of supply except in stray cases where a destination cannot be pointed to a particular location (such as supply of goods on board a conveyance). Services, being an intangible activity cannot be fixed to a destination; but being an economic activity, it is generally presumed that the location of the recipient is its place of consumption (except for transaction where consumption can be clearly tagged to a location say immovable property services, etc.). Even in the context of cross border transactions, goods and services are generally considered as consumed at their destination or location of recipient of registered person.

The Place of supply is also a proxy for the State which would be entitled to the SGST component of the revenue in terms of the Apportionment and Settlement Provisions of IGST Law (Section 17(2)(2) of IGST Law). This is significant from two counts (a) it enables transfer of GST revenue to the State of consumption; (b) enables the State to maintain the value added tax chain (in B2B transactions). Therefore, the place of supply determines the place of consumption (as per law) and the geography which is entitled to the revenue on account of its consumption. It is on this principle that exports are zero-rated as the place of consumption is said to occur outside India. Similarly, imports are taxed under reverse charge provisions on the basis that the place of consumption is in India. The IGST has pivoted on the place of supply for identification of consumption and assigning the revenues to the jurisdiction in which the consumption has taken place.

d) Location of Recipient (Section 2(14) of IGST Law) – This aspect of a supply transaction is primarily inter-twined into the place of supply provisions for services. It is generally assumed internationally that services are consumed at the location where the recipient is located and registered. Where the services are consumed at an establishment elsewhere, the location of such establishment would be considered as the place of consumption. The location of recipient enables the law makers to fix the place of consumption of services.

GST is a fiscal law aimed at garnering revenues for a State. Among the four aspects stated above, it appears that the Place of Supply (i.e. consumption) assumes significant importance in the scheme of things. Though the place of the supplier is the point of ‘collection’ of taxes from the taxable person, it ultimately narrows down to the place of supply of every transaction. Even if a supplier state has collected taxes, it cannot retain this revenue and would have to transfer it to the account of the state where the ultimately consumption takes place. In the context of services, the State in which the recipient is located which would be entitled to revenue on this transaction.

Even placing an eye on export of goods and services, one gets a view that destination of such activity drives the benefits of zero-rating. In the context of import of services, the law makers through a provision of reverse charge directed the State of consumption itself to collect and retain the tax on such transactions.

In order to further cement one’s view on this proposition (having ramifications on cross border trade and commerce), it may be useful to extract further clues from the law on this front:
•   Proviso to section 5 of the IGST law carves out an exception from applicability of IGST law on imported goods until they cross the custom borders for home consumption. Therefore, even if goods arrive at the customs port for purpose of transhipment to another country, the IGST law refrains from taxing such transactions on the destination principle. Circular No. 33/2017-Cus dt. 01.08.2017 clarifies in the context of High seas transactions that only the last buyer of the chain would be required to pay IGST.
•   One may also test an out and out transaction from a State territory perspective and possibly extrapolate this to the Central law to examine international territorial aspects. Say A stationed in Mumbai buys goods from Madhya Pradesh and asks the transporter in Madhya Pradesh to directly deliver the same to a customer in Gujarat. Even-though the dealer is located in Maharashtra, the law makers have excluded this transaction from the purview of MH-GST and brought the same under the IGST law. Looking at it from a MH GST perspective (also see Article 286), this transaction would be an ‘outside State’ transaction for Maharashtra inspite of the supplier being located in Maharashtra. The limited point which emerges is that the location of the supplier is not a conclusive aspect for territorial nexus. Applying this at an international scenario, IGST law should also not tax goods movement from China to Singapore merely because the supplier is located in India. Now it seems simple for goods, it becomes slightly more complex for merchanting services in the absence of a physical trail of events.
•   While the law has placed dependence on the location of the supplier and recipient to identify the trail, in which case, it may be considered as import of services coupled with export of services, in cases where the services can be demonstrated to have been supplied outside India and consumed outside India, can these proxies result in a tax liability or will it amount to an extra-territorial jurisdiction?.
•   Under the IGST law, there is a residual clause (section 7(5)(c)) which deems a transaction as an inter-state transaction if it is neither classified as intra-state nor inter-state. Importantly, the clause uses the phrase ‘in the taxable territory’ implying that some aspect of the transaction (specifically the place of supply) should take place in the taxable territory for the law to apply. Simple example could be of services being delivered to off shore structures in the exclusive economic zone which would be termed as inter state supply on this count since the place of consumption is attached to the structure located therein.
•   In the context of cross border transactions (incl. tax on United Nation Organisations, and similar institutions), emphasis has been to tax the inward supply into India in the hands of the recipient. Inward supply refers to ‘receipt of goods or services’. Unless the goods or services are strictly received by the recipient of such supply, the transactions cannot be taxed in India.

In summary, among all the aspects of a transaction, is seems evident that the place of supply drives the taxability and among all aspects, the legislature intends tax on only transactions where the place of supply is in India. The location of the supplier though important in law for operation of law, it is only for the limited purpose of collection of tax. A transaction can be considered as extra-territorial if the place of supply is outside its fiscal limits.

3. Meaning of India

“India” has been defined in section 2(56) of the CGST Act (reference from Section 2(24) of the IGST Act) to mean the territory of India as referred to in Article 1 of the Constitution, its territorial waters, seabed and sub-soil underlying such waters, continental shelf, exclusive economic zone or any other maritime zone as referred to in the Territorial Waters, Continental Shelf, Exclusive Economic Zone and other Maritime Zones Act, 1976 (80 of 1976) (Maritime Zones Act) , and the air space above its territory and territorial waters .

As per Article 1 of the Indian Constitution, India is defined as a Union of the territories of the State and Union Territories specified in the First Schedule of the said constitution. India exercises sovereign rights over this land mass. International UN convention has laid down principles for defining the territorial jurisdiction over international waters extending beyond the land mass of coastal States. Part V of the said convention (specifically article 57 and 60) specifically grant India exclusive jurisdiction in matters of customs, fiscal, health, safety, etc over the artificial islands, installation / structures for explorative and research activities in such zone. In line with the international UN Conventions, the aforesaid Act was legislated in 1976 giving India specific powers over these Maritime zones.

Section 7 of the Maritime Zones Act grants powers to India to exercise sovereign rights over the exclusive economic in line with the rights and limitations under the UN convention. Sub-section (7) grants powers to the Central Government to notify any enactment to extend over this territory and the area would be considered as part of India under the enactment.

A question arises on whether the Central Government has to necessarily issue a notification under the IGST law for it extend to the exclusive economic zone (similar to the Customs Act) or is the definition of India spreading its wings over to such maritime zones itself sufficient. Section 7 and 8 of the Maritime Zones Act, 1976 empowered India to exercise exclusive rights for specific purposes enlisted therein (such as exploration, research, etc). Sub-clause (6) of the said sections grant powers to the Central Government to extend any enactment for the time being in force to such maritime zones. The Customs Act 1962, Excise Act 1944 contained respective notifications extending itself to the said zones. However, the Central Sales Tax Act, 1956 (CST) did not contain such notifications on this aspect. A challenge was made in the Gujarat High Court on the applicability of CST on transactions which were moved to the off-shore rigs in the exclusive economic zone. The High Court in Larsen & Toubro vs. Union of India (2011) 45 VST 361 (Guj) struck down the imposition on the ground that no such notification has been issued under the CST law and the enactment cannot extend to such areas until such effect is given. In the context of service tax, the Bombay High Court in Greatship (India) Ltd. vs. CST, Mumbai 2015 (39) S.T.R. 754 (Bom.) was interpreting a subsequent notification which enlarged a preceding notification with respect to the exclusive economic zone. Since the preceding notification was limited to services rendered to off-shore rigs, services by off-shore rigs was held as not taxable. The Court stated that the subsequent notification both services to or by off-shore rigs or vessels cannot be read as clarificatory.

However, it may be noted that the above propositions held good in the context of the specific laws. It can be argued that no such notification is required under the CGST/ IGST law for the Act to apply to such maritime zones on account of the following reasons:

•   The Parliament has itself defined the extent of India’s area in the enactment to spread to such maritime zones, which power it derives under Article 297(3) of the Constitution
•   The Central Government has been empowered to extend an enactment for the law which is in force at the time of enactment of the Maritime Zones Act, for obvious reasons to avoid a legislative amendment to laws prevailing at that time. Subsequent enactments which itself covers such areas need not depend on a notification for its applicability
•   The Customs law had a restricted meaning to ‘India’ to its territorial waters and hence warranted such a notification. However, the IGST law itself expands its definition to such maritime zones. When Act itself has defined India, it need not seek any support from a delegated legislation to give effect unless the enactment states so.
•   The Maritime Zones Act and the UNCLOS itself state that India can exercise ‘sovereign rights’ for specific purposes which also includes in itself taxation rights provided it is limited to the specific purposes.

Therefore, the decision of the Gujarat High Court in Larsen & Toubro’s case can be distinguished in the context of the GST Law.

4. Applicability of the above Concepts

We would apply the above concepts in a merchanting trade transaction. Assuming the IGST law has to be applied on A located in Maharashtra (India), certain variants have been tabulated and the possible views have been provided:

[3] The said Act was
legislated drawing powers from Article 297 of the Indian Constitution which
stated inter-alia that all resources of exclusive economic zone vest with the
Union of India

[4] Geneva Conventions
on Territorial Sea and Contiguous Zone, Continental Shelf and High Sea, and the
United Nations Conventions on the Law of the Sea (UNCLOS) which was adopted on
29 April 1958 and 10 December 1982

Scenario – Supply of Goods

Taxability

Reasoning

Goods purchased from UK and directly shipped to USA
from UK

Neither purchase nor sale transaction is taxable on
extra-territorial grounds.

Of course, additional customs duty equivalent to IGST
can be imposed u/s.3(7) of the Customs Tariff Act, 1975

‘Place of Supply’ – Aspect and impact of law is
outside India and hence outside the scope of IGST Law. Moreover, proviso to section 5(1) of IGST
law excludes its applicability until the goods are imported into India (i.e.
territorial waters)

Goods purchased from UK and transferred by
endorsement in High Seas (beyond 200 Nautical Miles) to a person outside
India

Neither purchase nor sale transaction is taxable on
extra-territorial grounds.

Same as above, with additional reliance from the
Customs Circular 33/2017 dt. 01.08.2017 which states that High Sea Sales are
not taxable and it is only the last buyer in the chain who clears the goods at
the customs station that would subject to tax.

Goods purchased from UK and document to title of
goods was transferred while the goods are within 12 nautical miles from India

Neither purchase nor is taxable on account of proviso
to section 5(1) of the IGST Law. One
cannot take the plea of extra-territorial levy

Place of supply may be said to be in India but the
proviso to section 5(1) excludes such transactions from the purview of IGST
law. The customs law on the other hand
imposes the duty (incl. IGST) only at the time of custom clearance. Above customs circular supports this
position.

Goods purchased from UK and document to title of
goods was transferred to a person in India while goods in continental shelf

Same as above

Same as above.
Moreover, rights of taxation under the Maritime law is limited to
explorative activities only.

Goods purchased from UK and document of title of
goods transferred to a person in India while the goods are under customs
bonding

Same as above

Same as 3.
Customs law has exclusive rights to tax this transaction. Until the goods form part of home
consumption, IGST law has no powers to tax this transaction. Customs Circular No. 46/2017-Cus dt.
24.11.2017 has failed to articulate the tax position clearly (refer note
below).

Goods purchased from UK and re-exported to Singapore
while under customs bonding

Same as above

Same as 3.
Section 69 of the Customs law permits re-export of warehoused goods
without payment of import duty.

Note – CBEC Circular 46/2017-Cus has taken a contradictory stance while clarifying the taxability of Bond to Bond Transfers.

In short, the said Circular states that sales while the goods are under bonding are subject to IGST in the hands of the seller in terms of section 7(2) read with section 20 on the entire sale price. Further, the customs duty applicable on import transaction would be payable at the time of ex-bonding of goods for home consumption. The circular is incorrect in its interpretation on account of the following:

• The circular failed to appreciate the presence of proviso to section 5(1) of the IGST law which excludes the applicability of GST until clearance of home consumption of such goods
• It has also lost sight of its preceding Circular No. 11/2010-Cus., dated 3-6-2010 which categorically states that the levy of custom duty is fixed at the time of import and filing of the into-bond bill of entry and deferred until ex-bonding of such goods.

Incidentally, the Finance Bill, 2018 has proposed an amendment to the Customs Tariff Act, 1975 which requires that additional customs duty (in the form of IGST) in case of bonded goods would be calculated on the last transaction value of such goods prior to de-bonding (ie purchase consideration of the last buyer). Use of last transaction value as the basis of collection of IGST, by implication, affirms the stand that only the last buyer of the chain is liable to pay IGST. The law does not intend to tax the intermediate transactions under the IGST law. It is a case of deferment of payment of tax until clearance of such goods for home consumption.

5. Implications from this conclusion

It should be appreciated that the IGST model is a novel idea for implementation of GST. Many federations across the globe have struggled to implement a hybrid model. India has taken the bold step of implementing such a model in the form of a IGST law. The Centre is given more importance in this scheme. It would receive its share of revenue (CGST component) one way or the other. The tussle would be on the SGST component wherein each State may claim to be the Consumption State and extract a share of the IGST revenue. While the industry would hope that it is not transported back to the pre-CST period, certain pockets of the IGST law would require intervention of the Courts, else the tax payer would be sandwiched in this tussle for tax revenue. Other detailed aspects of the law would be examined in a subsequent article. _

shailesh.kwebmaker

GST – Case Studies On Valuation (Part-2)

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 S₁and 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

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. _

shailesh.kwebmaker

Place Of Supply – Immovable Property Based Services

Introduction

In the previous article, we had examined the Integrated Goods and
Service Tax (‘IGST’) framework in the backdrop of the provisions of the
Constitution. The IGST framework dealt with the concept of location of supplier
and place of supply (‘POS’) which aids in determining whether a supply is to be
treated as intrastate or interstate and accordingly, helps in determining the
applicable tax (CGST + SGST in case of intra-state and IGST in case of
interstate).

There are specific provisions prescribed for determination of place
of supply for both goods as well as services under Chapter V of the IGST Act.
Sections 10 & 11 thereof deal with goods while Section 12 deals with
services where both the supplier as well as recipient are located in India and
section 13 deals with services where either the supplier or recipient is
located in India.

The general rule for determination of place of supply is that the
location of the recipient is to be treated as POS except for cases where the
recipient is unregistered and his address on record is not available, in which
case location of supplier is treated as the POS.

This general rule
is subject to various exceptions where the POS is to be determined in a
different manner. One such exception pertains to cases where services relate to
immovable property and the same is covered u/s. 12 (3) in cases where both the
service provider and the service recipient are located in India. In cases where
either the service provider or the service recipient is located outside India,
Section 13(4) is applicable. In this article, we shall specifically deal with
the said exception and the issues revolving around it.

Relevant
Provisions

Section 12
of the IGST Act

(3) The
place of supply of services–

(a) directly in relation to an immovable
property, including services provided by architects, interior decorators,
surveyors, engineers and other related experts or estate agents, any service
provided by way of grant of rights to use immovable property or for carrying
out or co-ordination of construction work; or

(b) by way of lodging accommodation by a
hotel, inn, guest house, home stay, club or campsite, by whatever name called,
and including a house boat or any other vessel; or

(c) by way of accommodation in any
immovable property for organising any marriage or reception or matters related
thereto, official, social, cultural, religious or business function including
services provided in relation to such function at such property; or

(d) any
services ancillary to the services referred to in clauses (a), (b) and (c),
shall be the location at which the immovable property or boat or vessel, as the
case may be, is located or intended to be located:

Provided
that if the location of the immovable property or boat or vessel is located or
intended to be located outside India, the place of supply shall be the location
of the recipient.

Explanation.––Where the immovable
property or boat or vessel is located in more than one State or Union
territory, the supply of services shall be treated as made in each of the
respective States or Union territories, in proportion to the value for services
separately collected or determined in terms of the contract or agreement
entered into in this regard or, in the absence of such contract or agreement,
on such other basis as may be prescribed.

Services directly in relation to Immovable
Property

The practice of treating the place of supply as the location of
property in case of transactions involving immovable property is not new. Even
under the service tax regime, Rule 5 of the Place of Provision of Service
Rules, 2012 which dealt with the determination of place of provision of service
was similarly worded. However, with the concept of dual GST, this provision has
its’ own ramifications. This is because GST is a state specific law. Therefore,
deciding the type of GST applicable (CGST + SGST vs. IGST) is very important.
More importantly, in cases where the recipient of supply is not registered in
the State where the immovable property is located, the credit is lost even if
the recipient uses the services in the course of his business.

For instance, if a supplier is providing services of renting of
immovable property, in such a case, he will have to consider the Place of
Supply as the state in which the immovable property is located, whether or not
the recipient is registered in that state. Same position will apply even in
case of other transactions such as supply of maintenance and repair services
relating to immovable property. All these services apparently have a direct
relation with an immovable property and therefore, would rightly get classified
under this particular rule.

While in general, the recipient of renting service would be
registered in the state where the immovable property is located if he is into
business, the challenge may arise in case of hotels. Most companies use hotel
facilities in other states for the stay of their executives while on business
trips. Such companies may not have any branches or fixed establishments in
other states and therefore may be unregistered. This results in loss of credit
since the hotel would charge CGST & SGST relevant to that State in view of
the place of supply provision mentioned above.

Moving forward, what is meant by the phrase “directly in relation to
immovable property” needs to be analysed, as there are many other transactions
where the services involve use of immovable property as well, but there are
other factors which are also related with the supply of service and hence,
classification under this rule might not be applicable. Let us understand this
with the help of following examples:

Example 1 – ABC is a container freight
station located in Nhava Sheva. DEF, a manufacturer exporter has received an
order for export of goods from Nhava Sheva and has accordingly dispatched the
goods from his factory. When the goods reach Nhava Sheva, the exporter is
informed that the ship in which the goods are to be exported out of India will
berth at the port after 15 days and hence, DEF is required to make temporary
arrangements to store his goods. DEF enters in to a contract for the same with
ABC. The issue in this case would be whether the POS is Maharashtra, being the
location of immoveable property or Gujarat, being the location of recipient? If
ABC, taking a conservative view, classifies the service under this clause, it
would impact the credit availment for DEF as they are registered only in
Gujarat and hence, the credit of taxes for supplies consumed in Maharashtra
would not be available to them. Therefore, they are contending that the
exception clause is not applicable as the services provided by DEF are not
directly in relation to the immovable property.

Example 2 – An advertising service provider provides service in the
context of Out Of Home Advertisements. Under this model, the advertiser takes
on rent advertising space across the country by entering into agreements with
various landlords. Subsequently, the service provider enters into advertising
contract with various clients to allow the display of the advertisements from
such locations. In this context, while the services supplied by the landlords are
directly in relation to an immovable property, can the same be said for the
second leg of the transaction since the service is in relation to advertising
activity, which is distinct from leasing of an immovable property?

Before actually
analysing the above issues, we shall first discuss the following two terms,
which form the crux of this particular entry:

Scope of the phrase
“in relation to”

Directly in relation to – to be applied to what extent

The scope of the phrase “in relation to” has been dealt with by the
Supreme Court in the case of Doypack Systems Private Limited vs. Union of
India [1988 (036) ELT 0201 SC] in the context of Swadeshi Cotton Mills Co.
Limited (Acquisition and Transfer of Undertakings) Act, 1966. The issue was
whether the investments owned by the undertaking were also covered under the
provisions of the said Act and liable for acquisition? The Act provided that on
the appointed day “every textile undertaking” and “the right, title and
interest of the company in relation to every textile mill of such textile
undertakings” were transferred to and vested in the Central Government and such
textile undertakings would be deemed to include “all assets”. The contention of
the Appellants was that the investment in shares of the company were not in
relation to textile mills/undertakings and hence, they were not liable for
nationalisation.

The Supreme Court in the above case held that the expression “in
relation to” is a very broad expression which pre-supposes another subject
matter. These are words of comprehensiveness which might both have a direct
significance as well as an indirect significance depending on the context. The
Court also referred to 76 Corpus Juris Secundum at pages 620 and 621
where it is stated that the term “relate”’ is defined as meaning to bring into
association or connection with. It has been clearly mentioned that “relating
to” has been held to be equivalent to or synonymous with as to “concerning
with” and “pertaining to”. The expression “pertaining to” is an expression of
expansion and not of contraction.

From the above, it is more than evident that the term “in relation
to” has to be given a very wide interpretation. This however gives rise to the
next issue, and that is when a service is said to be in relation to immovable
property. While the GST law is silent about this respect, under the service tax
regime, the Education Guide issued by CBEC at the time of introduction of
negative list-based taxation explained that for a service to be considered in
relation to immovable property, the same should consist of lease, right to use,
occupation, enjoyment or exploitation of an immovable property or service
should have to be performed on the immovable property.

In this background, let us try to understand the above clarification
with an example. A lawyer, having his office in Delhi, provides chamber
consultancy in the form of discussion with client (based in Mumbai) on a legal
matter concerning a real estate in his Delhi Office. The client had travelled
from Mumbai for the specific meeting. Can it be said that the services in this
case are in relation to immovable property and not legal advisory?

Taking a more practical approach to the above aspect, let us take
another example of a supplier providing document management services.
Generally, this service includes receiving the documents from the customer,
scanning & storing them at supplier location. Only when the customer
requires them, they are retrieved from the respective warehouse and provided to
the customers. The customer is not aware about the location where his documents
are stored. In this context, can it be said that the services are in relation
to an immovable property merely because in supplying the services, there is an
element of immovable property involved. Both the above situations clearly
demonstrate that the service in none of the cases is in relation to immovable
property, if the interpretation of the Education Guide is accepted.

In fact, this distinction was applied even under the service tax
regime wherein Rule 4 specifically dealt with the aspect of place of provision
for performance-based services in the context of which, the Education Guide had
provided that the service of storage of goods is actually in relation to goods
and not immovable property. Relevant extracts are reproduced for reference:

5.4.1 What are the services that are provided “in respect of goods
that are made physically available, by the receiver to the service provider, in
order to provide the service”? – sub-rule (1):

Services that are related to goods, and which require such goods to
be made available to the service provider or a person acting on behalf of the
service provider so that the service can be rendered, are covered here. The
essential characteristic of a service to be covered under this rule is that the
goods temporarily come into the physical possession or control of the service
provider, and without this happening, the service cannot be rendered. Thus, the
service involves movable objects or things that can be touched, felt or possessed.
Examples of such services are repair, reconditioning, or any other work on
goods (not amounting to manufacture), storage and warehousing, courier service,
cargo handling service (loading, unloading, packing or unpacking of cargo),
technical testing/inspection/certification/ analysis of goods, dry cleaning
etc. ….

The above interpretation has been followed even in the context of EU
VAT which contains similar provision for determination of place of supply of
services. In this context, reference to the decision of the First Chamber Court
in the context of EU VAT in Minister Finansow vs. RR Donnelley Global
Turnkey Solutions Poland (RRD) is also relevant. The issue in the said case
was that RRD was engaged in providing a complex service of storage of goods
involving storage, admission, packaging, loading / unloading, etc. The issue
was whether the service could be classified under Article 47 or not, which deal
with supply of services connected with immovable property. The same is
reproduced below for ready reference:

The place of
supply of services connected with immovable property, including the services of
experts and estate agents, the provision of accommodation in the hotel sector
or in sectors with a similar function, such as holiday camps or sites developed
for use as camping sites, the granting of rights to use immovable property and
services for the preparation and coordination of construction work, such as the
services of architects and of firms providing on-site supervision, shall be the
place where the immovable property is located.

From the above, it is evident that Article 47 is worded similarly to
section 13 (4). In the context of Article 47, the Court had held as under:

Article 47
of Council Directive 2006/112/EC of 28 November 2006 on the common system of
value added tax, as amended by Council Directive 2008/8/EC of 12 February 2008,
must be interpreted as meaning that the supply of a complex storage service,
comprising admission of goods to a warehouse, placing them on the appropriate
storage shelves, storing them, packaging them, issuing them, unloading and
loading them, comes within the scope of that article only if the storage
constitutes the principal service of a single transaction and only if the
recipients of that service are given a right to use all or part of expressly
specific immovable property.

In fact, Article 47 has been amended w.e.f 1^st
January 2017 to specifically provide transactions which shall be treated as
being in connection with an immovable property and transactions which shall not
be treated as being in connection with an immovable property. Some specific
inclusions and exclusions are tabulated below:

In Connection with Immovable Property

Not in connection with Immovable property

u Drawing up of plans for a building /
parts of a building designated for a particular plot of land

u On site Supervision / Security services

u Survey and assessment of risk and
integrity of the immovable property (Title search by advocates)

u Property management services (other than
REITs)

u Estate agent services

u Drawing up of plans for a building /
parts of a building not designated for a particular plot of land

u Storage of goods in an immovable
property if no specific part of immovable property earmarked for the
exclusive use of the said customer

u Provision of advertising, even if
involves use of immovable property (Out of Home Advertising)

uIntermediation in the provision of hotel
accommodation services acting on behalf of another person

uBusiness exhibition services

uPortfolio management of investments in
real estate (REIT)

One another issue that is being faced
is from the view point of location of supplier where the services are in
relation to an immovable property. For example, ABC is a property investment
company which has acquired commercial / residential property across the country
and provides the same on lease basis to various customers. ABC has physical
presence only in Mumbai. All the lease agreements specifically provide that the
agreement has been entered into with ABC, Mumbai and the customer for leasing
the respective property which may be located anywhere across India. While
admittedly the POS in case of transactions entered in to by ABC will have to be
the location where the immovable property is situated, the issue that arise is
whether ABC is required to bill the customer from the locations where the
immovable property is located or can they continue to bill from Mumbai treating
Mumbai as the location of supplier of service?

In this regard, reference to Section 22 of the CGST Act might be
necessary which provides that registration has to be taken in each state from
where the taxable supply is being made. Therefore, it needs to be analysed as
to whether the location of supplier of service in this case will be Mumbai or
the respective locations where the property is situated? To analyse the same,
let us refer to the definition of location of supplier of service which
provides that the location of supplier of services shall mean:

(a) where a supply
is made from a place of business for which the registration has been obtained,
the location of such place of business;

(b) where a supply
is made from a place other than the place of business for which registration
has been obtained (a fixed establishment elsewhere), the location of such fixed
establishment;

(c) where a supply
is made from more than one establishment, whether the place of business or
fixed establishment, the location of the establishment most directly concerned
with the provisions of the supply; and

(d) in absence of such places, the location of the usual place of
residence of the supplier;

As can be seen from the above, location of supplier of service has
to be either a Place of Business or a Fixed Establishment, which have been
defined under the GST law as under:

Place of Business

Fixed Establishment

(85) “place of business” includes––

(a) a place from where the business is
ordinarily carried on, and includes a warehouse, a godown or any other place
where a taxable person stores his goods, supplies or receives goods or
services or both; or

(b) a place where a taxable person
maintains his books of account; or

(50) “fixed establishment” means a place (other than the
registered place of business) which is characterised by a sufficient degree
of permanence and suitable structure in terms of human and technical
resources to supply services, or to receive and use services for its own
needs;

While there is no concern in treating the
Mumbai office of ABC as its Place of Business, the issue arises in the context
of other locations where ABC owns immovable property. Whether they can be
classified as POB/ FE? Evidently, ABC does not carry out any business from such
locations. The business continues to be carried out from Mumbai, only the
underlying service is delivered at such locations and hence, it can be
concluded that clause (a) of the definition of POB will not be applicable.
Similarly, clause (b) and (c) shall also not be applicable. Therefore, the only
question that needs to be determined is whether such locations can be treated
as FE or not? Even that seems improbable because for a place to be classified
as FE, the same needs to be characterised by
a sufficient degree of permanence and suitable structure in terms of human and
technical resources to supply services, or to receive and use services for its
own needs. While one can say that the locations have a sufficient
degree of permanence, the second limb, that is human & technical resources
to make the supply will not get satisfied. That being the case, such locations
cannot be even classified as FE.

Therefore, it would be safe to conclude that such locations, since
not classifiable as either POB/ FE, the question of the same being classifiable
as Location of Supplier of Service may not arise.

In this context,
one may even refer to the FAQ issued by the CBEC in this context where in one
of the questions, it was clarified that there can be interstate billing for
rental services as well.

Service by
way of lodging accommodation

This clause applies to lodging accommodation services provided by a
hotel, inn, guest house, home stay, club or campsite including a house boat.
This rule makes lodging accommodation costly as in cases where the supplier and
recipient are located in different states, it makes the transaction tax
ineffective. For example, if a hotel in Maharashtra provides accommodation
service to an employee of Gujarat based company, even if the transaction is B2B
in nature, yet the company in Gujarat will not be able to claim the credit of
taxes as the POS will be Maharashtra. In fact, the businesses are in a losing
situation as credit was eligible under the pre-GST regime.

However, one particular issue for this kind of transaction is where
transactions are routed through online portals / agents. As stated above, this
entry is applicable only in cases where the services are provided by hotel,
inn, guest house, home stay, club or campsite including a house boat.
Therefore, in cases where the transaction is routed through online
portals/agents, the rule may not apply. Let us try to understand with the help
of following example.

A Hotel in Goa has entered into a contract with two selling agents,
one located in Bangalore and another in Mumbai. The arrangement with the
Bangalore selling agent is on a Principal to Principal basis wherein the Hotel
blocks specified number of rooms for the Bangalore based agent to sell and
whether or not the Bangalore agent is able to sell the rooms, the charges are
recovered from the agent. However, the terms of the transaction with the Mumbai
based agent are different. In that case, it is provided that the Mumbai based
agent shall merely facilitate the supply on behalf of the hotel for which they
would charge service charges.

The issue arises in the case of transactions through Bangalore
agent. The reason being:

In case of billing by Hotel to Agent – whether the supply is to be
treated of lodging / accommodation service or some other service? In case the
same is treated as lodging / accommodation, the POS will be Goa, and since the
agent is located in Bangalore, credit will not be eligible resulting in a tax
inefficient structure. Further issue arises when the agent bills to the
customer. The agent is not registered in Goa. Will he treat the place of supply
as Goa or will he treat the place of supply to be that of the recipient of the
service? Will one consider the service as directly in relation to an immoveable
property and covered under sub clause (a) or will one believe that sub clause
(b) is applicable? If sub clause (b) and not subclause (a) should be the
correct classification, the issue is that the service provider is not a hotel,
inn, guest house, home stay, club or campsite including a house boat though the
actual provision of service might be by a hotel and in such a case, one can
take a view that since the supply is not by the specified class of supplier,
the exception is not applicable and accordingly, POS may have to be determined
as per the general rule. This position will have to be tested at judicial
forums.

Similarly, in the
case of second set of transactions routed through Mumbai agent, since the Hotel
will be billing directly to customer, the POS will be determined as per the
exception. The Mumbai agent billing to Hotel / Customer for arrangement fees
will be as per the applicable rule and may not get classified under this
basket.

There is one more aspect on credit front in case of B2B transactions
involving lodging accommodation. Let us take an example of a company having
operations in two states, say Maharashtra & Gujarat and hence, registered
in the two states. An employee working with Gujarat office travels to Mumbai
for a client meeting and stays in hotel. Since the company is registered in
Maharashtra, he provides the company with the GSTIN of Maharashtra and asks the
hotel to issue invoice to Mumbai office. Is there any issue in this practice?

The probable answer
to the above question may be found in section 16 of the CGST Act, which
provides that every registered person shall be entitled to take credit of input
tax charged on supply of goods / services which are used / intended to be used
in the course or furtherance of his business. The issue that can be raised here
is whether the credit can be denied on the grounds that the invoice pertained
to a different registered person (being Gujarat) and was used in the course or
furtherance of a different registered person. If this conservative view is
accepted, the credit claim might be in danger. However, to counter this view,
can it be argued that while the GST law provides for deeming branches in
different states as distinct person, the same does not apply for business? That
is, the concept of business will have to be considered at entity level and not qua
the registration and accordingly, credit should be available.

Immovable property in multiple states –
Determining POS

There can be transaction for supply of services wherein under a
single contract, services for multiple immovable properties located across
multiple states might be provided. Lets’ take an example of Clean Ganga
initiative undertaken by the Central Government and awarded to an engineering
company. The river passes through multiple states.

The Government has entered into a single contract with the company
for undertaking the task of cleaning the river. Evidently, there is no issue
with respect to whether the services are in relation to an immovable property
or not? The only issue here that arises is how the POS has to be determined as
one can say that the POS is all such states through which the river flows.

While the proviso to section 12 (3) does deal with such a scenario,
it merely provides that the supply shall be treated as made in each of the
respective States / UT in proportion to the value for service separately
collected / determined in terms of the contract or agreement and in absence of
such contract/ agreement, the POS shall be determined on such other basis as
may be prescribed.

Therefore, in cases where the agreement provides for breakup of
consideration basis the work done in each state, the POS shall be determined
accordingly. However, in case the agreement is silent, one needs to be
determined in the prescribed manner. Unfortunately, no such manner has been
prescribed as on date for determining POS for such supplies. Even if the manner
for determination of POS is prescribed, even then it has to be noted that there
is no provision under the GST law for splitting of value / supply itself. The
provisions exist only for splitting of POS.

Therefore, the
issues that arise is whether the levy will sustain in the absence of proper
provision for determination of value of supply, even if the notifications are
issued in this regard? In this context, reference can be made to the decision
of the Supreme Court in the case of CIT vs. B. C. Srinivasa Shetty wherein
it was held that the charging sections and the computation provisions together
constitute an integrated code and the transaction to which the computation
provisions cannot be applied must be regarded as never intended to be subjected
to charge of tax.

Conclusion

While there are
specific provisions for determining the place of supply in the context of
property-based services, the same has its’ own share of interpretation issues
as well as interlinkages with other aspects of the law, viz., valuation,
credits, registration, etc. and such exception rules can result in breaking the
credit chain and the intent of the GST Law to enable free flow of credit and
open up trade and commerce amongst the States.

shailesh.kwebmaker

Principles of Classification

1. Indirect Taxes in India
have always witnessed substantial litigation arising out of classification, be
it for determining the nature of transaction (goods vs. service) or taxability
(interpretation of exemption notification to determine eligibility) or the rate
applicable on a transaction (depending on the nature of goods sold or service
provided). Some issues also arose from the fact that the taxing authorities
were different under the earlier laws, with Service Tax, Central Excise &
Customs duty being levied and administered by the Central Government while
Sales Tax & State Excise on specific products being levied and administered
by the respective State Governments.

2. With the introduction
of Goods & Services Tax, it was felt that the issue of classification shall
be laid to rest with a single taxing event of supply becoming applicable for
goods as well as services. However, the charging section of the three primary
GST Acts, i.e., CGST, SGST/ UTGST and IGST Act clearly demonstrate the
continuance of distinct tax treatment for transactions involving supply of
goods, services as well as both, i.e., supplies where an element of goods, as well
as service are involved.

3. In the context of goods,
rate Notifications under CGST and IGST have been issued wherein different rates
have been prescribed for different kinds of goods classified based upon the
HSN. Similarly, rate notifications for services have also been issued. An
Annexure with HSN wise classification of services has been issued and against
each such classification of services, a rate has been prescribed. Further, a
transaction which involves supply of both, goods or services has to be
classified as either composite / mixed supply and different tax treatment has
been prescribed depending on the classification adopted for such composite
supplies.

4. Owing to this fact,
before making any supply, there are two specific steps that need to be
undertaken:

a. Identifying the nature of
supply, i.e., whether the supply is of goods or services or both. In both the
cases,one has to identify whether the supply is a composite supply or mixed
supply?

b. Identifying the HSN
classification of the product or service to determine the rate applicable
thereof.

5. Failure to take the
above steps can have its’ own repercussions.
For example, under
Notification

11-2017, Entry 10 (ii)
provides that rental services of transport vehicles with / without operator
shall attract tax at 9% under heading 9966. However, Entry 17 provides that
leasing or rental services, with / without operator shall attract same rate of
central tax as would have been applicable on supply of like goods involving
transfer of title in goods. This clearly demonstrates the apparent conflict in
the notification as well as, it demands a proper interpretation of both the
entries to determine the correct classification.

Identifying the nature of supply

6. As stated above, the charging
section provides for the levy of GST on supply of goods, services or both.
Further, different tax rates have been prescribed for different kinds of goods
and services. This can result in disputes to decide whether a transaction is
for provision of service or sale simpliciter.

7. For instance, it has
always been a subject matter of dispute as to whether software is a transaction
for sale of goods or provision of service. At the outset, it is important to
note that incorporeal property is also treated as goods. It was further held
that a software, whether customised or not, shall be classified as goods if
they satisfy specific attributes, namely utility, capability of being bought
and sold and capable of transmission, transfer, delivery, storage and possession.
In this context, the Hon’ble SC held that a software embedded in a device shall
be classified as goods¹.

Composite Supplies

8. Even in the context of
works contract, there have been a plethora of cases where the Supreme Court had
a chance to determine whether a contract was divisible or not and how to
determine the taxability of the same. The aspect of divisibility vs. indivisibility
further gave rise to the theory of dominant intention, which is laid down in
the following judicial precedents:

a. The need to determine
whether a transaction is a transaction for sale of goods or not arose with the
decision of the Hon’ble SC in the case of Gannon Dunkerley², wherein
the Supreme Court held that the States had no authority to levy tax on a
transaction supply of goods as well as service when the contract was an
indivisible works contract.

b. Relying on the decision of
Gannon Dunkerley, it was held in Hindustan Shipyard Limited vs. State of
Andhra Pradesh³ that a contract for construction of a vessel
under the instruction of client would amount to sale of goods (as claimed by
the State of Andhra Pradesh) and not works contract (as claimed by the
Appellants).

The Hon’ble Supreme
Court held that in a contract for the sale of specific or ascertained goods,
the property in them is transferred to the buyer at such time as the parties to
the contract intend it to be transferred. When something remains to be done on
the date of the contract to bring the specific goods in a deliverable state,
the property does not pass until such thing is done and brought to the notice
of the buyer. The risk in such case remains with the seller so long as the property
therein is not transferred to the buyer though the delivery may be delayed. On
the basis of these observations, the Hon’ble Supreme Court held that the
transaction was for sale of vessel and not a works contract. Hence, the
contract had to be classified as contract for sale of goods and not works
contract relying on the dominant intention of the transaction.

c. The theory of dominant
intention was again confirmed by the Hon’ble SC in Bharat Sanchar Nigam Limited⁴ wherein the Hon’ble Supreme Court had held
that in a transaction of mobile connection, the predominant intention is to
receive the telecommunication service and not electro-magnetic waves, as
claimed by the Government.

d. However, in Larsen &
Toubro Limited vs. State of Karnataka in 2014 (034) STR 0481 SC, it was
held that the dominant nature test need not be applied to find out the true
nature of transaction as to whether there is a contract for sale of goods or
the contract of service in a composite transaction covered by the clauses of Article
366(29A). The above decision of Larsen & Toubro Limited was approved by the
Constitutional Bench in the case of Kone Elevators India Private Limited vs.
State of Tamil Nadu in 2014 (304) ELT 161 (SC).

9. Despite the subsumation
of taxes on goods and services under a single legislation, the aspect of
composite supply vs. mixed supply under GST has resulted in the principle of
dominant intention being still relevant.

10. The term
composite supply has been defined u/s. 2 (30) to mean
a supply made by a taxable person to a recipient consisting of two or more
taxable supplies of goods or services or both, or any combination thereof,
which are naturally bundled and supplied in conjunction with each other in the
ordinary course of business, one of which is a principal supply.

11. Further, the term
“principal supply” has been defined u/s. 2 (90) of the CGST Act, 2017 to mean supply
of goods or services which constitutes the predominant element
of a composite supply and to which any other supply forming part of that
composite supply is ancillary.

12. These two terms, namely
composite supply and principal supply shall clearly result in the revival of
dispute as to whether the supply is of goods or services or both? However, the
task shall be cut short in case of works contract services relating to
immovable property, as Schedule II clearly provides that a composite supply of
works contract service shall always be treated as supply of service and shall
be taxed accordingly.

13. Let us analyse the impact
of GST on the transaction which was the subject matter of dispute in the case
of Kone Elevators referred above. Under the earlier regime, the position was
that the contract was a divisible contract for sale of goods (being elevator)
and provision of services (being commissioning and installation services). It
needs to be decided as to whether the supply can be classified as works
contract or not? For the same, reference to the definition of works contract
becomes necessary. Section 2 (119) of the CGST Act defines the term works
contract as a contract for building, construction, fabrication,
completion, erection, installation, fitting out, improvement, modification,
repair, maintenance, renovation, alteration or commissioning of any immovable
property wherein transfer of property in goods (whether as goods or in some
other form) is involved in the execution of such contract;

14. The first aspect
therefore that needs to be checked is whether the elevator can be considered as
immovable property or not? In this context, the Supreme Court has in the
decision of Kone Elevators already held that once assembled, the elevator
becomes a permanent fixture. This in turn leads toward the conclusion that a
contract for supply and installation of elevator would be for creation of a
permanent fixture in an immovable property and hence, the supply would be
classified as works contract.

15. However, the position
would not be so clear when the supply is in relation to a movable property or
pertains to two or more distinct goods supplied together or two or more
distinct services supplied together. In this context, it becomes more important
to analyse the definition of composite supply which provides that for multiple
supplies to be classified as a single composite supply, following conditions
need to be satisfied, namely:

a. There should be two or more
taxable supplies

b. The supplies should be
naturally bundled

c. The supplies should be in
conjunction with each other

d. One of the supplies should
be a principal supply

16. Since what is meant by
“naturally bundled” has not been dealt with under the GST law, some specific
principles will have to be laid down for determining the same, such as:

a. There is a single price or
the customer pays the same amount, no matter how much of the package they
actually receive or use.

b. The elements are normally
advertised as a package.

c. The different elements are
not available separately.

d. The different elements are
integral to one overall supply – if one or more is removed, the nature of the
supply would be affected.

Of course, the above
are mere examples and whether supplies are naturally bundled or not will have
to be decided on a case to case basis.

17. An example of composite
supply, in the context of movable property can be supplies made by vehicle
workshops. When a person takes his vehicle for repairs, there are certain parts
which are required to be replaced. At times, there are Annual Maintenance
Contracts undertaken by the workshops wherein they undertake to provide
periodic service for the vehicle along with replacement of specific parts,
whenever required. In this case, the question that arises is whether the supply
can be classified as a composite supply or not?

18. To decide the same, one
needs to go back to the conditions laid down in the definition of composite
supply to decide whether the same are fulfilled or not? The same is analysed in
the subsequent table:

There should be two or more taxable supplies

There are two supplies involved, namely supply of services
(being repair / maintenance services) and supply of goods (being replacement
parts)

The supplies should be naturally bundled

The indicators for “naturally bundled” discussed in
para 16 are getting satisfied

The supplies should be in conjunction with each other

This condition is also getting satisfied as only if there is
a repair activity undertaken will there be a need known for replacement part
and only when replacement part is supplied will the replacement activity also
be undertaken.

One of the supplies should be a principal supply

The predominant element of this transaction is to provide
maintenance service to the vehicle owner and the supply of replacement parts
is only ancillary to the service to be supplied.

19. Thus, it can be concluded
that the contract is a composite contract with the principal supply being
supply of service and hence, the transaction would be taxed as service.

20. However, the situation
could have been different where the customer had approached the workstation for
replacement of tool-box, which the workshop agreed to undertake for a single
consideration. In this scenario also, there would have been two distinct
supplies, namely, supply of tool-kit as well as providing service of replacement
of tool-kit. In such a case, a stand can be taken that the pre-dominant supply
is the supply of tool-kit and hence, the entire supply will have to be taxed as
supply of goods.

21. It
is important to note that whether a supply is a composite or not is a subjective
matter and no hardcore rule can be set for deciding the same. The same will
have to be decided on a case to case basis.

Mixed Supplies

22. If any supply consisting
of multiple sub-supplies fail to satisfy the conditions discussed for composite
supply, the next question that arises is whether the supply is a mixed supply
or not. Section 2 (74) of the CGST Act defines the term “mixed supply” as two
or more individual supplies of goods or services, or any combination thereof,
made in conjunction with each other by a taxable person for a single price
where such supply does not constitute a composite supply.

23. The definition is further
explained by the following example:

A supply of a
package consisting of canned foods, sweets, chocolates, cakes, dry fruits,
aerated drinks and fruit juices when supplied for a singleprice is a mixed
supply. Each of these items can be supplied separately and is not dependent on
any other. It shall not be a mixed supply if these items are supplied
separately.

24. In other words, when two
or more supplies are made in conjunction with each other, but are not naturally
bundled and there is a single consideration for all the supplies, such supplies
shall be made liable to GST at the rate applicable to supply, attracting the
highest GST Rate. For example, a person taking a residential property for rent
for both commercial as well as residential use. While the former is taxable
service, the latter is exempt from tax. Therefore, the entire transaction would
be subjected to tax, unless separate consideration is fixed for commercial and
non-commercial use.

Classification of Some Specific Transactions

25. Having discussed the
Rules for Interpretation of classification, there are certain specific
transactions where there is an ongoing issue w.r.t classification, such as:

a. Takeaways vs. Restaurant
Dining

b. Alcohol – Separate Invoicing
vs. Consolidated invoicing

c. Sale of Publications vs.
Job-work of Printing of Publications

d. International Job-work –
Job-work vs. export

26. Each of the above
transactions are discussed in detail in the subsequent paragraphs.

Takeaways vs. Restaurant Dining

27. Schedule II, Entry 6 of
the CGST Act provides that a composite supply by way of or as part of any
service or in any other manner whatsoever of goods, being food or any other
article for human consumption or any drink (other than alcoholic liquor for
human consumption) where such supply or service is for cash, deferred payment
or other valuable consideration, shall be treated as supply of service.

28. The above entry intends
to cover only transaction where there is supply of food / beverages which is
part of a larger supply, i.e., supplies made in restaurant or as caterer. The
same has been made liable for GST at the rate of 12% / 18% on case to case
basis. This rate will apply irrespective of the products used in providing the
said service. For example, non-alcoholic beverages attract GST at 28% plus
compensation cess while food items such as namkeens, bhujia, mixture, etc.
attract 12%. Since this food / beverage items are supplied as a part of
restaurant service, the same is supposed to attract tax at the rate of 18%.

29. However, the treatment as
composite supply of service is only applicable where the food / beverage is
supplied by way of or as part of a service. Therefore, the question that arises
is whether in case of takeaways, where the customer does not receive any
service, but merely buys the food / beverages from the restaurants, the supply
shall be treated as supply of food and beverages or as composite supply of
restaurants?

30. In essence, the question
that arises in case of takeaways is whether the same is supply of goods or
supply of services? This is where the rules of interpretation discussed in the
preceding paras will come into play.

31. The first thing that
needs to be decided in this transaction is whether the supply is of goods,
i.e., food and beverages or of services? In this transaction, it would be safe
to say that in case of takeaways, the predominant intention is to buy the food
/ beverages and there is no service element involved in the supply. Hence, both
the supplies, i.e., namkeen as well as beverage will have to be treated as
supply of goods and GST will have to be discharged as per the rates applicable on those products.

32. In fact, under the
Service Tax regime also, initially it was clarified that the dominant intention
in the case of takeaways was to sell goods and not provide any service.
However, this clarification was subsequently withdrawn.

Supplies involving alcohol – GST vs. VAT

33. Alcoholic liquor meant
for human consumption has been kept outside the purview of GST. The levy of tax
on the same continues to be governed by the provisions of State Excise and
Value Added Tax. In other words, there cannot be any GST implications on the
sale of alcoholic liquor.

34. Keeping the said aspect
in mind, even the Schedule II entry which provides that supply of food /
beverages by way of or as part of service shall be considered to be as
composite supply of service excludes the supply of alcoholic liquor from its’
ambit. Therefore, the intention of the GST law to ensure that no tax is levied
on the alcohol component is very evident.

35. While legally, the law
has clearly laid down its intention, practical issues arise in the case of cocktails (with
alcoholic content) served in restaurant, which contain both, alcoholic as well
as non-alcoholic beverages? What happens to cakes which may also include
alcoholic content? The question that arises is whether the dominant intention
theory will have to be applied for such transaction and if yes, whether the
transaction will attract VAT or GST?

36. The answer to the above
question will have to be determined on case to case basis. For example, in the
first case involving cocktails, it can be said that the dominant intention was
to consume alcohol while in the second case of cake containing alcoholic
liquor, the dominant intention is to consume the cake and not the alcohol and
hence, the supply will have to be subjected to GST.

Publications – Sale vs. Job-work

37. The term “job-work” has
been defined u/s. 2 (68) of the CGST Act to mean any treatment or process
undertaken by a person on goods belonging to another registered person and the
expression “job worker” shall be construed accordingly.

38. Schedule II, entry 3 also
provides that any treatment or process which is applied to another persons’
goods shall be treated as supply of service.

39. There are multiple
scenarios possible, which are as under:

a. A person prints and
publishes books on his own account, which is sold to consumers.

b. A person in possession of
content gives a contract to a job-worker for printing the books, where the
material for printing the books is given by the principal.

c. A person in possession of
content gives a contract to a contractor for printing the books by using the
principal’s content but using own material.

40. In (a) above, it is more
than evident that the transaction shall be that of supply of books and hence,
the same shall be liable for NIL rate of tax. Similarly, in case of (b) above,
the job-work transaction shall be considered as service owing to the specific
entry in Schedule II treating the activity as supply of service. The actual
issue arises in (c) above, where the content is of the principal, but the
entire activity of printing (including materials) is arranged for by the
contractor. The question that arises is whether the supply has to be treated as
supply of goods or supply of services?

41. Drawing analogies from
the decision of the SC in the case of Hindustan Shipyard, it can be contended
that the supply should be characterised as supply of goods in the nature of
books and therefore, liable for NIL Rate of tax. However, a rate of 12% has
been prescribed for services in the nature of printing of books where the
content is provided by the principal and the paper and ink is used by the printer.
Whether mere supply of content by the principal can result in the
categorisation of the transaction as a service? If so, certain entries
prescribed under the schedule of goods like brochures, letterheads, etc.
may loose relevance.

International Job Work – Goods vs. Service

42. This relates to a
transaction where a foreign principal has supplied certain material for
job-work to the Indian contractor who is required to undertake certain
treatment / process on the said material and send it back to the principal. As
already discussed in the previous case, job-work is treated as service under
GST. Therefore, in terms of the provision of section 13 (3) (a) of the IGST
Act, the place of supply becomes the location where the treatment/ process is
undertaken, i.e., the location of supplier and hence, the transaction cannot be
classified as export of services as well as, it becomes subject to tax.

43. However, another
important point to be kept in mind is that in case of such transactions, the
movement of goods takes place from the principal to job-worker and from the
job-worker to the principal upon completion of the process. The process of
import of goods is governed by the provisions of the Customs Act, 1962 and
hence, when the movement of material takes place from the foreign principal to
the Indian Job-worker, the goods are required to be cleared at the Customs with
payment of appropriate custom duty and IGST by disclosing the same as import of
goods.

44. Subsequently, when the
process is completed and the goods are sent back to the principal, the goods
are again subjected to Custom Assessment as Shipping Bill for export of goods
outside India is prepared. This activity of sending the goods outside India
also falls within the ambit of definition of export of goods, which is defined
to mean taking goods out of India to a place outside India. Further, Section 11
of the IGST Act clearly provides that the place of supply of goods exported
from India shall be the location outside India.

45. One can therefore say
that in transactions of international job-work, the same transaction can be
classified as supply of goods as well as supply of service, which appears to be
incorrect. Therefore, what needs to be decided is whether there is a supply of
goods or supply of services?

46. In such situations,
whether dominant intention will play a role in determining the nature of supply
or the altered facts will also have to be considered in determining as to
whether the supply is of goods or services? In this context, reference to the
decision of the SC in the case of Moped India Limited vs. Assistant
Collector of Central Excise in 1986 (23) ELT 8 (SC), wherein the SC had
held that while interpreting the terms of an agreement, it is the substance of
the transaction which shall prevail over the form of the transaction. That is
to say, while the transaction might have been structured as a Job-work, it
might not necessarily be classified as such depending on the actual conduct of
the parties.

47. The situation becomes
even more evident from the fact that the levy of IGST on imports is under the
IGST Act unlike the earlier proposition of countervailing duty being levied
under the Customs Act only. It may therefore be argued that the activity of job
work gets subsumed in the transaction of import and export of goods and
therefore, no tax should be separately payable on the said labour charges.

Services of advertising agents – P2P vs. P2A

48. There are two types of
agents, namely one, who deal on their own account, i.e., buy advertising space
from publishers and sell it to various advertisers and second, where they act
as agents of either advertisers / publishers and facilitate the transaction for
the sale of advertising space. In the first case, the revenue for the agents is
the net difference between the sale rate and the buying rate, while in the
second case, the agents specifically issue an invoice to their client, being
the advertiser / publisher for the agency services provided.

49. There has been
substantial confusion with respect to the first case as to whether the agency
has to pay GST at the rate applicable on the media or they have to pay GST at
the rate applicable for commission agents? In this context, vide press release,
it has been clarified that in case of agency working on a Principal to Principal
basis, GST shall be applicable on the rate applicable on the media (5% in case
of print media). However, in case the agency is operating on a Principal to
Agency basis, GST will be applicable at the rate applicable on commission
services, i.e., 18%.

50. However, it is imperative
to note that under the pre-GST regime, even when the advertising agencies were
operating on a Principal to Principal basis, there was substantial litigation
on the grounds that they were operating as an agent and hence liable to pay GST
on the net commission income. Similar issue had also plagued the freight
forwarders as well. It remains to be seen how far the Tax Authorities receive
this circular and how it will impact the litigation under the earlier tax
regime.

Harmonised System of Nomenclature

51. Section 9 of the CGST
Act, 2017 provides that tax shall be levied on all goods and / or services at
such rates as may be notified by the Government. Subsequently, the CBEC has
vide general rate notifications 01/2017 and 02/2017 for goods and 11/2017 and
12/2017 for services notified the rates respectively. The notifications have
classified the goods on the basis of HSN which is segregated into Chapter/
Heading/ Sub-heading/ Tariff item. Further, it has been provided that the rules
for the interpretation as provided for under Customs Tariff Act, 1975 shall
apply for the interpretation of headings covered under the said notification.

52. HSN in the context of
goods is a multi-purpose international product nomenclature developed/ identified
by 6-digit code arranged in a legal and logical structure globally. India has
added two more digits to the 6-digit code for further precision, thus making it
an 8-digit HSN. The various components of an 8-digit HSN are as under:

1 2

3 4

5 6

7 8

Chapter

Heading

Sub-

Heading

Tariff Item

53.
In addition to
HSN for goods,
under GST, even

services   have   been
given   an   HSN
code   for

identification by way of an Annexure in Notofication

11/2017 under Chapter 99. The components of HSN

for services are as under:

1 2

6 7

Chapter

Section

Heading

Group

Service Code

Rules for Interpretation of Tariff

54. It is always possible
that the same product / service can be classified under multiple HSN. In order
to assist in deciding the correct classification for such instances, the
notifications have provided that the Rules for interpretation as prescribed
under the Customs Tariff Act, 1975 shall be followed for the purpose of
classification under GST.

55. There are six rules
prescribed, which need to be applied in chronological order. The Rules deal
with different scenarios which can arise at the time of classifying a product /
service and lays down the method in which the classification is to be done.
Each of the above six rules are discussed in detail in the subsequent
paragraphs.

Rule 1 – General Rule

56. This is the general rule
for interpretation of tariff. This rule provides that the words in the Section
and Chapter titles are to be used as guidelines only to point the way to the
area of the Tariff in which the product to be classified is likely to be found.
Classification is to be determined by the terms in the Headings and the Section
and Chapter Notes that apply to them, unless the terms of the heading and the
notes say otherwise.

For example, Heading
9505 deals with articles for Christmas activities. Therefore, Christmas tree
candles would logically get covered under the said heading. However, notes to
the said heading specifically provide that Christmas tree candles will not get
covered under heading 9505 and hence, they will have to be classified under
heading 3406 which specifically deals with candles, tapers & the likes.

Rule 2 (a) – Classification of unfinished,
incomplete, unassembled or disassembled products

57. This rule deals with
classification of unfinished, incomplete, unassembled or disassembled products.
This rule provides that unfinished and incomplete goods can be classified under
the same Heading as the same goods in a finished state, provided that they have
the essential character of the complete or finished article, unless the Heading
/Note specifically exclude unfinished / unassembled products.

Judicial Precedents: Collector
of Customs, Bangalore vs. Maestro Motors Limited [2004(174) ELT 289 (SC)]

Components of car in a
completely knocked down condition shall also be considered as cars for the
purpose of levy of customs duty.

Rule 2 (b) – Classification of products not
classifiable u/r 1 or 2 (a)

58. This rule provides that
any reference in a heading to a material / substance / goods of a given
material / substance shall also include reference to a mixture / combination of
that material / substance / goods consisting wholly or partly of such
substance.

Example: Di-calcium
citrate is a calcium acid salt of citric acid. There is no specific
classification for this product. However, classification 2918 15 deals with “salts
and esters of citric acid”. Therefore, it would be apt to classify di-calcium
citrate under 2918 15.

Rule 3 – Multiple probable classifications

59. This rule is a
continuation of Rule 2 (b) and deals with situations wherein a product is
classifiable under more than one heading. The rule lays down three criteria for
determining the appropriate heading as under:

– Rule
3 (a): Heading with most specific description shall be preferred over a more
general description.

Judicial Precedents: Superintendent
of Central Excise & Others vs. Vac Met Corporation Private Limited
[1985 (22) ELT 330 (SC)]

Metallic yarn (also
known as metallized yarn) manufactured in the form of Silver white or Golden
thin flat, narrow and continuous strip made of metallised polyester from
metallised laminated plastic sheets or foils which are spitted by them by
electrically operated machines, fall within the purview of Tariff Entry 15A(2)
which is a specific entry related to articles made of plastic of all kinds and
not under Tariff Item 18 of the Central Excise Tariff which is of general
nature.

– Rule
3 (b): If 3 (a) is not applicable, the classification of the material /
substances which gives the final product its essential character should be
applied.

Judicial Precedent: Sprint
RPG India Limited vs. Commissioner of Customs, Delhi [2000 (116) ELT 6
(SC)]

Computer Software
loaded on a hard disk drive is assessable on the basis of computer software at
the rate of 10% as per Heading 85.24 of Customs Tariff Act, 1975 read with
Notification No. 59/95-Cus. and not under Heading 84.71 ibid as a ‘hard
disk’ simpliciter, since what was imported was software on a hard disk and not
hard disk in the garb of software.

– Rule
3 (c): If classification as per (a) or (b) is not possible, goods should be
classified under heading which occurs last in numerological order amongst those
classifications which equally merit consideration.

Judicial Precedent: Commissioner
of Central Excise, Goa vs. Waterways Shipyard Private Limited [2013 (297)
ELT 0077 Tribunal Mumbai]

Vessel for use as
casino is classifiable under two entries, namely Heading 8903 which covers all
vessels for pleasure or sport, as well as classifiable under Heading 8901 which
covers cruise ships. Since there were two entries under which goods were
classifiable, vessel to be classified under Heading occurring last in numerical
order among those equally meriting consideration.

Rule 4 – Classification for goods not
classifiable as per Rule 1-3

60. This Rule provides that
goods which cannot be classified as per Rule 1-3 shall be classified under the
heading appropriate to the goods to which they are most similar. This is also
known as “last resort rule” often used with new products.

Judicial Precedent: Collector
of Central Excise, Bombay vs. KWH Heliplastics Limited [1998 (97) ELT 385
(SC)]

Plastic tanks would be
classifiable under Heading 39.25 which also applies to reservoir, tanks,
including septic tank, vats and similar containers to hold liquids or something
in liquid form in the process of manufacture as in tanning and dyeing etc.,
and thus can be used and are capable of being used for water storage in
connection with raising of construction or mixing construction materials and
not under the residuary entry of 3926 as held by the Tribunal.

Rule 5– Classification of containers

61. There are two sub-rules.
Sub-rule (a) provides that containers shall be classified as per the heading of
the article which it is meant to contain if all the conditions, viz.,
specifically shaped / fitted for the article, suitable for long term use,
protect the article, normally sold with such article and presented with article
designed to contain are satisfied, except in cases where the container gives
the article its essential character, in which case classification should be as
per the heading applicable for container and not article.

Example: CD cases
are specifically meant for containing CD and are sold along with CD and hence
they shall be classifiable as CD and not separately.

62. Sub-rule (2) provides
that all other types of containers / packing materials, other than those
covered u/r 5 (a) should be classified with the goods they contain, except in
cases where the container / packing material are meant for repetitive use.

Example: Styrofoam
used in packaging of electronic materials, is not reusable as the same is
handed over to customer and hence, the same will have to be classified as per
classification applicable for electronic material and not Styrofoam.

Rule 6 – Manner of Application of Rules

63. Once goods have been
classified to the Heading level as per Rule 1 – 5, then classification to the
Subheading level can now take place by repeating the said rules and taking into
account any related Legal Notes.

Conclusion

64. It would be sufficient to
say that classification plays a pivotal role in not only determining the rate
of tax, but also other aspects such as place of supply, time of supply,
procedural compliances, etc. and hence, any incorrect classification can
have severe consequences on the business. _

shailesh.kwebmaker

Place Of Supply Of Services – Part III

Introduction

As discussed in the previous article,
generally, the place of supply is determined on the basis of the location of
the recipient except in cases where the recipient is unregistered and his
address on record is not available, in which case location of supplier is
treated as the POS. This general rule is subject to various exceptions where
the POS is to be determined in a different manner.

While in the previous article we discussed
at length the exception rule in case of services relating to immovable property,
in this article, we shall specifically deal with the following exceptions:

– Certain Performance based services (restaurants, catering services,
personal grooming, health services, etc.)

– Service relating to
training & performance appraisal

– Services relating to events
(admission as well as organisation)

– Transportation services
(goods, passengers, as well as services on board a conveyance)

– Telecommunication services

– Banking & other
financial services

– Insurance services

– Advertising services
provided to Government.

We will now discuss each of the above
exceptions as well as specific issues surrounding the same.

Certain Performance based services:

This exception to the general rule, covered
u/s. 12 (4) of the IGST Act provides that the Place of Supply in case of
services of restaurant & catering, personal grooming, fitness, beauty
treatment, health service including cosmetic and plastic surgery shall be the
location where services are actually performed.

While this rule is not expected to have any
interpretational issues, the same has probable issues on credit front, in case
of B2B transactions. Let us try to understand with the help of following example:

ABC is a film production house operating out
of Mumbai. They have a film titled “###” under production, which is to be shot
extensively in Chandigarh. The local production activities are being managed
in-house by ABC. They have hired a catering company to supply food for their
employees as well as other people involved in the production activity. In
addition, they have make up artists who travel from Mumbai, Delhi as well as
outside India to Chandigarh for the said activity. The entire revenue from this
project will be earned in Mumbai. On account of this exception, in all cases
(including where Reverse charge applies), the Place of Supply will be taken as
Chandigarh while the Location of Recipient of Service is Maharashtra, thus
making the taxes attached with the services as ineligible for credit and thus
increasing the costs.

While admittedly, the performance of the
service is in Chandigarh, owing to the fact that the transaction is a B2B
transaction, the ultimate benefit / consumption of the said service takes place
in Mumbai where the recipient is located and hence, a hybrid rule for the
industry would have been beneficial.

Training & Performance Appraisal:

This exception to the general rule, covered
u/s. 12 (5) of the IGST Act provides for a hybrid rule for determination of
place of supply in case of services in relation to training & performance
appraisal as under:

– If services are provided to
registered person – place of supply shall be the location of such registered
person i.e. the recipient.

– If services are provided to
a person other than a registered person – place of supply shall be the location
where services are actually performed.

The important issue that needs to be
considered here is whether the “and” between training and performance appraisal
has to be read as “and” only or should it be read as “or”? The reason behind
this is if the word “and” is actually read as “and”, it will restrict the scope
of this particular section, as “and” is normally conjunctive.

For example, ABC Limited is a company
engaged in the business of providing education support services. They have
entered into an agreement with CBSE to evaluate the papers of all the students
of HSC / SSC. The papers are located at various locations across the country and
ABC shall send its’ evaluators at all those locations. The issue that needs
consideration is whether these services of performance appraisal will be
classified under this exception rule, since the services provided by ABC
Limited are only of performance appraisal and no element of training is
involved? Similarly, if PQR Limited undertakes training courses and does not
undertake any activity of performance appraisal, will it get covered under this
clause?

It is in this context that the need to
analyse whether “and”, which is normally conjunctive in nature has to be read
as “or”, i.e., give it a disjunctive interpretation or not for the purpose of
interpreting this exception. In this context, reference to the Supreme Court
decision in Union of India vs. Ind-Swift Laboratories Limited [(2011) 4 SCC
635] is made. The case was in the context of Rule 14 of the erstwhile
CENVAT Credit rules which provided for levy of interest in cases where credit
was taken or utilised wrongly or erroneously refunded. The issue in the
case was whether the or had to be read as and necessitating the
satisfaction of both the conditions, i.e., taking as well as utilisation of
credit for invocation of these rules or occurrence of either of the event would
suffice? The Supreme Court, relying on the decision of Commissioner of Sales
Tax, UP vs. Modi Sugar Mills Limited in (1961) 2 SCR 189 held that a taxing
statute must be interpreted in the light of what is clearly expressed and it is
not permissible to import provisions so as to supply any assumed deficiency.

Similarly, in A.G vs. Beauchamp (1920) 1
KB 650, it was held that the words “and” and “or” can be interchangeably
used if the literal reading produces an unintelligible or absurd result even if
the result of such interchange is less favourable to the subject provided that
the intention of the legislature is otherwise quite clear. For instance,
section 7 of the Official Secrets Act, 1920 reads:

“Any person who attempts to commit any
offence under the principal Act or this Act, or solicits or incites or
endeavours to persuade another person to commit an offence, or aids or abets
and does any act preparatory to the commission of an offence”.

The word “and” was read as “or”, for by
reading “and” as “and”, the result produced was unintelligible and absurd and
against the clear intention of the Legislature. (R v. Oakes (1959) 2 All ER 92)

However, in one particular case involving
the use of expression “sports and pastimes” in Common Regulation Act, 1965, it
was held that sports and pastimes are not two classes of activities but a
single composite class which uses two words in order to avoid arguments over
whether an activity is a sport or pastime. As long as the activity can properly
be called a sport or a pastime, it falls within the composite class (R vs.
Oxfordshire County Council (1999) 3 All ER).

It is felt that the test of purposive
interpretation will permit the reading of “and” as “or” and standalone
activities of training or performance appraisal may be covered under this exception
rule.

Event based services – admission &
organisation

There are two different exceptions to be
discussed here, which are covered u/s. 12 (6) & 12 (7) of the IGST Act. The
relevant provisions are reproduced below for ready reference:

(6) The place of supply of
services provided by way of admission to a cultural, artistic, sporting,
scientific, educational, entertainment event or amusement park or any other
place and services ancillary thereto, shall be the place where the event is
actually held or where the park or such other place is located.

(7) The place of supply of services
provided by way of ,—

(a) organisation of a cultural, artistic,
sporting, scientific, educational or entertainment event including supply of
services in relation to a conference, fair, exhibition, celebration or similar
events; or

(b) services ancillary to organisation of
any of the events or services referred toin clause (a), or assigning of
sponsorship to such events,––

(i) to a registered person, shall be the
location of such person;

(ii) to a person other than a registered
person, shall be the place wherethe event is actually held and if the event is
held outside India, the place of supply shall be the location of the recipient.

Explanation.––Where the event is held in
more than one State or Union territory and a consolidated amount is charged for
supply of services relating to such event, the place of supply of such services
shall be taken as being in each of the respective States or Union territories
in proportion to the value for services separately collected or determined in
terms of the contract or agreement entered into in this regard or, in the
absence of such contract or agreement, on such other basis as may be
prescribed.

It is important to note that section 12 (6)
deals with services provided by way of admission to events while section 12 (7)
deals with services of organisation of event as well as services ancillary to
the organisation of such event.

However, the scope of services to be covered
u/s 12 (6) is limited. It is important to note that the said section does not
cover within its’ scope one specific class of events, i.e., business events,
being conferences, seminars, etc. wherein company sponsors delegates for
attending the events. This distinction is also evident from the fact that while
section 12 (6) does not specifically mention the services of admission to
conference, in the context of services classifiable u/s. 13 (5), i.e., cases
where location of supplier or recipient is outside India, the services of
admission to conferences is specifically covered. In fact, it can be said that
the intention of the law is to ensure free flow of credits in case services are
provided to registered persons, which is evident from the example taken in the
next paragraph.

Let us now try to understand the interplay
of operations of sub-sections (4), (6) & (7) with the help of an example in
the context of a charitable institution (XYZ) conducting a Residential
Refresher Course (RRC) for its’ members. The institution may have an inhouse
team which manages the logistics for the organisation of the event. They enter
into a contract with a hotel to provide accommodation, conference and catering
facilities during the course of the RRC. The issue that needs to be determined
is whether the services provided by XYZ to its’ members will get covered under
sub-section (4), (5) or (6) of Section 12?

Before analysing the probable answer to this
query, let us first decide on the nature of supply, i.e., whether the supply
will have to be treated as composite supply or mixed supply considering the
fact that there is only a single consideration charged for the entire RRC
without any breakup? In our view, it would be safe to conclude that this is a
composite supply with the principal supply being the participation in
conference. Having concluded so, let us now proceed to analyse the exception
rule in which the services provided by XYZ to its’ members will be covered.

Section analysed

Conclusion

Basis for conclusion

12 (4)

Since multiple services are provided to the members and
principal supply is that of conference services, this exception will have to
be ruled out

12 (6)

As already discussed above, admission to conference as a
service is not covered under this rule. Hence, this exception will also have
to be ruled out.

12 (7)

XYZ does not provide services in relation to organisation of
the event. The access to participation in a conference cannot be considered
as services in relation to organisation of event. Services of event managers
are in relation to organisation of the event.

Therefore, it can be argued that the
services rendered by XYZ do not fall under any of the exception rules mentioned
above and would be classifiable under the general rule.

Another issue that arises in the context of
Explanation provided in section 12 (7) is whether the explanation will have to
be read in the context of services provided to both, registered as well as
unregistered persons? This is because the explanation is silent with regards to
its’ applicability. However, one can apply the intention theory behind the said
explanation and say that this covers only services supplied to unregistered
persons, as in case of registered persons, the intention of the law is to provide
free flow of credit. Providing for multiple place of supplies would defeat the
said intention.

Therefore, in cases where the events are
held in multiple states, in cases where the agreement identifies consideration
for each event, the supplier will have to divide his invoicing state wise as
even practically, there is no provision to provide for multiple place of
supplies in the same invoice. However, the issue arises in the context of
services where the agreement is silent with regards to division of contract
state wise. Notwithstanding the same, even if the manner for determination of
POS is prescribed, even then it has to be noted that there is no provision
under the GST law for splitting of value / supply itself. The provisions exist
only for splitting of POS. Therefore, the question that needs consideration is
whether the levy will sustain in the absence of proper provision for
determination of value of supply, even if the notifications are issued in this
regard? In this context, reference can be made to the decision of the Supreme
Court in the case of CIT vs. B C Srinivasa Shetty wherein it was held
that the charging sections and the computation provisions together constitute
an integrated code and the transaction to which the computation provisions
cannot be applied must be regarded as never intended to be subjected to charge
of tax.

Services
relating to transportation of goods

This exception is contained u/s. 12 (8) of
the IGST Act. The relevant provisions are reproduced below for ready reference:

(8) The place of supply of services by
way of transportation of goods, including by mail or courier to,––

(a) a registered person, shall be the
location of such person;

(b) a person other than a registered
person, shall be the location at which suchgoods are handed over for their
transportation.

One important shift in policy is that while
under the service tax regime, in case of service of transportation of goods
outside India, as per Rule 10 of Place of Provision of Service Rules, 2012, the
destination of goods was the place of supply, the GST law provides for the
place of supply to be the origin of goods. In other words, export cargo was not
liable to service tax. The same applied even for services provided by shipping
companies / airlines. However, in view of the above provisions, the position
changed under GST and the tax was imposed on service of transportation of goods
outside India as well. It is however important to note that w.e.f 25.01.2018,
an exemption has been provided for services of transportation of goods by an
aircraft / vessel from customs station of clearance in India to a place outside
India. However, the said exemption is not applicable in case the services are
provided by a supplier located in India for transportation of goods or arranging
for transportation of goods where the origin and destination, both is outside
India.

Services relating to transportation of
passengers

This exception is contained u/s. 12 (9) of
the IGST Act. The relevant provisions are reproduced below for ready reference:

(9) The place of supply of passenger
transportation service to,—

(a) a registered person, shall be the
location of such person;

(b) a person other than a registered
person, shall be the place where the passenger embarks on the conveyance for a
continuous journey:

Provided that where the right to passage
is given for future use and the point of embarkation is not known at the time
of issue of right to passage, the place of supply of such service shall be
determined in accordance with the provisions of sub-section (2).

Explanation––For the purposes of this
sub-section, the return journey shall be treated as a separate journey, even if
the right to passage for onward and return journey is issued at the same time.

One critical
issue under this entry for determination of place of supply is in the context
of structuring of transactions as principal to principal basis vis-à-vis principal
to agent. Let us take the example of an air travel agent, who books tickets on
behalf of passengers with the airlines. The issue that arises here is whether
the airline will have to treat the agent as the recipient of service or the
passenger, considering the definition of supply of service? This will be
important because if the transaction is structured as P2P, the agent will have
issues in claiming credit since the condition u/s. 16 (2)(b) regarding receipt
of services may not be satisfied. However, the second option of treating the
transaction as P2A will also have its’ own set of operational difficulties,
especially in case of B2B transactions. This is because each airline operating
from multiple states would be issuing invoice in the name of recipient, in
which case each of the invoice would have to be accounted separately by the company
for each ticket as against single invoice for multiple tickets that were issued
under the service tax regime. This can also have issues on the credit matching
front as well as the agent might have mentioned wrong GST details of the
company in which case communication with the airline would be required to be
initiated which in itself would be a long drawn out process.

Telecommunication Services

This exception
is contained u/s. 12 (10) of the IGST Act and prescribes different place of
supply provisions depending on the transaction entered into, which is tabulated
below:

Nature of service supplied

Place of Supply

Services by way of fixed telecommunication line, leased
circuits, internet leased circuit, cable or dish antenna

Place where the line / leased circuit / cable or dish is
installed

Post-paid mobile connection for telecom services / internet /
DTH services

Location of billing address of the recipient of services on
record

Pre-paid mobile connection for telecom services / internet /
DTH services through a voucher or any other means

u
If service provided through a selling agent or a re-seller or a distributor
of subscriber identity module card or re-charge voucher, the address of the
selling agentor re-seller or distributor as per the record of the supplier at
the time of supply

u
If service supplied to the final subscriber, location where such prepaymentis
received or such vouchers are sold

In any other case

Address of recipient on record of supplier of service

If not available, the location of supplier of service

Further, this sub-section has two provisos,
which read as under:

Provided that where the address of the
recipient as per the records of the supplier of services is not available, the
place of supply shall be location of the supplier of services:

Provided further that if such pre-paid
service is availed or the recharge is made through internet banking or other
electronic mode of payment, the location of the recipient of services on the
record of the supplier of services shall be the place of supply of such
services.

In addition, there is also an explanation
for cases where the place of supply is determined to be in multiple states
(similar to the explanation provided for immovable properties/event related
services and hence not reproduced for the sake of repetition).

Let us now try to understand some peculiar
issues faced in the above set of supplies for which provisions for determining
place of supply have been prescribed.

Example: ABC Limited is a e-education
service provider wherein it does live streaming of lectures provided by its
faculties from its head office located in Mumbai to various franchise
locations, spread across the country. The responsibility for arranging the
internet services to enable live streaming is on ABC. Accordingly, ABC has
entered into an arrangement subsequent to which, the vendor has agreed to
provide dedicated lines for enabling unhindered connection between the Head
Office and the franchise locations and a single invoice is issued for these
services. The issue that arises is that there are multiple Place of Supplies
and therefore, the supplier will have to divide his invoicing state wise as
even practically, there is no provision to provide for multiple place of
supplies in the same invoice. However, the issue arises in the context of services
where the agreement is silent with regards to division of contract state-wise.
Notwithstanding the same, even if the manner for determination of POS is
prescribed, even then the issues discussed in the context of events, where the
POS is spread across multiple states will continue to persist here as well.

In the context of online recharges, at the
time of selling the online vouchers to the portal, the supplier would charge
tax as per the location of the online portal. However, when the online portal
further sells the recharge to the end customer, the place of supply has to be
taken as per the address on record of the supplier. In other words, a telecommunication company/DTH company will have to open up its customer
database to each of the online portals to enable the sale of vouchers for
provision of service.

Similarly, even in the context of post-paid
services, there can be instances wherein between the billing cycle, there is a
change in the billing address of the service recipient after having provided
service for a specified number of days. In such a case, the question that
arises is whether the billing address has to be considered as applicable at the
start of billing cycle or end of the cycle or will there be a need to actually
do split billing, i.e., one invoice for the service provided before change in
the billing address and second invoice for service provided after change in
billing address.

Banking & Other Financial Services

This exception is covered u/s 12 (12) of the
IGST Act which provides that in general cases, the place of supply shall be the
location of recipient of service on record of the supplier of service, except
in cases where the location of recipient of service is not available on record
of the supplier.

The exception will generally apply in cases
of a walk-in customer who avails services for which KYC facilities may not be
mandatory, for instance availing demand draft facilities, money changing
services, etc. In all other cases, the place of supply will have to be taken as
per the address available on records.

The aspect of change in the location of
recipient of service cannot be ruled out in the context of banking & other
financial services as well as between two billing cycles and hence, proper
strategy will need to be developed to deal with such instances.

Insurance Services

This exception is covered u/s. 12 (13) of
the IGST Act, which is similar to the general rule for determination of place
of supply of services. The section provides as under:

– In case of services provided
to registered persons – the place of supply shall be the location of such
person.

– In case of services provided
to other than registered persons – location of recipient of services on the
records of the supplier.

Conclusion:

In the context of other services for which
exceptions for determination have been carved out, there are various important
aspects that needs to be considered, right from the stage of classification of
supply to the contractual treatment (P2P vs. P2A) to the contractual arrangement
(bifurcation of consideration in case of multiple place of supplies) and the
need to take care of minor issues (like change of address between the billing
cycle in case of telecom/banking services) and may also have credit impacts.
Therefore, businesses will have to be careful while determining the applicable
POS for their activities.

shailesh.kwebmaker

Input Tax Credit – Some Emerging Issues

1. Fundamentals and basic rules

1.1. At the heart of an efficient indirect tax is a flawless Input Tax Credit (“ITC”) mechanism, that allows a business to claim offset of taxes paid on expenses at the time of discharging liability of taxes collected from customers. If the tax offset, also known as ITC is not allowed freely to the businesses, it results in tax inefficiencies in the form of tax on tax. In fact, one of the most important justifications for introduction of GST has been the seamless flow of credit.

1.2. The GST law in general allows registered businesses to avail ITC of taxes paid on inputs / input services / capital goods which are used or intended to be used in the course or furtherance of business, subject to certain restrictions and conditions.

1.3. This article primarily covers the aspect relating to ITC entitlement, conditions for claim of credit, conditions and restrictions imposed for claim of credit and some teething issues towards credit claim. Chapter V of the CGST Act, 2017 as well as Chapter V of the CGST Rules, 2017 deal with the provisions relating to ITC.

2. ITC Entitlement – General Conditions

2.1.    Section 16 (1) of the CGST Act, 2017 provides that every registered person shall be entitled to take credit of input tax charged on supply of goods or services or both, which are used / intended to be used in the course or furtherance of his business and the said amount shall be credited to the electronic credit ledger of such person. Section 16(2) stipulates further conditions which need to be satisfied for the claim of credit and the same are listed below:
–    The registered person should be in possession of tax invoice / debit note issued by registered supplier or other tax paying documents
–    The registered person should have received goods / services
–    The tax charged on the invoice should have been actually paid to the Government
–    The recipient should have furnished his return
–    The recipient should have paid the supplier of goods / services the amount due towards the supply received (including taxes) within 180 days
–    The credit should not be blocked under Section 17(5).

2.2. As can be seen from above, there are various conditions prescribed under GST for claiming ITC, and they revolve around different pillars of compliances, from the view point of recipient (being a registered person, should have received the supply), compliances by both the parties (pre & post supply in the form of payment of taxes by the supplier, making correct disclosures relating to the supply by the supplier, filing the return by the recipient, intended use of the supply – business vs. non-business, etc.) and nature of supply (restricted credit vs. unrestricted credits).

2.3. Each of the above aspects are discussed in the subsequent paras.

3. Identifying Recipient of supply

3.1. As discussed above, one of the important conditions for claiming the ITC is that the registered person should have received the goods or services. In many cases, the payment for a supply may be made by one person but the economic benefit of the supply can be received by another person. Take the case of a Customs House Agent (CHA) paying for the warehousing charges at the Container Freight Station (CFS). Can it be said that the CHA has received the service and is therefore entitled for input tax credit?

3.2. In the above background, it becomes essential to define what is meant by the phrase “recipient of supply”. Section 2 (93) defines the term “recipient of supply” in the context of goods / services / both as:

    (93) “recipient” of supply of goods or services or both, means—
    (a) where a consideration is payable for the supply of goods or services or both, the person who is liable to pay that consideration;
    (b) where no consideration is payable for the supply of goods, the person to whom the goods are delivered or made available, or to whom possession or use of the goods is given or made available; and
    (c) where no consideration is payable for the supply of a service, the person to whom the service is rendered,    and any reference to a person to whom a supply is made shall be construed as a reference to the recipient of the supply and shall include an agent acting as such on behalf of the recipient in relation to the goods or services or both supplied;

3.3. The CHA operates out of customs port and facilitates number of activities pertaining to import / export of goods, such as dealing with the shipping line, CFS, loading / unloading of goods in to the vessel, paying port charges, etc. The key to the entire analysis would be whether the CHA is liable to pay the consideration to the underlying vendor. The actual fact of paying the consideration may not be relevant. Therefore, it may be important to look at the contracts. In many cases, the contracts may be verbal or implied. In such a scenario, the invoice can be the best indicator of the contracting relationship.

3.4. Practically, the vendors may enter into contracts/issue the invoices in the following manner:

a. Contracts entered into with/ Invoices issued in the name of the Importer / Exporter. In such a scenario, the CHA merely acts as an agent. However, payment to the vendors is done by the CHA which is subsequently recovered from importer / exporter.

In this scenario, the vendors have recognised the importer / exporter as the recipient of supply and hence they will have to be treated as the recipient and the credit can be claimed only by the importer / exporter and not by the CHA.

b. Contracts entered into with / Invoices issued in the name of CHA. In this scenario, since the person liable to pay the consideration to the underlying vendor is the CHA, the +CHA can be considered as a recipient of supply. It may be important to note that the definition of recipient also includes an agent acting on behalf of the recipient. In this scenario, the vendors have treated the CHA as the person liable for payment of consideration, i.e., recipient of supply. The CHA can claim the credit of the taxes which have been posted into their Electronic Credit Ledger by the respective vendors. It is however, important to note that in such cases, the CHA will not be able to claim the amount as reimbursement of expenditure and he should treat the expenditure incurred by him as inward supplies for providing the outward supply to the importer / exporter.

c. Issued in the name of CHA who claims the reimbursement of expenses from client as pure agent

In the above scenario, if the CHA chooses to claim the benefit of reimbursement of expenses and consequent exclusion from valuation of taxable services, in view of the Mumbai High Court decision in the case of Ultratech Cement Limited 2010 (20) S.T.R. 577 (Bom.), the CHA will not be eligible for the claim of credit.

In fact this will result in an incremental cost for the importer / exporter with no actual benefit flowing in to either the CHA / importer / exporter by way of tax credits.

4. Denial of credit for non-possession of original tax invoices

– Section 16 (2) (a) provides that the person claiming the ITC should be in possession of tax invoice / debit note issued by the supplier for claiming the credit.

– The question that arises is whether the receiver should be in possession of the original tax invoice for claiming credit or photo-copy or scanned copy of the invoice shall also suffice.
– In this context, it would be important to refer to the provisions of section 145 of the Act, wherein it has been provided that a micro film of a document or the reproduction of the image or images embodied in such micro film (whether enlarged or not); or a facsimile copy of a document; or a statement contained in a document and included in a printed material produced by a computer, subject to such conditions as may be prescribed; or any information stored electronically in any device or media, including any hard copies made of such information, shall be deemed to be a document for the purposes of this Act and the rules made thereunder and shall be admissible in any proceedings thereunder, without further proof or production of the original, as evidence of any contents of the original or of any fact stated therein of which direct evidence would be admissible.

5. Failure to make payment to vendor for the supply received including taxes

– Second proviso to section 16 (2) provides that in case where a receiver of supply fails to make the payment to the supplier for the value of supply (incl. GST charged) within 180 days of the date of invoice, he shall be liable to reverse the ITC claimed initially along with the interest thereon.

– Similarly, the third proviso to section 16 (2) provides that when the receiver of supply makes payment to the vendor post reversal of credit in accordance with the provision of second proviso, he shall be entitled to re-claim the credit of the tax reversed in terms of second proviso.

– One important issue that arises is whether credit reversal would be required in case of part payments made to suppliers, and if yes, whether to the extent of entire supply or only to the extent payment is not made? It is imperative to note that the proviso to section 16 (2) referred above is silent in this regard. The proviso only requires for reversal of ITC, but is silent as to what extent the reversal shall be necessitated?

– While there is no clarification for these issue, either from the CBEC / State Authorities, under the erstwhile service tax regime, in the context of Rule 4 (7) of the CENVAT Credit Rules, 2004, (which is a similar provision as the proviso to section 16 (2)), the Board had clarified1 as under:
_____________________________________________________________
1 Circular No. 122/3/2010-S.T., dated 30-4-2010

(b) In the cases where the receiver of service reduces the amount mentioned in the invoice/bill/challan and makes discounted payment, then it should be taken as final payment towards the provision of service. The mere fact that finally settled amount is less than the amount shown in the invoice does not alter the fact that service charges have been paid and thus the service receiver is entitled to take credit provided he has also paid the amount of service tax, (whether proportionately reduced or the original amount) to the service provider. The invoice would in fact stand amended to that extent. The credit taken would be equivalent to the amount that is paid as service tax. However, in case of subsequent refund or extra payment of service tax, the credit would also be altered accordingly.

– Similar issue is also faced by the Infrastructure Sector, especially contractors / sub-contractors where there is a concept of retention money, i.e., amount reduced from invoices raised by the suppliers by terming them as “retention money” and subsequent payment as per contractual terms. It is obvious that the amount is contractually due after more than 180 days and hence the payment would actually be made after the period of more than 180 days. Will the requirement of reversal of credit trigger in such situations? It may be fruitful to reproduce the exact provision requiring the reversal of credit

Provided further that where a recipient fails to pay to the supplier of goods or services or both, other than the supplies on which tax is payable on reverse charge basis, the amount towards the value of supply along with tax payable thereon within a period of one hundred and eighty days from the date of issue of invoice by the supplier, an amount equal to the input tax credit availed by the recipient shall be added to his output tax liability, along with interest thereon, in such manner as may be prescribed

– It is important to note that the provision obligating the reversal of credit gets triggered when the recipient fails to pay. The phrase “fails to pay” is a specific incident and gets triggered only in situations when there is an obligation to pay. Since the recipient is not obligated to pay the retention money within a period of 180 days, it cannot be said that he has failed to pay the retention money and hence the proviso is not triggered.

6. Process for claiming Input Tax Credit

6.1. Section 16 (1) provides that every registered person shall be entitled to take ITC of inward supplies received for use / intended use in the course or furtherance of business, the same comes with the caveat “subject to conditions and restrictions as may be prescribed”.

6.2. Out of this pool of input tax credit, there are various restrictions imposed on the taxable persons from claiming the input tax credit. It may be important to note that even under the Service Tax / VAT regime, Rule 6 of the CENVAT Credit Rules (including Rule 2 (a), (k) & (l)) as well as Rule 53/ 54 of the Maharashtra Value Added Tax Rules provided for similar conditions / restrictions on the claim of input tax credit.

6.3. Similar conditions and restrictions are contained under CGST Act, 2017 in the provisions of Section 17 read with Rule 43 of the CGST Rules, 2017. The ITC attributable to total inward supplies received by a registered person, on which ITC has been charged by the supplier as well as transactions where the ITC is applicable under reverse charge mechanism has been classified as “T” for the purpose of determining eligibility.

6.4. The total ITC is subsequently segregated into multiple baskets, as is evident from the following chart and discussed in detail in subsequent paras:

6.5. Credit pertaining exclusively to non-business / exempt activities

6.5.1.The first two baskets of segregation of “T” deals with situation wherein inputs / input services are used partly for the purpose of business and partly for other purposes OR partly for affecting taxable supplies and partly for exempt supplies and the amount of credit shall be restricted to so much of input tax as is attributable to business purpose OR is attributable to taxable supplies. To the extent the ITC is attributable to non-business purpose, the same is classified as T1 and to the extent the ITC is attributable to exempt supplies, the same is classified as T2.

6.6. Restricted Credits

6.6.1. In addition to above, section 17 (5) provides that ITC shall not be allowed in respect of various expenditure incurred. The inward supplies which are covered u/s. 17 (5) are classified as “T3”. A quick summary of such inward supplies where ITC is restricted include ITC in respect of:

– Motor vehicles & other conveyances
– Specified inward supplies, such as:

a. Food and beverages, outdoor catering, beauty treatment, health services, cosmetic and plastic surgery except where an inward supply of goods or services or both of a particular category is used by a registered person for making an outward taxable supply of the same category of goods or services or both or as an element of a taxable composite or mixed supply;
b. membership of a club, health and fitness centre;

c. rent-a-cab, life insurance and health insurance except where ––

(A) the Government notifies the services which are obligatory for an employer to provide to its employees under any law for the time being in force; or
(B) such inward supply of goods or services or both of a particular category is used by a registered person for making an outward taxable supply of the same category of goods or services or both or as part of a taxable composite or mixed
supply; and

d. travel benefits extended to employees on vacation such as leave or home travel concession;

–    Works contract services when supplied for construction of an immovable property (other than plant and machinery) except where it is an input service for further supply of works contract service;
–    Goods or services or both received by a taxable person for construction of an immovable property (other than plant or machinery) on his own account including when such goods or services or both are used in the course or furtherance of business.
–    Goods or services or both on which tax has been paid u/s. 10, i.e., composition scheme.
–    Goods or services or both received by a non-resident taxable person except on goods imported by him;
–    Goods or services or both used for personal consumption;
–    Goods lost, stolen, destroyed, written off or disposed of by way of gift or free samples; and
–    Any tax paid in accordance with the provisions of sections 74, 129 and 130.

6.7. Identified Credits

6.7.1. The fourth basket of segregation is pertaining to inward supplies, which are exclusively used for making taxable supplies, including zero rated supplies. Such ITC is tagged as “T4”. A supplier shall be eligible for full input tax credit to the extent the inward supply is tagged under this basket

6.8. Common Credits

6.8.1. The balance ITC is the quantum of common inward supplies which are used for making both, taxable as well as exempted supplies on which a ratio needs to be applied on a monthly basis. Such ITC is tagged as “C2”. From C2, the amount of ITC attributable towards exempt supplies (“D1”) is identified using the following ratio,

           Aggregate value of exempt
           supplies during the tax period (E)
    ____________________________    *    C2
           Total turnover of the state of the
           registered person during the tax period (F)

6.8.2. The term “exempt supplies” has been defined to mean supply of any goods or services or both which attracts nil rate of tax or which may be wholly exempt from tax u/s. 11, or u/s. 6 of the Integrated Goods and Service Tax Act, and includes non-taxable supply (i.e., supply of goods or services or both which is not leviable to tax under this Act or under Integrated Goods and Service Tax Act).

6.8.3.    Value of Exempt Supply shall include the following:
–    Transaction Value of all the exempt supplies
–    Transaction Value of services on which tax is payable under RCM
–    Sale of Land/ Completed Buildings
–    Sale of Securities – 1% of sale value is presumed to be the value of exempted supply.

6.8.4. A banking company or a financial institution including a non-banking financial company has been given an option to either comply with the ratio requirement or avail only 50% of the eligible ITC on inputs, capital goods and input services in that month. However, such companies shall be required to exercise the option every year and once the option is exercised, the same cannot be withdrawn during the remaining part of the financial year. Further, the 50% credit claim option is not applicable for internal supplies within the company on which tax is payable.

6.8.5.While under the erstwhile Service Tax Regime, the ratio for reversal of credit was to be determined as per the financials of the previous year, to be applied throughout the year and subsequently, requiring a final ratio to be determined based on the financials of the concluded year by the 30th June, the method has been changed to some extent under the GST regime. Under GST, the ratio shall be required to be determined & applied on a monthly basis and subsequently, at the end of the year, a final ratio shall be determined and applied on or before 30th September of the next financial year.

6.9. Additional 5% adhoc reversal for common input tax credits

6.9.1. Further, an additional reversal of 5% is proposed from C2 in cases where common inputs / input services are used for business as well as non-business purposes, and the same is denoted as D2 for the purpose of ITC calculations. It is important to note that the additional 5% reversal is required only in cases where a registered taxable person uses some inputs / input services for both, business as well as non-business purposes and not in cases where it is used for purely business purposes.

6.9.2.Therefore, the question that arises is whether this clause is meant to be applicable for all categories of taxable persons or only for specified categories? Perhaps, this entry is meant to cover situations of sole-proprietary / partnership firms / HUF where there is always an element of personal expenditure incurred by the sole proprietor / partners / members being claimed as expenditure. While in the case of a company, while such instances cannot be ruled out, it is important to note that the Statutory Auditors are required to compulsorily disclose the personal expenditure of specified persons booked in the books of the company? So, the question that arises is what shall be the basis for determining the amount for D2 purpose. Has it to be the Income Tax Assessment Order making disallowance u/s. 37 for personal expenditure or has it to be the report of statutory auditor making such disclosures or is it something that has to be at the mercy of GST officer?

6.10. Credit in case of capital goods identified as being used for effecting taxable supplies is allowed immediately which is a departure from the earlier tax regime wherein credit of capital goods was to be claimed in two equal installments in the first two years. However, more complex provisions for reversal of ITC on capital goods have been prescribed. It has been provided that the claim of ITC on capital goods shall be distributed over a period of 60 months and credit should be availed every year basis the ratio determined on a monthly basis for a period of 60 months.

7. Credit Claim – Some controversies

7.1. Credit of ITC in respect of motor vehicles & conveyances

– As stated earlier, section 17(5), inter alia, does not permit the claim of credit in respect of motor vehicles. In this context, a question which arises is whether taxes paid on repairs and insurance of motor vehicles are eligible for input credit. Is the denial of credit only for procurement of motor vehicles as such or does the denial extend to all goods and services surrounding the effective consumption of the motor vehicle?

– In this context, it would be important to refer to the decision of the Hon’ble Supreme Court in the case of State of Madras vs. Swastik Tobacco Factory (1966) 3 SCR 79 (SC) wherein it was held that the expression “in respect of the goods” in r. 5(1)(i) means only on the goods, and cannot take in the raw material out of which the goods were made.

– Taking cue from the said decision, a view can be taken that the restriction for claim of credit is only restricted to receipt of motor vehicles and not other goods or services surrounding the motor vehicles. Therefore, a view can be taken that motor car insurance and repairs shall be eligible for credit under the GST Regime.
7.2. Distinction between rent-a-cab and leasing of vehicles and eligibility to claim credit thereof

– While the term rent-a-cab has not been defined under GST, the term cab has generally been perceived as a vehicle used for hiring purposes and is accordingly registered with the Transport Authorities as well. But the same cannot be said for leasing transactions, where the motor car given on lease is actually not registered with the Transport Authorities as a commercial vehicle and hence, the leasing of such vehicles, which in itself might be a commercial activity, cannot be classified as rent-a-cab.

– It may also be important to note that services of transportation of passengers attract GST at a rate of 5% / 18% while the leasing of goods attract the rate applicable on supply of such GST including the compensation cess thereof. The fact that there is a distinction of rate between the services of transportation of passengers in a cab, which is covered under rent-a-cab category and leasing of vehicles clearly reinforce the view that the credit of tax paid on leasing of vehicles can be claimed as the same is not equivalent to rent-a-cab.

7.3. Employee reimbursements – Credit Eligibility

7.3.1.An employee, as an agent of the company, who apart from working for the company and making various supplies on behalf of the company, also receives various supplies on behalf of the company in the course of his employment. Such supplies received might be in the nature of supplies meant for personal consumption of the employee or for the business purposes.

7.3.2.For example, an engineer visits a site and purchases various consumable items for use in provision of service to the client. The question that arises is whether the company shall be entitled to claim credit of such taxes, that would have been paid to the vendors?

7.3.3.It is more than evident that such consumable items are procured by the engineer for the company. The immediate consumption and use of such items is by the company and not by the engineer. Therefore the credit should be available to the company. However, it would be important that the invoice be issued in the name of the company and the credit is uploaded by the vendor in the company’s electronic credit ledger.

8. Conclusion:

8.1. The industry would have hoped that the ITC provisions under the GST regime would be less complicated as compared to the provisions under the erstwhile tax regime. However, the expectations have not materialised and the above complex provisions, if not complied in an organised manner, might result in future litigation as well as probable loss of credit for businesses. Therefore, businesses will have to be very careful while filing their monthly compliances relating to inward supplies register, tagging the inward supplies as either T1-T4 and C2 as well as calculating the ratios.

shailesh.kwebmaker

Interesting issues on Interest

Tax laws operate on three fundamental
impositions viz tax, interest and penalties. Each of these recoveries are
designed to meet specific objectives and interest has one striking peculiarity
i.e. it is not static and accumulates
over time.

In common parlance, interest is understood
as a compensation payable to the owner of funds for the usage of money borrowed
from such person. Black’s Law Dictionary defines interest, in the context of
usage of money, as a compensation allowed by law or fixed by parties for the use or forbearance of borrowed money. In
the context of tax laws, the Supreme Court in Associated Cement Co. Ltd. vs.
CTO (1981) 48 STC 466 has explained tax, interest and penalty as follows:

“Tax, interest and penalty are three
different concepts. Tax becomes payable by an assessee by virtue of the
charging provision in a taxing statute. Penalty ordinarily becomes payable when
it is found that an assessee has wilfully violated any of the provisions of the
taxing statute. Interest is ordinarily claimed from an assessee who has
withheld payment of any tax payable by him and it is always calculated at the prescribed
rate on the basis of the actual amount of tax withheld and the extent of delay
in paying it. It may not be wrong to say that such interest is compensatory in
character and not penal.”

The Supreme Court in Prathibha
Processors vs. Union of India (1996) 88 ELT 12 (SC) has held that interest
is compensatory and its levy is mapped to the actual amount of tax withheld
and the extent of delay in payment of tax from the due date.

Settled
principles on interest under fiscal legislations

The well-settled principles of interest
under fiscal legislations have been summarised for guidance while interpreting
the GST scheme:

i. Interest
provisions are part of the substantive law of the fiscal statute and cannot be
imposed by implication. The statute should specifically provide for the
circumstances leading to the imposition of interest.

ii. Imposition
of interest is mandatory in nature and with no scope for any discretion.

iii. Reason
for delay (intentional/ unintentional etc.) in payment of tax is irrelevant
while deciding the imposition.

iv. Interest
should be calculated as per the law prevailing for the period under
consideration.

v. Interest
need not be quantified in the assessment order.

vi. Interest
can be waived only by specific statutory provisions (say VCES scheme, etc).

vii. Interest
would be applicable even if there is an interim stay of recovery by any Court.

viii. Interest
cannot be demanded where the tax recovery itself has become time barred.

Overview
of provisions of interest under GST Law

The provisions of interest under the GST
laws can be categorised as follows – (a) interest on demands; and (b) interest
on refunds. Any interest computation is based on three variables and the GST
law is no different:

(a) Principal
– Tax unpaid

(b) Time
period – Period commencing from due date of tax payment to date of actual
payment

A) Interest
on tax demands

Interest provisions are contained in
Chapter-X : Payment of tax. The circumstances under which interest is
applicable under GST law are:

i. General
Provision – Interest on delayed/ short payment of tax

Section 50(1) applies when a person fails
to pay the tax or any part thereof within the prescribed period. Interest would
be calculated on the principal (being the tax involved) at the rate notified by
the Government, not exceeding 18% per annum (N-13/2017 –Central Tax dt.
28.06.2017 prescribes a rate of 18% p.a). The delta of the following dates is
used for the determination of the time period for which interest applies:

(a) Due date for payment of tax (section 39):
Section 39 provides that tax shall be paid as per the monthly return within the
due date for the said return. Rule 61 requires that every registered person is
required to furnish the monthly return in form GSTR-3 by 20^th of the
succeeding calendar month. The said rule inserted an additional return in Form
GSTR-3B w.e.f. 27.07.2017 in cases where the due date of filing GSTR-3 has been
extended. Notifications have been issued from time to time prescribing the due
date of GSTR-3B as the 20^th day following the relevant tax period.
The said notification also contains a clause that requires the assessee to
discharge its liability of tax, interest and penalty within the due date for
GSTR-3B.

(b) Date of payment of tax (section 49): Tax
liabilities (either self-assessed or otherwise) of a taxable person are
recorded in the electronic liabilities ledger (ELL) of the taxable person on
filing the return. Section 49 provides
for depositing amounts in Government accounts under various heads (major and
minor heads) which would be reported in the electronic cash ledger (ECL). The
amounts available in the electronic cash ledger or electronic credit ledger
(ECrL) would be debited and adjusted towards the outstanding liabilities in the
ELL. Section 49(7) & (8) states that the taxes of a tax period would be discharged
in a particular manner.

Therefore, the due date for payment of
taxes is sought to be fixed by the notification as 20^th of the
succeeding calendar month. Prima-facie, any delay in payment of taxes
after this date would involve payment of interest @ 18% p.a. The assessee would
have to follow the system of reporting the taxes on the GSTN portal and then
discharge its liabilities in the ledger by filing the due return. This position
is subject to further discussion of the interplay between GSTR-3 and GSTR-3B
explained later.

ii. Interest
on undue or excess claim of input tax credit or reduction of output tax

Similarly, section 50(1) also provides for
interest in cases of an undue or excess claim of input tax credit u/s. 42(8) or
an undue or excess reduction in output tax u/s. 43(8).

– Section 42 applies where GSTR-2
(statement of inward supplies) generates a mismatch report on account of
duplication, incorrect data, etc. amounting to excess claim of input tax
credit. Section 42(8) levies interest on the amount so added from the month of
availment of credit till the corresponding addition is made in the return.

– On similar lines, section 43 applies
where the GSTR – 1 (statement of outward supplies) generates
a mismatch report on account of duplication, incorrect data, etc. in
credit notes claimed towards reduction of turnover. Section 43(8) levies
interest from the date of claim of reduction till the corresponding addition is
made in the return.

Time frame for matching – Rule 69 of the
CGST rules provides for matching of the input tax credit claims by the
Government. The said rules do not provide for an outer limit within which input
tax credit matching should be performed by the Government, though it empowers
the Commissioner to extend the date of matching in cases where the filing of
GSTR-1 and 2 are extended. Rule 71 states that the mismatch report would be
communicated to the tax payers on or before the last date of the month in which
the matching is carried out.

The said provisions were originally
intended at matching of input tax credit claims/ output tax reductions by the
end of the calendar month in which returns were filed which effectively
resulted in interest on the mismatch for a period of 1 month, in case of
duplicate claims, and 2 months in the case of erroneous claims. GSTN is yet to
conduct the matching of GSTR-2 and 2A. To the knowledge of the author, none of
the Commissioners have exercised this power of extension on the presumption
that matching is the prerogative of GST Council. In view of the decision of the
GST council to defer matching, this reporting of mismatch has not taken place yet.

While discussions over the mechanism of
matching of input tax credit claims are underway in the GST council meetings,
it is evident that this would be undertaken sooner or later[1]. In the
recently concluded GST Council Meeting, it has been decided that a single
return would be formed for GST compliance with the matching being performed at
the backend. The said return is announced to be operationalised on the GST
portal within 6 months.

Until then, it unfortunately implies that
a mismatch would be recoverable from the recipient and interest provisions
would be invoked for a period more than what was originally envisaged. To add
to this, the supplier may not be in a position to even rectify the mismatch
identified by the GSTN since the same may be beyond the month of September of
the following financial year. The tax
payer may have to bear the brunt of interest for delays attributable to the
Government/ GSTN which may extend to more than one year (one should consider
filing a counter claim from GSTN for such delay!).

iii. Interest
on provisional assessment

Section 60 provides for provisional
assessment in cases where tax is not determinable by the tax payer/ assessing
authority. Section 60(4) imposes interest in respect of any additional tax
payable on closure of such assessment from its original due date to the actual
date of payment of tax, irrespective of the date of conclusion of the
provisional assessment. This issue has experienced intensive litigation under
the Excise law right upto the Supreme Court. With specific provisions under the
GST law, it seems clear that interest liability has to be determined from the
original due date and not from closure of provisional assessment.

iv. Waiver
of interest in case of incorrect classification of supply

Section 77(2) r/w 73/74 of the CGST law
implicitly provides for fresh payment of the appropriate tax in cases where a
taxable person has incorrectly classified an ‘intra-state supply’ as an ‘inter
state supply’. Conversely, IGST law would also be read in a similar manner in
view of section 20 of the said law. However, the section waives the interest
liability on account of the delay in payment of the appropriate tax. This is on
the premise that the tax payer has made the tax payment, albeit under an
incorrect tax type and should not be saddled with an interest liability. This
is the only provision under the statute which waives interest liability on
account of delayed payment of taxes.

v. Other
cases of interest recovery

Other provisions of interest are as follows:

– Reversal of input tax credit where the payment
of the inward supplies has not been made within 180 days from the date of issue
of invoice: interest is applicable from the date of availment of input tax
credit to the payment by way of reversal/ addition to output liability.

– Recovery of irregular input tax credit
distributed by the Input Service Distributor to its recipients : recovery of
tax and interest would be from the recipient of the ISD credit in terms of
sections 73 and 74 of the GST law.

– ITC reversals in respect of any exempted/
non-taxable activity is provisionally arrived at on a monthly basis and finally
adjusted at the year-end at an aggregate level : interest is applicable from 1^st
April following the end of the financial year till the date of payment/
reversal of such excess credit.

– Inputs or capital goods which are supplied to a
job worker without payment of tax and either not returned or supplied therefrom
within 1 year/ 3 years respectively – interest is applicable from the month in
which such goods were original removed to the date of actual payment.

– Rectification of any under-reporting of tax in
view of an omission/ error in any subsequent return (section 39(9)) is liable
for interest.

– Failure/ delay on the part of the deductor to
deposit the taxes deducted to the Government within the prescribed date is
liable for interest in the hands of the deductor.

– Rectification of any under-reporting and taxes
collected at source by an e-commerce operator is subject to interest.

– Interest is applicable in cases where payment
of tax is permitted to be made on instalment basis in terms of section 80.

– Amount demanded by an anti-profiteering body in
cases where the benefit of taxes have not been duly passed on would also be
subject to interest provisions.

– As an exception to the general rule of tax
liability, section 13(6) and 14(6) defers the time of supply in cases where the
value/consideration of a service is enhanced due to inclusion of interest, late
fee or penalty as part of the value of supply in terms of section 15(2)(d).
Consequently, the start point of calculation of interest stands deferred to the
date of its receipt.

– Interest on taxes short paid or not paid are
liable for recovery whether or not the same is stated or quantified in the show
cause notice or assessment order

– Interest computed under the GST law should be
rounded off to the nearest rupee

B) Interest
on delayed refunds due to an applicant

Section 56 grants interest on refunds due
to the applicant if the same has not been paid within sixty days from the date
of refund application. Interest is applicable from the expiry of sixty days to
the date of actual refund at the rate presently notified at 6% p.a.

In cases where the refund is ordered by an
adjudicating authority, appellate authority, court, etc. the assessee is
entitled to an interest of 9% p.a. for the aforesaid period. It also applies to cases where the refund
sanctioning authority orders refund in its order but fails to issue the refund
cheque to the applicant along with the refund order. For the purpose of
computation of interest of 9% p.a., the period has to be reckoned from the date
of application filed consequent to the said order. In cases of appellate
relief, interest would be applicable from the date of payment of the taxes
against the aggrieved order and not from the date of the appellate order
(section 115).

In context of availing refund for
zero-rated supplies u/s. 54, an applicant is not entitled to claim interest in
case the authority fails to grant the provisional refund of 90% (Rule 91 of the CGST
Rules) of the claim of refund of input tax credit.

In the context of section 77 (incorrect
classification of supply), though there is a waiver for interest on delay in
payment of the correct tax type, there is no bar on claiming the interest on
refund of the incorrect taxes paid in cases of any delay in granting such
refund.

Issues
in determination of interest

i. What
is the actual due date of payment of tax? In other words, by deferring the due
date of GSTR-3, has the Government also inadvertently deferred the due date of
payment of tax?

Section 39(7) states that self-assessed
taxes are required to be paid within the due date of filing the return. The GST
scheme originally envisaged the filing of the return in GSTR-3 on a monthly
basis by 20^th of the succeeding month. The Government has however
made multiple changes in the return filing procedures in order to address the
technical challenges in the GSTN portal. GSTR-3B was introduced as an
additional return until the portal was sufficiently equipped for filing GSTR-3[2]. A question arises on whether the due date of
return/ payment of tax should be understood as per the due date prescribed for GSTR-3B or GSTR-3? We may look at the said provisions in detail.

Section 39(1) requires a return to be
filed on a calendar month basis by 20^th of the succeeding month –
the return referred to in section 39(1) is a return of outward/ inward
supplies, input tax credit availed/reversed, tax payable/ paid and other
prescribed particulars. Strictly speaking, GSTR-3B is only an additional return
(recording summary figures) to that originally envisaged u/s. 39(1). As the law stands today, tax payers would
eventually have to file the monthly return in Form GSTR-3.

Can one take a stand that the due date
prescribed for tax payment is vis-à-vis the due date of GSTR-3 and not
GSTR-3B? The thrust of this stand hinges on whether GSTR-3 or 3B is the
‘return’ referred to in section
39(1)/ (7). The arguments in favour of GSTR-3 may be as follows:

– GSTR-1, 2 are statements which are
auto-populated in the monthly return in form GSTR 3 and should be considered as
part of GSTR-3 itself (Instruction 2 & 4 of form GSTR-3). Section 39(1)
refers to a return of inward and outward supplies with other details such as
input tax credit availed, reversed etc. The said section thus envisages
a return detailing the inward and outward supplies and not merely a form
reporting aggregate amounts i.e. GSTR-3.

[1] State officers in
some states have started issuing scrutiny notices for verification of input tax
credit claims by exercising powers u/s. 61.

– Strictly speaking, GSTR-3B is not a return
of inward or outward supplies – attention should be placed on the
preposition ‘of’ which means that the return should be that which records
outward and inward supplies and not merely the turnover at an aggregate level.

– The instructions in GSTR-3 and GSTR-3B conveys
that ECL, ECrl and ELL are updated only on filing the GSTR-3 and not GSTR-3B
(contrary to the functionalities of the GSTN portal) – legally speaking,
GSTR-3B is not a valid document to update the ELL/ ECrL and should not be
considered as the return u/s. 39(1) & (7).

– Section 39 refers to ‘a’ return to be filed for
every calendar month i.e. a singular return. The rules seem to extend beyond
the requirement of a singular return for every calendar month since the filing
of GSTR-3B does not dispense with the requirement of filing GSTR 3. Therefore, GSTR-3B is a document which is
clearly not envisaged in section 39.

– GSTR-3B does not displace GSTR-3 as a return
for inward or outward supplies. The returns seem to parallelly exist and this
requirement exceeds the mandate of section 39(1) of filing a singular
return.

– GSTR-3B can at most be considered as a
provisional document subject to the final return in form GSTR-3. The entries in
the electronic ledgers are merely provisional entries to tide over the
difficulties posed by the common portal until GSTR-3 is fully functional.

– CBEC circular (No. 7/7/2017-GST dt. 01.09.2017)
clarified that any error in GSTR-3B could be rectified while filing GSTR-1/2
and 3. GSTR-3 certainly enjoys a superior status compared to GSTR-3B, and being
so, the due date should be understood with reference to the said document and
not from an inferior document.

– Form GSTR-3, 4, etc. are titled ‘Return’
whereas GSTR-3B does not hone such a title.

– As it is well settled, where there are two
interpretations of law, the one which is beneficial to the tax payer should be
adopted.

Based on the above arguments, one may take
a view that the extension of GSTR-3 has also lead to the extension of the due
date of payment of tax.

However, the said contention may fail if
one applies the purposive interpretation as against a literal interpretation of
law. The intention behind introduction of GSTR-3B was to facilitate the
Government to collect taxes on a monthly basis and overcome the technical
glitches in the common portal. Rule 61(5) term GSTR-3B as a ‘return’ to be
filed in cases where GSTR 3 is extended in special circumstances (also refer Circular
7/7/2017-GST dt. 01.09.2017 & Circular 26/26/2017-GST dt. 29.12.2017). The Circular mentions that any rectification
subsequent to filing the GSTR-3B should be accompanied by interest on delayed
payment, if any. The notification
prescribing due dates of GSTR-3B also requires the tax payer to discharge its
taxes, interest and penalty within the said due dates. Further, Government(s) would be deprived of
its revenue, if taxes are not paid in a timely manner. The taxes which are collected by suppliers
are in the capacity of an agent of the Government and the Government never
intended the tax payer to collect taxes from the consumers and retain this sum
without any outer time limit.

If the amounts are substantial, this would
certainly be a heated issue between the tax payer and the department and
warrant a resolution by the Courts.

ii. Whether
balance available in respective ECL / ECrL can be reduced for ascertaining
taxes unpaid? As a corollary, whether interest is applicable if utilisation
through the return filing mechanism is not undertaken on the common portal?

The overall scheme of reporting and
payment may give pointers on this question.
Section 40 provides for a mechanism of reporting liabilities and payment
of tax through electronic ledgers. Three ledgers have been designed for this
purpose: ECL, ECrl & ELL. The said ledgers have been created separately for
each enactment and cross movement of cash/ funds is not permitted except
through the cross credit utilisation mechanism in section 49(5) of CGST/ SGST
law and 18 of IGST law:

– ECL: Credited with bank remittances and used
for payment of tax, interest, penalties, fees.

– ECrL : Credited with self-assessed input tax
credits and used for payment of tax.

– ELL : Credited with return related and
non-related liabilities and is debited with payments from ECL / ECrL. This ledger is updated only after filing the
statutory return (currently GSTR-3B).

Discharge of tax dues under the GST law
involves a two-step mechanism – (a) a bank payment (involving flow of funds)
into the cash ledgers and (b) an accounting adjustment (an appropriation of
such funds). There have been many
instances where assesse has sufficient ECL/ ECrL balance to set-off the ELL but
has failed to file the GSTR-3B for one reason or another, due to which the
utilisation or discharge of liabilities reported/ due to be reported in the ELL
has not taken place.

In such cases, an issue arises whether
interest is applicable on failure to discharge the ELL / non-filing of return
even-though the tax payer has paid the amounts into Government coffers? Has the law made a distinction between
payment of taxes and discharge of tax liability? Are they co-terminus or independent actions
to be performed by the tax payer?
Whether the double entry accounting adjustment on filing the return
would have any revenue impact for Government?
These questions would certainly come up to address the question of
interest applicability.

While logically, there seems to be no doubt
that the benefit of funds available in ECL/ ECrL should be given to the tax
payer and non-filing of returns should not entail any interest liability, one
should also give cognisance to the literal interpretation of the Statute.

Literal interpretation

Section 60(1) terms the credit into the
ECL as a deposit towards tax, interest, penalty, fee or any other sum
dues. Section 60(3) states that ECL may
be used for payment of tax under the Act. Section 60(7) & 60(8) provide
that all liabilities would be recorded in the ELL and discharged in a
prescribed manner. Rule 85(3) states that all liabilities would be paid by
debiting the ECL/ ECrL as permissible.

ECL in form PMT-05 maintains separate
account heads – minor head (such as Tax, interest, penalty, etc.) under
each tax type – major head (CGST/ SGST/ IGST) for deposits made into such
account. The law does not permit cross transfer of amounts reported in one
account major/ minor head into other account heads.

If one examines the GSTN portal, filing of
GSTR-3B creates a credit entry in the ELL and a simultaneous debit in the ECL/
ECrL as the case may be, as discharge of taxes. The tax dues are said to be
discharged on filing the returns and corresponding utilisation of ECL / ECrL. Therefore, interest seems to be prima-facie
applicable from the due date to the actual date of filing the return.

In the view of the author, even if the
returns are not filed, deposits into the Government accounts should be
considered as payment of tax dues and benefit of such credits be granted for
ascertainment of the taxes unpaid u/s. 50(1). Following arguments can be taken
in support of this stand:

– Section 50 (1) states that interest is
applicable on failure to pay the tax dues.
The failure is with reference to the tax payment and not with reference
to utilisation of the ECL with the ELL (referred to as discharge of tax
liability).

– Section 39(7) requires the assessee to pay the
taxes due as per such return before the due date of filing the return, i.e. the
act of payment should be one which can be performed ‘before’ filing the
return. As stated above, the book
adjustment (credit in ECL and debit in ECrL) takes place only after filing the
return (refer instructions of form GSTR-3). Therefore, payment of taxes is distinct
from discharge of taxes.

– Moreover, the IT framework does not allow one
to file a return unless sufficient balance is available in the appropriate
ledgers. This implies that payment of taxes precedes the adjustment in
ELL. Hence, bank payment in ECL should
be considered as a ‘payment’ u/s. 39(7).

– Principally, interest is collected to
compensate the Government of its rightful revenue. Amounts credited to ECL are
funds received into respective Government accounts and it is free to utilise
this revenue for its functioning.

– The amounts lying in the ECL are not under the
control of the assessee. One has to necessarily follow the procedures
prescribed in GSTR-3B/3 to claim the refund of any excess balance, implying
that the funds are available with the Government.

– Provisions of refund provide for interest @ 6%
if the Government delays in refund of the excess ECL balance also implying that
these funds are being used by the Government and under its control.

– Amounts lying in ECL are akin to amounts lying
in PLA under Excise laws. Where a
manufacturer delays in filing its excise return or carries excess balance in
its PLA, it was considered as amounts paid under the Excise law.

– Similarly, amounts lying in ECrL represents
credit eligible to the assessee – Courts have held that input tax credit
permissible under law is as good as taxes paid.
Though an assessee may not have filed the returns, the liability of such
assessee for a tax period would have to be computed after deduction of amounts
lying in ECrL.

In view of this, one can take a stand that
the Government has not incurred any loss of revenue and hence interest should
not apply where sufficient amounts are lying in the ECL/ ECrL. The CBEC Circular No. 7/7/2017 (supra)
on the contrary states in para 11 & 12 that interest is applicable till the
date of debit in the ECL/ ECrL; i.e. until the return is filed and the
corresponding utilisation in the respective ledgers takes place.

Inter-Government Account Settlement

The flow of funds
between Government accounts are an important factor to ascertain whether the
rightful Government is enjoying funds.
The settlement of accounts of Governments takes place at the back-end
based on the returns filed by the tax payers.
‘Place of supply’ reported in the tax invoices identifies the Government
which is entitled to the revenue in an outward supply. However, these details can be ascertained by
the Government only when accurate and complete returns are filed in GSTR-1, 2
& 3.

Transfer of funds on cross utilisation of
input tax credit and settlement of accounts by the Governments are covered u/s.
53 of the respective CGST/ SGST Acts and Chapter VIII of the IGST Act
(comprising of section 17 and 18). The
settlement of accounts between Governments can be categorised in two broad
types:

a) Input
tax credit Settlement

– Section 53 of the respective CGST/SGST Acts
provide that on utilisation of the credit of CGST/ SGST for payment of IGST,
corresponding amounts would be transferred from the Central Government/ State
Government account to the IGST account.

– Section 18 of the IGST Act provides that on
utilisation of the credit of IGST for payment of CGST/ SGST, corresponding
amounts would be transferred by the Central Government to the Central
Government / State Government account.

– Section 53 and 18 above, convey that cross
utilisation of credits lead to a transfer of funds between Government accounts
in the back end and the Government granting the set-off towards input tax
credit receive its share of revenue. The
section also states that this cross utilisation takes place only at the time of
filing the return and to the extent of the amounts are reported in the
return. Where a return is not filed or
the return filed is erroneous, the cross utilisation to the extent of the error
would not take place and the rightful Government would not receive this
revenue.

b) Cash
Settlement

– Cash payments in the ECL takes place through
electronically generated challan in PMT 06.
Major heads represents each statute under which the collection is being
made and funds cannot be cross-transferred to other major heads; Minor heads
represents the folios under which collection is being made (such as tax,
penalty, interest, etc.) and merely an accounting head of the respective
Government.

– CGST/ SGST-ECL ledgers represents funds
received by the respective Government and hence no further adjustment or
transfers are required. The funds in the ECL can be used for any payment including
tax, interest and penalties.

– IGST-ECL ledger represents the amounts
collected by the Central Government and due to both Central Government and
State Governments as per prescribed formula. Section 17 of the IGST Act
provides for a mechanism of apportionment of IGST collected and settlement of
accounts.

Legally speaking, revenues would accrue to
the State only once the return is filed and the appropriate utilisations are
made in the ECL/ ECrL and ELL. In case
this is not done, revenues would remain un-appropriated and fall into an
apportionment formula. To this extent,
there is every possibility that the Government has not received its rightful
share of revenue. Governments may then
claim that on account of an incorrect return or an omission of filing a correct
return, it has been deprived of the rightful revenue. In that sense, the issue
is not really of the amount being paid and only offset entry not done.

During the last one year, there have been
multiple cases where amount were lying in the ECL/ ECrL, but the assessee was
unable to file the return or failed to file the return within the due date, due
to which the appropriate utilisations could not be made at the back-end by the
Government(s). A matrix of various possibilities has been tabulated and the
compensatory nature of interest can be put to test based on the interpretation
that unless the Government is deprived of funds, interest should not apply.

Sl
No.

Scenarios

ECL

ECrL

ELL

Funds
held by

Funds
due
to

Interest

Major
heads : I/C/S

Sufficient Input Balance
(without considering cross utilisation)

I –
NIL

C –
NIL

S –
NIL

I –
100

C –
100

S –
100

I –
100

C –
100

S –
100

Respective Govts.

NIL

Sufficient Input Balance
(considering cross utilisation)

I –
NIL

C –
NIL

S –
NIL

I –
300

C –
NIL

S –
NIL

I –
100

C –
100

S –
100

Central Govt.

State Govt.

May apply to the extent of
SGST component (sec. 53) since no ITC settlement in favour of State Govt.

-do-

I –
NIL

C –
NIL

S –
NIL

I –
NIL

C –
200

S –
100

I –
100

C –
100

S –
100

Central Govt.

Should not apply since no
loss of revenue to Govt.

-do-

I –
NIL

C –
NIL

S –
NIL

I –
NIL

C –
100

S –
200

I –
100

C –
100

S –
100

State Govt.

Central Govt.

May apply to the extent of
IGST component since no ITC settlement in favour Central Govt.

Sufficient Cash Balance

I –
50

C –
50

S –
50

I –
50

C –
50

S –
50

I –
100

C –
100

S –
100

Respective Govts.

NIL

Sufficient Cash Balance (but
different major head of same Government)

I –
100

C –
NIL

S –
50

I –
50

C –
50

S –
50

I –
100

C –
100

S –
100

Central Govt.

Should not apply since no
loss of revenue to Central Govt.

Sufficient Cash Balance (but
different Government)

I –
NIL

C –
50

S –
100

I –
50

C –
50

S –
50

I –
100

C –
100

S –
100

State Govt.

Central Govt.

May apply to extent of IGST
component since no ITC settlement in favour of Central Govt.

Cash Balance (but different
major head of same Government)

I –
150

C – NIL

S –
50

I –
50

C –
NIL

S –
50

I –
100

C –
100

S –
100

Central Govt.

Should not apply since same
Govt.

Sufficient Cash Balance (but
different Government)

I –
150

C –
50

S –
NIL

I –
50

C –
50

S –
NIL

I –
100

C –
100

S –
100

Central Govt.

State Govt.

Will apply on 50 SGST being
unpaid balance. May apply to the
extent of 50 SGST component since no ITC settlement in favour of State Govt.

In certain cases, interest becomes
applicable and in certain cases, interest should not apply on the fundamental
principle of being compensatory in nature. The above table depicts the
conundrum which one would face if they have to convince a Court that interest
is not applicable per compensatory principles. Though an argument can certainly
be taken that the assesse should not be saddled with an interest merely because
Governments have not settled their accounts internally.

iii. Whether
blocked/ ineligible credit claimed in ECrL and remaining unutilised is subject
to interest at the time of its recovery?

Sections 16, 17 and 18 provide for the
mechanism for granting the benefit of input tax credit to an assessee. Input tax credit eligible under these
sections can be availed by reporting the same in GSTR-2 (currently in GSTR-3B)
and these amounts are credited in the ECrL for further utilisation u/s. 49(4)/
49(5). Under the input tax credit
scheme, eligibility, availment and utilisation have distinct meanings:
Eligibility addresses the qualification of an amount to be termed as input tax
credit; availment involves recording these eligible amounts in ECrL as input
tax credit and utilisation involves making tax payments by way of adjustment
with the output tax liability. Eligibility precedes availment and availment
precedes utilisation.

Section 73 and 74 provide for recovery of
input tax credit erroneously availed or utilised by the assessee. The said section empowers tax officers to
recover the input tax credit at the stage of availment itself and the assessing
officer need not wait for the assessee to utilise the said input tax
credit. Financially speaking, there is
no outflow of revenue from the Government when the assessee avails input tax
credit in its returns. The flow of funds only takes place when the said amounts
are utilised from the said ledger for discharge of liabilities recorded in the
ELL (refer discussion above). The question thus arises on whether interest is
applicable on incorrect availment of input tax credit?

Similar instances came up under the Cenvat
Credit regime. Rule 14 of the Cenvat
Credit Rules (as existed during the period up to 2012) contained a provision
for recovery of Cenvat availed ‘or’ utilised. The Supreme Court in Union of
India vs. Ind-Swift Laboratories ltd 2011 (265) ELT (3) SC held that
revenue is permitted to recover the unutilised Cenvat at the stage of availment
itself. It also held that revenue can impose interest in case of incorrect
availment of Cenvat even though such amounts have not been utilised by the
assessee. However, the High Court of Karnataka and Andhra Pradesh have held to
the contrary in spite of the decision of the Supreme Court. Subsequently, the
law was amended in 2012 to recover Cenvat and interest only after utilisation
of such Cenvat Credit.

In the context of GST, section 73 and 74
direct recovery of Input tax credit at the stage of availment but interest is
applicable in terms of section 50(1). A
question arises on whether availment of input tax credit in ECrL results in
failure of payment of tax to the Government?

Input tax credit is a claim by the
assessee from the Government for taxes in respect of taxes paid to the
supplier. From a recipient’s perspective, it represents amounts due ‘from’ the
Government rather than due ‘to’ the Government.
If this claim is rejected prior to its utilisation, there is no revenue
loss and hence it cannot be said that taxes are ‘unpaid’ to the
Government.

Section 49(4) also states that amounts
lying in the ECrL may be used for payment of taxes. The utilisation of input
tax credit is an option to the tax payer and if the tax payer does not utilise
this amount, it continues as a balance but does not result in ‘taxes unpaid’.
Though recovery provisions may be initiated for incorrectly availed input tax
credit, interest on such incorrect availment cannot be imposed.

From the point of view of settlement and
flow of funds, sections 53 of the CGST/ SGST law and 18 of IGST law require
payment of funds from Centre to State or vice-versa only when the cross
utilisation takes place from the ECrL to the ELL. Until such time the
Government in whose name the Credit stands retains the funds. On these grounds, one can take a stand that
interest is not imposable on incorrect availment if the same is not
utilised.

iv. Whether
interest applicable on payment made through ECrL but later credit held to be
wrongly availed (say blocked credit)?

Section 50 uses the phrase ‘tax unpaid’. This is different from input tax credit
wrongly availed and/or utilised. Though
mathematically speaking, a wrong input tax credit claim results in short
payment of taxes, recovery of short payment of taxes is different from recovery
of erroneous availment and utilisation of input tax credit. To cite an example : short payment of taxes
are cases of under-valuation or lower rate, etc where the error is on the
calculation of output taxes while recovery of input tax credit takes place in
case of an error on the inward supplies to an assessee. This distinction is
highlighted in view of separate phraseology for recovery of input tax credit
wrongly availed and utilised and for short payment of taxes in section 73 and
74. Explanation to section 132 specifically
clarifies that taxes unpaid also includes input tax credit wrongly
availed or utilised. However, the said explanation has been made applicable
only section 132 and not section 50.

Under the Cenvat Credit regime, Rule 14 of
the Rules, made specific provisions for recovery of input tax credit wrongly
availed or refunded. Rule 14(ii) specifically enabled the tax authorities to
recover interest under the Excise/ Service tax law. Section 50 of the GST does
not seem to capture this situation and the recovery of interest in such
scenarios can certainly be challenged by the assessee.

v. Whether
interest is applicable on early claim of input tax credit?

The above analogy would apply in such
cases and interest is not recoverable from the assessee. It may also be
interesting to note that in terms of second proviso to section 16(2), where an
assessee fails to make a payment on inward supplies within 180 days of the date
of invoice, the assessee is specifically required to repay the input tax credit
along with interest. The specific
mention of recovery of interest in such cases makes it clear that section 50
does not capture cases of erroneous input tax credit claims.

vi. How
is interest to be computed in cases of mismatch?

Section 50(1) and (3) provides for imposition of interest in cases where
mismatch reports are generated. Mismatch could arise under various
circumstances:

– Non-reporting of invoice by supplier itself
resulting in short payment of taxes.

– Erroneous reporting of invoice (incorrect
details) by supplier but taxes have been paid (wholly or partly in cases where
value is short reported).

– Duplicate reporting of invoice by recipient.

There seems to emerge some confusion while
reading the provisions of section 42/43 (mismatch reports) and section 50(1)
and 50(3). Section 42/43 provide a tax
payer a minimum of two attempts to claim input tax credit in its return – in
case of an error in the first attempt, the tax payer would be liable for
interest @ 18% for the period of 2 months.
However, if there is an error in the second or any subsequent attempt,
the tax payer would be liable for interest @ 24%.

In such cases, interest is imposed for the
period during which the mismatch continued. It is interesting to note that
interest is imposed on the recipient right from the date of availment even
though taxes are paid along with interest at supplier’s end (wherever
applicable). There may be instances where the liability of interest is thrust
upon the recipient even for delays or errors on the part of the supplier. While
it is just to claim interest in case of duplicate reporting of an invoice, in
other cases, the Government seems to be receiving the interest from both sides
of the transaction.

vii. Whether
transition credit claimed but later reversed through GSTR3B/GSTR-3 liable for
interest?

In the view of the author, though
transition credit is directly credited to the ECrL from the Transition returns,
the answer to this question would remain the same. Interest would not apply till the time the same
has been utilised from the ECrL based on the principles of compensatory
levy. Even in cases where the said
amount has been utilised, interest would not apply in the absence of a specific
provision of recovery of interest u/s. 50 on irregular input tax credit.

An issue also arises whether incorrect
carry forward of transition credit also entails interest under the erstwhile
laws. The savings clause u/s. 174 places the liability of interest on such sums
until the recovery of such incorrect credit. However, the said provisions are
subject to any specific provision under the GST law. GST law does not contain
any specific provision for recovery of interest for incorrect credits in the
ECrL directly.

Therefore, interest may be liable to be
paid under the erstwhile laws on account of the saving provisions, no further
interest should be recovered under the GST law.
One may take a stand that where the recovery provisions are invoked
under the earlier law and sums due to the Government have been paid with interest
till date, the credit brought forward in the GST law should not be disturbed,
else it would result in double jeopardy to the tax payer.

In summary, it
seems evident that the front end portal, back-end settlement mechanism and the
GST laws are at divergence in many instances.
A simple concept of interest will surely throw up unexpected challenges
and we are entering an era where calculation of interest is turning into an
subject by itself. This primarily arises due to the hybrid GST mechanism of bringing
all the States on a common platform.

It is important for the GST Council to
identify all possible permutations to ensure that interest is paid to the right
Government and should be equipped to answer questions on accountability &
propriety of Government funds. At 18%, the stakes are certainly going to be
high for the tax payer as well as the Government!!!

shailesh.kwebmaker

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