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The business landscape underwent a profound transformation with the introduction of a unified tax regime. As enterprises embarked on the transition to the Goods and Services Tax (GST) era, they found themselves coping with a multitude of challenges, ranging from constant amendments and notifications to the need for clarifications. This influx of changes not only multiplied the complexities but also demanded unwavering attention from businesses. While the primary objective of GST was to streamline taxation processes and simplify compliance, its implementation also ushered in a series of ambiguities and complexities. One such area that continues to puzzle businesses revolves around the taxability of 'Corporate guarantees.'
Before delving into the intricacies, it is imperative to establish a thorough comprehension of the concept of corporate guarantees. The term 'guarantee' finds its definition in Section 126 of the Indian Contract Act, 1872. Within this legal framework, a guarantee is defined as a contractual agreement where one party undertakes to fulfill the obligations or assume liability on behalf of a third party in the event of their default.
Within the realm of corporate affairs, the concept of a corporate guarantee holds significant prominence and is commonly employed. It entails the provision of assurance by one business entity, such as a holding company to another affiliated entity within the same group or subsidiary. This guarantee serves as a means of support when the subsidiary company seeks financial assistance in the form of loans. Importantly, these guarantees are usually offered by holding companies or group companies without imposing any charges or seeking considerations in return.
Within the domain of service tax regime, the issue surrounding corporate guarantees garnered considerable attention within the corporate landscape, sparking extensive discussions. Tax authorities initiated issuance of show cause notices (SCNs), alleging that companies providing corporate guarantees were effectively involved in 'Banking and financial services,' akin to a 'Bank guarantee.' The authorities contended that such transactions, involving provision of a corporate guarantee, fall within the ambit of definition of 'Service' as outlined in Section 65B(44) of the Finance Act, 1994. Despite the absence of monetary considerations, they relied upon other factors, such as enhanced credit ratings of the subsidiary, to assert the presence of non-monetary considerations. This predicament compelled taxpayers to seek clarification and resolution on the matter by approaching tribunals and even the Apex Court.
Fortunately, the longstanding conflict regarding whether services related to corporate guarantees should be subjected to service tax under the category of 'banking and other financial services' has finally been resolved by the Supreme Court in the case of Commissioner of CGST & Central Excise Mumbai East v. Edelweiss Financial Services Ltd. The Apex Court has pronounced that no service tax shall be imposed on corporate guarantees provided by parent companies to its subsidiaries since there is no consideration involved. The court firmly establishes that the Revenue authorities did not make any effort to challenge the findings or demonstrate that issuing corporate guarantees to group companies without consideration should be deemed a taxable service. In support of their argument, the assessee, in the present case, referred to the case of DLF Cyber City Developers Ltd. v. CST, which presented similar circumstances wherein CESTAT Chandigarh ruled in favour of the assessee, affirming that no service tax is payable for the provision of corporate guarantees.
The favourable rulings in aforementioned cases have successfully resolved the longstanding conflicts pertaining to corporate guarantees within the service tax regime.
While service tax regime brought favourable decisions regarding corporate guarantees, the transition to GST era has introduced a fresh conflict concerning tax treatment of such guarantees. The treatment of corporate guarantees provided by holding/parent companies to their group companies/subsidiaries differs considerably under GST regime in comparison to service tax regime, giving rise to new ambiguities.
According to GST framework, transactions of this nature might be covered by Schedule I, which encompasses activities treated as supplies even if executed without consideration. Clause 2 of this schedule stipulates that the supply of goods or services between related parties or distinct persons, as outlined in Section 25, is subject to GST regardless of whether or not there is consideration involved - as long as it occurs within the course or furtherance of business. Accordingly, actions such as providing corporate guarantees or guarantees for subsidiary companies, which entail agreements between two corporate entities without consideration and are conducted within the course or furtherance of business, may be covered under the said schedule and deemed as taxable supplies under GST.
Relying upon the said provision, the Directorate General of Goods and Services Tax Intelligence (DGGI) has recently issued tax demand notices to several local corporate houses and multinational companies in India. The DGGI contends that such practice of providing corporate guarantees - given on behalf of subsidiaries - qualifies as a 'service' and is thus subject to taxation under GST regime since it is undertaken by the parent company to maximise the returns on investment on these subsidiaries. Such notices have been sent to at least 14 companies, including automakers, FMCG, and electronic goods companies. The cumulative amount of demand notices sent in the past two months is estimated to be around INR 600-700 crores that would constitute a significant addition to the government treasury.
On the contrary, another school of thought is that the scope of supply under GST should not be stretched to include shareholder functions under its ambit. Further, it may be argued that corporate guarantees do not involve any element of 'service', and hence, GST is not applicable in such cases.
The above mentioned contrasting tax treatments may ignite a tug-of-war between service tax and GST eras, presenting a fresh challenge for businesses as they grapple with determining the appropriate tax implications associated with corporate guarantees.
Further, the question of whether the transaction of issuing a corporate guarantee can be considered as an actionable claim, and therefore fall outside the ambit of supply as per Schedule III of the CGST Act, raises another argument.
Schedule III of the CGST Act provides a list of activities or transactions that are specifically excluded from the definition of supply and are not subject to GST. One such exclusion mentioned in Schedule III is the supply of actionable claims. In the context of a corporate guarantee, the issuing entity undertakes a commitment to pay a debt or perform an obligation on behalf of another entity if it defaults. While it can be argued that a corporate guarantee involves a contingent liability or a future obligation, it is not necessarily an actionable claim itself.
The interpretation of such legal and technical matters can vary, and specific circumstances may influence the conclusion. Additionally, different viewpoints from tax authorities and courts can further complicate the matter, adding to the complexity.
Amid the confusion and intricacies arising from different treatments of corporate guarantees under service tax and GST regimes, it is crucial to anticipate the challenges that businesses may face.
Firstly, in case the corporate guarantee is deemed as taxable supplies under GST, providing such guarantees without consideration will pose a significant hurdle in determining the value at which GST needs to be discharged.
Typically, under GST, the value of a supply is determined based on the transaction value — the actual price paid or payable for the supply. However, in case of corporate guarantees provided without charges, there is no direct monetary consideration available for valuation. This presents a dilemma in ascertaining the appropriate value of the supply for the purpose of levying GST.
While there are specific mechanisms available to determine the value of services rendered between distinct or related persons, the absence of fees or commission charges complicates the valuation process for corporate guarantees. In cases where the recipient is registered under GST and eligible for full credit, GST can be paid based on any value and the same would be deemed as the open market value (as per the second proviso to Rule 28 of the CGST Rules, 2017). However, challenges arise when the recipient is not eligible for full credit, such as companies engaged in providing exempt supplies. Valuing such services for the purpose of determining the appropriate amount on which GST is to be levied becomes complex for suppliers when the open market value of those services is not easily determinable.
To address the challenges mentioned above, exploring alternative valuation methods such as Rule 30 or Rule 31 becomes necessary. Rule 30 states that the value of a service shall be 110% of cost of provision of service. However, this rule becomes irrelevant in case of corporate guarantees since there are no costs incurred in providing such guarantees. In such cases, the only recourse is to apply Rule 31, which mandates that the valuation should be determined using reasonable means, in line with the principles and general provisions of Section 15. However, the determination of what constitutes reasonable means is subject to the discretion of taxpayers or tax authorities. This discretion can potentially lead to disputes between the two parties, as a method deemed reasonable by taxpayers may not be considered appropriate by the tax department.
Despite the above challenges, it is essential to recognise that the absence of consideration and the intricacies surrounding valuation rules do not serve as valid excuses for non-compliance with GST obligations.
Alternatively, if it is determined that the issuance of a corporate guarantee involves transfer of an actionable claim, then no GST would be applicable to such transaction. However, it is worthwhile to note that such interpretation has not garnered support from the industry and the same may vary based on legal provisions, judicial decisions, and the perspective of tax authorities.
In light of the aforementioned context, the verdict of the Supreme Court is expected to yield positive outcomes for cases under the Service Tax era concerning corporate assurances offered by affiliated entities. However, due to the uncertainties and conflicting interpretations under the GST legislation, it is likely that a higher number of taxpayers will fall under the scrutiny of revenue authorities. This situation highlights the pressing need for improved clarity and guidance in discerning tax ramifications associated with corporate guarantees under GST.