CA Nihar Mehta
The negative list of items on which Input tax credit (ITC) is not available, have been coded under Section 17(5) of the CGST Act. Section 17(5) deals with blocked credit in GST. It enlists various circumstances under which the Input Tax Credit shall not be allowed to the Recipient irrespective of provisions mentioned in Section 16(1) & 18(1) of CGST Act, 2017. In this Article we would like to discuss the whether ITC of inputs, Input services and Input on capital goods (together referred as “ITC on Inputs”) which are used to manufacture goods disposed off as free samples or gift by be revered as per section 17(5) of the Act?.
Relevant Legal Provisions
Section 17(5) of CGST Act, prescribes a list of few goods and services on which ITC is not admissible. The relevant provisions read as under:
“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;”
Companies provide following kinds of free samples or gift to promote sale:
1. Free quantities as gift on achievement of targets
2. Free samples for promoting new products.
Meaning of gift
The term gift has not been defined in the Act, thus, we would like to resort to definition provided under Gift Tax Act, 1858.
“Section 2 (xii) “Gift” means the transfer by one person to another of any existing movable or immovable property voluntarily and without consideration in money or money’s worth and includes transfer or conversion of any property referred in Section 4, deemed to be a gift under that section. “
As per above stated definition, any transfer by one person to another of any existing movable or immovable property voluntarily and without consideration shall be considered as Gift. Goods distributed to distributors free of cost are in nature of sales promotion expense in the hands of the companies, thus it cannot be considered as gift. In order to constitute a “gift”, the property should be transferred voluntarily and not as a result of a contractual obligation and no advantage of material character was received by transferor. Goods distributed to distributors as gift are benefitting the companies in promoting their sales. Thus, the same shall not be considered as gift as per section 17(5)(h) of the act. Hence, input tax credit should be available in respect of such goods.
Meaning of “in respect to”
As per section 17(5) of CGST Act, input tax credit shall not be available in respect to goods disposed of by way of gift or free samples. In order to decide whether the ITC needs to be reversed for goods disposed as free samples, we need to first understand the meaning of the term “in respect to”.
As per Thesaurus, synonyms of “in respect to” would be “attributable” or “in connection with”. However, we would like to refer to the case of State of Madras v Swastik Tobacco Factory–
“Even if the word “attributable” is substituted for the words “in respect of”, the result will not be different, for the duty paid shall be attributable to the goods. If it was paid on the raw material it can be attributable only to the raw material and not to the goods. We, therefore, hold that only excise duty paid on the goods sold by the assessee is deductible from the gross turnover under r. 5(1)(i) of the Rules.”
In the above case, the assessee procured raw material for manufacturing tobacco on which it had paid excise duty to his vendor. For the payment of sales tax on sales of goods, the Sales Tax Rules were allowing a deduction of ‘excise duty paid in respect of goods sold’ from the sales turnover. The assessee argued that under Rule 5 the expression ‘in respect of’ should be given very wide connotation and duty paid on procurement of raw material for manufacturing tobacco product should be allowed as deduction. The SC after referring the provisions of various Indian laws held that in Indian tax laws use of the expression ‘in respect of’ is a synonym of expression ‘on’. Hence, the expression in the given case should be read as excise duty paid on goods sold and thus deduction of excise duty paid on procurement shall not be allowed. From the above interpretation, it is clearly understood that while interpreting Indian Statues, the word “in respect to” should not be compared or relate with “in connection with”. That means if the phrase “in respect to” used related to any goods, then only such things which directly connected to the goods should be considered. The interpretation should not be expanded to even include all indirect connections which were used to produce the goods.
However. There is always another school of thought that says the exclusion clause should be read widely and the inputs that are used for manufacturing the finished goods that are distributed as gift or free samples should also be reversed. Further, a circular has also been issued, wherein CBIC has clarified that input tax credit shall not be available to the supplier on the inputs, input services and capital goods to the extent they are used in relation to the gifts or free samples distributed without any consideration.
In case of a stock of trading entity, wherein he procures the goods with the intention to sell in the same condition., In such a scenario, the ITC of such free goods supplied by a trader can be said to be directly connected and the same needs to be reversed as per section 17(5) of the Act.
However in case of Free samples of finished goods distributed by Manufacturing unit, Raw material inputs, Capital goods purchased and other services used by the company to develop a finished goods which are distributed as free samples would be considered as indirect connections with respect to such free samples. Thus ITC utilized by the company on such inputs should not be reversed as per section 17(5) of the Act.
The position of not reversing ITC can be defended at higher litigation levels (Tribunal or above).
The views taken in this document are for guidance only and cannot be taken or used as legal advisory.
 1966 taxmann.com 5(SC)
(Author is partner at Sutaria Associates)