Introductions
Adopted in 2017, India’s Goods and Services Tax (GST) system fundamentally altered the nation’s indirect tax system. The idea of Input Tax Credit (ITC), which lets companies seek credit for taxes paid on inputs utilized in the course of their business operations, is among the most important features of GST. ITC laws are not always easy to apply, nevertheless, especially with regard to some kinds of transactions including gifts, free samples, and promotional goods. This paper investigates various important questions concerning ITC under GST by means of pertinent laws, rules, and judicial interpretations.
Input Tax Credit: A Concept
Fundamental to the GST system, under GST Input Tax Credit is meant to prevent tax cascade and guarantee that the last user bears the tax load. “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 which are used or 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(1) of the Central Goods and Services Tax (CGST) Act, 2017 states.
This clause sets the overall idea that companies can get credit for input taxes paid on products and services consumed during regular operations. But this general entitlement comes with several limitations and restrictions; some of which the CGST Act Section 17 outlines.
ITC on Free Samples and Gifts: The Section 17(5)(h) Diddle
Regarding ITC, one of the most divisive questions is items given away as free samples or gifts. The CGST Act’s Section 17(5)(h) especially tackles this problem:
Input tax credit must not be obtained in respect of the following, namely:… (h) goods lost, stolen, destroyed, written off or disposed of by way of gift or free samples); section 16 and section 18;
Whether or not such items are used in the conduct of business, this clause forbids claiming ITC for goods given away as gifts or free samples generally. This limitation seems to have two purposes: first, it guarantees that all commodities are subject to tax at some point in the supply chain, therefore preventing exploitation of the ITC system.
Court Interpretations of Section 17(5)(h)
Legal conflicts using Section 17(5)(h) have been recorded multiple times. The Karnataka Appellate Authority for Advance Ruling (AAAR) looked at ITC on promotional items given to distributors and franchisees in M/s Page Industries Limited (Order No. KAR/AAAR/05/2021, dated April 16, 2021). Although such goods might be regarded as “inputs” under Section 2(59) of the CGST Act, the restrictions under Section 17(2) and 17(5)(h) would still apply, therefore prohibiting ITC on these items, the AAAR decided.
“It is noted that the activity of providing promotional materials free of cost to the franchisees and distributors of the appellant does not fall under the definition of taxable supply under Section 7 of the CGST Act nor is covered under Schedule I of the CGST Act,” the AAAR noted. Given Section 2(78) of the CGST Act, one could classify the activity of supplying the promotional materials as ‘non-taxable supply’. ITC will hence not be accessible in terms of Section 17(2) of the CGST Act.”
This decision underlines that ITC cannot be claimed on promotional items since the providing of such items is outside the scope of taxable supply and thereby ignores consideration.
The Dilemma Regarding Course or Furtherance of Business
Given Section 16(1) of the CGST Act, a fundamental question concerning gifts and free samples is whether such products can be regarded as utilized “in the course or furtherance of business”. Although it could be claimed that presents to business partners and promotional products help a company by encouraging goodwill and maybe raising sales, the particular restriction in Section 17(5)(h) seems to supersede this factor.
The term “in the course or furtherance of business” has been taken to mean in several different ways. Generally speaking, activities closely connected to the fundamental business operations—such as manufacturing or trading—are definitely inside this range. Still, efforts at relationship-building and promotional activity fall in a murky region.
ITC and Promotional Strategies
Clarifying the status of several promotional schemes in Circular No. 92/11/2019-GST, dated March 7, 2019, the Central Board of Indirect Taxes and Customs (CBIC) has offered some clarity. The circular covers various often-used marketing techniques:
- “Buy One Get One Free” presents: Rather than a free supply, these are handled as two things for one price. ITC covers capital items used in such offers as well as inputs, input services.
- Discounts—including “Buy More, Save More” plans: Discounts fulfilling the requirements in Section 15(3) of the CGST Act are not included in the value of supply; instead, providers can claim ITC on inputs utilized in connection to such supplies.
- Secondary Discounts: These aren’t connected to invoices or known at the time of supply. These kinds of reductions have no bearing on the availability of ITC in the hands of the supplier.
This advice implies that well-planned advertising campaigns could help to bypass the ITC limitations related to direct donations.
Employee Awards: A Special Case
Given the interaction between Schedule I and Schedule III of the CGST Act, the treatment of gifts to employees under GST raises particular questions.
“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: 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.” Schedule I deals with activities to be treated as supply even though made without consideration.
On the other hand, Schedule III—which outlines activities neither supply of goods nor services—includes “1. Services by an employee to the employer in the course of or in relation to his employment.”
These clauses provide a complicated structure for examining employee gifts:
- Gifts to staff members worth up to ₹50,000 annually are not considered supplies and so not liable to GST.
- Gifts above this limit are considered supplies and may be subject to GST.
- On the other hand, should the “gift” be a component of the employee’s contractual perks or pay scale, it could be covered under Schedule III and completely beyond the GST jurisdiction.
In the M/s Page Industries Limited case, the Karnataka AAAR discussed this matter, pointing out that items given to staff members throughout their employment terms would not be regarded as gifts:
“It is noted that the appellant has a contractual obligation to provide their EBO/franchisees and distributors promotional materials to boost product sales; the same will be used by the EBO and distributors as long as the agreement is in force. The Appellant thereby keeps possession of the promotional objects rather than passing that ownership to the EBO or the distributor.”
This kind of thinking implies that goods given to staff members or business partners under contractual commitments could be handled differently from pure gifts for ITC purposes.
Gift Transactional Valuation Problems
Valuation becomes a concern when free samples or gifts are judged to be supplies under GST. Between related people, the CGST Act offers particular guidelines for supply value in Rule 28, the CGST Rules, 2017:
This valuation rule usually requires the transaction to be evaluated at the open market value of the items in circumstances where gifts are considered supplies. This can present practical difficulties, especially for custom-made promotional products with perhaps unknown market value.
Useful Consequences and Compliance Difficulties
The limitations on ITC for gifts and free samples give companies various pragmatic difficulties:
- Businesses must set up processes to track things donated as free samples or gifts to guarantee correct ITC treatment.
- Complicating valuations: Determining the appropriate valuation for GST purposes might be difficult when gifts are provided to connected parties or beyond the ₹50,000 threshold for workers.
- Companies might have to rethink their marketing plans to maximize their ITC position and maybe choose organized discount programs over straight gifts.
- Compliance Task: Reversing ITC on gifts and free samples gives GST compliance procedures still another level of difficulty.
Advice for Change
The present ITC laws for gifts and free samples include complexity and possibility for unexpected repercussions; hence various areas for possible revision might be taken under consideration:
- More exact definitions of “gifts” and “free samples” in the framework of corporate agreements could serve to minimize uncertainty.
- Using a de minimis threshold for business-to-business gifts—akin to the employee gift threshold—may help to simplify compliance for low-value promotional products.
- Allowing ITC for goods obviously used for promotional purposes, subject to suitable safeguards, would help to better match the tax treatment with corporate reality.
- Harmonizing GST and income tax treatment of promotional expenses would help to save compliance costs and stop double taxation.
In Conclusion
Under India’s GST system, the treatment of Input Tax Credit for gifts, free samples, and promotional items stays a difficult and changing topic of law. Although Section 17(5)(h) of the CGST Act clearly states the core idea of disallowing ITC on such commodities, the practical execution of this provision in many corporate settings still presents difficulties.
Businesses will have to remain alert in changing their operations and compliance procedures in reaction to the changing legal landscape as judicial interpretations of these issues continue to develop and evolve.
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