1. Generally, the transactions in the nature of export of services enjoy the benefit of zero-rating (i.e. ability to claim the refund of the attributable input tax credits with no tax on such supplies). The same has been intended to avoid the passing of the domestic tax cost in international trade. However, the law creates certain exceptions to the general rule. One such exception deals with the situation wherein the exporter and the foreign recipient are “establishments of a distinct person”. In such a situation, the benefit of zero-rating is not available.
2. The given exception, therefore, do not grant the benefit of zero-rating if the export of services is made to the foreign branch of the Indian entity. However there were still ambiguities as regards the application of the aforesaid exception in situations wherein the export of services are made to entities within the same group (e.g. subsidiary/ sister concern/ group concern, etc.) but not to one owns branch. Whether even such transactions cannot enjoy the benefit of zero-rating was the issue? Recently CBIC has issued Circular No. 161/17/2021-GST dt. 20.09.2021 clarifying the correct position. In the present article, we shall examine the concerned legal provisions, judicial ruling as well as the recent Circular. But before we do that we shall have to appreciate the real issue.
3. It must be noted that the supply of services whether to the foreign branches/foreign group entities, merely on account of the said fact, shall not attract the tax given the exemption available at Sr. No. 10F of Notification No. 9/2017 – IT (Rate) dt. 28.06.2017 that grants exemption to the 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 under Explanation 1 in section 8 of the IGST Act, 2017. Hence if it is found that the supply of services whether to the foreign branches/foreign group entities do not qualify for zero-rating, the same shall be treated as exempted supplies. Therefore the real issue is in respect of the restriction of the input tax credit as provided u/s 17(2) of the CGST Act, 2017 if such export of services to the group entities do not qualify for zero-rating.
4. Section 16 of the IGST Act, 2017 provides for the benefit of zero-rating and defines the zero-rated supplies as under:
“SECTION 16. Zero rated supply. — (1) “zero rated supply” means any of the following supplies of goods or services or both, namely :-
(a) export of goods or services or both; or
(b) supply of goods or services or both for authorised operations to a Special Economic Zone developer or a Special Economic Zone unit.”
5. The term “export of services” has been defined u/s 2(6) of the IGST Act, 2017 as under:
(6) “export of services” means the supply of any service when, –
(i) the supplier of service is located in India;
(ii) the recipient of service is located outside India;
(iii) the place of supply of service is outside India;
(iv) the payment for such service has been received by the supplier of service in convertible foreign exchange [or in Indian rupees wherever permitted by the Reserve Bank of India]; and
(v) the supplier of service and the recipient of service are not merely establishments of a distinct person in accordance with Explanation 1 in section 8;“
6. Now the aforesaid provisions put a condition under clause (v) that the supplier of service and the recipient of service should not be merely establishments of a distinct person under Explanation 1 in section 8. In other words, if they are establishments of a distinct person, then the benefit of zero-rating shall not be available as it will not be considered to be an export of services.
7. Explanation 1 to Sec. 8 reads as under:
“Explanation 1. – For the purposes of this Act, where a person has, –
(i) an establishment in India and any other establishment outside India;
(ii) an establishment in a State or Union territory and any other establishment outside that State or Union territory; or
(iii) an establishment in a State or Union territory and any other establishment registered within that State or Union territory,
then such establishments shall be treated as establishments of distinct persons.”
8. Explanation 2 to Sec. 8 is also relevant and the same reads as under:
“Explanation 2. – A person carrying on a business through a branch or an agency or a representational office in any territory shall be treated as having an establishment in that territory.”
9. The aforesaid Explanations, therefore, applies where “a person” has an establishment in India and another establishment outside India. Hence it implies that the establishment outside India shall be of the same “person” who has an establishment in India. The term “person” has been defined u/s 2(84) of the CGST Act, 2017 as under:
““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;”
10. Therefore Explanation 1 to Sec. 8 supra can apply when a person (such as a Company) based in India has an establishment outside India (in terms of a branch of the same “person”). It may be also be noted that the company incorporated outside India shall be considered as a separate person given the aforementioned definition and hence export of services by the Indian company to the said foreign group company cannot be said to be a transaction between the establishments of a distinct person. Therefore the benefit of zero-rating shall be available to such export of services to group companies.
11. An issue arose before the Hon’ble Gujarat High Court in the case of Linde Engineering India Pvt. Ltd. & Ors. v. U.O.I. (R/Special Civil Application No. 12626 of 2018) as regards the interpretation of similar provisions under the erstwhile Finance Act, 1994 (i.e. the Service Tax Law). In the said case the petitioner was providing various services to its group entities located outside India. A show-cause notice (‘SCN’) was issued to the petitioner proposing to consider that the services to foreign group entities shall not be regarded as “export of services” as they are establishments of the same distinct person and hence will be treated as “exempted service”. Therefore it was alleged that the petitioner shall not be entitled to the attributable CENVAT Credit. Hon’ble Court quashed the SCN by holding the following:
“12. However, on analysis of the aforesaid provisions, it appears that the respondents have assumed the jurisdiction on mere misinterpretation of the provisions of explanation 3 (b) to Section 65B(44) of the Act, 1994 read with Rule 6A of the Rules, 1994 as by no stress of imagination, it can be said that the rendering of services by the petitioner No.1 to its parent Company located outside India was service rendered to its other establishment so as to deem it as a distinct person as per Item (b), explanation 3 of clause (44) of Section 65B of the Act, 1994, the petitioner No.1 which is an establishment in India, which is a taxable territory and its 100% holding Company, which is the other company in non taxable territory cannot be considered as establishments so as to treat as distinct persons for the purpose of rendering service. Therefore, the services rendered by the petitioner No.1-Company outside the territory of India to its parent Company would have to be considered “export of service” as per Rule 6A of the Rules, 1994 and Clause (f) of Rule 6A of the Rules, 1994 would not be applicable in the facts of the case as the petitioner No.1, who is the provider of service and its parent Company, who is the recipient of services cannot be said to be merely establishment so as to be distinct persons in accordance with Item (b) explanation 3 of Clause (44) of Section 65B of the Act, 1994.”
12. We submit that the ratio of the aforesaid judgement is equally applicable under GST as the provisions under consideration are pari materia. Hence we are of the view that the benefit of zero-rating shall be available to the export of services made to the group entities.
13. Now CBIC vide Circular No. 161/17/2021-GST dt. 20.09.2021 has reiterated the aforesaid views. It clarifies as under:
“5.1 In view of the above, it is clarified that a company incorporated in India and a body corporate incorporated by or under the laws of a country outside India, which is also referred to as foreign company under Companies Act, are separate persons under CGST Act, and thus are separate legal entities. Accordingly, these two separate persons would not be considered as “merely establishments of a distinct person in accordance with Explanation 1 in section 8”.”
14. We can surely say that the aforesaid Circular has correctly interpreted the law and will surely help in putting an end to the dispute (that was mostly created due to an incorrect reading of the law).