INTRODUCTION
1. Two kinds of credit notes can be issued by a supplier. One is the tax credit note wherein the tax amount reflected on the credit note is sought as an adjustment in the output tax liability. In other words, the output tax liability is sought to be reduced by issuing such tax credit note. Another is the commercial credit note wherein tax amount is NOT reflected. Hence no tax adjustment is sought on the basis of such credit note. Only the basic value is adjusted.
2. With the above background let us consider a case wherein a registered supplier has supplied the goods and the same are now returned. The return of said goods is as per the terms of the sale contract (e.g. in pharmaceutical sector the stock of expired medicines is taken back from the distributors/retailers at agreed terms). The return of goods may be within the time limit prescribed for issuing tax credit note or otherwise. Issue for the present article is whether the return of goods can take place on the basis of a commercial credit note without seeking any tax adjustment ? If yes then whether such goods return can be treated as a “supply” from the perspective of the recipient (e.g. distributor) ? We shall also consider the ITC implications for the recipient if the goods are returned on the basis of a commercial credit note. Let us explore.
CREDIT NOTES
3. At this juncture it is worthwhile to consider the provisions of Sec. 34(1) & 31(2) of the CGST Act, 2017. Same are reproduced below for ready reference:
“34. Credit and debit notes. — (1) Where a tax invoice has 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 a credit note 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 September 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.”
4. Perusal of the above provisions will show that a credit note with tax amount can be issued to account for the return of the goods. However the said credit note needs to be reflected in the return for the month during which such credit note has been issued but not later than September 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. In other words, if a tax adjustment is sought, credit note has to be issued and reflected not later than September (since date of furnishing the annual return shall normally occur after the month of September) of the next financial year to which original sale invoice pertains.
5. Careful perusal of the above referred provision will also show that the issuance of credit note is at the discretion of the supplier. This is because the words used u/s 34(1) are “may issue” as opposed to “shall issue” u/s 34(3) in the context of debit note. Further proviso to Sec. 34(2) clearly provides that if incidence of tax has been passed, reduction in tax liability on account of credit note cannot be claimed.
6. Above discussion will thus show that issuance of credit note with tax adjustment is not mandatory even in case of return of goods.
WHETHER GOODS RETURN IS A SUPPLY ?
7. With the above background we need to now analyze whether the return of goods can be treated as a “supply” if the same is accounted on the basis of a commercial credit note without tax ?
8. Sec. 9(1) of the CGST Act, 2017 provides for the levy of tax on “supply”. To determine whether return of goods can be considered as a “supply” or not, we need to first examine the nature of transaction from the perspective of Sale of Goods Act, 1930. Section 4 of the Sale of Goods Act defines ‘sale and agreement to sell’, which reads as below –
“4. Sale and agreement to sell. – (1) A contract of sale of goods is a contract whereby the seller transfers or agrees to transfer the property in goods to the buyer for a price. There may be a contract of sale between one part-owner and another.
(2) A contract of sale may be absolute or conditional.
(3) Where under a contract of sale the property in the goods is transferred from the seller to the buyer the contract is called a sale, but where the transfer of the property in the goods is to take place at a future time or subject to some condition thereafter to be fulfilled, the contract is called an agreement to sell.
(4) An agreement to sell becomes a sale when the time-elapses or the conditions are fulfilled subject to which the property in the goods is to be transferred.”
9. Further Section 12 of the Sale of Goods Act, 1930 mentions about stipulation in a contract of sale with reference to goods which are subject thereof may be a condition or warranty.
“12. Condition and warranty.- (1) A stipulation in a contract of sale, with reference to goods which are the subject thereof may be a condition or a warranty.
(2) A condition is a stipulation essential to the main purpose of the contract, the breach of which gives rise to a right to treat the contract as repudiated.
(3) A warranty is a stipulation colateral to the main purpose of the contract, the breach of which gives rise to a claim for damages but not to a right to reject the goods and treat the contract as repudiated.
(4) Whether a stipulation is a contract of sale is a condition or a warranty depends in each case on the construction of the contract. A stipulation may be a condition, though called a warranty in the contract.”
10. Section 19 of the Sale of Goods Act, 1930 mentions about the passing of the property in goods. It reads as below –
“19. Property passes when intended to pass – (1) Where there is 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.
(2) For the purpose of ascertaining the intention of the parties regard shall be had to the terms of the contract, the conduct of the parties and the circumstances of the case.
(3) Unless a different intention appears, the rules contained in Sections 20 to 24 are rules for ascertaining the intention of the parties as to the time at which the property in the goods is to pass to the buyer.”
11. Thus from the various provisions of the Sale of Goods Act, 1930 referred above it becomes substantially clear that for ascertaining the intention of the parties as to when the property is intended to pass regard has to be given to the terms of the contract. Also a warranty given to accept return of goods shall not prevent the property in goods to be passed to the recipient on original sale.
12. Normally passing of property in goods is indeed contemplated when the supplier supplies the goods to the distributor. However the said sale contract permits the return of the goods (in certain circumstances) by way of a warranty. Hence the return of the goods have to be considered as a bilateral transaction emanating out of the original sale contract. Now can the said transaction be considered as a “supply” ?
13. Scope of supply is given u/s 7 of the said Act. Relevant portion is reproduced below:
“7. Scope of supply. — (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 consideration by a person in the course or furtherance of business;”
14. Perusal of above provision will show that all forms of supply of goods such as sale, etc. for a consideration are covered within the ambit of tax. Since the definition of “supply” is inclusive in nature, meaning of the term can even extend to such transactions which are not specifically covered by the definition but can be covered within its natural meaning.
15. As already stated before, the return of goods takes place under the original sale contract which provides for such eventuality. It does not emanate from a separate agreement. Hence such return of goods cannot be considered as a supply made by the distributor.
16. Further the scope of supply u/s 7(1)(a) referred above expressly considers sale but does not consider return of goods. Intention of legislators also becomes apparent when one considers the provisions of Sec. 34(1). As stated earlier, Sec.34 (1) visualizes certain scenarios where the original value of supply can be adjusted on account of certain eventualities emanating from the supply contract. It can be either the case where the goods are returned or goods supplied are found deficient. Since a route of credit note has been prescribed for return of goods, the legislators would have been conscious of the fact that said transaction cannot be treated as a supply. This is because if the same is treated as supply, provisions of Sec. 34(1) becomes redundant.
17. Moreover proviso to Sec. 34(2) clearly provides that no tax adjustment will be permitted when the incidence of tax has been passed. Hence a commercial credit note can be issued for return of goods and shall not tantamount to a “supply”.
18. We also rely on the decision of Gujarat Sales Tax Tribunal in the case of Gujarat Tools Pvt. Ltd. v. State of Gujarat (R. A. No. 26 & 27 of 1984) wherein Hon. Tribunal has held that return of goods cannot be considered as a resale since the same emanates from the original sale contract.
19. Based on the provisions of the Sale of Goods Act, 1930 wherein return of goods is considered as a part of the original sale contract as well as provisions of Sec. 34 of the CGST Act, 2017 we are of the view that the return of goods cannot be treated mandatorily as a “supply”.
20. The above conclusion is also supported by the fact that the Circular No. 72/46/2018-GST dated 26.10.2018 issued by the GST Policy Wing in context of return of expired drugs and medicines gives an option to either account for the return of goods on the basis of credit note or by considering the same as a “supply”. The Circular also clearly provides as under at paragraph B(c):
“However, if the time limit specified in sub-section (2) of section 34 of the CGST Act has lapsed, a credit note may still be issued by the supplier for such return of goods but the tax liability cannot be adjusted by him in his hands. It may further be noted that in case time expired goods are returned beyond the time period specified in the sub-section (2) of section 34 of the CGST Act and a credit note is issued consequently, there is no requirement to declare such credit note on the common portal by the supplier (i.e. by the person who has issued the credit note) as tax liability cannot be adjusted in this case.”
21. Hence even the Circular contemplates a scenario wherein credit note can be issued even if the time period for seeking the adjustment has expired. In such case the credit note has to be issued without any tax amount. It is well settled principle that Circulars are binding on the department. One may refer to the judgment of Apex Court in the case of Paper Products Ltd v. Commissioner of Central Excise 1999 (112) ELT 765 (SC). Relevant portion is reproduced below:
“5. It is clear from the above said pronouncements of this Court that, apart from the fact that the Circulars issued by the Board are binding on the Department, the Department is precluded from challenging the correctness of the said Circulars even on the ground of the same being inconsistent with the statutory provision. The ratio of the judgment of this Court further precludes the right of the Department to file an appeal against the correctness of the binding nature of the Circulars. Therefore, it is clear that so far as the Department is concerned, whatever action it has to take, the same will have to be consistent with the Circular which is in force at the relevant point of time.”
22. On the basis of the above discussion we are of the view that goods can be returned on the commercial credit note.
23. Now we need to examine implications, if any, at the end of distributor if the goods are returned on the basis of the commercial credit note.
ITC IMPLICATIONS
24. Distributor would have availed ITC of the tax charged on the original supply. Now when he returns the goods, is he required to do any reversal of the ITC ?
25. Sec. 16(1) of the CGST Act, 2017 provides that the registered supplier can avail ITC in respect of goods and services which are used or intended to be used in the course or furtherance of business. Relevant provision is reproduced below for ready reference:
“16. Eligibility and conditions for taking input tax credit. — (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 or furtherance of his business and the said amount shall be credited to the electronic credit ledger of such person.”
26. At this juncture we reply on the decision of Supreme Court in the case of Steel Authority of India Ltd. v CCE (SC) 5 SCC 484 wherein the issue before the Court was interpretation of the term “intended for use”. In this case the appellant had purchased raw naphtha for manufacture of fertilizer. Notification No. 187/61 dated 23.12.1961 granted concessional duty on such purchase of raw naphtha if the same is “intended for use” in the manufacture of fertilizer. Appellant however could not actually use the said raw naphtha for manufacture of fertilizer. Department thus denied the benefit of the concessional rate on the ground that actual use has not taken place. Supreme Court observed as under:
“It is important to note that the exemption notification required proof that the raw naphtha was “intended for use” in the manufacture of fertiliser and not that the raw naphtha was used in the manufacture of fertiliser. Due emphasis has to be given to the clear language of the first condition of the exemption notification and its effect cannot be nullified by an interpretation placed on the second condition.”
27. Hence ITC is clearly available to the distributor on the intention of using the goods supplied for the purpose of business. Actual use is not contemplated as the condition for availing the ITC.
28. Sec. 17 of the CGST Act, 2017 deals with ineligible credit and blocked credits. Sec. 17(1) & Sec. 17(2) will be applied only if the acquired goods are used either for personal purpose (Sec. 17(1)) or are used for effecting any exempt supplies (Sec. 17(2)). Return of goods cannot be considered as personal purpose. Also return of goods cannot be considered as an exempt supply since the same is not a supply (see the reasoning at earlier paragraphs). Also Sec. 17(5) contains the list of supplies on which ITC shall not be eligible. A close perusal of all the clauses contained therein will show that none of them applies to return of goods.
29. Hence we are of the view that even the distributor is not required to reverse any ITC claimed earlier on return of goods if the said goods are returned on the basis of a commercial credit note. We may also point out that even Circular No. 72/46/2018-GST dated 26.10.2018 issued by the GST Policy Wing does not contemplate any reversal of ITC at the end of the distributor.
30. Last issue to address is whether ITC can be restricted on the ground that the distributor has not paid the value of supply as per the second proviso to Sec. 16(2) of the CGST Act, 2017. Again the answer shall be no. This is for the reason that even commercial credit note has to be considered as a means of payment and hence actual payment only by cash/cheque is not contemplated.
(views are strictly personal)
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