1. Background:
Parental Corporate Guarantees are commonly known as intercompany transactions. Recently, Tax and Regulatory have been quite vigilant about these transactions and have been scrutinizing more closely.
Related party transactions are always followed with the presumption that it is not an arm’s length principles and thus the provisions of tax allow prescribe that any transaction done at the open market value of the good or service and is also based on the regular commercial terms will be considered as a transaction made with a third party.
The transactions made with the related parties have always been a subject of scrutiny and thus, they require demonstration that the transactions are basically made by commercial understanding. Here, the related party can be a subsidiary, Joint venture or a sister concern of a business.
2. What is “Corporate Guarantee”
Corporate Guarantees is a guaranty by one business entity or by one Corporate entity or by a Holding company for another group company or subsidiary company or Joint venture company. Generally, guarantee by one Corporate entity for other Corporate entity is given at the time of Term Loan / Working Capital loan / Other Special purpose loans are being availed by other group company. In other words, when any subsidiary / Joint Venture company availed any loan i.e Term Loan or Working capital loan from any Financial Institute Then Holding company stands as guarantor for subsidiary company/ Joint Venture Company. Such understandings are covered or termed as “Corporate Guarantee”. Means one corporate entity stands as guarantor for another corporate entity. If the subsidiary company fails to repay the debt, the holding company who stood the guarantee will pay the debt on behalf of the subsidiary company.
Normally Financial institutions are creating the charge on Assets / Book debts / stocks of the loan availed entities. Additionally they take the corporate guarantee from the holding company as additional security.
These guarantees are mostly given by holding company/group companies without any charges or consideration. The objective of such guarantees is to felicitate the subsidiary company or group company for its smooth function. In open market no parallel or identical transactions happens except when Banks give guarantees for its customers for specific purposes i.e Financial Guarantees, Performance guarantees, Earnest money Deposit guarantee etc and charge commission for the same. Various Banks are charged the commissioner in different manner. Under GST such services of bankers are treated as supply of services and subject to GST.
3. Provisions Under Companies Act 2013
Section 185 /186 of Companies Act enumerated inter- corporate loans which are prohibited to be offered by any company. This provision specifically disallows the companies from providing loans, guarantees and securities in favor of its directors or to any other person in whom the director is interested in. However, the provision makes a few exceptions as following:
– Any loan made by a holding company to its wholly owned subsidiary company or any guarantee given or security provided by a holding company in respect of any loan made to its wholly owned subsidiary company ; or
– Any guarantee given or security provided by a holding company in respect of loan made by any bank or financial institution to its subsidiary company
Therefore, the Companies Act, 2013, allows for Inter- Corporate guarantees among related parties subject to the condition that such loans when provided by the holding companies be used by the subsidiary companies for its principal business activities
4. Provisions under GST Act :-
Corporate guarantee or guarantee for subsidiary company is an activity agreed upon between two corporate entities without consideration and is in course or furtherance of business. Corporate Guarantees without consideration are quite generic transaction among companies wherein holding or parent companies issues corporate guarantee to various Banks or other Financial Institutions as a collateral security for the credit facilities availed by its subsidiaries. Also, corporate guarantee, is unsecured, which means it is not secured by or tied to any specific asset of the surety. Its just an share holding activity of the holding company.
Is Corporate Guarantee a supply? It’s a big debatable issue if Corporate Guarantee is a supply.
The meaning or scope of supply as per GST laws is as under:
Section 7 of CGST Act, defines scope of Supply as under:
(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;
(b) import of services for a consideration whether or not in the course or furtherance of business and
(c) the activities specified in Schedule I, made or agreed to be made without a consideration;
(d) omitted
(1A) where certain activities or transactions constitute a supply in accordance with the provisions of sub-section (1), they shall be treated either as supply of goods or supply of services as referred to in Schedule II.
(2) Notwithstanding anything contained in sub-section (1),
(a) activities or transactions specified in Schedule III; or
(b) such activities or transactions undertaken by the Central Government, a State Government or any local authority in which they are engaged as public authorities, as may be notified by the Government on the recommendations of the Council, shall be treated neither as a supply of goods nor a supply of services
Whereas in case of Corporate Guarantee as provided by a holding company for subsidiary is a need base arrangements and that too free of any fee or charges. These guarantees are unsecured in nature. So in absence of any fee or commission, its valuation for levy of GST is another litigation.
5. Is Corporate Guarantee an actionable Claims?
If we take Corporate Guarantee as actionable claims, then schedule-III to Section- 7 of CGST Act, deals it as neither supplies of goods nor of services.
Para 6 to schedule –III treat Actionable claims, other than lottery, betting and gambling as activities or transactions which are neither supply of goods nor supply of services or both.
6. Corporate Guarantees extended to the Indian Subsidiaries :-
- In terms of Para 2 of Schedule I to the Central Goods and Services Tax Act, 2017 (“CGST Act”) read with Section 7(1)(c) of the CGST Act, any supply made between related persons in the course or furtherance of business is deemed to be a supply even if the same is made without any consideration.
The phrase ‘related persons’ is defined under Explanation to Section 15 of the CGST Act. The Indian Subsidiaries and Joint Ventures are related persons of the company in terms of Explanation to Section 15 of the CGST Act. - Therefore, the activity of extending corporate guarantees by the company to its Indian subsidiaries/ joint ventures qualifies as a taxable supply of service even though no consideration is charged by the holding company.
- Since this type of transactions are affected out of books. Hence examination of supply & taxability of inter corporate guarantee transactions under GST is at most relevant for all the corporates who are having this kind of arrangements.
- In GST regime, the above referred transactions are liable to Charge GST even if no such consideration is being paid to the company by the subsidiaries/joint ventures as a specific deeming fiction is created under para 2 of Schedule I to the CGST Act read with Section 7(1)(c) of the CGST Act.
- Therefore, the company is liable to pay GST in respect of all Corporate Guarantees extended by it to its Indian subsidiaries/ joint ventures during GST regime.
- It may be noted that the service of extending corporate guarantee to the subsidiaries/ joint ventures is being supplied at the time of entering the corporate guarantee contract since the obligations specified/ promises made under such contract are to be met as soon as the contract is entered by parties. Thus, such service is not provided continuously across a period of time and as no periodic payment obligations are involved, it can be said that such service is not a continuous supply of service.
- Therefore, wherever such corporate guarantees are extended by the company to the Indian subsidiaries/ joint ventures under a contract entered during GST regime, GST need to be payable.
- CBIC Circular dt.01.03.2018
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CBIC Circular No 34/8/2018 dt.01.03.2018 1. Whether the guarantee provided by State Government to state owned companies against guarantee commission, is taxable under GST? |
The service provided by Central Government/State Government to any business entity including PSUs by way of guaranteeing the loans taken by them from financial institutions against consideration in any form including Guarantee Commission is taxable. |
7. Corporate Guarantees extended to the Foreign Subsidiaries:
The corporate guarantees extended to the Foreign Subsidiaries i.e., related parties will be liveable to GST as a supply of service.
- Section 2(6) of the Integrated Goods and Services Tax Act, 2017 (“IGST Act”) defines the expression ‘export of service’. It prescribes five conditions, on satisfaction of which a service can be treated as an export.
- In this case, supplier of service i.e., the company is located in India. The recipient of service i.e., foreign subsidiary is outside India. The place of supply of above service, in terms of Section 13(2) of the IGST Act, 2017, is the location of recipient of service i.e., foreign subsidiary, which is outside India. Since the foreign subsidiary and the company or companies incorporated under the respective country specific laws, they are not merely establishments of a distinct person.
- As per condition no. (iv) under Section 2(6) of the IGST Act, the payment for 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. In this case, no payment is being received by the company from the subsidiary since the service of extending corporate guarantees is provided free-of-cost to the subsidiary.
- Therefore, all the conditions stated under Section 2(6) of the CGST Act are fulfilled except the condition of payment for service. Thus, the above service by the holding company to its foreign subsidiary does not qualify as an export of service.
- However, if the company charges consideration from the foreign subsidiaries, then, the service qualifies as an export of service. In such a case, it can be said that the company need not pay GST on such services provided to the foreign subsidiary in terms of Section 16 of the IGST Act, 2017.
- Hence it is concluded that , to avoid GST litigation, holding company may charge some amount on arm’s length basis from its foreign subsidiary so that it can be treated as Export of Services.
8. Valuation of Corporate Guarantees under GST
Rule 28 deals with valuation of supplies between related or distinct person other than through an agent. Otherwise, Rule 30 or Rule 31 can be resorted.
The open market value or value of services are not available in case of corporate guarantees. Hence, Rule 30/31 can be applied.
Rule 31 provides that where the value of supply of goods or services or both cannot be determined under rules 27 to 30, the same shall be determined using reasonable means consistent with the principles and the general provisions of section 15 and the provisions of this Chapter. Further, it explicitly provides that in the case of supply of services, the supplier may opt for this rule, ignoring rule 30.
The issue pertaining to the corporate guarantee commission between the related parties. Hence, treat this transaction as independent Transaction with Arm’s length pricing which is justifiable before the GST Department can be taken for valuing supply of service.
9. Corporate Guarantees extended Pre- GST Regime :-
- Section 66B of the Finance Act, 1994 (hereinafter referred as the ‘Finance Act’) was the charging section according to which service tax levied at the rate of 14% on the value of all services, other than those specified in the negative list, provided or agreed to be provided in the taxable territory by one person to another and collected in such manner as may be prescribed.
- As per the definition of service under Section 65B (44) of the Finance Act, 1994, for any transaction to qualify as a service, following ingredients must be satisfied cumulatively:
- There must be an activity.
- Such activity must be carried out by one person for another person.
- Such activity must be carried out for consideration.
- it can be said service tax was applicable only on provision of a service, and there is provision of a service only if one person is performing any activity for another person for a consideration. If any of the elements, i.e., receipt of consideration or obligation for performance of activity is missing, there cannot be provision of a service. Accordingly, in such a case, liability for payment of service tax would not arise.
- Judicial Pronouncements :-
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CESTAT Delhi Tribunal :- |
It was held that corporate guarantee commission, which was paid by the Appellant to the foreign group company towards guarantees given against the loans obtained by the Appellant in India, is liable to service tax under reverse charge basis. However, wherever no consideration was charged for extending corporate guarantees, it was held that service tax was not liveable. |
| CESTAT Chennai Tribunal :-
Sterlite Industries Industries India Limited Vs Commissioner of CGST |
Hon’ble Tribunal Held that the activity of issue of corporate guarantees by the appellant from their associate / subsidiary companies in India and also the procurement / receipt of corporate guarantee from their parent / associate company abroad will not come within the fold of section 65(12)(a) ibid and in particular sub-clause (ix) of that provision. The appellant succeeds on merits. |
| CESTAT Chandigarh Tribunal:-
M/s DLF Cyber City Developers Limited vs CST, Delhi-IV (Appeal No. ST/60753/2017) |
It is an admitted fact that the appellant-assessee has not received any consideration from either from the financial institutions or from their associates for providing corporate guarantee, in that circumstances, no service tax is payable by the appellant assessee. Moreover, the demand raised in the show cause notices are on the basis of assumption and presumption presuming that their associates have received the loan facilities from the financial institution at lower rate, therefore, the differential amount of interest is consideration, but there is no such evidence produced by the revenue on that behalf. In that circumstances, we hold that the appellant-assessee are not liable to pay any service tax on corporate guarantee provided by the appellant assessee to various banks/financial institutions on behalf of their holding company/associate enterprises for their loan or over draft facility under Banking and Financial Institutions after or before 01.07.2012 |
10. Conclusion
With the above detailed discussions, it can be conclude that there can be different views for taxation on corporate guarantee under the provisions of GST Act whether to tax or not to tax.
But Extending a Parental Corporate Guarantee to its subsidiaries is a landmine for corporates. In order to bring some relief and to ensure the spirit of ease of doing business, the government should come out with some clarifications.
11. Way Forward
We suggest the below way forward till such clarification received from the Govt of India.
12. In Service Tax Regime :-
When there is no Consideration – Not Treated as Services and Service Tax should not levy.
13. In GST Regime :-
1. Corporate Guarantee is an actionable claim. However, issuance of corporate guarantee may not qualify as supply of actionable claim.
2. The activity of extending Parental corporate guarantees to its Indian subsidiaries qualifies as a taxable supply of service even though no consideration is charged by the holding company.
3. The Activity of Extending Parental Corporate Guarantee to its Foreign Subsidiaries, under Section 2(6) of the CGST Act are fulfilled except the condition of payment for service. Thus, the above service by the holding company to its foreign subsidiary does not qualify as an export of service. However, if the company charges consideration from the foreign subsidiaries, then, the service qualifies as an export of service. In such a case, it can be said that the company need not pay GST on such services provided to the foreign subsidiary in terms of Section 16 of the IGST Act, 2017.
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