Valuation in case of recipient given goods or services to supplier for free of cost

Valuation of outward supply where recipient of works contract services given goods to supplier for free of cost

1) In the context of works contract services, it is quite prevalent for the recipient of the supply to offer goods and services at no charge to the supplier for the fulfilment of a works contract. This article aims to elucidate the GST implications associated with these situations.

2) The provision of goods and services at no charge by the recipient during the execution of the works contract may occur in two specific scenarios,

I. The goods and services provided were not the obligation of the supplier as per the agreement entered or BOQ’s (Bill of Quantities).

II. The goods and services provided were within the obligation of the supplier as per the agreement entered or BOQ’s (Bill of Quantities).

3) According to Section 15(2)(b) of the CGST Act, “any amount that the supplier is liable to pay in relation to such supply but which has been incurred by the recipient of the supply and not included in the price actually paid or payable for the goods or services or both”.

I. GST impact where the recipient supplied goods that were not within the obligation of the supplier as per agreement

4) In this situation, the recipient supplies certain goods and services at no charge to the supplier, where the utilization of these goods and services falls outside the supplier’s contractual obligations. This scenario raises the potential for litigation as the tax authorities may treat the value of these goods and services also in accordance with Section 15(2)(b). Nevertheless, a straightforward interpretation of the provision indicates that Section 15(2)(b) is applicable only when the recipient fulfils the supplier’s liability. Hence Provisions of Section 15(2)(b) doesn’t apply in this case.

5) Further, in the case of Bhayana Builders Pvt Ltd vs Commissioner of Service Tax, the Supreme Court held that “a value which is not part of the contract between the service provider and the service recipient has no relevance in the determination of the value of taxable services provided by the service provider”.

6) Recently the above view is also affirmed by the Andhra Pradesh High Court in the case of M/s. Balaji Ready Mix Concrete Vs Union of India.

II. GST impact where the recipient supplied goods and services that were within the obligation of the supplier as per agreement

7) According to said valuation provision, when a recipient of supply offers goods and services at no charge that fall under the supplier’s obligations, the value of these goods and services must be included in the total value of the supply for the purpose of fulfilling the GST liability of the supplier. To invoke Section 15(2)(b) of the Act, it is essential that the goods and services provided by the supplier are indeed part of the supplier’s obligations. This scenario was not dealt in the case laws referred above.

8) Let’s assume that, according to the agreement, Mr. X is responsible for constructing the factory building for Mr. Y. The agreement stipulates that all materials necessary for the construction must be supplied solely by Mr. X. Nevertheless, during the construction process, Mr. Y supplied Mr. X with steel of the required quality at no charge for the purpose of construction. In this context, the value of the steel provided by Mr. Y should be incorporated into the value of the construction service supply in accordance with Section 15(2)(b) of the Act. However, taxpayers may face many challenges in implementation of this section 15(2)(b).

9) First and foremost, the Act does not specify how to ascertain the value of goods and services that are provided at no charge to the recipient. It might be determined using any one of the following ways,

a) Value as mentioned in the BOQs

b) Purchase cost of the recipient

c) Open Market Value of goods

d) Value of similar goods

10) Further, the recipient effectively incurs GST on the acquisition of steel that was supplied to the supplier at no cost. The supplier will subsequently incorporate the cost of this steel into their invoice and apply GST in accordance with Section 15(2)(b). In most cases, a significant portion of the goods and services utilized in works contract services will be ineligible under Section 17(5) of the CGST Act. If the recipient is not eligible for Input Tax Credit (ITC), the application of the valuation provision under Section 15(2)(b) results in a doubled tax burden on the recipient, rendering the ITC ineligible. Even in scenarios where the recipient qualifies for ITC, the aforementioned mechanism creates a double tax burden, leading to an accumulation of ITC. The following table provides a clearer understanding of the impact.

Ultimately, the mechanism outlined in Section 15(2)(b) of the Act presents numerous challenges in its implementation. To mitigate these challenges, the most effective alternative is for the recipient to invoice the supplier for the goods and services, rather than providing them at free of cost. This approach would prevent the activation of the provisions in Section 15(2)(b).

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