Background
The concept of tax deduction at source (TDS) was introduced with an aim to collect tax from the very source of income. As per this concept, a person (deductor) who is liable to make payment of a specified nature to any other person (deductee) for work done/goods sold/service rendered, shall deduct tax at source and remit the same to the credit of the exchequer.
However, most of the TDS provisions (for example, 194C/194J) did not cover payments made wholly or partly in kind (i.e., through any mode other than cash/cheque/draft or any other instrument of similar nature). Therefore, even if the deductee received benefits in kind, in pursuance of a contract, or otherwise, the same could not be brought within the TDS net.
Section 28(iv) of the Income-tax Act, 1961 (Act) states that any benefit/perquisite, whether convertible into money or not, arising from business or exercise of profession should be offered to tax as business income. Therefore, the onus to offer such benefits/perquisites was always with the receiver of such benefit/perquisite and not the provider. However, the receivers, in many cases, were not reporting these receipts in their return of income and thereby escaping the tax net.
In view of the above, to ensure the reporting and taxability of such transactions, Finance Act 2022 introduced section 194R with effect from 1 July 2022 whereby the onus to report and deduct tax on such benefits/perquisites is now shifted to the provider of the benefit.
The guidelines to implement the section were issued by the Central Board of Direct Taxes (CBDT) vide Circular No. 12 of 2022 dated 16 June 2022 (circular). While the circular has attempted to clarify on various issues faced by taxpayers, this article specifically analyses the challenges on implementing the guidance around the fair market value (FMV) provided by the circular.
Guidance on FMV provided by the circular[1]
At the outset, the circular brings to tax any benefit/perquisite irrespective of whether it is revenue or capital in nature. Therefore, computing the value of such ‘benefit/perquisite’ for the purpose of TDS becomes crucial. The circular has provided the following guidance in this regard:
“The valuation would be based on fair market value of the benefit or perquisite except in following cases:
(i) The benefit/perquisite provider has purchased the benefit/perquisite before providing it to the recipient. In that case the purchase price shall be the value for such benefit/perquisite.
(ii) The benefit/perquisite provider manufactures such items given as benefit/perquisite, then the price that it charges to its customers for such items shall be the value for such benefit/perquisite.
It is further clarified that GST will not be included for the purposes of valuation of benefit/perquisite for TDS under section 194R of the Act.”
It is a well settled judicial principle that the fair value is the price which the taxpayer would fetch if the goods were sold in the open market immediately after purchase, and not the purchase price itself[2].
While this is a stark inconsistency in the circular, a few more instances have been discussed below wherein following the guidance provided by the circular could pose a challenge:
Value of services
Since the language of the circular is open ended and covers only 2 scenarios, i.e., purchase/manufacture, its usage appears to be restricted only to goods and very limited to services. Let us take an example, suppose a company in Mumbai provides a guest house to a legal counsel at Pune for attending a high-pitched litigation at Pune. In this case, the company has hired a guest house at a monthly rent of Rs. 1,00,000 per month and provides a free stay of 3 days to the counsel. In this case, this benefit neither falls under the category of purchase nor manufacture. The value of benefit that the company should consider in the current case is ambiguous, i.e., ideally the proportionate rent that the company pays to its landlord may be considered as a benefit/perquisite in the hands of the counsel. However, whether this will meet the guidance on FMV as laid down by the circular is not clear.
Capital asset
The circular states that benefits/perquisites in the nature of a capital asset would also be covered within the ambit of section 194R. In this connection, it is pertinent to note that the valuation of certain capital assets like land, shares, bonds, debentures have already been provided under section 48 and section 56 of the Act. In this connection, let us take an example, where an unlisted start-up company provides sweat equity shares to a consultant, instead of cash, for professional services provided by him. As per the circular, the guidance for valuation has only been provided in the scenarios discussed above, i.e., purchase/manufacture. This example again would not be covered under any of these scenarios. Therefore, the challenge that may arise here is that whether the company can follow the valuation methods provided for specific capital assets under section 56 (i.e., fair value arrived at by an independent valuer or merchant banker) for the purpose of TDS under section 194R of the Act. If not, what are the alternate values that the company can adopt for valuation in such scenarios in the absence of any clarification.
Inter-company transactions
The circular covers any benefit/perquisite arising from business or exercise of a profession. In this connection, it is not uncommon that companies provide inter-company services to other entities of the group. Let us take an example of Company A Pvt. Ltd. (Company A), which has provided a performance guarantee of Rs. 10 crores to a third party on behalf of one of its subsidiaries, Company B such that Company A will not dilute its shareholding in Company B until Company B fulfills its commitment given to the third party. Company A charges 0.25% of the commitment amount as fees from Company B for providing the guarantee. In this scenario, Company B is evidently receiving a benefit from Company A which is arising from business or profession. In this case, these entities being related parties, the fees will have to be arrived at in accordance with section 92C of the Act (as Companies Act, 2013 requires that all related party transactions must be tabled before the Board for approval and there is no mechanism provided for arriving at arm’s length price under the Companies Act, 2013), whether this value will hold good for applying the provisions of section 194R is not clear. Also, as reiterated in the foregoing examples as well, this transaction is clearly out of the purview of purchase/manufacture as provided in the circular.
Conclusion
While the above are few instances wherein the guidance on FMV may not hold good, businesses will encounter a plethora of transactions on a day-to-day basis wherein the provisions of section 194R may be triggered. Therefore, a clear-cut guidance on how the benefits/perquisites will be valued is critical failing which the provisions of this section may become redundant for want of a proper computation mechanism.
(Anonymous)
(The views expressed above are purely personal views of the author)
[1] Question 5 of Circular No. 12 of 2022 dated 16 June 2022: How is the valuation of benefit/perquisite required to be carried out?
[2] Abbott v. Philbin (Inspector of Taxes) [1959] 3 W.L.E. 739 – House of Lords
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