Corporate Guarantees under GST: Gujarat High Court Upholds Taxability, but Reads Down Rule 28(2) and Denies Retrospective Levy

Torrent Power Ltd. v. Union of India & Ors. – 2026 (8) TMI 990 – Gujarat High Court (Batch of writ petitions; decided 14.08.2026)

1. Background

Furnishing a corporate guarantee is a routine, non-commercial incident of the holding-subsidiary relationship: a parent company extends its creditworthiness, without charging any fee, so that its subsidiary can raise credit facilities from banks and financial institutions. Under the erstwhile service tax regime, an “activity” and a corresponding “consideration” were both indispensable ingredients of a taxable service, and the Supreme Court in Commissioner of CGST & Central Excise v. Edelweiss Financial Services Ltd. accordingly held that a guarantee furnished without consideration escaped the service tax net altogether, since the law contained no deeming fiction for related-party transactions.

The GST law changed this position. Section 7(1)(c) of the CGST Act, read with Entry 2 of Schedule I, deems a supply of services between related persons even without consideration to be a taxable supply when made in the course or furtherance of business. Treating this as covering corporate guarantees, the Government inserted Rule 28(2) of the CGST Rules with effect from 26.10.2023, deeming the value of such a guarantee to be 1% of the guaranteed amount per annum, or the actual consideration, whichever is higher. The Rule was amended again on 10.07.2024, inserting the words “per annum” retrospectively from the same date, and was supplemented by Circulars dated 27.10.2023 and 11.07.2024 explaining its operation.

Field formations proceeded to raise demands at 1% not only for the period after 26.10.2023, but also for corporate guarantees executed years earlier in some cases as far back as 2010-12 and, in certain matters, even invoked Section 74 of the CGST Act (fraud/wilful suppression) to sustain the demand. A batch of writ petitions, led by Torrent Power Ltd. and joined by several other holding companies, was filed before the Gujarat High Court challenging the vires of Rule 28(2) and Section 15(4), the validity of the two Circulars, and the invocation of Section 74.

2. Issues Involved
   • Whether a corporate guarantee furnished without consideration by a holding company for its subsidiary is a taxable supply of services under the GST framework.
   • Whether Rule 28(2) of the CGST Rules (prescribing valuation of corporate guarantees) and Section 15(4) of the CGST Act are constitutionally valid.
   • Whether Rule 28(2) can be applied to corporate guarantees executed before 26.10.2023.
   • Whether the Circulars dated 27.10.2023 and 11.07.2024 are valid.
   • Whether proceedings under Section 74 for corporate-guarantee transactions were sustainable.
3. Court's Interpretation of the Provisions

Taxability as “supply”: The Court held that a corporate guarantee is a tripartite arrangement – a principal contract between the subsidiary and the bank, a secondary contract between the bank and the holding company (surety), and an implied contract between the holding company and the subsidiary. Relying on Sections 126, 140 and 145 of the Indian Contract Act, 1872, the Court reasoned that once the guarantor discharges the debt, it steps into the shoes of the creditor by subrogation, and the subsidiary owes it an implied statutory obligation of indemnity. This nexus is enough to treat the transaction as a “supply of service” under Section 7(1)(c) read with Entry 2 of Schedule I, and as “agreeing to do an act” under Entry 5(e) of Schedule II – without waiting for the guarantee to be invoked. The subsidiary was held to be the “recipient” under Section 2(93), and the activity was held to be “business” under Section 2(17), being incidental or ancillary to the holding company's main

Validity of Rule 28(2) and Section 15(4): The Court upheld Section 15(4), Section 15(5) and Rule 28(2) as validly traceable to the rule-making power under Section 164 and the GST Council's recommendation, following the Supreme Court's ruling in Gameskraft on Rule 31A. However, applying the Supreme Court's reasoning in Wipro Ltd. (on an analogous 1?eming fiction under the Customs Valuation Rules) and the “reading down” doctrine explained in Central Bank of India v. Shanmugavelu, the Court held that the expression “whichever is higher” in Rule 28(2) is arbitrary and disproportionate, since it denies the guarantor any option to pay GST on the actual, ascertainable commission where such commission is lower than 1%. This expression was accordingly read down, valuation must be based on actual consideration where ascertainable, and the 1?emed value operates only as a residual benchmark where actual consideration cannot be determined.

No retrospective burden: Rule 28(2) came into force only on 26.10.2023. Applying it to guarantees executed before that date, the Court held, would be retroactive, creating a fresh fiscal liability on transactions already completed, without any valuation machinery existing at the time would offend Articles 14 and 19(1)(g) of the Constitution. GST under Rule 28(2) was accordingly held inapplicable for any period prior to 26.10.2023, while a continuing guarantee that survives beyond that date attracts levy prospectively from 26.10.2023, with the time of supply referable to Section 13(2)(c) (the date the subsidiary reflects the guarantee in its books, informed by the continuing disclosure obligation under Ind AS 24).

Circulars and Section 74: The Circulars were held to be administrative material that merely operationalise the statute and cannot independently create or expand a levy; they were set aside to the extent they run contrary to the Court's reading of Rule 28(2). On Section 74, the Court held that invoking “suppression” requires a positive, deliberate act to evade tax, mere non-payment amid a bona fide, unsettled interpretational dispute (particularly where the guarantee pre-dated Rule 28(2) itself) does not meet that threshold. The impugned orders and show-cause notices under Section 74 were accordingly quashed.

4. Core Principles Affirmed
   • A deeming fiction under Schedule I does not dispense with the need for an identifiable supply, but once related-party status and business nexus are established, absence of consideration does not defeat the levy.
   • Delegated valuation machinery cannot be used to supply an essential ingredient of the charge itself; where it forecloses reliance on actual, ascertainable consideration, courts will read it down rather than strike down the entire provision, consistent with the settled preference for “reading down” over invalidation.
   • A valid rule-making power (Section 164(3)) can operate retrospectively, but retrospective/retroactive application of a valuation rule that imposes a fresh fiscal burden on already-completed transactions is tested against Articles 14 and 19(1)(g), and can be denied prospective effect only, per the maxim nova constitutio futuris formam imponere debet, non praeteritis. which means a new law should be prospective, regulating future conduct rather than altering past transactions.
   • Continuing obligations (such as a subsisting guarantee) can have a recurring “time of supply” under Section 13(2)(c), tied to the recipient's annual books-of-account disclosure, even where the transaction does not meet the stricter definition of “continuous supply of services” under Section 2(33) for want of periodic payment obligations.
   • Circulars are subordinate to statutory interpretation; they can clarify and operationalise the law but cannot create a levy or survive where they conflict with the Court's construction of the parent provision.
   • Invocation of Section 74 demands positive proof of fraud, wilful misstatement or deliberate suppression; a bona fide dispute over a nascent, unsettled question of taxability or valuation does not, by itself, justify the extended period/penal route. When facts were known to both the parties, the omission by one to do what he might have done and not that he must have done, would not render it suppression,”