GST impact on Corporate Guarantee (incl. Perosnal & Bank)

Introduction

The 53^rd GST council has recommended clarity w.r.t valuation of corporate guarantee by following 52^nd GST council where clarity was issued on personal guarantee given by a director and Corporate Guarantee including GST liability. This has been a long pending issue. It is relevant to note the very recent hon’ble Supreme Court’s decision on Edelweiss Financial Services Ltd under Service Tax regime which went in the favour of the assessee. However, the major difference between service tax in this case compared to GST is that service tax can’t be levied in the absence of consideration.

Difference between Personal, Bank & Corporate guarantee

Section 126 of the Indian Contract Act 1872 defines ‘Guarantee’ as a contract to perform is a contract to perform the promise, or discharge the liability, of a third person in case of his default.

As per Section 127 of the Indian Contract Act 1872, anything done, or any promise made, for the benefit of the principal debtor may be a sufficient consideration to the surety for giving the guarantee.

One must understand and ensure the facts of the case are clearly understood and the contract between the parties is not a contract of indemnity as defined in Section 124 of the Indian Contract Act 1872 which states that when one party promises to compensate another against the losses incurred by them due to anything done or omitted to be done by the promisor, a contract of indemnity is said to be made between the parties.

Note: Contract of Indemnity has only 2 parties - an Indemnifier and an Indemnified.

A tabular depiction which will help understand the various types of guarantees:

Few relevant decisions

Corporate guarantee is not liable to tax when consideration is not prescribed – Edelweiss Financial Services Ltd (ST Regime – Supreme Court - Civil Appeal Diary No. 5258/2023) & Sterlite Industries India Ltd (Chennai CESTAT).

Corporate guarantee is liable to tax when consideration is prescribed – Olam Agro India (Delhi CESTAT)

Personal guarantee (director) is liable to RCM under GST- Writ petition dismissed in the case of BST Steels Pvt Ltd (Telangana High Court Writ Petition No. 21384 of 2023).

Changes recommended in 53^rd GST council:

1. Notified vide NN 52/2023-CT dated 26^th October 2023 – Brought in sub-rule (2) in Rule 28 of CGST Rules, 2017, to provide for taxable value of supply of corporate guarantee provided to banking company or financial institution on behalf of related person at 1% valuation.
2. Circular 204/16/2023-GST dtd 27^th October 2023 had clarified rule 28(2) needs to be followed irrespective of the recipients’ eligibility to input tax credit.
3. Notified vide NN 12/2024 dtd 10^th July 2024, applicable retrospectively with effect from 26^th October 2023 –
   1. To amend rule 28(2) to ensure that said valuation rules does not apply to the supply between related parties, where recipient is located outside India.
   2. To amend and ensure that 1% valuation is to be performed on a per annum basis.
   3. Proviso inserted that where recipient is eligible to full input tax credit, the invoice value is deemed acceptable. (similar to Circular 199/11/2023-GST).
   4. Further clarified on various situations vide Circular 225/19/2024-GST.

Note: Safe Harbor Rules issued by CBDT provides that commission or fee would be considered at 1% of amount guaranteed in case of Corporate Guarantee given to wholly owned subsidiary. Similar valuation principle being considered for GST purpose as well.  

Issues & clarifications based on recent changes:

1. Whether the liability would recur on an annual basis or only in the first year the guarantee has been provided?

The issue has been clarified through circular No. 225/19/2024-GST that valuation of 1% is per annum and refer the below table for better understanding.

2. When corporate guarantee is given by an entity in India to its subsidiary outside India, would it still count as an export?

Assuming that there is no agreed consideration, with the fixed valuation under Indian GST law, the ability to receive such amount from foreign counterparts may be counterproductive. This will ensure that the transaction is not an export of service on account of non-realization of foreign convertible currency, eventually leading to a cost on the transaction. This goes against the general global practices and may make India not conductive to international markets.

To end this, Rule 28(2) has been amended retrospectively w.e.f 26-10-2023 effectively eliminating a fixed valuation for export transactions.

It could still be disputed that the valuation is now applicable under Rule 28(1) and thus as the recipient being outside India not eligible to credit, the open market value must be considered. This remains an open issue, although one may plead on the intention of the changes brought in through recent notification and circular.

Where the actual consideration is present, irrespective of the fact it is less than the deemed 1% guarantee value, entities may decide to implement milestone basis payments within the agreement to enable smooth refund processing to the extent of export of services.

3. When a director ceases to be a director of the company where a guarantee has been provided, would the GST levy change?

Yes, this is possible as the guarantor (ex-director) may seek consideration against guarantee provided. In such a case, the liability to pay GST would arise on such person providing the guarantee under GST law, subject to applicability to register under GST Act. The impending clarification only brings about clarity for director guarantees wherein GST would not be applicable where consideration is not obtained directly or indirectly. This has also been clarified vide Circular 204/16/2023-CGST dated 27^th October 2023.

4. Whether a corporate guarantee can be considered as a supply under GST?

Under erstwhile ST law, the criticality for determination of service, requires consideration. In the absence of which the taxability u/s 66B of the Finance Act 1994 does not arise. Although, under CGST Act, Section 7 r/w Schedule I, activities performed without consideration can be deemed to be a supply when performed between related persons. The GST Council recommendation now brings in a deemed liability even if there is no consideration for the purpose of valuation under GST. Although, to be covered under schedule I, the activity must be a supply of service first. A corporate guarantee can be said to be a facilitation performed for the purpose of the overall growth of the entity and a shareholder activity in the nature of quasi-capital which should not be construed as a provision of service. [Micro Ink vs ACIT [(2016) 176 TTJ 8 (Ahd)].

Additionally, the option to dispute levy is by considering such guarantees as actionable claims covered under Schedule III of CGST Act, thereby excluding it from supply definition.

5. Whether the Government can implement the recommendations retrospectively, i.e. to bring in corporate guarantees into the tax net from July 2017 onwards?

Keeping aside the fact that the levy is questionable, the valuation changes in the GST law expected by way of notification cannot have been known prior to this day. Ambiguity in law will always favour the assessee. Therefore, for the past the law as is would be applicable, i.e. Rule 28 read with second proviso and Circular No.210/4/2024-GST dated 26^th June 2024 which allows for supply to be deemed as NIL where full input tax credit is eligible.

It has also been clarified vide Circular 225/19/2024-GST sl. 1 that for the period upto 26-10-2023 the valuation would abide by Rule 28 that existed during that time.

6. Where the corporate guarantee is provided against Rs. 500 lakh loan, but the party has availed part amount of the loan or not availed at all, in such cases what will be the value of supply of corporate guarantee and when can recipient avail the input tax credit?

Keeping aside the fact that the levy is questionable, it is clarified that providing the services of corporate guarantee is not linked with actual disbursement of loan. Here, the service of corporate guarantee is that taking the risk of default so the value of supply in case of corporate guarantee will be the amount guaranteed irrespective of the loan part amount availed or not availed at all.

Further it is clarified that input tax credit related to corporate guarantee can be availed by the recipient irrespective of the loan part amount availed or not availed because here the service is not loan but the amount guaranteed subject to other conditions specified in the act and the rules made thereunder.

7. Corporate guarantee is a common credit for various GSTINs under the same PAN, whether ISD provisions would apply?

Recently, in the Finance Act 2024 (March), the ISD provisions in the GST law were amended to be made mandatory going forward. The CGST Rules were recently amended with the ISD provisions vide NN 12/2024-CT.

Therefore, GST invoices received from related persons may need to be distributed through ISD registration.

Additionally, where corporate guarantee services are imported, the input tax credit must also be distributed through ISD registration.

Although, the notification to bring in the ISD provisions into effect is awaited. Until then Circular 199/2023 provides that ISD provisions are not mandatory when ISD registration has not been taken. Therefore, cross charge may be performed, and relaxations therein could be taken advantage of.

8. Where recipient is eligible for full input tax credit, then invoice value declared is deemed accepted?

Before the Circular No. 225/19/2024-GST issued, department has clarified through Circular no 204/16/2023 that rule 28(2) is read as 1% on the amount guaranteed shall be the value of supply, irrespective of whether recipient is eligible for full input tax credit or not.

But after many representations given to the GST council taking a cue from Circular 199/11/2023-GST, it is clarified that value declared in the invoice shall be deemed to be the value of supply of the said service if the recipient is eligible for the full input tax credit through Circular No. 225/19/2024-GST and it is applicable retrospectively with effect from 26th October 2023 vide notification No. 12/2024 -CT dated 10.07.2024.

The invoice value can be deemed to be a negligible value – say Re. 1 / Rs. 10.

Note - There is always ambiguity on how one must construe ‘recipient eligible to full input tax credit’, i.e. must this be looked at on a transaction level or a summary/entity level basis. The answer lies in the Section 16, section 17 read with rule 42/43 – the words used are with respect to such inward supplies being goods or services, and each transaction must be viewed independently. Therefore, this must be seen on a transaction level.

Article Summary:

I Personal Guarantee – before or after amendment, GST impact is same

• Directors/Others - NIL consideration – Not liable 
• Other than Director if consideration > Rs. 0: Yes, liable

II Bank guarantee with consideration – liable to GST

WIH -Whichever is Higher; ITC-Input Tax Credit

Possible HSN for Corporate Guarantee – HSN 999799 – 18%

Conclusion

GST on Corporate guarantees have brought in a significant change in terms of taxation, valuation and credit eligibility. Ability to dispute the levy remains where consideration is NIL, otherwise based on various tax positions the GST levy may change. Recent notification and circular are a welcome move and aide the business and global trade practices. As GST is a new and evolving law, taking the help of professionals in case of ambiguity in tax positions is recommended.

Original article was first posted in KSCAA journal, revised based on recent changes in law.

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