India: Fate Of Freebies Under Value Added Tax (VAT)

Last Updated: 10 March 2004

By Sanjeev Malhotra, F.C.A, F.C.S, A.I.C.W.A.

Offering FREE GIFTS is the craze of the present day sales managers. This is one of the most successful methods used by aggressive traders to induce customers to buy their products. As this method of sales has been successfully followed since the days of the General Sales Tax Act, the traders failed to analyse the tax impact on this method in the light of implementation of Value Added Tax Act. The implementation of VAT from Ist April 2003 in fact called for the end of this practice. The traders who could not take notice of this will have to pay its price. In the following article, I have analysed the tax and financial impact of this practice in the scenario of VAT.

"BUY ONE GET ONE FREE", " BUY X GET Y FREE", " BUY THE 21 INCH, TAKE 14 INCH FREE" are a common sight in today’s marketplace. In today’s time of aggressive sales promotion, the words FREE attracts a lot of customer attention. Thus this method of sale has come to be followed by many of the aggressive retailers. Is this really free? Does the seller pay from his own pocket in the combined sale of these items?. Each one of us knows that no dealer / trader trades to make losses. Whatsoever may be claimed by the dealer of such items, it is no secret that the value of the free item is billed to the customer through the inflated pricing of the main item, which is clubbed with the sale. In the normal circumstances, main item would be available at a hefty discount on MRP printed on such items.

What is the taxable status of sales promotion schemes offering free gifts? Can free gifts offered with purchase of some goods be termed as Sale? Can this be treated as sale at Zero value in the Value Added Tax? Will input tax paid on the purchase of these items be available to dealer selling such goods for free? What will happen in case these goods are purchased in the course of inter state purchase? As input tax credit is not available on inter state purchases, Does that mean that there would be no financial impact of these purchases? Will it make any difference in case of giving these free, they are billed at nominal value say Rupee one?

In the era of General Sales Tax, there was no financial impact of these kind of transactions. In this article, I shall analyse the nature and implication of these kind of transactions in the new era of Value Added Tax (VAT). As the readers know that Haryana is the only State in India, which has implemented VAT by replacing Haryana General Sales Tax Act, 1973 by Haryana Value Added Tax Act, 2003. The case is being analysed through the provisions of Haryana Value Added Tax Act, 2003. In the General Sales Tax Acts, the matter of interest was only to determine whether the item dealt with will be sale or not? But in the case of VAT, there are two issues to be dealt with. Firstly, whether the item is Sale under the definition of Act and thus is chargeable to tax. The other being whether it is eligible to avail input tax credit?

Input tax credit is the amount of tax paid to the State in respect of goods sold to a VAT dealer, which such dealer is allowed to take credit from the output tax payable by him on the sales made by him. Example : A dealer in TV buys some goods from the State of Haryana for Rs. 1,00,000/- On this he pays VAT @ 12% ie Rs. 12,000/- During the same month, he makes total sale (including some number of these TV’s ) of Rs. 2,00,000/-. On which he is liable to pay tax @ 12%, which equals Rs. 24,000/- He will be required to deposit tax of Rs. 12,000/- (24,000 – 12,000) with the Government. In respect of admissibility of input tax on any item, there are exceptions provided in the Act. In Haryana, these exceptions are provided in Schedule E of the Act. Thus input tax paid on these items can be claimed only if these are treated as sales. As these items are given free, Can we say that there is sale of these items at zero price?

In the case of Commissioner of Sales Tax v. S. C. Jain [1988] 70 STC 45 (SC), the Hon’ble Supreme Court held that the "onus" was on the Revenue to prove that the transaction was sale so as to be liable to incidence of tax. But in the above case, the onus will be on assessee to prove that the said transaction is sale and hence the assessee is eligible to avail input tax credit of an amount paid as tax on the purchase of these items.

Entry at Sr. no. 5 in Schedule ‘E’ provides the circumstances in which input tax credit on all goods except Petroleum based fuels, Capital goods, paddy, rice will be NIL. Entry no. (ii) therein provides the circumstances as " When exported out of State or disposed of other wise than sale". In brief when goods are disposed of otherwise than by sale, input tax thereon will be nil. The term " disposed of otherwise than by sale" has not been defined in the Act. In ordinary parlance, it would imply that any disposal of goods which can not be covered as sale will be treated as disposal of otherwise than by sale. Example of such cases could be self consumption of goods bought for business. To determine whether items given free will fall within the four corners of the words " disposed of otherwise than by sale", As anything which is sale can’t be treated as disposal other than by sale, let us analyse the definition of sale given in the Act.

Clause (ze) of sub section (1) of Section 2 of Haryana Value Added Tax Act, 2003 provides the definition of " Sale to mean any transfer or property in goods for cash or deferred payment or other valuable consideration except a mortgage or hypothecation of or a charge or pledge on goods and includes :- deemed sales (provided in sub clauses (i) to (vi), not relevant, so not discussed). In respect of goods given free, there is no dispute to the fact that transfer of property in such goods is passed on to the buyer of goods. There is no question of cash or deferred payment involved in these cases as these items are given free. Can the linking of these goods with the sale of other goods which are billed to customers be treated as other valuable consideration? There are various judicial pronouncement on the issue.

In the case of Punjab Land Development and Reclamation Corpn. Ltd. v. Presiding Officer, Labour Court (1990) 3 SCC 682, it was held that When a statute says that a word or phrase shall "mean" - not merely that it shall "include" - certain things or acts, "the definition is a hard-and-fast definition, and no other meaning can be assigned to the expression that is put down in definition". A definition is an explicit statement of the full connotation of a term.

In Devi Dass Gopal Krishnan v. State of Punjab [1967] 20 STC 430, the Hon’ble Supreme Court while construing section 2(h) of the Punjab General Sales Tax Act, 1948, defining "sale", held :

"Now, coming to the expression 'price' it is no doubt defined in the Sale of Goods Act as 'money consideration'. Cash or deferred payment in clause (ff) of section 2 of the Act satisfies the said definition. The expression 'valuable consideration' has a wider connotation, but the said expression is also used in the same collocation in the definition of 'sale' in section 2(h) of the Act. The said expression must bear the same meaning in clause (ff) and clause (h) of section 2 of the Act. It may also be noticed that in most of the Sales Tax Acts the same three expressions are used. It has never been argued or decided that the said expression means other than monetary consideration. This consistent legislative practice cannot be ignored. The expression 'valuable consideration' takes colour from the preceding expression 'cash or deferred payment'. If so, it can only mean some other monetary payment in the nature of "cash or deferred payment."

Relying on the above judgement of Hon’ble Supreme Court of India, same opinions on the issues were held by High Courts in the cases of M.Jaihind Vs State of Kerala 1998 – (ST2)- GJX – 0101- KER. and Assam Oil Company Limited Vs Commissioner of Taxes, Guwahati 1990 – (ST2) –GJX – 0244 - GAU.

In view of the above, it is felt that input tax credit on the goods billed at zero value will not be available to dealers making such sales.

Purchase of such goods in inter state purchase

The input tax is not available on goods purchased in the course of inter state purchase. Thus, there will be no disallowance of credit in case such goods are purchased in the course of inter state purchase. But in that scenario, the tax under Haryana Local Area Development Tax Act, 2000 will be leviable on the purchase of such goods.

The local area development tax (LADT) is levied @ 2% on all goods entering into local area from any place outside the local area. Thus the purchase of all these goods will be part of gross turnover under the Act. Section 5 of the Act prescribes the deductions available from Gross turnover to arrive at taxable turnover under the Act. Clause (d) of sub section (1) of Section 5 prescribes one of the deduction as " the value of goods on which sales tax has been paid or has become payable to the State."

As no tax is paid to the State of Haryana on the disposal of such goods, the deduction under the provisions of Section 5(1)(d) of Haryana Local Area Development Tax Act, 2000 will not be available to the goods offered free. Thus, this goods purchased from out of the state of Haryana will be chargeable to tax under the provisions of LADT at the applicable rate under the Act. In our example the liability of local area development tax @ 2% will be Rs. 2,000/- in case Rupees 1,00,000/- worth of goods are purchased from some other State and given free in the State of Haryana.

Effect of billing at Nominal value

As in Excise law, there is no concept of notional assessable value under the States Value Added Tax. Any dealer is at liberty to charge any price and may even sell at loss. Thus in above case, there will be total change in scenario, in case dealer offering the goods for free decide to charge a nominal price of such goods. Then said case will then be covered by the definition of sale and there will not be denial of input tax credit in case goods have been purchased from the State and purchase tax will not be charged in case the goods have been purchased in the course of inter state purchase.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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