Tax Street - September 2024

A flagship publication that captures key developments in the areas of Tax and Regulatory environment

Introduction

We are pleased to present the latest edition of Tax Street – our newsletter that covers all the key developments and updates in the realm of taxation in India and across the globe for the month of September 2024.

• The 'Focus Point' outlines key aspects of the newly introduced Invoice Management System under India's GST regime.
• Under the 'From the Judiciary' section, we provide in brief, the key rulings on important cases, and our take on the same.
• Our 'Tax Talk' provides key updates on the important tax-related news from India and across the globe.
• Under 'Compliance Calendar', we list down the important due dates with regard to direct tax, transfer pricing and indirect tax in the month.

We hope you find our newsletter useful and we look forward to your feedback.

You can write to us at taxstreet@nexdigm.com. We would be happy to hear your thoughts on what more can we include in our newsletter and incorporate your feedback in our future editions.

Warm regards,
The Nexdigm Team

Focus Point

Invoice Management System under GST law: A step towards simplification or complication?

The GST regime has stepped into its eighth year and while it may have revolutionized the taxation framework in India, it has had its fair share of ups and downs. Being cognizant of the trade and industry concerns, the GST Council has been evidently focusing on mitigating undue litigation, improving tax administration, and enhancing the ease of doing business. At the same time, the Government has been sensitive to revenue leakages and tax frauds and been implementing stern measures to plug/curb the same. One such measure to check Input Tax Credit (ITC) frauds has been the introduction of GSTR-2A/2B, basis which recipients are allowed to claim credit only to the extent of invoices/transactions disclosed by the corresponding suppliers in their GSTR-1s/GSTR-1As/ Invoice Furnishing Facility (IFF).

A step further to reduce errors in claiming ITC and to improve its reconciliation, is the introduction of Invoice Management System (IMS) w.e.f. 1 October 2024 as an optional facility for taxpayers. As per the GST Council, the IMS is expected to reduce issuance of notices on account of ITC mismatch in the returns.

This functionality is accessible to persons registered as normal taxpayers (including SEZ units & developers) and casual taxpayers.

Functioning of IMS

Vide this functionality, the recipient taxpayers will be allowed to either accept, reject, or keep pending the invoices (including debit and credit notes) received from their suppliers. These actions can be taken from the time of saving the records in GSTR-1/GSTR-1A/IFF by the supplier till the recipient files their corresponding GSTR-3B.

The flow of IMS will be as follows:

It may be pertinent to note that if the recipient does not take any action on an invoice in the IMS, it will be deemed to be accepted and will move to GSTR-2B, with ensuing autopopulation in GSTR-3B.

Further the 'pending' action will not be allowed, i.e., the transactions will require to be either 'accepted' or 'rejected' by the recipient in the following scenarios:

1. Original credit note
2. Upward amendment of the credit note, irrespective of the action taken by the recipient on the original credit note
3. Downward amendment of the credit note, if the original credit note was rejected by the recipient
4. Downward amendment of the invoice/debit note, where the original invoice/debit note was accepted by the recipient and respective GSTR-3B has also been filed.

In the above scenarios, if the recipient rejects the transaction in IMS, the supplier's liability will increase in their GSTR-3B of the subsequent tax period.

Basis these actions, the draft GSTR2B will be made available on 14th of every month to the recipient. However, any action taken on an invoice after the 14th would require the recipient to recompute the draft GSTR-2B.

All accepted/deemed accepted/ rejected records will move out of the IMS dashboard after filing of respective GSTR-3Bs.

Treatment of specific situations

In addition to the above, the GSTN, in its advisory, has described the treatment of certain situations in the IMS. They are as follows:

1. If the supplier amends the details of an invoice saved in GSTR-1 before its filing, the amended invoice will replace the original invoice in the IMS, notwithstanding the action taken by the recipient on the original invoice.
2. Similarly, if the supplier amends any invoice reported in GSTR-1 through GSTR-1A, the amended invoice will flow to IMS, but in this case, the corresponding ITC will flow to the recipient's GSTR-2B of the subsequent month.
3. In case of amendments:
   1. If the original and the amended transactions are in two different GSTR-2B periods, it will be mandatory to take action on the original record and file the corresponding GSTR-3B before taking action on the amended record (amended through GSTR1A/GSTR-1).
   2. However, if both the transactions are in the same GSTR-2B period, only the amended record will be considered for ITC in the GSTR2B.
4. Any change made in an invoice/ record by the supplier before filing their GSTR-1/GSTR-1A/IFF will reset that transaction's status in the recipient's IMS.
5. Insofar as the reporting under Quarterly Return Monthly Payment (QRMP) scheme is concerned:
   1. The transactions saved or filed through IFF by the supplier will flow to the IMS of the recipient and will form part of the recipient's GSTR-2B based on the actions taken
   2. Where the recipient is a QRMP taxpayer, the GSTR-2B will be generated on a quarterly basis. It will not be generated for the first two months of the quarter.
6. Following supplies and documents will not go to IMS and will be directly populated in the GSTR-3B:
   1. Inward RCM supplies where supplier has reported in the Table 4B of IFF/GSTR-1/GSTR1A
   2. Supplies where ITC is not eligible due to time bar [Section 16(4)] or on account of place of supply rule
   3. Indian Customs Electronic Gateway (ICEGATE) documents.
   4. Documents flowing from GSTR-5 (return for non-resident taxable persons) and GSTR-6 (Input Service Distributor return).
   5. Documents where ITC is to be reversed on account of Rule 37A of CGST Rules (non-payment of GST by supplier).
7. GSTR-2B will be generated only if GSTR-3B of the previous return period has been filed.

Implementation

IMS has been made available on the GST portal as well as through Application Programming Interfaces (APIs). Accordingly, the taxpayers can either carry out the actions on the GST portal, which also facilitates downloading of the IMS details in a spreadsheet format or choose to integrate the process with their ERPs.

Our Comments

The introduction of IMS brings about a substantial change to the GST compliance and invoicing processes. While acting on each invoice is currently optional, it could soon become mandatory, thereby requiring businesses to proactively adopt the new functionality.

While this shift is touted to enhance the accuracy of ITC claims, it is too early to assess the overall efficiency of the functionality. Businesses would need to develop internal capabilities for verifying the transactions and for undertaking real-time resolution of any discrepancies, to avoid any noncompliance and mitigate supply chain disruptions.

Moreover, the functionality in its present form is more recipient-centric; therefore, any inadvertent action at the recipient's end could have adverse implications for the supplier, as it would likely increase the latter's tax liability in the subsequent GSTR-3B. Similarly, the consequence of rejecting or accepting an invoice which is later found to be otherwise, is still unclear – would there by a window to rectify the action and correctly claim ITC thereon?

For businesses who have not automated/fully automated their GST compliances as yet, this exercise could prove to be complicated, as they would be required to match all the invoices with their books as well as take necessary actions before the GSTR-3B filing due date.

Businesses will need adequate time to prepare themselves for the IMS and will require appropriate training to align with this newly introduced requirement, as it will significantly impact ITC and working capital.

From the Judiciary

Direct Tax

Should profits attributed to a Permanent Establishment in India be taxed independently of the parent company's overall profitability?

Hyatt International Southwest Asia Ltd [TS-693-HC-2024(DEL)]

Facts

Hyatt International Southwest Asia Ltd (the assessee) was involved in an income tax dispute relating to profit attribution to its Permanent Establishment (PE) in India. The dispute centers on whether the assessee is liable to tax in India for profits attributable to its PE, even though the assessee incurred losses at the global level. The assessee argued that under Article 7 of the Double Taxation Avoidance Agreement (DTAA) between India and the UAE, profits attributable to a PE should only be taxed if the enterprise as a whole has earned profits.

The Revenue argued that the assessee's PE in India should be treated as an independent taxable entity. Even if the enterprise incurred losses globally, profits attributable to the Indian PE should be taxed. The Revenue contended that Article 7 of the DTAA requires profits attributable to a PE to be taxed independently of the overall performance of the enterprise.

The same matter was earlier decided by the division bench of the Delhi High Court in case of Nokia Solutions [TS960-HC-2022(DEL)]¹ , in favor of Nokia by stating that the issue of taxability could arise only if profits had accrued to Nokia and that too only to the extent attributable to its PE in India. The decision in case of Nokia was made by the Income Tax Appellate Tribunal (ITAT) by relying on the Special Bench's decision in case of Motorola [TS-21- ITAT-2005(DEL)]²

Held

The Court ultimately decided that having a PE in India could lead to the taxation of any profits generated there, even if the company is experiencing losses elsewhere. It stressed that the rules allow for taxing profits connected to a PE in the host country, independent of the overall success of the foreign company.

The Court mentioned that it is of the firm opinion that the argument of global income or profit being relevant or determinative is totally unmerited and misconceived. Further, on the prior rulings, the court commented that the observations of ITAT's special bench in the Motorola case have been misconstrued as enunciating a legal principle of global loss being pertinent for the purposes of considering whether income is allocable to the PE.

Our Comments

This ruling underscored the importance of treating profits from a PE as if it were a separate business, ensuring that profits earned in India are taxed, regardless of the parent company's overall financial performance.

Can an LLC qualify for the lower tax rate under the India-US Double Taxation Avoidance Agreement (DTAA) despite being treated as a fiscally transparent entity in the US?

General Motors Company USA [TS-659-ITAT-2024(DEL)]

Facts

General Motors Company (the assessee) challenged the Assessing Officer's (AO) decisions regarding incorrectly taxing the income at 25% instead of the lower 15% allowed under the India-US Double Taxation Avoidance Agreement (DTAA).

A significant point of dispute was the classification of the assessee, a Limited Liability Company (LLC), as ineligible for DTAA benefits because it was deemed not liable for tax in the US. The assessee stressed that its status as a US resident, backed by a Tax Residency Certificate, should qualify it for the lower treaty rate. It argued that being "liable to tax" includes entities that are subject to tax laws, even if they are not taxed directly. The Assessee also contended that the concept of disregarded entities like LLCs should be included in the interpretation of the treaty, even though it was not recognized when the treaty was created.

Held

The Tribunal ruled in favor of the assessee, stating that the tax authorities made a mistake by denying treaty benefits to the LLC. It explained that the AO's classification of the LLC as a corporation under US law led to a wrong understanding of "liable to tax" under the India-US DTAA. The Tribunal noted that LLCs can be classified as partnerships or disregarded entities based on their structure, and income from a single-member LLC is taxed through its owner. It highlighted that having a Tax Residency Certificate shows that the entity complies with US tax laws, qualifying it as a resident for treaty purposes. The Tribunal also referenced past court decisions³ , which indicated that even entities treated as fiscally transparent can receive treaty benefits if their income is ultimately taxed in the US. Therefore, the tribunal confirmed that the LLC is considered a "person" under the treaty, allowing it to access the benefits.

Our Comments

This case shows how important it is to understand tax residency and rules in international tax treaties. The ruling confirms that an entity's legal status and following tax laws matter for getting treaty benefits, even if it's seen as fiscally transparent. It also highlights how the definitions of entities like LLCs are evolving in these agreements.

Transfer Pricing

DRP direction not complied by the AO, the final assessment order quashed by the ITAT

Comparex India P Ltd TS-399-ITAT-2024(DEL)-TP

Assessment Year 2018-19

Facts

The Transfer Pricing Officer (TPO) during the course of the assessment proceedings made total upward adjustment amounting to INR 22,436,553 in three segments of international transactions. After providing the assessee an opportunity to respond, the draft assessment order was issued. The assessee objected against the adjustments made by the TPO before the Dispute Resolution Panel (DRP), which upheld the adjustments for intra-group services (one segment) but deleted adjustments for back office support services and sourcing fees (the other two segments) thereby reducing the adjustment to INR 18,552,925.

The jurisdictional Assessing Officer (AO) passed the final assessment order wherein the additions as per the draft assessment order were sustained. The AO failed to comply and follow the directions of the DRP while passing the final assessment order.

Taxpayer's contention before the ITAT

The assessee appealed before the ITAT against the final assessment order stating that the AO erred by not passing the final assessment order in conformity with the DRP's directions and Order Giving Effect to DRP directions passed by the TPO which is direct violation of Section 144C(13) of the Income-tax Act (ITA or the Act). The assessee submitted that it is a clear cut violation wherein the whole assessment order is bad in law and shall be quashed.

The assessee also placed reliance on the ruling of Hon'ble Bombay High Court in Hexaware Technologies Ltd vs. ACIT⁴ wherein it was held that when an authority acts contrary to the law, the said act of the authority is required to be quashed and set aside as invalid and bad in law. It had also opined that an action is not required to establish prejudice to the assessee.

Revenue's contention before the ITAT

The Revenue argued that the order passed by the AO was a mere mistake and requested the case be remitted back to the AO for rectification. The Revenue placed reliance on the decision of the Hon'ble Supreme Court in the case of Sugandhi vs. P. Rajkumar⁵ and case of ITO vs. M. Pirai Choodi⁶ .

Held by the ITAT

The ITAT held that the case laws relied upon by the Revenue are distinguishable to the facts of the case and are not relevant to the issues raised by the assessee. The ITAT observed that the AO failed to adhere to the DRP's directions as mandated by section 144C(13) of the Act. The ITAT relied on the ruling in the case of Hexaware Technologies Ltd, emphasizing that actions contrary to law should be quashed. AO's oversight constituted a gross violation of statutory requirements, which invalidated the final assessment order and hence the assessment order was deemed invalid and quashed due to non-compliance with legal standards and procedural requirements.

The ITAT further held that the Revenue should have acted upon to rectify the mistake within a reasonable time and there were no records shown of any efforts taken by the AO.

Our Comments

This decision underscores the importance of adherence to statutory guidelines in the assessment process, particularly regarding the necessity to follow DRP directives. The ruling highlights that failure to do so can result in quashing the assessment order, protecting the rights of the assessee while ensuring compliance with tax laws. Therefore, it is of utmost importance on the part of the taxpayer to appropriately check whether the assessment order passed by the AO is in conformity with Order Giving Effect issued by the TPO and DRP directions as non- conformity in the same might result in order being quashed.

Footnotes

1. Nokia Solutions And Networks OY [TS-960-HC-2022(DEL)]

2. Motorola Inc. [TS-21-ITAT-2005(DEL)]

3. Linklaters LLP vs ITO 20101 40 SOT 51

4. Writ Petition No. 1778 of 2023 order dated 3 May 2024

5. Appeal No. 3427of 2020 dated 13 October 2020

6. (2011) 334 ITR 262 (SC)

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