Background
India has firmly established itself as the go-to-destination for back offices and Global Capability Centres (GCCs), attracting an increasing number of global companies seeking to set up their presence in India, while leverage the country's unparalleled advantages. However, for a Multinational Enterprise (MNE) looking towards India, the topic of taxation has always been weighed upon with fear and trepidation, given the complexity of tax laws, compounded by multitudes of judicial rulings and administrative diktats.
Given this environment of apprehension, the recent clarification issued by the Central Board of Indirect Taxes (CBIC) on GST relating to import of services from related parties, acts as a breath of fresh air. The GST Circular No. 210/4/2024-GST (Circular) dated June 26, 2024 seeks to re-clarify and affirm the position already stipulated in the main GST provisions, as regards valuation and thus taxability of import of services by an Indian entity from a foreign related party, payable on Reverse Charge Mechanism (RCM) by the Indian entity, also permitting the importers to take a position of NIL GST payable on such imports in certain circumstances.
Clarification provided by the Circular
The Circular clarifies that in cases where the foreign affiliate is providing certain services to the related Indian entity, and where full GST Input Tax Credit (ITC) is available to the said related Indian entity, the value of such supply of services declared in the invoice by the said related Indian entity may be deemed as Open Market Value (OMV) in terms of second proviso to Rule 28(1) o fCentral Goods and Services Tax Rules, 2017 (CGST Rules). Further, in cases where full ITC is available to the recipient, and if the invoice is not issued by the related Indian entity with respect to any service provided by the foreign affiliate to it, the value of such services may be deemed to be declared as NIL, and may be deemed as OMV in terms of second proviso to Rule 28(1) of CGST Rules.
Second proviso to Rule 28(1) of CGST Rules stipulates that in cases involving supply of goods or services between related persons, where the recipient is eligible for full ITC, the value declared in the invoice shall be deemed to be OMV of the said goods or services.
In terms of the Circular, while a foreign entity may opt to not charge any consideration or charge at a value which may not be at OMV from its Indian entity for the services rendered to it, , it is pertinent to evaluate the implications of this aspect of valuation under the Income-tax Act, 1961 and Customs Act, 1962. This article accordingly analyses the implications under the said legislations and provides the key compliance measures which should be undertaken by entities entering into such transactions.
Wide Applicability of The Circular
The initial paragraph of the Circular gives a reference to S.No. 4 of Schedule I of the Central Goods and Services Tax Act, 2017 (CGST Act) which states that transactions between related persons, even if made without consideration, are a 'supply' under GST and leviable to tax. A question which arises is whether the scope of the Circular should thus be restricted to only Schedule I transactions i.e transactions where there is no consideration between related parties. Such an interpretation may not uphold the true intent of the Circular, since in cases where the related parties commercially agree to charge a consideration (and mentions a value in the invoice as has also been discussed in para 3.7 of the Circular), even though not at OMV, such value will be deemed to be OMV. Further, it is also noteworthy that the basic premise of the Circular is that where full ITC is available to the recipient, second proviso to Rule 28(1) of CGST Rules will apply. Effectively, this premise is followed from Circular No.199/11/2023 dated 17.07.2023 which permits two offices of the same organisation in India, but registered in two different States, to adopt a valuation as they deem appropriate, subject to the recipient of the service being eligible for full ITC. Thus, it can be said that the Circular will apply in all transactions of import of services between Indian entities and its foreign counterpart.
Impact of Circular on Valuation under Income-tax Act, 1961
International transactions attract the provisions of Transfer Pricing (TP) in terms of Section 92 of the Income-tax Act, 1961 (IT Act). Procurement of services by the Indian entity from its related party will attract TP provisions when they enter into international transactions that gives rise to taxable income in India and will be subject to Arm's Length Price (ALP).
Supplies to separate legal entity
In the context of the Circular discussed above, let us consider a situation where a foreign entity does not charge any consideration for services provided to its Indian Associated Enterprise (AE), which is in the form of a separate legal establishment and is not a branch office (BO)/project office (PO)/liaison office (LO) of the foreign entity. In this case, for the purposes of GST, shelter under the Circular may be taken and the OMV will be considered as NIL and accordingly, no GST will be charged on such transaction.
For the purposes of determining the ALP under the IT Act, from the perspective of the Indian AE, considering that the nature of this transaction in the hands of the Indian AE will be an 'expense', practically, the Indian revenue authorities are not likely to scrutinise the valuation of 'expense' in great detail, since this may lead to reduction of profits in the hands of the Indian AE and consequently lower payment of income tax.
From the perspective of the foreign entity, considering the nature of transaction in the hands of foreign entity, providing services to Indian AE would be 'income', if the income from rendition of these services is taxable in India, the TP provisions will apply to the foreign entity. If the services provided by the foreign entity qualifies as fees for technical services (FTS)/ royalty which is taxable in India, the Indian AE (payer) would be required to withhold tax on the FTS/ royalty under Section 195 of the IT Act. This taxability/withholding tax obligation applies irrespective of whether the foreign entity charges any consideration or has a NIL valuation for the purposes of GST, as the consideration for such FTS/royalty is calculated based on ALP principles in accordance with Indian TP regulations.
In the absence of any documentary evidence to determine the ALP in this case (since the invoice depicts NIL value), the tax authorities may instruct the taxpayer to undertake separate benchmarking exercise to arrive at an ALP basis the valuation adopted in comparable transactions.
Supplies to BO/LO/PO
In cases where the foreign entity is rendering services to its Indian entity, where such Indian entity is a BO/LO/PO, established under the specific permission of the Reserve Bank of India (RBI), generally, the parent does not charge a mark-up for rendering services to the BO/LO/PO, since they are considered an extension of the parent organisation located outside India. Further, it is such foreign parent that generally reimburses the cost of operations to their Indian BO/LO/PO. Accordingly, in such cases, the TP provisions may not apply and there may not be a requirement for undertaking a valuation. Though, in cases where the foreign parent charges a mark-up for rendering services to its Indian BO/LO/PO, such consideration will be required to comply with the TP provisions and a value may be required to be ascribed.
Impact of Circular on Valuation under Customs Act, 1962
Customs Act, 1962 (CA) is applicable to import/export of goods in/from India. The Circular discussed in this article is in the context of GST valuation applicable to 'import of services' from outside India. While Customs apply on goods and not on services, there could be certain instances where there can be an intersection between the two. Considering instances where benefit of the Circular under GST is taken for import of services and value of such services are also liable to be included while computing customs duty, in such instances it would be relevant to evaluate as to how the procedures regarding valuation under CA will be complied with.
To illustrate the above stated scenario, reference is made to Rule 10 of Customs Valuation (Determination of Price of imported Goods) Rules, 2007 (CVR). Rule 10(1)(c) states that royalties and licence fees related to the imported goods that the buyer is required to pay as a condition of the sale of the goods being valued, are to be added in the price of imported goods. Likewise, Rule 10(1)(e) states that payments to be made as a condition of sale for imported goods by the buyer to seller are to be added to the price of the imported goods.
An example for application of Rule 10(1)(e) of CVR which could generally apply to several organisations is purchase of computers by an Indian entity from its related foreign affiliate and a condition of sale – the buyer i.e, the Indian entity is required to pay a monthly service fee to the foreign affiliate for providing maintenance services through online mode. From GST perspective, the benefit of the Circular for such import of services may be availed, wherein the value of such import of service can be determined to be NIL. However, in terms of Rule 10(1)(e), the payment of monthly service fee will be added to the value of goods. Accordingly, a value for such services will be required to be determined for the purposes of CA and CVR.
Another instance which can be discussed is when goods exported for repairs abroad which are reimported into India are exempt from payment of Customs duty, subject to the condition that IGST is paid on the value equal to the repairs, insurance and freight, which is effectively the service element. This aspect has also been clarified by Circular 16/2021-Cus. dated 19th July 2021. In such cases as well, for the purposes of GST, while a NIL consideration would be permissible in terms of the Circular, for the purposes of customs, a value may be required to be ascribed to such a transaction.
It is also pertinent to note that in case of related party imports, Special Valuation Branch (SVB) proceedings will be initiated. Where any importer makes a declaration that the transaction is between 'related persons', the SVB examines whether the circumstances surrounding the sale of the imported goods indicate that the relationship between the parties has influenced the price. Accordingly, such transactions will be subject to SVB inquiries. Further, Circular No 5 /2016-Customs dated 9th February 2016 states that transactions where any payments are sought to be made which are instances of royalty or license fee under Rule 10(1)(c) of CVR, payments made/contemplated as a condition of sale by buyer to seller under Rule 10(1)(e) of CVR, shall be examined for SVB investigations.
Conclusion
While the GST Circular issued by the CBIC facilitates the taxpayers under GST to adopt any value or a NIL value for it to be deemed as OMV, it is becoming important that organisations are mindful of the compliance requirements under other tax legislations such as IT Act and CA which have a direct impact on import transactions. The benefit of the Circular under GST is also subject to the commercial agreement between the related parties. Not always the foreign affiliate of the Indian entity would be agreeable to bear the cost of services rendered to the Indian entity, and thus there may be an element of consideration/fee charged to the Indian entity. Nevertheless, a safe approach would be to undertake separate valuations for import of services transactions, as applicable, under relevant legislations. Since the Circular has been issued recently, it remains to be seen as to how the revenue authorities deal with the valuation issue under above discussed legislations, in cases where entities adopt a NIL valuation or a value lower than OMV, though deemed to be OMV, under GST.
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.